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High risk provisioning puts pressure on banks’ earnings

The performance of German credit institutions was encumbered last year by the effects of the coronavirus pandemic. According to data from credit institutions’ individual accounts prepared in accordance with the German Commercial Code, virtually all of the categories of banks recorded either stagnating or receding results for the financial year before tax compared with 2019, the Bundesbank states in its latest Monthly Report. It notes that the surge in risk provisioning in credit business in particular and the ensuing deterioration in results from the valuation of assets were responsible for this.

Increased lending and higher deposits expand the balance sheets

Bundesbank experts say that the consequences of the crisis can also be seen in increased balance sheet growth. They note that whilst, on the assets side of the balance sheet, both lending within Germany and German banks’ holdings with central banks rose considerably, on the liabilities side, the volume of domestic households’ and non-financial corporations’ deposit holdings increased in particular. They state that medium and long-term loans to domestic non-financial corporations and households, which rose by 5.3% on the year, reached the highest level seen in the last 20 years, with this in large part down to greater demand for housing loans.

No major defaults on loans; lending continues

The severe economic crisis resulting from the coronavirus pandemic and the containment measures taken in response did not have an impact on German credit institutions on the scale that had been feared. “There were no major defaults on loans and banks were able to continue lending,” write the experts, who add that this was largely attributable to the monetary and fiscal policy as well as regulatory measures taken. For example, credit institutions were provided with liquidity through extensive non-standard monetary policy measures in order to maintain lending. In addition, arrangements were made to ensure that a payment moratorium did not automatically mean banks have higher capital requirements for the affected credit amounts, and the countercyclical capital buffer was lowered from 0.25% to 0%. The latter serves to ensure that banks build up capital buffers in periods of economic prosperity, which can be used in periods of crisis by lowering the target level.

Increased risk provisioning in credit business

Banks significantly increased their risk provisioning in credit business on account of the pandemic. Bundesbank experts note that this was the main reason why virtually all of the categories of banks recorded stagnating or even receding results for the financial year before tax. According to the Monthly Report, the fact that the overall profit for the financial year before tax and return on equity rose considerably, however, was attributable to the category of big banks. Yet, it states that this does not reflect a general improvement in profitability for the category of big banks but is instead due to a one-off effect from the previous reporting year: in 2019, a one-off effect resulting from strategic restructuring at one big bank caused a one-time sharp fall in the aggregate profit for the financial year. Despite the sharp rise, in 2020 the overall profit for the financial year before tax and the return on equity remained below the long-term average and also significantly below the average of the post-financial crisis years.

Operating business proves robust

German credit institutions’ operating income increased by €1.8 billion (+1.5%) compared with the previous year. According to the experts’ analysis, there was an improvement in two sources of income in particular, namely the trading result and the other operating result, while net commission income rose only marginally. Net interest income, which accounted for around 67% of operating income, remained the most important source of income, even though it declined again slightly. Yet the decline was considerably smaller than in the previous year, as German credit institutions were able to largely compensate for the decline in interest income in the reporting year with lower interest expenditure. The experts note, however, that the positive operating income result overall was only able to compensate for just over one-quarter of the high increase in risk provisioning.