* ESM to earmark 50-70 bln euros for bank recapitalisations
* Governments to contribute 10-20 pct of a bank's rescue
* Holders of bank debt will be hit if ESM is called in
(Updates with details of EU proposals on bank rescue rules)
By Matthias Sobolewski
BERLIN, June 14 Bondholders and governments will
always have to contribute to shoring up a failing euro zone bank
even when the bloc's bailout fund ESM offers direct aid,
according to an EU document obtained by Reuters.
Seeking to limit the burden on euro zone taxpayers, "private
capital resources will be explored as a first solution,
including sufficient contributions from existing shareholders
and creditors of the beneficiary institution(s)," the document
It was prepared for euro zone finance ministers to discuss
next week in Luxembourg.
While already agreed, the ESM rules will be finalised only
when EU institutions, including the European Parliament, agree
on two pieces of legislation on guaranteeing bank deposits and
closing down bankrupt banks.
The document did not specify the size of the losses that
would be imposed on a bank's bondholders, saying only that their
level would have to be appropriate.
"An appropriate level of writedown or conversion of debt
will have to take place, in line with European Union rules," it
The document said the European Stability Mechanism fund
could become a shareholder of a euro zone bank only if the
bank's capital was in danger of or already had sunk below the
level required by the European Central Bank.
Aid could be offered only if the bank was important enough
for its failure to endanger the financial stability of the euro
zone as a whole.
Before the ESM would spend any money, however, the bank
would have to try to raise the necessary funds from private
investors and through writing down its debt or converting it
into equity. The government of the country where the bank was
based would also have to step in.
The ESM, which has a war chest of 500 billion euros ($667
billion), will not spend more than 50-70 billion on buying
stakes in euro zone banks because such investment would deplete
its resources more quickly than loans to sovereigns, which are
regarded as less risky.
If a bank and the government of its home country cannot
handle recapitalisation on their own, the European Central Bank,
together with the European Commission and external experts under
the guidance of the ESM, would evaluate the bank's assets and
determine how much it could absorb in losses.
This evaluation would be based on "a sufficiently prudent
scenario of a stress test."
Once existing shareholders of a bank and its creditors are
tapped for funds, the ESM will check whether the bank has the
minimum legal common equity Tier 1 ratio of 4.5 percent. If not,
the government would have to inject the required cash.
If the bank already meets the minimum, the government would
provide between 10 and 20 percent of the money needed to bring
the bank's capital to the level required by the ECB as the euro
zone bank supervisor.
"This burden sharing between the ESM and the requesting
Member is specifically constructed in a way to cater for the
existence of legacy assets, through the first part of the
scheme, as well as for the need to ensure that incentives are
always properly aligned through the second part," it said.
If, however, a government is so strapped for cash that it
cannot come up with the money, the ESM can suspend such a
The ESM investment will carry conditions, including the
possibility of limiting the remuneration and bonuses of the
When it becomes a shareholder of a bank, usually through a
specially created subsidiary, the ESM will "exert an appropriate
influence, commensurate to its exposure, both through its role
as a shareholder and through the conditions imposed within the
The ESM would tackle issues such as the degree of
involvement in deciding strategy and business models, monitoring
business performance, appointing senior management and board
members and exercising voting rights, aiming "to ensure a return
to market functioning".
The recapitalisation rules are to be reviewed at least every
($1 = 0.7496 euros)
(Reporting by Matthias Sobolewski, additional reporting by
Annika Breidthardt, writing by Jan Strupczewski; Editing by Ruth