News Analysis: Jury still out on Italy's bank reform and anti-NPL measures

An analyst is on the fence about whether recent reforms in Italy will succeed in strengthening its banking system without public bailouts and restore credit to its sluggish national economy.

Prime Minister Matteo Renzi and Finance Minister Pier Carlo Padoan are going to great lengths to reassure markets, investors, and taxpayers that Italy's banks are solid in spite of their 360 billion euros(391.70 billion U.S. dollars) in deteriorated loans, of which 200 billion are non-performing loans (NPLs) and 160 billion are classed as problematic credit.

"We don't have solvency problems, but there are significant hotbeds of instability," LUISS School of European Political Economy Director Marcello Messori told Xinhua.

"In spite of their NPL coverage, Italian banks are struggling to finance the real economy," said Messori.

Earlier this month, the Bank of Italy reported lending to households and non-financial companies was up by 0.7 percent in August compared to the same period last year, but business lending was down 0.2 percent. Banks have already devalued the NPLs on their books by 40 percent on average, bringing them from 200 billion euros to 80 billion euros. This devaluation, says Messori, means the lenders can't make it on their own.

"It's a typical case of market failure," he said. But under the EU's Bank Resolution and Recovery Directive (BRRD), the government can't step in to help without first forcing investors to take huge losses -- including a reported 60,000 small savers who were sold 60 billion euros in dodgy subordinated bank bonds.

Messori said public bailouts will be necessary, however. "European norms allow for public intervention in the case of systemic instability, and there must be a recognition that this is the case in Italy," he told Xinhua. "This solution is politically difficult, but inevitable".

A related issue is that Italy's lenders are the most fragmented and least profitable in the eurozone after those of Portugal and Germany, said Messori.

The European Central Bank (ECB) says Italy has 620 banks and Italian Banking Association (ABI) calls it at 63 banking groups, 70 independent institutes, and 38 so-called "popolari" or mutual banks.

Whatever the actual number, Italy also boasts a great many branches, translating into higher operating costs and lower profits in an era of low rates. According to Eurostat 2015 data, there were 66.9 branches per 100,000 residents in Spain, 56.6 in France, and 50.1 in Italy - against 18.2 in Sweden and 10.4 in the Netherlands.

In Italy, giant UniCredit bank has 4,212 branches in 20 regions, while small ones like Banca dell'Adriatico has 221 branches across four regions.

The government sought to remedy this via a reform giving mutual banks with at least 8 billion euros in assets 18 months to downsize their portfolios or convert to joint stock companies. This means the 10 biggest "popolari" - and the vested local interests they represent - must consolidate to pass muster with the Bank of Italy.

"We have too many bankers and we deliver too little credit," Renzi said in January 2015 when he announced what he termed the "historic" reform.

The first consolidation under that reform was between Banco Popolare and Banca Popolare di Milano (BPM), whose shareholders forged Italy's third-largest lender by assets after Intesa Sanpaolo and UniCredit by greenlighting their merger last weekend.

Messori said the Banco-BPM merger "will not automatically have a driving effect", however.

"(The reform) is an excellent measure," he said. "But this doesn't mean we'll see a wave of consolidations because they're expensive, and the profit margin doesn't cover the cost of capital".

On Friday, Fitch ratings agency confirmed its BBB+ rating for Italy but revised its outlook downward from "stable" to "negative". It cited a deficit increase contained in the government's 2017 budget, uncertainty over the outcome of a December 4 referendum on Renzi's constitutional reform - and the NPLs afflicting the nation's banks.

It remains to be seen whether the smaller lenders will join up, slash the bad loans on their books, return to profitability, and resume extending credit to support Italy's recovery. Endit