Enria’s goal was to trigger a debate among policy makers on finding a solution to the problem of toxic non-performing loans.
Banks currently face several impediments to sustainability: NPLs (which is a misallocation of capital), costs (restructuring, regulations and IT spending), competition (from fintech, P2P and payment systems), and low interest rates (impacts investment margins). While interest rates are exogenous, and costs and competition require long-term planning, NPLs are urgent and actionable.
In total, the EU’s NPLs amount to over €1trn (5.4% of their loan books). A breakdown by countries from June 2016 shows that the percentage and actual value of NPLs of gross loans vary greatly: Italy has NPLs of 16.4% (or €276bn) out of its gross loan portfolio, Greece 46.9% (€115.1bn), Portugal 19.7% (€40.8bn), Ireland 14.6% (€32.8bn), Cyprus 47.4% (€21.4bn), Hungary 13.9% (€5.7bn), while Slovenia has 19.2% (€3.3bn) and Bulgaria has 13.7% (€2.4bn).
Luxembourg has the lowest ratio of 1% (€2.2bn), along with Sweden (€10.9bn).
The highest percentage of these NPLs stem from small and medium-sized enterprises (EU average of 16.7%), followed by large corporations (7.6%).
The International Monetary Fund considers a ratio of 5-10% of NPLs to have a significant adverse effect on banks’ abilities to lend. Along with this comes weak economic growth.
At the seminar on Monday, Enria explained the market failures and impediments: banks have a low incentive to dispose of these loans as a loss; there is an information asymmetry between buyers and sellers on the quality of borrowers; and there is a first mover disadvantage.
“Asset Management Company”
The EBA chairman proposes therefore to create a European bad bank (or an asset management company) to complete the recovery of European banks. A single EU AMC would provide more liquidity and an increased ability to deal with crises.
This AMC would take over and manage the sale of the loans. It would buy NPLs from banks at their “real economic value”--a level to be determined by the AMC. Individual shareholders would not be safeguarded and would bear a loss if these NPLs are sold at a lower price than the net book value.
The EU Bank Recovery and Resolution Directive and state aid rules would still apply. There would be no burden sharing across EU member states; each country would bear the losses of its national banks.
Klaus Regling, managing director of the ESM, welcomed the proposal: “It does not foresee a mutualisation of risks, which politically is an advantage”.
He noted that since the crisis, financial integration has decreased: “Cross-border banking remains the exception rather than the rule and banks and their clients have a much stronger home bias today than before the crisis. This hinders economic risk-sharing and therefore makes the euro area economy less resilient.”
However, during the conference Regling identified a few stumbling blocks: corporate governance, funding and the role of governments. Furthermore the sheer size of the funds poses a problem. He suggested that this was a good start, but it would take time, politically and institutionally, to set up.
Indeed, in a year dominated by elections (in the Netherlands, France and Germany), this issue is more likely to be discussed in the back corridors and among officials rather than reach the consultation and negotiation stage.