Risk of insolvencies Interview with in the Frankfurter Allgemeine Sonntagszeitung.
The interview was conducted by Thomas Klemm.
Translation: Deutsche Bundesbank
Ms Buch, it is said during every crisis that “this time is different”. What makes the coronavirus crisis different from 2008?
Unlike the financial crisis, this time all the world’s countries have been affected, albeit to varying degrees. And this is a health crisis, which is having a massive adverse impact on the real economy. The global financial crisis was triggered by the financial sector.
So the banks are not causing problems this time?
We are not suffering a crisis of confidence like in 2008. We saw relatively quickly in the spring that the financial sector was functional; there was no credit crunch. This was thanks to the accommodative fiscal and monetary policy. The financial sector was protected; this meant that, in the first phase, it did not feel much of the impact of the massive shock. Write-offs of and write-downs on loans have remained minimal thus far. This is likely to change in the near future.
Will this figure skyrocket when the suspension of the filing obligation soon expires?
The situation is distorted right now. Insolvencies only show up in the statistics once proceedings have been closed. At the moment, the figures are still looking good on the surface – but only because many proceedings are being postponed. It won’t stay that way, and the sectors will be affected to varying extents.
Who will be hit hardest?
We are expecting manufacturing to see a strong increase in relative terms. In terms of absolute figures, the rise is likely to be even greater in the services sector. However, we are starting from a historic low – during the financial crisis, insolvencies were running at around 8,000 per quarter. At all events, increasing numbers of insolvencies, and also business deregistrations, will cause banks to write down loans.
Some passages from the latest issue of the Financial Stability Review could be summed up as saying, not to put too fine a point on it, that the worst could be yet to come.
We are also looking at that possibility – not as a baseline scenario, but as an adverse scenario. One in which the financial system is stressed: banks would have to absorb unexpectedly large losses and write down loans. This would squeeze their capital. The banks might then scale back their business and reduce their credit supply in order to stabilise their capital ratios. There would be the subsequent threat of negative spillover to the real economy. This is precisely what we are seeking to avoid. Thanks to reforms since the financial crisis, the banks now have larger capital buffers which they can use to continue granting loans.
How much more lockdown can the real economy and financial system take?
There is a great deal of uncertainty. In the summer, we developed a baseline scenario which factored in certain ups and downs. This is a scenario with which the financial system could certainly cope. Banks have adequate buffers. Yet the banks and the public sector should be prepared for more negative developments and for an increase in the incidence of insolvency.
Are the banks stable enough that taxpayers don’t have to expect the worst, like in 2008?
Much has happened since then. We have far more capital buffers in the system than twelve years ago. Big banks have had to set aside additional capital. In addition, new institutions were set up for the recovery and resolution of distressed banks. All this protects taxpayer money. However, it is also important that the new rules be applied whenever banks encounter distress.
Have the banks been lulled into a false sense of security because there have been very few insolvencies and thus credit defaults in recent years?
I wouldn’t say that individual banks have become complacent. They are sure to be aware that the current situation is not good by any stretch of the imagination.
People are now showing less self-discipline than in the spring. Can the same be said of banks regarding bonuses and dividends?
The situation is essentially similar: people want to do fun things right now: go out to eat, meet friends or travel. By making shared sacrifices, we are investing in the stability of the healthcare system. The financial system is in the same boat: dividend distributions are being put off in order to invest in the stability of the financial system. There is so much uncertainty that banks should do all they can not to weaken their resilience at this time. They can still distribute dividends later once the worst has been averted. It doesn’t work the other way around: once dividends have been paid, they won’t be clawed back.
But some banks are still distributing dividends.
This can, of course, seem better for each individual beneficiary. But what suits the individual is not necessarily better for the financial system.
Will the ECB soon lift its recommendation of a moratorium on dividend distribution?
This is currently the subject of intense debate. I do not think it is a good idea to lift the recommendation just like that. As long as a lot of certainty remains, we have to insure the system against adverse scenarios.
Is the crisis revealing that many firms no longer have a viable business model?
Policymakers need to ask themselves the following questions: how sustainable are business models, what is the funding situation like for enterprises, should we keep supporting every firm facing difficulties, and is debt or equity capital needed? In Germany, we lack systematic information about the assistance that specific sectors have received and the impact this is having on the economy as a whole. We need to improve on this if we are to understand what is currently happening in the real economy.
Have I understood you correctly – billions are being distributed, but no one knows who is receiving these funds?
The people in charge of distributing the funds know who is receiving them, of course. What we are interested in is finding out which programmes are being used by each sector, and to what extent. Some schemes are federal, while others are administered by the state governments, but we lack a systematic overview of this information. In France, with its more centralised system, you can see from a website which sectors or regions are receiving funding, and from which programmes.
Real estate prices have kept rising during the crisis. Does this pose a threat?
In terms of residential property, Germany is doing relatively well by European standards. Households are not very heavily indebted, nor have they taken on much more debt during the crisis. But because prices are continuing to rise fairly dynamically, the Bundesbank is keeping a close eye on developments and is not completely ready to sound the all-clear.
Real estate loans account for up to a third of banks’ lending. Does this pose the greatest threat?
I would not attempt to rank the different risks. If a bank has issued a large volume of housing loans and the loans are secure, that is not a problem. The Bundesbank is carrying out a real estate stress test for the banking system to try to estimate how a correction in real estate prices would affect banks. After all, one of the reasons for the rise in real estate prices is that interest rates are so low.
Will interest rates stay this low forever?
Very few things stay the same forever. First of all, it is important to remember that interest rates are not dictated by the central banks, but are shaped by the real economy. Perhaps the increasing digitalisation brought about by the coronavirus crisis will provide a real boost and unleash new waves of productivity, which would stimulate the economy and raise real interest rates. At the moment, the markets expect interest rates to remain low for a long time to come.
That’s what investors are betting on, which is driving up asset prices.
When interest rates are low, many investors go in search of yield and take greater risks. And in a low interest rate environment, even small changes can have a large impact on valuations. Very high fluctuations in the market do not have a stabilising effect.
Are equity and real estate prices still justified by the fundamentals?
No one knows exactly what the fundamentals look like. For us, it is also less about overvaluations and more about how many financial institutions might be impacted through contagion effects. Credit financing plays a key role here. If individual investors put their own funds in an overvalued asset, a correction can, of course, be very painful. This then becomes particularly problematic for the financial system if contagion effects occur.
Like if a real estate bubble bursts, for instance?
Sudden price adjustments can be a trigger. But there are also other vulnerabilities that we are looking at: higher debt levels as a result of the crisis, low interest rates, and incentives to take risks. We need to prepare the financial system now to deal with insolvencies and structural change so we can stay on a firm footing during and after the crisis.
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