The European Union's toxic debt ratio has more than halved since peaking in 2012, propelled by an acceleration in bank bad-loan sales over the past two years. But more regulation could slow down the further reduction of nonperforming loans, the European Banking Federation said in a report.
The report, published Sept. 11 by the EBF, a federation of 32 national banking associations in Europe, comes after the ECB moved to tighten the supervision of NPL provisioning and reduction under its remit. The ECB said on July 11 that it wants to set specific supervisory expectations for the legacy loan provisions at individual banks based on benchmarking to their peers' NPL ratios and other key financial features.
The push to tackle NPLs at EU banks may be "too harsh" for lenders and their clients, given the progress achieved in recent years, Gonzalo Gasós, the EBF's head of banking supervision, said in an interview. EU banks accelerated their postcrisis cleanup in 2016 and 2017, bringing the bloc's total nonperforming loan stock down by 25% to about €800 billion by the end of 2017, the EBF said in its 2018 sector overview.
The average NPL ratio in the EU has dropped to 3.70% at 2017-end, just below the global average of 3.74%, and less than half of the 7.5% EU-wide peak in 2012 caused by the eurozone crisis. "So we are now back to normal on European level," Gasós said. Furthermore, new rules aimed at more prudent loan provisioning were recently implemented, such as the latest International Financial Reporting Standards, IFRS 9. The EBF, in its report, asks "whether the objective of improving efficiency in NPL reduction processes can be met through additional burdensome regulations and transaction costs for banks."
"We need first to define the problem before we can solve it, and that is something that hasn't been properly done in the policymaking and supervisory practice in Europe," Gasós said. The EBF argues that only €150 billion to €200 billion of the EU's stock of bad loans is "really problematic" as most of the existing NPLs are either the result of "business as usual" or already have been provided for.
Small portion of 'problematic' NPLs
Of the total €800 billion of NPLs in the EU, €329 billion is held by countries such as the U.K., France and Germany. These are countries with low NPL ratios that did not spike during the eurozone crisis. "We need to [take these out] of the objective of policymakers because those are normal NPLs," Gasós said.
Another €237 billion of bad loans are held in countries that suffered mild to severe effects as a result of the crisis but that have been provisioned for by the banks. This means banks "could write them off tomorrow" with no effect on their profit and loss accounts, according to Gasós.
A part of the remaining €266 billion of NPLs, again held at European crisis-hit countries, is collateralized, meaning they are backed by assets that can be used to cover part of the loan losses.
Therefore, the amount of unsecured bad loans account for just about a quarter of the total NPL stock. "That's the real problem," Gasós said. Not that NPLs do not remain a key issue for a number of EU banks, but without a clear definition of the extent of that issue there cannot be adequate solutions, Gasós said.
There have been "massive" NPL sales by banks in Italy and peers in Spain, he said. This momentum should continue over the next two years, he added. However, over the next five years, there is likely to be a slowdown when it comes to sales of "hidden portfolios" at smaller banks. These will be harder to price and off-load since lenders have first sold assets, which are easiest to place in the market, Gasós said. It is cheaper for banks to hold on to NPLs for two to three years rather than sell them at a discount now, he said. As a rule of thumb, a standard NPL where a lender can recover 45% of the nominal value could be sold quickly at a 20% discount, meaning a 25-percentage-point loss for the bank, Gasós said.