The recovery of the Eurozone (EZ) economy has made even more pressing the tackling of its debt overhang with the bulk of over 1 trillion Non-Performing Loans (NPLs) concentrated in the more vulnerable economies of the EZ periphery. There is clearly a need to adopt a more radical approach to resolving NPLs than merely augmenting supervisory tools and national legal frameworks. The discussion about the feasibility of country-based or Pan-European Asset Management Companies (AMCs) to tackle legacy NPLs has recently intensified. Yet political objections premised on fears of debt mutualisation, the structural and legal questions surrounding the possible establishment of AMCs, and differing recovery rates and levels of market transparency within the EZ have led to the dismissal of the idea by the European Council. This article discusses the merits and shortcomings of AMCs in tackling NPLs and proposes a comprehensive structure for a Pan-European “bad bank” with virtually ring-fenced country subsidiaries to ensure burden sharing without debt mutualisation. The proposed “bad bank” structure intends to resolve a host of governance, valuation, and transparency problems that would otherwise surround a “bad bank” solution. Also, the proposed scheme is in effecoctive compliance with the EU state aid regime and could lead, if implemented, to the alleviation of the EZ debt overhang to stimulate credit growth.
Bail-ins could prove an effective way to replace the unpopular bail-outs. In the EU the doom-loop between bank and sovereign indebtedness left governments with a major conundrum. Thus, the EU resolution regime requires the prior participation of bank creditors in meeting the costs of bank recapitalisation before any form of public contribution is made. But, there is a danger of over-reliance on bail-ins. Bail-in regimes will not remove the need for public injection of funds, unless the risk is idiosyncratic. This suggestion raises concerns for banks in the periphery of the euro-area, which present very high levels of non-performing assets, crippling credit growth and economic recovery. To avoid pushing Eurozone banks with high NPL levels into bail-in centred recapitalisations, we have considered the benefits from and legal obstacles to the possible establishment of a euro-wide fund for NPLs that would enjoy an ESM guarantee. Long-term (capped) profit-loss sharing arrangements could bring the operation of the fund as close to a commercial operation as possible. Cleaning up bank balance sheets from NPLs would free up capital for new lending boosting economic recovery in the periphery of the Eurozone.