European banks see light at end of low-rates tunnel
European banks see light at end of low-rates tunnel
Low rates, money printing and a penalty charge for hoarding cash have been at the heart of attempts to reinvigorate the 19-country euro zone economy in the wake of the 2008-09 debt crisis.
But the policy has been politically divisive, prompting fierce criticism from famously thrifty Germans as the returns on savings in Europe’s biggest economy dwindled to nothing.
It also imposed a heavy cost on still fragile banks, turning deposits into a hot potato that many would rather avoid so as not to pay charges to their central bank for storing them.
Last year marked a new low, according to a survey by Reuters of 20 large European banks conducted in mid-February.
While seven in that group saw net interest income fall during 2015, that number increased to 12 in 2016, with the average dip more than 7 percent. That was steeper than the roughly 5 percent slip on average in 2015.
Such income is the difference between interest charged on, say, a loan and the cost of holding a deposit. It is a bellwether of earning power, closely watched by investors, and its decline bodes ill for the sector.
Many executives are now pinning their hopes on a change in direction for central banks given that rate hikes appear to be on the cards in the US this year — and ultimately a paring back of easy-money policies in Europe.
“It is usually the US that leads the pack,” said Charles Goodhart of the London School of Economics (LSE), a former member of the Bank of England’s (BoE) Monetary Policy Committee.
“If (US President Donald) Trump does manage to get an expansionary fiscal policy, there will be increases in interest rates,” he said, adding that the effect would also be felt in Europe.
Trump has pledged to stimulate growth in the world’s largest and most influential economy through a combination of heavy infrastructure investment and deep corporate tax cuts.
In December, the US Federal Reserve raised interest rates and signaled a faster pace of increases in 2017.
For European banks, the shift in rates cannot happen soon enough.
Lars Machenil, chief financial officer of France’s BNP Paribas, one of Europe’s biggest lenders, said the difference could be hundreds of millions of euros of extra income.
“The lowering of interest rates has had a negative effect on the top line. If that would be reversed, we would see something similar back ... but it will take time,” he said.
In 2016, Switzerland’s Credit Suisse saw interest income dip by about 19 percent, while at Germany’s Commerzbank and Deutsche Bank, it fell by about 13 and 8 percent respectively, the Reuters survey found.
UniCredit’s interest income dipped by about 6 percent. Spain’s Bankia saw a drop of about one fifth.
While successful in helping a brittle euro zone economy gradually revive from the debt crunch in the short term, zero or negative rates have, in the eyes of critics, struck at a central tenet of banking — lending on the back of deposits — and turned the principle of saving for retirement on its head.
There are signs that the struggle of frustrated lenders is being noticed in Frankfurt, seat of the European Central Bank (ECB).
Yves Mersch, a member of the ECB’s executive board, the nucleus of euro zone policy-setting, recently said it needed to take interest rate cuts off the table, which would mark a retreat from its policy of cheap money.
“How much longer can we continue to talk about ‘even lower rates’ as being a monetary policy option?” Mersch said.
Penalyzing banks for storing money makes holding deposits, traditionally the bedrock of any lender, more expensive, and this prompts some to steer savers toward fund products for which a fee can be charged.
UBS CEO Sergio Ermotti has warned that the world’s biggest wealth manager could pass on the cost to depositors if sub-zero rates persist. So far, only one Swiss bank, Alternative Bank Switzerland, has imposed such charges.
Another way around the problem is keeping deposits low and bolstering lending.
Sweden has generally done better in this respect than most. That is something that Barclays analyst Mike Harrison attributes to a lower average level of deposits, which cost a bank money if it cannot lend and must pay a penalty for storing them at the country’s central bank.
The ECB imposes a so-called negative rate equivalent to €4 annually on each €1,000 that lenders deposit with the central bank. Banks in Sweden and Switzerland, outside the neighboring euro zone, pay a similar charge.
“Swedish banks have managed best to avoid the impact of zero rates due to the fact that they held fewer deposits,” said Harrison. “That made it easier to earn a healthy margin on their loans.”
