Recommendations

• The role of the Minister of Economy and Finance in resolution and liquidation should be limited to reduce the scope for political influence over the BdI’s decisions. To safeguard operational independence of the BdI, ex ante approval of envisaged resolutions or liquidations by the minister should only apply to cases that have direct fiscal impact or may have adverse implications for financial stability at large.

A. Corrective Action and Early Intervention⁸

18. The BdI utilizes a mix of offsite analyses and onsite inspections to ensure continuous monitoring of banks under its supervision. An early warning system (EWS) has been developed that seeks to estimate the point-in-time probably of a default within 12 months. The model has been calibrated on the basis of a wide range of distress events, and contains micro variables related to capital adequacy, asset quality, management capability, earnings, and liquidity. In addition, a system of Early Intervention Indicators (EII) has been developed within the BdI’s business analysis system, raising warning flags in real-time, as appropriate. The system generates alerts for the competent offsite Supervisory Unit that triggers follow-up and/or more in-depth analysis. Analysis from the EII is supplemented by findings from onsite inspections—including qualitative observations on the adequacy of banks’ governance and risk management frameworks—and macroprudential analysis that is prepared by the BdI’s Regulations and Macroprudential Analysis Directorate.

19. An important component of any early intervention framework is the ability to conduct forward-looking analyses of banks’ financial positions. Forward-looking analysis is important for a range of purposes, including to (i) determine the need for, and nature of, corrective actions and early intervention measures; (ii) demonstrate the viability of banks requesting liquidity support; and (iii) determine whether banks are failing or likely to fail (which is a precondition for the initiation of resolution proceedings). The BdI performs stress tests on LSIs at aggregate and individual levels, using a top-down approach based on models developed inhouse. The tests typically envisage a three-year horizon with projections for operating income, estimated credit risk losses, and losses that emanate from other risk classes (e.g., market, interest rate and operational). Results from the BdI’s supervisory stress testing framework are used in the Supervisory Review and Evaluation Process (SREP) in order to both gauge banks’ vulnerabilities and to challenge the outcomes of “internal” stress tests undertaken by individual banks as part of their ICAAP procedures.

20. The TUB provides the BdI with a broad range of legal powers for remedying regulatory breaches and addressing unsafe and unsound practices. Broadly speaking, available measures comprise “strengthening measures” that seek to improve banks’ corporate governance, business organization, internal controls, and risk management; “risk reduction measures” that seek to reduce an institution’s exposure to certain risks with the aim to prevent an irreversible deterioration in its condition (e.g., portfolios limitations, restrictions on the bank’s operations and branch network, limits on variable remuneration); and measures aimed at conserving or strengthening bank capital (e.g., restrictions on dividend distributions and variable remuneration, imposition of additional capital requirements). Moreover, the BdI can suspend voting rights or order divestitures of bank shares that have been acquired without prior authorization.

21. Transposition of the BRRD has further expanded the BdI’s toolkit with the EU’s harmonized provisions on early intervention. The new powers introduced via Legislative Decree 180/2015 (“Resolution Decree”) include orders to implement recovery plans (see section on Resolution Regime and Resolution Planning) and the removal of members of banks’ management bodies and/or senior officials. In case of serious infringements of law, regulations, or the statutes of the institution; serious administrative irregularities, or significant deterioration of the financial situation of the bank or banking group, the BdI is empowered to appoint a special administrator who assumes all functions and exercises all powers of the bank’s management body. Unless otherwise provided in the special administration decree, the administrator shall (i) ascertain the bank’s financial position; (ii) seek to eliminate irregularities; and (iii) promote solutions that are in the interest of the depositors, and of the sound and prudent management of the bank. Special administration shall last up to one year and may be extended, more than once, if the conditions for imposing special administration remain applicable.

22. The power to grant and revoke banking licenses is vested exclusively in the ECB. In accordance with the regulations governing the SSM, the ECB—after consultation with or at the proposal of the BdI—shall revoke a banking license if (i) licensing conditions are no longer fulfilled; (ii) the license was obtained through false statements; (iii) the bank has not made use of the license within six months; or (iv) if the bank has been put into a liquidation procedure (compulsory administrative liquidation) by the BdI. Against this backdrop, the BdI may submit a proposal to the ECB to withdraw a license in case it observes that revocation conditions have been met.

23. The legal framework empowers the BdI to impose pecuniary administrative sanctions in case of identified violations. The BdI can impose administrative sanctions, with amounts up to 10 percent of turnover, on supervised institutions, their respective parent companies, external service providers, and external auditors.⁹ Moreover, administrative sanctions can be applied (albeit for lower amounts, i.e., up to EUR 5 million) to corporate officers, including senior management, if the violation stems from noncompliance with the duties assigned to that individual. In determining the amount of the sanctions, the BdI is required to consider all relevant circumstances, including the seriousness and duration of the violation; the degree of responsibility; the amount of profits gained, or losses avoided; the damages to third parties; and previous banking or financial infractions committed by the same person. Moreover, individuals can be banned from exercising management responsibilities for up to three years if the identified violation is deemed particularly serious. For matters falling within the scope of the SSM, the ECB is responsible for imposing sanctions on (i) SIs for failure to comply with directly applicable EU legislation (e.g., regulations or binding technical standards); and (ii) LSIs for violations of obligations vis-à-vis the ECB itself. In all other cases, the BdI is responsible for the exercise of sanctioning powers.

24. The current range of corrective actions and early intervention measures is broadly aligned with international best practice, but some scope for further enhancement remains. Recommendations from the 2013 FSAP on the early intervention framework have largely been implemented, providing the BdI with a broad toolkit for dealing with distressed banks. However, the BdI currently lacks formal power to require increased provisioning for assets with doubtful quality¹⁰ and cannot directly remove and replace external auditors. While CONSOB can rescind the appointment of an external auditor, e.g., in case of non-adherence to professional standards, the legal framework does not extend similar powers to the BdI.

25. Initiation of early intervention measures is informed by clearly articulated triggers that have been aligned with guidelines from the EBA.¹¹ Decisions to impose early intervention measures take into consideration: banks’ overall scores obtained via the annual SREP; combination of the overall scores with scores reached in SREP areas concerning business model and profitability, governance and control systems, capital adequacy, and liquidity; and financial indicators (stock and flow). Moreover, decisions to impose measures can be based on the results of on-site inspections as well as significant events such as rogue trading; fraud; severe IT problems; unexpected loss of senior management or key staff; or significant rating downgrades by one or more external rating agencies. While reaching (or exceeding) one or more of the various thresholds does not trigger the automatic adoption of early intervention measures, these events require a supervisory assessment of the cause and potential impact of the underlying event, taking into account its severity and persistence.

26. The framework for corrective action and early intervention is supported by a robust decision-making process. The process for initiating corrective action and early intervention measures is clearly described in the Guide to Supervisory Activities. In short, when the competent supervisory unit verifies that the necessary conditions for taking action are met and such measures are deemed necessary and appropriate, a formal procedure is initiated that includes a notification to the affected bank and an assessment of the documentation and/or explanations provided in response to such notification. In case of urgency, i.e., when it is deemed important to immediately prevent further deterioration in the bank’s situation, measures can be immediately announced. While the BdI’s supervisory function is responsible for initiating the process, the RCMU is duly informed to (a) enable it to update its resolution plans, and (b) fulfill any reporting obligations to the SRB. Once an early intervention measure is issued, collaboration between the competent supervisory unit and the RCMU is intensified, with supervision monitoring the condition of the institution and the implementation status of the measures and the RCMU notifying supervision of any significant changes made to the resolution plans because of the early intervention measures.

27. Special administration has served the BdI reasonably well in the past. Italy has a long tradition of addressing troubled institutions through special administrators. By assuming all functions and exercise all powers of the institution’s management body (administrators do not assume shareholder powers but are exclusively empowered to convene shareholder meetings and set the agenda for such meetings), they seek to either rehabilitate troubled firms or pave the way toward orderly exits through compulsory administrative liquidation. Since January 2013, 28 banks have been placed under special administration, with roughly half of them returning to going concern status (in some cases following a change in ownership). Some banks that were successfully rehabilitated, however, benefited from financial support from the DGS, which helped to improve their financial strength, effect a merger or facilitate an orderly transfer of assets and liabilities to an assuming bank. With interest in bank branches diminishing as the banking industry continues to consolidate, successful rehabilitation via special administration may become increasingly difficult going forward.

28. Given inherent risks, special administration needs to be used judiciously. Cross-country experiences show that special administration can easily generate adverse market responses if the administrator’s appointment is interpreted as a sign of potential non-viability, which raises the specter of loss allocation to uninsured creditors (as per the resolution regime post BRRD transposition and greater harmonization of loss sharing criteria across resolution and liquidation, as advocated in this technical note). While it is noted that reliance on special administration has diminished following transposition of the BRRD, care needs to be taken that the use of this instrument does not delay more decisive action if rehabilitation prospects remain elusive. Persistent fragilities among LSIs suggests that more decisive and escalated supervisory action—utilizing the authorities’ full toolkit to effect improvements or achieve orderly winddowns, as appropriate—may be needed to underpin stability.

