European Central Bank working paper models how asset management companies can stabilise credit when nonperforming loans surge

The European Central Bank published a Working Paper analysing how asset management companies (AMCs) that buy nonperforming loans (NPLs) can stabilise credit when default rates rise, contrasting this with government purchases of performing loans. The paper’s core mechanism is that AMCs purchase NPLs at prices reflecting long-run recovery values, fixing the effective default rate banks face and breaking the feedback loop in which higher defaults raise lending rates and higher rates generate further defaults. In a euro area-calibrated model, an AMC absorbing half of excess default losses reduces quarterly default rates by 0.8 percentage points, lowers lending rates by 1.6 percentage points and increases welfare by 0.2% of permanent consumption. By contrast, government purchases of performing loans are modelled as crowding out bank deposits and contracting credit, with default rates rising by 1.8 percentage points, lending rates increasing by 1.2 percentage points and welfare falling by 0.3%, despite purchases averaging 2.2% of GDP. The paper concludes that when tight credit conditions are driven by elevated NPLs rather than funding shortages, policies need to target default dynamics directly, while purchases of safer assets with negligible default risk can remain effective; it positions AMCs as a distinct tool alongside capital regulation and lender-of-last-resort facilities.