2017 G20 Heads of State Meetings

July 12, 2017

More than twenty Heads of State met in Hamburg last week at the 2017 G20 Summit to discuss a range of issues including trade policy and financial regulation. While many may still question the benefits of globalization and international coordination, it is clear that the economic issues of today require an internationally coordinated approach to policymaking.

Economic nationalism and protectionism fuel uncertainty and erect barriers between providers of capital and those who need it. We see the impact in global trade, which is growing at only one-fifth of its pre-crisis pace. Lenders are sending much less capital to emerging markets; and both cross-border bank lending and foreign direct investment remain subdued compared to pre-crisis levels. This is weighing on growth in emerging markets – and will ultimately be a headwind for the global economy. We see it at a national level as well: bank lending even in developed economies has been lackluster, with many households and small businesses still having difficulty accessing finance in the aftermath of the 2008 crisis.

The scope of these issues cannot be narrowed to one nation or area of the world. Solving them will require cooperation and coordination among both national and international bodies, notably on financial regulation. Regulatory fragmentation – a genuine risk in the current environment- will only leave capital stranded, cross-border flows curtailed, and global financial institutions burdened with heavy compliance costs- hindering their ability to support world trade and economic activity.

In fact, a key moment of global cooperation came in the aftermath of the 2008 financial crisis when world leaders gathered in Pittsburgh on September 2009 for the second G20 Summit that year. This marked a key moment in international cooperation where many countries collectively embraced policies to support the international economy's recovery and lay the foundation for strong, sustainable global growth. These agreements established a framework that improved the effectiveness of stability measures across the globe.

With nationalist tailwinds blowing in many countries, world leaders are faced with another inflection point that could determine the stability of the global economy moving forward. This year's summit provided these leaders with the opportunity to provide harmonized global solutions to global problems.

To combat fragmentation, policymakers need to find ways to ensure that the benefits of integration are broadly shared. Pursuing policies that support investment, capital formation and development of human capital will definitely help. These policies can include addressing education, technical and other skills gaps for young and displaced workers, as well as facilitating redeployment of displaced workers. Building a supportive policy framework for entrepreneurship and risk-taking will be essential, given that small businesses are key drivers of innovation, job creation and productivity in the economy.

More broadly, we must preserve the gains reaped from global integration in recent decades. The post-war architecture of democratic capitalism, trade, multilateralism and international cooperation via standard setting bodies such as WTO, Basel, G20 -- as imperfect as it may be -- has yielded breathtaking innovations and a twentyfold rise in GDP per capita, as well as dramatic improvements in living standards. These gains have spread to emerging markets in recent decades.

In an era of populism and backlash against globalization, it is more important than ever that regulations help foster economic growth that will benefit the broadest possible spectrum of society. As Heads of State gather to assess progress on the G20 agenda, the importance of a global approach to policymaking should be front and center.

Q&A – Contextualizing Italian Bank Resolutions: Rome Wasn't Built In A Day

June 27, 2017

This past weekend, Italian authorities liquidated Veneto Banca and Banca Populare di Vicenza under Italian insolvency rules, with Intesa Sanpaolo taking on many of the banks' assets. Media and policymakers have questions about what comes next for Italy's banks and the European system.

Below is a question & answer session with IIF President & CEO Tim Adams on the Italian government intervention and next steps for strengthening the European Banking Union.

Was this action a return to bailouts? Not really.

During the financial crisis, bailouts propped up a failing institution, including its senior and sometimes junior creditors. The actions taken this weekend by the Italian government are different from the actions taken by policymakers throughout the world during the crisis.

The institutions are not being propped up. In fact, parts were spun-off to other banks and the rest is being wound down. Equity shareholders and junior bondholders were not made whole. They were zeroed out. On these two points, the Italian government's actions look similar to Spain's, which recently saw its fifth largest bank fail.

However, the Italian government did not require senior bondholders to take haircuts, instead injecting taxpayer money to make them whole. This policy does represent a move in the wrong direction, but context is important here.

Does this threaten the European Banking Union project? Nope.

It's essential to note that Veneto Banca and Banca Populare di Vicenza were not classified as systemically important institutions by the European Union's Single Resolution Board (SRB). Otherwise, EU resolution rules would require a "bail-in" of bondholder claims. However, these Italian banks were smaller, allowing liquidation under local law rather than resolution under the European regime.

