José Manuel Campa interview with Jornal de Negócios: Predominance of variable rates in Portugal a ‘concern’

  • Interview
  • 30 NOVEMBER 2023

Predominance of variable rates in Portugal a ‘concern’

The EBA’s Chairperson believes that much will depend on economic developments, particularly in the labour market. Higher unemployment could prove problematic for banks, due to the secondary effect of payment defaults.

The Chairperson of the European Banking Authority (EBA) believes that Portuguese banking is sound and that only a more severe crisis would jeopardise the current situation. Technological transformation is a key challenge that poses risks to long-term sustainability. Government support to mitigate the effects of higher interest rates should be targeted at those who need it most. As for consolidation in Portugal, he gave no opinion.

What’s the overall picture for Portuguese banks?

Overall, my analysis is the same as for the European Union (EU). The banks have a good capitalisation ratio. In fact, I believe they are a little above the EU average. They have good liquidity, defaults have been low, and they’ve made great strides in improving profitability over the last year, precisely because there are a lot of variable-rate loans. The concern now is the secondary impact. Interest rates have risen. People who have taken out these loans are finding it increasingly harder to repay them, so there could be an increase in defaults. I don’t think it’s necessarily worrying, but it will depend on economic developments: whether the economy worsens and, most importantly, whether unemployment rises. This variable is very important, because if people have no income they cannot afford to repay the loans. Unemployment figures have so far been very low in Europe as a whole, which is good news, but if the situation worsens and the economy deteriorates, we will see more defaults. Right now, we don’t think that the increase in defaults will affect banks’ overall solvency. There would have to be a financial stability issue for that to happen. But we have to be cautious.

‘We don’t think that the increase in defaults will affect solvency.’
‘Size is not a constraint.’

What are the main challenges for Portuguese banks?

I believe the challenges are the same as they are for all European banks. The sector is experiencing a huge technological transformation and needs to adapt. The impact is enormous. In the payments market segment, technology has had a big impact: an impact on prices, on competition, and, as the impact builds, the industry is transformed. In the medium and long term, this is a trend that will affect the sustainability of the business model.

Countries like Portugal have many variable rate mortgage contracts. Some governments have created support measures [to mitigate the effects of rising interest rates]. Will they be enough to prevent an increase in defaults? 

I don’t think the ultimate aim of those measures is to prevent an increase in non-performing loans (NPLs). The increase in NPLs has emerged as a response to economic developments. Those measures should be better targeted at helping the most vulnerable. Some households will struggle with the impact of rising interest rates more than others. Measures to help the most vulnerable households are appropriate, yes, but not to prevent the NPL cycle.

In countries like Portugal, there are a significant number of small banks. Does this carry any risk? 

Not necessarily. We do not believe there should be just one banking model in Europe; heterogeneity is a good thing. There are two important factors. Firstly, with small banks, if things happen to go wrong, [then] that should not become a systemic risk; things can be carefully resolved without there being a systemic risk. The second point is that these banks should be able to adapt to the challenge of technology, which will require major investments in the medium term, and more automated business models. Their ability to adapt will depend on the strategy they adopt. Size is not a constraint. They may be small, but they can still sound. It’s a question of management.

From the regulator’s perspective, do you think consolidation is a positive or negative factor?

I would say two things. In general, whether consolidation is good or bad depends on whether the bank it produces is good or bad. Creating a big bank that turns out badly is not a good idea, because you end up with a big bank that is not very efficient, and any difficulties are likely to be systemic. What matters is the business model of that consolidation or merger. If the model is good and it’s a good bank, so much the better, because a bank that is both big and good is twice as good, because it’s larger. Secondly, the banking union is a concern, and we believe it is an important one. We are working towards a single financial market in Europe. Being able to do cross-border banking, and having efficient financial services to create more competition in the EU, is important. We would like to see the conditions for greater cross-border consolidation, for the increased presence of international business and banks within Europe, a deeper single market, more competition and, ideally, better services. That part we don’t yet have. Even though, in Portugal, there has been some cross-border consolidation with Spanish banks.

Would a merger of Novo Banco with BCP or CaixaBank/BPI be a positive development for the Portuguese market?

We don’t give opinions on specific transactions. As a general rule, whether a consolidation is good or bad depends on the individual project and how that project is evaluated. This is the general rule for any potential transaction. 

‘The watchword for banking is caution’

The Chairperson of the European Banking Authority believes that although banking is sound, it is not free from risks, particularly geopolitical risks and an economic slowdown. José Manuel Campa calls for ‘caution’ despite good capitalisation ratios.

What is the overall state of health of European banks?

