Conversation between Kerstin af Jochnick, Member of the Supervisory Board of the ECB, and Tuba Raqshan, Journalist for Asset News, at L’AGEFI Global Invest Forum in Paris
We could begin with your experience as a part of the ECB Banking
Supervision team during the coronavirus (COVID-19) crisis. What were the
challenges faced and measures employed during the unprecedented crisis?
As you rightly point out, this crisis was unprecedented. We
knew that the banking system as a whole was well capitalised and on a
stronger footing than before the 2008 financial crisis, but we had no
clarity on the extent of the economic consequences of the pandemic.
the outset, our goal was to help ensure that banks would be able to
continue lending to the real economy – throughout the lockdown and the
subsequent economic recovery. To this end, we gave banks significant
capital and operational relief on a number of fronts.
capital side, for example, we eased our expectations on the quality of
the capital and liquidity buffers that banks need to hold, and allowed
them to operate below their Pillar 2 guidance, at least until we’ve
overcome the most severe period of this crisis. So far, our measures
have resulted in total capital relief of around €120 billion for banks.
the operational side, our measures included suspending the
implementation of some of our supervisory decisions for six months and
extending the deadlines for the implementation of some remediation
actions stemming from on-site inspections and internal model
While these extraordinary measures to help the
banking sector were being devised and implemented, we had to adapt our
own supervisory approach to accommodate a new reality of social
distancing and travel restrictions. In this sense, the COVID-19 crisis
has been a challenge for supervisors, too. For one, we had always
exercised our supervisory scrutiny of banks through on-site inspections
and meetings with the banks’ representatives, but the pandemic made
these tools unavailable. So we then had to start conducting off-site
inspections and off-site internal model investigations. And we requested
regular updates from the banks on risks that may be particularly
heightened during this crisis, so that pressing vulnerabilities are
flagged early on and we are able to address them promptly.
are just some of the many instances of how we have adapted. Overall, I
am pleased to say that the Supervisory Board decided consensually on all
of the supervisory measures, within a short time span and with most of
us working remotely – thereby belying the frequent claims by critics of
the European project that European-level decisions are cumbersome and
time-consuming. If we want the banking union project to deliver on its
promise, then institutional agility is clearly a necessary – if not
sufficient – condition.
Euro area banks have been directed to
hold out on dividend payouts and share buybacks beyond October 2020 –
could you please touch upon the factors behind this decision?
decided to prolong this recommendation in July 2020 for the same reason
why we issued it in March 2020 in the first place: we are facing
material uncertainty about the future and the extent to which the
pandemic will hit the economy is still unknown; that has been preventing
banks from accurately projecting their capital trajectory. We are aware
of the differences in resilience across European banks, but we will
gradually have a clearer picture of the banks’ situation and their
deterioration in asset quality once moratoria measures in European
countries have been lifted – until then, we prefer to err on the side of
The goal of this measure has not changed – it aims to
preserve banks’ capacity to absorb losses and ensure that they are able
to take the economic hit from the pandemic and continue to lend to the
real economy for the duration of the crisis. Prudent capital planning is
absolutely essential in the current situation; better to be cautious
today than sorry tomorrow should overall economic conditions deteriorate
We will adopt this stance until we consider that the
uncertainty looming ahead no longer prevents banks from producing
reliable estimates of how their balance sheets will be affected by the
pandemic. We have been closely monitoring the economic environment, the
stability of the financial system and the reliability of banks’ capital
planning. Taking all these into account, we will decide on whether or
not we would like to see banks continue to refrain from paying dividends
or buying back shares beyond 2020. No decision has been taken yet.
we consider that this uncertainty is materially subsiding and that
banks’ capital projections are reliable enough, banks with proven
sustainable capital positions may consider resuming dividend payments.
Did stress tests play a key role in addressing the COVID-19 crisis?
general, stress tests are an important supervisory tool because, among
other things, they assess how much of banks’ capital would be depleted
if the economy took a turn for the worse – and, ultimately, whether
banks would be able to survive a shock such as the scenario that has
played out during this pandemic.
In normal circumstances, the ECB
would have conducted a fully-fledged stress test in 2020. However, after
the outbreak of the coronavirus pandemic, we decided, together with the
European Banking Authority (EBA), to postpone this exercise until 2021,
because banks now need to focus their resources on coping with the
serious challenges brought about by this unprecedented shock. At the
same time, we should not lose sight of what is happening in the banking
system, precisely when it is being subjected to a real-life stress test.
Ultimately, we decided to reconcile these objectives and conduct
a focused vulnerability analysis of a sample of Europe’s largest banks,
using the EBA stress test methodology as a starting point. This gave us
an initial overview of the main and most immediate risks facing banks
in the midst of this crisis. The aggregate results of this exercise,
which we published in late July, suggest that while, in the most likely
scenario, a number of banks will need to take action to remain compliant
with their minimum capital requirements, the overall capital shortfall
would not stop most of them from operating. However, we do see
substantial differences across business models and banks, and the
potential for material tail risks; some banks are bound to face serious
difficulties in the future, once moratoria are lifted and the real
effects of the pandemic start to materialise on banks’ balance sheets.
