2012-09-04 08:46:15 - New Financial Services market report from Business Monitor International: "Italy Commercial Banking Report Q3 2012"

BMI View: Emergency liquidity measures provided by the ECB and the Bank of Italy have staved off the threat of an immediate liquidity crisis, providing the banking sector with a window to restructure, although large purchases of government debt have increased the sector's exposure to the eurozone crisis. We expect credit growth to contract by 1.5% in 2012 as the Italian economy sinks into recession and banks seek to boost their capital buffers. Furthermore, the banking sector's increased government debt holdings increase its exposure to the eurozone crisis. We expect credit to contract by 1.5% in 2012 and grow by just 0.1% in 2013 as the economy sinks into recession and banks seek to increase their capital buffers. We forecast

Italian GDP to shrink by 1.4% in 2012 as Prime Minister Mario Monti implements austerity measures and a wider eurozone recession weigh on exports and investment. Non-performing loans (NPL) have already increased from 5.8% of total assets in January 2011 to 6.9% in January 2012, a trend we expect to continue for the rest of the year. This will weigh on credit growth as banks boost their capital buffers to digest rising NPLs. Banks will also be eager to build up capital to improve their risk profile. Although most major Italian banks have met Basel II's minimum capital requirement of 8% of risk-weighted assets, capital ratios remain below the European average. The two largest banks by asset size, Unicredit and Intesa Saopaola, Italy Commercial Banking Report Q2 2012 © Business Monitor International Ltd Page 25 have tier 1 capital ratios of 10.0% and 11.5% respectively, compared to the EU average of 12.3%. Doubts about Italian bank asset quality - rising non-performing loans (NPLs) and large holdings of Italian government debt - will further increase the incentive to boost capital in 2012. In addition to rising NPLs and increasing capital buffers, credit growth will be constrained by liberalisation measures taken by the Monti government that cap bank charges, thereby reducing bank profitability. The preponderance of small- and medium-sized businesses in the Italian economy is also likely to intensify the contraction in credit growth because banks typically prefer to lend to large firms in times of uncertainty. Little Threat Of A Banking Crisis In 2012 Although banks face a difficult 2012, ECB and Bank of Italy (BI) liquidity provisions have removed the immediate threat of a funding crisis. The BI announced that Italian banks drew on EUR139bn at the February LTRO, having tapped over EUR100bn at the December round. We expect banks to use these super-cheap three-year loans to rebuild capital and help cover their funding requirements for 2012. In addition, we believe that the BI has taken a much more active role in providing liquidity to the banking system. The ECB granted the BI an Emergency Liquidity Assistance (ELA) facility that allows it to provide the banking system with funds. The BI lent heavily to the banking system between October 2011 and January 2012, when the sovereign debt crisis engulfed Italy, to prevent a credit crunch caused by capital flight. Deposits at Italian banks fell an average of 3.8% year-on-year (y-o-y). The sharp increase in the BI's holding of financial institution securities, used as collateral against lending to banks, over this period (up 59.4% y-o-y in January alone) reflects this new role. Following an ECB announcement in February 2012 about a further relaxation on the collateral that several national central banks (including the BI) could accept, we believe that Italian banks are safe from a funding crisis in 2012. Banks And Sovereign Bound Tighter Together However, Italian banks have parked significant amounts of their LTRO borrowing in Italian government debt, increasing their exposure to the sovereign debt crisis. The banking sector's government bond holdings rose by 7.4% in December and again by 14.3% in January. February and March are likely to have seen further increases. While we believe that Monti has significantly improved Italy's fiscal trajectory, the Italian government's large funding needs and the fact that reforms to the country's chronically uncompetitive economy have only just begun, leave Italian government debt vulnerable to another spike in yields. Mark-to-market rules would then force Italian banks to book losses on the portion of their government debt holdings that they haven't characterised as holding to maturity. Given that we believe the crisis has yet to be definitely resolved, there is a significant risk that banks could be forced to cut lending further as they rebuild their balance sheet (see our online service, March 21, 'The Future Of The ECB: An Emerging Monolith


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