Category Archives: EBU

10/7/16: Europe’s Banks: Dinosaurs On Their Last Legs?


Europe's banks have been back in the crosshair of the markets in recent weeks, with new attention to their multiple problems catalysed by the Brexit vote.

I spoke on the matter in a brief interview with UTV here: http://utv.ie/playlists/default.aspx?bcid=5026776052001.

Now, Bloomberg have put together a (very concise) summary of some of the key problems the banks face: "Europe's banks have been a focal point of investor skittishness since Britons voted to leave the European Union, but reasons to be worried about financial firms pre-date the referendum. Whether it be the mountain of non-performing loans, the challenge from fintech firms and alternative lenders encroaching on what was once their turf, or rock bottom interest rates eroding margins, the problems facing Europe's lenders are mammoth."

To summarise the whole rotten lot: European banks (as a sector)

  • Cannot properly lend and price risk (hence, a gargantuan mountain of Non-Performing Loans sitting on their books that they can't deleverage out, exemplified by Italian, Slovenian, Spanish, Portuguese, Cypriot, Greek, Irish, and even, albeit to a lesser extent, German, Dutch, Belgian and Austrian banks);
  • Cannot make profit even in this extremely low funding cost environment (because they cannot lend properly, while controlling their operating costs, and instead resort to 'lending' money to governments at negative yields);
  • Cannot structure their capital (CoCos madness anyone?);
  • Cannot compete with more agile fintech challengers (because the dinosaur mentality and hierarchical structures of traditional banking prevents real innovation permeating banks' strategies and operations);
  • Cannot reform their business models to reflect changing nature of their customers demands (because they simply no longer can think of their customers needs); and
  • Cannot succeed in their traditional markets and services (despite being heavily shielded from competition by regulators and subsidised by the governments).
Instead of whingeing about the banks' plight, we should focus on the banks' resound failures and stop giving custom to the patrician incumbents. Let competition restructure Europe's banking sector. The only thing that sustains Europe's banks today is national- and ECB-level regulatory protectionism that contains competition within the core set of banking services. It is only a matter of time before M&As and organic build up of fintech players will blow this cozy cartel up from the inside. So regulators today have two options: keep pretending that this won't happen and keep granting banks a license to milk their customers and monetary systems; or open the hatches and let the fresh air in.

15/4/16: Banking Union, Competition and Banking Sector Concentration


One of the key changes in recent years across the entire U.S. economy has been growth in market concentration (lower competition) and regulatory burden increases in a number of sector, including banking. A good summary of the matter is provided here: http://www.americanactionforum.org/research/market-concentration-grew-obama-administration/ .


However, an interesting chart based on the U.S. Fed data, shows that even with these changes U.S. banking sector remains relatively more competitive than in other advanced economies:


Source: @HPSInsight

Interestingly, European banks are also becoming more regional, as opposed to global, players as discussed here: http://www.nakedcapitalism.com/2016/03/the-us-is-beginning-to-dominate-global-investment-banking-implications-for-europe.html

Chart next shows market shares of the European Investment Banking markets accruing to banks originating in the following jurisdictions:


Source: @NakedCapitalism

As an argument goes: “Deutsche Bank and Barclays are the only Europeans left in the top seven for the EMEA market. But they are likely to lose their positions because Deutsche Bank is currently undergoing a major reorganisation and Barclays is in the process of executing the Vickers split. In the investment banking field, the only pan-European banks will all soon be American. This has the corollary, for good or bad, that European national and EU-level authorities, such as the European Commission, will have rather less direct control over them. A key part of the European financial system is slipping out of the grasp of the European authorities.

Which begs two questions:

Does Europe need more regulation-induced consolidation in the sector, aiming to make TBTF European banking giants even bigger and even less diversified globally, as the European Banking Union and European Capital Markets Union, coupled with increasing push toward greater regulatory constraints on Fintech sector are likely to do?

Or does Europe need more disruptive and more agile, as well as risk-diversified, smaller banking systems and more open innovation culture in banking and financial services?


Note: you can see my analysis of the European Capital Markets Union here: http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2592918

27/7/15: IMF Euro Area Report: The Sick Land of Banking


The IMF today released its Article IV assessment of the Euro area, so as usual, I will be blogging on the issues raised in the latest report throughout the day. The first post looked at debt overhang.


