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Interview with Les Échos

Interview with Andrea Enria, Chair of the Supervisory Board of the ECB, conducted by Thibaut Madelin, Édouard Lederer and Alexandre Counis

10 January 2022

Given the current state of the economy, what are your recommendations to European banks?

We are still in a situation of uncertainty. It’s true that the big wave of corporate failures that had been anticipated in 2020 has not happened. There was even a surprising fall in the number of failures in 2020 and no more than a slight increase in 2021. However, as all of this is thanks to the extraordinary public support measures, we have invited banks to be extremely prudent and to avoid releasing too early the provisions they set aside in 2020 against the risk of default. Also, we recommend that banks strengthen their credit risk control, so as to be able to identify and manage at an early stage any sign of a deterioration in asset quality.

After the freeze which you had imposed in 2020, the banks announced large dividend payouts and share buybacks. Do they now have to be prudent again?

To be honest, though the level of uncertainty remains elevated, it is far lower than it was in 2020. The macroeconomic projections for the euro area have been steadily improving. We are no longer expecting the tsunami of non-performing loans that we feared in 2020. That being said, we think that banks should not go to the other extreme. A degree of moderation would be welcome. But we have looked closely at the banks’ dividend and share buyback programmes and have considered them sufficiently prudent for banks to safely continue respecting the capital requirements, including in the event of adverse economic developments.

So does the new Omicron variant not pose a major risk for the financial sector?

It’s too soon to predict the economic impact of Omicron but we think that the exceptional measures put in place by governments, the central bank and the supervisors are sufficiently robust to avoid a massive deterioration in assets. We are less concerned than we were a year ago, but we are of course vigilant and we are advising the banks not to underestimate credit risks. This will become all the more important as the support measures are gradually withdrawn.

The French government last week announced a new six-month moratorium on state-guaranteed loans for certain firms. Do you support this measure?

Such measures are welcome. Up to now, the moratoria seem to have played their bridging role in enabling firms and households to get through the worst of the crisis. And as they come to an end, customers have generally resumed their repayments. But we are asking banks to evaluate their customers’ solvency regardless of public support. The key issue for banks is to identify early on those customers who are in difficulties. We have asked them to strengthen their credit risk management.

A significant effect of the crisis is the surge in inflation. Does it present an opportunity for banks or a risk?

What matters for banks is the impact that inflation may have on growth dynamics and on interest rates. There is a path to smoothly exit the environment of low interest rates as growth nears its potential and inflation gets close to its target. But there is also an undesirable scenario in which the markets’ inflation expectations evolve rapidly and lead to interest rate shocks or credit spread shocks which could affect banks’ balance sheets in an unexpected way. We would then be dealing with a bumpy exit from the low interest rate environment.

Do you already see this risk materialising?

We see some areas in which valuations are stretched, with excessive leverage or too highly concentrated exposures. This applies to leveraged lending and to prime brokerage [services to hedge funds] as the Archegos episode highlighted. In these areas, a change in interest rates may lead to large movements in the markets, which is why the impact of shocks in interest rates and credit spreads is part of our supervisory priorities for 2022.

Could inflation lead to higher costs for the banks?

We haven’t seen that so far. On the contrary, we see that some banks have actually speeded up their cost reduction drive during the pandemic. The banks are increasingly achieving cost savings through digitalisation.

Does this tendency not leave them more exposed to cyber risk?

We have indeed discussed this topic extensively within the Supervisory Board and we decided to make it a priority. We are going to conduct on-site inspections to this end in 2022. Up to now, we have seen a significant increase in the number of cyberattacks against European banks but their concrete impact has remained limited. However, we need to be highly vigilant.

Do you think that the banks are well prepared?

That’s hard to say as the risk is continually evolving. The hackers are becoming ever more sophisticated. One of the topics we’re scrutinising is outsourcing. Many banks are increasingly resorting to outsourcing for their critical functions. Yet their providers are often non-regulated entities, based in distant jurisdictions, which are not subject to the same IT security rules as the banks. We must ensure that this potential source of systemic risk is well covered. That’s also the purpose of the draft Digital Operational Resilience Act, or DORA for short, which aims to improve the operational resilience of financial entities.

European banks feel that the new prudential standards under Basel III will undermine their competitiveness against their US counterparts. Are they right?

I am sometimes surprised to hear that the Basel rules are not suitable for European banks’ business models. To a certain extent, it’s a spurious argument because the Basel proposals essentially result from analyses conducted within the European Union. Put simply, in the wake of the financial crisis we realised that the internal models used by European banks were not always reliable and delivered inconsistent outcomes across banks, thus raising level playing field concerns. The work of the EBA and the ECB is at the basis of the final Basel III package, which addresses reliability and consistency issues without giving up internal models.