29. Certain features of the legal framework can exacerbate risks associated with special administration. In exceptional circumstances, special administrators can suspend the payment of liabilities and restitution of financial instruments “in order to protect the interests of creditors.” Under the KA, moratoria are only intended to be used for a short period while resolution actions are being executed, for example when undertaking a transfer of assets and liabilities or bail-in of creditors. However, the moratoria that are provided for in the Italian framework are substantially broader, e.g., can be used during early intervention for up to one month (extendable for another two months). In practice, such broad payment restrictions can be disproportionate and self-defeating, as the bank’s inability to meet its obligations will undermine confidence (with potential contagion effects to other banks) and accelerate withdrawals as soon as the moratorium is lifted.¹² Similarly, potential delays in the publication of duly audited financial statements (as per the TUB, possibly until up to four months after the administration has ended, can make it increasingly difficult for banks in administration to continue operating, as uncertainty about their financial position may reduce access to funding and hamper their ability to maintain client relationships.¹³ While it is understood that administrators (and statutory auditors) may need more time to verify data and produce accurate statements, efforts to rebuild confidence typically hinge on the disclosure of meaningful information, including tangible measures that are being taken to address identified weaknesses.

B. Recovery Planning

30. Recovery planning requirements have been introduced via the transposition of the BRRD. Pursuant to the TUB, as amended in 2015, all Italian banks are required to prepare either full-scope or simplified recovery plans that elucidate measures that may be taken to restore financial soundness and ensure (or re-establish) compliance with prudential requirements following a significant financial shock. In accordance with international best practice, plans should not assume the availability of extraordinary public financial support and be duly approved by bank management. Recovery plans of banks designated as SIs are assessed by the ECB through the SSM’s joint supervision teams that include BdI staff, while the BdI is solely responsible for the (supervisory) review of the recovery plans prepared by LSIs. More specifically, LSIs designated as “high priority” by the BdI,¹⁴ as well as those that do not fulfil the criteria foreseen in EBA guidance on the application of simplified obligations¹⁵ are requested to submit full-scope recovery plans, while others can submit simplified plans.

31. The BdI provided detailed guidance on recovery planning via its circular from February 2017. In short, the measure explains when to submit full-scope or simplified recovery plans and highlights the various aspects that should be covered in the plans, citing EBA guidance where appropriate. In short, the circular discusses the role of recovery plans in the bank’s governance and risk management framework, including escalation—and decision-making procedures; and provides brief guidance on the components of the strategic analysis that should underpin the identification of credible recovery measures, their impact assessment, the indicators to be used to determine activation of the measures, and aspects pertaining to communication. Recovery plans of high-priority LSIs are to be updated and submitted to the BdI on an annual basis, while simplified plans are to be updated and submitted every two years (unless no material changes to the institution’s business model or organizational structure occur).

32. Processes for reviewing banks’ recovery plans are robust. LSIs were first required to submit plans by June 2017, reflecting guidance provided via the BdI’s aforementioned general measure. At the time, 12 LSIs (out of more than 400) were preparing full-scope recovery plans, due to their high-priority designation, while the remainder prepared simplified submissions.¹⁶ The plans were assessed by the competent supervisory units and shared with the RCMU to enable the latter to duly reflect information from the plans in its resolvability assessments. The assessment of LSIs’ recovery plans is supported by a template-based tool provided by the ECB, which seeks to foster consistency when reviewing the plans for completeness, quality, and credibility. In case of cross-border groups, group-recovery plans are discussed in the bank-specific colleges of supervisors, with the aim to reach joint decisions on their adequacy.

33. While BdI staff confirmed that the plans were generally found to be adequate, going forward further industry-wide guidance can help further improve their quality. The review of the 2017 version of banks’ plans did not highlight material deficiencies as compared to the BRRD criteria of completeness, quality, and credibility. Thus, no formal procedures were initiated under the TUB to have banks resubmit modified plans and/or require material changes or change business activities, organizational arrangements and/or legal structures. However, the BdI’s competent supervisory units found room for improvement in, among others, the identification and calibration of recovery plan indicators, the description of recovery options and the assessment of their impact and the incorporation of material legal entities (in the case of group recovery plans). Similar to feedback provided by the ECB to the banking industry,¹⁷ the issuance of further industry-wide guidance on effective recovery plans, in addition to bilateral communications with the banks, can help to foster good practices and establish clear expectations across the Italian banking sector for further refinement of the plans.

34. As a next step, the BdI could usefully consider periodic testing of full-scope recovery plans to ensure operational readiness of the high priority LSIs. Periodic testing can assist banks greatly to assess the adequacy of their recovery plans. Such tests are separate from stress tests; they are designed to simulate scenarios in which the recovery plan must be activated and should involve testing of all key elements of the plan, including governance arrangements and, notably, the role of Board members and senior management (see Appendix III for more details). Once banks have undertaken some internal testing and the BdI has reviewed the test results, the BdI could usefully consider participating in occasional further testing of banks’ plans, both to assess the adequacy of the recovery plans and the banks’ internal arrangements for determining their deployment, as well as to gauge the BdI’s own preparedness for fulfilling its responsibilities pertaining to recovery planning. The activation of recovery plans is fully integrated in the BdI’s framework for corrective actions and early intervention, so that timely action can be taken if early warning indicators are breached but envisaged recovery measures are not activated.

A. Overview of the Resolution Regime

35. The Italian resolution regime has undergone extensive transformation since the 2013 FSAP. Reforms were shaped by the publication of the BRRD in 2014, which required EU member states to transpose the harmonized resolution framework by end-December 2014, or apply the new measures from January 1, 2015 (bail-in rules by January 1, 2016 at the latest). In response, the Italian government (having been empowered by parliament to do so) passed the so-called Resolution Decree¹⁸ as a stand-alone legal instrument that includes the core of the BRRD framework— i.e., resolution planning, opening and closing of resolution procedures, resolution tools, arrangements for cross-border cooperation, safeguards, and provisions on resolution funding. The regime was further impacted by the establishment of the SRM, the new system for bank resolution in the Banking Union (BU) that centralizes decision-making pertaining to the resolution of (i) SIs; (ii) banks that are supervised directly by the ECB (which can include LSIs); and (iii) cross-border banking groups that are active in at least two different members of the BU. The SRM Regulation¹⁹ also created the SRB as the BU’s central resolution authority, as well as the Single Resolution Fund (SRF). With the exception of four regional banks that were intervened in November 2015, prior to the entry into force of the bail-in requirements, the euro area’s unitary regime for bank resolution has not yet been utilized in Italy.

36. The SRB is in charge of resolution planning and execution for Italian SIs. As of January 2019, the SRB holds direct responsibilities for 12 Italian banks, i.e., 11 SIs and 1 cross-border group that is classified as LSI²⁰. For these banks, resolution would be initiated via the determination by the ECB that a bank is “failing or likely to fail” (FOLTF), followed by an assessment by the SRB of whether (i) there is potential existence of alternative solutions (i.e., private sector solutions or supervisory actions) that could restore the bank to viability; and (ii) resolution is necessary in the public interest (if not, failing banks are to be wound up under normal insolvency proceedings). Upon the SRB’s determination that a bank meets the conditions for resolution, it will adopt a resolution scheme that identifies the resolution tool(s) to be used, as well as the potential utilization of the SRF (in which case an assessment by DG-COMP of the compatibility with state aid rules would be necessary). The BdI, in its capacity as NRA, would be closely involved in the preparation and adoption of resolution schemes for Italian banks. Unless the EC or Council of the European Union formally objects to the SRB’s resolution scheme, it will be executed by the competent NRA. The Banca d’Italia would need to implement the resolution scheme of SRB by issuing implementation orders.

37. Events surrounding two Italian SIs in 2017 have illustrated the regime’s complexities. During 2015–2017, Banca Popolare di Vicenza (BPV) and Veneto Banca (VB) experienced substantial financial difficulties, driven by idiosyncratic weaknesses and adverse economic conditions. While the ECB made the FOLTF determination in June 2017, the banks were not placed in resolution because the SRB found that the “public interest” test was not met—given that the banks did not provide critical functions and their failure was not expected to have significant adverse impact on financial stability at large. Accordingly, the BdI requested the initiation of liquidation proceedings under domestic law, with the government approving a decree-law providing up to EUR 16.8 billion in liquidation support (Box 3). While the operation was successfully completed via a transfer of (part of) the banks’ assets and liabilities to another institution, the proceedings highlighted various challenges with the current resolution framework for the euro area.

• Public interest test. Ambiguity on the public interest test generates uncertainty as to the availability of resolution powers. Diverging approaches in resolution and state aid proceedings allow for misalignments, with the latter providing scope for liquidation aid to prevent a serious disturbance of the real economy at local level, notwithstanding the SRB’s conclusion that the banks’ failure was not likely to pose significant adverse effects on financial stability at national level.

• Planning. The non-availability of resolution instruments required immediate negotiations with third parties to effect a sale in liquidation at a time when market conditions for bank assets were unfavorable. A longer timeframe for preparations, by pre-scheduling decisions on resolution and/or liquidation, can help produce better outcomes.

