The European Central Bank’s Single Supervisory Mechanism (SSM) Risk Map summarizes the key risk drivers affecting the euro area banking system over a two to three-year horizon. The SSM 2020 Risk Map, which is displayed below, plots the different risk drivers on the impact/probability axes. Four key risk drivers, which may trigger or reinforce each other, for 2020 are:
The following risk drivers have a similar impact/probability when compared to their previous (i.e. 2018) position on of the ECB’s Risk Map: repricing of financial markets, misconduct and climate change related risks. Overall, we notice the ECB having a more negative outlook on the global economic cycle fuelled by the risks mentioned above. Euro banks however, are adequately capitalized, with a 14.2% CET1 ratio.
Source: European Central Bank (2019). ECB Banking Supervision: Risk Assessment for 2020.
Given the changes on their Risk Map, which are described above, the ECB has set new supervisory priorities:
"In the next decade during which financial ecosystems will further develop, risk management departments should stay on top of technological innovations, rapidly evolving customer expectations and other market evolutions."Wouter Spitaels - Project Consultant Financial Institutions
The above-mentioned risk drivers and supervisors’ responses will (indirectly) impact our lives in various ways. Below, we – TriFinance Financial Institutions – summarize our views on how customers will be affected.
Given the importance of business model stability, banks will look to offset lower interest income and costs related to reviving end-of-life IT systems, new IT investments, extensive customer journey analyses, digitalization, risk management improvements, etc. As a result, euro banks will have to re-engineer processes and implement leaner management structures as the costs of vital digitization projects still exceed benefits.
For reasons mentioned above, some European financial institutions are currently considering negative deposit interest rates (e.g. when the deposit exceeds certain thresholds) or a further increase of various fees. However, euro banks should not underestimate depositor reactions once they introduce negative interest rates. Currently, it’s unknown at which point depositors will demand cash instead of deposits. It goes without saying that reaching this point might endanger the stability of the financial system. Furthermore, EBA (2019) supervisory data shows that banks, which are more reliant on deposit funding, might put this funding source at risk once they start introducing negative deposit interest rates.
Because of the global drops in interest rates, the search for yield appears to be unstoppable. Apart from potential spikes in volatility and persistent trade protectionism, Belgian investors should consider potential bubbles in bond market, stock market and household debt. Additionally, the European Systemic Risk Board (ERSB) warns about Belgian house prices currently being overvalued by 15%. The ESRB recommends the Belgian government to activate legally binding ‘borrower-based measures’ (e.g. limits to Loan-To-Value (LTV) or Debt-To-Income (DTI) ratio), which will directly impact households.
Given recent breaches of Anti-Money Laundering (AML) and Combatting the Financing of Terrorism (CFT) rules, euro area banks will have to step up their game. Hence, financial institutions will have to improve controls, governance and continue educating their customers, which proved to be a challenging task.
Apart from economic, political, cybercrime, credit and debt sustainability challenges we, TriFinance Financial Institutions, consider business model sustainability as the main risk euro area banks will be facing during the next decade. Therefore, banks will have to intensify the integration of innovation, strategy and (agile) risk management within their organization. Consequently, in the next decade during which financial ecosystems will further develop, risk management departments should stay on top of technological innovations (e.g. PSD2, etc.), rapidly evolving customer expectations and other market evolutions (e.g. cashless society).
After finishing his Master in Banking and Finance at UGent, Wouter started his professional career at TriFinance. As a member of TriFinance’s Young Hub Program, Wouter worked on several risk management projects at four major clients within the Belgian financial sector. Currently, Wouter is working as Commercial Risk Expert at one of Belgium’s largest retail banks.
The practice ‘Risk Management and Compliance’ practice focuses on supporting banks and insurance undertakings in anticipating and addressing the tighter regulatory standards relating to risk management, compliance and internal control by monitoring the different European and local regulatory and supervisory bodies.
For more information on the Risk & Compliance Practice, please check out the following page.
For more info, you can always contact Wouter Spitaels.
(firstname.lastname@example.org or +32 2 712 08 90).