The coronavirus pandemic has generated a global health crisis, but not only that. The world’s economies have been hit hard. It is a real earthquake in the banking system. Banks need to change radically to overcome this challenge.
The vast majority of banks in the world are able to withstand almost all the economic scenarios caused by the COVID-19 pandemic, given that, at the time of the crisis, the global banking system had capital reserves and was much stronger than before. 12 years, according to the Global Banking Annual Review 2020 report released today by McKinsey & Company.
Huge problems in the banking system
Global Banking Annual Review is the flagship banking publication of the consulting firm McKinsey. The report for 2020 is the tenth edition of the publication and is based on the knowledge and expertise of McKinsey’s global Banking Practice division.
At the same time, McKinsey expects that most banking institutions will need at least five years to return to the level of return on capital (ROE) in 2019 with condition they make the necessary efforts in terms of productivity and capital management. Institutions with a clear vision will see results even faster.
The crisis of 2008 was generated by the financial services sector. The current crisis, however, is one of the real economy, and banks are economically affected along with other sectors of society. At the same time, banks have an important role to play in helping society overcome the crisis through support for the state, companies and citizens.
In fact, the crisis is the biggest stress test for banks, a test they have faced so far, proving that they are flexible and have vision. This year’s impact, without the role played by the banking industry, would probably be much deeper.
Pandemic, a real test for banks
McKinsey anticipates that for banks the pandemic will be a test that will evolve in two stages in the months and years to come. In the first phase, probably by the end of 2021, there will be large losses caused by non-performing loans – however, estimates show that almost all banks and banking systems will survive.
Then, against the background of a slight global recovery, banks will face difficulties in conducting operations – this stage could persist after 2024. In an economic scenario with a gradual recovery, the global return on capital is not expected to return to the next five years at pre-crisis levels.
Depending on the scenario, cumulative revenue between $ 1.5 and $ 4.7 trillion could disappear between 2020 and 2024. In McKinsey’s baseline scenario, revenue of $ 3.7 trillion will be lost – an amount will return and which is the equivalent of industry revenue for a period of more than half a year.
In most scenarios, North American banks could see a faster decline in return on capital and a stronger return than European banks.
An essential lesson that banks can learn from the previous crisis (2008) is that they need to act quickly. The McKinsey report presents three levers that banks can use: revenue growth, cost management, and better equity management. Returning to pre-crisis levels of return on capital will require a significant but achievable effort.
The importance that will be given to each of these three levers will depend on the region. A short-term return will require even more work in regions such as Europe, which have already faced challenges in terms of profitability, low margins and levels of return on capital well below the cost of equity.
Alexandru Filip, Managing Partner of the McKinsey & Company office in Bucharest:
“Our report on the global banking system in 2020 anticipates that the pandemic will be a two-stage problem for banks in the coming months and years. Initially, it will have an impact on risk, and then it will bring challenges on operations and pressure on revenues.
The COVID-19 crisis found Romanians in a fragile financial position and many companies were forced to reinvent themselves in ways no one expected a few months ago. In this context, local banks can play an important role in guiding their customers – both individuals and companies – towards economic recovery, while reinventing and pushing the digital agenda further.
Also, the penetration of financial services in Romania is still behind other countries in Central and Eastern Europe, which means additional development opportunities for banks ready to support them. Among the elements that can generate growth are products adapted to the changing needs and behaviors of customers, adequate consulting or improved digital services ”.
In the long run, banks need to rethink their agenda in ways that few considered nine months ago. McKinsey presents three essential aspects that may place banks at a higher level in relation to emerging trends:
Banks need to adopt the elements of speed and agility they have recently discovered; they need to identify what worked well in how they reacted to this crisis and find ways to maintain these practices. Banks can target four objectives: institutionalizing new decision-making models, customer care, integrating new general rules for data use, rethinking work for agile and remote teams.
Another key aspect is for banks to fundamentally rethink their business model to support a long period of zero percent interest rates, economic challenges or lower demand, while adopting fintech ideas and practices.
Banks need to focus on the wider impact they have. Banks must also address environmental, social and administrative issues and work with the communities they belong to to transform their relationship with society. This is when banks can assert themselves as having a dual role: a source of stability in the context of pandemic and pillar changes in society.