Bail-In

What is a bail-in?

A bail-in is a bank resolution tool that stabilizes a failing financial institution by imposing losses on its creditors and, if necessary, unsecured depositors rather than using taxpayer-funded rescue (a bailout). Debts may be written down or converted into equity to recapitalize the bank and keep it operating.

How bail-ins work

• Regulators identify a bank as failing or likely to fail.
• Instead of providing external funds, the bank’s liabilities are used to absorb losses.
• Loss-absorbing instruments (e.g., subordinated debt, certain bonds) are written down or converted into equity.
• Uninsured depositors and other unsecured creditors can face haircuts or partial conversion into bank shares.
• The goal is to restore solvency while avoiding direct use of public funds.

Bail-ins preserve the institution’s operations and reduce the risk of total loss to investors compared with an outright collapse.

When bail-ins are used

Bail-ins are typically chosen when one or more of the following apply:

• The institution’s failure is not expected to trigger a systemic financial crisis (“not too big to fail”).
• Government financial resources are limited, making a full bailout impractical.
• The legal resolution framework mandates using private-sector loss absorption before public funds.

Regulatory context

• Many jurisdictions have incorporated bail-in powers into their bank resolution frameworks to limit taxpayer exposure.
• International bodies such as the Bank for International Settlements and regional regulators have promoted rules requiring a minimum amount of loss-absorbing capacity in banks.
• Resolution regimes may require a predetermined sequence of write-downs or conversions before public bailout funds can be used.

Impact on depositors and creditors

• Insured deposits (in jurisdictions with deposit insurance) are generally protected up to the insured limit (for example, €100,000 in the EU; $250,000 in the U.S. under FDIC rules).
• Funds or instruments in excess of insured limits and unsecured creditors can be subject to losses or conversion into equity.
• Conversion into bank stock may not fully compensate for the lost deposit value, and equity received can decline if the bank remains weak.

Notable example: Cyprus (2013)

In 2013, Cyprus used bail-in measures to recapitalize banks. Uninsured depositors incurred substantial losses that were, in part, converted into equity. The episode highlighted both the effectiveness of bail-ins in avoiding a taxpayer-funded bailout and the severe consequences for large depositors.

Pros and cons

Pros
– Reduces taxpayer liability for bank failures.
– Forces investors and creditors to internalize the cost of risk.
– Can preserve bank operations and critical services without a full government rescue.

Cons
– Can erode public confidence and trigger deposit runs if not carefully managed.
– Large uninsured depositors face significant losses.
– Political and legal challenges can arise, especially if frameworks are unclear or inconsistent across borders.

Key takeaways

• A bail-in restructures a failing bank by imposing losses on creditors and uninsured depositors rather than using public funds.
• It’s used when a failure is not expected to be systemically catastrophic or when government resources are constrained.
• Deposit insurance protects amounts up to the statutory limit; amounts above that are vulnerable in a bail-in.
• The Cyprus case illustrated both the practical application and the risks of bail-ins, prompting broader regulatory adoption in some regions.