The Portuguese Banking System in the Transition to the Banking Union

The Portuguese Banking System in the Transition to the Banking Union Pedro Duarte Neves • Vice-Governor 30 September 2014 Euromoney Conferences The P...
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The Portuguese Banking System in the Transition to the Banking Union Pedro Duarte Neves • Vice-Governor 30 September 2014

Euromoney Conferences The Portugal Conference

Outline

1. The Economic and Financial Assistance Programme 2. The ongoing adjustment of the Portuguese economy: recent developments and the macroeconomic outlook 3. Balance sheet repair: the adjustment of the banking sector 4. The Single Supervision Mechanism 5. Challenges ahead 2 • 30 September 2014

The Portuguese Banking System in the transition to the Banking Union

Outline

1. The Economic and Financial Assistance Programme 2. The ongoing adjustment of the Portuguese economy: recent developments and the macroeconomic outlook 3. Balance sheet repair: the adjustment of the banking sector 4. The Single Supervision Mechanism 5. Challenges ahead 3 • 30 September 2014

The Portuguese Banking System in the transition to the Banking Union

1. The Economic and Financial Assistance Programme

Economic and Financial Assistance Programme (EFAP) Main goals: Strengthen macro-financial stability, restore financial market confidence and relaunch sustainable growth

Three pillars Stabilisation of the financial sector

Fiscal consolidation

Structural adjustment

Financial sector workstreams Liquidity

Solvency

Supervision

Resolution

Balanced and orderly deleveraging

Adequate capitalization

Strengthen bank supervision

Set up an updated bank resolution framework

g

g

g

Debt restructuring Corporate and household debt restructuring

1. The Economic and Financial Assistance Programme

Economic and Financial Assistance Programme (EFAP) Financial sector workstreams – Main instruments Liquidity

Solvency

Supervision

Resolution

ECB refinancing operations

Regulatory measures

Cross sector supervisory actions

Resolution Fund

Funding and capital plans

Fund, financed by banks, intended to finance resolution measures.

Forward looking reporting, submitted quarterly.

Conventional measures FRFA VLTRO Collateral eligibility requirements Other

Capital ratio minima (core Tier 1 of 9% by end 2011 and 10% by end 2012); own funds deductions.

Bank Solvency Support Facility

12 € billion 5 • 30 September 2014

On-site inspections program (OIP), Special inspections program (SIP), Impairment analysis (ETRICC), Large clients business plans analysis (ETRICC 2).

Recovery and resolution plans

Information annually submitted by banks with the recovery measures and the relevant data in case of resolution

The Portuguese Banking System in the transition to the Banking Union

Stress tests Evaluates banks ability to endure adverse financial and economic scenarios. Forward looking.

Outline

1. The Economic and Financial Assistance Programme 2. The ongoing adjustment of the Portuguese economy: recent developments and the macroeconomic outlook 3. Balance sheet repair: the adjustment of the banking sector 4. The Single Supervision Mechanism 5. Challenges ahead 6 • 30 September 2014

The Portuguese Banking System in the transition to the Banking Union

2. The ongoing adjustment of the Portuguese economy: recent developments and the macroeconomic outlook

There has been a sizeable adjustment of imbalances  Net lender position (improvement of around 12 p.p. in the current and capital account between 2010 and 2013)  Deleveraging is ongoing. Nevertheless, the level of indebtedness is still significant

4.0

Current and capital account (% GDP)

Debt of the resident non-financial sector (% GDP) 400 350

2.0

300

0.0

250

-2.0

200

-4.0

150 100

-6.0

50

-8.0

0

-10.0

1999

2001

Households

-12.0 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 7 • 30 September 2014

The Portuguese Banking System in the transition to the Banking Union

2003

2005

2007

Non-financial corporations

2009

2011

General government

2013

2. The ongoing adjustment of the Portuguese economy: recent developments and the macroeconomic outlook

The restructuring of the economy is proceeding  Weight of exports in GDP increased 10 p.p. between 2010 and 2013 ; significant share due to young firms; export market share gains of 12 p.p. in 2011-13  Firms with highest labor productivity increased their domestic market share Demand components (as a % of GDP)

Export decomposition by firms’ birth year

75.0 65.0 55.0 45.0 35.0 25.0 15.0

Private consumption

Public consumption

Investment

Exports

2013

2012

2011

2010

2009

2008

-5.0

2007

5.0

2. The ongoing adjustment of the Portuguese economy: recent developments and the macroeconomic outlook

Credit developments have been consistent with the adjustment  Recent improvement in credit market conditions  Credit flows have been channeled to the most dynamic and productive firms, notably exporting firms in the private sector, albeit there is high heterogeneity across firms Distribution of interest rate to non-financial corporations (new business), in percentage 30%

Credit to non-financial corporations in the private sector (y-o-y rate of change, in percentage) 6.0 4.0

