By Ambrose Evans-Pritchard at The Telegraph
Portugal’s rescue of Banco Santo Espirito has left taxpayers on the hook for large potential losses, sparing senior bondholders in the first serious test of the EU’s tougher rules for bank failures.
The controversial €4.9bn (£3.9bn) bailout over the weekend set off a relief rally on the Lisbon bourse, with bank stocks soaring. It also set off a political furore as opposition parties accused premier Pedro Passos Coelho of bending to the banking elites. “We live in a democracy, not a bankocracy. It is unacceptable for the prime minister to take money from the salaries of workers and pensions, and funnel it to a private bank,” said Catarina Martins, leader of the Left Bloc.
European officials pledged last year that taxpayers will never again face losses from a bank failure until all creditors and unsecured depositors have been wiped out first. They seem to have backed away at the first sign of trouble, opting for soft terms rather than the draconian measures imposed on Cyprus.
The EU’s new “bail-in” rules do not come into force until 2016, but it was assumed the broad principle would be followed. Portugal’s decision to protect senior bondholders is incendiary in a country already near austerity fatigue.
The rescue comes three weeks after the central bank said Espirito Santo’s problems were safely contained. Carlos Costa, the central bank’s governor, said Lisbon was forced to act after the crippled lender revealed shock losses from exposure to the Espirito Santo family empire. The bank’s Tier 1 capital ratio had collapsed to 5pc, well below the 8pc minimum.
He accused the management of “fraudulent schemes” involving the rotation of funds across the world to deceive regulators. “International experience shows that schemes of this kind are very hard to detect before they collapse,” he said.
The rescue raises fresh doubts about the underlying health of the banks as Portugal grapples with debt deflation and a private and public debt burden near 380pc of GDP, the highest ratio in Europe. The plan splits Espirito Santo into a bad bank that retains the toxic assets, and a Banco Novo for normal depositors. The state will inject €4.5bn of public money, dipping into EU-IMF funds left over for bank recapitalisations. This will raise Portugal’s net debt by 3pc of GDP.
Mr Passos Coelho said the money would be recouped when the new bank is sold off, insisting that there will be no extra costs for the taxpayer. Other Portuguese banks will have to cover any shortfall through a resolution fund. Megan Greene, from Maverick Intelligence, said this is wishful thinking: “The losses could be much larger than people think. This is eerily similar to what happened in Ireland, and I think taxpayers will end up footing the bill.”
Frances Coppola, a banking expert at Pieria, said the plan fails to tackle moral hazard and will come back to haunt the Portuguese state. “Those who brought down Banco Espirito Santo will walk away with the proceeds, and ordinary people will pay,” she said.
The eurozone has yet to flesh out an accord reached two years ago to let its rescue fund (ESM) recapitalise banks directly to break the “doom-loop” between banks and sovereign states.
João Rendeiro, former head of BPP bank, said the collapse of Espirito Santo will do far more damage than claimed. “The economic impact is gigantic. It could lead to a contraction of GDP by 7.6pc. I don’t know of any parallel to this in our economic history,” he said. Even a fraction of this would cause Portugal’s debt ratio to spiral upwards.
Mr Passos Coelho took a major gamble by going for a “clean exit” at the end of Portugal’s EU-IMF Troika programme in April, refusing to accept a backstop credit line. He brushed aside warnings from the IMF, worried about debt redemptions over the next two years. He insisted that the country is safely out of the woods, able to borrow cheaply from the markets without having to accept dictates from Brussels. This has been popular, but may go badly wrong if investors shun risky assets once again.
The country is already flirting with deflation. The economy stalled in the first quarter, contracting by 0.7pc. Portugal’s public debt has jumped from 94pc to 129pc of GDP in three years, partly because of austerity itself. “The debt outlook remains fragile. Debt dynamics remain highly vulnerable to macro-fiscal shocks,” said the IMF......