Five challenges banks in Europe will face in 2025

2025 is just around the corner, and along with the expectations for a new, better, and more peaceful year for the whole world, banks in Europe are expected to face several challenges that will affect both their operations and profitability – possibly even their viability!

The five most important challenges that European bankers will have to analyse and handle are:

Further interest rate reduction

The European Central Bank’s base rate has decreased from the high level of four per cent (Sept. '23) to three per cent (Dec. ’24). For 2025, all analysts' forecasts indicate further reductions of the base rate to the level of two per cent. Banks will therefore need to adjust to this reduction, which in turn will affect their net interest income.

The challenge is to find appropriate ways to offset and mitigate the impact of this reduction through the use of derivative instruments (e.g., swaps, fixed-rate products), by reducing their operating costs, etc.

Competition, innovation, and digitisation

In the past decade (since the implementation of the PSD2 directive), "traditional banks" have been under constant pressure from increasing competition from fintech companies. Innovative firms are offering quality banking services and filling the existing banking gap for both youngsters and the unbanked population at significantly lower costs for the customer and with seamless 24/7 access through devices (smartphones/web)!

In addition to this, bank managers are now realising the imperative to digitise their banks’ services, resulting in either investing in new technologies themselves and improving the overall customer experience (end-to-end), or entering into synergies with fintech platforms in order to maintain their market share.

To note: Almost 80 per cent of those aged between 17 and 30 now use their mobile phones and laptops for banking.

Regulated and non-performing loans

The management of regulated loans will be a challenge for banks. Continuous monitoring and handling of Non-Performing Loans (NPLs) will remain a crucial exercise as banks continue to reduce their exposure to them.

For instance, in Greece, from the gigantic 46 per cent of Non-Performing Loans (NPLs) in 2016, after all the efforts and securitisations that took place (Hercules I, II, III), the percentage is now at the manageable ratio of 6.4 per cent, slowly approaching the European average of 2.3 per cent. Nevertheless, the need for business financing, as a key driver of Europe’s economic growth, passes through the banking system, so there must be adequate assessment and proper management of risk in relation to the necessary collateral and guarantees.

Economic, political, and geopolitical instability

The current economic situation in Europe, including the impact of geopolitical crises, political and economic turmoil, could affect the stability of the banking sector as a whole.

Possible escalation or even a continuation of the military conflicts between Russia and Ukraine for a third year, along with the rise of far-right parties in many European countries, which favour greater national sovereignty over economic policy decisions, in addition to political instability, the upcoming elections in February 2025 in the largest economy in the Eurozone (Germany), the unstable French minority government (the second-largest European economy), and the unabated debt of the Italian economy (138 per cent of GDP), are key factors that may negatively affect Eurozone growth and require new stabilisation actions by the European Central Bank.

Capital requirements and liquidity

Since the global financial crisis of 2008-2009, European banking authorities have applied strict criteria and controls on banks' capital requirements and liquidity so as to secure and protect the European banking ecosystem. Both these criteria and ratios are regularly reviewed and updated, requiring banks to maintain high levels of capital at all times to remain resilient and operational. In addition to these requirements, from January 2025, European banks will have to factor in the implementation of the CRR3 (Capital Requirements Regulation three), which will cause an additional headache for bank executives.