25%

Jun-10

20%

Dec-11

2.0

Jun-14

0.0

15%

-2.0 -4.0

10%

-6.0

5%

-8.0 2010

0% 0

1

2

3

4 5 6 7 8 9 10 11 12 13 14 Interest rates (percentage)

9 • 30 September 2014

2011

2012

2013

2014

Total credit Loans and debt securities - resident banks Loans to exporting firms by resident financial institutions

The Portuguese Banking System in the transition to the Banking Union

2. The ongoing adjustment of the Portuguese economy: recent developments and the macroeconomic outlook

Strong and unprecedented fiscal consolidation effort in 2011-13  Around 8.5 p.p. improvement in the structural primary deficit  The increase in the public debt ratio was mostly associated with debt deficit adjustments and rises in interest expenditures The composition of structural consolidation (in percentage points of trend GDP) 40

9

35

7

30

5

25

In p.p. of GDP

In p.p. of trend GDP

Breakdown of the change in the public debt ratio

20

3

15

1

10

-1

5

-3 -5

0 2008

2009

2010

2011

2012

Expenditure contribution Revenue contribution

10 • 30 September 2014

2013

Cum.: 20082013

Cum.: 20112013

-5 2008

2010 Primary balance effect Economic growth effect Total change

The Portuguese Banking System in the transition to the Banking Union

2012

Cum.: 2011-2013 Interest expenditure effect Deficit-debt adjustments

2. The ongoing adjustment of the Portuguese economy: recent developments and the macroeconomic outlook

Successful exit from the Assistance Programme in May 2014  Anchored on sounder fundamentals of the Portuguese economy, coupled with institutional progress on a European level  Favorable evolution of risk perception as regards the euro area  Improved access of residents to wholesale debt markets 10-year government bond yields

Financial Account Balance and changes in assets and liabilities

20

25

16

20

14

15

In percentage of GDP

18

12 10 8 6 4

Change in assets Change in liabilities Balance

10 5 0 -5

-10

2

-15

0 2007

2008 US

2009

Germany

2010 UK

Source: Thomson Reuters

2011 Italy

2012

Spain

2013

France

2008

2014

2009

2010

2011

2012

2013 2014H1

Notes: an increase in net liabilities to nonresidents corresponds to a financial inflow and an increase in net assets corresponds to a financial outflow.

Portugal on to the

Sources: INE and Banco de Portugal

2. The ongoing adjustment of the Portuguese economy: recent developments and the macroeconomic outlook

A gradual recovery has been observed in Portugal since mid-2013, in the context of a modest and uneven recovery in the euro area  Resilient exports but still relatively weak investment dynamics  Labor market developments have been relatively favorable

Year-on-year rate of change of GDP (per cent) 3

Unemployment rate (per cent) 20

2

18

1

16

0

14

-1

12

-2

10

The Portuguese Banking System in the transition to the Banking Union

2014Q2

2014Q1

2013Q4

2013Q3

2013Q2

2012Q4

2012Q3

2012Q2

2012Q1

6

2011Q4

2014Q2

2014Q1

2013Q4

2013Q3

2013Q2

2013Q1

2012Q4

2012Q3

2012Q2

2012Q1

2011Q4

2011Q3

2011Q2

2011Q1

-5

2011Q3

Euro area

12 • 30 September 2014

Portugal Euro area

8

2011Q2

-4

2013Q1

Portugal

2011Q1

-3

2. The ongoing adjustment of the Portuguese economy: recent developments and the macroeconomic outlook

The latest macroeconomic projections for Portugal  GDP growth close to the euro area  Gradual recovery of domestic demand and strong export dynamics  Sustained correction of macroeconomic imbalances

140

2013

2014(p)

2015(p)

2016(p)

Gross Domestic Product

-1.4

1.1

1.5

1.7

Private Consumption Public Consumption GFCF Exports Imports

-1.7 -1.8 -6.6 6.1 2.8

1.4 -0.2 0.8 3.8 4.6

1.5 -1.4 3.7 6.1 4.8

1.5 0.2 3.9 5.6 5.5

120 110 100 90 80 70

13 • 30 September 2014

The Portuguese Banking System in the transition to the Banking Union

2016(p)

2015(p)

2014(p)

2013

2012

2011

2010

2009

60

2008

Source: Banco de Portugal.

