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NPL management and the COVID-19 crisis

Speech by Elizabeth McCaul, Member of the Supervisory Board of the ECB, at the NPL Summit 2021, Athens

18 March 2021


Thank you for inviting me to join you today to discuss a topic that has always been – and, as the coronavirus (COVID-19) crisis evolves, will certainly continue to be – high on the ECB’s supervisory agenda: tackling non-performing loans (NPLs). First I would like to express my heartfelt sympathy to those who have lost loved ones in this health crisis. We owe so much to those fighting to protect us from the pandemic: the front-line healthcare workers, the scientists and those creating and distributing vaccines. Today I will talk about another important, albeit much more humble, endeavour: how we can protect our economic well-being while the pandemic continues to test us.

Because of the great financial crisis, we are all well aware of how high levels of NPLs can limit banks’ ability to support the real economy. In recent years, ECB Banking Supervision has helped steer the efforts to reduce the stock of non-performing assets on the balance sheets of euro area banks. Our guidance to banks on non-performing loans – which contains a collection of best practices for the identification, measurement, management and write-off of NPLs – has borne fruit: the NPL ratio of euro area banks stood at around 2.8% in the third quarter of 2020, down from around 7% at the end of 2015. This is significant progress and, thanks to these efforts, we entered the pandemic crisis in a relatively strong position.

Nevertheless, NPLs are expected to increase again in the coming months as the impact of the COVID-19 crisis on the real economy intensifies. We need to address this challenge effectively. Banks need to ensure that they have the operational capacity to swiftly and thoroughly address NPLs at an early stage. And alongside market-based solutions, other more systemic solutions, potentially supported by the public sector, should be further explored. A comprehensive plan to tackle rising NPLs across Europe is essential to deal with the consequences of the COVID-19 shock. We must learn from the lessons of the past to make the economic recovery as robust and as fast as can be.

Current economic outlook and challenges ahead

As we sit around this digital table today, Greek people – as well as most their fellow Europeans – are still battling COVID-19 infections under strict lockdown measures. Although we are now fairly certain that the longer-term damage to the economy will be more limited than after the great financial crisis, the uncertainty surrounding the economic outlook remains high. Progress in the fight against the pandemic, both in Greece and internationally, is critical for the recovery. And ending the pandemic is particularly important for the recovery of those sectors which have been hardest hit by the COVID-19 shock, some of which are central to the vitality of the Greek economy.

Thanks to the Basel reforms, euro area banks entered the COVID-19 crisis with stronger capital and liquidity positions and high-quality assets on their balance sheets. These improvements, coupled with the unprecedented coordinated policy response at the European and national levels, have enabled banks to continue lending to households and businesses throughout this first year of the crisis. In its role as supervisor, the ECB has tried to facilitate this effort: we have recommended that banks restrict dividend distributions to build up their balance sheets and enhance their loss absorption capacity, and we released capital buffers to increase their ability to lend. We have been successful so far: procyclicality has been avoided and a banking crisis averted.

However, as we all know, the impact of the COVID-19 crisis on the banking sector has yet to materialise fully. We experienced one of the harshest recessions on record in the first half of 2020, which, after some rebound in the second half of the year, resulted in a GDP drop of 6.8% in 2020 for the euro area. As government and other support programmes, such as direct transfers to households and businesses, loan moratoria and guarantee schemes, begin to expire or are withdrawn, banks will start to feel the full extent of the economic shock. This is relevant for Greece and for Europe as a whole, as the banking system plays a crucial role in financing the real economy and particularly in financing small and medium-sized enterprises (SMEs).

Our main concern is that, as support measures are phased out and the economic shock continues to reverberate across Europe, SME and corporate insolvencies are likely to increase and bank customers may find it more difficult to repay their loans. This is likely to lead to a higher share of NPLs on bank balance sheets which, in turn, will require higher provisions, generate losses and put pressure on banks’ lending capacity and their already structurally low profitability.

In this context, credit risk is a key priority for ECB Banking Supervision. Ensuring that deteriorated exposures are managed properly and in a timely manner will be key to preventing a build-up of NPLs in the short term. In our letters to banks in July and December 2020 we emphasised the importance of identifying borrowers’ financial difficulties at an early stage. We find it crucial that banks consider all available evidence and reflect on developing new alternative credit risk indicators which factor in the pandemic environment and the deployment of broad-based moratoria. In essence, banks need to perform a “look-through” credit analysis to determine whether a borrower’s true credit situation indicates a more permanent credit deterioration – they need to look beyond the government support and moratoria put in place to cushion the more temporary credit effects of the pandemic.

As the crisis reverberates through the real economy, banks should be better equipped to deal with the expected increase in NPLs. The new EU regulation on the minimum coverage for non-performing exposures (NPEs), as well as the ECB’s guidance on expectations for the provisioning of new NPEs[1], should facilitate the disposal of NPLs further down the line. Banks should be incentivised to build up their provisions as early as possible, thus preventing larger losses at a later stage.

The sooner NPLs are identified and provisioned for, the faster and smoother the NPL resolution and disposal process will be. This will allow us to avert the damaging effects of future debt hangovers. Targeted forbearance and timely debt restructuring can maximise value recovery. On the contrary, forgoing these measures is likely to lead to higher bank losses later on. Recognising losses only when public support measures expire increases the possibility of cliff effects, diminishing banks’ capacity to create value after the pandemic. Procyclicality will ensue and probably be amplified.

