Luis de Guindos: Macroprudential policy ten years after the crisis
Keynote speech by Mr Luis de Guindos, Vice-President of the European Central Bank, at the
CIRSF Annual International Conference 2019 "Financial Supervision and Financial Stability Ten
Years after the Crisis: Achievements and Next Steps", Lisbon, 4 July 2019.
* * *
Since the financial crisis, the euro area's institutional architecture has evolved significantly. Back
in 2010, in the midst of the crisis, we created the predecessor of today's European Stability
Mechanism (ESM) to provide assistance to euro area countries experiencing or threatened by
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severe financing problems.
At the same time, the European System of Financial Supervision was introduced, aimed at
ensuring consistency and appropriate financial supervision in the EU. It includes the European
Banking Authority (EBA), which provides harmonised prudential rules for financial institutions in
the EU, the European Insurance and Occupational Pensions Authority and the European
Securities and Markets Authority. Since 2010, the European Systemic Risk Board (ESRB) brings
these institutions together with the national supervisory authorities and central banks to share
their assessments on the financial system and devise consistent supervisory responses for the
entire EU.
Since the establishment of the Single Supervisory Mechanism in 2014, the ECB is the European
banking supervisor and closely cooperates with the three European Supervisory Authorities, and
especially with the EBA. Should banks fail, the Single Resolution Board ensures their orderly
resolution with as little impact as possible on the real economy and public finances thanks also
to the funds available from the Single Resolution Fund. Only last month, the Eurogroup agreed to
equip the Single Resolution Fund with a backstop financed by the ESM to further strengthen the
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European financial architecture.
Looking beyond microprudential supervision, we have built up the macroprudential policy toolkit
over the past ten years, to address risks of a systemic nature. National authorities and the ECB
can deploy pre-emptive macroprudential tools to mitigate risk-taking and enhance the resilience
of the financial system, while the ESRB can issue warnings and recommendations.
In my remarks today, I will discuss the financial stability challenges facing the euro area and will
focus on the relevance of countercyclical macroprudential policy to safeguarding financial
stability and supporting prudent lending, by banks and non-banks, throughout the cycle. So far,
macroprudential policies have focused on the banking sector. But the financial system is broader
than that. Non-bank financial entities such as investment funds, insurance companies and
pension funds also take on risks and can amplify the wider financial cycle. So it is more
important than ever that macroprudential policies are broadened to cover these non-bank
financial entities as well.
Financial stability and macroprudential policy in the Economic and Monetary Union
The euro area's ongoing economic recovery faces renewed global headwinds that are weighing
on the economic outlook. Uncertainties related to the rising threat of trade protectionism,
vulnerabilities in emerging markets and geopolitical factors, including those related to Brexit,
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make the economic environment more challenging.
In this environment, the ECB's accommodative monetary policy is necessary for inflation to
remain on a sustained path towards levels that are below, but close to, 2% over the medium
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term. At the same time, the environment indicates that risks to economic growth are tilted to the
downside.
This reinforces the need to strengthen the balance sheets of our financial and non-financial firms
to withstand any shocks that may occur. Fortunately, banks have done exactly that over the last
decade. Capital ratios of euro area systemic banks increased from 10.4% at the end of 2010 to
14.3% by the end of last year (in terms of common equity tier 1). This increase has been
facilitated by the general recovery, supported by the ECB's accommodative monetary policy, and
is a reaction to increased market pressures and additional macroprudential requirements.
Indeed, macroprudential policy aims to maintain a strong and stable financial system. It has
become a crucial complement to the ECB's monetary policy which is geared towards achieving
price stability. While the current accommodative monetary policy is supporting the economic
recovery, it may generate undesired side effects in the form of excessive risk-taking.
Macroprudential policy can counter these excesses with its targeted toolkit. By imposing
additional requirements, it can restrain lending to excessively risky borrowers or create the
necessary loss absorption capacity in specific sectors or countries.
Institutional set-up of macroprudential policy within European banking supervision
This more targeted application of macroprudential policy to individual countries is also reflected in
its institutional set-up. National authorities are first in line to counter emerging systemic risk in a
timely manner by deploying the available instruments. They have detailed knowledge of their
domestic banking systems and financial structures. The ECB, in turn, complements the national
authorities with its cross-country perspective. It can identify regulatory differences and counter
potential inaction bias by the national authorities. To operate this two-tier set-up effectively, the
SSM Regulation provides that national authorities must notify the ECB of macroprudential
measures they intend to implement. The ECB's Governing Council may object to these
measures and, if deemed necessary, set higher macroprudential requirements than those set by
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national authorities, commonly known as "top-up".
