Guy Hoffmann

Chairman of the Luxembourg Bankers Association

Guy Hoffmann

© Gerry Huberty/Luxemburger Wort

Interview conducted in June 2020 by: Thomas Klein (Luxemburger Wort)

The Chairman of the Luxembourg Bankers Association Guy Hoffmann sees major challenges ahead for the Luxembourg financial sector.

Guy Hoffmann, how are things looking for the banks after a year of the corona virus crisis? Profits in the sector have dropped sharply. Is this simply a knock-on effect of the crisis, or are other factors at work here?

Generally speaking, it’s clear that the sector will still have a major role to play in the country’s economic development, in terms of both lending and custody business as well as tax contributions. That said, you have to bear in mind that banks’ results have been following a downward trajectory since 2016, which was compounded by the 18% hit on profits, mainly due to provisions related to the pandemic.

More than last year’s results, it’s the long-term trend that is of concern, and is something that we will have to keep a close eye on. Almost a quarter of the banks operating in Luxembourg today are unprofitable. This means that not all of them are generating sufficient revenue to cover the higher costs associated with the necessary investment in IT and increasing regulations. Naturally, this may ultimately lead to the adoption of redundancy schemes (known as “social plans”), and some closures.

What specific effects has the pandemic had on banks’ results?

A significant portion of last year’s dip in profits was certainly caused by the increased provisions that banks set aside to cover potential defaults on loans. That is a prudent approach, as we still don’t know exactly how things will pan out. And, of course, the real effect of COVID-19 on the economy will start to make itself known now.

Are there any signs that the number of corporate insolvencies and non-performing loans has increased over the last year?

Not yet, though the position is rather skewed by the government support schemes. Things could change quickly when they expire in July. Many businesses have still not yet returned to their normal levels of business. They haven’t made new investments or significantly replenished their stocks. At the same time, most companies’ financial reserves have been depleted and their room for manoeuvre with banks is limited. Some of them have lost clients as a result of the crisis. People are buying much more online or cutting their children’s hair themselves. So, I do think that a wave of insolvencies is on the cards. We’ll have to see how things develop. Though in principle the banks seem to me to be well prepared.

Aside from the pandemic, in recent years banks have primarily been suffering from low interest rates. Since inflation has started to tick up in the last few months, might that herald a shift in interest rate policy?

This is only my gut feeling, but I don’t think so. If commodity prices were to remain high over an extended period, then in the long run that might point to slightly higher inflation. Savings rates are very high at the moment, especially in Europe. So, if people were to start to plough some of their savings into holidays, new cars and so on, that might stoke a price spiral. But I’m a little sceptical about this. I think that, on the back of experiences over the last year and a half of uncertainty, coupled with demographic changes, people will still want to build up a larger financial cushion.

There are many signs that inflation, and thus also interest rates, will remain very low over the long term. So, what can banks do to remain profitable in spite of this?

That’s a difficult question, and it’s certainly not answered in the same way by everyone in the industry. For me it’s clear that there will be only very minor progress on the revenue front. For sure, the banks will charge fees for services that were previously free of charge in a more favourable interest rate environment. In Luxembourg the banks are competing on a market with just 600,000 inhabitants, so there won't be much growth here.

In my view, the answer will have to be found on the cost side. For banks, this means first overhauling their IT systems, which in some cases have been developed over decades and are now partially obsolete. Secondly, it also calls for process optimisation and automation. That’s naturally a challenge for Luxembourg as a financial centre. Today 50,000 people work in regulated sectors in the country. That’s a lot. If that figure falls by 10,000 or 15,000 over the next five to ten years, that will have a significant impact.

Are you expecting there to be further consolidation on the Luxembourg banking market as a result of this dynamic?

I think that would even be desirable. There are around 6,000 banks in Europe. The European Central Bank has been saying for years that we could get by with half as many. However, I think it would be a dangerous development if we only ended up with large banking institutions. Aside from the higher risk, I think that regional banks servicing various industries are very important in financing the economy.

If one day there are only large banks like JP Morgan or Deutsche Bank, I don’t know whether they will be particularly interested in, say, the north of our country. We need regional banks that can also cover these areas. However, in many segments such as private banking, you need to have very high volumes in order to earn sufficient margins. Ever-faster cost spirals generate immense pressure. For this reason, I actually think that a lot of banks are already discussing potential mergers.

Are you also expecting the number of bank branches in the country to shrink further?

There are certainly banks that will have to close their branch networks entirely in the future. Others, including us at Raiffeisen, will pursue a different path, although the concept of branch will change significantly. There certainly won’t be a branch in every village, though I can envisage a critical mass of between 20 and 25 branches throughout the country. This is ultimately what sets us apart from the competition. It would be risky for traditional banks to decide to move completely online.

They would then be engaging in a technological contest that they would be destined to lose. Fintech companies and the new online banks are more agile in terms of innovation and rollout, also because they aren’t carrying around this baggage of legacy systems. We however must look to this historical baggage as a strength. Our advantage lies in having a direct relationship with the client, focused on personal contact. Although an increasing number of clients will deal with everyday banking transactions exclusively online, when it comes to making difficult decisions such as investing, personal contact with the bank is still very important.

Lastly, what in your view is the biggest danger for Luxembourg as a banking centre?

Perhaps complacency. The vast majority of people in the country have not been particularly affected either by the 2008 financial crisis or by the current crisis. We have come through the pandemic better than others, also in terms of our economy. Many people see that and say to themselves “everything will turn out just fine”.But this approach avoids having to ask difficult questions.

Last year the banks earned profits of EUR 3 billion, based on turnover of EUR 850 billion. That is not a healthy ratio and we have to ask whether we are doing enough to ensure that 50,000 people will still be working in this sector in the future. The advantage that we once had over the other financial centres has declined. We have to tread carefully here and make sure that we don’t lose our agility and our ability to recognise trends, which have set us apart in the past. We have become a little sluggish and put on some flab.