Rate of bank loan defaults is set to rise across the eurozone

The number of eurozone businesses and households unable to make repayments on their bank loans is set to rise, according to the first EY European Bank Lending Economic Forecast.

Loan losses are forecast to rise to a five-year high of 3.9% in 2023, although will remain lower than the previous peak of 8.4% seen in 2013 during the eurozone debt crisis.

The rise in defaults sits against a backdrop of slowing lending growth, which is set to decelerate to 2.9% in 2023 as demand for lending post-pandemic is suppressed by rising inflation and the financial impact of the war in Ukraine.

Growth across total bank lending is expected to bounce back, however, averaging 3.4% over the next three years before reaching 4.0% in 2025 – a level last seen during 2020, when government-backed pandemic loan schemes boosted figures.

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Omar Ali, EMEIA Financial Services Leader at EY, comments: “Although the next couple of years show more subdued lending growth rates than seen during the peak of the pandemic, the economic outlook for the European banking sector is one of cautious optimism. Optimistic because the worst of the economic effects of the COVID-19 pandemic appear to be behind us and recovery is progressing well. Cautious because significant emerging headwinds lie ahead in the form of geopolitical unrest and price pressures. This is another crucial moment in time where financial institutions and policymakers must continue to support one another to navigate the challenges ahead.”

Loan losses likely to increase, but from historically low levels

Non-performing loans across the eurozone as a share of gross business lending fell to a 14-year low of 2.2% in 2021 (compared to 3.2% in 2019), largely due to continued negative interest rates and government interventions introduced to support household and corporate incomes during the pandemic.

The EY European Bank Lending Forecast predicts that loan losses across the eurozone will rise, growing by 3.4% in 2022 and a further 3.9% in 2023, from an average 2.4% over 2020 and 2021. However, defaults are set to remain modest by historical standards: losses averaged 6% from 2012-2019 and reached 8.4% in 2013 in the aftermath of the eurozone debt crisis. Immediately pre-pandemic, loan losses averaged 3.5% across 2018-2019.

Business’ appetite to borrow weakened by geopolitical uncertainty and large cash holdings

The EY European Bank Lending Economic Forecast predicts growth in net lending to eurozone corporates of 3.6% in 2022, before slowing to 2.3% in 2023. This compares with a 12-year high of 5.3% recorded in the first year of the pandemic – heavily boosted by government financial support – and much lower pre-pandemic growth rates, which averaged 1.7% over 2018 and 2019.

In the short term, business lending growth is forecast to weaken relative to the pandemic peak, following the withdrawal of government and ECB support, pressure on investment appetite due to economic uncertainty as a result of the war in Ukraine, and a heightened focus on improving corporate balance sheets. The €300bn of ‘excess’ cash holdings eurozone firms have accumulated during COVID-19 is also expected to weigh on lending demand.

A further drag on lending growth could come from the end of the ECB’s Targeted Longer-Term Refinancing Operation program, which has allowed banks to borrow at lower rates.

Growth in mortgage lending to decrease from 2021’s record pace but remains strong 

Mortgage lending across the eurozone is forecast to grow at an average of 3.9% between 2022 and 2024, down from 4.5% in 2020 and 5.2% in 2021.

Mortgage lending put in a surprisingly robust performance during the pandemic. In 2020, mortgage lending across the region reported its strongest rate since 2007, thanks to ultra-low interest rates, rising house prices, the pandemic-related shift to homeworking, and the ability of some buyers to draw on unplanned savings to help fund deposits.

However, the outlook is less buoyant as house prices continue to increase, interest rates look set to rise and regulatory action is introduced in some eurozone economies to cool heated housing markets.

Cost of living pressures have mixed implications for consumer credit

The stock of consumer credit across the eurozone fell by 0.4% in 2021, having already fallen the previous year by 2.7%. This compares to pre-pandemic growth of 5.6% in 2019.

The EY European Bank Lending Economic Forecast predicts that consumer credit will rise 2.6% this year and a further 1.7% in 2023. However, a significant number of households will be able to draw on savings accumulated during the pandemic, which is holding back further demand for unsecured debt.