The European Union has basically made the right decision on how to deal with insolvent banks. Here are some details from the EU Observer.
Bank shareholders and creditors will be first in line to suffer losses if their bank gets into difficulties, according to draft rules agreed by ministers in the early hours of Thursday morning… Under the new regime, banks’ creditors and shareholders would be the first to take losses. But if this proves insufficient to rescue the bank in question, savers holding uninsured deposits worth more than €100,000 would also take a hit.
This is basically the “FDIC-resolution” approach that I’ve mentioned before, and it’s sort of what happened in Cyprus (after the politicians tried every other option).
And it’s the opposite of the corrupt TARP system that the Bush and Obama Administrations imposed on the American people.
The reason this new European approach is good is that it puts the pressure for sound business decisions where it belongs – with the shareholders who own the bank and with the big creditors (such as bondholders) who should be responsible for monitoring the underlying safety and soundness of a bank before lending it money.
And rich people (depositors with more than €100,000) also should be smart enough to apply some due diligence before putting their money someplace.
The last people to bear any costs should be taxpayers. They don’t own the bank. They don’t invest in the bank. And they don’t have big bucks. So why should they bear the cost when the big-money people screw up?!? Especially when TARP-style bailouts promote moral hazard!
I’m sure the new system won’t be properly implemented, that there are some bad details in the fine print, and there will be too many opportunities for back-door bailouts and cronyism, but let’s not make the perfect the enemy of the good.
