Carmelo Salleo
- 16 September 2024
- OCCASIONAL PAPER SERIES - No. 356Details
- Abstract
- This study assesses euro area banks’ profitability using granular stress test data from three EU-wide exercises, coordinated by the European Banking Authority, that took place in 2016, 2018, and 2021. We propose a credit portfolio-level risk-adjusted return on assets for the euro area as a whole and for individual countries to assess the profitability of lending activities among euro area banks. Using banks’ own projections under the adverse scenarios of the stress test exercises for a consistent sample of euro area banks, we aim to uncover the effect of severe macroeconomic and financial conditions on the profitability of the various portfolios. We investigate how many country portfolios switch from profitable to loss-making under adverse conditions and show that this number peaks in the 2018 stress test exercise, while the 2021 exercise yields the lowest overall profitability. Overall, around 30% of exposures become unprofitable under stress conditions across the latest two exercises (compared to 20% for the 2016 exercise), mostly concentrated in the non-financial corporations (NFC) segment and, to a lesser extent, in the financial and mortgage portfolios. We also show in a regression analysis that the yield curve is an important determinant of portfolio-level profitability in a stress test setting, while the unemployment rate seems to be relevant in determining portfolio switches and GDP growth seems to influence the change in profitability. The results also point to some portfolio heterogeneity.
- 3 April 2024
- WORKING PAPER SERIES - No. 2923Details
- Abstract
- How a historic drop in bank deposits shapes banks’ loan supply? We exploit the effects of a large, and unexpected, increase in monetary policy rates to estimate the deposit channel of monetary policy using an extensive credit register that includes all bank-firm lending relationships in all euro area countries. We find that banks experiencing large deposit outflows reduce credit, but not the interest rate they charge, to the same borrower relative to other lenders. This credit restriction is stronger for fixed rate and longer maturity loans, but not for riskier borrowers. The effect is mostly driven by banks coming into the hiking period with a larger unhedged duration gap that renders borrowers of those banks more vulnerable to credit restrictions due to the deposit outflows as interest rates surge. We resort to the deposit beta as an instrument variable and a matched estimator that bear out the thrust of our results.
- JEL Code
- E51 : Macroeconomics and Monetary Economics→Monetary Policy, Central Banking, and the Supply of Money and Credit→Money Supply, Credit, Money Multipliers
E58 : Macroeconomics and Monetary Economics→Monetary Policy, Central Banking, and the Supply of Money and Credit→Central Banks and Their Policies
G21 : Financial Economics→Financial Institutions and Services→Banks, Depository Institutions, Micro Finance Institutions, Mortgages
- 6 September 2023
- OCCASIONAL PAPER SERIES - No. 328Details
- Abstract
- Transition to a carbon-neutral economy is necessary to limit the negative impact of climate change and has become one of the world’s most urgent priorities. This paper assesses the impact of three potential transition pathways, differing in the timing and level of ambition of emissions’ reduction, and quantifies the associated investment needs, economic costs and financial risks for corporates, households and financial institutions in the euro area. Building on the first ECB top-down, economy-wide climate stress test, this paper contributes to the field of climate stress testing by introducing three key innovations. First, the design of three short-term transition scenarios that combine the transition paths developed by the Network for Greening the Financial System (NGFS) with macroeconomic projections that allow for the latest energy-related developments. Second, the introduction of granular sectoral dynamics and energy-specific considerations by country relevant to transition risk. Finally, this paper provides a comprehensive analysis of the impact of transition risk on the euro area private sector and on the financial system, using a granular dataset that combines climate, energy-related and financial information for millions of firms with the euro area credit register and securities database and country-level data on households. By comparing different transition scenarios, the results of the exercise show that acting immediately and decisively would provide significant benefits for the euro area economy and financial system, not only by maintaining the optimal net-zero emissions path (and therefore limiting the physical impact of climate change), but also by limiting financial risk. An accelerated transition to a carbon-neutral economy would be helpful to contain risks for financial institutions and would not generate financial stability concerns for the euro area, provided that firms and households could finance their green investments in an orderly manner. However, the heterogeneous results across economic sectors and banks suggest that more careful monitoring of certain entity subsets and of credit exposures will be required during the transition process.
- JEL Code
- C53 : Mathematical and Quantitative Methods→Econometric Modeling→Forecasting and Prediction Methods, Simulation Methods
C55 : Mathematical and Quantitative Methods→Econometric Modeling→Modeling with Large Data Sets?
