European Banking Sector Research Articles

Main Challenges and Prospects for the European Banking Sector: A Critical Review of the Ongoing Debate

This paper discusses the competing forces that are reshaping the European banking industry and the medium-term consequences for profitability and competition within the sector. The paper highlights that banks are rethinking their business model to address four challenges to emerge in the last decade: low interest rates, tighter regulation, technological innovation, and increasing competition from non-bank intermediaries. The shock generated by the Covid-19 pandemic adds to those developments and has the potential to accelerate them. Our analysis suggests that in order to successfully compete in the medium term banks will likely have to exploit the benefits of digitization, mainly deriving from the reduction in operating costs and the increase in the scale of production. Accommodating the surging demand for green finance is also likely to represent an important source of profits, resulting from the growth of the green market and the development of new specialized products and advisory services. Success in these strategies will presumably require a significant reorganization of banks’ activities to leverage on economies of scale and scope.

Auditors expertise and the effect of the European banking sector CEO skill on audit quality during the European financial crisis

The paper examines whether Eurozone banks that replace their CEOs with highly skilled ones, also switch to industry-expert auditors, thereby increasing the quality of auditing they receive. Using a...

The effect of fair valuation on banks' earnings quality: empirical evidence from developed and emerging European countries

This study investigates average earnings quality (AEQ) and its determinants in the European banking sector based on data of 409 European banks from the period 2006–2018. We utilize the intensity of fair valuation, average annual interest change, and firm size as explanatory variables for AEQ, with special attention to differences between developed and emerging countries. We split the total time period into a pre-IFRS 13 and a post-IFRS 13 period to examine how the renewed regulation of fair valuation (IFRS 13) has affected the earnings quality of banks. We find that, while the interest change observed in the total period and the banks' size significantly and negatively affect AEQ, the proportion of fair value assets has a significant positive effect. We show that the latter is only valid for developed countries. We find clear evidence that the introduction of IFRS 13 resulted in a measurable improvement in fair value regulation.

Bank Business Model Migrations in Europe: Determinants and Effects

AbstractIn response to post‐crisis regulatory reforms, the European banking sector has undergone significant changes that have led banks to reconsider their strategies, structures and operations. Based on a sample of over 3,000 banks from 32 European countries during the period 2010–2017, we identify banks' business models based on cluster analysis and track their evolution. We then apply a logistic regression and find that banks with higher risk and lower profitability are more likely to change their business model. Employing a propensity score matching approach, we investigate the effect of migration on bank performance and find that changing the business model affects banks positively (i.e. migrating banks increase their profitability, stability and cost efficiency). The effect of migration differs depending on the target business model. When switches are a consequence of being acquired or motivated by regulatory compliance, the positive impact remains.

Systemic Risk and the COVID Challenge in the European Banking Sector

This paper studies the systemic risk contribution of a set of large publicly traded European banks. Over a sample covering the last twenty years and three different crises, we find that all banks in our sample significantly contribute to systemic risk. Moreover, larger banks and banks with a business model more exposed to trading and financial market volatility, contribute more. In the shorter sample characterized by the COVID-19 shock, sovereign default risks significantly affected the systemic risk contribution of all banks. However, the ECB announcement of the Pandemic Emergency Purchasing Programme restored calm in the European banking sector.

The Differential Impact of Brexit on Banking: UK vs. Europe

AbstractThe objective of this study is to analyse the differential impact that the main events in the implementation of Brexit have had on the European banking sector, and attempt to identify whether said impact has been different for UK and European banks. To do this, we selected a sample of UK banks listed on the stock exchange and a control group composed of banks belonging to European countries of a similar size to the UK banks. We used event study methodology to determine the impact, which was measured by the market reaction. The obtained results allow us to state that UK banks reacted differently from European banks in response to the same events that have defined the path of Brexit, and generally more negatively.

Centralised or decentralised banking supervision? Evidence from European banks

This paper analyses the impact of the Banking Union on European bank credit risk. Specifically, we investigate the effect that the establishment of the Single Supervisory Mechanism has had on the credit risk of the banks it supervises in comparison to financial institutions that are still supervised by National Supervisory Authorities. We analyse a sample of 746 European banks over the period 2011–2018, by means of a difference-in-differences methodology. We provide empirical evidence that Single Supervisory Mechanism supervised banks reduced credit risk exposure compared to banks supervised by National Supervisory Authorities, suggesting that the Banking Union has successfully reduced the riskiness of the European banking sector. Our results passed a battery of robustness tests that support the reliability of our analysis. Our contribution sheds light on the benefits of centralised versus decentralised supervision, on the effectiveness of the current supervisory system in Europe, and on its impact on European bank risk.

