Good morning,
It is difficult to think of another start to the year as complicated and arduous to interpret as this one. Although, obviously, the situation is far from being as delicate as it was during the worst years of the crisis (for example, at the beginning of 2012), it is true that the enormous volatility and, it must be said, the underlying pessimism in the behavior of financial markets (specifically the stock market) in these first few weeks is surprising. This is not so much due to their negative evolution, but because at the beginning of the year, agents’ expectations tend to be benign: with the perspective of a year ahead, more risks are usually assumed which are then corrected throughout the year. Furthermore, volatility seems to be present not only in the economic pages of newspapers but has crept into the national and international politics sections, with daily shifts—even within hours—on the main current affairs. In these weeks, more than ever, it is advisable to consult information in real time.
It is not the first time I have said it, nor will it be the last, but I am convinced that the only sensible way to face these situations is by adopting a medium-term vision, using the reference of the recent past to look toward the future horizon, in order to appreciate where we stand with a bit more perspective. I hope not to falter in my purpose, as it is also wise to watch where one steps.
To focus on the situation of the banking sector, let me first begin with the political situation.
There are three considerations to be made. First, history shows us that political tensions usually emerge, paradoxically, when economic crises begin to be overcome. Second, although circumstances in Spain require learning new practices and forms of consensus, there are areas—such as the acceptance of the migration phenomenon without political or social tensions—where we can feel very proud as a society and serve as an example for other countries. Thirdly, institutional stability and legal certainty are prerequisites for economic agents to fulfill their role of creating jobs and advancing the economy, and for banks to fulfill theirs of financing families and businesses.
As we have explained on multiple occasions, the fate of a bank is linked to that of its customers: if its customers do well, the bank will do well, and vice versa. There is no conflict of interest; the interest of the bank and that of the customer are the same. Therefore, it is logical that to discuss the sector’s situation, we start by trying to understand how Spanish families and businesses will fare—that is, the outlook for the Spanish economy.
To be clear from the start, the Spanish economy has a golden opportunity over the next three years to sustain a streak of favorable growth that, while not completely eliminating the havoc caused by the crisis, can substantially mitigate it. In particular, I refer to the possibility offered to us to substantially reduce an unemployment rate that, as of today, remains unacceptable. This may seem paradoxical given the turbulent start to the year, but I believe this statement is solidly anchored in the fundamentals of our economy.
There are three tailwinds favoring our progress. First, the prolonged scenario of low interest rates which, even when they represent a headache for banks, is good news for citizens as a whole and for economic growth, as it boosts consumption and investment. Furthermore, these low interest rates facilitate restructuring processes in companies with excessive debt and leverage levels or an inadequate financial structure. Second, the depreciation of the euro undoubtedly favors an economy like Spain’s, where the export sector is gaining importance. If we have been able to gain market share within the eurozone thanks to the competitiveness gains achieved during these years of crisis, imagine what we can achieve thanks to an exchange rate that increases the competitiveness of the Spanish economy outside the euro area. And finally, the decline in oil prices represents a strong boost to activity in all eurozone economies and especially in Spain, which has a strong energy dependence on foreign sources.
Let me dwell on this last point. It is clear that the slowdown of the Chinese economy, the end of the upward cycle in raw materials, and supply factors in the crude oil market are elements viewed by financial markets with concern due to their impact on various emerging and developed economies.
And it is clear that these impacts are more complex to analyze in a more financially and commercially integrated world. But that volatility and those market doubts cannot lead us to a negative view of what the current decline in oil prices represents for Spain: in terms of impact on GDP, we are talking about a boost of half a point, and regarding the energy and current account balance, an improvement of one and a half points of GDP. In short, it is magnificent news.
This golden opportunity to take advantage of the tailwinds should not lead us to think that we are immune to any adversity. For example, it is a well-known result in economics that in situations of uncertainty, the optimal choice when facing investment decisions is to wait for that uncertainty to dissipate. The lower it is, the better. In particular, uncertainty is very harmful when there is such a notable external dependence, as is the case with the Spanish economy.
On one hand, we belong to a club, the euro, with increasingly strict membership rules that limit the autonomy of our economic policy, including fiscal policy.
On the other hand, the external debt of the Spanish economy remains very high, forcing us to refinance 40% of GDP every year. In other words, we must convince foreign investors to lend our country nearly 400 billion euros per year because reinvesting in Spain continues to be worthwhile.
From another perspective, if we were to experience an increase in the risk premium, not only would the Treasury’s financing cost increase, draining resources from spending for other purposes, but almost half of those resources would end up in the hands of non-residents (via the primary income balance). In short, it is essential for the Spanish economy and the public budget to maintain market confidence, and today that requires respecting the rules of the euro club, even while fighting to change them from within for all countries. This is supported by recent experiences such as that of Greece.
How can we maintain that market confidence? Precisely by offering the same things we need internally to continue growing: institutional stability, legal certainty, and predictable policies. Conversely, what markets flee from is noise, surprises, changes in direction, and unclear or shifting messages. In short, being seen as a reliable partner within the eurozone.
