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November 06, 2017

Yves Mersch, Member of the Executive Board of the ECB, spoke about the structural, regulatory, and technological challenges for the transforming European markets. He highlighted that banks face a number of challenges, which are visible in the weak financial performance of the sector, with low price-to-book ratios and meager profitability. Compared with the pre-crisis status quo, profound changes in the sector in terms of structure and business models will be needed to tackle these challenges.

Mr. Mersch pointed out the structural challenges in the banking sector in Europe. He noted that the stock of non-performing loans (NPLs) remains high in some countries and continues to depress bank profitability. This NPL overhang is tying up bank capital in failed or failing ventures and preventing the efficient flow of new lending to profitable projects. To overcome this challenge, he recommended the creation of Europe-wide banking groups, which would help break the bank-sovereign nexus and the consequent fragmentation of bank lending along national lines and through national interference that marked the crisis. He also suggested that setting up an effective Europe-wide securitization market for distressed debt should help banks to shift NPLs from their balance sheets and free up capital for new lending.

The final challenge for banks comes from the impact of technology, which is leading to increased competition from non-banks in domains traditionally considered to be the core business of banks. He emphasized on the fact that with regard to lending, technological advances have permitted the growth of internet and mobile banking, opening up the sector to newcomers and exposing incumbents with large branch networks to greater competition. There is also increased competition in the provision of retail payment services, made possible through new technology, which is disrupting banks’ traditional business models. However, he highlighted that regulation has started to catch up with the new technology. The Second Payment Services Directive (PSD2), by providing a standardized system that operates across the EU, offers the basis for a new generation of financial services. He also noted that technology also affects the ways in which central banks carry out their operations. As per Mr. Mersch, “The advent of Distributed Ledger Technology (DLT) has the potential to change how central banks issue base money and operate payment systems. Only through detailed research and testing can we determine if, and how, we should use DLT.”

With regard to banks facing stricter regulatory and prudential framework post the crisis, he said: “These measures aim to create a banking sector that works efficiently and smoothly. I recognize that tighter regulations do come at a higher cost to banks, but this should be set against the costs incurred by society over the past decade as a result of regulation that was too lax. Nonetheless, regulators should quickly agree on appropriate international standards to give banks certainty over long-term planning around business models.” He concluded that regulation alone is insufficient and further efforts are required from banks to both consolidate and refine business models, to return the sector to sustainable rates of profitability. Efforts are also required at the national level to make national institutions function in line with the European legislation.


Related Link: Speech

Keywords: Europe, Banking, NPLs, PSD2, Fintech, Regtech, ECB

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