fernando restoy : challenges for banking resolution closing remarks by mr fernando restoy, deputy governor of the bank of spain and chairman of the frob ( the fondo de reestructuracion ordenada bancaria – fund for orderly bank restructuring ), at its conference, madrid, 4 june 2014. * * * introduction good evening. i welcome this opportunity to share with you some thoughts on banking resolution. i cannot think of a more qualified audience to discuss this matter than that invited by the frob for this conference, with representatives of competent authorities in the field, among others. i will organise my remarks as follows. first, i will briefly describe how i see the general global framework for banking resolution established after the crisis. next, i will review the special features of the european case. and finally, i will concentrate on the lessons to be drawn from the spanish experience, with a special reference to issues relating to the institutional design of banking resolution. the global framework for banking resolution after the crisis we all know that banking resolution has not achieved the status of a well - defined policy area until very recently. actions taken by authorities in relation to failing or likely - to - fail institutions have followed a discretionary case - by - case approach, particularly with respect to the availability of public funds to protect banks ’ creditors. the idea was that, as there was no ex - ante commitment to possible public bail - outs, the risk of moral hazard in relation to risk management policies and investors ’ decisions could be sufficiently contained. the recent crisis has however illustrated very clearly the limitations of this “ constructive ambiguity ” approach. thus, during the crisis, and in particular after the collapse of lehman brothers, the authorities have openly recognised that bank failures – even if they are not particularly large or complex – can seriously impair financial stability, making bail - out a natural policy response. as a consequence, there were widespread bail - outs of creditors of banks under stress. these rescues have obviously confirmed the existence of an implicit guarantee for banks ’ liabilities which constitutes a serious challenge for fiscal balances and a substantial distortion of the system of incentives for bank managers and fund providers. there is now broad agreement that in order to restore the socially desirable incentives and minimise the use of public resources, it is not enough to work on preventing bank failures by adopting appropriate regulatory and supervisory policies, but rather it is also necessary to be able to deal with non - viable banks in an orderly fashion and obviate the per

##verse dilemma between two important public policy objectives : preserving financial stability and protecting taxpayers ’ money. to that end, the constructive ambiguity approach must be replaced by clear resolution rules which can be credibly specified ex - ante and swiftly implemented ex - post. in practice, an essential objective of the new approach is to put an end to the situation in which, as a result of public intervention, bank liabilities are not, de facto, subject to the usual loss absorption hierarchy applied to bankruptcy events under commercial legislation. in other words, a resolution action taken in anticipation of an otherwise unavoidable liquidation of a credit institution should not imply a general bail - out of that bank ’ s creditors. with these generally accepted objectives in mind, a consensus has emerged for the development of international standards for banking resolution – mostly at the financial bis central bankers ’ speeches stability board level – which are now being gradually incorporated into domestic legislation around the globe. one relevant matter in the ongoing discussion on the specifications of the resolution regime is the scope of bail - in arrangements, i. e. under what conditions and to what extent will banks ’ creditors be obliged to bear losses of banks under resolution. a specific issue that has attracted much discussion is the treatment of uninsured deposits and senior debt instruments. some support has been expressed for the argument that a stringent approach to bail - in arrangements would de facto affect a bank´s ability to attract stable funding sources at reasonable prices. however, the counterargument appears quite convincing : the ability of banks to issue senior debt or to attract depositors should not be based on an implicit public guarantee beyond that provided by the deposit guarantee scheme. in the european union, the recently approved bank recovery and resolution directive ( brrd ) – which will come into force next year – provides for an ambitious resolution approach that fully incorporates the new bail - in culture. as of 2016, the brrd envisages a system under which before any external funds are used to recapitalise a bank, at least 8 % of its total liabilities must be used to absorb capital shortfalls. the activation of the bail - in tools would follow a hierarchical order in which neither uninsured retail deposits nor the claims of the deposit guarantee scheme would be excluded, although they would enjoy a preferential status vis - a - vis junior creditors and bond holders. further actions may be needed in order to provide credibility to these bail - in arrangements and to reinforce the special treatment of deposits. in