In Europe, the economic-financial scenario is today characterized by four main elements: difficulty in economic growth, accommodating monetary policy, sovereign debt risk and new supervisory architectures.
Since 2006, the Rosselli Foundation's Report on the Financial System has identified the main distinctive feature of the Italian financial industry in the territorial commercial bank (BCT) model. Meanwhile, the Great Crisis that began in 2008 continues to characterize the European and Italian reference framework, maintaining high uncertainty about the prospects for a stable and robust exit from the stagnation.
In such a framework, what then are the relevant issues for the BCT model? The fundamental parameters for the effectiveness of a brokerage model are essentially two: stability and profitability. It is an unavoidable combination, as the requirements of stability and profitability are two sides of the same coin: one cannot exist in the long run without the other.
1. THE TERRITORIAL COMMERCIAL BANK
In order to highlight the importance of the combination of stability and profitability, it is necessary, as always, to start from the characteristics of the Bct model, which have been progressively better clarified and deepened in their evolution through the successive editions of the Report, including the latest one.
The distinctive features of the Bct model are essentially three:
1. in the composition of liabilities, the dominant role is represented by the collection of retail deposits;
2. in the composition of assets, the main component is made up of trade credit to businesses;
3. the relationship between the collection of deposits and the disbursement of credit tends to be stable over time and geographically homogeneous.
The first two characteristics differentiate the commercial bank from other banking and financial intermediation models; the third characteristic distinguishes, among the various types of commercial banks, those in which the internal reallocation of flows is very accentuated - think of the model of the international bank or that of the divisional bank - from those in which it is less so - think of the multi-bank regional or multi-national.
These characteristics of the Bct also translate into two distinctive features of the brokerage business. On the one hand, the ability to combine the use of both objective (hard information) and subjective (soft information) information in the disbursement of credit is significant, specializing in so-called relationship credit to be standardized (standardized relationship banking). On the other hand, stable debt capacity is essential, as it is based on retail funding from households and businesses. Furthermore, the two characteristics are conjugated, as the collection of savings is reinvested in disbursements of commercial credit, thus contributing to give temporal and geographical stability to the savings-credit driving force.
2. A STABILITY TO PROTECT
Considering the performances in terms of stability and profitability, the Italian banking system in the last period has shown good stability but very low profitability. The strabismus between stability and profitability is the ultimate result that the Bct model ends up producing when it operates in a country that has been suffering for at least twenty years from a persistent structural problem of low competitiveness, and now also from a tightening on the sovereign debt front. .
The path can be summarized as follows. The typical Italian bank was born as what the Anglo-Saxons would call a community bank: it manages savings and finances investments on a territorial basis. The Italian community bank adopts different organizational models and therefore multiplies its organizational forms: cooperative banks, cooperative banks, joint-stock companies. Community banks end up going down different dimensional paths: local, national and even international banks. There remain some basic characteristics - identified above - which help to understand how much each bank is still consistent with the original model: weight of trade credit on total assets, weight of retail funding on total funding, stability of the geographical location of the savings collected .
The community bank model has in its chromosomes – if management is sound and prudent – a physiologically low risk propensity. Consequently, when the level of competitiveness of the markets increases, the model tends to produce intermediaries - including human capital - characterized precisely by good stability and limited profitability. In the past two decades, the interweaving of market globalization and financial exuberance has also affected the Italian banking industry, temporarily but significantly changing its profitability profile upwards, without jeopardizing its stability.
The trade-off between stability and profitability disappeared. Then came the Crisis; the two faces of the Italian community banks have re-emerged in full evidence. Let's consider the good side of the coin: the robustness of Italian banks. Even the most recent Final Considerations of the Bank of Italy have provided clear empirical evidence. Since the beginning of the crisis, so-called better quality capital has risen from 7,1% to 10,7% of assets; for the top five major banks, the improvement was recorded with a passage from 5,7% to 10,9%.
