Dutch banks after five turbulent years
|Date||11 October 2012|
Turbulent financial and economic conditions have brought changes the Dutch banking industry since 2007. As a result of the credit crisis and the split-up of ABN AMRO, the industry has become more domestically oriented than before. The industry has also become less profitable. Banks have responded to the changed conditions by reducing their operating costs, increasing their retail deposit base and tightening their credit standards.
Domestic and cross-border activities
Compared to five years ago, the Dutch banking industry has become smaller and much more domestically oriented. At end-2006, the entire industry was five and a half times the size of the Dutch economy with 40% of its assets consisting of foreign operations. At end-2011, its size had shrunk to 4.7 times the economy. The decline is wholly attributable to the foreign activities segment. The split-up of ABN AMRO, in particular, had a major impact. It resulted in the disappearance of substantial operations in the USA, the United Kingdom, Italy, Brazil and elsewhere. At end-2011, the industry's foreign activities made up just 15% of total sector assets – the lowest figure in recent history. Concomitantly, foreign lending by Dutch banks has also declined (Chart 1). Investments in Germany and Belgium have shown relative growth, by contrast, as have those in emerging countries such as Poland and Turkey.
Dutch banks make less profit than they did five years ago. In the years before the crisis, return on equity was about 15%; in 2011 it had dropped to about 6%. Two-thirds of the decline is attributable to a decrease in return on assets (profit per euro lent), which has been almost halved owing to changes in market conditions and structural changes in the industry. Income from commissions and trading have decreased while the costs associated with bad loans and the cost of funding have risen. Meanwhile banks have given a positive impulse to their earnings by reducing their operating costs, partly by thinning out their domestic branch networks by 700 establishments – a reduction by 20%.
The remainder of the drop in return on equity is explained by the strengthening of banks' capital base (see Chart 2), which causes profits to be distributed over a larger set of shareholders. This development also stabilizes the returns on equity and limits risks to shareholders, as it improves the industry’s more shock-resistant without endangering the continuity of operations. The strengthening of banks' capital buffers is therefore a welcome development and is in line with future regulatory requirements under the Basel III capital framework. To fully meet the new capital requirements, banks will have to strengthen their capital base still further in the fututre. The Basel III capital standards are to be implemented over the next few years.
Until 2007, banks could raise funds at easy interest rates in the capital market: only a few basis points (hundredths of a per cent) above the risk-free rate. Chart 3 shows that the risk premiums have increased since then and that rates in the 50 to 150 basis point range have been common since 2008. The cost of attracting retail deposits has also increased since the crisis compared to reference rates such as Euribor. Still, the amount of retail deposits on the balance sheet of the Dutch banking system grew substantially between 2006 and 2011: by €113 billion in the Netherlands alone. The growth of household savings was especially strong.
The credit crisis and the structural changes in the Dutch banking industry have also had an effect on the type of loans held on the industry's balance sheet. Compared to the outbreak of the crisis, loans to peer banks have percentually decreased, while loans to government bodies and central banks increased. In part, this is due to the drying up of the interbank market since the crisis. The share of residential mortgage loans on banks' balance sheets has also increased since the crisis. Amid the economic downturn, banks' credit standards have been almost continuously tightened since 2007, even though for corporate loans, last year has seen some relaxation. At the same time, the growth of private lending in the Netherlands has remained positive, if subdued.