Do the authorities lack visibility over the deposits of European banks? This is what on the first anniversary of the banking crises of 2023 that felled Silicon Valley Bank and Credit Suisse. Claude Wampach, director in charge of banking supervision at the Luxembourg Financial Sector Supervisory Commission (CSSF), said the regulator has “a good overview” of assets and liabilities at banks in the grand duchy.
Guillaume Meyer: How do you interpret the results of the latest European stress tests for Luxembourg?
: We need to distinguish between the European stress tests, which are published, and our annual internal assessments. The latter take the European scenarios and apply them to the entire Luxembourg banking sector, including the smaller banks. In 2023, these exercises revealed a notable resilience of the Luxembourg banking system, with sufficient solvency to cope with adverse scenarios. A publication by the International Monetary Fund scheduled for May will corroborate the good capitalisation of the sector.
The stress tests focus mainly on the assets side of the balance sheet. Is there a lack of information about liabilities?
It’s true that assets benefit from greater visibility, but to say that liabilities suffer from a lack of information would be inaccurate. On the assets side, we have a detailed view by major aggregates and by sector, as well as monitoring of risk concentration. On the liabilities side, although we do not have an equivalent measure of concentration, we have a clear view of the major deposit aggregates, and we also identify the 10 largest depositors for each bank. So we have a fairly accurate idea of the structure of liabilities.
How do you assess these liabilities?
To analyse them, we first distinguish between deposits considered stable and those considered less stable. Retail deposits are generally seen as stable because of the wide dispersion of depositors, making a massive and simultaneous movement unlikely. Above all, if these deposits remain below the €100,000 guarantee threshold, they tend to be particularly immobile. On the other hand, funding from institutional sources, or wholesale funding, is a vulnerable area: these funds, which often have no maturity date, can be withdrawn at any time.
What does this mean for monitoring?
We are paying particular attention to banks’ ability to mobilise certain high-quality assets quickly in the event of massive deposit withdrawals. We therefore ensure that banks can monetise their assets in order to repay their liabilities. In the traditional intermediation business, this is not necessarily self-evident: a mortgage loan can be difficult to monetise. On the liabilities side, we focus our analysis on the stability and diversification of deposits, taking into account each bank’s business model. The aim is always to assess the balance sheet as a whole, i.e., the interaction between assets and liabilities.
The traditional banking model has an inherent instability.
Do you know the proportion of uninsured deposits in Luxembourg banks?
Yes, we have data on the breakdown between guaranteed and unguaranteed deposits, which varies considerably from one bank to another. In retail banks, with a large and varied customer base, insured deposits predominate. Conversely, in private banks, which focus on very wealthy customers, uninsured deposits account for a significant proportion. These customers bring in considerable sums, well in excess of the €100,000 insured threshold. Although they seek to invest these funds, a portion remains in liquid assets on the bank’s balance sheet, not covered by the deposit guarantee.
What proportion of deposits are insured in Luxembourg banks?
Across all banks, the proportion of guaranteed deposits averages 29%. However, given the diversity of business models, there are significant variations between banks. For the major retail banks, the proportion of guaranteed deposits generally exceeds 40%. There is no mechanical interpretation, no natural or conservative limit to be respected. This is why this indicator is not monitored in aggregate, but is used in case-by-case analyses.
What visibility do you have over the composition of deposits?
We have a good overview of where deposits come from, both in terms of region and sector. Although this view is not as detailed as for assets, we know whether the counterparties are small and medium-sized enterprises, households, retail deposits, firms or other banks. If necessary, particularly in the case of banks deemed to be more fragile, we can deepen our analysis of liabilities thanks to a legal provision allowing us to request this information directly from the banks.
However, it is important to understand that the traditional banking model, based on taking deposits and granting loans, has an inherent instability due to the difference in maturity between assets and liabilities, exposing banks to the risk of massive withdrawals of funds.
At what cost can this risk be completely eliminated?
Eliminating this risk entirely would mean forcing banks to hold only liquid assets, which would mean abolishing the traditional banking intermediation model. This would remove the banks’ ability to transform short-term deposits into long-term loans, and therefore to perform their banking function in the traditional sense. A function that is essential to the financing of our economies, particularly in Europe.
We are dependent on the data provided by the banks.
How dependent are you on the information supplied by the banks?
We are dependent on the data supplied by the banks. We base our analyses on this information. We do, however, carry out quality assurance work on this data, although we cannot examine each piece of data individually because of its sheer volume. Our aim is to identify outliers and to check the consistency of the information received against our understanding of each bank’s business model. If in doubt, we will verify the accuracy of the information ourselves onsite at the banks, or we will commission an independent audit.
Could artificial intelligence be used in this area in the future?
It’s a possibility. For the moment, our approach relies mainly on specific programmes to detect anomalies or unusual data. These tools guide our agents in their analysis or during a review of the key indicators linked to the bank’s business model. Today these applications are calibrated by expert judgement; tomorrow artificial intelligence will help us to refine them.
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Is there a lack of diversification of liabilities within Luxembourg banks?
I would say not. Of course, we are seeing some concentration, particularly in private banks, which tend to serve a wealthy clientele. However, this concentration in itself does not lead us to sound the alarm or call for a review of these banks’ business model. It’s all a question of balanced management of assets and liabilities. What’s more, relationships in the private banking sector are based on trust. Wealthy customers choose carefully where to invest their money, taking into account a number of factors such as the stability of the bank and the activities in which it engages. We can also see that an activity that might at first sight appear risky, such as Lombard credit, is regulated and, in the end, very well controlled today.
In other words?
In a Lombard credit, the bank grants a loan to its client, who then uses the funds to invest in a portfolio of shares. This process is governed by strict criteria, including portfolio diversification, over-collateralisation--the customer must also invest part of its own funds--and margin calls in the event of a loss in portfolio value. These mechanisms ensure that the bank has sufficient room to manoeuvre to cover losses without suffering financial damage itself. It’s a well-controlled model which, even in periods of market volatility, generally does not generate losses.
Our collaboration with the BCL is based on a practical arrangement.
What is your key message?
The key is confidence in the bank’s business model. Depositors, particularly those whose deposits exceed the guaranteed amount, need to have confidence in the bank’s risk management and soundness. Good asset management, a proactive approach to risk management and substantial capital are factors that considerably reduce the risk of a massive withdrawal of deposits. In a way, banking crises always start on the assets side. And that’s another reason why the authorities are concentrating their efforts on the assets side.
How are you preparing for possible crises?
Since 2008, banks have had to draw up recovery plans to show how they would react to significant losses. These plans can include commitments from shareholders to provide additional funds, or strategies to manage liquidity, such as refinancing loans with the central bank. For these strategies to be effective, it is essential to be well prepared, with communication channels and tested systems in place.
How do you work with the Luxembourg Central Bank (BCL) on monitoring liabilities?
Under the European regulatory framework, each member state is required to designate a competent authority for banking supervision. In Luxembourg, this responsibility falls to the CSSF, in accordance with European legislation on capital requirements. However, following the 2008 financial crisis, the BCL felt it was appropriate to play a role in liquidity supervision, given its role as a liquidity provider within the European System of Central Banks. As a result, a 2008 law gave the BCL certain prerogatives in the area of liquidity supervision, both at global level and for individual institutions.
How are liquidity responsibilities shared?
We have divided the portfolio of banks between our two institutions, with some banks under the direct supervision of the BCL. This collaboration is based on a well-established practical arrangement. Letters between our institutions formalise our cooperation and clearly define the division of tasks, to avoid anything falling through the net.
Originally published in French by and translated for Delano