In 2016, the CEO of Credit Suisse pointed out that European banking was in a very fragile situation and that investing in it was not attractive. Certainly, in recent years there has been little appetite for acquiring European banks by other banks from both within and outside the EU. Operations have been mainly domestic, and typically the acquired entity was in trouble. For the most part, they have been aimed at taking advantage of synergies via cost reduction (branches or employees) and efficiency improvements. In Spain, the restructuring of the banking sector has occurred, to a large extent, based on this type of operation. In the EU as a whole, there has been a lack of larger-scale operations, mergers between equals aimed at penetrating new markets or business lines, improving income, diversifying risks, and enhancing resilience in terms of financial stability.
European authorities, however, insist on the importance of cross-border mergers between European banks. Why are these perceived as a necessity? There is a question of credibility. As long as there are no cross-border mergers, the Banking Union is interpreted more as a theoretical concept than a reality. The single framework for regulation, supervision, and resolution does not seem so unique if banks continue to perceive that regulatory, fiscal, and legal barriers persist, preventing them from moving freely across community borders. It is not enough to be called a Union; it must be one. In the US, for example, these types of barriers disappeared between the 80s and 90s.
Secondly, the call for mergers is a way of urging the cleanup of the European banking sector. In the current context of zero interest rates, low profitability, and excess banking capacity in the EU, authorities perceive this formula as a way to accelerate adjustments (without the need for public intervention) and achieve improvements in terms of profitability.
Why have there been so few examples of true cross-border mergers so far? On one hand, the regulatory uncertainty of the last decade has weighed on business decisions; no one wants to invest in a business whose rules of the game are not clear. On the other hand, although many of the reforms have sought to unify the community market with the creation of the Banking Union, national frameworks continue to self-protect their singularities and thereby limit the entry of foreign banks.
Why is there reason to be more optimistic about the near future? We would point to three main reasons. First, in 2017 the regulatory cycle closed both at the international level, with the recent agreement on the Basel III reform, and at the European level, where most efforts are already focused on the implementation of the agreements. This change of cycle offers greater certainty when making corporate decisions aimed at entering new markets or exploiting new business lines.
Second, there are incentives in the regulations to move toward a medium or large-sized bank model. Although current solvency regulations are more demanding in some aspects for systemic entities and there is the political will to avoid “too big to fail,” some regulatory aspects incentivize gaining dimension. The new bail-in policy, which requires banks to issue debt securities with the capacity to absorb losses, and the prudential regulations resulting from Basel III, which allow the use of internal models for capital calculation, are two examples of rules where banks of a certain size, with more capacity to access complex markets and more operational resources, feel more comfortable.
Third, the technological factor. New technologies favor the ability to penetrate new markets with agility and minimize the marginal costs of providing some services, and this can increase the potential for banking mergers.
What needs to be done to stimulate this process? The EU must complete the Banking Union by incorporating the third pillar originally planned, the European Deposit Insurance Scheme (EDIS), which offers equivalent coverage to all depositors in the Union. It is equally important to favor the harmonization of national insolvency regimes, a task of no small importance. In the future, the use of regulations should also be prioritized over community directives to avoid the proliferation of national discretions. European leaders are aware and have incentives to move forward steadily, as they know that the success of the Banking Union is, possibly, the main achievement that the EU will be able to attribute to itself in this decade. The banking sector, for its part, has it in its hands to define the internationalization model of the future. Will we see mergers of large banks? Will small banks merge to gain scale? Or, on the contrary, will European banking become even more fragmented?
Iñigo Fernandez de Mesa, Chairman of Rothschild Spain
Rocío Sánchez Barrios, Director of Public Policy at the AEB