They are healthy. Earlier this year we carried out the stress tests, taking place every two years, and we published the results in late July. The stress tests showed that the sector as a whole – despite the tests taking place in a very difficult scenario with a very large drop in GDP, the impact of unemployment and higher inflation for a longer period, and very significant falls in property and financial asset prices – ultimately has a good capital ratio and that distribution between banks is also good. The reasons for this are threefold. First, the banks’ starting point is also good, as regards their balance sheets, capital and liquidity. The capital ratio was 15.1 % of CET1 at the start of this year, the highest since the EBA has existed. They also have a very high liquidity ratio, and profitability was good, too. In addition, the high interest rate situation also benefits banks, because financial margins are increasing. This helps to offset the negative impact of the economic downturn on the quality of portfolios and on late payments. Although non-performing loans (NPLs) are on the up, this is offset by increasing financial margins.

Given the economic uncertainty in Europe and geopolitical tensions, and faced with a possible worsening of the international situation, how is Europe’s financial system faring?

The starting point is good, but caution is the watchword. A lot of caution. There is a great deal of uncertainty around at the moment. On the one hand, there is more geopolitical uncertainty. High interest rates have an impact on the economy, and slow down economic activity. They also have an impact insofar as, in countries with variable-rate loans, these rates pass a greater financial burden onto households and businesses.

As in Portugal.

Yes, Portugal is one example, because variable interest rates are very prevalent. We’re going to see some lenders getting into difficulties because their financial burden has increased, and that could affect banking. That’s why the message we’ve been sending out for months is caution. There is a lot of liquidity in the system now, but the European Central Bank is also removing liquidity as part of its monetary policy measures. This will cause liquidity to decrease a little, and banks will need to rely on the market to finance themselves.

Are European banks sufficiently solvent to cope with a sudden deterioration in the economic situation?

On balance, I would say they generally are. That was what the stress tests results told us. That’s what those tests are for, to try to predict how they would behave in a more challenging economic situation. Overall, Europe’s banking sector has the capacity to continue providing credit and to finance the economy, even in very difficult economic circumstances. That is good news. That being said, I’m talking about the sector average. The sector is very diverse. Some banks are stronger and others are weaker. We have to pay attention to the weakest ones to make the whole sector stronger. Above all, we also need to be prepared. This is why we have the new regulations on bank resolution, so that action can be taken if a specific bank is experiencing weaknesses.


From regulated to regulator
Spanish economist José Manuel Campa has been Chairperson of the European Banking Authority(EBA)since March 2019. The EBA is the EU body tasked with ensuring the prudential regulation and supervision of the European banking sector, with a view to improving how the internal market functions. Before taking up his position at the EBA, Campa worked at Santander Group and was a Finance and Economics lecturer at the IESE Business School in Barcelona. He has also taught at New York University’s Stern School of Business and Columbia University. In 2012, he worked closely with the group of European experts responsible for making recommendations on the reform of the EU banking sector after the financial crisis. He has also been a consultant to several international institutions. He held political office as Spain’s Secretary of State for the Economy between 2009 and 2011. Campa was appointed for a term of five years, able to be renewed once. In October, the EBA’s Board of Supervisors decided to propose renewing his term of office to the Council of the EU.

‘The rise in interest rates for savings deposits is delayed’

The Chairperson of the European Banking Authority acknowledges that there’s been a delay in passing on higher interest rates to savings deposits, but says it will happen eventually. The increased rates are already reflected in new deposits, and the same will happen with existing deposits.

Yields on deposits are still at levels that have not kept pace with the rates on loans offered by European banks, but the Chairperson of the body that supervises Europe’s banking sector believes that it will happen. Campa acknowledges, however, that there has been a delay.

Against the backdrop of the ECB’s interest rate rise, how can the regulator help maintain the balance between healthy banks and fair conditions for depositors?

Our most important task is to ensure that banks are managing interest rate risk appropriately and prudently, as a whole. Earlier this year, there were problems at some US banks. They ended up collapsing and the authorities had to intervene with one-off measures, precisely because they had high interest rate risk linked to their sovereign wealth fund portfolios. This is an area in which we’ve been very active for the last year and a half, together with the ECB in its supervisory work, to ensure that banks’ management of interest rate risk is prudent. As part of this year’s stress test exercise, for all banks in the sample we published the size of the portfolios that had the highest yield-to-maturities. We explained the size of the portfolios, the hedges that had this type of interest rate to address the risk, and the size of the accumulated losses not yet declared, in order to give the market transparency. It is also true that interest rate rises are automatically passed on to loans at banks where variable interest rates dominate, because that is in the terms of the contract. This is already the case in countries like Portugal, Spain and Sweden. Where there are lots of variable interest rate loans, the cost of financing goes up. As long as there is a delay on passing on interest rate increases to deposits, there is less pass-through. As there is now less liquidity in the market due to the withdrawal of monetary policy measures, and banks have to raise more money on the market, the pass-through of interest rate rises to deposits will increase and there will be a greater yield on deposits. It is already increasing in fixed-term deposits. We believe that it will increase further in the coming months.

‘As [...] banks have to raise more money, [...] there will be a greater yield on deposits.’
‘Banks with a lot of variable rate products have improved their profitability. Now we’ll see an increase in the likelihood of defaults’.

