UK Bail-In Delay is Part Cop-Out, Part Pragmatism

The Bank of England will allow British lenders to lean on taxpayers a while longer. The UK regulator on Nov. 8 gave banks two more years to meet new thresholds for holding bonds that absorb losses if they fail – debt instruments designed to bring an end to state bailouts. It’s part generosity and part pragmatism.

At first blush, it looks like the BoE has just gone soft on the UK’s globally systemic banks – Barclays, HSBC, Royal Bank of Scotland and Standard Chartered. As well as extending the deadline to 2022, the BoE has indicated that the so-called minimum requirement for own funds and eligible liabilities (MREL) for the biggest UK banks might only have to reach 6.75 percent of assets – rather than the 8 percent level floated by the European Central Bank. It has also been kind to investors in additional Tier 1 hybrids – often called cocos – in stating they should receive coupons even if a bank starts to fall short of MREL requirements.

Still, given that many European regulators are warning that new Basel IV capital reforms must not whack up lenders’ capital ratios, leniency is in vogue. Moreover, the BoE’s stated reason for the delay, that it didn’t want a spike in funding costs in 2020 when every bank has to raise debt to hit the deadline, has some validity. It’s not an issue now – in the three months since the UK’s June vote to leave the European Union, the premium paid for issuing loss-absorbing debt over senior debt has actually fallen. But combine this risk with a potential hike in funding costs from Brexit and it looks more logical, as does the BoE’s pledge to review MREL at the end of 2020.

Two other factors warrant the kid gloves. Comparisons with European thresholds are misleading as their MREL definition includes unsubordinated debt, a person familiar with the UK’s regime says. UK banks will have to issue the stuff at holding company level and therefore face paying more. Meanwhile, one regulatory lawyer says several Asian countries restrict the amount of capital that can be repatriated by the local subsidiaries of international banks. With so much uncertainty around issuance and cost, discretion is defensible.

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