"Banks' traditional funding sources: opportunities for capital markets"
Keynote address at 50th ICMA Annual Conference
Javier Alonso
Deputy Governor

Good afternoon.
I would like to thank ICMA for its kind invitation to take part in this special day: ICMA's 50th
Annual General Meeting and Conference. It is a pleasure to be here and to speak to such a
large audience of professionals from such varied backgrounds, representing, among others,
issuers, intermediaries, investors, capital market infrastructure providers, regulators and
supervisors.
Capital markets being at the heart of this event, and banks being at the heart of my day to
day work, what I would like to do in this speech is to highlight some developments related
to banks' funding sources that I think may offer new opportunities for capital markets. I
would also like to briefly touch upon Brexit, an event that is generating great uncertainty and
for which careful preparation is required. All of it, from my perspective as Deputy Governor
of the Banco de España and as member of the Supervisory Board of the Single Supervisory
Mechanism, which explains why my speech will be focused on developments in the
European Union.
New opportunities
Let me start with what appear to me to be promising developments for reactivation of the
markets.
Firstly, the renewed political commitment reached at the Euro Summit on 15 December
2017 to press ahead with improvements to euro area governance provides new
opportunities to accelerate progress in areas where developments so far have been
somewhat sluggish. Last week, the Banco de España held a high level seminar on the future
of euro area governance titled "Strengthening euro area economic governance: short-term
priorities and the long-term view". A webcast of the seminar is available on the Banco de
España's website which I recommend to those interested in the subject. I will not dwell on
this topic but I would like to say that, on the financial side, completing the Banking Union
and fostering the Capital Markets Union must be at the top of the political agenda.
Completing the Banking Union will help to weaken the links between banks and sovereigns
and to be better prepared to deal with large macroeconomic shocks. Fostering the Capital
Markets Union will help to promote greater diversification of private sector funding sources
and greater robustness of private risk-sharing arrangements. These projects pay attention
to the two main channels through which credit flows to the economy in Europe, and they
are key blocks in EMU's future architecture. A window of opportunity seems to be open now
and it should not be wasted.
Secondly, focusing on the Capital Markets Union, despite progress having been somewhat
slow, there are certainly areas where advances have been made. Later today, the
programme of this conference offers an opportunity to hear directly from the European
Commission on the Capital Markets Union. Accordingly, my objective now is merely to point
out a couple of areas where initiatives have been taken to reactivate specific markets. One
of those areas is the securitisation market. Another one is the covered bond market.
Both securitisations and covered bonds have traditionally been important financing sources
for banks and it is my opinion that they will regain importance in banks' funding strategies
as the ECB's targeted longer-term refinancing operations (TLTRO II) progressively mature,
opening up new opportunities for the markets.
In the field of securitisations, despite the stigma that has surrounded this product since the
recent financial crisis, the European authorities have considered that appropriately regulated
and well-structured securitisations can contribute to diversify funding sources, to promote
better risk management and, ultimately, to mobilise more funds for the real economy.
For these reasons, two Regulations were published on 28 December 2017 in the Official
Journal of the European Union amending the regulatory framework applicable to
securitisations, in an attempt to harness their benefits, restricting the risks arising from their
inappropriate use.
One Regulation establishes a general framework for all securitisations, and creates a
specific framework for those that are to be known as STS (simple, transparent and
standardised). The other Regulation transposes the new Basel III framework, making
amendments to the prudential regulation of credit institutions and investment firms, both for
general and for simple, transparent and standardised securitisations, which will benefit from
a better treatment.
These regulatory changes may incentivise changes in banks' funding and risk management
strategies, and may trigger a renewed interest in securitisations, providing an opportunity
to reactivate this market.
Covered bonds are another instrument where progress is being made. In particular, on 12
March the European Commission released a proposal that seeks to harmonise their
regulation in Europe.
The proposal includes a Directive that specifies the core elements of what may be termed
"European covered bonds". It also amends banking prudential regulations, strengthening
the conditions under which banks investing in these products may benefit from lower
regulatory capital requirements.
Once the Commission's proposal is approved, the Directive shall be transposed so that
banks may begin to issue as soon as possible instruments that benefit from the advantages
of obtaining the "European covered bond" label.
So, it is true that there is still a long way to go before these regulatory changes materialise
but first steps are being taken to pave the way for more harmonised covered bond markets,
which will foreseeably enlarge the potential investor base for these bonds.
