Second, this context of “low interest rates for longer” may provide greater incentives for economic agents to take risks, which could heighten the risk to financial stability. Today I would like to devote my address to the analysis of these two matters, focusing on their impact on the Spanish banking sector. I will also present the results of the latest stress test exercise conducted by the Banco de España. 1. Low bank profitability  Profitability is one of the main variables characterising the financial position of banks and the first line of defence against adverse shocks. Indeed, the volume of a bank’s profits determines the return its owners can earn on the capital invested. This, duly adjusted for the risks assumed, will affect the bank’s valuation. Moreover, profit levels determine the margin these agents have to address shocks. Indeed, low profitability reduces the possibility of generating capital internally through retained earnings. Note that banks’ capital acts as a buffer that allows potential losses to be absorbed in adverse scenarios, so that they can continue to offer financial services to households and  3/29  firms, thus contributing to smoothing – rather than amplifying – negative shocks to the economy.1  Since the international financial crisis the profitability of the European banking sector has remained very low and below the cost of capital.
03.12.2019  Low interest rates for longer. Profitability and risk appetite in the Spanish banking sector 15th Banking Industry Meeting/IESE Pablo Hernández de Cos Governor  Ladies and gentlemen, good morning: First I would like to thank the organisers, and, in particular, Professor Juan José Toribio, for their invitation to participate in the 15th Banking Industry Meeting. In October the Banco de España published its Autumn 2019 Financial Stability Report. As usual, this report identifies the main risks to financial stability in Spain and their recent behaviour. The analysis shows that the balance of risks to financial stability has worsened since the publication of the Spring report and identifies three main risks: the global economic slowdown and geopolitical uncertainty, low bank profitability, and the legal risk for banks derived from the potential consequences of the outcome of pending court action. The worsening of the risks to the stability of the Spanish financial system in the past half year is due in particular to the downward revision of the global economic outlook. Indeed, this year global GDP growth is expected to be the lowest since the international financial crisis; in addition, the balance of risks to this growth is tilted downward, mainly as a result of the continuing high level of geopolitical uncertainty. The downward revision of economic forecasts in the past year has been across the board, but has especially affected the euro area and emerging market economies, and Spain has not been immune to this trend.