Implementing a European Bail-In Regime: Do BRRD & SRM-R Effectively Eliminate Implicit Government Guarantees in the European Banking Sector? An Empirical Analysis

During the last decade, policymakers have implemented a European bank resolution regime, which includes the Bank Recovery & Resolution Directive and the Single Resolution Mechanism Regulation, designed to make banks resolvable and to abolish bailout expectations, i.e. implicit government guarantees (IGGs). The regime strives to make banks’ debt bail-in-able and to make government bailouts of banks the rare exception. The overall research objective of this paper is to measure the effectiveness of this regime in terms of bailout expectations in the form of funding advantages. Specifically, we examine market reactions to regime implementation, using an event- study framework to quantify the impact of key legal events on credit default swap (CDS) spreads and equity returns. We control for a wide range of variables to address endogeneity concerns raised with regard to omitted variables in prior work. Our uni-variate and multivariate analysis results suggest that the European bail-in regime alone does not effectively eliminate IGGs. On the contrary, CDS spreads, especially among global systemically important banks, are tightening and equity returns are increasing. This indicates that the regime inadequately solves the systemic problem of bailout expectations in the market.

Auditor Independence and Value Relevance in the European Banking Sector: Do Investor Protection Environment and Corporate Governance Matter?

Our study explores the effects of statutory auditor’s independence on value relevance, measuring the different impact against the quality of country-level investor’s protection and firm-level corporate governance. A sample of 98 European financial entities listed on the stock markets of 15 countries in the period from 2009 to 2014 is used to measure statutory auditor independence by taking into account audit firm tenure, partner tenure, and the percentage of nonaudit fees. Findings demonstrate that in different investor protection environments or in the presence of differences in corporate governance quality, phenomena that could be interpreted as a deterioration of the auditor independence do not necessarily determine a decrease in the value relevance of accounting numbers. Rather, they may determine a possible increase if the knowledge spillover effects prevail over the perception that independence has deteriorated. These findings add to the literature and provide regulators with insights by suggesting that not only accounting and auditing practices but also country features or firm-level corporate governance quality might influence the outcome of reforms on the independence of the statutory auditor as well as value relevance judgments.

The relationship between credit ratings and asset liquidity: Evidence from Western European banks

This study examines the role of asset liquidity in Western European banks’ credit rating downgrades and upgrades over the 2005–2017 period. The results suggest that changes in bank credit ratings have been more favorable for banks that have a liquid asset portfolio. Furthermore, asset liquidity has a stronger effect on the credit rating of banks that already have an illiquid asset portfolio. In contrast, the effect is significantly smaller or nonexistent for the most liquid banks. These results imply that the new liquidity regulation introduced by the Basel III requirements will improve the stability and hence decrease the fragility of the European banking sector. Furthermore, the benefits are highest for the most illiquid banks. In addition, the sovereign credit rating pass-through effect is strongest for illiquid banks.

An Analysis of Bank Fee and Commission Income in the EU and in the Czech Republic in a Low Interest Rate Environment

This paper deals with the European banking sector fee and commission income, with a special emphasis on the Czech Republic, in the 2007-2018 period. During this time span, net interest income was declining due to low nominal growth and a long period of low interest rates. We contribute to the literature when comparing the magnitude of fee income across the EU banking sectors. We come to the following key findings. First, we conclude that there is no single optimal fee income strategy. Second, we argue that Czech banks are not abnormally dependent on fee income and their outstanding profitability is rather connected with sound risk management as well as with sufficient liquidity and capital buffers. Third, we find that in the EU, fee income share followed an increasing trend after the 2007-2009 global financial crisis which might be connected with an effort to maintain desired profitability in a low interest rate environment.

A Comparative Analysis of Incremental and Disruptive Innovation Policies in the European Banking Sector with Hybrid Interval Type-2 Fuzzy Decision-Making Models

Nowadays innovation is a key issue in all business sectors, maintaining a positive correlation with the countries’ economic development. The banking sector stands out among the different economic sectors, as globalization has pushed banks into tough competition. Hence, banks within this competitive framework must innovate by developing new products to be competitive and survive. The innovation in banking products is usually sorted as incremental or disruptive. Therefore, this paper aims to evaluate the innovation policies for the European Banking Sector by analyzing incremental and disruptive innovation policies. The novelty of the paper is to propose a set of dimensions and criteria for the innovation policies of European banking industry and to construct a hybrid decision-making model based on interval type-2 fuzzy sets. Accordingly, a comparative analysis of the top five GDP European countries has been carried out using a multiple criteria decision model (MCDM). The MCDM defines different criteria for incremental and disruptive innovations according to the specialized literature. Interval type-2 fuzzy DEMATEL (IT2 FDEMATEL) is used for weighting factors, and interval type-2 fuzzy VIKOR (IT2 FVIKOR) and interval type-2 fuzzy TOPSIS (IT2 FTOPSIS) are considered for ranking alternatives in the integrated modeling. Eventually, the findings highlight the most important criteria in this analysis and the results demonstrate that the comparative analysis of IT2 FVIKOR and IT2 FTOPSIS provides comprehensive and coherent results to select the best country in the innovation policies. In addition, the need to redesign the European banking system with necessary regulations to contribute to the development of the innovations is pointed out.

