yves mersch : strengthening the european financial industry amid disruptive global challenges speech by mr yves mersch, member of the executive board of the european central bank, at the european institute of financial regulation ( eifr ), paris, 3 september 2018. * * * europe ’ s financial industry still faces a number of challenges. its continued weak performance, with low price - to - book ratios and meagre profitability, is ample proof of that. some of those challenges – such as high levels of legacy assets, the need for deleveraging and the burden of stricter regulation – are a result of the financial crisis. but even before the financial crisis, the industry was facing pressure on various fronts, and those challenges are still there. in particular, fundamental technological change continues to call established business models into question. today, i will focus on disruptive challenges that are arising in a particular area of business : digital technology. such technology is becoming ever more important in banking and is opening the door to competition from non - banks in core areas such as payments. cascades of complementary innovations have already fundamentally altered the payment landscape, and european banks need to act now if they want to avoid losing out to bigger international players. the euro area has been very successful in providing a top - tier foundation for innovative payment services. however, this foundation has not yet been fully utilised by european players to provide true state of - the - art pan - european services. there is currently a window of opportunity for europe ’ s financial industry to make use of this top - tier infrastructure and the changing patterns in retail payments. but in order to seize these opportunities, it needs to avoid the mistakes of the past. laying the foundations the euro was introduced in 1999, with physical banknotes and coins following in 2002. however, that success was not matched by integration in the market for electronic retail payments in euro, with national solutions remaining disparate and lacking interoperability. while the establishment of target, the real - time gross settlement system for the euro, resulted in a fully integrated money market and wholesale payment market, cross - border retail payments in euro remained expensive, slow and inefficient, with no standardised way of making electronic payments across the euro area. for far too long, huge economies of scale remained unexploited. the ecb played a key role in laying the foundations for such standardised cross - border payments through the establishment of the single euro payments area ( sep

. the risk identified in the fsr is that market forces could compel banks to maintain higher capital ratios than necessary to guard against the possibility of worse economic outcome. this could lead banks to slow balance sheet growth, which would tighten lending conditions for both households and businesses and weaken the economy. ultimately, the financial institutions themselves would suffer from this self - fulfilling prophecy. given these concerns, the superintendent of financial institutions last month took the welcome step of giving canadian banks more flexibility by allowing them to raise the proportion of preferred shares that comprise their tier 1 capital from 30 per cent to 40 per cent. the lower absolute leverage of canadian institutions and the higher quality of their tier 1 capital should mean that they can expand lending faster than their international peers. the value of this virtually unique advantage of our economy should not be underestimated. the bank is working with its international counterparts to examine how the current regulatory capital framework may amplify fluctuations in economic and financial conditions. 7 under current rules, capital requirements are linked to the credit risk in an institution's portfolio. in an upturn, risk goes down, banks are required to hold less capital, and the growth of credit increases. the problem is that this can amplify swings in financial conditions and lead to the emergence of financial imbalances. recall the link between credit growth and future financial stress that i just mentioned. then, during the downturn when credit risk increases, banks are required to increase capital holdings, thus exacerbating the economic weakness and financial stress. this is the motivation for proposals to have capital requirements move procyclically. banks could be required to build up capital buffers during times of rapid credit expansion. this would strengthen their balance sheets and reduce the risk that financial imbalances will develop from overly easy financial conditions. during a downturn, banks could then draw down these buffers, which would reduce the need to liquidate assets or restrict loan growth at a time when credit conditions and asset prices are already under stress. in this way, capital requirements would moderate the ups and downs of the credit cycle – the reverse of what currently happens – reducing the risk of a future crisis. this macroprudential approach to capital requirements is tremendously important, but it is also complex, with a number of practical and logistical concerns. such a system could be accomplished by linking capital requirements to movements in credit - cycle indicators, such as loan growth and asset prices. for example, our research on the determinants