The European Banking Authority’s (EBA) Autumn Report, published a few days ago, explicitly aims to define the risks and vulnerabilities of the European financial system in order to preserve banking stability. As a starting point, it anticipates that the European economic and political scenario is highly uncertain. However, it also acknowledges the progress made in balance sheet strength, profitability, and the opportunities that have arisen for banks and their clients with digitalization.
The banking authority warns of risks stemming from a scenario of negative interest rates and increasing competition for the sector from other non-bank entities. In my view, the current interest rate environment is exceptional and, sooner or later, it will reverse—at least in part. As regards non-bank competition, it should be borne in mind that the emergence of new digital financial services providers and shadow banking has taken place in a context of exceptionally favourable monetary conditions and with clear regulatory gaps. Banks’ low profitability, in many cases below the cost of capital, is one of the sector’s vulnerabilities, as are the non-performing assets accumulated on balance sheets, a legacy of a crisis of financial origin that has brought to light the economic weaknesses that had been building up over the previous decade. I would only add that recent developments show an improvement in profitability in a context of a continued reduction in non-performing loans.
Likewise, the Report warns of the cost that an abrupt upward revision of the interest rates set by the European Central Bank (ECB) would entail for the sector. The rest of the yield curve depends on expectations regarding the evolution of official interest rates, money supply and demand, and many other factors. The credibility of monetary policy itself is one of them. Also interesting is the persistence with which the EBA insists that the concentration of the banking sector in Europe is a possible way to improve its profitability and reduce overcapacity. At the same time, it warns that excessive competition can lead to a repetition of past mistakes and excesses. I believe at this point it is imperative to mention the changes that have occurred both in regulation, which is exhaustive, complex, and continuously under review, and in supervision, which is now much stricter.
