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报告摘要

Summary: Maintaining Safe Banks: Should Cocos Play a Greater Role?

Core Content

This document presents an analysis of the role of contingent capital (CoCo) instruments in maintaining the solvency and stability of large banks, particularly in the context of regulatory frameworks and the 2008 financial crisis. The author, Mark J. Flannery, argues that the current capital regulation framework, such as Basel III, is flawed and that CoCos could offer a more effective solution.

Main Points

1. Results of Supervisory Discretion

Supervisory discretion (Pillar 2) has not been effective in maintaining adequate capital levels for large banks.
The Basel framework relies heavily on book value ratios, which are backward-looking and distorted by managerial choices.
These ratios do not reliably reflect a bank’s loss-absorbing capacity, especially during periods of financial stress.

2. Recent Regulatory Changes

Basel III has introduced more stringent capital requirements, but it still relies on discretionary supervision.
CCAR (Comprehensive Capital Analysis and Review) is a step in the right direction by incorporating forward-looking credit losses.
However, it excludes some market valuations and is only conducted once per year, making it insufficient to reflect a bank’s worst-case stress scenarios.

3. Contingent Capital Instruments (CoCos)

CoCos could play a greater role in maintaining bank solvency by automatically converting into equity when a bank's PD (Probability of Default) exceeds a threshold.
The author suggests that CoCos should be integrated into capital buffers and not limited to AT1 (Additional Tier 1) instruments.
In Europe, CoCos are triggered by book value, whereas in the U.S., they are not included in Basel III.

Key Information

Why Supervisory Discretion Fails

Noisy and manipulated estimates of a bank's true solvency make it difficult for supervisors to act decisively.
Tail probabilities are especially problematic when a bank is not near insolvency.
Depositor runs are not a common occurrence, so supervisors are not forced to act.
Statutory definitions of solvency and audited financial statements create barriers to capital raising.

The Role of Market Valuation

Market values are forward-looking and reflect current information about asset values.
They affect solvency of financial firms with substantial uninsured claimants.
Book values are backward-looking and biased when a firm is in trouble.

What Killed CoCos?

The "death spiral" and "multiple equilibrium" issues are potential drawbacks of CoCos.
These problems arise from uncertainty about conversion triggers and price manipulation.
Model assumptions vary significantly, leading to conflicting implications about the effectiveness of CoCos.

Why the Author Prefers CoCos

CoCos offer better incentives for risk management and equity issuance compared to supervisory discretion.
They enable rapid recapitalization, which can lower required common equity while maintaining safety.
They mitigate risk migration into the shadow banking sector.
They could facilitate a feasible political bargain between regulators and banks.

Conclusion

The Basel capital framework is conceptually flawed, as large banks have consistently had high PDs.
Regulatory reforms continue to rely on supervisory discretion, which is not reliable.
Effective capital regulation requires market equity valuations.
The author recommends replacing discretion with rules embedded in CoCos to assure bank solvency.
A workable CoCo design should be the focus of future regulatory efforts.

Final Thoughts

CoCos are not a panacea, but they are a viable alternative to the current regulatory approach.
The design of CoCos is crucial to avoiding issues such as death spirals and price manipulation.
The U.S. and Europe have different approaches to CoCos, with Europe being more restrictive and the U.S. encouraging innovation.
Bail-in debt is not without challenges, as it can be messy and disruptive in the resolution process.