Italy's Monte dei Paschi bail-in is a bailout

Monte dei Paschi di Siena bank CEO Marco Morelli talks during a news conference in Milan, Italy October 25, 2016. REUTERS/Alessandro Garofalo - RTX2QCCV

LONDON (Reuters Breakingviews) - Monte dei Paschi’s rescue is a bailout masquerading as a bail-in. European rules now mean governments that save banks have to force losses on creditors, or convert them into shares. Italy is doing that with MPS, but adding an unjustified bit of financial engineering that makes it no better than bank bailouts from 2008.

At first glance the MPS rescue, announced on Dec. 23, appears a classic application of European rules. The bank has been unable to raise the 5 billion euros it needs to fill a capital shortfall created by stress tests. Ergo, under article 32 of the Banking Recovery and Resolution Directive, the government can step in. Under state aid rules, that requires MPS’ 4 billion euros-plus of subordinated debt to convert into equity.

Yet the government is bolting on another leg. The bank can then swap those shares held by retail investors for a new bond, this time a senior-ranking one, with little default risk. That would create a problem for MPS, as it would have less equity. So, the government will then buy those shares from the bank. Economically, it looks similar to the government simply buying the shares directly from retail creditors.

There are still some missing details. It’s not clear what the terms of the new bonds will be, or the price the government will pay for the shares. Still, it seems likely both will be at par. It’s also not clear how many shares can be swapped in this way. Statements so far suggest it will apply to all bonds held by retail creditors.

The complex trade is probably a way of dealing with the thorny issue of bonds held by retail investors in Italy’s sickly banks. With a weak government, and support for the anti-establishment 5-Star Movement growing, it would have been politically toxic to impose real losses on creditors with elections likely next year.

Yet if such a scheme is applied to all retail creditors at par, it simply looks like a bailout at taxpayer expense. Retail bonds are held by the wealthiest 10 percent of Italian households, according to the Centre for European Policy Studies. The good news is that this fudge should accelerate restructuring of other weak Italian banks. The bad is that European rules can easily be bent to suit political ends.

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