The “spillover effects.”
By Don Quijones, Spain, UK, & Mexico, editor at WOLF STREET.
Just how much more stress Europe’s banking system can bear will be one of the big questions of 2018. This year was already a pretty stressful year, what with two major Italian banks being put out of their misery while, another, Monte dei Paschi di Siena, was brought back from the dead. In Spain, 300,000 shareholders and subordinate bondholders mourned the passing of the country’s sixth biggest bank, Banco Popular, which was acquired by Santander for the measly price of one euro.
Now, a whole new problem awaits. A report published by Spain’s second largest lender, BBVA, has warned about the potential impact on the sector’s profitability of new rules on provisions due to come into effect in early 2018.
Until now, banks only had to report losses when loans began deteriorating — i.e. when the defaults began. But the introduction in January of a new accounting rule, known as IFRS 9, will force banks in Europe to provision for souring loans much sooner than at present. One direct result will be that banks will have to hold more capital on their books, and that will have a detrimental impact on their profits.
If next year’s stress test by the ECB sets the same macroeconomic conditions and parameters as those used in 2014, banks holding just over one-fifth of the market share in Spain — measured in risk-weighted assets — would have to undertake provisions exceeding 200 basis points, the BBVA report predicts. That would leave some entities with a solvency rating lower than 9% — i.e., on the brink or even below the minimal level required by European regulation.
BBVA calculates that in January banks will have to increase their provisions by 21% — around €5.2 billion — to comply with the new requirements. This amount should be manageable for the industry as a whole, though some lenders, in particular the smaller banks, will suffer more stress than others.
In 2017 it was Banco Popular that suffered the most stress, before being forced into a shotgun takeover by Spain’s biggest bank, Santander, in June. The decline and fall of Popular was important for a number of reasons:
- It served as a reminder that Spain’s banking system is far from fixed, despite the tens of billions of euros (hundreds of billions if you include government guarantees) thrown at it. Just today, the government sold a further 7% of Bankia’s shares at a €70 million loss. The bank’s shares slid 2.4% on the news.
- It put to rest the widely disseminated myth that Spain’s banking crisis was exclusively the result of the chronic mismanagement of the state-owned savings banks — the “cajas”. As the former Director of the Bank of Spain, Aristóbulo de Juan de Frutos, recently told a commission into the banking crisis, Popular’s collapse was proof that some retail banks had operated in exactly the same reckless way as the cajas.
- Popular’s collapse also proved that, when push comes to shove, Europe’s Single Supervisory Mechanism is more than willing to allow certain banks to hit the wall, though its very different treatment of Italy’s Monte dei Pacshi shows that a consistent application of the rules is as yet far from guaranteed.
But it’s not just small or medium-size banks that pose risks for Spain’s banking system in 2018. As the IMF warned in its latest assessment of Spain’s financial sector, the significant international presence of the country’s biggest banks, while providing welcome diversification effects, may also have significant implications for inward and outward spillovers:
The share of financial assets abroad has grown continuously for the Spanish banking sector, with the largest international exposures by financial assets concentrated in the United Kingdom, the United States, Brazil, Mexico, Turkey and Chile.
At least four of those six markets — Brazil, Mexico, Turkey and the UK — are likely to face headwinds in 2018, while in the U.S. Santander’s subsidiary, Santander Consumer USA, is dangerously exposed to the subprime auto-loan sector. The subsidiaries of Santander and BBVA are also “systemically important” for a number of banking systems in Latin America, accounting for about 38% and 25% of Mexico and Chile’s banking sector assets, respectively. In the case of BBVA, its Mexico operations accounted for almost half of the group’s global profits in the first half of 2017.
As the IMF cautions, “the high reliance on foreign subsidiaries in profit generation could imply significant vulnerabilities if the economic and financial conditions in host countries were to deteriorate.” Like Brazil, which provided a quarter of Santander’s global profits in the first half of 2017, Mexico faces a tough year ahead, with inflation still high, growth stagnating, political uncertainty rising, and serious doubts clouding the future of NAFTA.
If conditions deteriorate in either or both of these key emerging markets, it won’t take much for the spillover effects to be felt in Spain’s banking system. Given that the systemic risks posed by Santander and BBVA are of an order of magnitude far larger than those posed by the now-defunct Popular, such a turn of events could make for a very stressful 2018. By Don Quijones.
Uncertainty, threats, and counter-threats are piling up. Read… Catalonia’s Post-“Independence” Economic Hangover Sets In
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Spanish Banking is a train wreck, that has been slowed to such an extent.
That there is a period of months, between the destruction of each carriage.
The IMF, like most rating agencies, is normally far behind the 8 ball.
Hence its warnings on satander, should be taken seriously.
Conversely, every bank in spain or italy, that is “Resolved” must make those remaining, fractionally stronger, each event.
Although as “Target II” shows, both nations are experiencing slow but steady. Capital flight. As a % of the money moved from banks under threat, leaves the nations in question, each time a “Resolution” Event occurs.
No wonder everyone’s fleeing to gold or bitcoin, etc.
People are figuring out that maybe having limitless counterfeit fiat issued by criminal central banks isn’t the way to go.
(Unless you’re a War Party Of The Rich member, then you love fake money that you get first, from your friends at the Fed).
Wolf, to what extent are supposedly healthy French and German banks exposed to less than healthy Spanish and Italian banks? I assume the ECB would step in to stop any chain of defaults, but how many Euros will have to be coughed up to do it?
Hope you’re well.
IFRS 9 should have been brought in years ago, this drip feed effect has been going on far too long.
From a Spanish Bank point of view, are businesses borrowing less from the Spanish Banks, always a sign of an economy cooling?
In response to your question, lending to companies actually increased by 6% in the first half of 2017. So in that sense, things are going pretty well right now.
But it’s not all wine and roses. During the same period the number of bankruptcies went up by 4%, bucking a three-year trend. Here’s the link: http://www.vozpopuli.com/economia-y-finanzas/empresas/Crece-insolvencias-Espana-recuperacion-espejismo_0_1056795428.html
That’s interesting and good news reference borrowing up by 6%.
I’ve just read the 4% bankruptcy story, please apologies as my Spanish understanding is not great, are the bankruptcies up due to the fact refinancing is being turned down?