Moody's: France's creation of new senior debt category provides more clarity on bank resolution

France's plans to establish a new senior debt category provide better legal certainty around resolution in the country and confirms the lack of harmonization in bank resolution regimes in Europe due to differences in insolvency rules says Moody's Investors Service in a report published today.

France's decision to create a new debt category gives French banks more flexibility to build multiple layers of loss absorbing capital protecting their most senior obligations and hence fulfil the Financial Stability Board's Total Loss Absorbing Capital (TLAC) requirements, although not all French banks will face the same challenge in meeting these. The requirements will be implemented by 1 January 2019.

The new debt category will consist of 'securities' subordinated to other senior obligations, but will rank senior to subordinated debt.

"The French amendments provide better legal certainty and clarity for resolution authorities in their requirement to respect the 'no creditor worse off' principle," says Alain Laurin, an Associate Managing Director at Moody's. "However the lack of uniform hierarchy of claims across the region adds further complexity to the resolution of banks across borders."

The modification of the hierarchy of claims doesn't impact French banks' existing ratings as the new class of senior debt will only emerge over time. Future impact, however, will depend on Moody's assessment of the impact on loss-given-failure of different instrument classes resulting from the modified liability structure following the issuance of 'junior-senior' securities.

The new instrument class is likely to be rated at the same level as subordinated debt (commonly one notch below the bank's Adjusted Baseline Credit Assessment (adjusted BCA)) until the point at which banks will have issued a sufficiently large volume of 'junior-senior' debt that may justify a difference in ratings owing to a difference in loss-given-failure, other things being equal.

By the same token, other ratings ('senior-senior' or deposits) will also be potentially impacted when 'junior-senior' debt is issued, with the positive impact of an additional "cushion" of subordination leading to reduced loss-given-failure.

Lastly, Moody's does not expect any immediate impact on covered bond ratings because bank ratings and the counterparty risk assessments (CR assessments) -- the latter measuring the default probability on their most senior obligations - initially will not be affected.