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Sovereign bond-backed securities
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Sovereign Bond-Backed Securities (SBBS) represent a significant financial innovation in the European Union, aimed at enhancing stability in the banking union. They are designed as a tool for banks to diversify their sovereign exposures and mitigate the "doom loop" - a scenario where a bank's financial troubles adversely affect the fiscal outlook of its home government, and vice versa.
Key Features of SBBS:
Commission Proposal on SBBS:
This initiative represents a strategic move towards reinforcing the resilience of the financial system in the EU, particularly within the context of the banking union. By promoting the use of SBBS, the EU aims to mitigate systemic risks and enhance the stability of its banking sector.
Key Features of SBBS:
- Composition: SBBS are composed of a diversified portfolio of euro area central government bonds.
- Purpose: They are proposed to help banks diversify their sovereign bond holdings, thereby reducing the risk associated with overexposure to their home government's debt.
- Risk Sharing: SBBS would facilitate risk sharing across investors and borders without mutualizing risks and losses among euro area countries. Only private investors bear the risk and potential losses.
Commission Proposal on SBBS:
- In 2016, the European Systemic Risk Board (ESRB) set up a task force to evaluate the feasibility of SBBS. Their 2018 report indicated that SBBS could bolster financial stability, but the existing regulatory framework posed obstacles.
- Recognizing the potential of SBBS, the European Commission, under President Juncker, committed to fostering their development.
- In May 2018, the Commission introduced a legislative proposal to remove regulatory barriers, aiming to equate the regulatory treatment of SBBS with national euro-area sovereign bonds. This includes considerations like capital requirements and eligibility for liquidity coverage.
- The proposal intends to facilitate a market-led development of SBBS, increasing the availability of low-risk liquid assets in the euro-denominated system. This would lead to better diversification and reduced risk in sovereign bond portfolios, positively impacting overall financial stability.
- In April 2019, the European Parliament endorsed the final agreement on the reforms proposed by the Commission, including those related to SBBS.
This initiative represents a strategic move towards reinforcing the resilience of the financial system in the EU, particularly within the context of the banking union. By promoting the use of SBBS, the EU aims to mitigate systemic risks and enhance the stability of its banking sector.