We expect banks to assess loans, including those subject to moratoria measures and public guarantees, and we will closely follow their progress in this regard. In the coming months we will monitor credit risk metrics related to loans subject to outstanding or expired EBA-compliant moratoria to detect potential misclassifications and assess whether the short-term consequences of the COVID-19 crisis have evolved into longer-term issues.

Track record of Greek banks in addressing NPLs

In general, Greek banks have made remarkable progress in dealing with a heavy legacy of NPLs. Greece had one of the highest levels of legacy NPLs in the euro area after the crisis, but the NPL ratio of Greek banks has been steadily decreasing since the start of ECB Banking Supervision – from 40% in 2015 to around 28% at the end of the third quarter of 2020[2].

In 2020 this improvement can be explained, on the one hand, by the large volume of NPL sales under the Hercules asset protection scheme[3] and, on the other, by the limited inflow of new bad loans thanks to the moratoria that have been put in place.

All four Greek banks under the direct supervision of the ECB – which together hold over 95% of total assets of the Greek banking system – have either completed or initiated processes to join the Hercules asset protection scheme. In its first year alone, the Hercules scheme reduced Greek banks’ NPLs by around 40%. Despite delays caused by the COVID-19 pandemic, the four largest Greek banks closed over €11 billion of NPL sales in 2020, which represents a year-on-year increase in disposals of almost 30%. The volume of NPLs was cut significantly, from around €73 billion at the end of the third quarter of 2019 to less than €60 billion at the end of the third quarter of 2020.[4]

Systemic solutions like the Hercules scheme have helped deepen the secondary market for NPLs in Greece. Hercules also helped strengthen the capital base of Greek banks by reducing their bad loans and making them more attractive to international investors, thus expanding their funding opportunities in the markets. Given the success of this securitisation programme, we welcome the Greek authorities’ stated intention to extend this scheme into 2022.

The success of the Hercules scheme in freeing up bank balance sheets from the legacy of the great financial crisis supports my conviction that systemic crisis solutions for NPL management – either purely market-based or possibly supported by the public sector, and leading to the outright sale or securitisation of NPLs – can be a helpful addition to, but never a substitute for, adequate credit risk management by banks. The quicker NPL/asset quality problems are solved the better, which history has proven to be very crucial to overall economic well being. Financial institutions should not wait for external help, either in the form of economic growth or state support. It is the always the banks’ responsibility to have robust credit risk management in the first place.

Other systemic tools to resolve NPLs, such as asset management companies, could also be useful in dealing with the build-up of distressed loans and should be further explored as part of a comprehensive plan to tackle rising NPLs across Europe. A European asset management company, or a European network of national asset management companies, is another solution worth looking into. As we have said before, access to such a network should be limited to banks with viable business models, or otherwise be subject to appropriate conditionality.

But it is still undeniable that this time around, we need to be faster in dealing with NPLs and aim for a European response. In this context, we welcome the European Commission’s initiative to improve the framework for dealing with NPLs. It is a step in the right direction and can make the markets for NPLs more efficient. We are particularly pleased to see the renewed impetus to finalise outstanding initiatives from the 2017 Action Plan for NPLs in relation to secondary markets and the reform of corporate insolvency and debt recovery frameworks.

Finally, national financial sector reforms play a critical role in shaping banks’ operating environment. In Greece, the authorities recently adopted a new insolvency framework, the first part of which entered into force this month. This is an important step. This framework replaces the existing insolvency and restructuring schemes and should make debt restructuring more effective, thus helping to speed up the reduction of NPLs. Effective debt enforcement procedures are vital to strengthen the payment culture, support NPL reduction and improve access to new credit for households and firms. The continued availability of bank finance is crucial to support a sustained increase in economic growth, create jobs and improve living standards.


We are now one year into the COVID-19 crisis and with vaccination plans picking up speed in Europe, it is time to start preparing for the recovery. Although the latest data suggest that the worst-case scenario is less likely to materialise, we are fairly certain that forbearance and NPLs will increase and that we will see a deterioration in the asset quality of banks under our supervision.

As we learned from the great financial crisis, if bank balance sheets are clogged with high levels of deteriorated assets for a prolonged period of time, banks will have a reduced capacity to generate income, will face higher funding costs and, as a result, will lend less to the real economy. Moreover, low-quality assets parked on balance sheets have been proven to hamper the transmission of monetary policy through the lending channel. This has resulted in varying degrees of effectiveness of monetary policy across the euro area since the great financial crisis.

We must keep these lessons in mind. Unless banks proactively prepare for increasing NPLs, provide adequate transparency on their balance sheets, and carry out timely assessments of credit quality, NPLs will accumulate and amplify the depth of the shock, delaying the economic recovery and undermining everything we have done so far to cushion the effects of the pandemic.

Thank you very much.

  1. ECB Banking Supervision (2018), “Addendum to the ECB Guidance to banks on non-performing loans: supervisory expectations for prudential provisioning of non-performing exposures”, March.
  2. ECB supervisory statistics.
  3. Hercules is an NPL securitisation scheme providing for a guarantee by the Greek State on the senior tranche of each transaction, which is retained by the originator bank. For the guarantee to become effective, certain conditions have to be met, including but not limited to: i) a minimum BB- external credit rating on the senior tranche; ii) the sale to private investors, for a positive value, of 50% plus one share of the junior tranche; and iii) accounting derecognition of the NPL portfolio. The government guarantee is priced at market rates, which ensures the compatibility of the scheme with the EU State aid framework.
  4. Debtwire.

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