Creditors of the "bad bank" in Austria will lose at least 50% of their exposure

The European Central Bank has announced banks that have exposure to Heta Asset Resolution (HAR) the recommendation to wipe at least 50% of the value of the amounts they lent to the institution.

HAR is the "bad bank" created by the Austrian government last year to take over the non-performing loans of Hypo Alpe-Adria, which was nationalized in 2009.

At the end of October 2014, the total assets of Heta were estimated at 18 billion Euros, but an independent audit has found that they have been significantly overvalued, and the bank is facing a capital deficit of almost 8 billion Euros.

Following the audit, the Austrian Financial Supervision Authority (FMA) and the Ministry of Finance have announced that this deficit can no longer be covered by the state, and the FMA has placed a moratorium on the repayment of the debts of HAR until May 31st, 2016.

The decision of the authorities in Vienna, to suspend the payment of the debts of Heta, has caused the European Central Bank to ask all the banks in the Eurozone to submit detailed reports on their Austrian exposures, according to a piece of news published by Reuters at the end of last month.

"Austria's credibility is being called into question at the level of the European banking system, amid the decision to apply a haircut to the creditors of Hypo Alpe-Adria, as the market has always counted on the unconditional support from the government", the press agency wrote at the time.

Now there are no more doubts concerning the credibility of the guarantees of the Austrian authorities. It no longer exists.

The 50% haircut will apply to the debts of HAR guaranteed by the Carinthia land, according to Reuters, which quoted German daily Handelsblatt. The total value of the guarantees granted by the Carinthia land for the debts of Heta exceeds 10 billion Euros.

In the case of unsecured loans and of subordinated bonds issued by Heta, the losses will amount to at least 95%, according to the recommendations of the ECB, whose officials declined to comment the news.

The wiping of Heta's debts will affect particularly the banks and the insurance companies in Germany, which have a total exposure of 7.1 billion Euros to the Austrian bad bank, as shown by the Bundesbank data, reported by Reuters.

Prior to the appearance of the news concerning the recommendations of the ECB, Bloomberg wrote about a similar action of the Bundesbank, Germany's central bank. The institution has told commercial banks that they have to expect losses of at least 50% on their exposures to Heta.

Andreas Dombret, member of the executive management of the Bundesbank and member of the Board of Directors of the SSM (Single Supervisory Mechanism) of the ECB said that "it is advisable to set up provisions of at least 50% for the potential losses".

German banks have set up provisions for only one third of the bonds issued by Heta in 2014, and the application of the ECB recommendations will lead to the booking of additional losses in the first half of this year, according to online publication Deutsche Wirtschafts Nachrichten.

If the haircut applied will be lower than the one recommended by the ECB, the banks will need to justify their decision in writing.

Of the German banks, Bayerische Landesbank has the greatest exposure to Heta, of approximately 2.4 billion Euros, and the list also includes Commerzbank, Deutsche Pfandbriefbank, NordLB and a Dexia subsidiary. Düsseldorfer Hypothekenbank (DuesselHyp), specialized in mortgages, has already been taken over by the Deposit Protection Fund, managed by the German Banks' Association (BdB), due to an exposure of 348 million Euros to HAR.

The acceptance by the Bundesbank of losses by the local banks, for exposures guaranteed by another country in the Eurozone, directly contradicts the recent statements of the political authorities (see the article "Germany pressuring Austria to honor its banking guarantees", BURSA, 27.03.2015) and can open up the way for an unprecedented financial instability in Europe.

Because the failure to meet the payment obligations by a country has become allowable, unlike Greece's case, where the default is obvious, the ECB and the Bundesbank show that regulations passed after lengthy negotiations are worthless, and arbitrariness has become the norm for the "European standards".

How they are going to be applied in time and how much longer these "standards" will be accepted will be visible soon, after Greece's sovereign default.