The "top-up" option is considered a last resort. There are two main reasons for this. First,
national authorities being responsible for addressing financial imbalances creates a clear
expectation that they do so in a timely manner. If national macroprudential authorities can act
with a complete macroprudential toolkit to fulfil their mandates, the scope for the ECB to set
higher requirements is more focussed to address risks from cross-country spillovers to secure a
consistent application across countries. Second, macroprudential policy authorities, represented
by national central banks and supervisors, come together at the ECB's Financial Stability
Committee (FSC). The FSC serves as the central platform of exchange at the technical level for
authorities to share their experience in financial stability and macroprudential policy. The
Committee has achieved important milestones in increasing data coverage and quality,
assessing systemic risk and developing calibration strategies for macroprudential instruments.
This holds also true for those instruments that are not fully harmonised at EU level. For example,
borrower-based measures such as loan-to-value, loan-to-income or debt service-to-income can
limit the leverage of households and non-financial corporations. These instruments are thought to
be the most effective macroprudential instruments for curtailing excessively risky credit
origination. Indeed, because of their effectiveness, 13 countries have already implemented
measures targeting the specificities of their real estate markets.
Nevertheless, some euro area countries do not have the full legislation in place to deploy all
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borrower-based measures. And even if they do, the institution that decides on borrower-based
instruments is not always the central bank or the supervisory authority. This creates an additional
hurdle to deploying the best macroprudential policy responses. As a result, some
macroprudential authorities use recommendations to the financial institutions as a second-best
option.
Beyond the possibility of using borrower-based measures to address real estate risks, Belgium
and Finland have increased the risk weights on banks' mortgage exposures. These measures
focus on banks' resilience to potential losses on their outstanding stock of mortgage loans.
Systemic risks may also arise from sources other than real estate. Therefore, national
authorities have increased the combined buffer requirements, which include five different buffer
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types. First, the capital conservation buffer of 2.5% is applied to all banks to maintain capital in
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the banking system. Second, to mitigate the "too-big-to-fail" problem, the buffer for global
systemically important institutions is currently applied, in the range of 1-2%, to eight globally
important banks in France, Germany, Italy, the Netherlands and Spain. Third, buffers of up to 2%
have been applied to more than 100 other (or domestic) systemically important institutions
across the euro area. Fourth, four countries are addressing structural risks by applying the
systemic risk buffer either to individual institutions, in the case of Austria, the Netherlands and
Slovakia, or at the country level in the case of Estonia.
The fifth buffer is the countercyclical capital buffer (CCyB). It is central to a countercyclical
macroprudential policy as it helps ensure financial stability throughout the cycle. By raising
capital requirements as imbalances are building up, it increases bank resilience well ahead of
potential shocks. In a downturn, the CCyB can be released to give banks the necessary capital
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space to support lending to the real economy. So far, seven euro area countries have
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announced that they will activate or increase CCyB rates of up to 1.5%.
The ECB's view is that banks' overall capital levels are currently appropriate. Nevertheless, the
current buffer calibrations prevent them from being used countercyclically throughout the cycle.
The limited size of the CCyB calibrations restricts the possibility for releasing it to support lending
to the real economy if the cycle turns. As macroprudential authorities, we are therefore
continuing to review the implementation and scope of the available instruments. In this respect,
we very much welcome last month's publication of the new Capital Requirements Directive
(CRD V) and Capital Requirements Regulation (CRR II) to strengthen the macroprudential
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toolkit.
Role of the non-bank financial sector and macroprudential policy
Despite the many achievements in the regulatory reform process since the crisis, there are
areas where more work needs to be done. In my view, the regulatory framework for the non-bank
financial sector is one of these areas. First of all, the sector has grown significantly in size and
importance. Second, it is accumulating ever more risks on its balance sheet. And third, work on
the macroprudential framework for this sector is still in its infancy.
