New lockdowns would cause lasting damage to banks, Moody’s warns

A second wave of Covid-19 leading to new lockdowns or self-imposed changes in consumers’ behaviour, poses a significant threat to the banking system, ratings agency Moody’s has warned.

In a report, the agency said banks were currently well placed to absorb economic shocks triggered by Covid-19.

“In contrast to the financial crisis, the banking system is more likely to act as a shock absorber rather than an amplifier,” Nick Hill, managing director of banking at Moody’s Investors Service, said.

“But a second wave of the pandemic that leads to new lockdowns and economic turmoil could cause more lasting damage to banks’ credit profiles,” he added.

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In its report, the agency said the outlook for global banks turned overwhelmingly negative in early 2020 as the pandemic struck.

It noted that over three-quarters of 70 Moody’s banking system outlooks are now negative, which contrasts with the 14 per cent that were negative at the end of 2019.

After 10 years of broadly benign economic conditions and relentless regulatory pressure to reinforce balance sheets, most banking systems are in good shape and can withstand the inevitable rise in bad debts over the coming months, it said.

It also noted that central bank and government measures to soften the impact have slowed the rise in asset risk and underpinned liquidity.

But this could all change dramatically if a resurgence in the virus triggered more economic lockdowns, it warned.

Irish restrictions

The Government reimposed restrictions in Dublin last week in an attempt to suppress the rising number of Covid-19 infections in the capital. And there is speculation that other counties may follow.

“In a context of profound uncertainties, the ability to preserve and restore capital in the medium term will be a crucial support to banks’ creditworthiness,” Moody’s said.

European banks are at an advantage because their starting capitalisation is higher than banks in most other regions, the agency noted.

“Banks with more diversified business models - notably those with capital markets activities – will also prove more robust than those focused on more susceptible activities like lending to small businesses and corporates,” it said.

"Challenges will be greatest in areas where profitability was already weak such as Japan and Europe, and where necessary restructuring is consuming pre-provision profits and reducing loss absorption," it said.