Bail-ins

orkneyjoseph

Can anyone shed any light on bank bail-ins? My understanding is that banks can in exceptional circumstances legally take possession of depositors' savings and turn them into worthless banking stock. It seems that UK FSCS protection would not help as it is converting deposits into neutral assets.   

ivormonee

I was always led to believe that the FCCS protection was guaranteed.

DoctorStrange

I believe you're right, legally speaking.

When you deposit money in a bank,  you're lending it to them on an unsecured basis. If they struggle to repay those loans, you might wind up in trouble.

However,  the FSCS should offer protection in most circumstances I believe


Is there any specific scenario you're concerned about?

underground99

The rules about bail-ins simply mean that the bank can't go and ask for a bailout from the government until it has already tried to fix itself by converting some of its debts into equity. They do not mean that the Financial Ombudsman Service or Financial Services Compensation Scheme would no longer apply to an aggrieved customer. 

If you deposit money with a bank to which the UK depositary compensation scheme applies (UK regulated) and then the bank refuses to pay you back the money and says you can have shares in their company instead, you would complain to the bank's complaints department. If they say no, we will not give you back all your money, you would escalate it to the Financial Ombudsman service who would consider whether it was fair of the bank to unilaterally break their terms and conditions and refuse to give you back all your money. The FO would say it was not fair, and tell the bank to give you back the full amount of your money - compensate you in cash.

If they can't afford to pay you out in cash because they didn't have enough cash in the business (despite bail-ins, raising of alternate finance and bail outs) to pay off both you and the other tens or hundreds of thousands or millions of retail customers who have access to FO, they would go bust - and then, as you are owed money by a regulated business that's gone bust, the FSCS would pay you off (up to the compensation limits).  So yes, the FSCS would protect you in the unlikely scenario that the bank grabbed all their customer deposits and turned them into bank shares.

It's true that the regulations do aim to allow banks to convert liabilities (such as bonds, debts to suppliers and customer deposits) into equity of the bank (known as bail-in) before seeking a 'bail out' from the government.

However, the rules for it point the banks to the same process as under an insolvency or wind-up, whereby there is a tiered system for getting paid out and the customer deposits can sit in a higher tier of protection after all the equity holders and unsecured debtors & bondholders had lost their money. The very highest two tiers on the wedding cake being the customer deposits which could generally qualify for FSCS protection (i.e. the deposits retail individuals and SME money which could potentially fall under FSCS protection, if within the limits) and at the very top, the smaller subset of that money (£85k per person) within that wider tier that would actually get reimbursed by FSCS. 

So when a bank is in dire straits and is considering how to implement its bail-in (i.e. which of its liabilities on the balance sheet it should grab and turn into 'worthless banking stock'), it would in practice leave the tier of retail depositors until the very end after its bondholders and institutional depositholders and other unsecured creditors had lost their money. The regulations alllow them to do this - whether or not the insittutional depositholders like it, the legislation allows them to lose their money first. They would keep the retail tier (or at least, the qualifying £85k-per-person within the retail tier) safe. 

And then if they were still screwed (because the institutional depositors no longer trust them with any new deposits and suppliers are aggrieved that their unpaid invoices got turned into shares of a failing bank), they would go to the government for a bailout.  When they tell the government that they bailed in the bondholders and some big companies' deposits but stopped short of taking the retail customers' deposits, and are on the verge of collapse, the government is very unlikely to say 'no, you can't have a bailout until you have first confiscated your retail depositors' cash and caused them to go running to the compensation scheme'.  The government know it would be commercial suicide to be a high street bank that took some or all of its retail depositors funds for its own use and converted it to worthless equity... nobody would ever trust that bank again and they wouldn't get any more deposits from anyone as long as other rival banks still exist.

So when they seek a bailout without bailing in the last £85k of retail depositors accounts, the government would either say 'ok we'll figure out some sort of rescue deal' (in which case the retail depositors' money would be safe), or they would say 'no sorry you're on the brink of collapse already - too far gone and we don't mind you failing' (in which case the retail depositors could not get their money back, and would claim from FSCS.

Bottom line, if you're depositing within your FSCS limits, you are fine. If the bank still exists, it will pay you out. If it does not, it will go bust and FSCS will pay you out.

