The failures of Silicon Valley Bank and Signature Bank are stark reminders that a sudden loss of confidence can lead banks to fail.

S&P Global Ratings does not expect European banks will have any meaningful direct exposures to SVB and Signature Bank, which were not major actors in the international markets. As we look for European parallels with SVB, central bank tightening is undoubtedly also happening fast in Europe. Some rated European banks have narrow, specialist business models, though not centered on the tech or crypto sectors. Some have (moderate) unrealized fair value losses on their bond portfolios. And some have a bias toward corporate and wholesale funding. But we do not see any European rated bank exhibiting all the specific vulnerabilities that led to the demise of SVB.

That said, we are mindful that SVB's failure has shaken confidence. Tightening funding conditions--Europe being some months behind the U.S.--could yet expose financial fragilities and require careful and pragmatic handling by authorities. The Fed's move to shore up confidence in U.S. bank liquidity is a textbook example of the efforts that central banks undertake to ensure idiosyncratic weaknesses do not become systemic risks (see "The Fed's Plan For U.S. Banks Should Reduce Contagion Risk," March 13, 2023).

Strong Deposit Bases Mitigate Risks For European Banks

First, SVB served a corporate client base that saw the bank's deposit base grow rapidly. At end-2022, 88% of its deposits were not covered by the Federal Deposit Insurance Corporation's insurance scheme (meaning they were above the US$250,000 threshold). For the 122 largest EU banks, corporate deposits amounted to €4.2 trillion or 16% of all liabilities as of June 2022. At the higher end of the spectrum, corporate deposits represent, at most, 30%-35% of total liabilities for a handful of banks. These corporate deposits are mainly located in the lenders' home country, but typically not within a narrow industry. Some European banks rely substantially on sight deposits from non-bank financial corporations but these are custodian and private banks that have operated under this business model for years and are accustomed to managing the resulting risks.

Overall, European banks rely on diversified funding sources, with sticky household deposits accounting for 30% of all liabilities. Whether depositors are households or corporates, we remain mindful that tech disruption and multi-bank platforms now allow clients to shift their deposits rapidly and can heighten deposit competition (see "The Future Of Banking: One-Click Deposits (Risks Included)," published April 8, 2021). Nevertheless, we see diversified and strong deposit franchises and deposit insurance as enduring factors that can help to mitigate outflow risk.

European Banks Are Fortified By Ample Liquidity

Second, SVB also had a large unrealized loss on its securities portfolio that resulted from rising interest rates. For EU banks, debt securities represented 11% of total assets as of September 2022. The majority of these are fair valued, meaning that their mark-to-market losses would be reflected either in earnings or in regulatory capital. In Europe, regulatory capital includes accumulated unrealized losses on securities portfolios held at fair value (see "Credit FAQ: Will Unrealized Losses On Financial Assets Affect Ratings On European Banks?" published on Jan. 19, 2023). Debt securities held at amortized cost, which we estimate at 5% of total assets in aggregate for the largest EU banks, might carry additional unrealized losses.

However, it would take an acute liquidity crisis to force the materialization of such losses. Even then, we expect that banks would first attempt to pledge or repo the assets to obtain cash, and only sell these assets (and therefore realize the market value loss) as a last resort. EU banks have ample liquidity--with liquidity coverage ratios at 162% in September 2022 and 60% of their liquid buffers held in cash--so this not presently a notable risk.

Chart 1

Central Banks Continue To Step In When Needed

As they continue monetary policy tightening, Europe's central banks will likely face a similar (and typical) trade-off between monetary policy and financial stability objectives. While higher rates and normalized monetary policy are necessary to combat inflation, they jeopardize the stability of weaker financial actors and may cause systemic stress. In that context, the Fed's reaction--announcing a new bank lending facility to ensure banks can meet depositors' needs--shows that central banks are willing and able to address mounting financial stability issues even while pursuing monetary policy tightening. Last September, the Bank of England (BoE) made a similarly pragmatic decision when it temporarily intervened to backstop the gilt market. The ECB is a few steps behind the Fed and the BoE in its monetary policy normalization; it started reducing its asset purchase program only this month and by modest amounts. We expect that the ECB will carefully manage this process and deal pragmatically with financial stability issues should they arise.

We will keep a close watch on market conditions in the coming weeks. This aside, we continue to view rising interest rates as a positive tailwind for European banks in 2023. Betas on new lending by eurozone banks were roughly 50% at the end of January 2023, meaning that the increase in average lending rates accounted for 50% of the ECB policy rate increase--while deposit betas were only at 10% (see chart 2). However, we expect the difference between lending and deposit betas to gradually narrow as competition firms up for deposits and lending. Indeed, SVB's demise might make banks wary of reducing liquidity buffers as they pay back TLTRO drawings this year, and so accelerate the rise in deposit competition that was already coming. This will likely lead net interest margin growth to slow down and flatline, but many European banks will still benefit from this cyclical boost in the coming quarters.

Chart 2