ECB sticks with thrust of bad-loan plan amid Italian opposition

[FRANKFURT] The European Central Bank is sticking to the substance of its plan to toughen bad-loan rules for euro-area banks, while making some adjustments in response to a barrage of criticism from Rome and Brussels, according to people with knowledge of the matter.

The ECB was accused of overreach in its recent proposal to hold banks to firm deadlines for writing down loans that turn sour.

Daniele Nouy, the central bank's head of supervision, has said that the wording of the plan will be improved and some concessions could be made. But the core of the plan will remain in place, the people said, asking not to be identified because the deliberations are private.

The draft guidance requires banks to provision fully for loans that turn sour from the start of next year according to a calendar: two years for unsecured non-performing debt and seven years for secured.

Many of the 19 countries represented on the ECB Supervisory Board support a similar approach to existing bad debt, though they're mindful of the potential economic damage that could result from forcing banks into rapid writedowns, the people said.

Nicolas Veron, a senior fellow at Brussels-based think tank Bruegel, said that despite the criticism, the ECB's supervisory actions on non-performing loans (NPLs) "will be largely aligned with the initial proposal, and that's good".

He also said the ECB needs to work on its communication skills.

"On individual banks, they must give those wooden answers, but on policy issues it's a bit different," Mr Veron said.

"They should engage, they should consult, they should know their audience. They shouldn't be surprised by such a reaction."

An ECB spokesman declined to comment.

The ECB's draft guidance was published on Oct 4. Officials in Italy, whose banks are weighed down by 318 billion euros (S$511.13 billion) of bad loans, lined up to challenge it, with Finance Minister Pier Carlo Padoan warning that forcing banks to dispose of soured debt too quickly could "derail" a recovery in the country's financial system.

Italian banks have underperformed their European competitors since the ECB's plan was announced.

The European Parliament joined the pushback, led by its Italian president, Antonio Tajani, who said the ECB had proposed measures applying to all banks under its supervision, a power reserved for lawmakers.

Ms Nouy has consistently disputed this claim. Last week, she said again that the ECB was setting out "supervisory expectations" with "no automatic actions attached to them."

The guidance "provides the basis for a structured dialogue with each individual bank," she said.

The draft guidance for future nonperforming loans will be the subject of a public hearing on Nov 30. The ECB is accepting comments on the proposal until Dec 8.

Ms Nouy has said the wording of the guidance will be improved to clarify that it will be applied on a bank-specific basis. The Jan 1 start date could be moved back if the ECB needs more time to process feedback it receives during the public comment period. And she conceded that the comply-or-explain approach set out in the proposal "is probably not the right concept to be used in this context".

The backlash against the ECB's proposal on future nonperforming loans may have been an attempt to bully the supervisor into toning down the measures under consideration for banks' soured-loan stock, the people said.

ECB supervisors discussed the need to extend the guidance to the stock when they signed off on the proposal for new bad loans at a meeting in October, said the people. Still, the options for the stock haven't been formally discussed and no decision has been taken, they said.

Options for adapting the guidance to existing debt include a phase-in for provisions on loans that are overdue and haven't been sufficiently written down, the people said.

Another variant would stretch writedowns over a longer period than foreseen for new nonperforming loans. A third would use the provisioning calendar as a last-resort punishment for laggard banks. The criteria could also be applied only to parts of a bank's loan portfolio, one of the people said.

ECB president Mario Draghi and other EU authorities are prodding banks to sell or wind down the bad debt choking their balance sheets to spur lending and support economic growth.

The central bank insists it can't solve the problem on its own, and that laws need to change to allow banks to access collateral on delinquent debt more quickly.

The European Commission earlier this month began its own consultation process on "common minimum levels of capital that EU banks must set aside to cover incurred and expected losses on newly originated loans that turn nonperforming". This followed the release of an action plan agreed on by EU member states in July.

"Despite all the progress, we'll be dealing with the NPL issue for a while longer, this is far from over," Korbinian Ibel, a director general at the ECB's single supervisory mechanism, said last week.

"There's a lot that needs to be done which is outside the supervisor's remit but very much that of the legislator. That's the only way banks can quickly and forcefully reduce NPLs over the long term."

BLOOMBERG