Using clustering ensemble to identify banking business models

SummaryThe business models of banks are often seen as the result of a variety of simultaneously determined managerial choices, such as those regarding the types of activities, funding sources, level of diversification, and size. Moreover, owing to the fuzziness of data and the possibility that some banks may combine features of different business models, the use of hard clustering methods has often led to poorly identified business models. In this paper we propose a framework to deal with these challenges based on an ensemble of three unsupervised clustering methods to identify banking business models: fuzzy c‐means (which allows us to handle fuzzy clustering), self‐organizing maps (which yield intuitive visual representations of the clusters), and partitioning around medoids (which circumvents the presence of data outliers). We set up our analysis in the context of the European banking sector, which has seen its regulators increasingly focused on examining the business models of supervised entities in the aftermath of the twin financial crises. In our empirical application, we find evidence of four distinct banking business models and further distinguish between banks with a clearly defined business model (core banks) and others (non‐core banks), as well as banks with a stable business model over time (persistent banks) and others (non‐persistent banks). Our proposed framework performs well under several robustness checks related with the sample, clustering methods, and variables used.

Deleveraging and Foreign Currency Loan Conversion Programs in Europe

This paper first reviews the developments in the size and composition of the European banking sectors’ balance sheets since the Global Financial Crisis and then assesses the impact of foreign currency loan conversion programs on systemic risk. Aggregate data from 2009Q1 to 2019Q3 indicate three major developments. First, the deleveraging process in Europe has been sizeable, while credit growth may be hampered in several countries. Secondly, macroprudential measures and conversion programs have only partially achieved their goal of lowering financial dollarization in Central and Eastern Europe. Lastly, systemic risk remains elevated in the non-euro area.

Deleveraging and Foreign Currency Loan Conversion Programs in Europe

This paper first reviews the developments in the size and composition of the European banking sectors’ balance sheets since the Global Financial Crisis, and then assesses the impact of foreign currency loan conversion programs on systemic risk. Aggregate data from 2009Q1 to 2019Q3 indicate three major developments. First, the deleveraging process in Europe has been sizeable, while credit growth may be hampered in several countries. Secondly, macroprudential measures and conversion programs have only partially achieved their goal of lowering financial dollarization in Central and Eastern Europe. Lastly, systemic risk remains elevated in the non-euro area.

Determinants of financial instruments risk disclosure: An empirical analysis in the banking sector

This study investigates the effects of firm and country factors, considered as determinants of the financial instruments risk disclosure (FIRD) proxied by IFRS 7 in the European banking system. We select 582 banks-year observations based on the largest five European economies (France, Germany, Italy, Spain and the UK) as provided by the International Monetary Fund (IMF). Our analysis covers a period of 8 years (2007-2014) and adopts an OLS model. Results show that both firm (the type of auditor, board size and profitability) and country factors (financing environment, regulatory environment, and organizational status) affect FIRD. Limitations for this paper could relate to country selection, as well as on the breadth of the sample. Nevertheless, these aspects could unveil possible areas of future inquiry. The contribution of the study is twofold. It enriches the literature about firm and country determinants on financial instruments risk disclosure, as combined rather than single-standing variables. Yet, it draws the attention of banks’ management and investors on what the crucial factors to reach an optimal level of FIRD are and gain the confidence of capital markets, reducing information asymmetries. This is the first empirical investigation on the determinants of FIRD, using IFRS 7, in the European banking sector that adopts firm and country factors in a combined effort.

Kicking the Can Down the Road: Government Interventions in the European Banking Sector

Kicking the Can Down the Road: Government Interventions in the European Banking Sector

Intermediation Below Zero: Effects of Negative Interest Rates on Banks' Performance and Lending

Reducing interest rates below zero may be justified on theoretical grounds while, in practice, it is shown to create a number of distortions and malfunctions in several dimensions of banking and financial markets, which in turn may affect the whole economy. This paper surveys international experience of negative interest rates and the existing theoretical and empirical research of the impact on banks. It also investigates the impact of negative interest rates on the European banking sector using a dataset of 3,155 banks from 36 European countries over 2011–2018. Using a difference-in-differences methodology, we show that banks in negative interest-rate environments experienced a 18.4% decrease in their net interest margins compared to other banks operating in European countries that did not adopt negative interest rates. We also show banks taking more customer deposits are more affected.

From IAS 39 To IFRS 9: Literature Review of Studies on the Implementation of IFRS in the European Banking Sector

From IAS 39 To IFRS 9: Literature Review of Studies on the Implementation of IFRS in the European Banking Sector

Unravelling Economic Solidarity: A Systemic View on Risk-Sharing in the European Banking Sector

The policy contribution aims to overcome the unfertile debate that opposes the notions of risk-sharing and risk reduction, by examining the concepts of economic solidarity and responsibility, with a particular focus on the Banking Union and some of its unresolved crisis management issues. The contribution adopts a money-centric view on banking, which highlights the interconnectedness between monetary policy design and the banking sector, arguing that both principles of solidarity and responsibility are interconnected and must, therefore, be included in the architecture of the EU’s financial system. The empirical review comparatively examines the EU and US cases in order to draw concrete lessons from them. The contribution concludes by briefly proposing the enhancement of a solidarity dimension in the Banking Union design.