## More Action Needed on European Bank Profitability

_IMF Blog, August 30, 2017_

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## Bibliographic details
- Authors: John Caparusso, Rohit Goel, Will Kerry
- Published: August 30, 2017

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### Key findings on profitability and risks
- European banking has made considerable progress: banks have built up capital, regulation is stronger and supervision has been enhanced.
- Profitability remains weak, posing risks for financial stability.
- In a sample of more than 170 large European lenders with combined assets of $35 trillion:
  - roughly half generated a weak return on equity in 2016,
  - banks representing only 15 percent of assets generated a healthy return on equity, defined as more than 10 percent.
- Weak profitability is also shown in a low return on assets for domestic banks in many European countries.
- Drivers of weak returns reflect varying combinations of low income, high costs, or provisions needed to build buffers against non-performing assets.
- Almost three-quarters of these banks in our sample, by assets, had weak returns on equity in 2016, compared with less than 40 percent for internationally focused peers.

### Impact on financial stability
- The economic upturn in Europe should boost profitability as interest rates rise, loan-loss provisions fall, and lending opportunities increase.
- The October 2016 Global Financial Stability Report found that a cyclical recovery is unlikely to be enough to fully restore bank profitability.
- Why low profitability is a threat:
  - Consistently unprofitable banks are unable to build up reserves against unexpected losses and often find it difficult to raise capital in times of need.
  - Weak returns limit banks’ ability to expand lending.
  - Weak returns may induce banks to drive up returns by taking greater risks.

### Structural challenges and over-banking
- Profitability problems reflect both weak business models and structural features of banking systems.
- The IMF’s April 2017 Global Financial Stability Report discusses structural challenges, including over-banking.
- Over-banking (no common definition) refers here to a set of structural factors that affects profitability across the system; causes vary by country and no single aspect explains profitability concerns across countries.
- Other structural challenges:
  - A large proportion of savings, cooperative, policy banks (such as development banks), and state-owned institutions can reduce the profitability of other banks in the system.
  - Problems in resolving non-performing loans (for example, lengthy foreclosure times) delay disposal of non-performing assets and act as a drag on profitability.

### Examples of reforms and consolidation
- Country actions noted:
  - Denmark, the Netherlands and Spain: banks have sharply cut branches.
  - Spain: substantial consolidation in 2009-12, accompanied by reforms to strengthen governance.
  - Italy: banks have merged, and governance reforms for cooperative banks have been legislated.
  - Germany: some banks have merged.
  - Measures have been taken in some countries to amend legal frameworks and help banks address the burden of non-performing loans.
- More progress is needed in banking systems with the biggest challenges.

### Policy recommendations and supervisory roles
- Individual banks:
  - Continue restructuring businesses for higher returns.
  - Invest in technology to increase efficiency.
- Supervisors:
  - Assess business-model sustainability and ensure banks do not respond to profitability pressures by taking excessive risks.
  - Ensure banks adopt ambitious, time-bound strategies for the disposal of bad assets.
- Authorities in over-banked systems:
  - Encourage consolidation among small and medium-sized banks, combined with governance reforms where needed.
  - Consolidation can mean small or mid-sized banks combine forces to become stronger, not just making large banks bigger.
- In systems with significant asset quality challenges:
  - Consider targeted asset quality reviews for banks that have not undergone such an exercise.
  - Regulators should resolve unviable institutions to remove excess capacity from banking systems.
- Cross-border and legal framework actions:
  - Further harmonizing national supervisory practices and legal frameworks across countries should enhance banks’ effectiveness.
  - Measures are needed to fully resolve the burden of non-performing assets.
  - Completing the regulatory reform agenda is vital to ensure weaknesses are addressed and uncertainty is reduced.

### Overall assessment
- Banks’ efforts to adapt business models to changing regulatory and market challenges are necessary but may not be sufficient.
- Policy actions to improve system structures can foster conditions for banks to generate sufficient profitability with acceptable risk, making them both safer and better able to support the economy.

*Source: More Action Needed on European Bank Profitability, John Caparusso, Rohit Goel, Will Kerry, August 30, 2017.*

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## Content in this bundle

- **Für die Ertragsstärke der europäischen Banken muss mehr getan werden**
  - [Für die Ertragsstärke der europäischen Banken muss mehr getan werden (Markdown version)](/external/lang/german/np/blog/2017/083017g.pdf.md){rel="alternate" type="text/markdown"}
  - [Für die Ertragsstärke der europäischen Banken muss mehr getan werden (PDF)](/external/lang/german/np/blog/2017/083017g.pdf){rel="external" type="application/pdf"}

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## References

- [https://www.imf.org/wp-content/uploads/2017/08/BLOG-1024x600-European-banking-Martin-Moxter-imageBROKER-Newscom.jpg](https://www.imf.org/wp-content/uploads/2017/08/BLOG-1024x600-European-banking-Martin-Moxter-imageBROKER-Newscom.jpg)
- [Global Financial Stability Report](http://www.imf.org/en/Publications/GFSR/Issues/2016/12/31/Fostering-Stability-in-a-Low-Growth-Low-Rate-Era)
- [https://www.imf.org/wp-content/uploads/2017/08/CHART-1.jpg](https://www.imf.org/wp-content/uploads/2017/08/CHART-1.jpg)
- [Global Financial Stability Report](http://www.imf.org/en/Publications/GFSR/Issues/2017/03/30/global-financial-stability-report-april-2017)
- [https://www.imf.org/wp-content/uploads/2017/08/Structural-Challenges-CHART-Table.jpg](https://www.imf.org/wp-content/uploads/2017/08/Structural-Challenges-CHART-Table.jpg)
- [structural issues](http://www.imf.org/en/news/articles/2017/06/15/ms061517-euro-area-staff-concluding-statement-of-the-2017-article-iv-mission)
- [https://www.imf.org/wp-content/uploads/2017/08/Chart-2-banking-on-change.jpg](https://www.imf.org/wp-content/uploads/2017/08/Chart-2-banking-on-change.jpg)

_Source: https://www.imf.org/en/blogs/articles/2017/08/30/more-action-needed-on-european-bank-profitability_