The best way to gauge what might go wrong in the banking system is casting a look at the detailed figures presented to the US Securities and Exchange Commission. You will hardly find a better source of potential troubleshooting.
Annual accounts and prudential reports all too often indulge in self-complacency. When it comes to openly expose risks, only the Dodd-Frank Act provides the right kind of deterrence forcing banks to undertake full disclosure. For all the efforts deployed by Europe in delivering high level standards, it lacks a similar power for implementing effective control.
Take for instance the Santander Group. If you want to know its Cyprus exposure the only reliable source is the SEC reporting. The same applies to its portfolio subject to restructuring and refinancing. According to 2012 figures, the non-performing loans (NPL) accounted for €36 billion, a 4.5% ratio mainly stemming from Spanish operations. But this figure doesn’t embody the credits being rescheduled to provide a better chance to clients in paying back their dues.
Restructuring debts undoubtedly stand as a usual pattern risk managers undertake to upgrade final recovery. But when resorting to such a device amounts to a staggering €56 billion, questions on solvency are inevitably raised. Even if more than half of that figure is being recycled to normal credits, you still end up with €18 million of doubtful debts with only a 43% coverage.
The Bank of Spain tough line on refinancing is likely to force extra new provisioning. Especially in entities where that practice was developed with little precautionary measures. Thus, the forthcoming test has the potential to induce extensive losses heavily hitting solvency ratios. If one of the best performing banks, such as Santander, is bound to endure a hard medicine in redressing its record, the final bill might destabilise a number of hard hit entities.
The Spanish banking system is faced with formidable challenges in times where the dwindling economy fails to provide any substantial comfort. The rapidly increasing bad loan ratios have hitherto been masked by massive refinancing. When the refinancing cleaning up is over, damage to balance sheets could put more than one credit institution at odds.
The more so as more demanding hurdles wait in the pipeline. The European Banking Association stress test to be conducted later on will exert further pressure. But the real danger lies in the European Central Bank stringent requirements to take over common supervision in the EU. Before going down that road, it will closely scrutinize every of bank in an attempt to avoid taking over any legacy black hole. All European banks will face a rough time ahead. The more so in countries like Spain where current recession is badly hitting inner solvency. For all the merits of the Banking Union, waiting for better times could be the most appropriate answer.