G21 : Financial Economics→Financial Institutions and Services→Banks, Depository Institutions, Micro Finance Institutions, Mortgages
Q47 : Agricultural and Natural Resource Economics, Environmental and Ecological Economics→Energy→Energy Forecasting
Q54 : Agricultural and Natural Resource Economics, Environmental and Ecological Economics→Environmental Economics→Climate, Natural Disasters, Global Warming
- 22 September 2021
- OCCASIONAL PAPER SERIES - No. 281Details
- Abstract
- Climate change is one of the greatest challenges facing humankind this century. If left unchecked, it is likely to result in more frequent and severe climatic events, with the potential to cause substantial disruption to our economies, businesses and livelihoods in the coming decades. Yet the associated risks remain poorly understood, as climate shocks differ from the financial shocks observed during previous crises. This paper describes the ECB’s economy-wide climate stress test, which has been developed to assess the resilience of non-financial corporates (NFCs) and euro area banks to climate risks, under various assumptions in terms of future climate policies. This stress test comprises three main pillars: (i) climate-specific scenarios to project climate and macroeconomic conditions over the next 30 years; (ii) a comprehensive dataset that combines climate and financial information for millions of companies worldwide and approximately 1,600 consolidated euro area banks; (iii) a novel set of climate-specific models to capture the direct and indirect transmission channels of climate risk drivers for firms and banks.
- JEL Code
- C53 : Mathematical and Quantitative Methods→Econometric Modeling→Forecasting and Prediction Methods, Simulation Methods
C55 : Mathematical and Quantitative Methods→Econometric Modeling→Modeling with Large Data Sets?
G21 : Financial Economics→Financial Institutions and Services→Banks, Depository Institutions, Micro Finance Institutions, Mortgages
G38 : Financial Economics→Corporate Finance and Governance→Government Policy and Regulation
Q54 : Agricultural and Natural Resource Economics, Environmental and Ecological Economics→Environmental Economics→Climate, Natural Disasters, Global Warming
- 30 November 2020
- WORKING PAPER SERIES - No. 2497Details
- Abstract
- We study the impact of macroprudential capital buffers on banking groups' lending and risk-taking decisions, also investigating implications for internal capital markets. For identification, we exploit heterogeneity in buffers applied to other systemically important institutions, using information from three unique confidential datasets, including information on the EBA scoring process. This policy design induces a randomized experiment in the neighborhood of the threshold, which we use to identify the effect of higher capital requirements by comparing the change in the outcome for banks just above and below the cut-off, before and after the introduction of the buffer. The analysis is implemented relying on a fuzzy regression discontinuity and on a difference-in-differences matching design. We find that, when parent banks are constrained with higher buffers, subsidiaries deleverage lending and risk-taking towards non-financial corporations and marginally expanded lending towards households, with negative effects on profitability. Also, we find that parents cut down on holdings of debt and equity issued by their subsidiaries. Our findings support the hypothesis that higher capital buffers have a positive disciplinary effect by reducing banks' risk-taking while having a (temporary) adverse impact on the real economy through a decrease in affiliated banks' lending activity. Therefore, to ensure the effectiveness of macroprudential policy, it is essential that policymakers assess their potential cross-border effects.
- JEL Code
- E44 : Macroeconomics and Monetary Economics→Money and Interest Rates→Financial Markets and the Macroeconomy
E51 : Macroeconomics and Monetary Economics→Monetary Policy, Central Banking, and the Supply of Money and Credit→Money Supply, Credit, Money Multipliers
E58 : Macroeconomics and Monetary Economics→Monetary Policy, Central Banking, and the Supply of Money and Credit→Central Banks and Their Policies
G21 : Financial Economics→Financial Institutions and Services→Banks, Depository Institutions, Micro Finance Institutions, Mortgages
G28 : Financial Economics→Financial Institutions and Services→Government Policy and Regulation - Network
- Research Task Force (RTF)
- 17 July 2019
- OCCASIONAL PAPER SERIES - No. 227Details
- Abstract
- This occasional paper describes how the financial stability and macroprudential policy functions are organised at the ECB. Financial stability has been a key policy function of the ECB since its inception. Macroprudential policy tasks were later conferred on the ECB by the Single Supervisory Mechanism (SSM) Regulation. The paper describes the ECB’s macroprudential governance framework in the new institutional set-up. After reviewing the concept and origins of systemic risk, it reflects on the emergence of macroprudential policy in the aftermath of the financial crisis, its objectives and instruments, as well as specific aspects of this policy area in a monetary union such as the euro area. The ECB’s responsibilities required new tools to be developed to measure systemic risk at financial institution, country and system-wide level. The paper discusses selected analytical tools supporting financial stability surveillance and assessment work, as well as macroprudential policy analysis at the ECB. The tools are grouped into three broad areas: (i) methods to gauge the state of financial instability or prospects of near-term systemic stress, (ii) measures to capture the build-up of systemic risk focused on country-level financial cycle measurement and early warning methods, and (iii) the ECB stress testing framework for macroprudential purposes.
