RBS 2013 Annual Report Download - page 528
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Additional information
526
Risk factors continued
The Group has significant exposure to a weakening of the nascent
economic recovery in Europe
In Europe, countries such as Ireland, Italy, Greece, Portugal and Spain
have been particularly affected by the recent macroeconomic and
financial conditions. Although the risk of sovereign default continued to
decline in 2013 due to the continuing actions of the European Central
Bank (ECB) and the EU, the risk of default remains and yields on the
sovereign debt of many EU member states have remained well above
pre-crisis levels. This default risk raises concerns, and the possibility
remains that the contagion effect spreads to other EU economies,
including the UK economy, that the euro could be abandoned as a
currency by one or more countries that have already adopted its use, or
in an extreme scenario, that the abandonment of the euro could result in
the dissolution of the European Monetary Union (EMU). This would lead
to the re-introduction of individual currencies in one or more EMU
member states.
The effects on the UK, European and global economies of any potential
dissolution of the EMU, exit of one or more EU member states from the
EMU and the redenomination of financial instruments from the euro to a
different currency, are impossible to predict fully. However, if any such
events were to occur they would likely:
• result in significant market dislocation;
• heighten counterparty risk;
• result in downgrades of credit ratings for European borrowers, giving
rise to increases in credit spreads and decreases in security values;
• disrupt and adversely affect the economic activity of the UK and
other European markets; and
• adversely affect the management of market risk and in particular
asset and liability management due, in part, to redenomination of
financial assets and liabilities and the potential for mismatch.
The occurrence of any of these events would have a material adverse
effect on the Group’s financial condition, results of operations and
prospects.
The Group has significant exposure to private sector and public sector
customers and counterparties in the eurozone (at 31 December 2013
principally Ireland (£39.8 billion), Germany (£31.1 billion), The
Netherlands (£25.9 billion), France (£23.8 billion), Spain (£11.2 billion)
and Italy (£7.1 billion)). The Group’s private and public sector exposures
in the eurozone have been, and may in the future be, affected by credit
losses and restructuring of their terms, principal, interest and maturity. In
2011, this included an impairment loss of £1.1 billion in respect of its
holding of Greek government bonds. The public sector exposure
comprises exposure to central and local governments and deposits with
central banks. At 31 December 2013, the Group’s eurozone government
debt exposure amounted to £15.9 billion (largely AFS and HFT debt
securities exposure) including aggregate exposure of £2.8 billion to
Ireland, Spain, Italy, Portugal Greece and Cyprus (largely net HFT debt
securities exposure to Italy and Spain).
The Group and its UK bank subsidiaries are subject to the provisions of
the Banking Act 2009, as amended by the Banking Reform Act 2013,
which includes special resolution powers including nationalisation and
bail-in
Under the Banking Act 2009, substantial powers have been granted to
HM Treasury, the Bank of England and the Prudential Regulation
Authority (PRA) and Financial Conduct Authority (FCA) (together, the
“Authorities”) as part of a special resolution regime. These powers enable
the Authorities to deal with and stabilise certain deposit-taking UK
incorporated institutions that are failing, or are likely to fail, to satisfy the
threshold conditions (within the meaning of section 41 of the Financial
Services and Markets Act 2000 (FSMA), which are the conditions that a
relevant entity must satisfy in order to obtain its authorisation to perform
regulated activities). The special resolution regime consists of three
stabilisation options: (i) transfer of all or part of the business of the
relevant entity and/or the securities of the relevant entity to a private
sector purchaser, (ii) transfer of all or part of the business of the relevant
entity to a ‘bridge bank’ wholly owned by the Bank of England and (iii)
temporary public ownership (nationalisation) of the relevant entity. If HM
Treasury decides to take the Group into temporary public ownership
pursuant to the powers granted under the Banking Act 2009, it may take
various actions in relation to any securities without the consent of holders
of the securities.
Among the changes introduced by the Banking Reform Act 2013, the
Banking Act 2009 is amended to insert a bail-in option as part of the
powers of the UK resolution authority which option will come into force on
such date as shall be stipulated by HM Treasury. The bail-in option will
be introduced as an additional power available to the Bank of England to
enable it to recapitalise a failed institution by allocating losses to its
shareholders and unsecured creditors in a manner that seeks to respect
the hierarchy of claims in liquidation. The bail-in option includes the
power to cancel a liability, to modify the form of a liability (including the
power to convert a liability from one form to another) or to provide that a
contract under which the institution has a liability is to have effect as if a
specified right had been exercised under it, each for the purposes of
reducing, deferring or cancelling the liabilities of the bank under
resolution, as well as to transfer a liability. The Banking Reform Act 2013
is consistent with the range of tools that Member States will be required
to make available to their resolution authorities under the Recovery and
Resolution Directive (RRD), although since the RRD remains in draft
form, there can be no assurance that the bail-in option added under the
Banking Reform Act will not need to change to comply with the RRD.
The Group is subject to a variety of risks as a result of implementing the
State Aid restructuring plan
The Group was required to obtain State Aid approval for the aid given to
the Group by HM Treasury as part of the placing and open offer
undertaken by the Group in December 2008, the issuance to HM
Treasury of £25.5 billion of B shares in the capital of the Group which are,
subject to certain terms and conditions, convertible into ordinary shares in
the share capital of the Group and a contingent commitment by HM
Treasury (which has now been terminated) to subscribe for up to an
additional £8 billion of B Shares if certain conditions are met in addition to
the Group’s participation in the Asset Protection Scheme (APS) (which
has now been terminated). In that context, as part of the terms of the
State Aid approval, the Group, together with HM Treasury, agreed the
terms of a restructuring plan.