So here, let's take a look at IMF analysis of the Non-Performing Loans on Euro area banks' balance sheets.

A handy chart to start with:



The above gives pretty good comparatives in terms of the NPLs on banks balance sheets across the euro area. Per IMF: "High NPLs are hindering lending and the recovery. By weakening bank profitability and tying up capital, NPLs constrain banks’ ability to lend and limit the effectiveness of monetary policy. In general, countries with high NPLs have shown the weakest recovery in credit."

Which is all known. But what's the solution? Ah, IMF is pretty coy on this: "A more centralized approach would facilitate NPL resolution. The SSM [Single Supervisory Mechanism - or centralised Euro area banking authorities] is now responsible for euro area-wide supervisory policy and could take the lead in a more aggressive, top-down strategy that aims to:

  • Accelerate NPL resolution. The SSM should strengthen incentives for write-offs or debt restructuring, and coordinate with NCAs to have banks set realistic provisioning and collateral values. Higher capital surcharges or time limits on long-held NPLs would help expedite disposal. For banks with high SME NPLs, the SSM could adopt a “triage” approach by setting targets for NPL resolution and introducing standardized criteria for identifying nonviable firms for quick liquidation and viable ones for restructuring. Banks would also benefit from enhancing their NPL resolution tools and expertise." So prepare for the national politicians and regulators walking away from any responsibility for the flood of bankruptcies to be unleashed in the poorly performing (high NPL) states, like Cyprus, Greece, Ireland, Italy, Slovenia and Portugal.
  • And in order to clear the way for this national responsibility shifting to the anonymous, unaccountable central 'authority' of the SSM, the IMF recommends that EU states "Improve insolvency and foreclosure systems. Costly debt enforcement and foreclosure procedures complicate the disposal of impaired assets. To complement tougher supervision, insolvency reforms at the national level to accelerate court procedures and encourage out-of-court workouts would encourage market-led corporate restructuring."
  • There is another way to relieve national politicians from accountability when it comes to dealing with debt: "Jumpstart a market for distressed debt. The lack of a well-functioning market for distressed debt hinders asset disposal. Asset management companies (AMCs) at the national level could support a market for distressed debt by purchasing NPLs and disposing of them quickly. In some cases, a centralized AMC with some public sector involvement may be beneficial to provide economies of scale and facilitate debt restructuring. But such an AMC would need to comply with EU State aid rules (including, importantly, the requirement that AMCs purchase assets at market prices). In situations where markets are limited, a formula-based approach for transfer pricing should be used. European agencies, such as the EIB or EIF, could also provide support through structured finance, securitization, or equity involvement." In basic terms, this says that we should prioritise debt sales to agencies that have weaker regulatory and consumer protection oversight than banks. Good luck getting vultures to perform cuddly nursing of the borrowers into health.


Not surprisingly, given the nasty state of affairs in Irish banks, were NPLs to fall to their historical averages from current levels, there will be huge capital relief to the banking sector in Ireland, as chart below illustrates, albeit in Ireland's case, historical levels must be bettered (-5% on historical average) to deliver such relief:


Per IMF: "NPL disposal can free up large volumes of regulatory capital and generate significant capacity for new lending. For a large sample of euro area banks covering almost 90 percent of all institutions under direct ECB supervision, the amount of aggregate capital that would be released if NPLs were reduced to historical average levels (between three and four percent of gross loan books) is calculated. This amounts to between €13–€42 billion for a haircut range of between zero and 5 percent, and assuming that banks meet a target capital adequacy ratio of 13 percent. This in turn could unlock new lending of between €167–€522 billion (1.8–5.6 percent of sample countries’ GDP), provided there is corresponding demand for new loans. Due to the uneven distribution of capital and NPLs, capital relief varies significantly across euro area countries, with Portugal, Italy, Spain, and Ireland benefiting the most in this stylized example."

A disappointing feature, from Ireland's perspective, of the above figure is that simply driving down NPLs to historical levels will not be enough to deliver on capital relief in excess of the average (as shown by the red dot, as opposed to red line bands). The reason for this is, most likely, down to the quality of capital held and the impact of tax relief deferrals absorbed in line with NPLs (lowering NPLs via all but write downs = foregoing a share of tax relief).


Stay tuned for more analysis of the IMF Euro area report next.