Swedbank, for instance, boosted its lending last year by 7 percent to about 1.5 trillion crowns, while its deposits from the public were roughly half that and rose more slowly.
The Netherlands’ ING and Sweden’s Swedbank, where lending outpaced the inflow of deposits, posted a roughly 9 and 3 percent increase respectively in such interest income, the Reuters study found.
Germany’s Commerzbank tried a broadly similar strategy, cutting deposits from corporate customers by about €22 billion. But the cost of penalty or negative rates still squeezed its income by more than €200 million in 2016 — roughly a third less than its net profit for the full year.
Michael Heise, chief economist with giant German insurer Allianz and a long-standing critic of cheap-money policies, believes relief is at hand.
“There is finally hope of a change in interest rates,” he said. “The tone among policymakers has changed. The evidence is clear. I think we could see rates rise next year.”
All-American banker heads back to the Kingdom
- "The implementation and execution of Vision 2030 will produce global companies for Saudi Arabia, and we can help in that process," said Citigroup CEO
- "The government has a lot on its plate and privatization takes a long time to set up. Privatization is one of those things that you only want to do once,”
If anybody deserves the description “all-American”, it is surely Mike Corbat, chief executive officer of Citigroup.
New England origins, a Harvard education, Ivy League American footballer and a Wall Street career are all evidence of the fact he was very definitely “born in the USA”, as is the in-bank nickname of “Clark Kent” — the alter-ego of Superman — due to his athletic physique and spectacles.
But last week Corbat was turning his mind away from the USA and toward Saudi Arabia, as the bank formally ended a 14-year self-imposed exile from the Kingdom with a ceremony at its new offices in Riyadh, symbolizing its return to the lucrative markets it first entered in the 1950s, among the first American banks to do business in the region.
Corbat took some time out of the day’s celebrations — a formal ribbon-cutting alongside Ibrahim Al Omar, governor of the Saudi Arabian General Investment Authority, and an elite dinner in the ballroom of the Four Seasons Hotel in Kingdom Tower — to talk exclusively to Arab News about Citi’s plans for the Saudi business at a time of rapid transformation in the Kingdom and the region.
“I am absolutely positive about the economic prospects for this region. We are in 13 countries here, with 2,500 employees, focusing on trade and business, with some consumer presence. The implementation and execution of Vision 2030 will produce global companies for Saudi Arabia, and we can help in that process. Citi can service some of their needs as they expand globally,” he said.
Citi withdrew from Saudi Arabia in 2004 in the aftermath of the 9/11 terrorist attacks in the USA, in a decision later described by executives as “a mistake.” Even before the enormous opportunities of Vision 2030 persuaded the bank it had to have a formal presence again in the Kingdom, and a license from the Capital Markets Authority (CMA) to pursue investment banking and other business there, the bank was back on the scene.
In 2015 it helped Saudi Aramco to raise multi-billion dollar loans, and advised the oil giant on Asian deals. The following year, which saw the formal unveiling of Vision 2030, Citi was involved in the groundbreaking $17.5 billion bond issue that marked the Kingdom’s debut on global capital markets.
Citi was back, but needed a CMA license to win more lucrative business in the big domestic economic transformation under way. That was finally granted in April of last year, and Carmen Haddad, a long serving Citi executive with extensive experience of the Middle East, was made head of the new Saudi operation.
“We’ve been at the front and center of the sovereign bonds drive Saudi has been doing for the past couple of years, and also with syndicated loans. But with the CMA license we can really show our worth. We can help with all future debt and equity transactions,” Corbat said.
Vision 2030 aims to reduce the Kingdom’s dependence on oil, but also to increase the contribution of the private sector to the national economy, and this is one area where Citi feels it can use its global experience. The bank has advised governments around the world on privatization strategies, and Saudi has a privatization schedule that ranks among the largest in history.
The timing and scale of the program is still unclear. Last year minsters put a value of $200bn on the program, but officials in Riyadh last week were talking more in the $60bn to $70bn range. And investors are still waiting for the first big sell-off of a state company. But Corbat insisted Citi would be ready to get involved when the time is right.
