Banks and debt-for-equity swaps - good summary

From City AM:

The idea of a bail-in [another name for 'debt-for-equity swap] is that if a bank hits the rocks, rather than phoning up the taxpayer for more equity capital, the bank automatically converts a chunk of its liabilities into new equity. This recapitalises it and allows it either to bounce back – or creates time for it to be wound-down in an orderly manner.

If such a system were in place, Barclays, RBS, Lloyds, HSBC and a host of global firm such as Credit Suisse, Deutsche Bank, JP Morgan and BNP Paribas could all easily withstand losing £40bn (the biggest one-year loss inflicted on a single institution during the crisis) without any taxpayer assistance.

In fact, all of these could bear much larger losses. The entire economic and financial history of the past few years would be dramatically different had countries stopped protecting creditors and made bail-ins the norm, or acted fast and enforced one as things went bad in 2008. Taxpayers would have stood protected and real market discipline reestablished.

As part of its submission to the ICB, Barclays calculated that it had a loss absorption capacity for the purpose of a bail-in worth 47.6 per cent of risk-weighted assets in 2010 – senior unsecured debt, but also Tier 2 and Tier 1 capital on top of the Core Tier 1. Under a £40bn hit and an equivalent bail-in, its loss absorption capacity would fall – but to a still extremely comfortable 37.4 per cent.

Of course, other reforms are needed too – not least new resolution procedures for large banks for whom bail-ins aren’t enough, as traditional bankruptcy procedures don’t work for systemic banks.

What all those numbers mean boils down to this: however bad bank losses are, they will never be so bad that depositors have to lose out (or certainly not as far as UK banks are concerned) and banks will certainly never just go pop. All that happens is that bonds are cancelled and bond holders are given shares to a similar value to the bonds which were cancelled. Big deal. And no taxpayer assistance required - as I've been saying all along!

On Radio 4 this morning, they talked about the ring-fencing, and said that the total value of assets inside the ring-fence (i.e. the bits you can understand, like mortgages and loans to business) would be about £2,000 billion, which is something else I have continually pointed out - the claim that banks' balance sheets add up to £7,000 billion or something (five times UK's GDP) is complete and utter hokum as the other £5,000 billion is made up numbers which all net off to very little indeed. (i.e. Bank A lends £100 million to Bank B who lends it to Bank C who lends it back to Bank A; on a strict balance sheet basis, the total gross assets and liabilities of these three banks has increased by £300 million, in real life, nothing has happened).