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September 27, 2017

Danièle Nouy, Chair of the ECB Supervisory Board, spoke at the VIII Financial Forum in Madrid. She highlighted that the banking sector in Europe has become too large, discussing ways to shrink the sector and the role that regulators and supervisors can play in this area.

She highlighted that, despite the recent shrinking, the euro area banking sector is still quite large by international standards (citing the example of U.S.), with total assets accounting for 280% of GDP. It seems that there are too many banks competing for customers. She suggests that “banks might very well become smaller due to deleveraging” and having smaller banks could be one step toward a leaner banking sector. Other ways for the sector to shrink would be if banks “fail and cease to exist or they merge with other banks.” Keeping in mind the policy actions during the crisis, she adds that “banks must be allowed to fail,” as “it would also help the banking sector to shrink.” She highlighted that Europe now has a Single Resolution Mechanism (SRM), which ensures that banks can fail without breaking the financial system. Earlier this year, the SRM passed its first test when three large banks failed. These cases were handled efficiently and effectively, she added.

With regard to shrinking the sector through cross-border mergers, Ms. Nouy highlights that the banking union has paved the way for cross-border mergers. However, banks must find it in themselves to be brave to deal with various challenges and uncertainties in the form of digitalization, regulatory developments, high nonperforming loans, assessing the asset quality of the target bank, and the need for and ability to adapt their business models in response to the market developments. In the context of regulatory uncertainty, she said that “Basel III has been in the making for almost a decade now and it still needs to be finalized. It seems that many banks would like to see the rulebook in its final form before they consider taking the big leap of merging with another bank.” 

Ms. Nouy adds that, although consolidation should be left to market forces, regulators and supervisors can work on creating conducive conditions, including setting up the Single Resolution Mechanism, facilitating regulatory certainty by finalizing and consistently implementing Basel III, reducing uncertainty about asset quality of banks, and addressing the issue of nonperforming loans. This will “make mergers more attractive” and “enhance banks’ capacity to take them on.” Ensuring consistent treatment of domestic and cross-border banking groups is another way to help and ECB supports the EC proposal to grant capital waivers within banking groups on an EU cross-border basis, and not just locally, as is the case now. She concludes: “There is a good chance that the banking sector will indeed shrink. All banks need to review their business models. Some of them might become leaner as a result, others might merge and others still might fail. The result will be a right-sized banking sector that can reliably serve the economy.”


Related Link: Speech

Keywords: Europe, EU, Banking, Cross-Border Mergers, SSM, SRM, Banking Union, ECB

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