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Varoufakis on ESM bank recapitalization

2015/06/27

At today’s press conference (see my full transcript below the fold) between the Eurogroup and his one-on-one meeting with Mario Draghi, Yanis Varoufakis made a very significant observation on bank recapitalization:

The second reason concerned the financing. The proposal for financing the 5-month extension period of the current agreement – the funding proposal that was on the table – by the Institutions was technically inadequate: the numbers simply didn’t add up. And when we asked questions about, in particular, the utilisation of parts of the HFSF 10.9 billion – which was there in order to recapitalise banks and strengthen them in view of the problem with the NPLs – we received an answer that involved the ESM and that, as we know, effectively baked into this short-term arrangement a new program. Both technically and legally that did not make much sense and I’m sure that other member states would have a problem with it, Germany in particular.

What Yanis Varoufakis is referring to is the following. In the framework of the European Bank Recovery and Resolution Directive, the European Stability Mechanism has established a direct bank recapitalisation instrument. From the FAQ [PDF]:

Until the creation of the direct recapitalisation instrument, the ESM could only recapitalise financial institutions indirectly. In this case, the ESM provides a loan to the government of a euro area Member State. With these funds the government then recapitalises the financial institutions, which is how the ESM provided assistance to Spain. However, such assistance adds to the beneficiary country’s public debt, which could have a negative impact on market sentiment. …

Until the creation of the direct recapitalisation instrument, the ESM could only recapitalise financial institutions indirectly. In this case, the ESM provides a loan to the government of a euro area Member State. With these funds the government then recapitalises the financial institutions, which is how the ESM provided assistance to Spain. However, such assistance adds to the beneficiary country’s public debt, which could have a negative impact on market sentiment.

So far, so good. But crucially (my emphasis)

There will be conditions applying to the recapitalised institution, established under EU state aid rules. In addition, the ESM, in liaison with the Commission and the ECB, can add additional institution-specific conditions. These can include rules on the governance of the institution, remuneration of management and bonuses. Other policy conditions may be related to the general economic policies of the ESM Member concerned. They will be included in the Memorandum of Understanding (MoU) attached to the financial assistance.

This is something that the Greek government will apparently not stand for.

But this has more immediate implications. It’s looking likely that the ECB Governing Council may withdraw emergency liquidity assistance (ELA) from the Greek banks no later than Wednesday (the current “second programme” expires at the end of Tuesday), if not earlier (though I think it could also freeze ELA now and withdraw it on Wednesday). At that point, the Single Supervisory Mechanism could declare the four major Greek banks insolvent and set into motion the procedures foreseen by the Bank Recovery and Resolution Directive. Given the insolvency of the Greek state, “recovery” would involve ESM recapitalisation as outlined in the FAQ above. But, as Varoufakis hints, the creditors would attempt to impose policy conditionality on the Greek state, at which point the Greek government would refuse recapitalisation. This would leave resolution (i.e., liquidation) as the only solution for the Greek banks. And it is quite likely that resolution would involve a bail-in of Greek depositors as Greek banks have very little by way of long-term funding other than time deposits. If the ECB withdraws emergency liquidity from the Greek banks on Wednesday, a decision to wind down the Greek banks could be taken as early as Friday, two days before the referendum.

Note that this diagram by Sven Giegold MEP refers to an early version of the legislation and does not reflect later amendments.

And now, for reference, Varoufakis’ full statement (my transcript).

European Council TV Newsroom: Extraordinary Eurogroup meeting – 27 June 2015 – National briefing: Greece – Part 1 (video)

Today’s eurogroup meeting discussed the latest developments on Greece. We explained to my colleagues why we could not accept the Institutions’ proposal two days ago. Briefly, it had to do with three fundamental issues.

The first one was that the prior actions recommended were seriously recessionary and redistributive, yet again redistributing burdens from those who could and should bear them to those who neither could nor should.

The second reason concerned the financing. The proposal for financing the 5-month extension period of the current agreement – the funding proposal that was on the table – by the Institutions was technically inadequate: the numbers simply didn’t add up. And when we asked questions about, in particular, the utilisation of parts of the HFSF 10.9 billion – which was there in order to recapitalise banks and strengthen them in view of the problem with the NPLs – we received an answer that involved the ESM and that, as we know, effectively baked into this short-term arrangement a new program. Both technically and legally that did not make much sense and I’m sure that other member states would have a problem with it, Germany in particular.

Thirdly, and most importantly, what was proposed to us did not contain any plan for instilling hope in investors, both Greek and non-Greek, in consumers, depositors, that this 5-month period that was recommended, proposed to us, would be a period of consolidation and a period of overcoming the crisis. Instead, it was punctuated by one review after the other every few weeks leading to an end sometime in November-December without anything in sight that instilled confidence in anyone that we wouldn’t be in exactly the same negotiation again with the treat of impasse deterring, through backward induction, today investors from doing what Greece needs which is to invest.

We explained that we didn’t have a mandate to sign a non-viable unsustainable proposal. At the same time, fully cognizant of the difficulties and the historic moment that we find ourselves in, we determined as a government that we did not have the mandate to reject the institutions’ position either without consulting the people of Greece, who will have to be the final arbiters of whether that proposal is accepted or not. i reminded our colleagues that we were elected on the basis of a 36% vote. Collectively our government scored something just over 40%. For a momentous decision like that we believe that 50%+1 is the minimum that is necessary.

We explained to our partners also that this government is absolutely determined to find a solution, an accommodation with our partners, that the Greek people on 5th July will  be asked to agree or not to agree with the Institutions’ proposal. That leaves open the possibility of negotiations through the night and a day and a night and a day ahead of us that would improve the institutions’ proposal, in which case our government’s recommendation would change. Instead of recommending to the electors that they should vote against this agreement we would then change to a ‘yes’ vote recommendation.

The real reason, ladies and gentlemen, why we’re finding ourselves in this impasse is because our suggestion, from the moment we were elected, that we should try to find common ground between the existing memorandum of understanding and our government’s priorities, which was very eloquently put forward by Michel Sapin my French counterpart from the very first Eurogroup that I attended, that notion of establishing a common ground on which to build an agreement, that was confirmed not in the observance but in the breach. The 20th of February was a very good step in that direction. it didn’t mention the MOU, it mentioned effectively the common ground that would be based on the proposals of the Greek government. But ever since the 20th February the other side, the Institutions, unfortunately have been trying to drag us back into the MOU. We can have any agreement we want as long as it’s the MOU, to paraphrase Henry Ford. And indeed there was nothing as I said before in the package that was put to us that would remove the fear of Grexit, that deadline effect, therefore allowing the Greek economy to breathe.

Let me say that the refusal of the Eurogroup today to endorse our request for an extension of this agreement for a few days, a couple of weeks, so as to allow the Greek people to deliver their verdict on the Institutions’ proposal – especially given that there is a very high probability that Greeks will go against our recommendation and vote in favour of the Institutions’ proposal – that refusal will certainly damage the credibility of the Eurogroup as a democratic union of partner member states, and I’m very much afraid that that damage will be permanent.

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From → Austerity, Eurozone

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