Israel’s lenders got a warning Monday from Bank of Israel Banks Supervisor Hedva Ber: Make their bloated operations and workforce more efficient.
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But Ber’s stick came with a carrot: If the banks undertake what she called “significant efficiency steps,” she would offer regulatory relief in the form of lighter capital adequacy requirements.
Ber made the offer in a Bank of Israel circular in which the banks are ordered to present five-year programs for making their operations more efficient by cutting staff. The plans must include interim targets and regular reports to the supervisor.
The move comes as the banks are under pressure, particularly from Finance Minister Moshe Kahlon, to allow more competition and lower the cost of banking. A joint treasury-Bank of Israel committee this month recommended forcing Israel’s two biggest banks to divest their credit card units to spur competition in consumer lending.
But the banks’ ability to reduce fees and charges is constrained by their high costs. At a capital markets conference Monday, Ber pointed to a global indicator of banking efficiency showing that Israeli banks’ costs averaged 70.2% of their income for 2012 to 2014, versus 60.2% for countries in the Organization for Economic Cooperation and Development.
The OECD figures may overstate Israeli banks’ inefficiency since they cover a period of unusually lower interest rates, which reduced lenders’ income. Still, compared to their developed-country peers they need to trim fat, which will benefit clients. At Union Bank, costs are 80.6% of income; only one Israeli bank beat the OECD average: Mizrahi-Tefahot’s 59.5%.
“Increasingly efficiency will enable the banks to lower the cost of banking services, particularly for households and small businesses,” Ber said in a statement accompanying the circular. “Increased efficiency, alongside a range of steps taken to increase competition, will ensure a more stable and competitive banking system, for the benefit of customers.”
Ber’s predecessors as banks supervisor also urged banks to trim costs, but they failed in the face of powerful unions. But Ber said she was holding out the prospect of easing the banks’ capital adequacy requirements – the ratio of shareholders’ equity to risk assets and a standard measure of a lender's financial strength.
Easing the requirements would be welcome by Israeli lenders, which have to meet tougher requirements, especially Bank Leumi, the second-biggest lender. To meet the Basel III capital adequacy standards, the bank will have to increase its capital by 3 billion shekels ($770 million) by the end of next year. Mizrahi-Tefahot and Bank Hapoalim will also have to raise capital.
“It’s a courageous step by the supervisor, who understood what the biggest problem facing the banking sector was,” said a banker who asked not to be named. “It comes at a time when they have to make big investments in technological improvements, consumer credit and other areas. We can only hope that the workers’ committees will understand this and join the effort.”
Ber did not say what kind of efficiency ratio she expected from the banks or how she would relax capital adequacy standards. The circular’s terms seemed to be aimed at making it easy for banks to cope. For instance, the five-year period means banks will be able to spread out severance costs for buying out employee contracts.
“We are aware of the difficulties inherent in increasing efficiency in the system and therefore defined new guidelines that will make it easier to carry out voluntary retirement and cost reduction programs, which will lead to the required significant increase in efficiency,” Ber said.
Banking sources said they expected unions to cooperate at most lenders, and Hapoalim may already unveil a payroll reduction program when it releases its 2015 financial results in February. The one bank that may encounter resistance is Israel Discount Bank, whose cost structure is the highest among the big three banks.
In fact, each big five bank has reduced costs in recent years, laying off employees, merging departments and reducing office space and branches. Leumi has reduced head count by 1,000 since Rakefet Russak-Aminoach took over as CEO in 2012 and plans to cut an equal number over the next three years.
Discount has done less than the other five and First International has closed branches but not reduced head count.