Bail-in At Your Local Bank – Part 3: Institutionalizing the Money Grab

Series: Bail-in At Your Local Bank

With no fanfare and little to no media coverage, your government has just put in place a mechanism to use your deposit money to bail-in a failing bank, like what happened in Cyprus a short time ago.

The derivatives market, the trigger of the 2008 global financial crisis, has since gotten even bigger and more concentrated into fewer hands. A mutually assured destruction awaits the global economy next time it goes off again.

Herded along by the Financial Stability Board, governments of leading economies endorsed a framework during the past G20 Summit whereby depositors’ money will be used to rescue a failing bank when the global derivatives casino blows up again next time.

G20 governments are quietly slipping bail-in provisions into law to make sure that next time a too big to fail bank blows up again by derivatives it will be rescued using depositors’ money, in the name of protecting the taxpayers.

Financial derivatives are financial contracts in which the promised payoffs are derived from the performance of another underlying entity. The underlying entity can be an equity (such as an individual stock or a stock index), interest rate, credit or c …

In Part 2 of this series we argued that the derivatives market, which had become so dangerously huge and was the primary reason the entire financial market seized up in 2008, had grown even bigger since the crisis was papered over and swept under the carpet.

Back to the G20 Summit.

The agreement signed at the last G20 Summit in Brisbane will ensure that next time this same bomb goes off, bank depositors’ money (read: your money) will be used to mop up the mess instead of taxpayers’ mony (read: your money).

Let’s begin with the rubber stamping endorsement at the G20 Summit of the paper titled Adequacy of Loss-Absorbing Capacity of Global Systemically Important Banks in Resolution (full document) penned by the Financial Stability Board (FSB), an organization which started out as a group of G7 finance ministers and central bank governors organized in an advisory capacity after the Asian financial crisis in late 1990s but whose mandates effectively acquired the force of law after the 2008 crisis. The global Systematically Important Banks, or G-SIBs, are more commonly referred to as the Too Big To Fail banks.

Per the FSB report:

“Resolution strategies and the resolution plans which operationalize them should set out how firms may be resolved without severe systemic disruption, without exposing public funds to loss, and while ensuring continuity of systemically important (or “critical”) functions. Losses should be absorbed in the first place by shareholders and then by unsecured and uninsured creditors consistent with the statutory hierarchy of creditor claims.

The Key Attributes describe the powers and tools that authorities should have to achieve this objective. These include the bail-in power, i.e., the power to write down and convert into equity all or parts of the firm’s unsecured and uninsured liabilities of the firm under resolution or any successor in a manner that respects the creditor hierarchy and to the extent necessary to absorb the losses.”

With the following givens:

  • Bank accounts fall into the ‘unsecured’ category.
  • Over the years the regulators have turned a blind eye as banks use their depositories to fund derivatives exposures. Your deposits have been put up as collateral for their derivative bets.

Euphemistically, your money now becomes part of the bank’s ‘capital structure’.

Typically when a derivative contract is initiated between two parties, one counter-party is required to put up collateral for the exposure. This deems the counter-party holding the collateral a ‘secured’ creditor.

What is written between the lines should now become apparent:

When that bank fails, derivatives counter-parties are considered secured creditors and would have first priority over any and all lowly unsecured depositors like you.

Along with new regulations including a new requirement for the banks to have 16-25% of their capital on hand as a buffer in the event of another financial crisis, the FSB agreement is sold to the public as a way to prevent further taxpayers’ money from being used to bail out failing banks. Instead, it puts in place a legal bail-in framework whereby depositors’ money will be used to resolve a failing bank. It also institutionalizes that derivative counterparties have first crack at the carcass, while depositors go to the end of the line of unsecured creditors.

What about deposits guaranteed by FDIC?

Good question. What about deposits which are guaranteed under FDIC, CDIC or regulatory mechanisms?

In theory, US deposits under $250,000 are guaranteed by the federal deposit insurance (CAD $100,000 for CDIC). However, FDIC is severely underfunded, especially once you take into account the amount of derivatives claims.  The following picture from ZeroHedge paints a thousand words indeed.

Sorry to rain on the parade, but the $25 or so billion amounts to something less than rounding errors in the overall scheme of things.

Deposits vs Reserves vs Derivs

FDIC deposit insurance fund versus deposits at US commercial banks versus total US financial derivatives exposure


Also saw somewhere that CDIC’s insurance fund only has about 0.4% of the total insured deposits (number not yet verified).

Still think there will be adequate coverage? By the way, don’t forget Cyprus where deposits under €100,000 (deposits assumed to be secured and guaranteed) were tasked 6.75%. Congratulations, we now have a template!

The next and last part of the series will take a look at how the governments around the world are quietly etching the bail-in provisions into law, and what you should do about it.


Bail-in At Your Local Bank series guide



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