Press release

2014 business lending growth revised down in the face of AQR

London, 31 March 2014

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The forecast for business lending growth in the Eurozone in 2014 has been revised down for the second time this year. It has fallen from 1.6% to just 0.5%, as the near-term effects of banks preparing for the Asset Quality Review (AQR) hit home, according to the EY Eurozone Financial Services Forecast (EEFSF). The baseline forecast is for lending growth to accelerate in 2015, this assumes a small capital shortfall as a result of the AQR.


  • Further reductions of business and consumer lending possible, affecting prospects for sustained economic recovery in the Eurozone

However, modelling of more adverse scenarios shows that forecast for economic growth is vulnerable to any impact the AQR might have on bank lending. The EEFSF model shows that a constraint on lending of 0.4% or more would weaken the forecast for Eurozone GDP growth in 2015. Further EY analysis suggests that any capital shortfall larger than €60b would result in a constraint on lending of at least 0.4%.

Andy Baldwin, EY’s Global head of Financial Services, says: “Given how dependent consumer spending and SME financing are on bank lending in the Eurozone, the AQR could have a material economic impact. The hope is that it clears the decks for banks to support more sustained growth, but, if there is a large capital shortfall, the AQR could deliver a material knock – not enough to drive the region back into recession, but enough to prolong low growth or stagnation. The possibility of a further slowdown in bank lending to the real economy only makes it more important for European governments to stimulate long-term funding from other sources.”

Uncertain AQR outcome hangs over growth forecast for Eurozone economy

Estimates of the Eurozone banks' capital deficit post-AQR now range from €50b to €300b. The EEFSF baseline forecast assumes that the capital shortfall is towards the lower end of this range, in which case there would be no significant effect on bank lending. In this baseline scenario, business lending is forecast to grow by 3.8% and consumer credit is expected to grow by 2.9% in 2015, supporting real GDP growth of 1.4%. This outlook is supported by the fact that non-performing loans are forecast to fall from their  peak of 8% of outstanding loans in 2013 to 7.6% by the end of 2014 and 6% by the end of 2015.

However, if the capital shortfall is any more than €60b, there will be a significant enough knock-on effect on business and consumer lending to damage economic growth. At a shortfall of this size, analysis by EY indicates that the forecast for business and consumer lending growth would be constrained by 0.4%; modelling of the impact on the economy using the EY Eurozone Economic Model shows that this would result in a 0.1% reduction of GDP growth.

If however, the shortfall was to hit the middle of the current range of market estimates, it is estimated that forecasts for business and consumer lending would be revised down by 1%. The knock on effect on Eurozone GDP would be a reduction of 0.3%, pinning growth back to an anaemic 1.1% in 2015.

And in the most extreme scenario, if the capital shortfall were to hit to the very top end of the current range of estimates, it is estimated that forecasts for business and consumer lending would be revised down by 2%. The knock on effect on Eurozone GDP would be a reduction of 0.7%, halving GDP growth to 0.7% in 2015.

Tom Rogers, senior economic adviser to the EEFSF, comments: “Following two years of decline, the Eurozone has now returned to growth. The pace of economic recovery is expected to gather slowly - we forecast very modest growth of 1.4% for 2015, which is supported by relatively healthy growth in lending to business and consumers and rising global demand for exports. However this recovery remains vulnerable. In an adverse scenario, where the AQR demands a large enough capital shortfall to reduce lending growth by 1%, we would expect GDP growth to take a hit.”

Robert Cubbage, Banking and Capital Markets leader for EY in Europe, Middle East, India and Africa (EMEIA), comments:  “No one can accurately predict the impact of the AQR or how banks will react to a capital shortfall. But the near-term effects of this spring-cleaning on lending are already having an impact. True, lending growth is expected to strengthen next year, but overall, it is increasingly uncertain that Eurozone banks will be able to achieve pre-crisis levels of credit growth in the foreseeable future. In fact, many remain under pressure to exit non-core businesses and reduce their overall leverage. So it is likely that some banks will adapt their business models by providing less direct lending to corporate customers in favor of advising them on accessing finance from a range of different sources.”

Eurozone AUMs will grow by 24% to €6,051b by 2018

Inflows into European funds will continue amid the ongoing investor retreat from emerging markets, and in 2014 Eurozone AUMs should have another year of solid growth at around 7%.

Over the medium term, the Eurozone remains well placed to continue attracting assets from other global regions and Eurozone AUMs are forecast to grow by 24% over the next five years, to reach €6,051b by 2018.

Should the shift into equities ring alarm bells?

The recovery continues to attract capital into European equities. As in the US, this trend is being mirrored by a widespread withdrawal from bond markets. The Eurozone’s ratio of equity funds to bond funds, which stood at 100% at the start of 2013, is predicted to reach 129% by the end of this year and 140% in 2015.

Roy Stockell, EMEIA & Asia-Pac Asset Management Leader asks: “Should this level of inflows be ringing alarm bells? Some of the current interest in European equities reflects the recent emerging markets retreat and is unlikely to be sustainable. And several large European asset managers have recently changed hands. In the past this has sometimes been an early indicator that equity values are reaching their peak.

“For now, we see no reason for concern. With the major Eurozone economies all expected to grow in 2014, the prospects for European company profits are growing brighter. Recent M&A activity involving asset managers seems to owe more to banks’ capital needs than to overvalued equity markets.” 

Reality of Solvency II in a low-growth, low-interest rate environment is challenging

Life insurance premiums are only recovering very slowly across Europe at 4.1% this year, 3.8% next year and under 3% per annum until 2018. This reflects the squeezed household incomes and high unemployment that characterize many markets. The low-interest rate environment is particularly challenging for life business. German and Dutch insurers are particularly exposed to the low-yield environment due to the relatively high proportion of products with guaranteed yields sold in these countries.

Non-life premiums are growing slightly faster than before at 2.4% in 2014, but this conceals significant variations and volatility.  For example, since the start of the year growth forecasts for 2015 have been upgraded for Germany, but downgraded for France.  And the increased frequency and severity of natural catastrophes will continue to threaten the profitability of non-life insurers, with cost for related reinsurance coverage rising in most markets.

Andreas Freiling, Insurance leader for EY EMEIA says: “For most Eurozone insurers, adapting their business models to a post-Solvency II world is likely to be much harder than meeting the required standards for capital, disclosure and reporting. The task is made more urgent by the low growth, low interest rate environment facing the industry.”

“Life insurers are responding to current market conditions with increasing interest in assets that offer attractive but acceptable risk-return profiles. Many firms are being drawn to debt backed by real estate or infrastructure assets. A handful are also dipping their toes into direct corporate lending, but their natural caution means that this is unlikely to represent anything more than a small proportion of total assets.”

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Notes to Editors

About the EY Eurozone Forecast

The forecasts and analyses presented in the EY Eurozone Forecast are based on the European Central Bank’s model of the Eurozone economy. This model embeds state-of-the-art economic theory and techniques and is used by the ECB to produce its quarterly forecasts of the euro area.

Assumptions made in the calculation of the economic impact of a capital shortfall resulting from the AQR

It is very hard to accurately predict the impact of the AQR or how banks will react to a capital shortfall. However, in order to model the effect a capital shortfall would have on bank lending, EY has made some assumptions about the amount of capital banks would raise through constraining their balance sheets and a judgment on how much of the lending could be picked up by the rest of the market (those banks not involved in the AQR exercise). We have fed these assumptions into the EY Eurozone economic model and we believe the results give a reasonable indication of the range of potential outcomes.

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