Effects of the new resolution regime in European banking

Financial stability is a pillar of the financial market well-functioning. After the last financial crisis, policymakers harmonised European regulation in banking. The European Banking Union revised the resolution of failing banks. I make use of a natural experiment, made possible by the introduction of the bail-in regulation, to analyse the effects of this revision on the banking system. The analysis concerns the changes in funding strategies of banks, the holdings of bonds issued by banks, and the reaction of equity holders. It aims to assess whether financial stability has been strengthened by the change in banks’ resolution policy and whether other issues arise from it. As result, banks changed their funding strategy, shrinking their balance-sheets and relying more on deposits; the mis-selling of bonds was partly counteracted, generating a potential hazard for financial stability since banks bought bonds issued by other banks; finally, it emerges that the bail-in mechanism was deemed credible by equity-holders, as demonstrated by their smooth reaction once the rules were set. This analysis presents a high degree of external validity as it can be extended to other countries and other change in resolution regulation.