Public hearing with Andrea Enria, Chair of the ECB Supervisory Board

This note is prepared in view of a regular public hearing with the Chair of the Supervisory Board of the European Central Bank (ECB), Andrea Enria, which will take place on 12 December 2019.
The briefing addresses (i) Single Supervisory Mechanism (SSM) priorities for 2020, (ii) Banks’ profitability issues; (iii) Stress testing developments; (iv) some individual bank cases; (v) supervisory issues and policies (anti-money laundering, Brexit, and impact of Basel III and IFRS9), and (vi) the completion of the Banking Union.

1. SSM Priorities 2020
In October, the ECB published the SSM supervisory priorities for 2020, which are in particular (i) continuing balance sheet repair and (ii) strengthening future resilience. Following-up on Brexit work and preparing for all possible outcomes for a no-deal Brexit is likewise listed as another high-level priority.
Balance sheet repair will focus on the stock and flow of non-performing loans (NPLs), the adequacy of internal models used to calculate regulatory capital requirements, as well as trading and market risks, in particular as regards complex instruments that are marked at fair value.
In order to ensure the future resilience of banks, the ECB will look into credit underwriting criteria and plans to do on-site inspections to assess exposures in areas such as commercial real estate, residential real estate and leveraged finance. Moreover, the ECB plans to continue assessing banks’ business models and profitability, as well as IT and cyber risks.
The ECB’s supervisory priorities are loosely coupled with the identification of key drivers of banking sector risks, namely (i) economic, political and debt sustainability challenges in the euro area, (ii) business model sustainability, and (iii) cybercrime and IT deficiencies. The reasoning underlying the identification of those risks are set out in more detail in a separate document, the ECB’s Risk assessment for 2020.

2. Banks’ profitability issues
Very recently, on 5 December, the rating agency Fitch has come out with a revised sector outlook for western European Banks, changing it to negative as it believes that the deteriorating outlook for GDP growth, combined with low interest rates, will pressure revenue generation and make it challenging for banks to reach profitability targets. The European Banking Authority (EBA) recently pointed to similar concerns in its annual Risk Assessment Report, noting in the press release that “the streamlining of operating expenses is presumably the main area to improve profitability”.
Meagre average profitability of significant banks has also increasingly drawn attention by bank supervisors. Kerstin af Jochnick, Member of the ECB Supervisory Board, for example highlighted in a speech held in Frankfurt on 15 November that in order to inform public policy, at least four questions would need to be tackled: “First, to what extent will a more protracted period of low banking profitability than previously envisaged affect financial stability? Second, to what extent is low banking profitability a by-product of competitive market structures? Third, is there a potential trade-off between profitability and competition in terms of their impact on financial stability? Fourth, what could various stakeholders in the banking system do to address these challenges?”
From her point of view, there are no straightforward answers available, neither for the effects of the very low interest rate environment nor for the role of competition and the relationship between bank profitability and financial stability. That assessment of course questions to what extent policy recommendations to various stakeholders are well founded.
Empirical data on the status quo: Supervisory Banking statistics
Since 2016, the ECB publishes Supervisory Banking Statistics on directly supervised significant banks, inter alia covering aggregate information on the banks’ profitability. The most recent available data refers to the second quarter 2019.
Table 1 compares the Return on Equity (RoE) as profitability-related indicator for the significant banks under direct ECB supervision, aggregated at country level, for the situation in mid-2019 and mid-2018, based on those statistics. In essence, though the low interest rate environment is a common feature in all Member States, the profitability of significant banks is very heterogeneous, and one can see quite significant changes over a period of one year, both for the better and the worse.
 

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