The ECB resorts to transparency in an effort to get the market for bad loans the EU banks would like to sell going.
Euro-area banks hold some 921 billion euros ($1.1 trillion) of NPLs — over 6 percent of total loans — and efforts to reduce that stock are impeded on both the supply and demand sides of the market, according to the report.
One such hurdle is that potential investors tend to have insufficient information about credit quality, which makes accurate valuations difficult and may result in lower bid prices.
Regular readers know in the absence of all the useful and relevant information it is impossible to accurately value any loan or security.
Lower bid prices are one way investors try to compensate for the fact they know they are blindly gambling when buying any loan or security.
Such problems have contributed to strong differences between the prices that investors are prepared to pay for NPLs and the prices that banks are prepared to sell them for, according to the ECB.
Remember, we are talking about the market for non-performing loans here. If the investors don’t have all the useful and relevant information to evaluate these loans, what are the chances investors have this information for the loans remaining on the banks’ balance sheets? None. This is why banks aren’t subjected to market discipline.
Please note, the ECB is saying investors are fully capable of accurate valuing non-performing loans if they have all the useful and relevant information. If this is true of non-performing loans, it is also true of the loans on the banks’ balance sheets. So the ECB is saying investors can accurately value banks if they have access to all the useful and relevant information.
I suspect the ECB doesn’t realize it has opened the door to bring transparency to the EU banks.