The solution for undercapitalised European banks? Stop paying dividends, say academics

William Turvill
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Monte dei Paschi was the worst performing bank in the EBA stress tests (Source: Getty)

Undercapitalised European banks have been condemned for paying out billions of pounds worth of dividends last year.

New research has found 28 of the 34 publicly listed lenders that underwent European Banking Authority (EBA) stress tests, the results of which were published last month, paid out €40bn (£34bn) in 2015.

The study – by Sascha Steffen of ZEW, Viral Acharya of NYU Stern and Diane Pierre of the University of Lausanne – estimated a capital shortfall of €123bn across the 51 banks tested by the EBA. This amount, they said, would be needed to satisfy “the same capital requirements as large US banks”.

Read more: Investment banks to earn pretty penny from Monte dei Paschi rescue

The report said: “However, and despite this capital shortfall, 28 of the 34 publicly listed banks in the stress test have paid out about €40bn dividends for 2015. These banks pay out, on average, more than 60 per cent of their earnings to shareholders.

“Allowing undercapitalised banks to pay out dividends represents a substantial wealth transfer from subordinated bondholders to shareholders as it increases the likelihood that bondholders will need to be bailed in. Moreover, it is ultimately a wealth transfer from the taxpayer to the shareholders as state-aid is possible under the new restructuring rules after eight percent of equity and liabilities have been bailed in.”

The study suggested that this was in “stark contrast” to the way things are run on the other side of the Atlantic, where undercapitalised banks are forced to “stop any form of capital distribution”.

Read more: UK bank stress tests "worse than useless" says Adam Smith Institute

The authors estimated that if European banks had been forced to stop paying dividends in 2010, “the retained equity could have funded more than 50 per cent of the capital shortfalls we estimate in 2016”.

The report added: “A first step to preventing bank capital erosion can be that simple: ask banks to stop paying dividends! And it wouldn’t even require a discussion about capital issuance or bail-in or bail-out. Some banks have already taken steps and suspended dividend payments. It is now the task of the European Central Bank to enforce this across the Eurozone.”

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