System-wide events in the Public Interest Assessment
The public interest assessment is a key safeguard in bank resolution, to protect taxpayers and financial stability. When faced with a failing bank, the SRB considers whether resolution best serves the public interest or whether the bank can go into normal insolvency proceedings. To do this, we assess a number of elements, including the need to protect depositors, safeguard financial stability and minimise the use of public funds.
The assessment is carried out each year as part of resolution planning for each bank in our remit. However, it is updated when a bank is failing or likely to fail, because the prevailing economic circumstances can trigger a different outcome. The results can change through good and bad times, and this is certainly even more relevant now, as we prepare for the post-pandemic impact on some sectors of the economy and banks, particularly with the progressive unwinding of government supports to businesses and the likely rise of non-performing loans.
The SRB has improved its approach to conducting the public interest assessment. We will continue to perform it as part of the resolution-planning based on normal market conditions, but will add an element based on potential system-wide stress, where an adverse scenario affects the banking sector.
To allow for a transparent and consistent assessment, the SRB will base the scenario on the EU-wide stress test performed by the relevant authorities. The estimated impact on banks’ capital reflects the effects of an underlying extreme, but plausible, macroeconomic deterioration affecting all banks simultaneously. After having weakened the rest of the banking system with a depletion of CET1 in line with the outcome of the stress test, the public interest assessment looks at the direct and indirect contagion effects caused by the failing bank.
We are implementing this addition to the public interest approach in the 2021 resolution planning cycle. The main features are set out in an addendum to the public interest assessment paper published in 2019. As stated in our approach to the public interest assessment, if there is a doubt between liquidation and resolution, we would prepare for a resolution scenario.
Moving forward, the SRB is also considering whether we need to further enhance the public interest assessment framework. Along with technical enhancements on the financial stability objective, we are working on the improvement of the fulfilment of the objective concerning the protection of covered deposits and on the scope of critical functions.
In the first area, the analysis looks at whether the pay-outs of deposits by a deposit guarantee scheme could be a potential source of financial instability in a liquidation case. In the second area, the issue is whether a function is deemed critical only when its interruption has an impact on the economy of an entire Member State (or at EU level) or also at a more local/regional level. The analysis focuses on the definition of the geographical dimension to be taken as reference in the event that a function were to be abruptly interrupted, as well as the availability of the required information at that level to measure the disruption.
The public interest assessment is at the centre of the resolution framework. The consideration of system-wide events enhances our crisis readiness and will be beneficial when it comes to making resolution decisions, however the final assessment on the best resolution strategy will have to be performed at the point of failure.
About the article author
Mr Sebastiano Laviola joined the SRB in 2019, taking charge of resolution strategy and cooperation. This brief covers a range of cross-cutting issues relating to the core resolution activities (policies, standards, methodologies, financial stability) as well as the interplay with relevant stakeholders (NRAs, ECB, EC, EBA). In that capacity, he chairs the SRB Committee on Cooperation between the SRB and the NRAs.
He was previously a Central Director of Banca d’Italia, where he served since 1986. He spent most of his career in the Banking and Financial Supervision Department, dealing with analytical issues and coordinating policy on international regulation. He has been a continuous member, and chair, of international supervisory committees and working groups. In 2012, Sebastiano was seconded to the Permanent Representation of Italy to the EU in Brussels as Financial Services Attaché, where he negotiated financial services and Banking Union legislation.