Mes, the fears of the EU: from bank bailouts to contagion on the markets, what is the risk with the Italian no to ratification

BRUSSELS. «The most incredible thing about this whole affair is that it was Italy, pressured by its banking system, that asked us to bring forward the introduction of the Mes banking backstop to 2022. While now, due to Italy, we risk not having it in force even in 2024. But we cannot afford a delay ». A European source with direct knowledge of the ESM dossier explains why Rome’s hesitation on ratifying the reform is perceived as “absurd” by Eurozone partners. And because the pressure has become more suffocating in recent months: the reform must enter into force imperatively in 2024, for this reason Italian ratification must take place in the first half of November at the latest. After that it will be too late.

One of the key issues of the reform is precisely the “backstop”, i.e. the modification to the Mes treaty which will make it no longer just a State-saving fund, but also a Bank-saving fund, doubling the financial endowment of the Single Resolution Fund which today it is about 80 billion. “With the reform – reads the Bank of Italy’s website – the Mes would also help to contain the risks of contagion associated with possible banking crises of systemic importance”. A sort of fire extinguisher capable of extinguishing possible “contagion effects” in the bud. And this is why the change had been loudly requested by Italy, to guarantee a financial safety net for its credit institutions.

Who pays in the event of a crisis

Today there is a single resolution fund for banking crises which is fed with contributions from the European credit institutions themselves, therefore with private resources. Since 2016, the approximately 3,000 banks of the 21 countries that are part of the Banking Union have begun to pay an annual contribution to this fund, with the aim of reaching – over eight years – a sum equal to approximately 1% of deposits, which this year should bring the total amount to around 80 billion euros. To date, the resources of this fund are still «compartmented», but from 2014 the resources will be fully mutualised.

Double the equipment
Eighty billion, therefore 1% of deposits, risk however not being sufficient. According to estimates, this could be enough to save two-three medium-large banks. And this is why it was decided to also put in place the financial endowment of the Mes: the reform provides for a possible “contribution” of up to 68 billion euros (but the sum had been calculated on the basis of the early introduction of the backstop in 2022 and finance ministers could decide to raise it). At that point, the resources available to the Bank Resolution Fund would double. «In Italy it is often said that the backstop of the Mes will serve to save the German banks which are in bad shape – points out another source -, but the risk is exactly the opposite. If German banks go into crisis, they can be saved with the 80 billion Single Resolution Fund. But without the 68 or more billion of the Mes there may not be enough resources to intervene in support of Italian banks in the event of contagion”.

Because there’s a rush
At the end of the informal Eurogroup meeting in Stockholm at the end of April, the executive director Pierre Gramegna had motivated the pressure on Italy by saying that the reform must enter into force by the end of the year at the latest. “We have a timing issue because the current bilateral backstops will expire by the end of this year. It is therefore essential that the ESM treaty modified with this function enters into force by the end of the year”.

Taxpayers’ money

But why should the Mes, whose capital is financed with contributions from the States – therefore with public money – give its money to the banks? In reality, the Mes would only act as a lender, activating a credit line in favor of the Resolution Fund in the event that it were to run out of resources. “If the credit line is used – explains the Mes – the Resolution Fund will repay the loan with the money from the bank contributions within three years”, a period which “can be extended to five years”. At the end of which there will therefore be no impact on public budgets. Among other things, the debt issued by the European Stability Mechanism to finance itself on the markets has no impact on the public finances of individual states. Not only that: the share of capital of each individual State in the ESM (that subscribed and that actually paid, which for Italy amount respectively to 125 and 14 billion euros) is not entered in the balance sheet as debt, but as an asset, since it is a financial participation.

The role of the ECB

Several political exponents dispute the usefulness of the role of the Mes in the face of any banking crises arguing that, in the event, there would be the support of the ECB and therefore the 70 billion of the backstop would not be necessary. However, EU sources point out that the ECB can intervene – at its discretion – only to provide temporary liquidity to the banks, while the Fund’s resources (and therefore also those of the Mes backstop) would be used to pay the necessary restructuring costs.