Ireland may be the last developed country to sanction a bank bailout that allows senior bondholders to escape losses at the expense of taxpayers, according to Fitch Ratings analysts.
Change “appears to be moving forward” as can be seen in the U.S., where the Dodd-Frank Act forbids taxpayer-funded bailouts, and in Europe, which is reviewing its resolution regime, London-based Gerry Rawcliffe and David Weinfurter wrote in the report entitled Resolution Regimes and the Future of Bank Support.
Financial institutions present special problems in a crisis because forced sales of assets at distressed prices typically destroy value and may harm the financial system, Fitch said. Governments such as Ireland, which have attempted to prevent collapses by putting public money into failing banks, have also kept creditors whole by ensuring there are no defaults.
The Irish bailout “has been favorable to senior bank creditors but Fitch is cautious about regarding this as a precedent,” the analysts wrote. “It could be argued that it belongs very much to the continuing creditor-friendly resolution of the current crisis, rather than perhaps the more taxpayer-friendly resolutions of the future.”
An international approach to bank resolutions is needed to prevent distortions to competition stemming from the perception of a taxpayer safety net, according to the report.
“Fitch expects a high degree of peer pressure, especially among those countries that host large, internationally active banks,” according to the report. “With the Dodd-Frank Act, the U.S. has set a high benchmark and Fitch expects that other jurisdictions will be under pressure to follow suit.”
Fitch assigns the banks it rates so-called support ratings, which gauge the probability of a failing bank being propped up by the state. In the 30 years since the grades were introduced, no bank with the top support rating has ever defaulted on its senior obligations, Fitch said.
Reduced external support means ratings that depend more on a lender’s intrinsic merits may put some individual and bond ratings under pressure, according to the report. The extent to which that occurs will depend on regulators’ success in strengthening their banks, Fitch said.
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