HELSINKI (MNI) – European Central Bank Governing Council member
Erkki Liikanen Thursday expressed serious concern about the state of
Europe’s banking sector and said that strengthening bank capital was as
important as cutting public sector deficits in Eurozone member states.

“An increasing number of euro area banks are tightening their
lending,” Liikanen said at a press conference in Helsinki.
“Strengthening of the European banking system is necessary to safeguard
banks’ lending capacity.”

He added: “At the moment there are two things that have to be done
simultaneously. First the public finances have to be consolidated.
However, at the same time, banks’ capital has to be raised. Only safe
and better capital can strengthen their situation.”

Liikanen also warned that high borrowing by banks relative to total
assets makes them “vulnerable to wholesale bank runs.” He noted that
international banks have reduced their issuance of syndicated loans,
which he said was a “problem.”

He also said that in order to “activate bank lending,” there had to
be adequate collateral available for banks to obtain funding. That, he
said, “is something the ECB can work with. This always includes risks
and the risks must be well managed.”

Liikanen’s concerns were echoed later today by ECB President Mario
Draghi, speaking in Berlin, who noted that the capital bases and funding
conditions for Eurozone banks were under pressure. While it is difficult
and expensive for banks to raise capital under current conditions,
reducing lending would be their worst option, Draghi said.

The ECB president noted that impaired bank lending hurts the
Eurozone economy more than other economies, because of the region’s high
dependence on bank funding. He also noted a shortage of collateral.

In other remarks, Liikanen warned that “a prolonged period of low
interest rates can lead to under-estimation of financial risks.” The
comment seemed to have little immediate policy relevance, however, since
the Eurozone economic outlook is darkening and the ECB has cut interest
rates two months in a row.

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