UK options to restructure Royal Bank of Scotland are set to be constrained by EU rules that would effectively stymie any attempt to hive off toxic assets in a “bad bank”, unless private shareholders are wiped out.
Stricter European Commission controls on bank bailouts, which are to apply from August 1, require shareholders and junior bondholders to suffer losses as a mandatory condition of EU approval for public support to a lender.
These tougher “burden sharing” rules complicate the implementation of any state-funded options to restructure RBS that are proposed by Andrew Tyrie’s cross-party parliamentary banking commission, which aims to report this week.
The idea of splitting RBS into a “good bank” ready for privatisation and a state-backed “bad bank” running off the lender’s toxic loan book is included as an option in a draft report of Mr Tyrie’s commission. Such a break-up is backed by Lord Lawson, a commission member and former Conservative chancellor, and Sir Mervyn King, the departing Bank of England governor.
However the good/bad bank split would almost certainly require extra public support for RBS – either through additional capital, government guarantees or asset purchases – which would trigger a state aid probe in Brussels and require EU approval.
George Osborne, the chancellor, is cautious about breaking up RBS and argued in February that a split would cost the taxpayer up to £10bn because the bank would need to be nationalised and its private shareholders bought out.
The European Commission move to tighten the rules would ban any attempts to buy out RBS shareholders or leave junior bondholders untouched – a constraint that raises the political stakes for the Treasury. RBS’s subordinated debt amounts to about £27bn and private shareholders own 18 per cent of the company.
Imposing losses on creditors, which several people familiar with the EU approval process said would be almost inevitable, would prompt lawsuits and potentially undermine investor confidence in Lloyds Banking Group, Britain’s other part-nationalised bank.
A summary of the imminent reforms, circulated to EU member states, makes clear that state funds will be granted “as a last resort” once “all private means of raising capital have been exhausted and that shareholders and junior creditors have fully contributed”. As a rule, Brussels prior approval will be required.
“All instruments with the capacity to absorb losses would have to bear losses and contribute fully to filling the capital shortfall,” said the paper, in a passage referring to equity and subordinated debt. Senior bondholders and depositors are exempt.
Under EU treaties Brussels has a wide remit to police governments offering state support to private companies and can impose rules under its executive powers. The latest guidelines for banks are part of commission efforts to tighten the regime, which was relaxed to cope with the 2008 financial crisis.
Creditor “haircuts” are increasingly forced on countries receiving EU rescue funds, raising fears among bloc officials that bank bondholders in economically strong member states will be treated more leniently during a crisis without stricter common standards. The UK broadly supports the revised rules.