Southern Europe: cleaner bank balance sheets versus gloomy prospects
According to the latest figures from the European Banking Authority, the ratios of non-performing loans in the Spanish, Italian and Portuguese banking systems reached record lows in the second quarter of 2022. It also appears that their cost of risk remains relatively low following the sharp increase in 2020. However, the cost of risk for Southern European banks is likely to increase again in the coming quarters against a backdrop of a slowdown in economic activity linked to high inflation, rising interest rates and higher energy prices.
In Spain, Italy and Portugal, outstanding amounts of non-performing loans fell to a record low in the second quarter of 2022. On the one hand this can be explained by the early stages of a recovery (albeit an uneven one) following the easing of the pandemic and, on the other, by ongoing asset disposal and securitisation plans. Since reaching a peak of EUR 500 billion in the third quarter of 2014, outstanding amounts of non-performing loans have been reduced by a factor of more than 3, to under EUR 150 billion.
Conversely, outstanding amounts of performing loans increased during the second quarter of 2022 due to the increase in loans, mainly for house purchase, to households and loans to NFCs. The growth in the outstanding amounts of credits to the latter was entirely due to cash loans which were taken out in order to meet stock replenishment needs and which more than offset the drop in the outstanding amounts in investment credit.
Non-performing loan ratios therefore experienced a positive jaws effect, which resulted in them reaching levels of 2% in Spain and Italy, and 3% in Portugal. For comparative purposes, the peaks observed between 2014 and 2016 were over 14% in Italy and Portugal and, more modestly, 7% in Spain.
Having doubled in Spain and Portugal between 2019 and 2020 and increased by 50% in Italy, the cost of risk for Southern European banks has so far remained relatively low. For the time being, and contrary to reservations expressed following their implementation, there has been no appreciable increase in borrower credit risk at the time of the lifting of public support measures.
These reassuring indicators aside, the proportion of underperforming loans against total loans remains 20–30% above pre-pandemic levels. The proportion of loans for which the credit risk as increased significantly since their initial recognition, but without being non-performing, is often used as a leading indicator for the quality of bank balance sheets. The fact that it continues to be at a high level suggests that the cost of risk for Southern European banks could increase in the coming quarters. The extent of this increase will naturally depend on the persistence of high inflation and on rises in interest rates and their effect on the economic slowdown. Furthermore, the cost of risk for borrowers most sensitive to increases in energy costs is expected to rise. To a certain extent the increase in the proportion of fixed-rate loans, particularly for house purchase loans, seen in Southern European countries in recent years on the back of the extended period of low rates, should further protect borrowers against rate hikes and so preserve their solvency levels.