The View | Failing banks must be allowed to fold before markets can regain sanity
Important lessons can be drawn from how euro-zone regulators managed, or mismanaged, this month’s failure and recovery of two European banks
It is impossible to accurately assess the fragility of the financial system during any given period. The history of financial crises suggests that the risks are the greatest after a long period of optimism.
The rapid expansion of credit relative to income or gross domestic product means that banks have taken on more risk. This accurately describes what happened during the 2009 financial crash and what China is trying to avoid. The entire behavioural and economic definitions of a bank run, liquidity and solvency become paradoxical.
China has not yet been hit by a systemic banking crisis, but how its regulators might deal with individual bank failures and runs will determine the policies that are key to its economic survival.
Important lessons can be drawn from how euro-zone regulators managed or mismanaged this month’s failure and recovery in Italy’s Banca Monte dei Paschi di Siena and Spain’s Banco Popular.
The Italian government resisted a bail-in, which forces losses upon the banks’ debt holders and shareholders even though this is the stated and mandatory European Union directive. It fears that a bail-in might worsen the crisis as rumours of an impending bail-in might spread to other banks within the Italian financial system and incite panic among depositors and counterparties.
