ECB Switches View on Bank Bonds

The European Central Bank would no longer oppose the forcing of losses on senior bondholders of euro-area banks, said two officials with knowledge of the ECB's thinking.

A key condition to imposing losses is if the bank in question is being wound down, one of the officials said. The ECB supported imposing losses on senior bondholders of ailing Spanish banks at a meeting of euro-area finance ministers in Brussels on July 9, though the proposal didn't get much traction, the other official said. Both of them spoke on condition of anonymity as the talks are confidential.

The Wall Street Journal today reported the ECB's change of position, after the Frankfurt-based ECB consistently opposed handing losses to senior creditors of Irish banks following the collapse of the country's financial sector. An ECB spokesman declined to comment on the WSJ report.

The ECB's position has evolved since it opposed forcing losses on the senior creditors of Irish banks including Anglo Irish Bank Corp. and Irish Nationwide Building Society after the government started to inject capital into the banks in 2009. Then, the ECB argued that reneging on the senior Irish bank debt would damage financial stability in the wider euro area.

The ECB also opposed efforts to restructure Greek sovereign debt and refused to take losses on Greek government bonds held on its balance sheet earlier this year. European officials are now debating how best to rescue Spain's banks after its leaders requested 100 billion euros ($122 billion) of international aid last month, becoming the fourth euro nation to seek help after Greece, Ireland and Portugal.

The cost of insuring against default on senior bank bonds rose after the Wall Street Journal report. The Markit iTraxx Senior Financial Index of credit default swaps on 25 banks and insurers increased eight basis points to 281.4, the highest in a week, according to data compiled by Bloomberg. Spanish government bonds fell, pushing the 10-year yield as high as 6.71 percent.

The European Commission today ruled out that senior “bail- ins” would be part of the Spanish bank rescue. Commission spokesman Simon O'Connor told reporters in Brussels that the draft deal between the European Union and Spain “doesn't foresee participation of senior creditors.” Shareholders and junior creditors would be involved, he said.

ECB 'Turnaround'

“Politicians may find themselves under increasing pressure to change this stance,” Michael Symonds, a credit analyst at Daiwa Capital Markets Europe in London, said in a note to clients. “The ECB's standpoint is notable as it reflects a turnaround from their staunch opposition to senior unsecured haircuts during the bailout of the Irish banks.”

ECB President Mario Draghi may now be importing experience from his stint as head of the Financial Stability Board, which backed forcing senior bondholders to take losses when banks fail last year. The EU unveiled plans on June 6 that would empower regulators to impose losses on senior unsecured creditors of failing lenders by 2018.

A shift in position by the ECB raises the question of possible changes to Ireland's EU-International Monetary Fund bailout deal, as requests by Irish Finance Minister Michael Noonan to the ECB to be allowed to write down senior bank debt were repeatedly rebuffed by former president Jean-Claude Trichet, who left office in October.

Noonan said on June 19 that the ECB's stance had “hardened” since last year. “We'll see how things play out in the future,” he said.

Noonan will meet Draghi in Frankfurt tomorrow to discuss “the ongoing sustainability of the Irish financial system,” Paul Bolger, a finance ministry spokesman, said by phone today.

Bloomberg News

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