Ultimately, if we are able to take advantage of these tailwinds and maintain external confidence in our economy, the continuation of the recovery process will allow banks to meet their customers’ needs—that is, to finance this process of economic improvement. But although the economic sphere is vital for banks, it is not the only relevant element for their activity.
Low interest rates, which favor and boost the Spanish economy, make it difficult to obtain adequate margins. After all, banks base their business on maturity transformation—borrowing short-term to lend long-term—and if the yield curve is flat and short-term rates are at record lows, the core business becomes extremely complicated. And although the economic recovery boosts the solvent demand for credit, as the deleveraging processes of families and businesses continue, credit volumes do not increase at a sufficient rate to compensate for low interest rates. Personally, I believe that the sooner we return to a normalized rate situation, the better—not only to escape the contradiction we are witnessing with astonishment in many economies, where the borrower is paid and the resource provider is charged, but also so that monetary policy can regain room for maneuver against future shocks. In any case, the reaction to the rise of just 25 basis points in the US shows that this wish does not seem close to being fulfilled at present.
The competitive environment also allows for no relaxation: Spanish banks continue to fight firmly among themselves to gain market share in any product or service, so describing competition in the banking sector as fierce does not seem exaggerated.
Cost control is undoubtedly an important lever to compensate for lower business margins. However, this must be compatible with the investments necessary to effectively implement all types of regulatory and compliance measures, and to face the business challenge posed by the new digital environment.
Regarding the digital environment, it is not just about providing customers with new electronic channels to operate and taking advantage of them to increase the quality and efficiency of the services provided. We must also face competition from new operators attacking specific business niches, such as payment systems or the card business, in some cases confronting them and in others, why not, partnering with these new operators.
The provisions line does allow us to glimpse a certain margin for improvement: as long as the economic improvement is maintained, the need for provisions will gradually and steadily decrease over time. In this sense, the entry into force of IFRS 9, the accounting standard that establishes provisions based on expected losses, does not change this favorable expectation.
In short, profitability will improve in 2016 at a pace that is perhaps still slow and heterogeneous, but it will also do so in a generalized manner. And although profitability will likely still remain below the cost of capital, the gap between the latter and ROE will gradually close.
And although there is still a way to go in terms of profitability, we cannot forget what has already been achieved, successfully, in terms of greater solvency of our banks, improved efficiency, balance sheet cleaning, investment in technology, and international competitiveness.
Regarding regulation, 2016 seems to be the year in which the regulatory change process that began after the start of the crisis in 2007 will conclude.
All statements from authorities regarding what has been called Basel IV—which is nothing more than finishing certain loose ends around Basel III—seem to indicate that the already demanding capital levels imposed on banks will not be raised. The fact that the minimum leverage ratio was set at 3%, lower than expected by the markets, seems to point to this being the case. But even when the process ends, the consequences of implementing a new banking regulation and supervision regime will continue to be felt. For example, the new banking resolution scheme in the eurozone, with new European supervisors and new requirements and rules, came into force on the first of last month and is generating significant doubts in the markets. Therefore, the end of the process by no means signifies that the costs of the new regulation have already been fully absorbed.
One reflection to be made at the end of this regulatory change process is that we have not been able to convey to society the profound changes recorded in the rules governing banking entities, nor the colossal requirements demanded today for the exercise of banking activity. It is strange that, upon the release of a film about the recent financial crisis, the director speaks about what should change in banking regulation and mentions measures that were taken years ago. Something is failing in our dialogue with society when we cannot convey the enormous effort the banking sector is making to prevent crises like the past one from recurring and, above all, to ensure that taxpayers do not end up paying for them.
Before finishing and moving on to the most interesting part—the questions from this audience—let me make some reference to the market situation.
This start to 2016, as I have said, is proving surprising due to the negativity and volatility of the stock markets, without objective causes for their behavior. It is not so much that elements for doubt are missing, but rather that the lack of discrimination is surprising. For example, there may be doubts about the asset quality of some European banks, but banks like the Spanish ones—which have passed through the sieve of a brutally tough European sectoral program with no small effort—cannot be put in that same bag. Spanish banks have done their homework. One only needs to look at the number of entities that have disappeared as a result of the crisis and the amount of write-offs that surviving banks have made against results to appreciate the scale of that effort. Therefore, we should expect a bit more discrimination from the markets between different entities and different countries when judging fragilities.
In more general terms, the behavior observed in financial asset prices during this start of the year can only be explained by very high risk aversion. To the extent that the prolongation of the low interest rate environment aims to incentivize greater risk-taking by economic agents so they consume and invest more, one might wonder if this risk aversion is not indicating that the collateral damage of this extensive period of low rates already exceeds its initial benefits.
In short, 2016 offers us opportunities to advance in the recovery of lost profitability, but it also requires us to sustain the management efforts of past years, without forgetting that the evolution of the sector will in no case be independent of that of the economy. Finally, and although it is not the subject of my words today, I want to remind you that Spanish banks and the AEB remain committed to regaining the trust of our society, and we will not relent in that effort, with humility and determination, to achieve it.
José María Roldán, Chairman of the Spanish Banking Association
