Contingent Capital In Bank Risk Management

Contingent capital is a kind of debt security that would convert into equity security under predefined points according to the agreement. The2008financial crisis exposed the moral hazard problem of commercial banks, which contributed to the crisis of confidence that reduces the possibility of regulators to bail out distressed banks and increases the difficulty of banks to raise capital after crises. Many international banks have already contended that raising enough capital is too difficult. Therefore, banks have to find other ways. As a result, bail-in capital that contingent capital and bail-in debt represents emerged.As a kind of high quality capital, contingent capital can replace equity to a certain extent, which can reduce the difficulty and cost of raising high quality capital of banks especially in the time of crisis.Moreover, contingent capital provides emergency capital for banks in crisis, which corresponds with the current trend in disposing financial crisis of banks after2008-that is bail out banks without the investment of public funds. This approach accords with the basic law-autonomy of the will and assumption of risk-of market economy, as well as the will of taxpayers.As a kind of bail-in instrument, contingent capital has already arranged everything before crisis. Therefore, banks can avoid the difficulty of raising money in the crisis. Furthermore, the automatic convert mechanism helps the distressed bank to save time and cost of bailout, which is consistent with the character of credit economy.Besides, contingent capital is debt security before converting, so it has the attributes of debt of preservation and priority, which is good for attracting investors in the crisis. Therefore, it helps to reduce the issuance cost. At present, capital instruments in China are not adequate, and mostly constituted by common share, retained earnings etc. This structure of capital is good for safety and soundness, but not for efficiency, especially in international arena. Besides, efficiency is not necessarily conflicted with safety. The introduction of contingent capital can help to enrich our capital instruments on the premise of keeping safety.Above all, this paper suggests that contingent capital is a kind of high quality capital which is worth introduction. This general framework is as follows:Firstly, introduce the background and purpose of this research. Secondly, analyze the design of contingent capital, especially the legal relationship of contingent capital. Lastly, on the basis of current situations of our banking industry, demonstrate the significance of introduction of contingent capital, and prove the feasibility of introduction.