European Central Bank predicts financial vulnerability in the next two years

Monetary policy measures taken by the European Central Bank in March, combined with better macroeconomic data, have helped restore market confidence. But, despite everything, the ECB is dealing with possible problems and risks. The ECB believes that low bank profits and global financial market tensions are fueling investor concerns.

European financial institutions are strengthening their balance sheets and building greater resilience to adverse shocks that have occurred in recent years. Despite this progress, cyclical and structural problems remain. Cyclical challenges relate to the weak economic recovery, while structural challenges relate to high operating costs and a large number of non-performing loans.

Risks could also extend to the real economy. Specifically, the sustainability of public debt remains a problem, despite relatively benign financial market conditions. What was recently unthinkable for Europe has happened: political risks have significantly increased in almost all eurozone countries in recent years. Greater political uncertainty could further delay structural reforms. The ECB has identified four systemic risks to financial stability in the next two years: Further increase in the risk of financial crisis, repeated market stress, and persistently low commodity prices. Weak profitability outlook for banks and insurers, with limited opportunities for banks to reduce non-performing loans. Growing concerns about debt sustainability and increased political uncertainty. 

The greatest danger to financial stability is in investment banking, where stress in the investment fund sector has intensified, as well as increased liquidity risk and contagion to the broader financial system, writes NAP.