Contingency funding back to the future Antoaneta Geala

Contingency funding: back to the future? Antoaneta Geala Bank Deposit Guarantee Scheme Romania High-level Seminar on Challenges for European Deposit Insurance Systems: Funding, Investment Practices and Reimbursement February 26, 2015, Warsaw, Poland

Contents 1. Funding governance 2. Contingency funding – a historical perspective 3. Contingency funding tools’ pros and cons 4. Case studies 5. Stand-by credit lines 6. Lessons learned 7. Contingency funding: Back to the future? 8. Challenges for smaller DGSs outside the eurozone 2

Funding governance National Bank of Romania (NBR) Board FGDB Supervisory Board CEO Statutory approval on: • Annual funding policy • Annual contributions • Special contributions • Borrowings from: • Ministry of Finance • Financial institutions • Credit institutions • Bond issuance • Any suspension of contribution payment Funding policy 3

Contingency funding – a historical perspective Over time, FGDB included various contingency funding tools in its funding mix: - Special contributions Urgency (occurrence of a pay-out situation or just as a precautionary measure) Cost / benefit analysis Criteria Overall situation of the banking system - Borrowing from NBR (when the law allowed it) - Stand-by credit lines Availability of funds 4

Contingency funding tools’ pros and cons Special contributions • Applied to fund the pay-out • Pros: convenient for FGDB; relatively easy to collect • Cons: burdensome for banks Borrowing from NBR / Ministry of Finance • Applied to fund the pay-out • Pros: convenient for FGDB; low cost • Cons: borrowing from NBR is no longer available (the law forbids now this type of borrowing); borrowing from the Ministry of Finance has never been tested Stand-by credit lines • Used as a precautionary measure • Pros: convenient for banks; readily available to FGDB • Cons: expensive for FGDB 5

Case studies 6

Factsheet In 2000 two small-to-medium sized Romanian Banks went bankrupt: Bankcoop and Banca Internationala a Religiilor (BIR) Ø Covered banks: 32 Romanian banks and 8 branches of foreign banks Ø Eligible deposits in the banking system (December 31 st, 1999) : lei 53, 178 bln. Ø Covered deposits of the two bankrupt banks: lei 4, 629. 7 bln. Ø FGDB resources at the time of the first bankruptcy: lei 434. 7 bln. (9. 4% of pay-out amount) Ø Covered amount: H 1 2000: lei 54. 764. 000, H 2 2000: lei 65. 169. 000 Ø Cover ratio – elgible deposits (December 31 st, 1999): 0. 8% 7

Legal framework Legal provisions (pay-out): Ø Pay-out period: to start at the latest in 2 months from the official bankruptcy Ø Pay-out period through the agent bank to be decided by FGDB; it may be extended two times by three months each, upon the NBR’s approval; after that, FGDB carries out the payout using its own resources Legal provisions (financing): ØInitial contribution: 1% of the bank’s equity capital ØAnnual contribution: up to 0. 8% of the amount of eligible deposits of individuals ØThe law gave FGDB the power to increase the annual contribution of a bank up to 1. 6% if the bank had pursued risky and unhealthy policies ØSpecial contributions from banks: up to two times the level of the annual contributions ØSpecial contribution: up to 1, 6% of the amount of eligible deposits of individuals ØIncomes from recovery of FGDB’s claims ØIncomes from investment of FGDB’s own resources ØBorrowing. 8

Case study no. 1 - Bankcoop ØShare in the banking as at December 31 st, 1999: 0. 89% of net assets and 9. 28% of equity capital ØCovered deposits: lei 2, 754. 9 bln. (5. 5% of the covered deposits in the banking system) ØAmount paid-out: lei 2, 728. 9 bln. Funding: üFGDB resources üBorrowing from NBR: lei 2, 000 bln. üMaturity 5 years with 2 years grace period üRepayment in 6 half-year equal installments üDrawdown during 12 th April – 24 th May 2000 üInterest rate (reset every half-year): 1. 67% p. a. – 9. 30 % p. a. üSpecial contributions: equal to annual contributions in 2000 Pay-out timeline 8 th February, 2000 Bankruptcy date 12 th April 2000 20 th June, 2000 Pay-out by agent bank 31 st December, 2000 Pay-out by FGDB’s own cashier desk and postal cheques 9

