Carlos Costa: limiting public funds in banking “could exacerbate systemic risks”

The Portuguese crisis strongly punished the financial sector, which caused bail-in principles in resolving banks to be carried out. Carlos Costa advocates for flexibility in the usage of public funds in order to solve emergency situations. He also says that by limiting the usage of taxpayers money to save banks, regulators may exacerbate risks “in the event of a systemic crisis”.

“By limiting policy options on the usage of public funds, regulators may have ended up exacerbating risks in the event of a systemic crisis“, the governor of the Bank of Portugal stated on the central bank’s 2017 Conference on Financial Stability. “Jeopardizing financial stability will result in output losses and damaging consequences to the overall economy”, Carlos Costa adds.

In the aftermath of the economic crisis, and to protect taxpayers from bearing losses in the private sectors, “there was a strong impetus against involving public money in providing a safety net to the financial system. Bail-in principles in resolving banks prevailed, as well as a general aversion to bail out provisions. While this should be the norm, flexibility should be preserved to address emergency situations”, the leader of the central bank stated.

"Regulators may have ended up exacerbating risks in the event of a systemic crisis. Jeopardizing financial stability will result in output losses and damaging consequences to the overall economy.”

Although the governor recognized that it is “indisputable” that the financial system in most developed countries is stronger than in the beginning of the 2007 financial crisis, Carlos Costa warns that the financial sector “is not immune to risks, and the existing policy instruments are unable to fully address the persisting legacy of the crisis”.

Carlos Costa tries to once again highlight the need to conclude a Banking Union. “The incomplete set up of the Banking Union in Europe with the full implementation of the resolution regime is a dangerous combination“, concludes the governor of the Bank of Portugal.