• Bank-sovereign linkages. The handling of the failure of BPV and VB confirms that further efforts remain necessary to attenuate the bank-sovereign nexus. With the banks not having been placed in resolution, the SRF was not available to cover resolution costs and the Italian government incurred substantial fiscal costs through the provision of liquidation aid (notwithstanding the BRRD’s objective to obviate as much as possible the use of taxpayers’ funds to save failing institutions). In the medium-term, a unified bank liquidation regime, supported by a common DGS, could help address this.

38. The new domestic resolution regime provides the BdI with a comprehensive set of resolution powers. Where conditions for initiating resolution have been met, the BdI (subject to approval by the minister) can deploy an extensive set of powers to effect orderly resolution. Among others, it can remove and replace bank management; appoint special managers that take control of the bank; control and operate the failing bank; ensure continuity of essential services and functions; override shareholder rights; transfer and sell assets and liabilities; create and operate bridge banks; establish an asset management vehicle and manage distressed assets of the failing bank; carry out a bail-in; temporarily stay early termination rights; and impose temporary payment moratoria. In applying the various powers, the BdI is expected to (i) allocate losses to shareholders and creditors in accordance with the creditor hierarchy (exceptions to pari passu treatment are provided for); (ii) ensure that no creditor incurs greater losses in resolution than in liquidation (“no creditor worse off” principle); (iii) fully protect insured deposits; and (iv) ensure that resolution decisions are taken on the basis of fair, prudent, and realistic valuations. Subject to certain conditions, resolution actions can be taken against holding companies, group entities, and branches of non-EU banks.

39. Criteria for initiation of resolution under the domestic regime (applicable to LSIs) are sufficiently flexible. Similar to the BRRD, resolution is to be initiated when the BdI determines that a bank is FOLTF, and that there is no reasonable prospect that alternative measures (including private sector measures or other supervisory actions) can overcome this situation. When both conditions are met, the BdI (in its capacity as NRA) can executes a “restorative” write-down or conversion of shares and/or capital instruments (including additional Tier 1 and Tier 2 capital) if this will prevent the failure of the bank. If this is not sufficient to rehabilitate the bank, the BdI would (i) initiate a resolution procedure if this is deemed to be in the public interest; and otherwise (ii) place the bank in compulsory administrative liquidation (Figure 1). Criteria for determining FOLTF cover regulatory breaches that are sufficiently material to justify license revocation; capital losses that deplete or significantly erode capital buffers; situations that cause liabilities to exceed assets; and the inability to pay outstanding obligations at maturity. Resolution can be initiated before balance sheet insolvency (i.e., can be applied if the aforementioned situations are expected to occur in the near future), and does not require the preceding application of early intervention measures.

40. The new resolution powers were tested in November 2015, when four regional banks were intervened. Between 2013 and 2015, four regional banks (Banca Marche, Banca dell’Etruria e del Lazio, Cassa di Risparmio di Ferrara, and Cassa di Risparmio della Provincia di Chieti) that had been placed under administration were struggling to identify effective rehabilitation options. Capital had been substantially eroded but intervention measures involving private funds were not implemented as the EC concluded that the envisaged capital support from the FITD would comprise state aid and, therefore, that the banks should have been placed in resolution under the BRRD. In response, resolution schemes were designed—and implemented in November 2015, prior to the entry into force of the bail-in requirements—that transferred the banks’ sustainable operations (branches, assets, and liabilities, with the exception of shareholder capital and subordinated debt) to bridge banks, capitalized by the NRF.²¹ The schemes also entailed that NPLs were transferred to an asset management company established by the BdI; and the four original banks were placed in liquidation.

41. The resolution scheme for the four banks helped safeguard financial stability, but at substantial cost. Given the authorities’ decision to protect all senior creditors, including uninsured depositors, the NRF (funded by the Italian banking system) was asked to contribute approximately EUR 3.7billion to cover capital needs of the bridge banks and the asset management company as well as the negative difference between assets and liabilities transferred. The sale of the bridge banks to UBI Banca and BPER Banca, respectively, generated further outlays that prompted the NRA to call up additional contributions from the domestic banking system.

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Italy: Initiation of Resolution Proceedings

Citation: IMF Staff Country Reports 2020, 235; 10.5089/9781513552163.002.A001

Notes:1. A FOLTF determination would typically be initiated by the Directorate General for Financial Supervision and Regulation, in its capacity as NCA, but the RCMU (as NCA) is duly empowered to (also) make an FOLTF determination if it deems this necessary in view of inaction by the BdI’s supervisory function.2. The commencement of resolution proceedings, or initiation of a restorative write-down and conversion, need to be preceded by a “fair, prudent, and realistic” valuation of the entity’s assets and liabilities. The valuation is to be performed by an independent expert, appointed by the BdI and should confirm that the conditions for initiating resolution (or conducting a write-down and conversion) are met. In case of urgency, actions can be initiated based on a provisional valuation, to be conducted by the BdI or a special administrator. Provisional valuations should be followed as soon as possible by an external valuation that includes a properly substantiated estimate of further losses.3. Public interest has been defined as “necessary and proportionate for achieving one or more of the resolution objectives” stated in the Resolution Decree (in short, continuity of critical functions, safeguarding of financial stability, containment of costs borne by public finances, protection of depositors and investors covered by guarantee or compensation schemes and protection of customers’ funds and other assets). Resolution is only deemed to be in the public interest if compulsory administrative liquidation would not make it possible to achieve these objectives to the same extent.

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42. The resolution of the four banks highlighted the challenges associated with retail investments in subordinated debt instruments. In line with state aid rules, the resolution schemes sought to impose losses on subordinated debt, which included large numbers of retail investors (in part incentivized by the then favorable tax treatment). Public controversy about this form of loss allocation, fueled by mis-selling concerns, led to the establishment of various compensation schemes that risk increasing moral hazard (Box 4). The introduction of more stringent market-conduct rules as part of the implementation of MiFID II has substantially curbed mis-selling risks, and the steady decline of the stock of bond holdings by retail investors makes contagion currently much less likely.²² However, the authorities need to remain cognizant of the treatment of retail investors in resolution and carefully consider the credibility and feasibility of resolution strategies that involve bail-in. Should the presence of retail investors be deemed an impediment to effective resolution, mitigants will need to be pursued during the resolution planning stage. These may include the issuance of additional bail-in able instruments to other investors.²³

B. Resolution Planning and Resolvability Assessments

43. Resolution plans for Italian SIs and cross-border groups are being managed at SRB-level. In accordance with the SRM Regulation, resolution planning activities for entities under the remit of the SRB are carried out with Internal Resolution Teams (IRT), coordinated by the SRB, and composed of SRB staff and representatives from NRAs. For Italy, 12 groups are subject to resolution planning of the SRB, i.e., 11 SIs and 1 cross-border LSI.²⁴ Most of these institutions have gone through multiple (annual) resolution planning processes, with BdI staff participating in the respective IRTs.

44. The preparation of resolution plans for LSIs is off to a good start. Resolution planning for Italian LSIs (and investment firms) started in the second half of 2017, following the conclusion of the resolution actions for the four banks that were initiated in 2015. Currently, there are about 130 LSIs under the BdI’s remit, with assets representing about 10 percent of the total banking system; most have assets below EUR 1 billion, but 25 have assets between EUR 10 and EUR 25 billion.²⁵ The LSIs are focused largely on traditional banking business, but some specialized activities (e.g., payment services) warrants close attention in resolution planning. Resolution plans are prepared by the RCMU based on supervisory data and information sourced directly from the institutions. The planning process envisages consultation with the BdI’s supervisory function (and CONSOB, for investment firms). Upon approval by the BdI’s Governing Board, plans are shared with the SRB for its opinion. Plans prepared thus far cover about 50 percent of the LSIs total assets, with the completion of plans for all institutions foreseen by 2020.

45. Efforts to establish loss-absorbing capacity via minimum requirement for own funds and eligible liabilities (MREL), an important component of effective resolution plans, are ongoing for SIs. Binding bank-specific targets are gradually being introduced by the SRB, with increasing attention to the location of MREL in banking groups. Notwithstanding transition periods of up to four years, achieving MREL targets is expected to be challenging, due to limited depth of the internal capital market and implications for bank funding costs. The BdI, for example, estimated that the implementation of MREL could increase banks’ average cost of funding (around 70 bps in June 2017) by between 10 and 30 basis points, possibly reducing banks’ operating income by 2 percent to 8 percent.²⁶ The BdI has not yet set any MREL targets for LSIs, pending further analysis of the “public interest” test that underpins decisions on the initiation of resolution proceedings. In conducting this analysis, the BdI is assessing the regional presence of the LSIs, as well as possible contagion effects.²⁷

46. The BdI is empowered to conduct resolvability assessments and impose measures that seek to overcome impediments to resolvability. The Resolution Decree specifically tasks the BdI with assessing whether banks or banking groups under its remit are resolvable, with “resolvability” being defined as the ability to place the bank in resolution or liquidation, with a view to ensuring the continuity of critical functions, while minimizing negative repercussions for the financial system in Italy, other member states or the European Union. If material impediments to resolvability are being identified, the BdI shall request the relevant bank to identify corrective actions and submit these for approval to the BdI. If the actions are deemed insufficient, the BdI may impose alternative measures, considering their possible impact on the bank’s business, stability, and its ability to contribute to the economic system, as well as its impact on the domestic market for financial services and financial stability of other member states and the European Union. Such measures can include changes to the legal form or organizational structure of the bank (or banking group) to reduce complexity and ensure severability of critical functions; the mandatory establishment of a holding company structure; the issuance of MREL; the adoption (or amendment) of intragroup financial agreements; establishment of agreements to perform critical functions; the transfer or disposal of assets; and the limitation and suspension of ceasing of new or existing activities.

