AMCs only partial fix for bad corporate debt, says ECB

Setup costs and complexity of loan profiles may hinder the formation of asset firms dedicated to resolving corporate NPLs, says ECB

State-backed asset management companies (AMCs) will not be enough by themselves to tackle the persistent problem of bad corporate debts in Europe, according to research from the European Central Bank (ECB).

In the latest edition of its twice-yearly Financial Stability Review, the ECB credits AMCs for improving the functions of the secondary debt market, and for resolving real-estate and land exposures through means such as development loans.

On that basis, it says, they should be carefully considered as a potential tool for clearing up Europe’s non-performing loans (NPLs) – 60% of which are held by corporations.

However, it notes, they may not present a wholly effective solution for that corporate segment.

“First,” the ECB writes, “such loans will be very heterogeneous, even bespoke in nature, and are likely to be numerous. This may overburden an AMC or require one that is so large and well-resourced that economies of scale could not be achieved.

“Second, the extent to which value can be recovered from corporate (in particular SME) exposures tends to be more doubtful, regardless of macro-financial outcomes.”

The ECB points out that some firms “may be unviable, and may require orderly liquidation.

“An AMC may not be an appropriate vehicle through which to achieve this. Third-party expertise is less readily available to an AMC in dealing with these types of assets, at least on a sufficient scale.”

Finally, it argues, an AMC tasked with working out such assets “could be subject to greater political pressures, regardless of its governance structure”.

Further to those main points, the ECB says that the costs of establishing an AMC may prove “highly unattractive” to national authorities and banks that may be expected to take part in an NPL crackdown.

“The funding of an AMC, often requiring state guarantees, may be costly and difficult to arrange for non-investment-grade sovereigns,” it notes. “For the state, liabilities (direct or contingent) may be large relative to fiscal headroom.

“The minimum requirements for private participation in the equity of the AMC may prevent the classification of the AMC’s liabilities outside the public debt perimeter.”

In the ECB’s view, the “stigma” of state aid may be sufficiently strong for banks to be “disinclined to participate”.

With all that in mind, it writes, while AMCs certainly have a role to play, that may only apply to cases where certain conditions are met, such as:

  1. costs of establishment can be recovered and/or are deemed warranted; and
  2. suitable pools of impaired assets that can be successfully worked out within an AMC are identified in the banking system.

However, the ECB writes, in a more general sense, a comprehensive set of structural reforms must be deployed to tackle every aspect of the NPL problem.

Such reforms must aim to “lift long-term economic values and to narrow bid-ask spreads”, making it feasible for banks to sell or transfer assets.

“The same structural reforms that would be a precondition for the successful operation of an AMC,” it adds, “would be indispensable for any other workout option.”

Read the full report here.

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