Furthermore, the Bank of Italy has rightly underlined that the strengthening of Italian banks is not "doped" by public aid: while in Italy - including Monte dei Paschi di Siena (Mps) - public aid has so far stopped at 0,3% of GDP, the analogous crutch amounts to 1,8% in Germany, 4,3% in Belgium, 5,1% in the Netherlands, 5,5% in Spain, 40% in Ireland. Prudent financial leverage also works in favor of Italian banks, with a level of 14 against a European average of 20.
Previous editions of the Report highlighted the ability of the BCT model to be reliable, in terms of systemic stability. We recall that a banking system is reliable when it is able to absorb shocks, in the sense of guaranteeing a regular and healthy trend in loans and savings. We know that reliability can be tested at two levels.
At a first level, a banking system is all the more reliable the less there are cases of corporate instability: the unexpected bankruptcy of several banks destroys value as it affects savers and businesses that relied on the services of those banks. The bankruptcy of individual intermediaries can then turn into a crisis of confidence, which in turn can be the prelude to an economic crisis as well. In the last six years we have witnessed significant bank failures in various countries, but not in Italy: the only case of major corporate instability was, in fact, that of Monte dei Paschi di Siena.
On a second level, a banking system is all the more reliable the greater its aggregate capacity to offer credit, avoiding a systematic restriction that affects businesses and households, in situations of uncertainty or a fall in real activity and thus reducing the risks of rationing phenomena. The continuing uncertainty of the economic situation - international and national - has undermined systemic reliability, as the risks of rationing have increased overall, with a reduction in credit to businesses of 5% on an annual basis, while until May 2011, immediately before the sovereign debt crisis, loans in Italy were still growing at annual rates above 6%.
It is now necessary to take note of the ineffectiveness that the abundant injections of money at minimum interest rates implemented by the European Central Bank (ECB) are having in terms of credit for the part of the productive fabric most relevant in terms of employment: small and medium-sized enterprises (SME). The reason must be found in the breakdown of the gear that starts from money, passes from credit and deposits and ends up bearing fruit in terms of investments, economic growth and employment.
In normal times, the transmission mechanism would regularly send monetary policy impulses all the way to SME investments, using the banking system as a transmission box. The central bank can increase liquidity by purchasing government bonds on the market or by providing credit to banks, which offer securities as collateral, typically government bonds. The Bct use their liquid assets to open credit lines in favor of SMEs, with guarantees of coverage. In aggregate, opening lines of credit, which are drawn down, create deposits. Therefore, in a well-functioning monetary mechanism, the growth of money, credit and deposits all move in the same direction, with positive effects also on real investments.
Unfortunately, this cog got jammed during the crisis, particularly in the peripheral countries of the European Union, including Italy. The ECB has implemented a very expansive monetary policy. Banks had access to liquidity at rates below 1%. But there the mechanism gets stuck: the BCTs do not have sufficient incentives to create significant doses of new commercial credit, due to the combination of three factors.
On the one hand, the demand for credit expressed by SMEs is perceived as excessively risky or unproductive, compared to the possible expected returns in terms of interest rates. Here we see a subtle distorting and unwanted effect of a monetary policy implemented with interest rates kept very low for prolonged periods of time: the expected remuneration does not cover the perceived risk, therefore credit is renounced. Furthermore, the model of division of labor among Italian companies is particularly disintegrated, with highly articulated and complex value chains.
The highly fragmented value chains, in the presence of an unfavorable economic situation, can be catalysts for systemic risk, which is transmitted from companies to banks and not just to the smallest ones. Hence an increase in banks' aversion to risk and the consequent use of a large part of the ECB funds in carry trading on government bonds or in the repurchase of its own bonds at a discount, obtaining benefits on revenues, which have in any case failed to translate into profits, precisely due to the explosion of adjustments to non-performing loans, which have reached 240 billion euro (14% of total loans), with a flow of new annual non-performing loans that now exceeds 4% of total loans.
