We expect an increase in bad loans

Banks in the eurozone and in Greece should be ready to face a significant increase in nonperforming loans in view of the pandemic crisis and prepare for active management of those loans.

In an interview with Kathimerini, the director of economic analysis and statistics at the European Banking Authority, Mario Quagliariello, explains that the evolution of asset quality will be reflected in the stress tests that have started and whose results are expected to be published in July.

The latest published data show there was also a decline in bad loans in Greece in 2020. However, there is also evidence of delays at the level of loans that have entered Stage 2 – i.e. those that are three months past due. What is the Commission’s assessment of the development of bad loans on the basis of the indications?

Indeed, based on the latest available data, NPLs declined further in the fourth quarter of 2020, reaching 2.6% at the European level. This confirms that the public support measures have been effective in shielding the economy so far. However, there are early signals of asset quality deterioration, for instance the increase of assets classified as Stage 2. These loans are still performing but they experienced a significant increase in credit risk and require additional provisions. Also, NPL ratios started increasing for some sectors more heavily affected by the pandemic, such as accommodation, food services, arts and entertainment.

We expect a further worsening of asset quality, particularly with the gradual phaseout of support measures. This is why it is so important that banks are prepared, do not delay the recognition of credit risk and adopt prudent provisioning policies.

Greek banks estimate that the new bad loans left by the pandemic will not exceed 5 billion euros. Do you consider this goal realistic in relation to the amount of loans that have entered into a moratorium period, and how much are these based on the EBA data?

The Greek banks have made significant progress in reducing NPLs from 39.7% to 25.5%. Based on the EBA data, loans under EBA eligible moratoria by Greek banks during the third trimester of 2020 were 22.2 billion euros and fell to 4.1 billion euros in the fourth trimester. Regarding the behavior of these loans, it appears that 32% of 22.2 billion euros is in Stage 2 and the NPL rate stands at 17.5%. With regard to the 4.1 billion euros based on the end-2020 figures, the rest of the NPL rates under moratoria stand at 7% and 27.9% is in the percentage under Stage 2.

I should point out that we do not know exactly how the loans that have left the support scheme are definitely performing. This is because many are no longer eligible for an EBA eligible moratorium and have been included in other support programs by the state or in programs designed by banks. In this sense, it is still difficult to make a precise assessment, but we believe that stress tests throughout the EU will be very useful to tell us what we can expect in an unfavorable scenario. However, it is clear that banks must be prepared for an increase in NPLs and be active in their management.

A significant portion of the loans that have come out of the moratoria have been included in government support schemes or in “step-up programs” designed by the banks. How will these loans be handled from a prudential view?

Generalized moratoria have been a very effective tool for providing households and corporates with breathing space at the very moment many economic activities were shut down as part of social distancing measures and lockdowns. The EBA intervened with specific guidelines so to avoid any automatic reclassification in default or forborne status of the exposures benefiting from the moratoria. The rationale of our intervention was to safeguard borrowers with temporary liquidity problems, while we also asked banks to keep looking at the long-term viability of their customers. If these measures last too long, there is a risk that they will determine a delay in the recognition of risks. Eventually, this will negatively affect the banking sector as well as their customers. Therefore, it is important to gradually go back to normal, with a case-by-case assessment of borrowers’ creditworthiness, prompt recognition of asset quality deterioration, and conservative provisioning policies. Waiting too long would be procyclical and reduce the ability of the banking sector to support the economy.

Greek banks continue to have the highest stock of NPLs in the euro area and their further reduction presupposes the consumption of a significant part of the capital stock they have built. Piraeus Bank is already launching a significant share capital increase. Do you think that the other banks will have to move to similar initiatives?

What we have seen in the fourth quarter of 2020 for Greek banks is a decrease in their capital, although we cannot say with certainty how this capital was used: if it was used for additional provisioning or because of increases in lending and increases in their risk-weighted assets. In any case, it is clear that we had a reduction of their own funds, but they are still above the minimum requirements, so there is room for absorbing losses. On the basis of our data, the key ratio stood at 12.7% for Greek banks in 2020, compared with 13.6% in 2019, while for European banks the ratio stood at 15.5% from 15% at the end of 2019.

All in all, the EU banking sector is highly capitalized and there are regulatory funds to absorb credit risks. The supervisory community was also well coordinated and clear in communication that buffers can be used and that banks will be given enough time to recover at the end of the crisis.

The EBA has started collecting data to conduct stress tests amid adverse conditions. Do you think that stress test hypotheses are realistic even in the adverse scenario? What do you expect from the results of stress tests?

Indeed, the 2021 EU-wide stress test is ongoing and we expect to publish the results in July. The baseline scenario we have adopted is based on the ECB estimate of the growth in the eurozone, and hence the downside risks for banks are in the adverse scenario, because we want to see the impact in the banking chain if the financial situation worsens. The adverse scenario is severe but it is relevant, because it essentially reflects the uncertainty about the persistence of the pandemic and the course of vaccines that will determine the relaunch of the economy.

Banks have been so far resilient and the stress tests will help us understand what we can do if the situation does not improve and the economic situation remains as it is now. Depending on the outcomes of the exercise, but also depending on how the economy evolves until July, we will use this information to start discussing possible exit strategies from the exceptional support measures or for considering additional actions for helping the economy.