Time to put theory on failed banks into practice
SA IS one of the few Group of 20 (G-20) countries whose banks survived the 2008 financial crisis unscathed. So while it has been participating in the talks and proposals that have been going on globally about new approaches to rescuing troubled banks, it’s all been a bit theoretical — until now.
The African Bank rescue package has changed that. And that’s one of the many reasons this is, in a sense, a watershed moment for SA’s financial system. Since the crisis, G-20 governments and central bankers have been working to craft plans to protect taxpayers from taking the hit when banks go bad. One of the innovations is the concept of a “bail-in” to replace the traditional bank “bail-out”, so that instead of governments stepping in to prop up a troubled bank using taxpayers’ money, they impose that cost on the bank’s large funders. As the Financial Times put it recently: “Bondholder-funded bail-ins are supposed to be superseding taxpayer-funded bail-outs.”
The Reserve Bank’s decision to put African Bank into curatorship and split it into “good” and “bad” banks has touched on exactly some of those issues of who should bear the burden of rescuing a troubled bank that has the potential to threaten the stability of the whole system. Should taxpayers pay the cost and shareholders take the losses? Or should the holders of the bank’s debt cough up too? And to what extent do even healthy banks have an interest in helping to support those that are sick?
The African Bank rescue was certainly in part an effort to implement some of the newer-generation ideas. Reserve Bank deputy governor Daniel Mminele referred this week to the principles in the G-20/Financial Stability Board “Key Attributes for Effective Resolution Regimes”. SA plans to include those principles in its own new Twin Peaks approach to regulating the financial sector. It isn’t there yet. But the African Bank support measures saw it piloting the new approach.
In particular, the Bank has imposed a 10% “haircut” on those who hold African Bank’s bonds and its money market instruments, as well as its wholesale depositors. Only 90% of what they hold will be transferred over to the “good bank” that the curator will create to house African Bank’s better loan book, so they lose the rest and may take a hit on their interest payments too.
This compulsory “bail-in” has prompted much comment from the rating agencies, particularly Moody’s, which cited it as part of the reason for its downgrade of Capitec earlier in the week. Apparently Moody’s had expected the government to provide 100% support in the event of a bank failure, and now finds this is not the case — which is why it followed up by downgrading all SA’s banks late yesterday.
But bondholders will be sharing only some of the pain of the rescue. So a big question is, how much of the cost could taxpayers still be exposed to? And does African Bank’s rescue pose any fiscal risk? Though the Reserve Bank is the agent of the rescue, it can do so only with a guarantee from the government, so any losses it makes on African Bank are ultimately for taxpayers’ account.
This should in theory include the full R7bn the Reserve Bank is paying to buy the African Bank loans that are going into the “bad bank”. In practice, this should not be that much of a risk for taxpayers — the R7bn is buying R17bn of assets on a net basis, after providing for bad debts. On a gross basis, the book the Reserve Bank is buying is worth more than R30bn, and however dodgy it might be, someone might well buy it from the curator for substantially more than R7bn, and there’s a fair chance the Reserve Bank will make a profit on it.
The “good bank” is more complicated and it is unclear what taxpayers might be in for in what the Reserve Bank calls a public-private partnership. Bondholders will take their haircut. And the Reserve Bank has roped in SA’s big five banks, along with the Public Investment Corporation (PIC) and Capitec, to underwrite a R10bn rights issue to recapitalise the “good bank”.
Talk is that the banks aren’t doing this for nothing, and that the PIC has undertaken to take up to half the issue if no one else does, with the Reserve Bank providing a guarantee for the rest. It may well also have agreed to provide liquidity support for the “good bank”, if needed. All this public-private partnering should help make the good bank viable and reduce risk to the fiscus. Crucially, though, it will be in everyone’s interests to make sure the curatorship works out as well as can be, and that taxpayers’ money is not put at risk.