Thus, the Italian government followed the Italian liquidation law, subject to a special decree, protecting both deposits (insured and uninsured) and senior debt.

So, far from a rebuke of the EU project, this case highlights the flexibility of the EU Bank Recovery and Resolution Directive (BRRD) in allowing national liquidation regimes to apply when it has been determined that the bank in question is not “systemic”. It could be said this raises the question of whether national laws should be more aligned, even for non-systemic cases.

What it does not do is call into question the validity of the EU's resolution framework. The Single Resolution Board and the BRRD still play an important role in stabilizing the European financial system in the case of a large bank's failure. As cited above, just last month, policymakers successfully implemented the new resolution rules when Santander purchased Banco Populare in Spain. Further, it is important to underscore that not all aspects of the BRRD regime have been fully implemented. For example, requirements for banks to carry specified levels of loss-absorbing capacity are not yet fully effective, but could have made a huge difference in the liquidations of the two Italian banks, perhaps averting the need for state aid. New rules for selling debt instruments to retail customers are still being debated. The new regime is not fully in gear and should not be judged based on cases that are largely driven by legacy issues.

Was this good policy? That is debatable, but context on progress and the unique challenges facing southern European economies is important.

In five short years, the European Banking Union has gone a long way in stabilizing the banking system. We've seen the creation of Eurozone-wide single supervision and a Eurozone-wide resolution authority, with a consistent legal regime for the whole EU. Broadly, the European economy continues to strengthen, supported by low interest rates and QE.

Yet performance has been uneven across member states, and this weekend proved that Italy still struggles with a high level of non-performing loans (NPLs). A central tension within the EU is the political difficulty in enforcing tough resolution strategies in countries still dealing with legacy NPL and related concerns of their domestic banks. In the U.S., bank balance sheets were cleaned up thanks to TARP, Federal Reserve lender-of-last-resort advances, and a stronger economic recovery. Some European banks – in particular southern European banks – have never fully recovered from the crisis. Most Italian banks are still carrying a heavy burden of NPLs, yet the Italian economy is very dependent on credit from these institutions.

What was already clear – and became more poignant this weekend – is that to move forward, we must deal with these legacy issues.

What else can be done to facilitate market discipline to avoid bank failures? Continue the project for an EU-wide banking system.

Successfully advancing the EU banking and capital markets unions is essential to not just driving growth, but creating an environment where "bail-outs" are no longer needed. As is widely known, the EU is still highly bank-dependent for financing the economy. However, Europe is over-banked. It's unsurprising the challenges in Europe are concentrated in economies where banks face profitability challenges. Consolidation, including cross-border mergers, could help strengthen banks and their ability to improve profitability. Unfortunately, critics of larger, universal banks move the needle in the wrong direction. Despite the exhortations of the ECB’s Single Supervisory Mechanism, there is still strong resistance at the national level to dealing with overcapacity, and to cross-border mergers.

What comes next for Italy and Europe?

In April, I had the chance to sit down with top regulators and policymakers, and our conversations made clear the European economy is on the right track to keep climbing out of the slow growth seen since the crisis. The IIF projects GDP to pick up to 1.9% for 2017. Yet we also discussed the need to continue reform by focusing on incremental steps, rather than sudden changes, to build greater trust and confidence in the economy. Immediate priorities are dealing with NPLs – perhaps through a large 'bad bank' to hold assets – and better regulating how to compensate retail investors who have purchased bailed-in bank debt, if they were victims of mis-selling. 

Most importantly, the new resolution regime envisioned by the BRRD must be completed. Some banks have to complete building up the required level of loss-absorbing capacity, and the regime has to be fully implemented. Finally, the much-discussed reform of national bankruptcy laws must be enacted to allow easier unwinding of NPL debtors, making recoveries quicker and allowing better valuation of NPLs so they can be sold off by banks. Banks need to clean up their balance-sheets by getting rid of NPLs in order to get back to lending at full capacity.

There’s a lot to be done, but the direction is clear and for the most part, the road map is laid out. All that is needed is the will to take steps that are clearly necessary.

Travel Log

 Where Tim has been this year.