The UK’s risks and exposure to the EIB and other European financial mechanisms

This Bruges Group paper by Bob Lyddon, who is an independent management consultant specializing in European banking, exposes the fact that the UK has a Maximum Possible Loss of €149.2 billion on current capital and commitments to the institutions involved in the financing of the EU and the euro. That does not include any exposure through the International Monetary Fund.

As one of two remaining large EU Member States with a AAA-rating the UK plays an important role in back-stopping the EU and the euro.

The largest exposure is €110 billion to the European Union, including a €60 billion exposure to the European Financial Stabilisation Mechanism. A Member State’s guarantee of the European Union’s debts is joint and several, so if 26 Member States fail, the 27th pays everything.

The second largest exposure is to the European Investment Bank in Luxembourg, €1.9 billion of paid-in capital and €35.7 billion of immediately callable, subscribed capital. The EIB views the UK’s contribution of €37.6 billion as representing 39.6% of its “Broad risk-bearing capacity”, even though the UK is only a 16% shareholder.

The third area of exposure is to the European Central Bank. The UK – through the Bank of England – has a risk on paper of only €1.6 billion, but the ECB counts the bullion and currency reserves of the National Central Banks into its own reserves and it spins a very large wheel in its operations. Those operations, it appears, are executed by National Central Banks as the ECB’s agent, whereby any losses are taken by the ECB. Losses of over €10 billion would eliminate the ECB’s capital: the ECB reportedly owns €40 billion of Greek government bonds, so a haircut of any size would eliminate its capital and cause it to call upon its shareholders. As such the UK, as an EU Member State, may have to bailout the ECB which would imperil the UK’s AAA rating.

The extra €35.7 billion of uncalled capital to the European Investment Bank is an on-going, unconditional and irrevocable commitment and a call upon all or part of it can be considered likely. As well as this, the exposure to the European Central Bank is a wild card risk to the United Kingdom.