01 Oct 2018

Too Complex to Work or Cornerstone of a Stable Financial Architecture?

SAFE/BaFin Conference: At the House of Finance, perspectives from regulators, industry and academia on resolution planning came together

Jan Pieter Krahnen, Director of the Research Center SAFE, opened the conference highlighting the importance of resolution planning not only for the management of a crisis but also as preparation beforehand. The event on 26 September 2018 at the House of Finance was jointly organized by the German Federal Financial Supervisory Authority (BaFin) and SAFE.

Speakers representing regulators, academia and practitioners diverged on the complexity of resolution planning and resolution. The discussion exposed different views in terms of design, implementation and on the likelihood of success of resolution planning.

Manfred Heemann and Svetlana Dimova from BaFin emphasized that resolution planning is working and that both banks and authorities move in the same direction, though in a different pace. Heemann explained “resolution is not for free” and stressed the importance of tools like MREL (Minimum requirements for own funds and eligible liabilities) and TLAC (Total Loss Absorbing Capacity) that make bail-in and bridge institutions possible. In his view, resolution planning is essential to diminish uncertainties in times of stress. Management information systems beyond prudential reporting are crucial: “We need to keep the pressure up high” said Heemann. 

His colleague Svetlana Dimova (see picture) delineated further the differences between resolution planning and a resolution plan. The plan is the “peak of the iceberg because `one fits all´ does not apply”, she said while describing the complexity of resolution planning. For a stable financial system, said Dimova, regulators have to face a trilemma of a good, quick and cheap resolution. Resolution planning can be two but not the three things at the same time, and good and quick should come first. For resolution planning to work, a strong reliable cross-border cooperation is crucial. Although resolution planning made banks even more complex, she said, the planning worked as a cleansing mechanism in the industry.

“Resolution is not the cure for everything”

On the academic side, Martin Götz, SAFE and Goethe University, recognized banks’ special value for market systems but stressed that the possibility of market failure is still important to guarantee market discipline. “Resolution is not the cure for everything”, Götz said to point out that market discipline can be restored if the incentives are right. Finally, if a resolution plan is credible and transparent, then investors are able to absorb potential losses.

Tobias Tröger, SAFE and Goethe University, underscored that resolution planning is too complex to work. He explained that preparations are essential due to a small timeframe to stabilize the financial system: in a critical situation, a bank would close on Friday and problems need to be solved until Monday morning. In that time, the bail-in possibilities need to be checked and customer obligations should be met. He explained how ex post adjustments affect the risk rate and cause inadequate pricing. Those adjustments are unpredictable and in the end, the bail-in may even increase the incentive to run.

From the industry perspective, Karen Kuder from Deutsche Bank asserted the banks did a lot to be more stable. However, she also stated that preparation is only possible to a finite amount. She pointed out that the infrastructure in case of a resolution needs to be reliable. Therefore, she suggested more transparency from authorities so that banks can better prepare themselves and stressed the importance of cross border cooperation in resolution. Sven Schelo (see picture), lawyer at Linklaters, pointed out another issue: banks without bail-in capital instruments may not find a buyer and a resolution would not be possible in that case.

In the panel discussion, the different sides agreed that resolution planning helps to be prepared for a resolution case. At the same time, it is hard to assess how well banks and authorities are prepared for a case of emergency. There is no way to draw plans for each possible contingency and planning is not resolution itself. Echoing the point of view of Tröger, Schelo defended simplicity: “The simpler, the better is the solution. Especially under stress.” Christian Nowak and Svetlana Dimova from BaFin, however, stated that a plan might not work as suggested, but it is still important to have the right instruments and procedures at hand. Finally, Heemann emphasized that resolution planning is not about predicting crisis, but understanding institutions and identifying what tools can be applied in each case.