GDP Private consumption GFCF Exports

130

Projection June 2014

Outline

1. The Economic and Financial Assistance Programme 2. The ongoing adjustment of the Portuguese economy: recent developments and the macroeconomic outlook 3. Balance sheet repair: the adjustment of the banking sector 4. The Single Supervision Mechanism 5. Challenges ahead 14 • 30 September 2014

The Portuguese Banking System in the transition to the Banking Union

3. Balance sheet repair: the adjustment of the banking sector

The banking sector is undergoing a balance-sheet repair…  Reduction of total assets, with a significant contraction of credit to customers partially offset by an increase of debt instruments held (mainly holdings of public debt).  Change in the financing structure, with a decrease in market based sources partially compensated by an increase in customers' deposits and Eurosystem refinancing. Assets (Billion €), at end of period 600

532

513

496

500

Bank financing structure (Billion €), at end of period 600

460

449

400 300 200 100

Other Assets

500

Investment in Credit Institutions Capital Instruments Debt Instruments

400

Credit

0 2010

2011

2012

15 • 30 September 2014

2013

2Q 2014

532

513

496

460

449

Capital & Others

300

Resources from Central Banks Interbank Market

200

Securities

100

Deposits

0 2010

The Portuguese Banking System in the transition to the Banking Union

2011

2012

2013

2Q 2014

3. Balance sheet repair: the adjustment of the banking sector

… characterized by a strong deleverage process  Significant decrease of LTD ratio, chiefly driven by the credit reduction.  Significant reduction of the commercial gap

Loan-to-Deposits (LTD) ratio, at end of period

140

140

128

120

117

400

114 300

100 80

200

60 40

100

20 0

0 2010

2011

2012

16 • 30 September 2014

2013

Deposits (left axis)

2Q 2014

Credit (left axis) Credit at risk (left axis) LTD ratio

€ Billion

160

500

158

€ Billion

180

Commercial gap, at end of period 180 160 140 120 100 80 60 40 20 0

133 98 70

2010

The Portuguese Banking System in the transition to the Banking Union

2011

2012

43

35

2013

2Q 2014

3. Balance sheet repair: the adjustment of the banking sector

NPL ratio increased, also due to supervisory action, but this trend is now reverting  The ratio of credit at risk maintains an upward trend. Recent developments are partially justified by a denominator effect (deleveraging), since the flow of new overdue and non-performing loans has been reduced since mid-2012.  Despite the increase in the credit at risk, the respective coverage ratios remained relatively stable throughout the period. Credit at risk ratio by institutional sector, at end of period PrivateResident Sector

Non-financial corporaions

Housing

Credit at risk coverage ratio by institutional sector, at end of period

Consumpionandoher purposes

PrivateResident Sector

Non-financial corporaions

Housing

Consumpionandother purposes

90,0

20,0 80,0

18,0 16,0

70,0

14,0

60,0

Per cent

Per cent

12,0 10,0

50,0

40,0

8,0 30,0

6,0 20,0

4,0 2,0

10,0

0,0

0,0

2010

2011

2012

17 • 30 September 2014

2013

1Q 2014

2Q 2014

2010

The Portuguese Banking System in the transition to the Banking Union

2011

2012

2013

1Q 2014

2Q 2014

3. Balance sheet repair: the adjustment of the banking sector

Cross-sectional inspections carried out by BdP in 2011-2014 SIP (2011)

OIP (2012)

ETRICC (2013)

ETTRIC2 (2013-2014)

All credit portfolio

Construction and Real Estate portfolio

Credit portfolio, excluding mortage, consumer and public administration loans

12 economic groups

Reference date

June 2011

June 2012

April 2013

September 2013

Scope universe

€ 281 billion

€ 69 billion

€ 93 billion

€ 9,4 billion

Sample for individual analysis

€ 70 billion

€ 39 billion

€ 53 billion

€ 8,4 billion

5 516

2 856

2 206

227

# BdP resources

69

31

27

18

# external resources

226

98

191

37

16 Dec 2011

3 Dec 2012

2 Aug 2013

28-Mar-2014

Scope

# of analysed entities

Public release

Reinforcement of impairment and provisions levels deemed necessary as a result of the inspection exercise.

Impairments and Provisions

€ 838 billion

€ 861 billion

€ 1 127 billion

€ 1 003 billion

3. Balance sheet repair: the adjustment of the banking sector

The solvency ratios have clearly increased…  Core tier 1 reached 12.3% at end 2013, clearly above the 10% minimum defined under the Economic and Financial Assistance Programme. (As of Jan 2014 there is a new framework, fully aligned with CRD IV, introducing the common equity tier 1 (CET1) concept)

 The increase in core tier 1 ratio was driven both by a reduction in RWA and reinforced capital position (with public capitalization having a considerable role) Solvency and leverage ratios

Contributions to the Core Tier 1 ratio change 2010 - 2013

12

5

10

4

Percentage points

Percentage

14

8 6 4 Dec2010

Dec2011

Solvency ratio Core Tier 1 Leverage ratio (Tier 1 / total assets)

