Among the possible financing levers, we obviously find the bank credit. However, we often find ourselves taken aback when we make a request for financing from your bank.
We do not necessarily grasp this rate sold by the customer service representative even though the establishment across the street is cheaper. We also don't understand why the agency is making us wait sometimes more than a month for a credit that seems easy to grant.
And even less why our file is ultimately denied although in our eyes he had all the qualities to be accepted.
The causes of these inconveniences lie in the very nature of the banking profession and what it is becoming.
How does a bank work, what is its interest, and how are its activities regulated? This is what we will see below, in this introduction to the banking profession and more precisely to its credit activity. Let's go !
Definition: what is a bank?
Let us briefly recall what a bank is:
A bank is a financial institution to whom approval has been given to make money from his business. And this in a very regulated and being the subject regular adjustment.
How does a bank make money?
The intermediation margin
The classic operation of a commercial bank is very simple: the deposits placed there by its customers at a certain rate, are lent at a higher rate to other customers in the form of credits. We call the gap between these two rates intermediation margin and it constitutes the income basis of a bank.
What are other ways for a bank to make money?
For establishments of this size to earn their living, the only account maintenance fees and interest on credits turn out to be well insufficient. This is why the services that banks offer you have multiplied in recent years: online management, insurance, wealth advice, professional guarantees, etc. Services that generate commissions.
Finally, we cannot put aside the activities of banks in financial markets and investment.
The sacrosanct PNB
A banking establishment is not that different from your business, and achieving a certain level of profitability is one of its primary objectives. And like everywhere, the crux of the matter is turnover or rather GNP (Net Banking Product).
Its two main components are, as we have just seen just before, the intermediation margin and commissions. [Or 75% of the GNP of the six major French banking groups in 2018].
You must not forget that your account manager knows inside out the GNP that you bring to him ; and its related business objectives, its approach towards you depends on it.
Unfortunately this GNP is not information that will be communicated to you but you can estimate it by doing the following calculation: [commissions paid + agios + interest on credits – (interest received + reversals)].
Money creation
The first mission of banking establishments is to grant credits, an activity that makes them first creators of money. [Scriptural money, created by writing on bank accounts, represents 90% of the currency in circulation – source Banque de France]. This is a major responsibility in an economy where everything is moving faster and faster.
An institution is therefore responsible for frame and of control their activity. You regularly hear about it, it is the European Central Bank, more frequently called ECB.
ECB rates
The ECB plans European monetary policy and therefore the volume of money creation. It is also the one that issues banking licenses and then controls the banks through frequent audits. Today we will focus on a monetary policy lever with considerable effects.
Key rates and you
Key rates are the means by which the ECB acts on monetary creation. The reference rate used by banks is EURIBOR, this is the one that appears on your loan contracts, and unlike your credit rate, it is currently negative!
As we have seen, credits are marketed at a certain rate or rather at a certain price. And the price, the credit is very elastic, which means that:
- low key rates encourage monetary creation through credit to businesses and individuals;
- high key rates lead to the opposite.
For about a decade we have been on a cycle of key rates tending downward. This explains your booklet A capitalized at 0.75%, the influx of real estate loans or even your cash loan at 1% over 5 years. This is the first direct consequence of ECB policies on your daily life. But it doesn't stop there...
Low rates? The banks don't like it.
It's paradoxical, isn't it? Shouldn't banks welcome an environment that favors credit? And their GNP ready to explode?
Except that the market is pulled into a price race to the bottom. The intermediation margin suffers and sees its share in the banks' GNP reduced compared to that of commissions..
A reality is emerging: the digital shift and zero key rates have contributed to weakening banks which are no longer profitable enough in their historical activities and must change their economic model.
Agencies close, staff numbers are reduced and their offering is gradually moving out of the strictly banking field. Our relationship with the bank has indeed completely changed over the last 10 years, and this train is still moving.
In summary: credits easily granted, but banks in bad shape
It may never have been so simple to obtain credit in France but the banks are not doing any better. The reduction in the intermediation margin is currently leading to two strategies on the part of banks:
- pay more and more credits to maintain their GNP;
- find opportunities to diversify this GNP.
“Make credit” an expression you will hear in every bank branch. But let's not forget that we are talking about a profession here risk. How do the authorities ensure that banks do not overdo it and are able to withstand shocks?
The Basel Accords
We can never say it enough, banks are above all private companies who are entrusted with an activity to systemic risk. Different crises have taken their toll and institutions have reacted accordingly, new rules have emerged to regulate finance, and among them, the Basel agreements which aim to strengthen the stability of banks.