Let me start with the growing size of the sector. In the euro area, total assets held by non-banks
have almost doubled over the last ten years, growing from €23 trillion in 2008 to €42 trillion in
2018. While the size of the banking sector stagnated over this period, non-banks currently
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account for around 55% of the euro area financial sector. The fast growth of non-banks reflects
their increasing role in financing the euro area real economy. Whereas ten years ago, non-banks
accounted for 14% of the euro area financial sector's loans to non-financial corporations, they
now account for twice that share. Moreover, non-banks provide a steady net flow of financing to
non-financial corporations through the purchase of debt securities. In the ten years prior to the
crisis, euro area non-financial corporations obtained only 10% of their credit by issuing debt
securities, while this share increased to more than 50% in the decade after the crisis.
By diversifying the financing sources of the real economy, the non-bank financial sector plays an
important role in financial intermediation. It provides an additional source of financing and can
ultimately help to smooth shocks in the euro area. The growing relevance of non-bank
intermediation can, however, create potential new vulnerabilities.
In their search for higher yields, non-banks have accumulated more risks in their investment
portfolios in recent years. For instance, more than half of the bonds held by euro area investment
funds are BBB-rated or lower. For euro area insurers this share is somewhat smaller, at around
40%, but it has increased by more than 5 percentage points over the last five years. Insurers
have also been venturing into alternative asset classes such as alternative, infrastructure and
private equity funds, loans and real estate holdings. Their exposure to these assets has reached
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almost 10% of total investment and is expected to rise further.
As some of these assets are highly illiquid, the portfolio shift towards these assets may also
increase insurers' liquidity risk beyond credit risk. But this is only one example, where the credit
risk on non-banks' balance sheets is coupled with liquidity risk. In fact, liquidity risk is particularly
an issue for some bond and equity funds that invest in less liquid assets, while offering
shortterm redemptions to their investors. These funds are vulnerable to sudden changes in investor
sentiment, so-called "run risks". Some recent cases were a reminder that investors in less liquid
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funds might indeed run if they fear deterioration in asset quality or liquidity. While recent
instances happened in a generally stable market environment and did not have systemic
repercussions, liquidity problems might have been larger in an adverse market environment and
with many funds affected simultaneously. If anything, the liquidity mismatches observed in bond
and equity funds call for greater scrutiny of market practices and a possible review of the
regulatory framework to ensure the sector's resilience also in stressed market conditions.
More generally, through increased risk-taking and leverage, non-banks may currently be
contributing to the cyclical under-pricing of risks and the amplification of asset prices. If these
risks were to unwind in a disorderly manner, this could lead to funding flows drying up and affect
the funding conditions of the real economy more broadly. Moreover, distress in the non-bank
sector could spread to the banking sector as well, due to the strong links between the two. For
instance, euro area non-banks hold over one quarter of bonds and shares issued by euro area
banks.
I have argued in the past that, from a regulatory perspective, we need to establish at least two
lines of defence for evolving risks. First and foremost, the non-bank financial sector needs to
have solid prudential standards. But this will not be sufficient if risks evolve more broadly and
across institutions. We will also need an extension of the macroprudential toolkit to the non-bank
financial sector, in order to provide the authorities with the means to address risks at system
level. While the macroprudential framework for banks is relatively well developed and provides
authorities with tools to address cyclical and structural systemic risks, the framework for
nonbanks is still in its infancy and needs to be further developed.
There are substantial differences between banks and non-banks. When we look at financial
stability concerns in non-banks, we are looking less at the risk-bearing capacity of the individual
institution's balance sheet and more at the potential for contagion and shock amplification
through the system and amplification of the broader financial cycle. So the key risks that we look
at relate to liquidity, leverage, procyclicality and interconnectedness. A macroprudential
framework for non-banks would need to identify and address the key fragilities and externalities
stemming from the non-bank sector, and provide the appropriate tools for authorities to achieve
this in an efficient and effective manner.
Such a framework should support the beneficial role that non-banks play in financial
intermediation and ensure the sustainable development of non-bank financing. On a note of
particular relevance in a monetary union, it would thereby help reap the full benefits of a deep and
integrated European capital market. In this respect, the ECB continues to support the further
development and deepening of EU capital markets through the capital markets union (CMU), not
least in the light of the approaching exit of the United Kingdom.
