The European Central Bank and the Bank of England said regulators must support and promote the asset-backed bond market, ensuring that rules to safeguard the financial system don’t unnecessarily impair the securities’ use.
Officials “responsible for the regulatory treatment can change incentives to participate in the ABS market,” the central banks said in a joint paper published today. “It would be important that the authorities seek to ensure that new regulations at global and EU levels do not act to the detriment of the securitization market.”
The European Union’s 1.5 trillion-euro ($2 trillion) asset-backed securities market has taken center stage as ECB President Mario Draghi considers a plan to ward off deflation through quantitative easing. Policy makers have pushed to make it easier for banks to create the debt, putting them at odds with international regulators wary of complex products because of the role they played in the global financial crisis.
Today’s paper said rules to address shortcomings in the assets revealed by the turmoil may be “unduly conservative.” The statement was prepared for central bank officials and finance ministers from the Group of 20 nations gathered in Washington for an International Monetary Fund meeting. It assesses the current state of the market in the EU, and says a “longer, more substantive” joint paper will be published in May.
Draghi signaled last week that ECB policy makers are discussing a QE program that may include a mix of public and private debt. That would bolster a market he once described as “dead” and help rekindle euro-area lending that has been contracting for almost two years.
“The ‘high-quality’ segment of the securitization market should aim to be more resistant to market stress, thereby providing banks with a resilient form of funding,” according to today’s statement. “But it is also important to support more junior tranches of safe and robust securitization,” and officials should improve availability of data and analytics to improve standards and broaden the investor base, it said.
Draghi told reporters on April 3 at his monthly press conference that the ECB could access a bigger pool of securitized bank loans if only there was a more liquid market in which to do so. The total stock of outstanding loans in the euro area was 17 trillion euros at the end of 2013, according to ECB data.
“If we are able to have these loans being correctly priced and rated, and traded, like it would happen, like it used to happen in the ABS market before the crisis, then we naturally have a very large pool of assets,” Draghi said.
ECB Vice President Vitor Constancio reiterated the idea yesterday in Washington.
“Private assets will be included in any decision that may be taken” on QE, he said. “That would make a slight difference with other policies in other central banks.”
The 1.5 trillion euros of outstanding ABSs in the EU is about one quarter of the size of the U.S. market, the document shows. Since its peak in 2009, the outstanding amount in the EU has decreased by a third, or 750 billion euros.
Sales of asset-backed securities fell to $102.5 billion in Europe last year, down from $449 billion in 2007 and less than the $174 billion of issuance in the U.S., according to data compiled by JPMorgan Chase & Co. Many of the ABSs created by euro-area lenders are pledged as collateral against central-bank liquidity, and so would be unavailable for any ECB purchase program.
Andy Haldane, the BOE’s executive director for financial stability who will become chief economist from June, said earlier this month that the institution intends to “support actively” initiatives internationally for ABSs and in Europe to design securitizations that would fit in this new class.
“If successful, the prize for regulators and asset managers is a big one,” he said.
“The regulators have been particularly punitive on ABS due to the experience of the crisis, but there is a growing appreciation of the merits of securitization because it provides a direct link to the real economy,” said Ruben van Leeuwen, an analyst at Rabobank Groep in Utrecht. “It can help fund mortgages or auto loans, which is especially important now with bank funding channels blocked.”
One roadblock to the market’s development comes from proposed regulations that don’t distinguish between performance of “simple and prudently structured ABS” and “more complex, opaque” securities, today’s paper said. Uncertainty about the outcome of rules is affecting investors’ willingness to participate in the market, it said.
The EU, while recognizing the need to boost the market, is still wary of the downsides. The complicated structure of the products can obscure the true riskiness of the underlying assets. That happened with ABSs backed by the U.S. sub-prime mortgage market, which led to them being blamed by regulators for sparking the financial crisis.
“We won’t forget what happened,” Michel Barnier, the EU’s financial services chief, said in an interview on April 2. “The key thing is to come up with very strict, rigorous, transparent and simple criteria.”
The Basel Committee on Banking Supervision has been grappling with how to set capital rules for asset-backed debt since the collapse of Lehman Brothers Holdings Inc. in 2008. Its proposals published in December would constrain banks’ ability to minimize the capital they must hold to absorb losses on asset-backed debt. The group has said that the rules would be “more stringent than under the existing framework.”
Banks attacked the proposals, saying they risk choking securitization while clashing with efforts to boost lending.
“Left unchanged, the proposed rules would substantially reduce the incentives for banks to participate in securitizations” and could hamper “the availability of affordable credit to the wider economy,” Deutsche Bank AG, Europe’s biggest investment bank by revenue, said in its public response to the Basel group.
Lending to companies and households in the euro area has contracted since May 2012, when the economy was mired in its longest-ever recession. Economic expansion resumed in the second quarter of last year and the ECB predicts growth of 1.2 percent this year, accelerating to 1.8 percent in 2016.
There “is more room to maneuver than is generally recognized” for granting high-quality securitizations favorable regulatory treatment, Yves Mersch, a member of the ECB’s executive board, said in a speech this week. “What is key however is that action is taken soon.”
To contact the reporters on this story: Jennifer Ryan in London at firstname.lastname@example.org; Jana Randow in Frankfurt at email@example.com; Alessandro Speciale in Frankfurt at firstname.lastname@example.org