47. Preliminary resolvability assessments for LSIs will need to be expanded as resolution plans are refined. To date, the BdI’s technical work has focused on its ability to effect orderly wind-downs via liquidation, rather than using resolution tools. However, as noted below, the feasibility thereof hinges on the ability to effect a transfer of assets and liabilities, as the Italian authorities strongly prefer to avoid so-called ‘atomistic’ liquidations—whereby the ordinary business of the entity is interrupted and assets are divested in a piecemeal fashion.²⁸ More granular analysis of potential impediments to the envisaged strategies will be important to ensure their feasibility without reliance on public funding/liquidation aid.

C. Capacity Building

48. Experiences gained through the resolution of the four banks have become a benchmark for the preparation of internal procedures and manuals. Among others, the exercise required the RCMU to define resolution schemes for the four banks, taking into account the ‘no creditor worse off’ safeguard; conduct provisional valuations based on available accounting data for the banks (which proved reasonably close to the external valuations that were performed after execution of the resolution schemes); prepare a large number of legislative and administrative acts; engage and interact with external experts (lawyers, accountants, etc.); establish bridge banks and vet their Board members; coordinate with other BdI departments, participants of the domestic safety net and EU agencies (SRB, ECB, DG-Comp); enable the carve-out of NPLs; and manage the divestiture of the bridge banks. Altogether, the resolutions involved more than 50 individuals (excluding administrators, liquidators, and management of the bridge banks).

49. The development of a national resolution handbook is informed by the development of policy documents and templates at SRB level. The preparation of a Resolution Planning Manual and Crisis Governance Handbook at SRB level, envisaged to provide guidance to the SRM’s IRTs, is providing important input for the BdI’s national resolution handbook that seeks to “regulate” its operational processes for resolution and crisis management. The handbook, which is expected to be finalized by mid-2020 (in line with the new SRB timeline), will provide operational step documents for (i) the national implementation of SRB decisions for SIs; (ii) the use of resolution tools for LSIs; and (iii) national bank liquidation proceedings. The RCMU, together with the SRB, has initiated engagement with Italian SIs on prospective implementation of bail-in powers, including the banks’ capabilities for providing pertinent information on a timely basis. In order to better understand information needs for the operational execution of bail-in powers, discussions with Monte Titoli (the Italian central securities depository) have recently also been initiated.

D. Compulsory Administrative Liquidation

50. Failing banks that do not meet the condition for resolution can be liquidated via a special insolvency regime. The TUB prescribes that if a bank is (i) failing or likely to fail; (ii) there is no reasonable prospect of overcoming the (likely) failure on a timely basis via other measures; but initiating a resolution proceeding is not deemed to be in the public interest, the bank can be put into compulsory administrative liquidation (CAL).²⁹ The process is initiated via the issuance of a decree by the Minister of Economy and Finance, acting on a proposal of the BdI. Bank of Italy could also issue a proposal to initiate CAL following a reasoned request from the bank’s management bodies, extraordinary shareholder meeting, or special administrator (if the administrator finds that the bank cannot be rehabilitated) or voluntary liquidator. Initiation of a CAL procedure crystalizes the obligation for DGS to reimburse insured deposits or support a transfer of assets and liabilities on a ‘least cost’ basis. ³⁰

51. CAL is a flexible process that has been used repeatedly to effect orderly exits of distressed banks. The triggers for initiating CAL have been aligned with those for resolution, i.e., initiation of the procedure requires an FOLTF determination, as well as an assessment that there is no reasonable prospect of overcoming the failure via alternative measures (i.e., private-sector transactions and other supervisory instruments). Proceedings are managed by one or more liquidators who operate under the auspices of an oversight committee of three to five members, with the BdI appointing and supervising the relevant individuals without court involvement. Liquidators (with the support of the oversight committee and subject to authorization of the BdI) can manage all the assets of the bank under liquidation; may assign liabilities to a third party; and can initiate legal proceedings against the former management, control bodies, auditors, and shareholders. The functions of the management and control bodies, general meetings and every other governing body of the bank shall cease. Liquidators may also engage third parties (accountants, lawyers, etc.), can continue the operations of the bank if that is needed to maximize recoveries, and can borrow funds (using the banks’ assets as security) for the purpose of settling duly recognized claims. During the past 5 years, 15 banks have been liquidated via CAL.

52. The BdI has ample discretion when selecting liquidators and determining their remuneration. Selection criteria are not prescribed by law but included in a BdI guideline. Among others, they relate to expertise and trustworthiness of the individual(s), the size and complexity of the bank under liquidation, and the need to avoid conflicts of interest. The BdI seeks to achieve a rotation of liquidators to prevent overreliance on select individuals. Candidates are vetted by the BdI upon their application and entered into an internal database that is updated based on their performance. The BdI has complete discretion to remove or replace liquidators and members of the Oversight Committee; and to determine their remuneration (which is partly performance-based).³¹

53. The 2015 amendments of the TUB have introduced important refinements. Under the Bankruptcy Law, creditors may offset receivables (even if not yet matured) against amounts of their obligations. The 2015 amendments, however, limited this to instances in which the set-off is claimed before initiation of CAL, so that creditors subject to bail-in in resolution can no longer claim that they are made worse off than they would have been in liquidation (when set-off would reduce their losses). Moreover, the authorities introduced a multi-tiered depositor preference regime (Box 5).

^{Box 5.}

Evolution of the Creditor Hierarchy in Italy

The 2015 amendments of the TUB envisaged the introduction of a tiered deposit preference system, among others to offer enhanced protection to depositors (thus reducing “run risk”) and enable differentiated treatment of creditors in resolution and liquidation proceedings (the 2013 FSAP found that the authorities’ of insured depositor preference would allow for cost-effective resolution transactions by justifying differential treatment of certain creditor classes as part of the resolution scheme). Note that liquidation expenses are to be settled prior to the restitution of the claims of other creditors, as per the applicable hierarchy below.

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When introducing the regime for depositor preference, the authorities decised to cover all deposits on a tiered basis, albeit in part with a deferred implemenation date (i.e., January 1, 2019 for uninsured deposits that are not held by individuals and micro, small and medium-sized enterprises). With this approach, the authorities sought to reduce the loss potential for all depositors and facilitate bail-in as senior creditors would no longer rank pari passu with depositors (reducing the risk of “no creditor worse off” challenges).

The approach taken by the Italian legislator aligns well with IMF staff’s suggestion in the recent Euro Area FSAP to introduce a general (tiered) depositor preference regime (see IMF Country Report No. 18/232). That being said, the impact on funding markets of the extended preference will need to be closely monitored in view of potential increases in wholesale funding costs and enhanced collateralization demands from senior creditors (which could limit subsequent resolution options).

54. CAL has been used repeatedly to address problem banks. As noted, the Italian authorities prefer to effect orderly market exits whereby all senior creditors (including uninsured depositors) are protected via a sale of assets and liabilities, to avoid contagion and prevent a sudden interruption of banking activities and a loss of value if assets would be liquidated in an ‘atomistic’ fashion (whereby assets are divested over a prolonged period). The transfers effectively protect the vast majority of creditors, with funds from the DGS (subject to passing the least cost test) or in exceptional cases the government budget (e.g., in case of the two Veneto banks) being used to cover the gap between assets and liabilities; in practice, this can result in (senior) creditors being better off in liquidation than in resolution under the euro area’s unitary regime for bank resolution (which prescribes stricter burden-sharing requirements). As noted later in this note, such transactions are beneficial for depositors as they retain continuous access to their funds (which is not the case with insured deposit payouts). However, they hinge on the availability of a purchaser (in the absence of which an atomistic liquidation would become unavoidable) and require strict observance of the least cost test to protect DGS resources. To the extent that a least cost DGS contribution would be insufficient to cover the gap, losses would need to be assigned in accordance with the creditor hierarchy—with depositors now benefitting from the multi-tiered depositor preference regime. The use of public funds to protect senior creditors is difficult to justify except in case of systemic shocks (in which case, inherently, the use of resolution tools is likely more efficacious than liquidation).