The ECB’s raising of interest rates has led to a significant increase in margins. Is this trend coming to an end, or will banks continue to benefit from it?

It depends a little on the structure of the banks, on their balance sheet. For banks that have many loans at fixed interest rates, interest rates at fixed rates will only be passed on for new loans. For old loans, it will remain the same. It is for new loans that we see the rate changing. In banks that have already accounted for this, the pass-through will be more continuous over time. This is because, each time they amortise old loans and provide new ones, the interest rate increases. In banks where there are lots of variable rate loans, the pass-through is very fast because it is linked to renewal clauses that are usually set for a term of one year. When the term expires, the interest rate on the loan immediately increases. What we’ve seen is that banks with more variable rate loans have improved their profitability this year more than banks with more fixed rates. But that comes at a price. One consequence is that, if interest rates go up in the short term, this is good for the banks because they make a profit on the margin, but the cost of that loan also goes up for the customer, and with that the possibility of more payment defaults. Banks with a lot of variable rate products have improved their profitability. What we’ll see now is an increase in the likelihood of defaults.

What are the EBA’s priorities for 2024?

In terms of supervision, supervisors need to pay particular attention to liquidity management, the impact of interest rates on banks’ balance sheets, and how to improve, from an operational perspective, a bank’s resolution. If a bank experiences problems, the resolution must be technical and not result in systemic problems. In terms of regulation, in the medium and long term, our priorities are to move forward with the Basel III framework [the international regulatory framework that aims to strengthen the sector’s regulation, supervision and risk management]. In terms of reporting, we also need to make progress, streamline and simplify. In terms of risks, we are giving high priority to environmental impact, risk and sustainability. As for technology, we must implement two very important regulations. The ‘Digital Operational Resilience’ regulation. Let me explain: banks have outsourced many activities to external suppliers, particularly in the realm of technology, such as putting their systems in the cloud. Two things have happened: by outsourcing those activities, they have lost control over whether they are being performed correctly. It is important to maintain such control. ‘Cloud’ suppliers are few and far between, so there is a concentration risk there. This is a critical risk that should be supervised. The second thing is the implementation of crypto-assets, ‘tokens’, for which we need to establish the regulatory framework. Another priority is preventing money laundering. Reform is happening in Europe with the proposal to establish a new authority. Until that happens, responsibility lies with the EBA. We are working on this area until the new authority is established.

‘The European deposit guarantee should be top of the agenda for the new policy cycle’

It is one of the three pillars of the banking union, but also the one that is the furthest behind, and the EBA Chairperson expects it to be one of the priorities for the new Commission.

What are the current priorities for the banking union?

The main priority is to complete the basic legislative framework. At the outset of the banking union, it was said that three pillars would be required. The first is a single regulatory framework and a single supervisory authority, and these are virtually in place now. The second is a single resolution framework, which is not yet 100% established, but is at a very advanced stage – there is a reform now of crisis management and deposit insurance, which is progressing along these lines. The third pillar is a deposit guarantee scheme that gives all European citizens certainty that their deposits are [treated] equally, regardless of the country. Progress has been made, but the work is not finished. This is important.

When will the political conditions be right to move forward with the European deposit guarantee fund?

I’m concerned that this is not on the agenda right now. Next year there are elections to the European Parliament, and there will be a new Commission, so this is a fundamental item on the agenda for the next cycle. It is clear that the matter will not be discussed between now and the European elections in June. There have been two attempts over the past two years by the President of the Eurogroup to reach an agreement, but it has not been possible. It remains a priority. I would like it to be top of the agenda for the new cycle.

Are you calling on Member States to make it a priority?

Yes. If you want to put that in the headline [of the interview], that’s fine with me. Completing the banking union should be a priority.

Do you mean a European mechanism at that level?

Yes. A European fund, a European mechanism. It’s important because, if we don’t finish this, what’s going to happen? Each country feels that it is vulnerable and is responsible for guaranteeing deposits in that country. In the interests of financial stability, it feels it needs to have a lot of guarantees on how its banking system works and, ultimately, this leads to the creation of protective measures that impede the single banking market. To end this legitimate expectation on the part of Member States, which are responsible for their depositors, we need a European scheme that provides that assurance.

Is this a political or a technical issue?

That’s a good question. The distinction between the two is not obvious. When a topic is very sensitive for citizens, it becomes political. And it is sensitive because there is a misplaced perception that this implies an extensive pooling of obligations. That’s not the case. It is true that it’s needed to a certain degree, but we’ve already built a very strong supervisory mechanism, a resolution mechanism that has a common resolution fund and all countries now have pre-funded national deposit guarantee funds. In other words, they already have the money allocated. There are already several mechanisms in place – most with contributions from the banking sector – which establish a level of funds that reduce considerably any need to resort to public funds. 


The interview was conducted by Vasco Gandra.

 Jornal de Negócios (Portugal)