Making Failure Feasible by Thomas Jackson

Author:Thomas Jackson
Language: eng
Format: epub
Tags: free market, essays, columns, controversial issues, race, education, environment, Constitution, United States, personal liberty, limited government, tyranny, foreign policy, health care, Walter Williams, liberty
Publisher: Hoover Institution Press
Published: 2015-09-01T16:34:21+00:00

But bail-in at the parent does not affect the balance sheet of the subsidiary bank (see table 6.1). The recapitalization of the parent has no impact whatsoever on the level of CET1 capital in the bank subsidiary. To recapitalize the bank subsidiary, it is necessary either to inject new equity into the bank subsidiary or to bail-in (via write-down or conversion) the bank subsidiary’s reserve capital.

To inject new equity into the bank subsidiary, the parent holding company would have to have recourse to other resources, such as cash or marketable securities. Note that the bail-in at the parent level cannot be the source of that cash, as the write-down or conversion of the parent’s T2 capital and senior debt affects only the liability side of the parent-only balance sheet. It creates neither new cash nor new investments in marketable securities.

Consequently, if the parent holding company’s cash and marketable securities are to be the source of funds for the recapitalization of the subsidiary bank, the parent will have had to take steps to assure that:

• The cash would in fact be available, when the bank subsidiary reached the PONV/entered resolution.

• The cash would indeed be used to recapitalize the failed bank subsidiary.

To assure that the cash and marketable securities would in fact be available at the PONV, the parent could place them into a segregated account pending the entry of the subsidiary bank into resolution. To assure that such cash would actually be used to recapitalize the subsidiary bank, a mechanism would have to be put in place to force the parent to make such an investment. This could, for example, take the form of an option that gives the bank subsidiary the right to sell (put) new CET1 capital to the parent holding and requires the parent holding to use the cash and marketable securities in the segregated account to buy the CET1 capital put to it by the subsidiary bank.

Conceptually, the parent could also raise new capital from third-party investors. However, such capital-raising will generally take time (unless the parent holding company has prearranged a contingent underwriting commitment from third-party investors) and will in any event depend on the condition of, and the prospects for, the bank subsidiary. Indeed, in the case outlined here, payments from the bank subsidiary (interest on debt, dividends, and distributions, plus any payments for services) are the primary and perhaps the only source of cash flow to the parent company.

Similarly, for bail-in to recapitalize the failed bank subsidiary, there must be enough reserve capital available (see discussion under “unit bank” above) and regulation must permit the resolution authority to execute this in a timely manner. This is most likely to be the case where the statutory provisions for bail-in are reinforced via the contract(s) governing the investment of the parent holding company in the reserve capital (AT1, T2, and intermediate debt) of the bank subsidiary.

In terms of our example, bail-in at the subsidiary bank (see column BB in table 6.2) converts 50 of T2 capital into CET1 capital at the subsidiary bank and 50 of intermediate debt into T2 capital.

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