UPDATE 1-Big banks benefit from perceived government safety net -IMF

Mon Mar 31, 2014 1:09pm EDT

* Euro zone banks have implicit subsidy of up to $300 billion

* Rules after financial crisis meant to reduce issue of 'too big to fail'

* IMF says funding advantage of top U.S. banks declined since 2009 (Recasts top, adds background and quote from IMF)

By Anna Yukhananov

WASHINGTON, March 31 (Reuters) - Top banks around the world benefit from an assumption that governments will rescue them during a panic, despite regulations meant to reduce the need for future bailouts, the International Monetary Fund said in a report on Monday.

In one of the first studies to compare funding advantages internationally, the IMF found that the euro zone's biggest banks benefited from an implicit taxpayer subsidy of $90 billion to $300 billion in 2011-2012.

Subsidies in the United Kingdom and Japan may have been as high as $110 billion at that time, while they ranged from $20 billion to $70 billion in the United States, the IMF said.

"One of the most troubling legacies of the global financial crisis is the widely held notion that some banks are simply 'too important to fail'," the IMF said in its twice-yearly Global Financial Stability Report.

Banks' funding advantages have gone down somewhat since 2009, especially in the United States, due to tighter regulations and effective supervision, the Fund said.

They remain higher in the euro zone due to the scale of needed balance sheet repairs and differing responses from officials.

On average, so-called systemically important banks still enjoy implicit subsidies of around 60 basis points compared to their less weighty peers, the IMF said.

The report from the Washington-based global lender could influence the United States and Europe as they implement tough new rules for the financial industry to minimize the likelihood and cost of bailing out big banks.

Bank assets have grown dramatically in many countries since 2000, while the number of banks has fallen. In most countries, the assets of the three largest banks make up at least 40 percent of total banking assets, while in Canada, France and Spain that figure is at least 60 percent, the IMF said.

That means problems or failure in one top bank could throw a nation's entire financial system into chaos.

This problem only got worse in the wake of the 2007-2009 global financial crisis, when many governments intervened in the banking sector or encouraged mergers to prevent banks from collapsing, according to the report.

"Countries emerged from the financial crisis with an even bigger problem: many banks were even larger than before and so were the implicit government guarantees," the IMF said.

In a separate study released last week, economists at the Federal Reserve found a funding advantage of about 31 basis points for the five largest banks in the United States.

The study, which used data through 2009, did not look at whether the advantage persisted as regulators moved to implement a 2010 law meant to reduce the need for future bailouts.

The IMF found that U.S. banks' subsidies had fallen to about 15 basis points in 2013.

The Fund used three methods for calculating the funding advantage of top banks: comparing their bond yields to those of other banks; analyzing how much banks have to pay to insure against default; and using credit rating agencies' estimates of government support.

While the three estimates diverged somewhat, they showed that top banks benefited from a belief among investors that governments would rescue them in a panic situation.

The IMF said it may not be possible to remove 'too important to fail' subsidies completely because bailing out a bank may be better at times for an economy than letting it collapse.

Shrinking banks or revamping their structure also may not be a good solution because large banks may enjoy economies of scale and scope that keep costs low for consumers and promote market liquidity, it said.

Further, it said restrictions on bank practices could lead to riskier activities migrating into less regulated parts of the financial industry.

The IMF said regulators should instead focus on ensuring banks are less likely to fail by taking steps such as boosting the quality and size of capital buffers. It also recommended having banks pay a levy based on the size of their liabilities to compensate governments for their support.

"Given the difficulty of completely ruling out bailouts in practice, some level of government protection, and thus some positive subsidy, may be unavoidable," according to the report. "Bank levies can allow governments to recoup part of it." (Reporting by Anna Yukhananov; Editing by James Dalgleish)

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