ECB published results of the financial stability review in November 2019. The financial stability review assesses developments relevant for financial stability, including identifying and prioritizing the main sources of systemic risk and vulnerabilities for the euro area financial system. This issue of the review contains two special features: one examines how and where consolidation could help banks to improve their profitability while the other special feature discusses ways in which the measurement of banks’ systemic footprint can be complemented with new indicators. The review also includes eight boxes, including one that examines the impact of cross-border transactions on real estate markets and one that considers the implications of misconduct costs for banks.
The review highlights that downside risks to global and euro area economic growth have increased and continue to create financial stability challenges. The euro area banking sector has increased its resilience in recent years. However, slow progress in improving underlying profitability and renewed cyclical headwinds may hamper the ability of banks to respond to downside risks to growth. Non-performing loan (NPL) ratios of banks have improved slightly further since the previous financial stability review, driven by solid loan growth and continued, albeit slowing, reductions in NPLs. Going forward, weaker economic activity and the related increase in new default inflows may make further reductions in NPL ratios more challenging. Banks’ solvency positions appear resilient to the materialization of the main financial stability risks in an adverse scenario. The previous upward trend of bank solvency ratios has come to a halt in recent quarters. Management buffers remain sizable on aggregate though, but a significant part of these is likely to be consumed by the Basel III finalization package, with systemically important institutions being particularly affected.
Under the baseline scenario of the new macro-micro model of ECB, the solvency position of euro area significant credit institutions is projected to improve; however, under the adverse scenario, the euro area banking system would experience a reduction of up to 3.1 percentage points in the common equity tier 1 ratio. At the individual bank level, the majority of euro area significant institutions would remain above the common equity tier 1 capital requirement. Targeted macro-prudential policy measures are in place to address vulnerabilities in the banking sector and real estate markets, but the toolkit for non-banks needs to be further developed. Macro-prudential instruments could be used to mitigate some of the increase in euro area vulnerabilities, highlighting the importance of a continuation of the efforts to strengthen resilience to adverse shocks. Seven euro area countries have announced a positive CCyB rate, with rates ranging from 0.25% to 2.00%. In general, a greater availability of a releasable buffer in the form of a CCyB would be useful in the euro area.
The review notes that non-banks, such as investment funds, insurance companies, and pension funds, have continued to take on more risk and have increased their exposure to riskier segments of the corporate and sovereign sectors. In the event of a sudden repricing of financial assets, growing credit and liquidity risk in some parts of the euro area non-bank financial sector—coupled with higher leverage in investment funds—may lead non-banks to respond in ways that cause stress to spread to the wider financial system.
Keywords: Europe, EU, Banking, Insurance, Securities, Pensions, Financial Stability Review, Macro-Prudential Policy, NPLs, Systemic Risk, ECB
Across 35 years in banking, Blake has gained deep insights into the inner working of this sector. Over the last two decades, Blake has been an Operating Committee member, leading teams and executing strategies in Credit and Enterprise Risk as well as Line of Business. His focus over this time has been primarily Commercial/Corporate with particular emphasis on CRE. Blake has spent most of his career with large and mid-size banks. Blake joined Moody’s Analytics in 2021 after leading the transformation of the credit approval and reporting process at a $25 billion bank.
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