Without going into details, let's focus on one point: to carry out its activity, a bank must be solid, which materializes in a certain level of Equity.
A bank's balance sheet essentially consists of:
- credits in assets
- to the liabilities of deposits, bonds and Equity, which include capital and accumulated results (or reserves).
The Equity Funds are the guarantors of the stability of the bank and keep it afloat, they serve shock absorbers in the event of default by debtors. More trivially, Equity guarantees that your funds are under safe custody.
Equity funds are strategic but what will concern you is elsewhere…
The RWA? It's what ?
We like to repeat to ourselves: credit is a risky activity. The regulation also requires that the level of Equity be in adequacy with the level of risk incurred on credits.
The key point of this regulation is the ratio of Equity relative to risk: Regulatory Equity / Risk Weighed Asset. This ratio is expected by the latest agreements at 10.5%.
The calculation of RWA in the denominator was updated in 2017. The principle is clear: the riskier an asset, the greater the RWAt. This therefore means that banks need less capital to cover exposures to safe assets, and more capital to cover riskier exposures. And by granting credit, what the management of a bank does not want is to explode the impact of the RWA on its Equity requirements and therefore ask its shareholders to inject capital.
The RWA and you
At the heart of credit risk estimation is the customer rating which is based on: the company's balance sheet, its sector of activity and an evaluation of the account manager. The RWA depends directly on this rating.
What does that change for you? It's like GNP. Your account manager has in mind your rating in each of your interactions. It has tools that will determine the pricing allowing financing to be “profitable” in relation to Basel regulations.
We often speak of a "calculator", it integrates all the parameters of the price offer: the rate, the administration fees, the flow pricing and leaves the possibility to the account manager to juggle between them, which he does not deprive himself of. not by negotiating with you. Generally, the lower your rating, the higher the financing rate will be.
Also, the rating of your company is a confidential information that is not communicated to you despite its impact on the pricing of your services and decision-making regarding your requests. This rating is reviewed at least once a year without you taking part in this decisive process.
Interests are therefore conflicting within a bank faced with the temptation of credit in a framework which is becoming more restrictive. One management plays the role of arbiter, it is that of risks.
What does the risk department do?
The risk department is in charge of compliance with banking regulationse and draws up a risk policy for this purpose. She is on the front line facing institutions and their audits.
Internally, its objective is to limit provisions on unpaid credits, it will therefore tend to slow down sales management.
The “risks” therefore put in place a delegation scheme which will determine who can or cannot decide on a credit file. The most important criteria are:
- The nature of the credit (in other words the quality of its guarantee)
- The amount and duration of financing
- The rating of the counterparty
The objective is to remove files that exceed a certain risk threshold from the decision-making field of the commercial network. The pricing of the file is generally not taken into account in this framework. A file leaving the agency will be decided individually or collectively during a credit committee.
By moving on to risks, the analysis of your credit file will be more factual, the decision-makers of your file will have an initial idea of it by its risk rating and your Bank of France quotation.
The good relationship maintained with your interlocutor will weigh less in the balance, especially since the headquarters are often far from the agencies. A extended decision time is then to be expected.
You should also know that in the event of disagreement with sales management, it is the risks that generally have the last word.
What to remember if your file goes to risk?
A first idea would be to anticipate with your contact whether the file is in their delegation or that of headquarters in case you urgently need financing.
- “The clearer the file, the simpler the decision will be” Be clear in your request and provide from the start the explanations and elements that you feel necessary
- A file that moves to risk is not necessarily a bad sign. It is even better for your file to become known to headquarters when your financial situation is good than the opposite.. An analyst who discovers a company's record when it is in trouble will be more severe.
Conclusion
So what are the challenges facing a bank today? Maximize your GNP in controlling your risk and in respecting the regulations in an economic environment constrained by rates.
An ideal client would have a good risk rating, A long-term debt contracted at a high rate and would pay a commission level higher than interest. But the reality is often different, and bringing together all these conditions is not easy.
Let's say that by making a loan, a banking establishment will try to combine these elements as best as possible. The factors which will decide whether your credit application is accepted are therefore as follows:
- The involvement of your account manager and his determination to carry out the financing
- There risk rating of your company
- The pricing and especially the expected rate at a level covering the risk
- The delegation of the financing file in agency or at headquarters.
And that's it, that's it for the bank. If you have any questions or clarifications, don't hesitate to comment in the comments! We’ll see you again very soon for new articles 🙂
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