Improving Profit Margins and Rebuilding Reputations
Spain’s economic recovery depends on the smooth functioning of the banking system. But the sector is facing several challenges, including the need to improve profit margins, restore consumer confidence and adapt to new regulatory frameworks.
While progress has been made in the last year, the banking system must pursue deeper reforms to guarantee competitiveness. It also has to avoid falling into complacency after receiving strong marks on the latest European stress test. These are some of the topics covered in the 10th Banking Industry Meeting, organized by IESE’s Center for International Finance (CIF) in collaboration with EY.
Participants analyzed the current European and Spanish financial context, which is characterized by weak economic growth, very low interest rates and high capital requirements. Governor of the Banco de España, Luis María Linde, reminded the audience that these elements could threaten the recover not only of the banking sector, but also of the entire Spanish economy. "The risks have not subsided completely and such low profitability raises doubts about the future of the banking business," he pointed out.
The economy is progressing more slowly than predicted several months ago. According to Linde, a lower growth rate means higher chances of a setback. However, he acknowledged that the outlook of the sector has "improved significantly."
The governor listed other short-term risks faced by the banking sector including regulatory and supervisory changes, doubts about the profitability of the system in Europe and the macroeconomic weakness of the Eurozone.
Linde argued that correcting the high debt level should remain a priority. Welcoming the results of the stress test, which demonstrate the "relative health of the Spanish banking system", the governor advocated developing a common practice for calculating risk-weighted assets for credit portfolios. He also emphasized the need for further structural reforms.
Strengths and Weaknesses of the Eurozone
Ángel Cano, CEO of BBVA, stressed this point, encouraging the government to follow the path of reform so that the Spanish economy "won’t be at the mercy of the Eurozone."
"This coming 2015 will be a good year for us. But we have to keep working, because whatever happens in Europe will affect us. If the rest of Europe doesn’t achieve, we’ll grow less," he said.
Another common theme was the request for new simpler regulatory measures within the framework of the Banking Union. José María Roldán, Chairman and CEO of the Spanish Baking Association, maintained that "more supervision, not more regulation" was needed in terms of European financial reform. When the banking union is "perfected," he said, the Eurozone will be "more and more relevant" because there will be a greater integration of financial markets."
In terms of possible cross-border mergers, Roldán believes that these mergers should first take place internally within countries. Once the single supervision is fully operational, the next stage can begin, he said.
José Manuel González-Páramo, IESE professor and advisor to BBVA, underscored that banks will have to "foot the bill" for setting up the structure of the banking union in terms of rates and operating costs of the Single Supervisory Mechanism (SSM), the Single Resolution Mechanism, and the various regulatory agencies.
Within the new supervisory framework of the Central European Bank, the SSM will monitor not only solvency, but also business strategies, profitability projections and good governance. "The Spanish financial system is not a bad apple. On the contrary, it has proven to have a durable business model," Páramo said.
A High-Impact Regulation
In terms of the regulatory situation, Banco Santander Executive Board Member, Juan Rodríguez Inciarte, lamented what he described as the "straitjacket" of newly approved measures limiting growth in the European banking system. Among these regulations, he specifically cited the increased requirements for quality and capital, new liquidity standards, and special supervision for the largest financial institutions – measures having a "huge impact on the financial system."
Rodríguez Inciarte did, however, express his support for banking union. Union will provide banks with increased solvency and liquidity, he said, evening out financing costs, and helping break the vicious cycle between sovereign risk and bank risk.
Banco Popular CEO, Francisco Gómez, warned that this "relentless" regulatory activity generates a cost that "does very little to improve business and the economy." As for the recovery of the Spanish economy, he predicted that deleveraging will continue in the coming months; prolonging the credit crunch.
Ready for Change
According to banking forecasts, the sector’s profitability will improve in comparison to the "steep drops" of the crisis years, although it would be "overly ambitious" to aspire to the double-digit margins of the past. "The finance business will be different in the future and institutions need to be prepared," he warned.
At the same time, Banco Sabadell CEO, Jaime Guardiola, hopes that the recovery of bank profitability will be "smart enough" to keep banks from fighting each other to capture the demand for credit.
Guardiola cautioned that improving the profitability of Spanish and European banks will be "very difficult" in the coming years, and he pointed to countries like Mexico, Peru and Colombia to support growth.
Along with internationalization and prospects for profitability, the meeting also identified key trends that will mark the coming years, and shared a number of recommendations for the banking sector.
Shadow banking: the appearance of service providers and new payment channels associated with companies outside the conventional banking sector. In countries like the US, the UK and China, these kinds of shadow institutions have provided more credit than the traditional banking sector. IESE Professor Jorge Soley pointed out that in 2013, the business volume of shadow banking reached 75 billion dollars (19 billion euros in the Eurozone).
Digitalization: banks cannot escape the digital revolution. They should develop digital platforms that strengthen their online offerings. In particular, the sector should take advantage of big data, social networks and mobile platforms.
New habits of the multi-channel customer: customers have changed both their consumption habits and their demands. Banks should offer easy and simple products, adapted to the real needs of clients, and developers should think outside the box. Clients need to be able to use all channels of contact with the bank (both physical and virtual). The multi-channel model will continue to evolve with new types of offices emerging; some of them specialized. Banks are offering special offers and services through mobile devices (smart PCs, phones, tablets). A new generation of smarter ATMs is emerging, and virtual offices and digital consultations are on the rise.