UPDATE 2-European Union set to fast-track rules hitting bank creditors

Wed Dec 11, 2013 6:46pm EST

* Bondholders, big savers of bad banks face losses from 2016

* New EU rules follow in vein of harsh treatment of Cyprus

* Final approval of regime needed by EU ministers

By John O'Donnell

BRUSSELS, Dec 11 (Reuters) - Bondholders and large depositors in a failing European bank face losses from the start of 2016, European Union negotiators agreed on Wednesday, in a deal to spare taxpayers from further bailouts.

The law, if approved by EU ministers, will make losses for senior bondholders and large savers a permanent feature of the bloc's response to banking crises and mark another milestone in the reform of an industry that triggered economic turmoil.

It signals a hardening of approach and follows in the vein of the tough treatment earlier this year of big depositors in Cyprus. That country's bailout broke a taboo that savers should be spared when a bank is in trouble.

The agreement to accelerate the introduction of the regime by two years to Jan. 1, 2016 was reached between lawmakers from the European Parliament and negotiators representing EU countries. It now goes to EU ministers for approval next week.

Michel Barnier, the European commissioner in charge of writing the law, said it was a "big step" to ensure that "taxpayers are no longer in the front line to pay for banks' mistakes."

If given the green light, it will lay down clear rules for closing a bank in any of the 28 countries in the EU, ensuring that it is not only shareholders and governments who have to foot the bill.

It provides an important building block for a wider reform dubbed banking union in the smaller 17-member euro zone, which will see the European Central Bank police the sector in tandem with a new agency to shut weak lenders.

The prospect of the new law, which officials had long postponed for fear that it would exacerbate investor nerves and bank borrowing, has yet to curb enthusiasm for bank bonds. Nor has it prompted large savers to move their cash to safe havens.

Sharon Bowles, a lawmaker from the European Parliament involved in the talks, played down any such threat.

"I think it's not as mind-blowing as it was when it was first dreamed up," she said. "Everyone knows it has been coming."

But there is a lot of money potentially at stake and economists fear that some investors may take fright at the earlier rules.

Banks across the 17 countries in the euro zone have 860 billion euros ($1.2 trillion) of unsecured bonds, with German banks accounting for almost 200 billion euros, according to Thomson Reuters data.

The rules that savers with more than 100,000 euros and senior bondholders should suffer in the same way as shareholders did during the financial crisis, had originally been pencilled in for 2018.

BAD MEMORIES

Germany pushed for their earlier introduction so that the law would be in place in time to hit banks exposed as weak by European Central Bank tests next year.

An early start date also has the backing of the ECB, which is uneasy over banks' reliance on its own financial support.

But many European Union countries, including struggling Portugal, are nervous that the early introduction could rattle fragile markets, reviving memories of the debt crisis and the controversial Cyprus rescue.

At a meeting of finance ministers earlier in the week, many spoke out against suggestions to accelerate.

Having such 'bail-in' rules in place early will mean that it may not fall solely to governments to pay for the repair of banks that the ECB finds weak after health checks late next year.

Some exceptions to the rule are, however, allowed. Sven Giegold, a lawmaker in the parliament, criticised one such clause that he said could allow a country to assist a struggling bank without first pushing losses on bondholders and other creditors.

The size of banks' potential liabilities has long overtaken government's ability to save them.

ECB data shows that euro zone banks have issued more than 3.8 trillion euros of home loans - more than a third of the bloc's output and one-and-a-half times the German economy.

This helps explain why Germany, the euro zone's biggest economy and the country most likely to be called on to bear the brunt of bank clean-up costs, wanted the tough rules early.

The agreement is positive for negotiations over banking union because having a scheme for sharing the costs of bank failure is essential for a new system of policing by the ECB. Germany wanted the early introduction in return for giving its full backing for the project.

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