Unclogging Euro Area Bank Lending
IMF Blog, April 30, 2015
Source details
- Canonical URL
- Unclogging Euro Area Bank Lending
Other formats
Bibliographic details
- Authors: Will Kerry, Jean Portier
- Published: April 30, 2015
Key findings on nonperforming loans
- A year ago the stock of bad loans in Europe was €800 billion.
- In the latest Global Financial Stability Report the stock of bad loans has grown to more than €900 billion.
- Two-thirds of this stock of nonperforming loans are concentrated in just six euro area economies.
- The European Central Bank’s Asset Quality Review confirmed that the majority of banks in many of these economies had high levels of nonperforming assets.
Effects of bad loans on banks and credit supply
- Bad loans reduce bank profitability because banks:
- have to set aside funds to cover losses;
- generate less interest income;
- incur associated operational costs (administrative expenses and legal fees).
- Consequences for lending capacity:
- Less profitable banks have lower retained earnings and so generate less capital for new lending.
- Loans (net of provisions) use scarce balance sheet resources and tend to have high risk weights for regulatory capital ratios, leaving less room to provide new loans.
- Banks with high levels of nonperforming loans may be less willing to lend to borderline borrowers, creating credit supply squeezes and more competition for lending to good-quality companies.
- Demand-side effect: These loans reflect a corporate sector debt overhang that reduces demand for new credit because highly indebted borrowers are less likely to seek additional credit.
Complementary policy context
- In January, the European Central Bank announced its expanded asset purchase program to address risks of persistently low inflation.
- Observed effects of the program include:
- financing costs have fallen;
- equity prices are higher;
- the euro has depreciated;
- these changes have helped to support inflation expectations.
- Complementary policies are required to maximize the effectiveness of monetary policy by unclogging bank lending channels.
Policy recommendations to unclog bank lending
- Regulators should provide strong incentives for banks to maintain adequate provisioning to help reduce the gap between bank and market valuations for nonperforming loans.
- Ensure provisions reflect forward-looking expected credit losses.
- Ensure banks use prudent approaches to collateral valuation, recovery rates and resolution time.
- Banks should develop and use specialized capacity for handling nonperforming loans.
- Country officials should continue to review and reform legal frameworks for bankruptcy, where necessary.
- Regulators should provide greater clarity about bank regulatory and supervisory standards to reduce uncertainty as banks adapt business models to new regulatory and economic realities.
- Clarity on medium-term regulatory requirements can make banks more willing to use capital or liquidity buffers (in excess of regulatory minima) to support lending.
Simulated implications if no action is taken
- Global Financial Stability Report simulations suggest credit growth could be limited to a meager 1-3 percent on average per year if policymakers and bankers do not act to support bank lending.
Source: Unclogging Euro Area Bank Lending — Will Kerry, Jean Portier; April 30, 2015
Content in this bundle
- CHAPTER 1 EnhancIng polIcy tractIon and rEducIng rIsks