“Privatization is obviously a top priority of the Vision 2030 strategy, and we can bring our expertise to bear in this. I think it is right to take your time over something as significant as the privatization program. The government has a lot on its plate and privatization takes a long time to set up. Privatization is one of those things that you only want to do once,” he said.
By far the biggest element of the drive toward a more private sector-focused economy is the plan to sell shares in the Kingdom’s “jewel in the crown”, Saudi Aramco. Citi is among a small group of top global banks vying for business in the Aramco sell-off.
Originally planned as a big international initial public offering (IPO) by the end of this year, valuing the company at $2 trillion, doubts have begin to creep in over the valuation figure, and over the venue for what promises to be the biggest IPO in history. One suggestion is that Aramco will go only for a listing on the Tadawul exchange in Riyadh.
“I don’t know the timing of the IPO. Maybe they [the Saudi authorities] will want to start locally, in which case they have to be sure the capacity and liquidity are there,” Corbat said.
He believes that recent improvements to the market infrastructure in Saudi Arabia — which look set to see the country included in index provider MSCI’s widely-tracked Emerging Markets index from as early as next year — could make an “exclusive” IPO on Tadawul more attractive.
“The MSCI upgrade to emerging markets status will create more liquidity, and foreign investors will have to play their role,” he said.
“All the big reforms that have taken place on the Riyadh market recently have certainly made it a friendlier place for foreign investors. The CMA has been through more change than ever, and it’s a better place for that. The CMA over the past two years has proven to be progressive and consultative,” he added.
Citi found itself indirectly involved in the big anti-corruption campaign of last year, when their long-term partner and shareholder, Price Alwaleed Bin Talal, was among the businessmen detained in the Ritz Carlton hotel in Riyadh.
Corbat is reluctant to comment on the Kingdom’s internal affairs, though he did say that foreign direct investment would not be hit by the anti-graft drive. “I don’t think FDI has been or will be affected negatively by the anti-corruption campaign. Saudi Arabia is already the biggest economy in the region with only limited foreign investment. Imagine how far it could go with more,” he said.
On Alwaleed, he said: “He has been a shareholder since the early 1990s, and he has been a great shareholder, a loyal voice of support and reassurance. We’ve been fortunate to be able to count him as one of our shareholders. In all our dealings with him I’ve found him to be straightforward and transparent.”
Corbat was one of the top American executives who met with Saudi officials on the recent royal visit to the USA, intended in part to counter any adverse investor sentiment from the anti-corruption arrests, and was impressed by what he saw.
“The visit to the USA by the Crown Prince was extremely well received. The whole Saudi delegation impressed us with their drive and commitment to the transformation process. It was a very successful exercise for Saudi Arabia,” he said.
With 35 years at Citi under his belt, including responsibly for unwinding Citi’s “toxic” assets after the financial crisis, and wide ranging experience of the bank’s international operations, he is well placed to gauge global geo-politcal risk.
He sees some threat to the world financial system from the end of quantitative easing, which he called a “renormalization of the global economy”, and a more limited challenge to world economies from possible “trade wars” between the USA and China.
“I think it’s fair to say that if we did have a serious trade war, it would have an effect. But it would not be the end of trade. I think it’s more likely to redraw the trade lines of the world. Trade flows would move away from the big blocks and go through other areas, like Africa and other places for example,” he said.
On regional risks, always a factor in business and financial decisions in the Middle East, he said: “I think they are within acceptable limits and I don’t think they will go beyond that. The region is the leading center for oil and gas so what happens here has global implications,” he said, though with the caveat that the effects of a prolonged trade was on the “bookend” economies of the USA and China could have a negative impact on global commodity prices.
All-American Corbat may be, but Citi’s return to the Kingdom will just not be an exercise in stuffing US executives into the top jobs in Riyadh. The firm is committed to achieving 85 percent Saudi employment levels at its new office, and is already well on the way to achieving that.
“The market for talent in Saudi Arabia is extremely competitive, but we think we have a very strong appeal for candidates. We are very proud of our ability to invest in and train, and to improve home grown talent,” Corbat said.