François-Louis Michaud's interview with Het Financieele Dagblad: Supervisor: European banks are far from being ‘too big to fail’

Supervisor: European banks are far from being ‘too big to fail’

The European banking system might be able to withstand shocks, but struggling small banks still need to join forces, while institutions could also become more specialised. This is the view of François-Louis Michaud, Executive Director of the European Banking Authority (EBA), speaking to the FD.

According to Michaud, the current system – which the EBA designed and is a part of – can withstand shocks. The priority now is to develop it further. Basel IV, the new package of capital requirements for banks, needs to be become law quickly and in full, while the banking union needs to be completed.

The Paris-based EBA was established 10 years ago in response to the financial crisis that almost sank the European banking sector. It was tasked with drawing up uniform rules to create a level playing field for all banks across Europe. ‘We have a single rulebook for banks and supervisors, containing a range of technical standards and guidelines. This has led to an integrated and resilient European banking sector,’ says Michaud.

How have the banks stayed afloat during the coronavirus crisis?

‘Our initial fear that banks would be severely affected by the consequences of the pandemic has not materialised, not least thanks to the rapid response from governments, monetary authorities and supervisors. Allowing the banks to use all the flexibility offered by regulation has helped greatly, as they have been able to continue lending to businesses and households.

Of course, a number of bank loans remain at risk once payment holidays end and governments withdraw their support, but this is limited to a few sectors. The final hurdle is not yet overcome, but we are making good progress on the whole.’

Banks have already been found to have strong buffers in place.

‘The results of our most recent stress test, published in July, are very encouraging. Even in the event of an additional shock, banks’ capital ratios remain above 10%. Our baseline scenario does not envisage such a shock, but if this were to happen, banks would be very well capitalised. So this is very reassuring.’

In the meantime, however, banks are struggling with profitability.

‘It cannot be denied that many European banks have long had profitability issues. They need to refine their business models to reduce costs and increase profits.

But this is not the case across the board. We estimate that 40% to 50% of banks are well placed to cover their cost of capital. On average, banks in Europe incur high costs per euro earned, although these costs are considerably lower in Scandinavia, among other places. But there is hope that this can change. There is also a significant variation depending on what activities a bank performs. However, in general, there is too much banking capacity and there are too many banks in the EU. So at the EBA, we believe there is a clear need for further Europe-wide consolidation.’

‘There are too many banks in the EU; we want small banks to join forces’

Does this still require a completed banking union? In any case, that’s what the bankers always say.

‘The absence of the third pillar is not an argument for taking no action [Ed: Michaud says that a European deposit guarantee scheme is needed to round off European supervision and a European resolution mechanism]. Even before the banking union, some banks took over competitors in other countries. And banks can obviously still do anything they like outside the European Union. So it is not true that things only work with a fully completed banking union. In the EU, there is a single rulebook and a single market, and the necessary institutions are in place; it is now up to the banks to get on with their jobs. Nevertheless, the completion of the banking union remains an important issue. We are giving legislators technical advice and have also been asked to carry out preparatory work.’

Aren’t you worried that when big banks join forces, they will once more become ‘too big to fail’?

‘We are not concerned if a few bigger banks emerge from the many small and medium-sized banks that are around now. We want to see more diversification in Europe, with banks serving different types of clients. We also want struggling smaller banks to join forces to create more medium-sized groups. This situation can continue for a long time before there is ever an issue of banks being ‘too big to fail’.

The EBA has long been in favour of a European ‘bad bank’. But is one still needed, now that there are fewer problem loans than there have been for years?

‘A network of national bad banks is now being discussed in Europe. Above all, we are looking at it from a practical perspective. We have developed standardised data templates so that banks can provide comparable data on bad loans in a transparent way. This way, potential buyers of these loans know what they are buying. It is a crucial tool that can be used as a building block for these bad banks, but can also exist without them.’

The interview was conducted by Marcel de Boer

Het Financieele Dagblad, 18 October 2021