The European Commission’s proposal provides for transitional arrangements, which the banks want to keep. What is your view on this?

In general we favour the faithful and timely implementation of Basel III, without any deviations. I realise that there might be a need for some adjustments, particularly considering that the Basel standards are developed having in mind international banks while the new EU rules will also apply to small institutions. But if you add a string of exceptions to please one constituency or another, you may end up with so many cracks in the dyke that the whole structure has actually become more fragile. If temporary divergences are considered necessary to soften the transition, that’s fine. But they should truly be temporary.

The French banks are strongly championing one particular temporary exception related to mortgage lending.

I question whether this is really the right time to introduce flexibility in this area. We see that in several Member States the property market is heating up. Home loans are growing at their highest rate for many years and there have been significant real estate price increases, averaging 6% across the euro area. Do we really need to soften the requirements in this market context?

The German government says it is ready to reopen discussions on the banking union, notably the fraught issue of the deposit guarantee. Are you hopeful that progress will be made on this project to create a single banking market?

I can’t deny that I am rather frustrated at the lack of progress in this regard. I realise that this subject is politically sensitive, with red lines of different Member States that make it very difficult to reach an agreement. I hope that progress will be made under the French presidency of the European Union and with the new German government. Politicians sometimes underestimate the benefits a complete banking union might bring.

In what way?

The fact that the banking market is still fragmented along national lines does not help to support the recovery in Europe, especially in the light of the need to finance the climate transition and the digital transformation of our economies that is at the basis of the Next Generation EU project. Also, most importantly, only a complete banking union could reduce the likelihood that shocks hitting one or another Member State might again trigger the adverse loop between banks and sovereigns that we saw at work during the sovereign debt crisis.

The banks believe that the lack of a truly integrated banking market is preventing cross-border consolidation in Europe. Isn’t that a little simplistic?

There is no doubt that the current institutional framework discourages cross-border consolidation and that regulatory obstacles should be removed to ensure a more integrated management of capital and liquidity within the banking union. But I also encourage banks to make better use of the options offered under the current regulatory framework. For instance, they could more widely rely on branches rather than subsidiaries to conduct business in other euro area countries. That way they can freely move their capital and liquidity from one country to another. This is what most third-country groups are doing when relocating their business to the EU after Brexit. UBS, for example, has its European head office in Frankfurt, merging all of its European subsidiaries into that entity, and it provides services through branches in other Member States. It is a pity that third-country groups are making better use of the Single Market than European banks.

Have you noticed a reflex among national supervisors to protect their national banks during the pandemic?

Since the start of the crisis this reflex has strengthened considerably. People fear that if things went wrong it would have an impact on their own economy and budget, etc. For example, our recommendation to banks not to pay dividends applied at the level of each banking group, not within each banking group. We wanted funds to remain within the banking sector. But some national authorities went further and recommended that their local banks should not pay any dividends to their parent company, even if it was a euro area bank.

These are arguments slowing consolidation.

Yes, but the truth is more nuanced than we would like to believe. Of course, bank mergers are mainly taking place within national borders, except for Crédit Agricole’s acquisition of Creval last year in Italy. But we also see operations which are not large mergers between two banks but consolidation by business line, such as in asset management, custodian banking, payments, etc. For example, Société Générale aims to become a world leader in vehicle leasing by buying LeasePlan, and Crédit Agricole has recently bought the asset management arm of Banco Sabadell. These transactions focused on business lines more often have a cross-border dimension. There is therefore a type of European consolidation under way which we support.

But is that enough?

There is overcapacity in the European banking sector, making full-blown mergers necessary. In an ideal world, I would like banks to regard the banking union as their domestic market. Thus far, failing banks have been absorbed by national competitors, for example. In Spain, Ireland and Italy, the banking sector has been restructured at the national level. This shows that the banking union is still not fully a reality.

So would you encourage a French bank to take over Monte dei Paschi?

That is not for me to do. But let’s consider the benefits of a more integrated market. Look at the United States: when the state of Puerto Rico defaulted, its banks went under but the federal authorities intervened and sold their assets, liabilities and branches to banks in other states. Customers were not even aware that their bank was in trouble. In Europe, we don’t have instruments for risk-sharing and we had to manage the financial crisis at the national level. And today this makes the Member States even more opposed to closer European integration. It’s a vicious circle that we must break.


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