The European Court of Auditors, the EU’s top body designed to improve financial management in the European Union, has criticised the European Central Bank for failing to properly supervise the 110 largest financial institutions in the Eurozone.
The ECA, based in Luxembourg, has told the ECB that it must beef up its oversight efforts to ensure that banks in the EU properly manage their credit risk, in particular borrowers failing to repay their loans. It published a report on 12 May that shows how important this is, because poor credit risk management by banks can undermine their viability and that of the whole financial system.
“However, despite increased efforts in supervising banks’ credit risk and problem loans, the ECB did not impose proportionately higher capital requirements on higher-risk banks,” said the Court. “Nor did it escalate supervisory measures sufficiently when banks showed persistent weaknesses in credit risk management.”
Since 2014, the ECB directly supervises around 110 significant banks in 21 EU countries, those using the euro and Bulgaria. Collectively these entities carry around 70 to 80 percent of the assets in the Eurozone’s banking system. The ECB has the powers to impose extra capital requirements on banks to cover identified risks, and impose corrective measures to reduce these risks.
‘Challenging economic conditions’
“To avoid bank failures due to poor credit risk management, the ECB should ensure that banks manage credit risks soundly,” said Mihails Kozlovs, the ECA member in charge of the report. “This is crucial given the importance of trust in the banking sector and the challenging current economic conditions.”
The auditors concluded that the ECB’s assessments of the banks’ credit risks and controls were generally of good quality, despite some shortcomings. “However, the ECB does not use its tools and supervisory powers efficiently to ensure that identified risks are fully covered by additional capital, or to instruct banks to better manage this risk,” it said.
The auditors concluded that the ECB has not consistently applied the regulatory minimum levels of capital a bank must hold. It said that the ECB did not impose proportionally higher requirements when banks faced higher risks, meaning that risks are not clearly linked to the requirement imposed. ECA noted that, for the highest-risk banks, the ECB consistently selected requirements at the bottom of the predefined ranges. Furthermore, the auditors saw a pattern of the ECB failing to sufficiently escalate supervisory measures when credit risk was high and sustained, and control weaknesses persisted.
The auditors also criticised the lack of staff – both from the ECB and national supervisors – working on bank supervision and said that the ECB did not systematically use its supervisory powers where banks did not have sound processes and data for identifying and measuring non-performing loans.
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