Bank of Italy Letter Slams `Arbitrary' ECB Over Capital Demands

A sign sits outside the entrance to the Banca d'Italia, Italy's central bank, in Rome

A sign sits outside the entrance to the Banca d'Italia, Italy's central bank, in Rome

Photographer: Alessia Pierdomenico/Bloomberg
  • Italian SSM board member says ECB capital calculation flawed
  • Letter to ECB's Nouy says capital rules 'jeopardize recovery'

The European Central Bank risks criticism for “unwarranted” and “arbitrary” decisions over higher capital requirements for euro-area lenders that could harm the fragile economy, according to a letter written by Fabio Panetta, Italy’s member of the ECB’s Supervisory Board.

Fresh bank-specific capital requirements set by the ECB for the region’s 120 biggest banks have been calculated according to criteria that overlap with last year’s Comprehensive Assessment and, as such, don’t justify the increases being proposed, Panetta wrote to the ECB’s head of supervision, Daniele Nouy, in a letter dated Aug. 25 and seen by Bloomberg.

Within its first year as banking supervisor for the 19-nation euro area, ECB officials have pushed for better loss-absorbing capacity across the board, after a financial crisis that shattered confidence in the industry. The central bank is currently finalizing the annual Supervisory Review and Evaluation Process, which contains higher discretionary capital requirements for many of the banks under its purview.

“A significant increase in capital requirements at the current juncture could jeopardize the recovery,” Panetta, who represents the Bank of Italy on the ECB’s Supervisory Board said in the confidential letter. “Indeed, monetary policy in the euro area is currently striving to fight this risk and to restart lending. An unwarranted, generalized tightening of capital targets would be at odds with such effort.”

National Conflicts

Spokesmen for the ECB and the Bank of Italy declined to comment on the letter. Panetta said in the letter that there is a “strong need” to start a review of the process that could involve the Governing Council, the ECB’s highest decision-making body.

Italy’s challenge to Nouy’s supervisory authority comes while Germany is casting aside objections by Nouy, her deputy Sabine Lautenschlaeger and ECB President Mario Draghi against a new law that will put crucial rulemaking under national control. The Bundestag, the lower house of Germany’s parliament, is set to enact an amendment to the banking act, under which the Finance Ministry in Berlin will be able to issue rules on banks’ recovery plans and risk management, rather than delegating them to the ECB.

Lautenschlaeger had criticized the deal as keeping alive a “supervisory patchwork,” fostering fragmentation and undermining the ECB’s authority. Yet Germany made only minor concessions, granting the ECB the right to be heard in some cases.

Argument Backfires

Panetta challenged the premise for raising bank-specific capital requirements in the SREP being conducted this year, saying that many of the criteria used in the procedure, including credit-quality, financial risk, profitability, cost of funding and sovereign exposures, had already been covered and didn’t warrant extra discretionary capital.

“The risk assessment system used in the SREP largely relies on risk sources analyzed also in the CA,” he wrote. “So this argument, if used to justify an additional increase in capital requirements to the general public, would backfire,” he said.

Based on the proposed SREP ratios, the euro area’s most significant banks would face an average increase in common equity Tier 1 requirements of 60 basis points -- 10.31 percent versus 9.71 percent -- from 2014 levels, said Panetta.

“Observers would be induced to think that the SSM indulges in arbitrary decision-making, with insufficient regard to transparency and accountability, and that our stress-testing methodology is flawed because it takes into account only some of the relevant risks,” Panetta said. “Indeed, it would be very difficult to communicate that our decision on banks’ capital ratios could change every time we use a different analytical tool.”

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