Scare stories about a bank somehow wangling a way to convert some or all their liability to you (to pay you cash in line with account terms and conditions) into you simply becoming a shareholder, without you deserving full compensation in cash and without recourse to Ombudsman or FSCS, are just that - scare stories.  There is no way the Ombudsman sees a conversion from a current or savings account with rights of instant access (or fixed term access) into equity in a bank with no right of redemption at full original value of the cash deposited, as a 'neutral event'. Of course you would not be neutral or indifferent about it, and the bank wouldn't get away with doing it.  If they did it anyway, you would claim compensation. And if they did it and went bust before you got compensated, you would get FSCS compensation. 

kaMelo

 And a real life example of this happening was when Cyprus wanted a bailout from the EU.

underground99

kaMelo said:

 And a real life example of this happening was when Cyprus wanted a bailout from the EU.

The international group of creditors looking to provide the banking system with bailout, led by IMF, agreed a ‘haircut’ of 6.75% for deposits under €100,000 and 9.9% for deposits over €100,000; for all deposits in the entire banking system. But it was never implemented, because it was turned down by Parliament on 19 March 2013.

In the end, few retail depositors lost anything; only 4% of Cyprus depositors were bailed-in, in two banks (Laiki Bank and Bank of Cyprus had both lost loads of money on high yielding Greek bonds which had collapsed in a previous EU/IMF bailout the previous year, shooting a big hole in their balance sheets).  Only people with over the €100k threshold for compensation had some of that excess taken and converted to equity.

By only taking funds that were not subject to standard deposit compensation rules, many people with 'normal' affairs were pretty much unaffected, though some confidence in the system was lost by the man on the street; some held bank bonds which were bailed in, some had bank equities that lost value, and some had deposits over €100k and lost some of that amount over €100k to what was billed as 'confiscation'.

Some particularly aggrieved customers took it to an EU court, and lost about five years later - it was agreed the banks had followed the rules ; the banks and government and EU and IMF were not at fault. You take a gamble if you put all your money in a financial institution in excess of retail deposit protections, and if you're not a retail depositor you don't need protections because you should be big and clever enough to look after yourself. Tough luck if you lost.

The ones hit particularly hard were the Russian/ Ukrainian money launderers / oligarchs who had stuffed their personal (and shell company) Cyprus bank accounts with amounts way in excess of €100k - creating a situation where the 10 largest shareholders were now politically exposed foreigners, who were represented by the largest cypriot law firms, which were all generally politically connected. So the scandals and satires around the news pretty much wrote themselves, while around the rest of Europe people were concerned for their own savings if this sort of thing can happen.

 In the UK, we have plenty of banking choices and it's relatively easy to avoid having £85k per person in one bank. If you're concerned about what could, theoretically, happen, you could read the underlying legislation - but it will be longer than the above and not written in laymans terms.

Eyeful

But what happens should the FSCS ever run out of funds!

Aretnap

Eyeful said:

But what happens should the FSCS ever run out of funds!

The government will lend to it if necessary. 

If the government has no funds then all bets are off of course, but in that scenario you'll be too busy trying to grow vegetables in the radioactive soil and fend off marauding Mad Max style gangs to worry about what the bank did with your deposits. 

underground99

Eyeful said:

But what happens should the FSCS ever run out of funds!

Not sure if the exclamation mark means you're just joking (as the question gets answered on here all the time).

The short version is that it is funded by a levy on the the whole financial services sector, and holds a decent amount of funds, and legislation allows it to borrow unlimited amounts from UK treasury if it finds itself in the position of needing to make payouts to a group of investors or depositors ahead of bumping up the levy to collect in the required amounts of money from all the other regulated services businesses.

Thrugelmir

Eyeful said:

But what happens should the FSCS ever run out of funds!

Consumers (Taxpayers) fund the FSCS with levies on lending products. During the Icelandic bail out crisis. The fund was in deficit. An increase in the levy rate was imposed to claw the money back. 

maxsteam

orkneyjoseph said:

My understanding is that banks can in exceptional circumstances legally take possession of depositors' savings

They take possession of your savings when you pass the money over the counter, or whatever the modern equivalent of this is. You give the money to the bank and, in return, they change the number at the bottom of your monthly statement. It's the bank's decision, subject to the PRA rules, what they do with the money.