The Italian banking sector is again in turmoil. The board of Carige, a medium-sized and mostly local commercial bank headquartered in Genoa, has recently been removed by the European Central Bank (ECB). Management powers have been assigned to the previous chairman and CEO of the bank and to a third legal expert appointed by the Bank of Italy. Their task is to either sell the bank or walk a narrow path between nationalisation and resolution. Another medium-sized bank, Popolare di Bari, is also in trouble, due to a high percentage of non-performing loans (NPLs) and the need to raise capital.
These are setbacks to the progress achieved between 2017 and mid-2018, when one of Italy’s largest lenders, and its oldest, Monte dei Paschi di Siena, was recapitalised with public money, and two medium-sized banks in the wealthy Veneto region were taken over by Intesa Sanpaolo, the country’s largest banking group, after being ‘cleaned’ of bad debt.
A long struggle
Lower domestic growth and a riskier international scenario (as forecast by the International Monetary Fund) will only make matters worse. Growth in Italy has been below the eurozone average in the past 25 years, due to low productivity in services, inefficient public administration and a specialised manufacturing sector that has been badly hit by stronger global competition. After the financial crisis, Italy lost about 10% of gross domestic product (GDP) in real terms and experienced both a rapid increase in its already high debt-to-GDP ratio (currently about 130%) and troubles in its banking sector.
Similar problems have emerged in other countries in the aftermath of the financial crisis/sovereign debt crisis, and the total cost of public interventions in the banking recapitalisation process has been lower in Italy than in several other countries. But Italian banks are suffering because of an excess of low-quality credit on their balance sheets and the negative effect of low interest rates on profitability.
In 2016, about half of the NPLs in the eurozone were located in Italy. This can partly be explained by bad management and a poor selection of takers, or even to some questionable linkages, at local level, between banks, businesses and politics. However, such an embarrassing NPL record is mainly due to the much stronger recession that hit Italy, first in 2008 and 2009, and then again after the sovereign debt crisis, compared with its European peers.
Furthermore, the negative effect of the low interest rate environment on banking profitability reflects the traditional business model adopted by most Italian banks, focused more on credit than on other financial activities (such as trading and derivatives). But the so-called level two and level three risks, which are associated with financial market risks, are considerably lower for Italian banks than for their German or French counterparts. In the absence of a change in the regulatory and supervisory approach undertaken by the relevant European authorities (the European Banking Authority and the ECB) towards a more balanced weighting of credit versus market risk, Italian (and Spanish, for that matter) banks will continue to look less capitalised than others in Europe. Whether this reflects genuinely higher risk, however, is another question.
A European issue
There are other undeniable reasons for concern. A structural feature that must be overcome to strengthen the banking sector in Italy, but also in other European countries including Germany, is low concentration. In a global competitive and low interest rate environment, economies of scale and scope are necessary. An effective European banking union requires stronger and truly international institutions active in several EU countries, as well as a more efficient balance between large, medium-sized and small local banks within individual countries.
In Italy, some recent legislative interventions have paved the ground for such developments. In late 2015, a new law required large co-operative banks (popolari) to abandon the logic of one vote per shareholder and adopt the standard governance rules in place for ordinary banks and corporations. In 2016, another law required small local co-operative banks to either merge into a co-operative group or to put in place an institutional protection scheme. Such regulatory interventions were aimed at increasing stability and efficiency as well as creating a more competitive market. It remains to be seen if the domestic banking sector will evolve accordingly. For how specific they might be, troubles at Italian banks invite wider considerations over the state of the banking sector across Europe.
Giorgio Di Giorgio is professor of monetary theory and policy and director of the Arcelli Centre for Monetary and Financial Studies at Luiss University in Rome, where he also serves as deputy rector for organisation and faculty.
