Regulation and low interest rates pose a challenge for banks Guest contribution published in the Börsen-Zeitung
What's the difference between smoking and government bailouts? It's that in some rare cases, the statement "
this is my last cigarette" holds true.
That aphorism coined by risk researcher and bestselling author Nassim Nicholas Taleb says it all. It is clear what he is insinuating. Many smokers want to kick the habit because of the damage it is doing to their health. But they fail because, for them, the short-term gratification of their nicotine addiction outweighs the long-term benefits of stopping smoking. Just like smokers, governments would dearly love to stop rescuing failed banks with taxpayers' money. But so far, the prospect of a bank insolvency endangering financial stability was all it took for governments to throw their good intentions overboard.
The comprehensive regulatory reforms implemented since the onset of the global financial crisis might not resolve this "time inconsistency problem", but they have mitigated it significantly. Banks are now forced to meet higher quantitative and qualitative capital requirements, which makes them better able to absorb losses. And if a bank does fail, liable capital and a clear liability cascade are in place to ensure that the taxpayer only has to step in as a last resort, if at all.
The measures adopted have therefore been appropriate. However, since the tighter standards are dragging on small and medium-sized institutions more than most, it would be advisable to consider ways in which this burden can be eased. Another important point is that there are no plans, until further notice, to tighten the capital adequacy requirements any further once the pending implementation of Basel III has been wrapped up. A "Basel IV" is not on the agenda - even if the urgently needed abolition of the preferential treatment of sovereign borrowers is still on regulators' to-do list.
Though they may be necessary from a macroeconomic angle, the changed regulatory environment and new supervisory setting are bearing down on the banking sector, especially since there are still further challenges which institutions need to get to grips with. These notably include the digitalisation of the financial sector, but the protracted low-interest-rate environment is also squeezing the banking sector's profitability.
Profitable banks contribute to financial stability because they can generally retain more profits and thus better absorb future losses. Profitable banks are a boon from a monetary policy perspective, too, because they are a better conduit for transmitting monetary policy stimuli. However, this does not mean that monetary policy should be designed to help banks generate decent profits. The mandate of monetary policy is solely to maintain price stability.
An expansionary monetary policy stance is undoubtedly justified for now, given that the inflation rate is hovering around zero and is expected to climb only gradually towards the level of "below, but close to, 2 %" that the Government Council of the ECB aims to maintain over the medium term. Given the mounting side-effects, it is clear that this situation should not remain in place for longer than is really needed to restore price stability. Banks in the euro area will need to come to terms with the low-interest-rate environment by cutting their costs, for instance, or by taking a critical look at their business models.
The historically low longer-term interest rates may be partly attributable to monetary policy, but other factors are at play as well. They are also a reflection of the subdued growth trend in the euro area. Gearing policymaking more towards spurring growth would pave the way for higher interest rates in future. And it is safe to say that soothing the uncertainty surrounding a potential "Brexit", which is hanging over Europe like the sword of Damocles, the absurd "helicopter money" debate, or the incessant calls to step up mutual liability in the euro area would make investment a more attractive proposition.
Germany, more than most, tends to save more than it invests, and this is also reflected in its unusually high current account surplus. However, given the country's demographic challenges it would be unwise to try to cut this surplus by funding additional government spending on credit; seen from a longer-term perspective, Germany is more likely to need budget surpluses than deficits. And anyway, the other euro-area countries would barely benefit from a government investment programme in Germany because of the limited knock-on effects of government expenditure. And at the end of the day, that kind of "cyclical cigarette" would only make it more difficult still for the economy to go through with weaning itself off nicotine by embracing structural reforms that tackle the root causes of the frail growth plaguing the euro area.