Greek Business File, September-October 2020, No 127
by Dimitris Kontogiannis
Increased cheap funding from the European Central Bank (ECB) has enabled Greek banks to deal with challenges to their profitability from the Covid-19 crisis. Borrowing from the ECB has rocketed to more than 14 percent of their banking assets in July from about 3.0 percent at the end of 2019. On the other hand, the large stock of bad loans and the recession have made it harder for banks to extend a similar amount of loans to the private sector. Therefore, they prefer to make an easy profit by buying government bonds funded with negative interest rates from the ECB.
The local banks are getting paid to borrow from the ECB, boosting their profitability by taking advantage of the ECB’s move in April to accept Greek government bonds as eligible loan collateral, despite their “B1-stable” non-investment-grade rating. The ECB pays the eurozone banks to lend them up to minus 1 percent.
Greek banks increased their ECB funding to about 36.8 billion euro in July April, around 14.1% of Greece’s total banking assets, from 12.4 billion in March and 8.1 billion euro or just 3.0 percent of total assets in December 2019.
Part of this liquidity has been channeled into the real economy by providing loans. According to the Bank of Greece figures, the local credit institutions extended 4.0 billion euro loans to businesses during the March-June 2020 period. The interest rates charged on these loans remained elevated. Local banks estimate they will be able to provide loans up to 17 billion euro this year, part of them guaranteed by the state and EU funds.
The high level of problem loans and their anemic profitability along with a weak demand for credit from creditworthy clients-businesses and households- does not allow the transmission of funds from the ECB to the real economy via the local credit institutions. The situation has become worse by the economic recession brought about by the novel coronavirus pandemic.
Greek banks use their ECB funding at negative rates to shore up their net interest income (NNI). The local credit institutions face no restrictions any longer on the quantity of Greek government bonds they buy. Their funding position has also improved markedly due to deposit inflows which have proved resilient during the first half of the year. Their enhanced liquidity position allowed them to reduce exposure to the interbank repo funding where costs had risen due to the pandemic.
According to HSBC, local banks can take advantage of arbitrage opportunities by borrowing from the ECB in the context of TLTRO-3 at an interest rate of minus 1.0 percent for the first year and buy Greek bonds carrying a positive interest rate of 1.0 percent or more, locking a spread of about 2.0 percentage points. Moreover, they can lend to state-controlled companies at an interest rate of about 3.5 percent. HSBC estimates ECB borrowing will add 13 basis points to their net interest income in 2020. It is noted 100 basis points equal one percentage point.
Overall, the banks take advantage of ECB funding to make a profit by mainly investing in Greek government bonds and secondarily providing loans with state and EU guarantees to the private sector. This has helped the country tap the markets at lower interest rates but it does not do much to alleviate the liquidity problems facing many businesses in the midst of another severe economic downturn.
Nevertheless, the coronavirus-related economic recession and market disruption is expected to further shrink lending opportunities and erode fee and commission income. In the financial results of the first quarter, the four major banks, namely Alpha Bank, Eurobank, National Bank of Greece and Piraeus Bank, reported 16.3 billion euro in loans that had been granted monthly installment deferral in line with state programs aimed at coping with the economic consequences of the Covid-19 pandemic.
The loan deferrals, involving the postponement of principal repayments for up to six months and requiring borrowers to continue paying interest, amounted to about 16 percent of performing loans in the system on average according to Moody’s. Eligible loans involved borrowers whose loans were performing before the pandemic and were adversely impacted by the government's lockdown measures. The loans were mainly small business loans, corporate loans and retail mortgages to borrowers operating in sectors highly affected by the lockdown such as tourism, hospitality and transport.
Analysts have warned and bankers agree in private that the loan deferrals constitute an additional risk to the asset quality of their books because a good number of these borrowers may default on their loan obligations when the scheme of deferred payments ends. The European Banking Authority has given instructions on the treatment of non-borrower-specific moratoria in light of coronavirus-related measures that should avoid classifying them as nonperforming exposures (NPEs) at this point. However, their potential conversion to an NPE in 2021 or beyond will undermine the decrease of problem loans in the last few years. The ratio of NPEs to total gross loans for the banking system stood at around 40 percent at the end of the first quarter.
Before the outbreak of the pandemic, the Greek banking sector was progressing well with the asset-quality clean-up by selling problem loans, write-offs and restructuring. The banks were planning to bring the NPL ratio to below 20 percent by end-2021, mainly counting on large securitizations of problem assets this year following the approval of the Hercules Asset Protection Scheme (APS).
“The provision of state loan guarantees, interest loan subsidies and support to affected individuals and businesses by the Greek government will also mitigate near-term asset-quality deterioration. However, large credit losses could eventually materialise if the economic fallout from the current crisis is long lasting,” said Fitch Ratings. “A state subsidy program for mortgage loans linked to primary residences, which is likely to cover loans up to 1 billion euro and involve diligent borrowers, will assist borrowers in meeting their loan payments until the effects of the pandemic subside,” added Moody’s.
Eurozone banks, including Greek ones, have been allowed by the ECB to operate temporarily below the capital conservation buffer and to use capital instruments that do not qualify as common equity Tier 1 (CET1) capital, such as additional Tier 1 or Tier 2 instruments, to meet the Pillar 2 requirements. This gives banks more leeway to make loans and help the economies get out of the coronavirus-induced slump but the Greek credit institutions are highly vulnerable to further asset-quality deterioration, their weak capacity to generate earnings and the sub-optimal composition of their capital base with more than half in deferred tax credits (DTCs).