Bail-Ins Versus Bail-Outs-What's The Difference?
Key to understanding Bail-In/Bail-Out is to equate Bail-Out to mean that 'Taxpayers' foot the bill through a govt act such as what happened in the US in 2008, and Bail-In equates to bank 'Creditors'. A creditor is classified as "Unsecured" and can include a bank bondholder, a private or state govt pension fund, and any bank depositor.
The Dodd-Frank Act that passed as law in 2010 was incompletely written and subject to further developments to go into effect as new points were and continue to be added. This means that the Act was passed without Congress able to read the entirety because even today new language is being added to the Act.
That brings us to the recent news headliners that Bonds will foot the bill for any Bail-In. Unfortunately what is not stated in these most recent headlines is that these Bonds are the 3rd and newest phase of the language details to be added into the Dodd-Frank Act. Phases 1 & 2 have already included in the Act.
LANGUAGE is key, and from what I've been able to glean from studying this since before 2010, it is extremely important to distinguish between a 'Taxpayer' and an 'Unsecured Creditor', and determine how these two classifications are connected with a 'Bail-Out' and a 'Bail-In' as I've indicated above.
With this in mind there are some key articles that document all this and help to clarify that the position of dianrians can be several - we can already be an 'unsecured depositor' if we have a savings or checking account, or hold a bank CD. As outrageous as it sounds, when we place or deposit money into any bank we have loaned that money to the bank for it to do what it deems best with that money.
We can also indirectly be a bondholder if our private pension plan holds bonds to one of the SIFIs, or if our government pension holds such bonds. Moreover, we can also be indirectly affected as a 'Taxpayer' if our town/city/state government holds bonds to the same SIFI.
The articles feature many points, and if I may suggest, rather than getting upset & staying stuck in being upset, that instead, get upset, then copy & paste these articles into a word doc and go through them with a fine-tooth comb of personal scrutiny. Any word or reference you don't understand, do a search on it using key words.
Knowing what to do about this is the next step. As many have said, flexibility is the key. Money is not a static commodity, and we have to learn how to move with the dynamic flow. Admittedly this is a steep learning curve and as a community we are definitely up to the challenge.
I am posting several articles separately - each has its own emphasis. There are plenty more to be found when you do the search.
Hope this helps in the discussion -
What Is A Bail-In & How Does It Work?
By Justin Kuepper
Most people are familiar with bailouts these days, after the global economic crisis forced many governments to rescue private institutions. But, there's another term that's becoming increasingly common in the financial media - "bail-in". In this article, we'll take a look at what a bail-in is and what it means for countries, companies and investors.
Bail-Ins Versus Bail-Outs
Bail-outs occur when outside investors, such as a government, rescue a borrower by injecting money to help make debt payments. For example, U.S. taxpayers provided capital to many major U.S. banks during the economic downturn in order to help them meet their debt payments and remain in business, as opposed to being liquidated to creditors.
According to The Economist, the magazine that coined the term, a bail-in occurs when the borrower's creditors are forced to bear some of the burden by having a portion of their debt written off. For example, bondholders in Cyprus banks and depositors with more than 100,000 euros in their accounts were forced to write-off a portion of their holdings.
While both bail-ins and bail-outs are designed to keep the borrowing institution afloat, the two different methods of accomplishing the goal vary greatly. Bail-outs are designed to (keep) creditors happy and interest rates low, while bail-ins are ideal in situations where bail-outs are politically difficult or impossible, and creditors aren't keen on the idea of a liquidation event.
Using Bail-ins to Save Institutions
Most regulators had thought that there were only two options for troubled institutions in 2008 - taxpayer bailouts or risking a systemic collapse of the banking system. But, bail-ins soon became an attractive third option to recapitalize troubled institutions from within, by having creditors agree to rollover their short-term claims or engage in a restructuring.
Similar strategies have been used in the airline industry to keep them running throughout bankruptcy proceedings and other turmoil. In these scenarios, the companies were able to reduce the payments to creditors in exchange for equity in the reorganized company, effectively enabling the lenders to save some of their investment and the companies to stay afloat.
Interestingly, bail-ins can complement bail-outs in some cases, with creditors falling into either category. Successfully bailing-in some creditors gets rid of some financial strain, while securing additional financing from others certainly helps the situation. But, the risk is always that the bail-in of some creditors will discourage others from getting involved.
The Future of Bail-ins
The use of bail-ins in Cyprus' banking crisis has led to concerns that the strategy would be used more often by countries when dealing with financial crises. After all, politicians can avoid the thorny political issues associated with taxpayer bailouts, while containing the risks associated with letting a bank failure lead to systemic financial destabilization.
The risk, of course, is that the bond markets will react negatively. Bail-ins becoming more popular could increase risks for bondholders and therefore increase the yield that they demand to lend money to these institutions. These higher interest rates could hurt equities and end up costing more over the long-term than a one-time recapitalization.
In the end, many economists agree that the world is likely to see a combination of these strategies in the future. With Cyprus having set a precedent, other countries now have a template for the actions and an idea of what will occur afterwards. The financial markets, on the other hand, remain anxious as share prices in Cyprus banks have reflected.
Key Takeaway Points
• Bail-ins are situations where creditors agree to forgo their short-term claims and/or agree to a restructuring that reduces their holdings.
Bail-ins began as a public policy tool with Cyprus, which forced creditors and some depositors to forfeit some of their holdings to keep the banks alive.
• Bail-ins are less politically taxing than bailouts, but could have a number of negative side-effects in the financial markets, including higher interest rates.