Inflation, the dominant topic for the European (and global) economy right now, is also having a major impact on Europe’s banking industry. It is running at its strongest pace in several decades, driven by a rebound from the pandemic, supply-chain disruptions and Russia’s war against Ukraine. This has led central banks in many advanced economies to hike interest rates at a speed not seen for a long time, including the ECB. The repercussions for banks are profound, some are visible already, others will follow more gradually over the course of next year. On one side, net interest income, the biggest revenue component, may receive a boost. Market interest rates have reacted more quickly than central banks’ official policy rates. Hence, already in the first quarter, the 20 major European banks (a proxy for the entire industry) saw a 6% yoy increase in interest income. Lending rates in the euro area have risen further since then, particularly at the longer end and for larger loans. On the retail side, new housing loans with a fixed rate period of 5-10 years were most affected (rates climbed from 1.3% in December to 2% in May), even more than loans with a longer fixation period. Similarly, on the corporate side, where all loan categories with an interest rate fixed for more than 1 year – new business – witnessed an uptick in rates by 0.6-0.7 pp since December. With respect to loan size, rates edged up more for loans with a volume higher than EUR 1 m (from 1.1% to 1.3%) than for smaller amounts. Finally, both the recent EMU bank lending survey (BLS) and the latest US bank results for the second quarter indicate a further rise in net interest income at European banks. The BLS showed a moderate tightening of credit standards and, particularly for riskier loans, a widening of interest margins in Q2, as well as similar expectations for Q3. The top US banks posted a jump in net interest income compared to the prior year. On a side note: euro-area banks may also benefit from a reversal of negative rates on their large holdings of excess liquidity at the ECB, which may soon add to rather than subtract from interest income. On the other hand, substantially higher interest rates may dampen economic activity of corporates and households – together with elevated price levels themselves and additional headwinds such as uncertainty about Europe’s energy supply and remaining supply-chain bottlenecks. Europe as well as the US are likely to enter mild recession in the coming months. This may slow the demand for credit, and for corporate finance services. Reduced valuations on equity and bond markets will probably also be detrimental for asset management. On top of that, maybe most importantly, loan loss provisions are expected to climb, even though from low levels. To what extent these risks materialise, will only become clear step by step. The starting point for Europe’s banking sector is relatively encouraging. In the first quarter, total revenues were up 4% yoy, driven by the higher net interest income. Fees and commissions remained flat and trading income decreased slightly (-3%). Loan loss provisions on aggregate even fell by 11% but this was due to an outlier at a single institution last year which now dropped out of the statistics. Provisions were moderately higher at the majority of banks. Growth in operating expenses (i.e., cost inflation) accelerated to 7% yoy, outpacing the expansion in revenues. Still, a lot of that is beyond banks’ reach – it is the consequence of booming bank levies and resolution fees whose burden keeps on getting heavier. Banking sector ROE, post tax