European Central Bank supervisors are too lax in supervising how they manage credit risk, the EU Court of Auditors said on Friday (12 May).
The auditor has long criticised the ECB for insufficiently pushing the just over 100 banks — 82 percent of the total — it supervises to reduce bad loans. Friday’s report now suggests the problem is more profound than previously thought.
One of the problems highlighted in the detailed report is that the ECB does not follow its own rules consistently. It is also too lenient towards high-risk lenders and also accused the bank of being too slow to decide on capital requirements — up to 13 months, which is “very, very long, longer than the previous year,” said Mihails Kozlovs, the ECA member in charge of the report.
“To avoid bank failures due to poor credit risk management, the ECB should ensure that banks manage credit risks soundly”, added Kozlovs. “This is crucial given the importance of trust in the banking sector and the challenging current economic conditions.”
But the new approach for determining the amount of capital a bank must hold “beyond the regulatory minimum” introduced in 2021 does not guarantee that all risks are covered. The auditors conclude that the ECB has not applied its own rules consistently.
In particular, the ECB did not impose proportionally higher requirements when banks faced higher risks. In fact, for the highest-risk banks, the bank supervisors consistently selected the lowest available capital requirements.
Furthermore, the auditors saw a pattern of the ECB failing to sufficiently escalate supervisory measures when credit risk was high and sustained and control weaknesses persisted. In response to the report, the ECB said it would review its escalation processes and added there was still a four percent staff shortfall.
Interest rate risk
The auditors only looked at credit risk. Interest rate risks, which increase the cost of capital and mortgages, have been raised a record amount since the summer of last year, were omitted.
“We understand [credit risk and interest rates] are linked. Interest rates might lead to borrowers’ difficulties,” Kozlovs told EUobserver when asked if interest rate risks to businesses and households were included in the overall risk monitoring.
“For the time being, based on the data from the European Banking Authority, there is no significant build-up of non-performing loans,” said Kozlovs, adding that “in some sectors, the risk was increasing.”
“This only underlines the importance of our call for the rigorous application of the rules,” he said.
“Our overall conclusion is that the ECB has stepped up its efforts in supervising banks’ credit risk,” the auditors concluded in the report. “However, more must be done.”