On the other hand, the general and enduring context of financial uncertainty, linked to the growth of macroeconomic risks, has given a further boost to the risk aversion of banks with respect to the eventuality of remaining illiquid, for which monetary availability assumes a insurance function. But insurance costs money, given that bank funding has become more onerous, both due to competition between banks and direct and indirect competition exercised by government bonds.
Overall, the deterioration in the level and distribution of macroeconomic risks may have effects on the dynamics and quality of bank credit, while the effect of the dynamics of the Btp-Bund spread has proved to be reduced, also thanks to the intervention of the ECB.
Finally, on a third hand, the BCTs - also given the characteristics of the regulation - need to increase the collection of risk capital every time they increase credit, especially if it is directed towards relatively risky investments, such as those with favor of SMEs. In the current economic phase, however, raising risk capital is particularly difficult and not even capital increases solve the difficulty of obtaining financing, at least until the banks become profitable again without the help of the ECB: sufficient profitability it is therefore a necessary condition both for financial stability and for the recovery of credit.
In the current situation of low – or non-existent – profitability and difficulty in obtaining finance, the incentive to take out credit is further reduced and furthermore the bad economic trend also worsens the quality of the credit already disbursed, with a further need for risk capital and a disincentive to make new commercial loans.
It should also be remembered that the anemic state of credit is accentuated by the aversion of existing or potential foreign bank operators to invest in high-risk markets, such as the Italian ones, due to the exacerbation of sovereign risk and more generally of a risk Country characterized by well-known problems such as low productivity, uncertain political-institutional stability, high inefficiency of public, regulatory and judicial infrastructures.
But, if credit does not grow in the aggregate, economic activity and deposits do not increase either. Therefore, an exceptionally expansive trend in liquidity does not correspond to a corresponding expansion either in credit or in funding. Consequently, exceptionally low rates on liquidity do not correspond to low rates on credit: credit rates in peripheral countries continue to diverge from those requested in central countries, with the addition of the previously discussed increase in risk rationing phenomena.
The rationing risk can certainly be tempered by the ability of the BCT model to implement the standardized relationship banking defined above. This is a result, already recorded in the last two years by the Report, which is also confirmed in this edition. The resilience of the relationship between bank and business grows with the quality of the relationship banking and with the proximity of the bank to the local area, which we have seen to be distinctive features of the BCT model. Overall, the Report confirms the good side of the coin, represented by its reliability.
3. THE PROFITABILITY CHALLENGE
Then there is the downside of the Bct model: low profitability. The community bank can accompany economic growth, but it is certainly not an accelerator of growth itself. When the commercial bank intertwines its activity with an economic system in structural decline for at least twenty years, a deep crisis like the current one can only accentuate the uncertainties in terms of profitability. Many recent analyzes have highlighted the tendential fall in the profitability of our banks in the period 2007-2012, with the most recent figure close to zero. In 2012, the consolidated profit of Italian banking groups fell from 5 billion to just one billion euro, a value which transforms into an aggregate loss of 1,8 billion if we add the adjustments of the extraordinary components of the financial statements, such as write-downs of past acquisitions.
In terms of revenues, neither the prices (rates) nor the quantities of services (levels of activity) offer the BCT prospects of significant positive contributions in the near future, so revenues from services not only linked to the interest margin (management savings, insurance and pension products, private banking, capital markets, etc.). But in reality several banks, in order to meet the new risk capital requirements, have recently been induced to sell the activities related to these services and these revenues, thus remaining even more concentrated on the pure BCT business.
Consequently, attention must be concentrated on cutting operating costs, for which there is still ample room for improvement: not only reduction of personnel, rationalization of suppliers, reduction of consumption, curbing discretionary expenses, but also digitization of processes and optimization of rising costs of control, compliance and auditing. Some results are already visible, with a cost reduction of more than two percentage points in the last year, which however does not compensate for the growth in the cost of risk, which rose during the crisis to absorb 30% of the margins.
