First ordinary hearing in 2016 of the Chair of the ECB’s Supervisory Board at the European Parliament’s Economic and Monetary Affairs Committee

Introductory statement by Danièle Nouy, Chair of the Supervisory Board of the Single Supervisory Mechanism,
Brussels, 13 June 2016

Mr Chair,

Honourable Members of Parliament,

It is my pleasure to be back in Parliament today to address you on the supervisory work of the ECB. While having made progress in terms of profitability and resilience, the European banking sector still faces a number of challenges. We monitor closely the banks’ progress in addressing these risks and we take supervisory actions where necessary.

In my introductory remarks, I will first touch on the key developments in the euro area banking sector. I will then focus on our work on the 2016 Supervisory Review and Evaluation Process and on the progress with regard to the options and national discretions in European banking legislation. Before concluding, I will go through a number of broader issues for the banking union.

Key developments in the banking sector

Let me begin with recent developments in the banking sector and outline where we stand today: Capital ratios at significant euro area credit institutions have kept improving in the recent past and stand at 13% on average for significant institutions, well above minimum requirements. Banks’ profits have also recovered recently but they remain at very low levels: the average Return on Equity was 4.5% in 2015 and – perhaps more importantly – banks on aggregate do not foresee any significant improvements for 2016. Market sentiment around the euro area banking sector has deteriorated significantly to date in 2016. Banks’ equity prices have dropped by up to 30% this year and they consistently performed worse than the broader market.

Investors seem to be less concerned by banks’ resilience than they are about their profitability prospects. Cyclical profitability challenges come from the combination of muted loan demand and low interest rates. Targeted monetary policy operations have partly mitigated such negative factors through increased credit volumes and a stabilisation of economic conditions, leading to lower credit losses. Low interest rates have also reduced funding costs for banks.

Banks face other challenges too which are more structural in nature: first, non-performing loans continue to dampen the credit supply in some countries; moreover, banks’ costs reflect distribution channels that might suffer from overcapacity in some cases.

Supervisory activities and priorities

Supervisory Review and Evaluation Process

A key tool to address bank-specific risks is of course our Supervisory Review and Evaluation Process, or SREP. Let me therefore share with you what we are working on regarding the 2016 SREP.

To recall, in 2015, we harmonised large parts of the supervisory cycle. Tangible results were obtained. For example, a higher correlation between the risk profiles and the related capital add-ons was achieved: from 0.26 before November 2014 to 0.68 in 2015. Furthermore, capital requirements are now at similar levels for SSM global systemically important banks, the so-called G-SIBs, and their competitors in other major jurisdictions.

This has been our starting point. But building a solid assessment methodology according to the best international standards is a multi-year process. So how will we enhance the SREP in 2016?

First, we are refining the SREP methodology, for instance with regard to banks’ internal capital adequacy and their liquidity and funding positions.

Second, we are considering how to factor in additional elements coming from other stakeholders. In particular, we are looking at several clarifications received from the EBA and the European Commission on the interpretation of EU legislation. In this context, I would like to briefly focus on the maximum distributable amount or MDA. I already mentioned to this Committee the need for clarification and I was happy to see this echoed in your report on the banking union.

When it comes to the MDA, it is also relevant how supervisory assessments are reflected in Pillar 2 capital requirements. Against this background, the ECB has been analysing how to further fine-tune its toolkit to ensure that the insights of the on-going large scale supervisory stress tests feed into the assessment of the banks’ risk profile. One way to do it, while maintaining the overall level of the capital in the system broadly stable, assuming everything being equal, is to use capital guidance.

This instrument, which we call “Pillar 2 guidance”, would be complementary to Pillar 2 requirements. Failing to meet Pillar 2 guidance is not in legal terms a breach of capital requirements. But still, banks need to take it seriously: failing to meet Pillar 2 guidance would lead to intensified supervision and institution-specific measures designed to re-establish a prudent level of capital. At the same time, Pillar 2 guidance would not count in the computation of the automatically triggered MDA.

Our overall goal is to achieve an MDA trigger level that is comparable for all banks without lowering supervisory standards: while capital requirements are at similar levels for SSM G-SIBs and their competitors in other major jurisdictions as I mentioned earlier, the latter are currently benefitting from lower or no automatic MDA triggers.

Options and National Discretions

Besides the harmonisation of supervisory practices in the SREP, a key project for us since the establishment of the SSM has been the harmonisation of the rules through our work on the options and national discretions, or ONDs, in the CRDIV/CRR. We are continuing our work on the harmonisation of supervisory practices and have launched the public consultation on the second phase of the OND project. This phase concludes the project for significant institutions by adding eight provisions to the ECB Guide on options and discretions.