55. In 2018, a new scheme was introduced to facilitate the liquidation of small banks. The objective of the scheme is to establish a framework for financial support from the DGS to facilitate the market exit of small, non-viable banks (assets below EUR 3 billion) via a sale of assets and liabilities under national proceedings. It envisages (i) a decision by the BdI that an eligible institution is an FOLTF; (ii) a determination that there are no reasonable prospects that alternative private solutions or supervisory measures will prevent the bank’s failure; and (iii) an assessment that resolution actions would not be in the public interest. Upon meeting these three conditions, the bank would be placed in CAL, with the liquidator handling the sale of assets and liabilities. However, since financial contributions from the DGS (to cover the difference between assets and liabilities on a least cost basis) were seen as imputable to the Italian government, such support would need to be notified to the EC for an assessment of compatibility with state aid rules. By obtaining EC approval for the scheme, subsequent notifications of individual transactions would no longer be necessary. In 2018, the scheme was used to effect the wind-down of Banca Sviluppo Economico (Banca Base), with Banca Agricola Popolare di Ragusa acquiring its assets and liabilities. The transaction was supported by a contribution of EUR 4.5 million from the FITD. The scheme was in place until April 2019 but has not been renewed, among others in consideration of the General Court of the European Union’s ruling that support measures adopted by FITD did not constitute state aid (see paragraph 66 below).³²

A. Deposit Guarantee Schemes

56. The Italian deposit guarantee system consists of two private consortia, covering all banks active in Italy. The FITD was originally established in 1987 and offers protection to the depositors of all commercial banks, except for those of (i) Italian mutual banks; and (ii) branches authorized in Italy that already participate in an equivalent scheme in their home country. The other DGS, the Deposit Guarantee Fund of the Cooperative Credit (FGD) was created in 1997 out of the Central Fund for the Guarantee of Rural and Artisan Banks that has been in existence in 1978. Banks may withdraw from the schemes, e.g., in case of voluntary dissolution, mergers or envisaged participation in another scheme, but they are not allowed to operate without DGS protection in place. In case of exceptionally serious non-compliance with statutory obligations, banks can be excluded from the schemes, subject to BdI’s consent, but such exclusion entails revocation of the authorization to pursue banking activities.

57. Both DGSs are established as private law consortia, supervised by the BdI. The activities and organization of the schemes are governed by their respective Statutes, adopted by their general meetings and approved by the BdI, in its capacity of their supervisor. They are primarily entrusted with the repayment of insured deposits in case of the commencement of an administrative liquidation proceeding under the Consolidated Law on Banking. However, their mandate is broadly worded and also allows for (i) “alternative interventions”, i.e., the provision of financial contributions to asset and liability transfers within a compulsory administrative liquidation; and (ii) “preventive interventions,”, that seek to prevent the failure of a credit institution through the provision of financing, guarantees, equity investments or acquisitions of assets and/or liabilities. Both options require a determination that the amounts involved would not exceed the costs that the scheme is expected to incur in case of a payout (least cost test).

58. In keeping with their establishment as private consortia, the schemes’ governance structures are prescribed by their respective statutes and bylaws. In case of the FITD, all member banks participate in the General Meeting, which appoints the Chairman and the members of the Board of Directors, Executive Committee, and Board of Auditors. The General Meeting also approves financial statements, appoints external auditors, and decides on amendments of the statutes and bylaws (subject to BdI approval). The Board of Directors (comprised of senior management of the affiliated banks) decides on, among others, the accession and exclusion of member banks, the amount of ordinary and extraordinary contributions to be levied, and measures to prevent the failure of a member bank. The Executive Committee, in turn, decides on (among others) the implementation of deposit payouts and asset and liability transfers, establishes investment guidelines, and oversees the FITD’s day-to-day management (as conducted by the Executive Director). For the FGD, a similar but somewhat simpler governance structure is in place, comprised of the General Meeting, the Board of Directors, and a Board of Auditors.

59. Extensive involvement of the private sector raises concern, notwithstanding steps taken in recent years to strengthen the DGS’ operational independence. To foster alignment of the FITD’s governance with international standards, it has sought to buttress independence via the appointment of an independent chairman (who precedes over the General Meeting, the Board of Directors and the Executive Committee); the allocation of day-to-day management responsibilities to an independent Executive Director; and the adoption of an extensive code of ethics that, among others, deals with conflicts of interest,³³ and penalties in case of noncompliance. Confidentiality requirements are prescribed in the legal framework and elaborated in the DGS’ statutes. But while these safeguards are welcome, they do not fully compensate for the fact that key decisions are currently attributed to industry representatives (e.g., the specification of appropriate funding targets, factoring in the statutory minimum; financial contributions to be paid by the associated banks, etc.).

60. Coverage is set at EUR 100,000 per depositor per bank, in line with EU requirements. Pursuant to the EU DGS Directive,³⁴ the DGS cover repayable funds acquired by banks in the form of deposits or other forms, except those explicitly excluded (e.g., deposits made by other financial institutions for their own account; own funds; deposits arising out of transactions in connection with which there has been a criminal conviction; deposits from depositors that have not been identified for AML/CFT purposes; and debt securities and liabilities arising out of own acceptances, promissory notes, and securities). Electronic money (“E-money”) is also not eligible for protection. Coverage applies equally to euro and foreign currency deposits, with repayments being made in euro (if necessary, via conversion of foreign currency using the exchange rate at the date of adoption of the compulsory administrative liquidation decree) or the currency of the member state where the account holder is resident. As of December 2018, insured deposits comprised about EUR 699 billion (out of a total of EUR 1,060 billion).

61. The introduction of an ex ante funding model as of 2017 addresses an important recommendation of the 2013 FSAP, but the DGS’ target size may prove insufficient for dealing with a large LSI or series of smaller, simultaneous failures. The accumulation of contributions from the associated banks, proportionate to their deposit base and risk profile should, in due course, provide the DGS with a stable funding base to cover potential outlays. But while the TUB (in line with the EU DGS Directive) prescribes a minimum target level of 0.8 percent of insured deposits, the Italian DGS have not sought to determine whether this level is adequate, factoring in country-specific circumstances. The collection of industry contributions started in 2017 and as of end-December 2018, the two DGS had collected about EUR 1.66 billion (approximately 0.24 percent of total insured deposits). The DGS have prepared funding plans to achieve the current targets by 2024, as per EU requirements, but these targets may not prove sufficient to cover the stand-alone failure of a large LSI, or to handle multiple smaller failures occurring simultaneously.³⁵ The ability of the schemes to levy extraordinary contributions cannot fully compensate for this, as such contributions are highly procyclical and risk weakening the banking system at large if they are activated at times of stress.

62. Backstop arrangements should be further strengthened. If the DGS are called upon to repay insured deposits and available financial means are insufficient, affiliated banks can be required to pay extraordinary contributions—normally not exceeding 0.5 percent of their insured deposits per calendar year but higher, with the consent of the Bank of Italy, in exceptional circumstances. However, mobilizing such extraordinary contributions may not yield the necessary resources quickly enough for the DGS to promptly repay depositors. Emergency funding arrangements can address this, but neither of the two DGS currently benefits from a back-up funding line from the Italian authorities (ideally the government, given the public policy objective of protecting insured depositors).³⁶ Borrowing from, and lending to, the DGS in other member states is allowed under Italian legislation and the FITD and the FGD can borrow from other financial institutions, but (i) it is unlikely that such borrowings can be arranged timely enough to comply with mandatory payout periods, especially at times of stress; (ii) the absence of state guarantees may hamper efforts to secure large amounts at reasonable cost; and (iii) operational arrangements with other DGS and/or financial institutions have not yet been confirmed.

63. The FITD has adequate capacity to ensure timely payouts, but further efforts are needed to speed up payouts by the FGD. While the Decree (Legislative Decree 30/2016) that transposes the EU DGS Directive (2014/49/EU) allows for a gradual transition toward the international standard of a payout period of seven working days by 2023,³⁷ the FITD already meets this standard (without any transition period). Single Customer View (SCV) requirements have been established and the FITD has confirmed its operational ability to discharge its responsibilities within a timeframe through a stress testing program, run under the supervision of a steering team (including the BdI as external observer). The FGD is undertaking similar stress tests but has opted for the aforementioned transition period in its statute, implying a 15-day payout period until end-2020, a 10-day payout period from January 2021 to end-2023, and a 7-day payout period from January 2024 onward. To foster compliance with international best practices, the FGD should expedite the introduction of a seven-day payout period.

64. The Italian DGSs have substantial experience with asset and liability transfers, conducted in lieu of payouts on a ‘least cost’ basis. Cross-country experiences confirm that transfers of (insured) deposits and good assets, subject to a least cost test, provide the most efficacious way of addressing distressed banks. Depositors’ access to their funds is not interrupted, as their funds will be available instantaneously at the branches and ATMs of the assuming bank; going-concern valuations of productive assets are preserved; and liquidation costs are reduced. With proper preparations (including bidding procedures, vetting of potential acquirers, and contract negotiations), deposit transfers can typically be executed over the course of a weekend, enabling seamless servicing of clients at the start of the next business day. Since its establishment, the FITD has participated in 12 bank interventions for a total amount of EUR 1.25 billion, with only two operations involving payouts of insured deposits. The FGD has a similar track-record (Figure 2).

