ECB’s Negative Interest Policy May Impact EU Bank Profits

Profits of European banks are likely to be impacted to the extent of 5 to 10 percent if the European Central Bank (ECB) decides to move further into negative interest rate regime according to Morgan Stanley analysts.

Euro area banks have been losing value in their markets since the beginning of the year due to fears that macroeconomic issues could harm the progress made by banks in terms of cost control, adoption of risk-averse policies and building stronger balance sheets. Central banks are increasingly adopting the negative interest rate strategy in a bid to stimulate growth and encourage banks to lend rather than hoard cash.

The Bank of Japan recently cut rates below zero while Sweden’s central bank has kept rates below zero for some time now. Market analysts expect that ECB is likely to further go down by 10 or 20 basis points on the current minus 0.3 percent deposit rate next month, raising concerns in some quarters. Negative rates have been forcing lenders to charge extra for holding money in deposits and that significantly erodes net interest margins.

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In a statement, a Morgan Stanley representative said,

Any expansion of the ECB’s QE (quantitative easing) risks flipping the effect from a positive to a negative for many Euro Zone banks, possibly prompting an end to free banking in Europe and starting a battle to shift models to commissions.

With negative interest rates, banks end up being penalized for holding cash at the central bank but these costs cannot be passed on to customers since they can cash out their money at any time and adversely affect banking operations. Morgan Stanley analysts have specifically highlighted German banks which are currently contributing to 60 percent of excess deposits at the ECB, and stated that they expect the growth in loans to be poor.

Morgan Stanley has also issued a warning that the pressure on margins was going to be one of the biggest concerns for European banks in 2016. A cut of 20 basis points in deposit rates could cause a decline in Euro area banks earnings by around 10 percent in 2017.

Daniele Nouy, the ECB banking supervisor tried to bring assurance to the market by stating that the euro area bank sector was far more robust and resilient in 2016 than it was in 2012, when the Euro went through a huge financial crisis. Nouy also tried to assure the market by stating that lenders are now in a better situation to handle any unforeseen developments.

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