- JEL Code
- E37 : Macroeconomics and Monetary Economics→Prices, Business Fluctuations, and Cycles→Forecasting and Simulation: Models and Applications
F36 : International Economics→International Finance→Financial Aspects of Economic Integration
G20 : Financial Economics→Financial Institutions and Services→General
G28 : Financial Economics→Financial Institutions and Services→Government Policy and Regulation
K23 : Law and Economics→Regulation and Business Law→Regulated Industries and Administrative Law
- 31 January 2019
- WORKING PAPER SERIES - No. 2233Details
- Abstract
- We develop a dynamic structural model of bank behaviour that provides a microeconomic foundation for bank capital and liquidity structures and analyses the effects of changes in regulatory capital and liquidity requirements as well as their interaction. Our findings suggest that adjustments in both types of requirements can have an impact on loan supply, with considerable heterogeneity across banks and over time. The model illustrates that banks' reactions depend on initial balance sheet conditions and reconciles evidence on short-term reductions in loan supply with findings suggesting that better capitalized banks are better able to lend in the medium- to long-term.
- JEL Code
- G21 : Financial Economics→Financial Institutions and Services→Banks, Depository Institutions, Micro Finance Institutions, Mortgages
G28 : Financial Economics→Financial Institutions and Services→Government Policy and Regulation
G32 : Financial Economics→Corporate Finance and Governance→Financing Policy, Financial Risk and Risk Management, Capital and Ownership Structure, Value of Firms, Goodwill - Network
- Research Task Force (RTF)
- 9 June 2016
- WORKING PAPER SERIES - No. 1920Details
- Abstract
- We analyse the SRISK measure with respect to its usage as a benchmark for the ECB/EBA 2014 stress test. By regressing the ECB/EBA stress test impact and the SRISK stress impact on a set of factors that are commonly associated with bank credit losses and bank vulnerability, we find that the ECB/EBA stress impact is consistent with findings in the literature on credit losses. In contrast, the SRISK measure bears much less relation to these factors; it is largely driven by the banks
- JEL Code
- C21 : Mathematical and Quantitative Methods→Single Equation Models, Single Variables→Cross-Sectional Models, Spatial Models, Treatment Effect Models, Quantile Regressions
G01 : Financial Economics→General→Financial Crises
G21 : Financial Economics→Financial Institutions and Services→Banks, Depository Institutions, Micro Finance Institutions, Mortgages
- 21 October 2015
- WORKING PAPER SERIES - No. 1860Details
- Abstract
- Forbearance is a practice of granting concessions to troubled borrowers, typically in the form of prolongation of maturity or refinancing of the loan. While economically useful in some circumstances, it can be used by banks in order to reduce the need for provisions and conceal potential losses. If forbearance is widespread in the banking system, it may result in systemic risk, increasing uncertainty about the quality of banks
- JEL Code
- G21 : Financial Economics→Financial Institutions and Services→Banks, Depository Institutions, Micro Finance Institutions, Mortgages
G28 : Financial Economics→Financial Institutions and Services→Government Policy and Regulation
- 28 June 2007
- OCCASIONAL PAPER SERIES - No. 63Details
- Abstract
- This report analyses the financial position of non-financial enterprises in the euro area, in particular the amount of external financing, the choice between debt and equity and the composition and maturity structure of debt. It aims at identifying the main features of the euro area, as well as the peculiarities that depend on the country of origin and the sector of activity. Attention is also devoted to assessing whether a country's institutional features are correlated with different financial structures by firms. In light of the particular interest in the access of small and medium-sized enterprises (SMEs) to financing, the report also analyses how financing patterns differ across large, medium-sized and small enterprises. Finally, the report discusses the recent trends observed in the corporate finance landscape of the euro area over the past few years. Although it is still too early to pass final judgement, vast structural changes are underway that could have already influenced in a positive way in the availability of external funds for firms. All in all, a comprehensive understanding of corporate finance in the euro area is important from a monetary policy perspective, given its impact on the transmission mechanism and for productivity and economic growth. Moreover, such an understanding is also relevant from a financial stability perspective. A first assessment is now possible eight years into the third stage of Economic and Monetary Union (EMU), given that sufficient data have been accumulated during this period. This assessment is particularly important as the introduction of the single currency has had significant structural effects on the working of financial markets, increasing their size and liquidity, and fostering cross-border competition. The data available for this report generally cover the period 1995-2005, and the cut-off date for the statistics included is 10 March 2007.
- JEL Code
- D92 : Microeconomics→Intertemporal Choice→Intertemporal Firm Choice, Investment, Capacity, and Financing
G30 : Financial Economics→Corporate Finance and Governance→General
G10 : Financial Economics→General Financial Markets→General
O16 : Economic Development, Technological Change, and Growth→Economic Development→Financial Markets, Saving and Capital Investment, Corporate Finance and Governance
K40 : Law and Economics→Legal Procedure, the Legal System, and Illegal Behavior→General