European banks have made significant strides in profitability and risk management since the pandemic, with return on equity stabilizing at around 10%—among the highest since the Single Supervisory Mechanism was established. Cost-to-income ratios now outperform those of US peers, and non-performing loan (NPL) ratios have fallen from 6% in 2015 to 2%. However, the European Central Bank (ECB) argues that while current metrics reflect strength, long-term competitiveness remains threatened by persistent national fragmentation in the banking sector.
The ECB’s Vice-Chair Frank Elderson highlighted that resilience and profitability are not mutually exclusive but are reinforced by one another. Investor valuations have narrowed, with European banks’ price-to-book ratios converging near 1.5—though this does not yet address structural barriers. The core issue, Elderson emphasized, is the lack of a truly integrated banking market. Banks still grant 80% of loans domestically, and cross-border deposits account for less than 2%, while merger activity has declined sharply since pre-crisis levels.
Fragmentation stifles pan-European scaling, limiting banks’ ability to deploy capital for digitalization, artificial intelligence, and cyber resilience—critical for Europe’s green and digital transitions. The ECB estimates the EU needs €1.2 trillion annually through 2030 to fund these priorities, including defense spending and strategic autonomy. Without cross-border integration, banks risk falling behind global competitors in mobilizing capital efficiently.
To address this, the ECB advocates for a time-bound roadmap to complete the banking union. Key steps include advancing a European deposit insurance scheme and synchronizing regulatory progress. Meanwhile, deepening capital markets integration would allow banks to diversify funding sources, including fee-based revenue streams, while startups and innovative firms could access equity financing instead of relying on debt.
While credit crunches remain absent, challenges persist in the real economy—uncertainty, policy gaps, and permitting delays hinder investable projects. Lowering capital requirements alone may not suffice; structural reforms are needed to unlock private-sector financing for Europe’s transformative needs.
The ECB’s diagnosis underscores that without progress on banking union, Europe risks lagging in financing its future—both economically and strategically.
