A new report says a host of headwinds will trouble financial institutions worldwide for years, though North American banks are expected to fare slightly better.
Banks will struggle to maintain their profitability not just through the COVID-19 pandemic, but over the next five years, according to a new report released by the International Monetary Fund.
In its latest installment of the Global Financial Stability Report, the IMF forecast that bank profitability will remain challenged through 2025 across nine advanced economies, including the United States, as those financial institutions may not be able to generate profits above their cost of equity.
Beyond the immediate challenges related to the COVID-19 outbreak, the authors anticipate an extended period of extremely low interest rates that will further drag on banks’ margins.
The outlook for the near-term is likely to be negatively affected by “sharply rising credit costs due to the economic downturn resulting from the COVID-19 outbreak.” Also, low interest rates will lead to a reduction in net interest margins and that is likely to persist and intensify.
“Furthermore, two key earnings tailwinds — falling loan-loss provisions and investment and trading gains linked to falling interest rates — had been largely exhausted by the end of 2018, and are increasingly unlikely to remediate margin pressure going forward. Thus, underlying profitability pressures are likely to persist over the medium- and longer-term even once the global economy begins to recover from the current shock,” the authors wrote.
Banks’ earnings were pulled lower due to the huge credit loss provisions they took in the first quarter, and that is likely to continue in the second quarter. JPMorgan Chase (NYSE:JPM) CEO Jamie Dimon indicated this week that credit loss provisioning in Q2 would likely be similar to Q1.
The report asserted that North Atlantic economies, including the U.S., Canada, and the U.K., wouldn’t be as challenged as the euro area (France, Germany, Italy, etc.) and low-interest-rate (Japan, Sweden, Switzerland) economies.
“In the North Atlantic economies, a fair proportion of banks is expected to generate adequate returns by 2025 and, for the rest, there is a range of feasible cost and revenue improvements that would generate them,” they wrote.
Banks could increase profits by generating additional fee income or cutting costs, but “it may be challenging to fully mitigate profitability pressures.”