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Italy: DGS Operations as of June 2019

Citation: IMF Staff Country Reports 2020, 235; 10.5089/9781513552163.002.A001

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65. Due to state aid restrictions, support operations for distressed banks (’open bank assistance’) in recent years have been conducted via the voluntary intervention scheme of the FITD that seeks to avoid state aid requirements. The scheme was founded in 2015, following the decision by the EC that the provision of financial support by the FITD to a bank under administration (Banca Tercas) constituted unlawful state aid (Box 6).³⁸ The scheme operates as an autonomous legal entity with its own governance, distinct from that of the FITD. Membership by the commercial banks is voluntary and resources are collected on an ex post basis.³⁹ The scheme is designed as a preventive instrument that seeks to provide support (e.g., provision of financing, guarantees, capital support or acquisitions of assets and/or liabilities) to distressed banks, with the aim to facilitate their recovery. Governance of the scheme and scope of its interventions are governed by its statutes that, among others, prescribe that the costs of its interventions cannot exceed the costs that would be incurred by the FITD in case of a payout.⁴⁰ After an amendment of the scheme’s statutes in 2018, it can no longer be used in liquidation proceedings and the scheme is prohibited from assuming control over supported institutions (in case of share purchases, control would need to be assumed by a third-party that acts alongside the scheme). As of end-2018, the scheme had carried out five interventions, for a total amount of almost EUR 1.4 billion.⁴¹

66. Notwithstanding the Tercas ruling, asset and liability transfers funded by DGS and subject to certain safeguards, should be presumed compatible with state aid. Despite tangible benefits of asset and liability transfers, potential acquirers are likely to be dissuaded from entering into such a transaction if they face state aid conditionality that is perceived to be burdensome. The ECJ’s decision (if not overturned) could enable similar transactions for the privately-administered DGS in Italy, but not for public sector DGS, thus leaving in place a considerable barrier to (the funding of) deposit transfers in the EU context. Given that such transactions achieve a similar outcome as straight reimbursements of insured depositors (which are already explicitly excluded from state-aid rules), it should, at a minimum, be clarified in the 2013 Banking Communication that such transfers, subject to certain safeguards, would be considered compatible with state aid rules. In addition to a least cost requirement, conditions should seek to ensure fair bidding procedures to ward off competitive distortions; and prevent restrictions on depositors that prefer to withdraw their funds (including term deposits that were entered into before execution of the transaction) upon the transfer to the assuming bank.⁴²

67. Irrespective of state aid conditionality, IMF staff holds the view that the use of DGS funds for failure prevention operations should be avoided as much as possible. While such operations, subject to certain conditions, are compatible with the DGS Directive⁴³ and have been used repeatedly by the Italian DGS to address weaknesses in smaller banks,⁴⁴ cross-country experiences suggest that they are seldom the least costly form of resolution—with business plans from problem banks often being overly optimistic, long-term losses typically exceeding those identified during the due diligence phase and moral hazard risks potentially distorting market incentives. Whenever possible, transfers of deposits and good assets, supported by DGS financing as needed, can provide a superior (and generally less risky) option for dealing with distressed banks, with nonperforming loans being effectively segregated through the receivership.

68. Various channels exist to foster public awareness about the benefits and limitations of the Italian DGS. In line with the EU’s DGS Directive, banks are required to identify the DGS with which they are affiliated and provide (prospective) depositors with sufficient information on the modalities of the DGS protection. Communications with clients should include confirmations that deposits are insured and information on DGS protection should be included in new savings contracts (using the standard template annexed to the DGS Directive). The DGSs, in turn, are maintaining informative websites, including audited financial accounts, frequently asked questions, information about the schemes’ governance, relevant legislation, and legal documents (e.g., statutes, code of ethics) and (in case of the FITD) information on the voluntary intervention scheme. The FITD has developed a communications and public awareness program, including an online survey to test the public’s familiarity with the protection offered by the scheme. At the time of the mission, a comprehensive communications strategy, including periodic third-party evaluations, was being developed.

B. Resolution Funding

69. Funding arrangements fulfill an essential function in effective bank resolution regimes. Resolution authorities may require funding at different stages in the resolution process, e.g., to capitalize bridge banks; contribute resources to facilitate a transfer of (insured) deposits to a healthy bank; and to provide liquidity to firms in resolution so that critical functions can be maintained. Guided by the principle that the banking industry, rather than the taxpayer, should ultimately shoulder the burden of resolution, the KA prescribe two stylized options, i.e., (i) the creation of resolution funds (or a deposit guarantee scheme that is mandated to support resolution actions), financed via ex ante contributions from the banking industry; and (ii) the provision of temporary public funding with ex post recovery from the banking industry.⁴⁵

70. The NRF was established in 2015, in line with EU requirements. The NRF is administered by the BdI in its capacity as NRA but has its own capital (duly segregated from that of the BdI) and maintains its own set of financial accounts. Prior to the establishment of the SRF, the BdI has full control over the use of NRF resources in resolution actions. Permissible activities of the NRF include guaranteeing assets or liabilities of, or acquiring assets from, institutions under resolution; lending to such institutions; capitalize bridge banks and asset management companies; and pay compensation as per the “no creditor worse off” safeguard; with the caveat that the NFR is precluded from absorbing losses or recapitalizing institutions under resolution. The administration of the NRF is overseen by the BdI’s Board of Auditors and its financial statements (published on the BdI website) are subject to independent audits.

71. The NRF was called upon in November 2015 to fund the resolution of Banca della Marche, Banca Popolare dell’Etruria e del Lazio, Cassa di Risparmio di Ferrara, and Cassa di Risparmio della Provincia di Chieti. Confronted with substantial outlays, the NRF obtained a bridge loan from leading Italian banks of EUR 3.9 billion, which has been partially repaid through additional contributions from Italian banks. In 2016, the NRF incurred additional outlays related to the sale of the four bridge banks (e.g., recapitalization costs, outlays associated with the sale of NPLs). As a result, the NRF’s endowment fund is currently reporting a negative balance, which is to be gradually recovered through industry contributions.⁴⁶

72. Contributions raised at the national level are gradually being pooled in the SRF, established as part of the SRM Regulation.⁴⁷ The SRF, an essential element of the SRM, seeks to diminish the link between national sovereigns and banking sectors, while fostering uniform administrative practices in the financing of resolution. It is envisaged to be built up over an eight-year period, starting from January 2016, to reach a target level of at least 1 percent of insured deposits of all credit instructions in the BU by December 2023. At the end of the transition period, the SRF is expected to hold around EUR 55 billion, approximately 10 percent of which will have been contributed by Italian banks. Initially, the SRF (which is managed by the SRB) will consist of national “compartments” that will be used to fund resolution actions which respect to banks from the relevant member states; but these compartments will progressively be merged and will cease to exist at the end of the transition period.⁴⁸ Similar to other member states, Italy has (i) transferred contributions raised at national level to the SRF (about EUR 2.3 billion at end-2018) and (ii) concluded Loan Facility Agreement with the SRB that can be called upon in case demand on the national compartment exceeds available resources. Following the establishment of the SRF, the NRF is no longer available as a source for resolution funding.

73. Further attention should be given to institutions’ liquidity needs in resolution. Recapitalization of distressed institutions, while necessary for orderly resolution, is not sufficient to ensure continuity of critical functions if private sector funding is not readily available. Heightened uncertainty following initiation of resolution proceedings due to market volatility, information asymmetries, and a broader loss of confidence can undermine institutions’ access to market funding, and thus undermine effective implementation of the resolution strategy. To alleviate these risks, banks should maintain processes for monitoring, forecasting, and reporting their liquidity needs in resolution, and identifying and mobilizing additional sources of funding, including the identification of unencumbered assets that can be mobilized as collateral. These aspects should be explored in further detail, together with the competent EU authorities, as resolution planning for LSIs under the BdI’s remit progresses. In accordance with FSB guidance, resolution plans for at least systemically important banks should include the overall strategy, key actions and measures that would be employed to address liquidity stress in resolution—which may include recourse to central bank liquidity support.⁴⁹

A. Official Financial Support

74. Italian legislation does not include government financial stabilization tools, as envisaged in the BRRD. The decision to exclude such tools (i.e., arrangements for providing equity support to distressed institutions, or place such instruments) seeks to avoid moral hazard and ensure that resolution objectives are not undermined. If such support were needed, an emergency decree might be considered, but such measures should only be considered under exceptional circumstances, given the need to safeguard public finances.

75. A policy instrument that has been utilized, however, is precautionary recapitalization, available under the BRRD to address serious disturbances in the economy and preserve financial stability. Precautionary recapitalization can be seen as an exception to the principle that banks receiving extraordinary public support are deemed ‘failing or likely to fail’ and thus should undergo resolution or liquidation. Instead, the framework allows for the injection of own funds in, and purchase of capital instruments issued by, solvent institutions to address prospective capital shortfalls identified in forward-looking stress tests or equivalent exercises. Such support, however, need to be geared toward remedying a serious disturbance in the economy of a member state (thus setting a high bar for the use of precautionary recapitalization), and the instrument cannot be used to offset losses that have already incurred or are likely to be incurred in the near future. Since precautionary recapitalizations imply public support to a private undertaking, they constitute state aid that must be approved by the EC. In December 2016, the government introduced a legal framework on precautionary recapitalization that was used to provide support to Monte dei Paschi di Siena in July 2017; a similar Decree Law was issued for Banca Carige in January 2019.⁵⁰

76. While the support measures helped the authorities overcome financial stability risks, such measures need to be balanced against the need to safeguard public finances. In principle, public solvency support outside resolution (“open bank assistance”) should be seen as a last resort measure, given that such transactions typically fail to pass the least cost test (in part due to underestimation of losses of distressed banks) and skew incentives as banks engage in increasingly risky activities as expectations of prospective support take hold. The exceptional nature of solvency support is reflected in the KA, which acknowledge that authorities may opt to introduce powers to place financial institutions under temporary public ownership to continue critical operations, but only as a last resort and for the overarching purpose of maintaining financial stability. Pursuant to the KA, such actions should provide for mechanisms to recover any losses incurred by the state from unsecured creditors or, if necessary, the financial system more broadly (e.g., through ex post levies).

