Now’s not the time for banks to release Covid-19 provisions

Business Comment: ‘Do not underestimate the effects of liquidity withdrawal’

While each variant of the virus appears to have less of an impact on the economy, we still don’t know how things will pan out as central banks and governments taper pandemic stimulus this year.

There was a view in the market about six months ago that Irish banks would be in a position to release in their 2021 accounts some of the bad loan provisions set aside during the height of the Covid-19 crisis to bolster their profits.

And while each variant of the virus – including the latest, Omicron – appears to have less of an impact on the economy, the fact is that we don’t know how things will pan out as central banks and governments wind down pandemic supports this year.

While the European Central Bank (ECB) is holding off on rate hikes, for now, even as inflation is running at 2a times its 2 per cent target, it plans to stop net bond buying under its €1.85 trillion pandemic-response scheme in March. Though it plans to smooth the transition by temporarily boosting bond buying under an older stimulus programme.

The US Federal Reserve signalled last month that it will accelerate a tapering of bond purchases. And while the Fed has forecast three rate increases are on the way this year, there is a growing view in the market that it will carry out four hikes.

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“Do not underestimate the effects of liquidity withdrawal,” Morgan Stanley market strategists said in a note over the weekend. “So hold on tight – there’s volatility ahead.”

The ECB's head of banking supervision Andrea Enria warned in an interview published last week that euro zone banks should be "extremely prudent" and avoid releasing loan loss provisions set aside in 2002 too early. While banks and regulators aren't expecting the wave of non-performing loans that was feared in early 2020, there continues to be too many uncertainties two years after the initial wave.

What about AIB?

AIB, the most pessimistic of the Irish banks in 2020, moved in the first half of last year to free up €103 million of the €1.46 billion of provisions it set aside in the previous year. While Bank of Ireland added €1 million in the first half to the €1.1 billion charge taken the previous year, there had been hopes in the market at the time that it would able to start releasing some of the ring-fenced money at full-year stage.

Meanwhile, the Irish Auditing and Accounting Supervisory Authority issued a note to banks last week urging them to provide more transparency in their upcoming accounts on how they expect the withdrawal of pandemic supports to play out when it comes to determining Covid-induced loan losses.

They face a tough task.