The tendential fall in the ability of Italian banks to produce income - at least compared to other European systems - is confirmed. This is an unsustainable trend. The Bct model is therefore today characterized by a significant unknown factor, which is called profitability. A growing economic system can be accompanied without problems by a territorial commercial bank model, which finances the investments that businesses and households have decided to make, on the basis of favorable economic conditions, actual or prospective.
But when – as the Italian situation is today – the economic system is going through a structural crisis of productivity, accompanied and aggravated by a cyclical crisis of internal demand, the profitability of the Bct model can only be ensured by the search for new economies of scale and scope , which concern revenues and costs as well as technological innovation. In other words, the desirability of the Bct model in terms of effectiveness with regard to stability can find severe constraints - even becoming insurmountable - in terms of profitability, efficiency and innovation of services.
We can state that, just as Italian companies always remain too dependent on BCT credit, so too the BCT remains too dependent on the economic performance of companies. The design of relations between banks and companies is therefore crucial, starting from the fundamental question: can a system with widespread entrepreneurship - that is dominated by SMEs - and characterized by low productivity and anemic internal demand avoid the decline? The Report has always maintained one principle: trade credit financed by deposits must only be used for productive investments by client companies that present a risk profile consistent with the sound and prudent management that the objective of stability – discussed above – requires.
Given this principle, in past editions the Report has indicated two virtuous paths, intertwined with each other: innovation and internationalization, which are added to the need for dimensional growth. And then: what is the contribution of the Bct model to the innovation and internationalization of the Italian productive fabric?
So far it has emerged that the trend towards innovation and internationalization of the companies served can be associated with the Bct model and that this relationship is progressively stronger the more the Bct model is adopted by the large banks, better suited to supporting companies with specialized structures and skills in Italy and abroad. In particular, in the last two years the Report pointed out that for the big banks a robust relationship could be found between the stability of the bank-company relationship and the ability to innovate and to export.
Three new empirical evidences on this issue are presented in the XVIII Report. On the one hand, it shows that there is a virtuous circle between the endowment of technological capital for the production and management of information (ICT) and the robustness of the relationship between large banks and companies: the more robust the endowment, the more the company is – or it is reported as – innovative and the credit conditions are better. On the other hand, it demonstrates the positive effect that the ability of SMEs to also develop technologies related to electronic commerce, as well as reciprocal cooperation agreements, can have – again on the relationship between large banks and companies and discounting a learning period .
Furthermore, the relationship between small banks and SMEs can also benefit from innovative finance, which includes the direct participation of banks in the capital of companies, especially if they operate in the central-northern regions. But the challenge of innovation, and in particular of the use of information technologies and the Internet, is true for the banks themselves even more than for the businesses they serve, since almost all of the activities carried out by a bank are immaterial and therefore potentially automatable.
Even Italians, and especially the new generations, are using the Internet extensively for banking transactions: the rate of increase in online users has been 18% per year in the last five years and now 40% of customers connect on a regular basis with its own bank via the Internet, although still far from the situation in Northern Europe, where this percentage already reaches 80%. And online is receiving a tremendous boost from new mobile devices, such as smartphones and tablets. This multi-channel approach offers the BCT opportunities for new services and therefore also for new sources of revenue, but makes the current network of 32 physical branches vastly oversized, which in four years has had to suffer a reduction in its transactions by as much as a third.
The Bct therefore has the need to adjust the structure of the distribution channels and the services offered with respect to the opportunities deriving from new technologies and at the same time to quickly realign the combination of production factors, in particular of personnel and physical structures, so that the result is not equal (or lower) revenues and higher costs. In the digital world, then, the logics are different: scale and network effects push competitive advantages, winners tend to dominate the market and those who know how and can successfully innovate get huge prizes.
Accelerating innovation driven by technology is therefore a priority, but not everyone can do it and large groups, as well as specialized companies, can enjoy an advantage over small and medium-sized BCTs. Therefore, the ability to raise the level of profitability without affecting that of stability passes through a qualitative leap in terms of efficiency and innovation. A leap in quality that certainly passes from the relationship between banks, businesses and markets, but also touches on the issue of the public policy structure.