B. Emergency Liquidity Assistance

77. When solvent financial institutions face temporary liquidity pressures that cannot be addressed through private sources, central banks may act as lender of last resort and provide ELA outside of normal monetary policy operations. This is an essential function of crisis management that aims to mitigate sudden funding pressures that could, if not addressed, jeopardize financial stability. By making liquidity support available on a temporary basis, central banks seek to prevent a systemic loss of confidence that can spread to otherwise healthy institutions. It is, however, widely accepted that provision of ELA in response to idiosyncratic needs should only be considered for solvent institutions after other funding sources have been exhausted, and only after due consideration has been given to how the provision of such support helps central banks achieve their stated policy objectives.

78. The BdI is authorized to provide ELA, which is an activity that in the European System of Central Banks (ESCB) remains under the purview of national central banks. The BdI’s ability to provide ELA is derived from its broad authorization to take all actions necessary to carry out the tasks and functions entrusted to it. Its statute does not contain any specific provisions on ELA, but the main characteristics of the instrument (solvency of the requestor, collateralization of the facility, temporary nature of the liquidity needs) are clearly expressed in the (high-level) statement on ELA on the BdI’s website.⁵¹ In granting ELA, the BdI acts in accordance with the ELA agreement, published by the ECB in May 2017, which specifies certain criteria (e.g., solvency criterion) and the modalities for the flow of information from the ELA-providing NCBs to the ECB (e.g., the main features of the operation, monthly capital ratios of the ELA recipient, quarterly funding plan) and sets out the conditions for the ECB’s Governing Council to assess whether there is a risk that the provision of liquidity support interferes with the objectives and tasks of the European System of Central Banks (ESCB) and, in particular, the Eurosystem’s single monetary policy.

79. The BdI’s framework for ELA reflects practices in the Eurosystem. The provision of ELA entails a discretionary decision by the BdI, with internal responsibilities for the assessment, oversight, and risk management of facilities having been allocated to the competent organizational units within the Directorate General for Financial Supervision and Regulation, the Directorate General for Markets and Payment Systems, and, for counterparties under its remit, RCMU). As per the published ELA Agreement, liquidity support is only available to credit institutions (i) whose capital ratios comply with harmonized minimum levels (common equity tier 1 of 4.5 percent, tier 1 of 6 percent and total capital of 8 percent); or (ii) which have credible recapitalization prospects via which harmonized minimum regulatory capital levels would be restored (in case any of the ratios mentioned under (i) are breached) within a predefined time frame.⁵² ELA operations are to be collateralized, with the BdI accepting assets eligible as collateral for Eurosystem monetary policy operations, assets that belong to similar categories but do not satisfy some Eurosystem eligibility criteria, and other assets (including nonfinancial assets). To protect the BdI’s balance sheet, haircuts increase as maturities are lengthened and liquidity and credit quality diminish. ELA has typically been provided through renewable short-term operations, allowing for continuous reassessment of the necessity and desirability of continuation. All ELA operations to date have been concluded within 12 months, thus avoiding the determination of additional requirements and conditions by the ECB’s Governing Council (as per the ELA Agreement).

80. The provision of ELA is underpinned by a robust liquidity monitoring framework. Ongoing supervisory procedures require banks to formalize policies for liquidity risk management, set their liquidity risk tolerance level and measure liquidity risk on a forward-looking basis. Regulatory reporting on liquidity coverage ratios is required on a monthly basis and is supplemented by additional metrics on a quarterly basis (e.g., harmonized maturity ladders) and enhanced Italian liquidity risk reporting, which was instituted at the beginning of the financial crisis, as the frequency of regular supervisory liquidity reporting was deemed insufficient to adequately monitor emerging liquidity strains. Reports include details on the funding structure, breakdowns of counterbalancing capacity and (on a bi-weekly basis) interbank operations, largest depositors, and potential sources of additional liquidity. The liquidity monitoring process includes weekly calls with banks’ treasurers and risk managers. In case of market turmoil or idiosyncratic pressures, monitoring is stepped up to potentially (intra) daily basis. MOU’s that govern cooperation and information exchange between the BdI’s supervision—and market operations function are in place. The Markets Operations Department is well positioned to have banks pre-identify assets that can be mobilized as collateral, taking into account pre-existing asset encumbrance.

81. Procedures should clearly document the approach and method(s) for (re)confirming bank solvency and viability at the time of the ELA request. The BdI’s continuous monitoring of banks under its supervision provides important inputs for the solvency assessment that needs to underpin ELA decisions. However, such input will need to be supplemented with additional analysis, to be performed immediately upon receipt of the request for liquidity support, to fully reflect additional uncertainties and challenges that may not have been fully captured in earlier supervisory activities—e.g., stemming from potential valuation adjustments of financial assets, additional provisioning requirements to cover increased credit risk (including adjustments linked to deteriorating collateral values), and other forward-looking developments that may have a bearing on solvency of the institution during the life of the liquidity support operation. While it may be possible to gather the necessary information in the phase preceding the ELA request, the BdI should stand ready to promptly reevaluate available information in cases where ELA requests materialize with scant advance warning. Assessments should also seek to confirm the continued viability of the bank’s business model, including under stressed conditions, to provide additional assurances about the bank’s continued capacity to repay the ELA operation without undue delay.

82. Past experiences with ELA have confirmed operational readiness of the BdI. Workflow documents, detailing the tasks and responsibilities of all involved units, are available and automated procedures are in place to facilitate the valuation of collateral and settlement of the loan. The BdI does not require banks to pre-position collateral per se, but the Market Operations Directorate is able to verify banks’ ability to mobilize collateral, if needed, as part of enhanced liquidity monitoring of banks deemed to be vulnerable. ELA decisions are to be taken by the BdI’s Governing Board, but meetings can be called on short notice, be organized via teleconferencing and (if needed) be conducted via an urgency procedure. In the past, ELA requests have been handled within one business day.

83. While ELA operations do not, in general, benefit from government indemnities, guarantees have been made available as part of specific, timebound schemes. Experience across the EU indicates that sovereign indemnities for ELA operations are rare, as the provision thereof triggers notifications to the EC under the state aid framework. However, the Italian government has established special guarantee schemes on two occasions in recent years (i.e., 2011 and 2016) that allowed the MEF to issue guarantees to (i) secure newly issued debt securities of Italian banks; or (ii) collateralize ELA operations. A similar scheme was announced in January 2019, for the benefit of Banca Carige. In each case, the schemes themselves were found by the EC to be compatible with state aid requirements, with institution-specific support provided under the schemes triggering additional vetting by the EC. It could be difficult, when the institution is not able to post acceptable collateral, for the BdI to promptly obtain government indemnities on an ad hoc basis, e.g., in situations where the provision of ELA to an SI is critical to protect financial stability, however the BdI’s Governing Board can authorize exceptional deviations from the ELA collateral framework to include additional types of collateral or less stringent eligibility requirements.

84. Disclosure practices should be reviewed to ensure that confidence in the system is not undermined through premature signaling (or the perception thereof) of ELA operations. Subject to certain conditions, Italian banks can delay public disclosure of inside information pertaining to liquidity problems and the need to receive ELA, consistently with the EU legislative framework. According to Regulation EU 596/2014 (MAR), prior consent (to be reassessed on a weekly basis) needs to be obtained from the NCA (i.e., CONSOB), which requires evidence that (i) disclosure would undermine financial stability; (ii) disclosure is in the public interest; and (iii) confidentiality of the information can be maintained. However, risks remain that information on ELA is disseminated prematurely through BdI disclosures, notably through monthly balance sheet data. While sudden changes in the reporting item that includes ELA operations are not indicative per se of the provision of increased liquidity support by the BdI (for example, changes can also be driven by increased volatility in the valuation of financial assets), there is a risk that they are perceived as such. While eventual disclosure is important to foster accountability, revealing information shortly after disbursement could signal the existence of liquidity pressures in the system, and thus undermine financial stability. In this context, central banks are justified in deferring disclosure of ELA information until its release can no longer be expected to have a destabilizing effect.⁵³

A. Domestic Arrangements

85. Cross-country experience indicates that inadequate crisis preparation can greatly impair authorities’ ability to respond decisively to an emerging crisis. Contingency planning aims to strengthen authorities’ ability to deal with unforeseen events that can cause severe systemic disruption. Various components need to be in place to ensure effectiveness, including tools to identify and monitor emerging risks, familiarity with policy options for addressing crises, arrangements for inter-agency coordination and information sharing, and crisis-management exercises that are used to periodically test contingency plans.