19 • 30 September 2014

Dec2012

Dec2013

Solvency ratio regulatory minimum EFAP minimum for Core Tier 1

The Portuguese Banking System in the transition to the Banking Union

3

RWA

2

1

Core Tier 1

0

2010-2013

3. Balance sheet repair: the adjustment of the banking sector

… but profitability remains under pressure, despite the recent recovery of the net interest income  Banks results have been declining as a reflection of the challenging economic and financial scenario (GDP, unemployment, low level of interest rates).  Nevertheless, excluding BES group, the profitability of the banking system improved significantly in the first half of 2014 when compared to the same period in 2013 Banking sector returns 1,0

0,5

%

7,7 -6,3

-5,5

-0,4

-0,3

-8,4 -11,6

3,8

0,5

0,3

0,0 -0,5

-0,5

-1,0

-0,8

-26,5 -1,8

2010

2011

2012

Return on Equity (ROE)

2013

1H 2013

1H 2014

Return on Assets (ROA) - rhs

The lighter shaded number and dotted line are BdP estimates for the ROE and ROA excluding BES group 20 • 30 September 2014

The Portuguese Banking System in the transition to the Banking Union

-1,5 -2,0

%

15 10 5 0 -5 -10 -15 -20 -25 -30

3. Balance sheet repair: the adjustment of the banking sector

BES resolution • BES Group was the 3rd largest banking group in PT, with total assets of about € 81 bn, representing almost 50% of Portuguese GDP • Unexpected losses unveiled in late July triggered a breach in solvency ratios which further and irreparably aggravated the liquidity shortfall • On 3 August BdP created “Novo Banco” and transferred thereto most of the business of BES, which was left as a “bad bank” and shall be wound up

• Capital requirements of Novo Banco were estimated at € 4.9 bn, after prudent adjustments and targeting a CET1 ratio of 8.5% 5yr spread : Diferential vis-à-vis DE

p.b.

Eurostoxx and PSI 20 index

110

300

Early signs point to no systemic implications and sovereign contagion

250 200 150 100 Portugal

Espanha

Itália

100 = 1st july 2014

100

90

80

50

Euro stoxx 50

0 1/Jul

21 •

12/Jul

23/Jul

3/Ago

14/Ago

25/Ago

70 01-Jul-14

12-Jul-14

23-Jul-14

PSI20 03-Ago-14

14-Ago-14

25-Ago-14

Outline

1. The Economic and Financial Assistance Programme 2. The ongoing adjustment of the Portuguese economy: recent developments and the macroeconomic outlook 3. Balance sheet repair: the adjustment of the banking sector 4. The Single Supervision Mechanism 5. Challenges ahead 22 • 30 September 2014

The Portuguese Banking System in the transition to the Banking Union

4. The Single Supervision Mechanism

Single Supervision Mechanism - Institutional framework ECB

National Competent Authorities (NCA) Euro Area

Responsibility for the oversight of the SSM functioning and for ensuring supervisory consistency

Direct Supervision of Less Significant Banks

SSM Common Supervisory Framework Supervisory Decisions over All Banks: exclusive competence or use of specific powers Decision to Directly Exercise Supervision

Assistance to the ECB in the Supervision of Significant Banks Exclusively Competent for Supervisory Tasks not conferred on the ECB

Direct Supervision of Significant Banks 23 • 30 September 2014

The Portuguese Banking System in the transition to the Banking Union

NCA other Member States

(optional – close cooperation agreement)

The supervisory framework will mirror the one applied within the Euro Area, but the ECB will exercise its tasks indirectly always by instructions to the NCA

4. The Single Supervision Mechanism

Single Supervision Mechanism – Operational framework GOVERNING COUNCIL SUPERVISORY BOARD ECB Intermediate Structures (DGs)  a JST for every significant banking group  responsible for all supervisory tasks

JST Coordinator

NCA sub-coordinators

ECB/NCA staff

24 • 30 September 2014

The Portuguese Banking System in the transition to the Banking Union

Outline

1. The Economic and Financial Assistance Programme 2. The ongoing adjustment of the Portuguese economy: recent developments and the macroeconomic outlook 3. Balance sheet repair: the adjustment of the banking sector 4. The Single Supervision Mechanism 5. Challenges ahead 25 • 30 September 2014

The Portuguese Banking System in the transition to the Banking Union

5. Challenges ahead

• Improving long-run growth is of the essence i) Need to sustain (and enlarge) the reform momentum ii) Investments in physical and human capital are key

• The adjustment of accumulated imbalances will continue to characterize the Portuguese economy i) An orderly and gradual deleveraging process needs to be sustained ii) A smooth intermediation process is crucial to an efficient allocation of resources

• Fulfilling the current European commitments is the adequate policy from an intertemporal perspective Even under conservative macroeconomic assumptions, fulfilling the Fiscal Compact ensures debt sustainability

• Restoring profitability in the banking sector is crucial 26 • 30 September 2014

The Portuguese Banking System in the transition to the Banking Union