As the new normal sets in, how do you see banking supervision norms evolving? What are the key considerations?
must bear in mind that, at present, banks’ balance sheets may be
distorted by the moratoria which governments have extended to bank
customers. For example, risk-weighted assets are expected to increase
when moratoria expire and default rates rise, as a result of both the
weaker economic situation and the heightened economic risks, but so far
they have remained stable. As supervisors, we are concerned about these
potential cliff effects which might ultimately affect bank
Bearing this important caveat in mind, the recent
trends in bank performance may nonetheless indicate what could be in
store for the banking system as a whole. For example, the structurally
low profitability of European banks, which was already an issue before
the outbreak of the pandemic, has taken a turn for the worse: European
banks’ return on equity stood at zero in the second quarter of 2020,
having decreased sharply in the first quarter due to higher credit
impairments and lower net interest and fees and commissions income.
the build-up of expected losses, we have repeatedly encouraged banks to
use their capital and liquidity buffers to absorb losses and extend
credit to the economy during the crisis. The release of the buffers is
perfectly in line with the spirit of the post-crisis reforms designed by
the Basel Committee on Banking Supervision: banks have been required to
build capital and liquidity buffers so that they can sustain the
economy during a severe adverse shock, rather than acting procyclically
by excessively restricting lending to preserve capital.
beyond the question of buffer usability, we think that talk of the new
normal following the pandemic is still premature. We are in the midst of
the pandemic, so our view of the future is still clouded by
uncertainty. We will remain vigilant and prudent in devising the path
ahead and considering whether we should extend our recommendation that
banks should suspend dividend payments and whether we should recalibrate
some of the measures we introduced in March.
loans (NPLs) are expected to rise – do you think this could affect the
banks’ capital buffers? What is the ECB’s strategy?
We do expect
a rise in non-performing exposures, particularly once the effects of
the mandatory payment moratoria decreed by several euro area governments
expire. We are already seeing the cost of risk increasing for many
banks relative to 2019.
For now, many banks seem reluctant to
formally recognise any significant increases in credit risk on their
exposures. There is a risk of significant cliff effects at some point in
the future; research shows that during the previous financial crisis,
banks took a long time to fully recognise NPLs and NPL levels peaked at a
much later stage. We also signalled to banks back in March that we will
accommodate, to a reasonable extent, revisions of their NPL targets for
the years ahead, in order to help them cope with the impact of the
current economic downturn.
At the same time, it is especially
important in crisis times for banks to have in place tight loan
deterioration monitoring and management strategies which enable them to
identify risks at an early stage. They should proactively identify and
engage with potentially distressed borrowers. By acting in a timely
manner, banks can minimise any potential cliff effects when the
moratoria measures begin to expire. Let me underline here that the ECB
had issued guidance to banks on how to deal with NPLs well before the
start of the current crisis; in March 2017, to be precise. Now is the
time for banks to consider our guidance and follow it closely.
Has COVID-19 made the case for a banking union much stronger?
COVID-19 crisis has clearly shown the benefits of having pan-European
structures to regulate and oversee banking activity in its different
forms. By applying the stricter and more harmonised regulation that was
put in place after the global financial crisis, and by developing
practices and norms to bring the entire system to a higher common
supervisory standard, ECB Banking Supervision has made sure that the
European banking system as a whole is better poised to withstand severe
crises such as this one. Needless to say, this time around our success
is not only attributable to the ECB as supervisor, but also to the ECB’s
monetary policy response, and to the fiscal response by governments,
which has been larger and more coordinated than ever before.
there should be no room for complacency. The fact that the banking
union has successfully weathered the challenges brought about by the
COVID-19 crisis thus far does not necessarily imply that it will
continue to do so indefinitely – whether in other stages of
this crisis or in similar situations. And this is essentially because
the pan-European architecture foreseen by political leaders when
establishing the banking union remains incomplete. Let me mention a few
areas where progress is still needed.
First, we should strive for
consistent outcomes in resolution and liquidation within the euro area,
by harmonising the framework for exits from the market by non-viable
banks that are not subject to resolution measures. And second, in order
to make the banking union fully operational, we need to put in place a
European deposit insurance scheme. In addition to securing deposits at
European level, EDIS will also make it easier for the European and
national legislators to eliminate the remaining regulatory provisions
trapping capital and liquidity within national borders. These are just a
few of the areas in which we should strive for more progress.
Finally, what are the key challenges to banking supervision in the future?
pandemic is likely to accelerate some of the trends which were already
under way before the crisis. Let me give you a few examples.
the low profits of European banks will continue to be one of our
biggest challenges. The performance of European banks in the first half
of 2020 suggest that some banks’ persistent inability to earn their cost
of equity will seriously compromise their survival in the future.
Fundamentally, banks need to find the right business model and stick to
it if they want to ensure both their sustainability and investor
Second, digitalisation will become an integral part of
banks’ business models; the pandemic has triggered a decisive push in
the demand for digital products. Banks will need to revise their cost
structures or consider other revenues that will allow them to take on
higher investment in technology while keeping profits afloat.
Consolidation could be one way of dealing with this dual challenge while
also helping to reduce the current excess capacity in the European
banking system. I am happy to see that consolidation seems to be picking
up in Europe.
Interestingly, the response to the pandemic risks
bringing back some ghosts from the not-so-distant past. Policymakers
should guard against a revival of the bank-sovereign doom loop. Though
appropriate for dealing with the current crisis situation, extending
government guarantees to banks and decreeing payment moratoria for
banks’ customers has temporarily reinforced the linkages between
domestic banking systems and their respective sovereigns – which is the
issue that the creation of the banking union was meant to tackle in the
And as I have said before, completing the banking
union will be fundamental to reaping the full benefits from any recovery
avenues we choose to take. European history, both recently and in the
more distant past, suggests that tackling shared challenges together
yields better results than going at it alone.
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