During the emergency rescue of Credit Suisse, the federal government and authorities took a last-minute decision to sell the crisis-hit bank rather than restructure. But they will likely have no choice in the future.
«Honestly, we were hoping today would never come,» was how UBS Chairman Colm Kelleher put it on that memorable Sunday evening of March 19, 2023 in front of the assembled media representatives in Bern. The sale of Credit Suisse (CS) to its bigger Swiss competitor had been agreed just hours earlier.
According to Kelleher, there were no longer any alternatives. «We’ll successfully close this deal.»
All Ready for Signing
But just hours earlier, alternatives to a sale of CS had been weighed up. As executives of the Swiss Financial Market Supervisory Authority (FINMA) disclosed last December, the restructuring of CS in accordance with the «too big to fail» rules was, in addition to the sale, also considered a practicable solution until recently. What is more, that option was ready for signing as a «plan B» on Sunday morning.
But according to FINMA, all the authorities involved – including those abroad – were in agreement that the takeover by UBS was the less risky option.
Convinced Watchdogs of Stability
So the stabilization of the bank with emergency liquidity and a gradual restructuring under new management stays a hypothetical scenario. This is despite the fact that the banking act envisages this as the primary solution for rescuing a major bank. The top watchdogs of the global financial system, the Financial Stability Board (FSB), were even certain afterwards that this approach would have worked at CS.
With regard to the handling of the new megabank, a lot now suggests that in the event of a possible rescue of the «new» UBS, nothing else will be considered except for Plan B.
It is already evident with the rescue of CS that the government is not willing to save another Swiss major bank. And not without reason. A temporary takeover by the government (temporary public ownership, TPO) would completely undermine the «too big to fail» framework Switzerland developed in response to the UBS bailout in 2008.
Controversial From the Outset
The Federal Council proposes instead state-guaranteed emergency liquidity, known as the public liquidity backstop (PLB). This was already used in the CS rescue operation under an emergency law. Looking to the future, the measure is set be incorporated into standard law, which has led to disagreements, not least during banking crises.
A takeover by another bank is off the table. In Switzerland, UBS will easily be the largest bank after CS is integrated and streets ahead of the other four remaining systemically important institutions: Raiffeisen, Zürcher Kantonalbank, and Postfinance. Given the regulatory and political hurdles, an emergency sale to a foreign player, as already outlined by UBS CEO Sergio Ermotti, currently appears pure fantasy.
Bonds and Shares Wiped Out As Well
That leaves a restructuring. But this will not be painless either, as CS shows. Investors would have had to bleed even more than during the sale to UBS, according to information on the planned process. Not only would around 15 billion Swiss francs ($17.6 billion) of mandatory convertible bonds (AT1 bonds) have been written off, but also senior unsecured bonds worth around 50 billion Swiss francs. The entire outstanding share capital of the major bank would have been wiped out as well.
The market outcry would have been much greater following this destruction of value and could have dealt a severe blow to the financial system: Let us not forget, a banking crisis also spread in the US last March. The federal government, FINMA and the SNB later used this risk of contagion as an argument to justify the solution to sell UBS.
What Could Have Happened on Monday
This brings the less tangible risks of plan B into focus. CS has fallen victim to a crisis of confidence, and we will never really know whether an intervention by the authorities under the restructuring plan would have restored the required confidence among counterparties, clients, and investors. This begs the question would markets have trusted the path taken by Switzerland? Or would financial players have «attacked» the newly rescued CS again?
The truth is that UBS, backed by a padded cushion of billions in emergency liquidity and state guarantees, was trusted to stabilize its smaller competitor. This was despite the fact that a host of issues were still unresolved and the takeover only became legally binding last June. Some observers have taken the fact that the solution to sell worked – once the losses for CS shareholders and creditors are factored in – as an argument against a restructuring in the «too big to fail» sense.
But as things stand today, this is the only remaining option for the next major bank rescue. The ball is now in the Federal Council’s court.
Ultimate Goal
The latter intends to submit an evaluation of the «too big to fail» rule for systemically important banks to parliament next spring. The issue of additional equity will presumably be key to UBS. It could be considered necessary to support the restructuring of the now much larger big bank. Comments by finance minister Karin Keller-Sutter already point in this direction. She promised «all the uncomfortable questions will certainly be discussed» in the upcoming evaluation.
The federal councilor stressed that the primary goal was to protect the state and taxpayers.
For experts such as Reto Schiltknecht, who once monitored the implementation of the «too big to fail» rules at the big banks for FINMA, the country is about to walk a tightrope. On the one hand, Switzerland would reach its limits in terms of emergency liquidity for UBS. Schiltknecht recently told the «NZZ» that the state-guaranteed mandatory resolution threshold for the new megabank would have to be around 300 billion Swiss francs.
Calling a Spade a Spade
If you want high equity ratios, you also have to call a spade a spade, the former financial supervisor added. You will have to admit that Switzerland, as a small country, no longer wants to afford a bank like UBS. In today’s market environment, UBS can no longer operate with such stringent capital requirements, Schiltknecht warns.
The process of preparing for a restructuring solution for the banking colossus is therefore highly challenging and fraught. Just one thing is certain right now: no other solution is currently in sight.