Case study no. 2 - BIR ØShare in the banking system as at December 31 st, 1999: 2. 17% of net assets and 2. 09% of equity capital ØCovered deposits: Lei 1, 874. 8 bln. (3. 5% of the covered deposits in the banking system) ØAmount paid-out: Lei 1, 848. 7 bln. Funding: üFGDB resources üBorrowing from NBR: lei 1, 500 bln. üMaturity 5 years üRepayment: yearly, equal installments üDrawdown during 5 th October – 2 nd November 2000 üInterest rate: flat, 15% p. a. üSpecial contributions: equal to annual contributions in 2000 Pay-out timeline 10 th July, 2000 Bankruptcy date 9 th October, 2000 30 th November, 31 st December, 2000 1 month delay because the shareholders Pay-out by contested the NBR’s agent bank decision Pay-out by FGDB’s own cashier desk and postal cheques 1 0

Structure of funding (Bankcoop) Structure of funding (BIR) 18% 11% 4% 1% 16% 77% 73% Funding from NBR FGDB resources Special contribution Recoveries from liquidation 1 1

Stand-by credit lines 1 2

Contingency funding – stand-by credit lines In 2007 FGDB put in place stand-by credit lines with the member banks: Ø The agreements were renewed annually during 2007 - 2010 Ø FGDB paid 0. 5% commitment fee ØThe total amount was calculated based on the target ratio and the eligible deposits of the banks Ø The number of banks was reduced gradually to make their management easier The purpose of their implementation: Ø To have emergency funding available Ø To reduce the burden for banks Øthe annual contribution rate was reduced from 0. 3% in 2006 to 0. 1% in 2007 and incresed again from 0. 2% in 2009 to 0. 3% in 2010 when the stand-by credit lines were given up 1 3

Stand-by credit lines’ impact 33 banks 32 banks 7 banks 10 banks 1 4

Lessons learned Ø Contingency planning is essential to early detect and fix any problems in funding pay -outs Ø Good liquidity management plays a vital role in timely and cost-efficient funding üOrderly liquidation of assets is depenent on several factors: üTypes of assets (Bonds, T-Bills, deposits etc. ) üCapital market stage of development (depth, width, liquidity) and conditions üAdequate maturity structure of investment ØReadily available funding sources ü Existing arrangements with the Government structures, financial or credit institutions (including special contributions) üAccess to capital market ØCost/benefit analysis of alternative sources of funding (if possible) 1 5

Contingency funding: Back to the future? Funding source Past law Current law* Directive 2014/49/EU Special contributions √ √ √ Extraordinary contributions not exceeding 0. 5% of the DGS’s covered deposits per calendar year; in exceptional circumstances and upon consent of competent authority, higher extraordinary contributions can be raised. Borrowing √ √ √ DGSs shall have in place adequate alternative funding arrangements to enable them to obtain short-term funding to meet the claims against them. A DGS is entitled to an amount equal to the amount of the mandatory contributions up to the target level, which the MS will make immediately available to that DGS upon request for use exclusively for the purposes set out in Article 11 (if the competent authority considers that the DGS cannot raise extraordinary contributions). DGS shall repay the amount through contributions from its members. Payment commitments X X √ Payment commitments shall not exceed 30% of the total amount of DGS’s available financial means. Borrowing between DGSs X X √ They are optional; the amount is capped to 0. 5% of the covered deposits of the borrowing DGS. Comments * The new DGS law to transpose the DGSD in the local legislation has not been adopted yet. 1 6

Challenges for some DGSs outside the eurozone ØShorter period for the DGS to make available the repayable amount (within 7 working days) ØCorrect identification of the economic business cycle’s stage (avoid the procyclical contributions) ØWork out the adequate target level matching the particular circumstances of the banking system ØIdentify the adequate mix of funding to manage the contingencies Constraints: • Smaller banks, more vulnerable to economic downturns • Availability of funds in case of emergency • Shortage of adequately liquid investment choices (low-risk assets / sufficiently diversified) Potential effects: Possible solutions: • Difficulties to raise extraordinary contributions • Set a target level above the minimum recommended by the DGSD • DGS cannot meet the repayment deadline (7 working days) • Special provisions in the national legislation enabling the authorities (Ministry of Finance) to raise the funds to be borrowed by DGS • Low width, depth and liquidity of capital market • Secondary market operations used 1 7

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Annexes

FGDB’s resources 2 0

FGDB’s borrowing rates – a comparison 2 1

Impact of RON/EUR adverse movement on FGDB’s cover ratio

Net profit / loss in Romanian banking system