About | HeinOnline Law Journal Library | HeinOnline Law Journal Library | HeinOnline

LOG IN
LOG IN


25 J. Banking Reg. 1 (2024)

handle is hein.journals/jlbkrg25 and id is 1 raw text is: Journal of Banking Regulation (2024) 25:1-19 https://doi.org/l0.1057/s41261-022-00210-7 ORIGINAL ARTICLE The bail-in credibility: barking dogs seldom bite Giulio Velliscig1• Maurizio Polato' • Josanco Floreanil • Enrica Bolognesil Accepted: 14 November 2022 / Published online: 3 December 2022 ©The Author(s), under exclusive licence to Springer Nature Limited 2022 Abstract This paper studies the senior unsecured bondholders' bail-in expectations and market monitoring following bail-in legislative events aimed at introducing new tools for subordination. We measure bail-in expectations using a difference in differences approach that compares the reaction to bail-in events of senior unsecured bonds to the reaction of non-bailinable bonds. Similarly, we measure senior unsecured bondholders' monitoring activity by using a triple differencing analysis that compares the yield-risk sensitivity reaction of senior unsecured bonds with respect to that of non-bailinable bonds. Our results indicate unaffected bail-in expectations by senior unsecured bondholders who, accordingly, do not enhance their pricing of banks' risk. Keywords Bail-in - Credibility - Unsecured senior bonds - Market monitoring - Bondholder's expectations Introduction The European bank resolution framework embeds the bail- in tool within a highly complex and technical regulatory framework that jeopardizes its effectiveness [30]. The main shortcomings are related to the different exemptions, coun- ter-exemptions and restrictions which require many discre- tionary choices that involve several authorities and are also open to political pressure [16, 29]. The resulting uncertainty concerns the investment com- munity [17, 27] which solicits, in particular, for a regulatory overhaul allowing a clearer quantification of their poten- tial loss exposure in case of bail-in. Banks, on the other hand, require new tools to efficiently abide by the minimum requirement of own funds and eligible liabilities (MREL) as well as the recent mandatory subordination of part of its instruments which are both crucial to ensure the sufficient loss-bearing capacity needed by the bail-in to be effective. E Giulio Velliscig giulio.velliscig@uniud.it Maurizio Polato maurizio.polato@uniud.it Josanco Floreani josanco.fioreani@uniud.it Enrica Bolognesi enrica.bolognesi@uniud.it University of Udine, Via Tomadini 30A, 33100 Udine, Italy At the EU level, these requests are addressed by the direc- tive 2017/2399/EU which amend the directive 2014/59/EU, also known as Bank Resolution and Recovery Directive (BRRD), as regards the ranking of unsecured debt instru- ments in insolvency hierarchy. In particular, the directive harmonizes the insolvency ranking of unsecured debt instru- ments by requiring the Member States to create a new asset class of non-preferred senior debt which ranks in insolvency above subordinated liabilities that do not qualify as Tier 2 capital but below other senior liabilities. As designed, the asset class of unsecured senior debt is divided into two categories: non-preferred and preferred. The former is eligible to abide by the MREL subordina- tion requirement and also helps the bank to efficiently pile up the MREL buffer as it represents a cheaper source of funding with respect to other subordinated debt. The latter, conversely, is not eligible to meet the MREL subordination requirement but it is bailinable and can count towards the MREL under specific conditions as well. In addition, such distinction between instruments that are likely to be bailed-in and relatively safer senior bonds allows for (i) a better quantification of the amount of bailinable debt available in case of bail-in, especially for cross-border groups [10] (ii) a reduction of litigations related to the viola- tion of the no-creditor-worse-off (NCWO) principle [3], and (iii) a better prediction of outcome by investors [30]. As a result, the directive meets both investors' expec- tations over a clearer quantification of their potential loss exposure in case of bail-in and the bank's urge to abide *