Lastly, in addition to the specific initiatives already taken under the umbrella of the Capital
Markets Union to activate certain markets, I would also like to mention that other
opportunities for the markets may arise from new instruments. I have in mind here, for
example, the recently created non-preferred senior debt instruments. This new category of
debt instrument ranks behind ordinary debt in the order of seniority of claims in insolvency
proceedings and extends the range of liabilities that banks can issue to comply with their
MREL requirements. Some Spanish banks started last year to issue this new debt
instrument and others will follow soon.
Let me now turn to the other side of the coin. Despite the above examples of areas where
good prospects may arise for market activity, there are also elements of uncertainty on the
horizon, and one of them is Brexit.
Brexit
On 29 March 2017, the United Kingdom notified the European Council of its intention to
leave the European Union. This means that 30 March 2019 is, in principle, the "withdrawal
date". So far, in the draft Withdrawal Agreement, there is no specific regime with regard to
financial services and this unquestionably generates a context of uncertainty that affects all
market participants. Allow me to focus on how it affects banks.
"Wait and see" is not an option. Banks need to prepare. Within the framework of the Single
Supervisory Mechanism (SSM), the ECB, together with National Competent Authorities, is
trying to communicate, to banks which may be considering relocating their banking
activities to the euro area, the SSM's supervisory expectations on different aspects such
as: authorisations and licences to carry out banking activities in the euro area; internal
governance and staffing arrangements; or authorisations and use of internal models.
These expectations have a key underlying principle, which is the need to guarantee
consistency across the existing and the relocating institutions, so that they both operate
under the same regulatory, prudential and supervisory standards.
There is another key aspect, which is the need to ensure that relocating banks are not empty
shells. The concern about empty shells arises because, given the uncertainty about the
future relationship between the UK and the EU and the cost of making organisational
changes, a good number of institutions are studying how to adapt to Brexit minimising the
changes to be made to their structures, management and business models. They may be
considering making extensive use of the capabilities of their UK headquarters through the
use of back-to-back booking models for risk management, maintaining shared governance
structures, extensive outsourcing within the group or keeping the bulk of their workforce in
the UK through the artificial use of branches in the UK.
Empty-shell banks do not have risk management and governance structures that ensure a
safe continuation of the local business or a smooth wind-down in crisis situations, and may
present operational risks and financial stability issues for the countries hosting them.
For this reason, when assessing booking models, the ECB and national supervisors will pay
attention to whether banks have adequate: (i) internal governance and organisation; (ii)
access to financial market infrastructures; (iii) booking and hedging strategies; iv) intragroup
arrangements; and v) IT infrastructure and reporting.
Lastly, another very relevant issue with regard to Brexit that I would like to mention is that
of the transition period.
EU and UK negotiators have reached agreement that a transition period should be a matter
of mutual benefit and have set the principles for the negotiation of a transition period
between the date the withdrawal agreement enters into force and 31 December 2020.
But this transition period will be part of the second phase of the negotiations and there will
be no certainty about it until at least this autumn. Up to now, the EU and the UK are following
different strategies and even use a different wording to refer to this transition period,
"implementation period" being the term used by the UK.
More specifically, the UK has welcomed the agreement on the transition period and has
sent out the message that nothing will change up to the end of the "implementation period".
Further, to transmit certainty to institutions operating in the UK, it has committed to bring
forward legislation, if necessary, to create temporary permissions in the "unlikely" event that
the withdrawal agreement is not ratified.
The EU has a more prudent stance and recalls that nothing is agreed until everything is
agreed. In fact, legal certainty will only come with the ratification of the Withdrawal
Agreement by all sides involved in the negotiations.
In this context of uncertainty, within the SSM framework, banks are considered to be
responsible for taking the necessary steps to obtain all authorisations required for them to
carry out their activities in a timely manner to make sure that they can continue to serve their
customers after 30 March 2019. They are expected to present credible Brexit plans and to
use the possible transition period to implement their plans, not to delay planning. It is
acknowledged that adapting to a scenario where the UK becomes a third country is
challenging.
Conclusion
To sum up, capital markets - like banks - are facing major challenges at a time of
farreaching transformation. One of those challenges is the uncertainty that a structural change
such as Brexit generates. But capital markets also find themselves at a juncture where, first,
efforts made in recent years to reactivate specific markets may start showing results and,
second, the European political context is such that there appears to be an opportunity to
foster the Capital Markets Union and to contribute to deeper and more integrated markets
in the European Union.
Thank you for your attention.