86. Coordination between the Italian authorities is mandated by law. Both the TUB and the TUF require the authorities to cooperate with each other by exchanging information and otherwise for facilitating the performance of their respective functions. Collaboration is underpinned by bilateral Memoranda of Understanding (MOUs), as well as a Framework Agreement between the BdI and CONSOB that seeks to strengthen cooperation between the two entities. In case of IVASS, close functional linkages with the BdI are further highlighted by the inclusion of senior BdI officials in IVASS’ governance structure (i.e., senior deputy governor of the BdI as president, involvement of senior BdI and IVASS officials in the so-called Integrated Directorate). Information sharing among the authorities is not subject to confidentiality constraints. In fact, the TUB explicitly precludes the administrative authorities from invoking professional secrecy in their dealings with each other (although this provision does not apply vis-à-vis the MEF). Coordination between the BdI and the FITD is authorized by law but not formalized in practice (the current MOU solely covers the exchange of data for calculating the risk indicators needed to determine banks’ annual contributions.

87. Although a multilateral forum for domestic financial stability oversight exists, its activities have been limited. In July 2008, a multilateral MOU was signed between the MEF, the BdI, CONSOB, and IVASS that resulted in the creation of the Committee for the Safeguard of Financial Stability (CSFS). The CSFS was envisaged to act as coordination body for the MEF (with the minister acting as Chair), the BdI, CONSOB and IVASS, with a mandate to discuss matters pertaining to financial stability. In practice, however, it has hardly met, as coordination and information exchange between the agencies has been primarily handled on an informal and ad hoc basis. As such, the Italian authorities currently lack a forum for contingency planning that could, among others, (i) periodically review the crisis preparedness efforts of the various financial safety net providers; (ii) prepare a comprehensive overview of possible crisis-management measures; (iii) organize multi-agency contingency planning exercises; and (iv) coordinate crisis responses and communication plans. To strengthen inter-agency coordination and help advance crisis preparedness, the mission recommends the designation of a formal Crisis Management Committee, either by establishing a new forum (with participation of all relevant agencies, including the two DGS), or by expanding the mandate and, as applicable, the membership of the CSFS. See Box 8 for international examples.

88. Exclusion of the DGS from the institutional framework for crisis preparedness and management can hamper effective preparations for bank failures. International best practices prescribe that jurisdictions establish formalized frameworks for coordination and information sharing among the participations for the financial safety net, including the DGS. Moreover, DGS should be included in contingency planning and crisis-management frameworks, and participate in simulation exercises.⁵⁴ At present, and in view of the private nature of the DGS, a formal framework for the exchange of confidential supervisory information has not been established, and information sharing with the BdI’s supervisory function is limited to financial data needed to calculate banks’ risk-based annual contributions. In due course repositioning the DGS as public-sector entities, duly embedded in the financial sector safety net, would help to address these issues and, in doing so, strengthen effectiveness.

89. The development of an overarching crisis-management plan would be advantageous. Contingency planning can greatly enhance the authorities’ preparedness for dealing with sudden distress, and thus is a key element of effective crisis-management frameworks. Advance planning is particularly important for the resolution authority, but also relevant for other safety net participants—notably, the MEF and the DGS. Aspects to be elaborated include (i) the roles and responsibilities of the various agencies; (ii) key processes and concise policy guidance on the agencies’ powers and policy instruments; (iii) coordination arrangements and communication channels; and (iv) interdependencies between the agencies’ tasks. The crisis-management plan should be updated at least once a year and reviewed for consistency with plans from the individual agencies.

90. Crisis-management exercises should be further expanded. During the past years, the Italian authorities have gained ample experience with handling episodes of financial distress. Coordination has been intense, both between the domestic authorities and with the European agencies (notably, the ECB and the SRB) and allowed the authorities to effectively intervene troubled institutions without jeopardizing financial stability. However, ‘desk-top’ exercises based on different resolution scenarios and ‘live’ bank-crisis-simulation exercises remain useful to maintain familiarity with the broad suite of resolution powers, including powers that have not (yet) been deployed (e.g., bail-in) and test the adequacy of available manuals and policy guidance. To maximize added value, it is recommended that (internal) crisis-management exercises of the various agencies are periodically complemented by multilateral exercises coordinated by the CSFS (or similar committee if the authorities opt to establish an alternative forum for crisis management coordination and preparedness). In due course, exercises could be conducted on a cross-border basis, with involvement of relevant host authorities.⁵⁵

91. Cross-country experiences highlight important lessons for resolution exercises. Cross-agency resolution exercises have been used by many jurisdictions (e.g., EU member states, Australia, Singapore, New Zealand, and the United States) to foster capacity building. In order to get the most value from resolution exercises, it is suggested that they include participation by senior management of the competent authorities, thus providing greater realism and ensuring added value for the key decision-makers. Exercises should be followed by debriefs of all participants, with key findings being incorporated in a detailed evaluation report. The report should summarize key challenges and identified impediments to orderly resolution, if any, and list recommended changes to resolution guidance, processes and procedures that should be considered.

B. Cross-Border Cooperation

92. Within the euro area, cross-border cooperation is underpinned by the SRM. Effective since 2014, the SRM seeks to prevent unilateral and potentially inconsistent decisions by individual member states regarding the resolution of credit institutions operating on a cross-border basis, which could otherwise increase costs and hamper effectiveness. At the heart of the SRM is the SRB, entrusted with decision making on matters pertaining to resolution planning and execution for institutions under its direct responsibility (including SI on the direct supervision of the SSM and cross-border groups)—which includes the preparation of resolution plans, the assessment of banks’ resolvability and identification of measures needed to address barriers to effective resolution, and adoption of resolution measures. The BdI cooperates on a regular basis with the SRB and other NRA in resolution planning and resolution execution. Moreover, staff from the RCMU participates in relevant committees and working groups established by the EBA to define policy guidance at the European level.

93. Resolution colleges have been established for the two Italian banking groups, i.e., Intesa Sanpaolo and Unicredit.⁵⁶ These colleges are coordinated by the SRB, in its capacity as group-level resolution authority, with the BdI contributing as (i) former home resolution authority and member of the IRT set up within the SRM, (ii) authority responsible for deposit guarantee schemes, and (iii) national competent (supervisory) authority and member of the Joint Supervisory Team that has been established as part of the SSM. In this capacity, BdI staff supports the SRB with the preparation of documents to be shared within the resolution college and/or interactions of the IRT with non-BU resolution authorities.

94. In addition, BdI staff participates in resolution colleges of five foreign banks established in the BU and active in Italy. At the time of the FSAP, these included BNP Paribas, Societe Generale, Credit Agricole, Deutsche Bank, and Santander, all of which are deemed systemically relevant for the Italian banking market. However, the BdI’s role is more limited in these colleges, as it is focusing mainly on the Italian components of these banking groups, rather than on the groups as a whole.

95. The BRRD, as transposed in Italian legislation, provides a robust basis for cross-border information sharing, both within the EU and with third countries. Where the BdI acts as resolution authority (i.e., in case of LSIs), it is expected to coordinate the flow of information between all authorities involved. For third countries, the Resolution Decree empowers the BdI and the MEF to exchange confidential information as long as the recipient has confidentiality obligations in place that are equivalent to those applicable in Italy; and exchange is necessary for resolution planning and/or execution. As regards coordination with non-EU country authorities, the SRB is the duly authorized authority to conclude such agreements on behalf of the NRA, while EBA is empowered to conclude arrangements that can serve as a model for agreements signed by national resolution authorities with competent authorities from third countries. Thus far, the BdI has not observed any constraints in cross-border information sharing within the EU, nor felt the need to directly sign cooperation agreements with non-Banking Union members or non-EU countries directly (keeping in mind that cross-border activities for LSIs are relatively limited).

96. Other legal framework conditions for effective cross-border cooperation are in place. The BdI is required to duly consider the impact of its decisions or actions on financial stability in other member states; and ensure that its decisions and actions taken are coordinated, where needed, with competent authorities from other member states. Except for an obligation on the BdI to immediately apply decisions reached in resolution colleges, law and policy do not envisage automatic actions by the BdI as a result of resolution actions initiated in other jurisdictions. Actions can be taken vis-à-vis branches from third countries if the (i) branch no longer meets, or risks not meeting, prudential requirements; (ii) there are no rehabilitation prospects; (iii) the parent bank is not willing or able to fulfil its obligations vis-à-vis Italian creditors; or (iv) resolution proceedings have been initiated, or are expected to be initiated, in the bank’s home country. The Resolution Decree allows the BdI to exercise its resolution powers (e.g., order asset and liability transfers, impose temporary stays) to support resolution decisions taken by third countries’ authorities. The treatment of creditors (including for the purposes of depositor preference) does not discriminate based on nationality, location of the claim or jurisdiction where it is payable.

Recommendations

• Extend legal protection to DGS board members and staff, as well as directors and officers of an institution under resolution, to the extent that they remain in function to ensure continuity during the resolution process. A further extension of the legal protection already provided to other actors in a resolution or liquidation context (e.g., special administrators, liquidators, and managers of bridge banks and asset management companies) would help mitigate litigation risks during a resolution process. Such protection is particularly important for actions taken in compliance with instructions from the BdI, as well as actions taken by the DGS.