While everyone’s attention has been focused on Slovakia, another development of potentially greater significance has taken place. The Financial Times, in an article posted after the European markets closed, reports that, according to “senior regulators,” the European Banking Authority’s board of supervisors has approved in principle the idea that banks should be made to raise their core tier one capital ratios – the key measure of financial strength – to 9 per cent, well beyond the current expections of banks and analysts, even after absorbing writedowns on the value of their sovereign debt holdings.
Officials cautioned, however, that the 9 per cent threshold – which could see dozens of banks forced to raise a combined €275bn [$375 bn], according to Morgan Stanley estimates – is still being debated in national capitals and in Brussels. Some senior officials at the European Commission, which is due to unveil its own plan for bank recapitalisations , support the higher levels and could announce their backing as early as on Wednesday. However, some members of the EBA board, notably the German contingent, are understood to have dissented, and no firm decision has yet been taken. Analysts had previously expected banks to be told to raise capital levels to 6 or 7 per cent. A final decision may not be taken until EU finance ministers meet ahead of a key October 23 European leaders’ summit. The EBA, which has given banks a deadline of Thursday to submit up-to-date sovereign exposure data, is expected to complete its assessment of the capital shortfall by next week.
It will be interesting to see how European bank stocks fare tomorrow, as the raising of the required tier one capital ratio by two to three percentage points would seemingly result in more share dilution than has thus far been discounted.
The New York Times confirms the 9 percent Tier 1 number and fills in some details:
Alain Juppé, the French foreign minister, told the National Assembly that leading French banks like BNP Paribas, Crédit Agricole and Société Générale, which are deeply exposed to the sovereign debt of Greece and other South European countries, will move to increase their capital reserves, initially by using their own revenue or through the financial markets. Money from the government would be drawn upon only as “a last resort,” he said, according to Reuters. But Mr. Juppé said that the move, which was agreed upon with Germany during talks on Sunday, means the banks’ best buffers against losses — so-called core Tier 1 capital — would increase to 9 percent or higher by 2013 from 7 percent. It remained unclear whether any of that money might be drawn from the proposed euro zone bailout fund rather than directly from French government funds.
The issue is particularly sensitive in France because of fears that the country could lose its triple-A credit rating if it had to inject billions of euros into its banks. That would be a huge political setback for President Nicolas Sarkozy of France, who faces election next year.
Meanwhile, Jean-Claude Trichet, the out-going president of the European Central Bank (ECB), told the European Parliament that the most important task was to restore the credibility of sovereign debt.
It is absolutely fundamental. If we don’t have the credibility of the sovereigns, we don’t have a backstop if we have new possible crises – new dramas of the kind that we experienced in 2008. It is something that we are observing in real time, under our eyes.
The most interesting commentary of the day is from the FT’s Martin Wolf, who maintains that the broad consensus of the world’s policymakers and commentators is that the eurozone must now do the following:
- divide countries in difficulties into the insolvent and the illiquid;
- restructure the debts of the former and provide unlimited, but temporary, support for the latter;
- and recapitalise banks, after stress tests that allow for losses on sovereign debt, either from national treasuries or from the European financial stability facility, in accordance with the flexibility given by the decisions taken in July 2011.
What most concerns Mr. Wolf is that credit default swaps on the eurozone’s most creditworthy large sovereigns, France and Germany, have begun to rise (see chart). He’s astonished that Germany’s spread is a fraction higher than the UK’s, and says that this must reflect concern that bailing out weaker eurozone members might become an excessive burden.