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LONDON, Oct 5 (IFR) - The European Central Bank will apply greater restrictions and risk control measures to senior unsecured bonds pledged as collateral from January 2017 in response to new rules that force losses onto the asset class in the event of a crisis.
The ECB said on Wednesday that it will reduce the usage limit for uncovered bank bonds (UBBs) from 5% to 2.5% from the start of 2017. The limit will not apply to assets that are worth less than 50m after haircuts are applied or to assets guaranteed by public sector entities that can levy taxes.
Around 116bn of UBBs (after valuation and haircut) were pledged as collateral in Q2 2016, according to ECB data.
The central bank has also amended its eligibility criteria to allow senior unsecured debt that is statutorily subordinated (as is the case in Germany) to be pledged as collateral, which was not permitted under existing rules.
The changes were "triggered by the implementation of the EU Bank Recovery and Resolution Directive (BRRD) in EU Member States and the forthcoming minimum requirements for own funds and eligible liabilities (MREL), as well as by the need for global systemically important banks (G-SIBs) to adhere to the new total loss-absorbing capacity (TLAC) framework", the ECB said in a statement.
Unsecured bank bonds have traditionally been an important funding tool, but new regulation to shift the cost of failing banks from taxpayers to creditors has placed the asset class in the firing line to absorb future losses.
Countries across Europe have started to take steps to subordinate senior unsecured debt to meet the new rules.
Germany, for example, pushed through a law that subordinates all outstanding senior unsecured bonds to other senior liabilities, while France is introducing a new layer of debt known as non-preferred senior.
The European Commission has started to explore the possibility of harmonising this divergence in local regimes on the grounds that it creates competitive distortions and complicates the bail-in tool.
That means further changes to collateral eligibility rules could be afoot.
"The ECB reaffirms its support in reaching agreement on a common EU approach to the creditor hierarchy in bank insolvency and resolution, and notes that work is ongoing in this respect," it said.
"The ECB will review this decision during the course of 2017, and the collateral eligibility framework eventually applicable to UBBs will also reflect progress made within that period towards a common EU approach." (Reporting by Alice Gledhill; Editing by Philip Wright, Julian Baker)