Europe needs “brave banks” willing to conquer new territory.
By Don Quijones, Spain, UK, & Mexico, editor at WOLF STREET.
The biggest financial problem in Europe these days is that it is “over-banked,” according to Daniele Nouy, Chair of the ECB’s Supervisory Board, and thus in charge of the Single Supervisory Mechanism, which regulates the largest 130 European banks.
In a speech bizarrely titled “Too Much of a Good Thing: The Need for Consolidation in the European Banking Sector,” Nouy blamed fierce competition for squeezing profits for many of Europe’s banks while steadfastly ignoring the much larger role in the profit squeeze played by the ECB’s negative-interest-rate policy. ECB President Mario Draghi agrees.
The profits of the largest 10 European banks rose by only 5% in the first half of 2017, compared to 19% for the US banks, which benefited from higher interest rates, stronger capital markets, better capitalization, and larger market shares, according to a new report by Ernst and Young.
In its latest annual health check of European banks, Bain Capital found that 31 institutions, or 28% of the 111 financial institutions they assessed, are in the “high-risk” quadrant. Location seemed to be a far more important factor than size.
- Banks in Italy, Greece, Portugal and Spain have become “a breed apart in continued distress,” the report said, adding: “Every single bank that has failed in the past decade and for which there are financial statements available…fell into this quadrant before their demise.”
- Scandinavian, Belgian, and Dutch banks figured prominently among the 38% of the banks that attained the strongest position, outperforming on virtually all financial indicators.
By contrast, many German and UK banks fell into the second category, that of “weaker business model.” In fact, virtually all the large German names fit into this category as their proﬁtability and efﬁciency languish at levels comparable with their Greek counterparts. They include Deutsche Bank, which in the midst of its third revamp in so many years, just reported its worst revenues in three and a half years.
Deutsche Bank is far from alone. The dismal reality is that nine long years after the global financial crisis began, many systemic European banks pose as big a risk to the financial system, if not bigger, as they did back then. The only major difference is that now they’re hooked on Draghi’s myriad monetary welfare schemes (LTRO, TLTRO I and II…), which have managed to keep them afloat even as the ECB’s monetary policy puts a massive squeeze on their lending margins by driving interest rates to unfathomably low levels.
But rather than raising interest rates — a scary thought given how major Eurozone economies like Italy and Spain have come to depend on QE to keep servicing their public debt — the ECB plans to reduce competition in the banking sector by weeding out smaller banks. It’s a process that is already well under way, as Nouy explained in her speech:
Since 2008, the number of banks in the euro area has declined by about 20%, to around 5,000. And the number of bank employees has fallen by about 300,000, to 1.9 million. Total assets of the euro area banking sector peaked in 2012 at about 340% of GDP. Since then, they have fallen back to about 280% of GDP.
But this is not about shrinking the size of the banking sector; it’s about shrinking the number of players within it and in the process creating trans-European banking giants. To achieve that goal, all Europe needs are “brave banks” that are willing to conquer new territory:
Cross-border mergers would do more than just help the banking sector to shrink. They would also deepen integration. And this would take us closer to our goal of a truly European banking sector.
Cranking up the consolidation and concentration of Europe’s banking industry was one of the crowning goals of Europe’s banking union, as we warned over three years ago. But so far it’s been a dismal failure, for three main reasons.
First, the ECB only has control over Europe’s 130 biggest banks. The other 6,000 or so smaller institutions — the local and regional savings banks and cooperative lenders that by and large continue to offer some semblance of financial service to local communities and small businesses — are currently still under the supervision of national regulators. And many countries, in particular Germany, are determined that it should stay that way.
Second, this is not 2006 — most banks don’t have excess money to splash out on cross-border acquisitions.
And third, even if they could, very few banks want to buy or merge with other banks, since they have no idea just how serious their rival institutions’ problems are. As the Bankia example amply showed, merging one insolvent institution with another (or others) tends to compound their problems.
Nevertheless, Nouy’s Supervisory Board is determined to breath life into a new generation of trans-European banks. And if regular cross-border acquisitions don’t pan out, there are always bank failures as a mechanism for consolidation. As the ultimate decider of which struggling banks get to live or die and which lucky competitor gets to pick up the pieces afterwards, without taking on the otherwise unknown risks, the Supervisory Board is certainly in an ideal position to drive this type of consolidation forward. By Don Quijones.
It just doesn’t let up with these banks. Read… The Next Spanish Bank Teeters, at Worst Possible Time