The European Central Bank (ECB) has warned the European banks from a "severe storm" driven by bankruptcy waves, impaired loans, and bad loans of small and medium businesses that combined could make banks' assets barely sufficient to respond to the market's needs.
ECB called credit institutions to be prepared for hard times, according to a study by the Frankfurt Institute for Risk Management and Regulation (FIRM) highlighting the significant complication of the expected situation.
FIRM also indicated that the central bank has been urging banks in the Eurozone since the beginning of 2021 to prepare themselves for a bankruptcy wave and repercussions of bad loans.
Luis de Guindos, vice-president of the European Central Bank, warned of the impact of the pandemic on the banking industry in the long term. He said banks in the Eurozone are not expected to make profits before 2022, adding that their profitability was lower than that of the US financial institutions even before the virus outbreak.
The financial expert sees that European banks have to use their capital buffers to curb their losses caused by the pandemic, and at the same time, they should be keen not to reduce loans aimed at supporting the economy. For this purpose, ECB supervisors remarkably decreased the requirements of banks' capitals, and urged them not to give up on profits distribution and shares repurchase.
"The recurrent lockdown restrictions and the constantly increasing coronavirus cases form a storm that endangers European banks, and overshadows the good figures earned in the third quarter of 2020," Guindos said. The Storm means that the complicated economic scenario that the ECB has been wary of is about to start…the GDP in the Eurozone is expected to shrink by 10 percent this year. The Centre for Economic and Financial Research has been preparing for this scenario and warned in its latest report about the heavy burdens that threaten banks due to recession.
According to the center, the pandemic will exacerbate problems of bad loans in the balance sheets of European banks in many countries, mostly Spain and Italy. In fact, the tourism industry heavily affected by the travel and lockdown restrictions has a huge significance in both countries, mostly Italy, which still suffers from many impaired loans from 2020.
Speaking about the difficult scenario, Andrea Enriya, chief banking supervisor at the European Central Bank, does not rule out a rise in bad loans to 1.4 trillion euros. The amount of bad loans in banks' balance sheets is now 503 billion euros, and credit losses could devour banks' equity.
As per fixed equities (shares and retained earnings), the crisis is likely to manifest in southern Europe, where banks may be isolated as their capacities drop to minimum equity.
In case the hard scenario emerged, individual banks may not be able to respond to the market needs in many European countries like France, Austria, Great Britain, The Netherlands, and even Germany.
According to the FIRM's study, the coronavirus crisis will have the most severe impact on Spanish banks. In the difficult scenario, 91 percent of the banking market (consolidated balance sheet) in the country could fall below the lowest level of the European Central Bank. Therefore, ECB has called for a processing platform that banks can use to reduce bad loans. It has also called on the countries of the Eurozone and the European Union to establish a comprehensive plan to support banks in order to reduce bad loans in the balance sheets.