These eight additional provisions include important intragroup treatments, for example exemptions from liquidity inflow caps, risk weighting and leverage ratio requirements.

We plan to finalise the comprehensive Guide on ONDs for significant banks in the course of July 2016.

In addition, with the aim of ensuring the application of high supervisory standards and a level playing field throughout the SSM, we are cooperating closely with the national competent authorities so that the OND policy is extended, as appropriate and where possible, to less significant institutions. Of course, when harmonising ONDs for these smaller banks, the principle of proportionality is a key factor.

Banking union and legislative issues

Let me now turn to the broader context in which ECB Banking Supervision operates, namely the banking union and the regulatory environment.

Measures to strengthen the banking union

The banking union was established to foster the resilience of the banking sector, financial integration and the single market. While major steps have been taken, we need to make further progress to reap the full benefits of banking union. This requires progress both on risk sharing and risk reduction.

When it comes to risk sharing, completing the banking union requires the establishment of a single system to protect depositors – the European Deposit Insurance Scheme or EDIS. EDIS should be built up in parallel to commensurate risk-reduction steps. An appropriate phasing-in towards a fully-fledged EDIS is necessary to take into account of the differing starting positions of national deposit guarantee schemes. Such phasing-in will also allow making further progress to level the playing field in the banking union and on outstanding measures which make our banking system safer and more resilient. Risk-reduction and risk-sharing are mutually reinforcing elements to strengthen the banking union.

In the area of risk reduction, I believe that priority should be given to the full implementation of the Deposit Guarantee Scheme Directive and Bank Recovery and Resolution Directive. The further legislative work on options and national discretions in the CRD IV/CRR as well as the implementation of the minimum requirement for own funds and eligible liabilities or MREL, and the total loss-absorbing capacity, TLAC is of equal priority. Let me expand on these two aspects.

Review of the CRR/CRD IV

As regards the CRR/CRD IV context, EU regulatory measures to reduce the presence of options and national discretions in Union legislation, either granted to national authorities or Member States, are very welcome.

One of the areas where we clearly see the need for further harmonisation of the EU legal framework is for fit and proper assessments. The CRD IV is in this respect a minimum harmonisation directive and numerous divergences in national transpositions and supervisory practices have been identified across Member States. Both fit and proper assessment criteria and current processes are in urgent need of further harmonisation. In the current set-up one could have a situation where the same person is assessed for similar positions in different member states with a different outcome due to the applicable criteria. Also procedurally, the rules on fit and proper assessments vary widely between Member States, which unnecessarily complicates our work as supervisors.

The CRR/CRD IV review should also be used to incorporate some of the more recent standards designed by the Basel Committee in order to complete Basel III. These include, for example, the finalisation of the requirements for stable funding and the leverage ratio, as well as market risk and counterparty risk.

Total loss-absorbing capacity (TLAC) and minimum requirement for own funds and eligible liabilities (MREL)

As for MREL and TLAC, I would like to reiterate here also that we strongly support the new resolution framework including the bail-in tool, which ensures that the costs of failure and resolution are, first and foremost, borne by shareholders and creditors and not by the taxpayer. For the transition from a “bail-out” to a “bail-in” regime to succeed, banks will need to have adequate amounts of credibly bail-in-able, loss absorbing capacity when entering into resolution. The new MREL for EU banks is key in this regard. We also support the Commission efforts to review MREL in tandem with the implementation of the international total loss-absorbing capacity standard for the G-SIBs in Europe.

Securitisation

Looking beyond banking union, one should also not forget the wider development of capital markets in Europe. Relevant in this regard is the issue of securitisation which I understand you will also discuss in more detail after this hearing. As you know, the ECB has in its opinion welcomed the proposal for the two legislative acts on the table regarding simple, transparent and standardised securitisation. Securitisation can contribute to a well-diversified funding-base for banks. Especially at the current juncture where banks are capital constrained, enabling a well-functioning securitisation market is key. We therefore strongly encourage further progress on this legislative dossier.

Conclusion

I would like to conclude by pointing out that in recent months, euro area banks have made further steps towards increasing their resilience and profitability. Despite this progress, however, banks are still facing a broad range of structural challenges and tough market conditions.

In this environment, a proactive and risk-based supervisory approach is vitally important. We have identified the key risks to the European banking sector and are pursuing a broad set of activities to monitor banks’ progress in mitigating these risks and being able to intervene if necessary.

At the same time, the ECB continues on its side to make progress with regard to the harmonisation of supervisory rules and practices. In this respect, we welcome very much the current EU legislative work to review the existing regulatory framework, complete the banking union and further strengthen the single European rulebook.

Thank you very much for your attention.

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