Improving the monitoring of the value of implicit guarantees for bank debt

Abstract

The value of implicit guarantees has declined from its peak at the height of the financial crisis, which is consistent with progress made regarding the bank regulatory reform agenda, as one would expect that many of the reform measures imply a more limited value of implicit guarantees for bank debt. Implicit guarantees persist however and their value continues to be significant, estimated here to be equivalent to EUR 50 billion of annual funding costs savings for a sample of more than 100 large European banks. This estimated funding cost advantage is a conservative estimate as it only focuses on one type of debt that can be measured in "real-time", that is as data on credit ratings, debt issuance and prices of debt become available. In any case, bank debt continues to be considered "special" by market participants and this observation implies that the substantial economic distortions, including distortions to risk-taking incentives and competition, arising from this situation also persist.

Measurement and analysis of implicit guarantees for bank debt

“…Schich and Lindh (2012), in a cross-country comparison, use data on the differences between a banks' "all-in" issuer credit rating (that is, including the effects of implicit support) and its intrinsic financial strength credit rating (abstracting from such support) for a sample of large international banks. That approach was applied with broadly similar results most recently by Bijlsma and Mocking (2013) and Schich, Bijlsma and Mocking (2014). While the approach is being more and more widely used, it relies on some specific assumptions, which are very carefully spelled out in a recent application of that method in European Commission (EC, 2014).…”

“…Some respondents only provided estimates of rating uplifts. These were converted into basis points of funding advantages by using the estimated average sensitivity of interest rates to credit ratings during the year specified, as estimated in Schich, Bijlsma and Mocking (2014), which assumes that the estimated sensitivity of yields to ratings is similar for all sample countries. "Short periods" refer to estimation periods between one to three years and "long term averages" to periods covering up to twenty years.…”

Economic Resilience: What Role for Policies?

“…These rents can be sizeable. For example, Schich et al (2014) estimate that public backing reduced the funding costs of a sample of large European banks by 1.3 percentage points in 2013.…”

Household finance and income inequality in the euro area

“… Concentrate the private gains of credit overextension (Cournède and Denk, 2015) associated in particular with too-big-to-fail guarantees (Schich et al, 2014) on some groups of borrowers who benefit disproportionately from abundant credit at too low interest rates.…”