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Sunday, 6 November 2011

Help, we are a system bank. What can we do about it?!

Finally, there is an official list of system banks: banks that are so big and important, that a default of one of these banks could turn into a systemic failure of the whole banking system. 

The list was put together by the international supervisors of the Financial Stability Board (FSB) and consist of 29 banks worldwide, the so-called G-SIFI’s: Global Systemically Important Financial Institutions. The whole list is printed in the footer of this article.

To mention a few: Deutsche Bank, JP Morgan, BNP Paribas and surprisingly enough the Belgian Dexia-bank. Surprisingly, as this bank could easily have imploded if the Belgian and French governments would not have stepped in a few weeks ago. The only Dutch bank mentioned on this list was ING Bank.

What are the new demands to these SIFI's? It is described in various press releases of the Financial Stability Board and it is summarized by Het Financieele Dagblad ( I will use this summary for reasons of convenience:

-      Before 2014, the banks must create a testament; when such a bank would default, the financial authorities must be able to independently and without any delay operate the parts that are of systemic importance for the country, like Payment Traffic. The testament must describe how these parts are organized and thus how these can be separated from the other, less important parts.

-      There is an extra capital demand for these banks, varying from 1% to 2,5% of core tier 1 capital on top of the capital demands (7%) from the Basel III-rulings. The more important the bank is, the higher is the demand for an extra capital buffer.
o    To achieve this, the 29 banks will be divided in four categories; in which category the banks are going to be divided, will be announced by the FSB next year.

-      The banks will be put under more stringent and effective supervision than all other banks.      

-      An additional measure of the FSB is the creation of an extra category 5 (‘the super heavy weights’). These banks will have an additional capital demand of 3.5% on top of the Basel III demands.
o    Yet there is no bank in this category, but if banks keep on growing as a consequence of future mergers and take-overs, they might be placed in this category

While the uninformed reader could assume that banks saw this election to the ‘Champions League’ of international banking as a compliment, most banks on the list are not exactly happy about it. 

As Spider-man’s uncle Ben Parker said: ‘With great power comes great responsibility’. It is exactly the latter that scares off the big banks that, as a consequence, try to look smaller and less important than they actually are.

Jan Hommen, the CEO of Dutch SIFI ING Bank NV was one of the first to bear the brunt of this battle. He stated on a number of occasions: ‘ING will be in the lowest categories for SIFI’s’. Although this in itself is a value-free remark, the feelings behind it will be felt in many more executive suites.

The reason for these feelings is very obvious: the more important the bank is, the more of the expensive Core Tier 1 capital it must hold as a buffer.

This capital is very hard to get, as there are only three ways that all harm the shareholders :
  • by issuing equity (which dilutes shareholder value);
  • by storing a large part of future profits into reserves, which diminishes dividends;
  • by ‘shrinking’ the balance sheet without shrinking the equity amount (this also diminishes shareholder value). 
All these measures might scare away the activist, risk-loving shareholders, as the profitability of the bank will inevitably suffer from it: less leverage means normally less yields on invested equity. Besides that the SIFI´s suffer from more stringent supervision, which diminishes their leeway on the global financial markets

This could lead in the near future to a shareholder run from the SIFI´s to the BESIFIL Banks (BElow SIFI Level): banks that are just a fraction smaller and don´t suffer that much from the looking glass of official supervision..

What can the SIFI´s do about it? Very little, I´m afraid. It is almost impossible to shrink your balance sheet without shrinking your equity capital, unless you sell complete parts of your bank to a competition that will not be very eager to pull their wallet very fast.

An American proverb is: if you can´t stand the heat, get out of the kitchen. Well, these banks are too late to get out of the kitchen by now.

And these are the SIFI's (aka G(lobal)-SIFI's) as appointed by the FSB:

Bank of America
Bank of China
Bank of New York Mellon
Banque Populaire CdE
BNP Paribas
Credit Suisse
Deutsche Bank
Goldman Sachs
Group Crédit Agricole
ING Bank
JP Morgan Chase
Lloyds Banking Group
Mitsubishi UFJ FG
Mizuho FG
Morgan Stanley
Royal Bank of Scotland
Société Générale
State Street
Sumitomo Mitsui FG
Unicredit Group
Wells Fargo

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