A Critical Evaluation of Bail-Ins as Bank Recapitalisation Mechanisms

49 Pages Posted: 12 Aug 2014  

Charles Goodhart

London School of Economics & Political Science (LSE) - Financial Markets Group

Emilios Avgouleas

University of Edinburgh - School of Law

Date Written: August 11, 2014

Abstract

Many of the world’s developed economies have introduced, or are planning to introduce, bank bail-in regimes. Both the planned EU resolution regime and the European Stability Mechanism Treaty involve the participation of bank creditors in bearing the costs of bank recapitalization via the bail-in process as one of the (main) mechanisms for restoring a failing bank to health. There is a long list of actual or hypothetical advantages attached to bail-in centred bank recapitalizations. Most importantly the bail-in tool involves replacing the implicit public guarantee, on which fractional reserve banking has operated, with a system of private penalties. The bail-in tool may, indeed, be much superior in the case of idiosyncratic failure. Nonetheless, there is need for a closer examination of the bail-in process, if it is to become a successful substitute to the unpopular bailout approach. This paper discusses some of its key potential shortcomings. It explains why bail-in regimes will fail to eradicate the need for an injection of public funds where there is a threat of systemic collapse, because a number of banks have simultaneously entered into difficulties, or in the event of the failure of a large complex cross-border bank, except in those cases where failure was clearly idiosyncratic.

Keywords: Bail-ins, bailouts, bank recovery and resolution, cost of bank failures

JEL Classification: G18, G28, K20, L51

Suggested Citation

Goodhart, Charles A.E. and Avgouleas, Emilios, A Critical Evaluation of Bail-Ins as Bank Recapitalisation Mechanisms (August 11, 2014). Available at SSRN: https://ssrn.com/abstract=2478647 or http://dx.doi.org/10.2139/ssrn.2478647

Charles A.E. Goodhart

London School of Economics & Political Science (LSE) - Financial Markets Group ( email )

Houghton Street
London WC2A 2AE
United Kingdom
0207 955 7555 (Phone)
0207 242 1006 (Fax)

Emilios Avgouleas (Contact Author)

University of Edinburgh - School of Law ( email )

Old College
South Bridge
Edinburgh, EH8 9YL
United Kingdom

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