Italy Deal With EU to Help Reduce Banks' Bad Loans, Visco Says

  • Stock of bad loans held by Italian banks total $218 billion
  • Recent share volatility reflects concerns about asset quality

Italy’s deal with the European Commission on state guarantees for banks’ bad loans will help lenders reduce their stock of deteriorated debt, even though markets offered a skeptical reaction, Bank of Italy Governor Ignazio Visco said on Saturday.

The guarantee mechanism "will prove useful for facilitating the divestment of bad debts,” Visco, who sits on the European Central Bank Governing Council, said in a speech at the annual Assiom-Forex conference in Turin. “There has been mixed market reaction to the announcement of the agreement; a detailed analysis of its terms and effects will improve its reception.”

Ignazio Visco
Ignazio Visco
Photographer: Alessia Pierdomenico/Bloomberg

The European Commission agreed earlier this week on a plan to help Italian banks offload bad debts, ending months of negotiations on how to ease the burden on the nation’s lenders without breaching European rules. Banks will be able to bundle their bad loans into securities for sale, while purchasing a state guarantee for the least-risky portion to make the debt more appealing to investors.

The reduction of the stock of bad loans will take time, according to Visco, who said large volumes of bad debt “depresses market assessments of banks, makes bank funding costlier, and generates high capital requirements."

Bad loans held by Italian banks, which have been hit by record-low interest rates and a struggling economy, reached a high of 201 billion euros ($218 billion) in November, while including doubtful debt they hit 360 billion euros. Loan-loss provisions as a share of gross operating profit declined to 57 percent at the end of September from 70 percent a year earlier, with a coverage ratio at 45 percent, in line with the European average, the central banker said.

Italian banking shares have lost 23 percent this year, compared with a 15 percent decline in the Stoxx 600 Banks Index, on concerns about their credit quality. The slump continued even after Italy reached the agreement on Jan. 26 with the EU on the guarantee mechanism.

The volatility in Italian banks share trading reflects the international situation as well as concerns over asset quality, in part related to the “alarmist interpretation of a simple request for information by the ECB,” Visco said. Italian banks are “well capitalized” and profitability has started to improve.

Bail-In Rules

The rescue of four troubled banks in November also contributed to market turmoil because some bondholders of the institutions suffered losses, Visco said. The lenders’ bailout plan applied some measures of the Bank Recovery and Resolution Directive, known as BRRD rules, introduced in January.

Visco said the revision of European bail-in rules should have been made more gradually. The clause allowing a review of BRRD by 2018 is an “opportunity that must now be seized, drawing on the experience gained to date, to align European legislation more closely with international standards,” he said.