Ewa Przedpełska, Expert in the Commercial Banking Department, UKNF

The experiences from the financial crisis in 2008–2010 have shown that for the financial system it’s better to restructure (even through compulsory restructuring) big banks that have found themselves in a crisis than to allow them to fail. However, under market economy and to prevent moral hazard, this shouldn’t be done at the expense of tax payers’ money, managed by state governments, just as it happened as a result of the crisis. 

A BUFFER FOR A RAINY DAY 

This is why it’s been established at EU level that some banks should have additional reserves for a ‘rainy day’. Originally this was supposed to apply only to the biggest banks operating internationally, i.e. Global Systemically Important Banks. But already around 2014, during the work on a new directive on the prevention of banking crisis, called BRRD¹, it was decided that such a ‘safety buffer’ would be maintained by larger banks in each EU Member State. A requirement was therefore imposed on selected banks to hold an appropriate level of not only own funds but also eligible liabilities, that is to meet the minimum requirement for own funds and eligible liabilities (MREL).

MREL FOR THE POLISH SECTOR 

In Poland, the level of MREL is determined by the Bank Guarantee Fund (Bankowy Fundusz Gwarancyjny – BFG), in accordance with the resolution strategy adopted for a relevant bank (more details are available at: https://www.bfg.pl/metodyka-mrel/). As regards the Polish sector, starting from 2024 about a hundred banks will have to meet MREL in the full ultimate amount. Right now, banks meet lower thresholds, approaching the target value. In particular, for banks for which the BFG envisages the ‘recovery’ of the entire business after a crisis (i.e. after the completion of resolution), MREL is almost twice as high as capital requirements. This means that for each Polish zloty (PLN 1) of credit with a 100% risk weight, the bank should have 8 groszy (PLN 0.80) of own funds and nearly 16 groszy of own funds and eligible liabilities. 

Banks meet MREL by maintaining own funds and/or eligible liabilities. Eligible liabilities include funds from the issuance of debt instruments the holders of which are less privileged than the individuals who have placed a deposit at a bank but are more privileged than the holders of instruments classified as own funds. A privilege in this context means the right to recover funds in the case of a bank failure. Theoretically, the cost – that is the amount the bank has to pay to instrument holders in the case of eligible liabilities – should be lower than for instruments classified as own funds because the probability of recovery is, at least theoretically, higher. The nominal value of instruments classified as eligible liabilities has a defined minimum level: PLN 400 000.

PROBLEMS RELATED TO COMPLIANCE WITH MREL 

Although the regulations provide for no restriction as to the structure of instruments, the whole MREL may be (and sometimes is) met with CET1 capitals, therefore with top-quality capitals. CET1 capitals are used first of all to cover losses, so at the time of commencing compulsory restructuring of a bank, the real value of such capitals will be much lower. As regards eligible instruments, as part of placing the issuance of such instruments, there may be a problem arising from the need to provide the acquirers with a high risk-based remuneration, especially if the need for the issue occurs where the bank generates losses. On the other hand, a loss automatically reduces the funds, reducing also the value of instruments used to meet MREL and making it necessary to increase the issue. Investors, who read financial statements carefully, may not be interested in acquiring instruments issued by banks that are in a bad or deteriorating financial situation, and if so, this should involve an appropriate higher risk premium. The situation spirals because increased costs of issuance increase the bank’s loss which reduces the value of instruments used to meet MREL, where it is met partly using the funds, etc. 

In Poland, a large number of banks has a capital surplus which allows for a partial or total coverage of MREL, which means lower demand for the issuance of eligible liabilities. For some banks, however, the introduction of MREL means the need to issue additional debt, at a lower price than in the case of funds raised from customers. Most commercial banks operating in Poland have issued eligible liabilities and they should not have any problem meeting MREL. 

CONCLUSION 

To sum up, the requirement to maintain MREL instruments is to enable the BFG (and other similar institutions in the EU), as part of a resolution procedure, to recapitalise the bank in a crisis, that is to restore the bank’s capital (debt instruments are converted into capital) to the level required under regulations and prudential requirements, without engaging public funds. The best scenario would be the one in which it’s not necessary to check in practice whether the solutions related to MREL bring the expected effects. Compulsory restructuring procedures conducted by the BFG, in particular in the case of Getin Noble Bank, were conducted in situations where banks did not meet MREL and the additional funds for recapitalisation had to come from the outside. 

More details regarding the restructuring procedures carried out by the BFG can be found on the Fund’s website: 

Podkarpacki Bank Spółdzielczy
Idea Bank
Getin Noble Bank

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¹Directive establishing a framework for the recovery and resolution of credit institutions and investment firms.