The United Kingdom's departure from the EU's Single Market will, by its very nature, affect the
shape of Europe's future financial market architecture. Non-bank financing of the euro area
economy is no exception to this, particularly given the substantial role played by London as a
financial hub for European capital markets. Planning by the financial industry suggests that Brexit
may result in a substantial relocation of activity to a number of different euro area countries,
which may lead to a multi-centric European financial system. In a financial system with a number
of increasingly important hubs rather than one dominant centre in London, it will be more
important than ever that these hubs can interact with one another efficiently. This will require
policies that foster the integration of EU capital markets by addressing barriers to integration and
encouraging supervisory convergence. So Brexit is both a challenge and an impetus to our
pursuit of the ambitious plans laid out under the CMU.
Conclusions
Let me conclude.
The institutional architecture of the euro area has markedly strengthened in the last decade. With
important new institutions, we have seen more robust supervision of financial institutions and the
deployment of macroprudential instruments. This has contributed to strengthening our financial
system. But we still need to enhance the countercyclical use of our macroprudential instruments
by providing adequate macroprudential space to support robust lending and the real economy
throughout the cycle. Equally, we urgently need to develop and, where appropriate, deploy the
necessary macroprudential instruments for non-banks as well. Finally, we must also pursue the
ambitious plans laid out under the CMU to create a deep and integrated European capital market.
All of this will allow us to improve financial stability across the wide array of financial institutions
and markets that make up the financial system.
1
See the history of the construction of the ESM in: European Stability Mechanism (2019), Safeguarding the euro in
times of crisis: The inside story of the ESM.
2
Klaus Regling at press conference after Eurogroup meeting, Luxembourg, 14 June 2019:
www.esm.europa.eu/press-releases/klaus-regling-eurogroup-press-conference-19
3
For additional details on the risks, see ECB (2019), Financial Stability Review, May.
4
See Draghi, M. (2019), "Twenty Years of the ECB's monetary policy", speech at the ECB Forum on Central
Banking, Sintra, 18 June.
5
See Decision of the European Central Bank of 22 January 2014 amending Decision ECB/2004/2 adopting the
Rules of Procedure of the European Central Bank (ECB/2014/1).
6
In December 2016, the ECB's Governing Council issued a statement calling for the implementation of
legislative frameworks for borrower-based measures in all euro area countries.
7
On the basis of Article 458 of the CRR, Belgium has implemented a 5 percentage point add-on and a 1.33 risk
weight multiplier for exposures secured by domestic real estate assets, Finland has implemented a risk weight
floor of 15% on domestic real estate exposures, and Luxembourg has recommended a 15% floor on the same
exposure.
8
For a detailed overview of macroprudential measures, see the ECB's website (updated quarterly).
9
The CCoB is based on Article 129 and 160 CRD IV, transposed in national legislation. Exemptions for small
and medium-sized investment firms are possible. The CCoB is part of the combined buffer requirements to
which G-SII, O-SII, Systemic risk buffer and countercyclical capital buffer pertain.
10
See Darracq-Pariès, M., Fahr, S. and Kok, C. (2019), "Macroprudential space and current policy trade-offs in the
euro area", Financial Stability Review, ECB, May.
11
As of 30 June 2019, seven countries have announced the following rates: Belgium (0.5%), France (0.5%),
Germany (0.25%), Ireland (1.0%), Lithuania (1.0%), Luxembourg (0.25%) and Slovakia (1.5%). Buffer
requirements are implemented with a 12-month lag.
See Regulation (EU/2019/876) of 20 May 2019 amending Regulation (EU) No 575/2013 as regards the leverage
ratio, the net stable funding ratio, requirements for own funds and eligible liabilities, counterparty credit risk,
market risk, exposures to central counterparties, exposures to collective investment undertakings, large
exposures, report and disclosure requirements, and Regulation (EU/648/2012) (CRR II).
13
Excluding central banks.
14
See Fache Rousová, L and Giuzio, M. (2019), "Insurers' investment in alternative assets", box 9 of Financial
Stability Review, ECB, May.
15
For instance, Neil Woodford's Equity Income Fund, an equity UCITS fund which invests in supposedly liquid
assets, had to suspend withdrawals after large outflows. In other recent case, following concerns over asset
illiquidity, outflows accelerated from bond funds managed by Natixis-owned asset manager H2O affecting
Natixis' stock price.