New Italian Prime Minister Paolo Gentiloni (pictured) will have to deal with a deepening banking crisis in his country. PAimages/Domenico Stinellis. All rights reserved.
Italy is still in the midst of a severe banking crisis. Given the dimensions of the country's financial system, such a crisis, if not properly managed, could adversely affect the European banking system. To prevent this, it is important to understand the origins of the problems and, thereby, avoid a prolonged period of crisis. Despite market improvements, privatisation of Italian financial intermediaries and regulatory changes, which took place during the 1990s, the system as a whole still requires substantial improvements.
At the outset of the global financial crisis, both commercial and mutual Italian banks seemed to be solid enough to withstand the crisis adequately. Back then, finance minister Giulio Tremonti used reassuring arguments about the assumed resilience of Italian, expressing confidence in their future success. However, things gradually changed and the overall situation became increasingly difficult to manage as problems started to pile up, particularly as the crisis spread to the real economy and, subsequently, an increasing number of enterprises and households stopped paying back their loans.
What are, then, the main issues of Italian banks? It is often argued that Italian banks suffer from somewhat low profitability. As in many other European economies, small banks in Italy face profitability pressure and the need for a better management of costs. On average, Italian banks tend to be exposed to cost challenges, seemingly having among the highest structural costs in western Europe. In Italy, selection of top managers in the banking sector remains somewhat inefficient .
In general, Italian banks, even the largest among them, often operate under the influence of political parties and local governments, particularly when it comes to deciding about their business strategies and development policies.
At the moment, the general outlook for Italian banking is everything but encouraging. Bad loans in Italian banks totalled €360 billion in 2016. Most of them are piled up in large commercial banks. Analysis based on data from the Bank of Italy shows that bad debt in the corporate sector originated mostly in the construction industry, manufacturing and real estate – all industries that have played a role in the spread of the crisis.
After the rescue of four small banks (Banca Marche, Popolare Etruria, CariFerrara and CariChieti) at the beginning of 2016, it is now time for Italy to have a proper check up on its large for-profit banks.
A dramatic story is that of the Monte dei Paschi bank, Italy’s third largest bank and the oldest operating in Europe. One element that is striking about this bank, but rarely noticed by foreign analysts is that, despite operating nationally, it retains a remarkably “local” outlook – something that can be noticed by looking at its control mechanism, its business culture etc.
The bank has been capitalised a number of times during the last few years, but nevertheless performed poorly during the EBA stress tests in 2014 and 2016, thus failing to attract large investors at the end of 2016. For this reason, the Italian government decided on the nationalisation of the bank, at least until its outlook improves and becomes enough attractive for institutional investors.
The bail-out of Monte dei Paschi can be understood as a measure for preventing the risk of contagion to other financial intermediaries. It remains questionable, however, whether the losses registered by the bank due to speculation on financial derivatives, risky and overpriced acquisitions such as that of the Banca Antonveneta in 2007, and a number of underperforming investments, are to be covered with injection of money raised by tax-payers. Nevertheless, one cannot exclude the possibility of other Italian banks applying for government aid in the coming months.
Furthermore, some of the largest mutual banks (the so-called “banche popolari”) suffered from an increase in bad debt during the last years. Two telling examples are those of the Banca Popolare di Vicenza and the Veneto Banca, both located in the Veneto region, that is, the region of the “Italian miracle” in the 1960s and ‘70s, and still one of the most competitive and entrepreneurial regions in Europe.
It is reported that retail investors had at least €5bn wiped out as the share prices in the banks crashed to 10 cents last year. Both of them have been recapitalised by the Atlante fund, a sort of bad bank that is apparently participated in mainly by commercial banks and insurance companies, and managed by a private fund manager.
According to experts at the IMF, it is time to repair bank balance sheets in order to facilitate lending and to strengthen recovery of the real economy. Challenges faced by many Italian banks are similar to those experienced by the Portuguese and the Irish banks, but the dimensions of the Italian banking sector are much larger. Italian financial intermediaries have specific shortcomings and specific problems to solve, which are quite different compared to those of large German commercial banks.
While Italian for-profit banks are struggling with bad debt, troubles in the largest German counterparts are mainly the direct consequence of losses on financial derivatives, as is the case of Deutsche Bank. Otherwise stated, if solutions are sought at a European level, these key distinctions need to be encapsulated into strategies aimed at preventing further crises and reducing current problems. Needless to say, better coordination in the design of crisis-prevention mechanisms at the EU level would be welcome.
A key solution for Italy would be to secure economic growth in the years to come. Arguably, the real economy in Italy is still healthy in many regions. The Italian economy is still largely based on SMEs, many of which showed resilience to the crisis, thereby managing to survive competition despite all of the difficulties experienced.
Notably, SMEs can restructure more easily compared to large companies with an aim to increase their competitiveness. This is a strong point which Italian policy makers should properly account for in their agendas. Another fundamental point that still needs to be properly addressed is the current lack of new economic and industrial policies.
To complement what has been suggested by experts in finance such as Yakov Amihud and Carlo Favero, without new ideas one can hardly imagine any sustainable growth for this country – something from which financial intermediaries would benefit enormously.
Whatever their importance, consolidation of the banking sector and improvements in bank governance structures are not sufficient to put banks on the right track. Indeed, the fact that Italian banks had played a (rather negative) role in the impairment of industrial districts or entire regional economies, as was showed by the Veneto example, comes at a price. As a result, confidence in Italian banking firms has decreased substantially both in Italy and abroad.
Rehabilitation of banks and an attempt to restore trust in banking will be essential for achieving substantial improvements in the Italian economic outlook. This has a flavour of a proper cultural twist in the mindset of citizens, which will not be easy to achieve: it takes much more than to simply repair bank balance sheets and improve the governance of banks.
Arguably, it will take time before substantial improvements will take place. Financial intermediaries need to strengthen their role in promoting economic development in a sustainable way. Last but not least, they need to select the best top managers and chief executives in order to gradually get back their credibility.
1. See for instance Battistin, E., Graziano, C. and Parigi, B.M. (2012) Connection and performance in bankers’ turnover, European Economic Review, 56(3), 470-487.↩︎
2. De Lucia, C. and Ubovic, S. (2016) Italian banking sector: Facts and figures, Economic desknote BNPParibas, 1 August. ↩︎
3. Lemma, V. (2011) La vicenda MPS. L’acquisto di Antonveneta tra regolarità degli adempimenti e problematicità degli esiti, Rivista trimestrale di diritto dell’economia, 1(2), 4-23. ↩︎
4. Sanderson, R. (2016) Once-thriving Veneto becomes heart of Italy’s bank crisis, FT, 23 November. ↩︎
5. Jobst, A. and Weber, A. (2016) Profitability and Balance Sheet Repair of Italian Banks, IMF WP 16/175. ↩︎
6. How to fix Italian banks, voxeu.org (19 July). As suggested by the authors of this article, saving banking problems is a condition for the Italian industrial sector to perform well. The problem with this argument is that Italy currently lacks a strong industrial policy. Or, at least, the latter needs to be improved and better communicated. ↩︎Amihud, Y. and Favero, C. (2016)