Non-performing loans plan: EU must protect taxpayers and vulnerable borrowers
Finance Watch publishes a new Policy Brief on the European Commission's plan to address banks’ non-performing loans
Brussels, 8 June 2018 – Finance Watch, the independent organisation that defends the public interest in financial reform, publishes today, as the feedback period ends, a detailed analysis of the European Commission’s package to tackle Non-Performing Loans (NPL).
- Download Finance Watch’s Policy Brief “’Would you mind holding this for me?’ The (increasingly desperate) search for an answer to Europe’s NPL problem”
In principle, Finance Watch supports the Commission’s endeavour to set out uniform, harmonised rules for the sale and management of NPL portfolios. Banks must provision for distressed loans in a prudent and timely way and non-bank purchasers and servicers of such loans must be regulated just as strictly as any other professional participant in the financial markets. However, we are of the view that it does not tackle the causes, only the effects.
In fact, NPLs are rarely ever an unfortunate, accidental by-product of an economic downturn. NPLs tend to occur in a concentrated manner, i.e. some banks are more likely to accumulate bad loans than others, due to poor risk management systems or risky business models.
By promoting the selling of NPLs to taxpayer-funded vehicles such as publicly funded bad banks, or by passing on their risk to capital market investors in a non-transparent and unsafe way through structured debt transactions (securitisation), there is a concern that Commission’s NPL initiative will end up perpetuating the vicious circle that develops when poorly-run banks are kept in business with taxpayers’ money.
Christian Stiefmueller, Senior Research and Advocacy Advisor at Finance Watch, commented:
“The financial crisis of 2008 should serve as a potent reminder of what happens when unsuspecting investors were sold complex, non-transparent securities whose primary raison d’être was to conceal the poor quality of the underlying assets they contain.
“Replace the phrase ‘non performing’ with ‘sub prime’ and we are back to the fatal and discredited game of ‘pass the parcel’ that was at the root of the last financial markets cataclysm.
“Securitising NPLs is not the panacea it is made out to be by banking sector interest groups and some policymakers. It is, more likely, merely a way of storing up trouble for later.”
Oliver Jérusalmy, Senior Research and Advocacy Officer at Finance Watch, said:
“Each NPL is a debt owed by a European citizen or business. Regardless of why these loans turned sour, debtors’ rights have to be preserved and adequately protected.
“With the sale of NPL portfolios to financial investors the need to protect borrowers, in particular consumers and small businesses, becomes even more urgent because the original customer relationship between debtor and creditor is cut, with the loan becoming purely a financial asset whose recovery value for the new creditor has to be maximised.”
Finance Watch’s key recommendations:
- The first priority for legislators and supervisory authorities should be to ensure that banks’ loan origination, credit risk management and NPL management processes are adequately reported, regulated and properly supervised.
- In the interest of providing better transparency and as an ‘early warning mechanism’ to flag any build-up of NPLs in specific segments of the economy we would also propose the inclusion of more granular reporting and disclosure on NPLs by banks, e.g. by geography and segment.
- Banks that lack the financial resources to cope with their NPLs without having recourse to public funds should be restructured or resolved under the Bank Recovery and Resolution Directive (BRRD). Existing loopholes, such as the “precautionary recapitalisation” should be closed and the European Commission’s State Aid rules (the “2013 Banking Communication”) properly aligned with the BRRD as a matter of urgency.
- A well-functioning, transparent and professional secondary market for NPLs could be an important part of the solution provided it does not undermine credit standards or lead to aggressive and inappropriate enforcement actions. Harmonised rules for NPL investors and credit servicers should be conducive to this effort.
- High levels of consumer protection in debt collection practices must be included in the proposal. Furthermore, it is critical for the EU to ensure that all Member States introduce debt restructuring procedures (‘second chance’) and insolvency law frameworks that are capable of delivering fair and predictable outcomes within a reasonable period of time, at reasonable cost, while protecting vulnerable debtors, in particular households and small businesses.
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As Europe emerges, slowly, from the wreckage of a series of financial crisis and economic crises that have rocked the continent, in particular its Southern edge, since 2012, its financial system continues to grapple with the aftermath.
After spending years in denial policymakers woke up, towards the end of 2016, to the realisation that European Union banks had piled up a staggering € 1 trillion of NPLs.
The slow rate of progress since then has prompted the European Commission to announce, on 14 March 2018 (see also EC press release), a package of measures intended to harmonise the approach towards NPLs across the EU and to speed up their resolution.
The package includes:
- A proposal for a Regulation to amend the Capital Requirements Regulation (CRR) so that banks have sufficient loan loss coverage when newly originated loans become non-performing;
- A proposal for a Directive on credit servicers, credit purchasers and the recovery of collateral that sets out general rules for participants in the secondary market for NPLs and introduces harmonised procedures for the enforcement of collateral used to secure business loans; and
- A Blueprint to help member states create Asset Management Companies (AMCs), or ‘bad banks’, to deal with the NPLs from banks in resolution.
During the eight weeks after its publication, the European Commission has asked for feedback on the proposed Directive. The feedback period closes on 8 June 2018. The European Commission will present a summary of the feedback received to the Parliament and Council which are currently discussing the proposal.
 European households account for ca. EUR 6 trn of residential mortgage lending and ca. EUR 1 trn of consumer loans; of which a total of ca. EUR 350 bn are distressed loans. Over-indebtedness of private households is a genuine concern: it is socially and economically divisive and carries huge economic and social costs.