CNB leaves mortgage limits unchanged and will increase countercyclical capital buffer rate to 1%
- The CNB Bank Board decided to increase the countercyclical capital buffer rate to 1% with effect from 1 July 2022.
- The CNB Bank Board kept the Recommendation regarding mortgage lending
- The CNB Bank Board decided to reduce the frequency of the two-week liquidity-providing repo operations for credit institutions to once a week with effect from 28 May 2021 and to reintroduce the previously applied interest rate mark-up of 0.1 pp.
- According to stress tests, the banking sector is highly resilient, partly thanks to capital surpluses.
- The LTV (loan-to-value) limit remains at 90%, with the option of applying a 5% exemption. The CNB does not currently deem it immediately necessary to set DTI and DSTI limits or to tighten the other parameters of the existing Recommendation.
- The CNB considers the credit standards of banks and other mortgage lenders to be as relaxed as acceptable. For the time being, the CNB will respond to the related risks using supervisory instruments, for example an additional capital requirement.
- However, the CNB would have to react using macroprudential policy tools to any further broad easing of credit standards and taking on of additional risks in banks’ balance sheets.
- The CNB estimates that apartments in the Czech Republic remain overvalued by as much as 25% in selected localities with a high share of investment apartments.
The Bank Board of the Czech National Bank today discussed Financial Stability Report 2020/2021, which assesses the soundness of the domestic financial sector and its resilience to adverse shocks. The report is the foundation for the choice of macroprudential policy instruments, which above all include the countercyclical capital buffer of banks and limits on mortgage lending indicators.
Following an assessment of financial cycle indicators, banking sector vulnerability and other factors affecting resilience, the CNB Bank Board decided to increase the countercyclical capital buffer rate to 1% (from 0.5%). The CNB regards this level of the rate as covering the usual level of risks.
According to the CNB, the Czech economy has now come through the acute phase of the economic downturn. Thanks to support measures such as compensation for loss of income and last year’s loan moratorium, previously accepted risks have not significantly affected balance sheets in the banking sector during the pandemic. At the same time, banks have started providing riskier loans to a greater extent, as stated in the Financial Stability Report discussed today.
“The increase in the countercyclical capital buffer rate is a logical step arising from the fading of the acute phase of the economic downturn. The CNB’s strategy in this situation is to return the buffer rate to the 1% level covering the usual cyclical risks in the banking sector. The decision is also a natural reaction to the fact that, thanks partly to the support measures, previously accepted risks have affected banks’ balance sheets to only a limited extent and that new risks have entered balance sheets in recent months,” explained CNB Governor Jiří Rusnok.
The increase in the countercyclical capital buffer rate will take effect after one year, i.e. on 1 July 2022. This gives the CNB room to take a flexible approach in the event of unexpected adverse shocks. Should the economic situation worsen again, for example due to another wave of the pandemic, the Bank Board will be ready to review the announced increase in the countercyclical capital buffer rate or to release the buffer immediately and fully. By contrast, in the event of continued rapid growth in lending to households, renewed growth in loans to non-financial corporations and an increase in risks on balance sheets in the banking sector, the Bank Board is ready to increase this rate further.
At the same time, the CNB Bank Board decided to reduce the frequency of the two-week liquidity-providing repo operations for credit institutions to once a week with effect from 28 May 2021 and to reintroduce the previously applied interest rate mark-up of 0.1 pp. It left the terms of the facility for supplying liquidity to non-bank financial institutions unchanged but also reduced its frequency to once a week.
Additionally, the CNB Bank Board decided on the basis of the spring Financial Stability Report to keep the recommended LTV limit unchanged at 90%, with the option of applying a 5% exemption. At the same time, the CNB does not currently deem it immediately necessary to set DTI and DSTI limits or to tighten the other parameters of the existing Recommendation on the management of risks associated with the provision of mortgage loans issued in April 2020.
“Even in a situation of relaxed credit standards and persisting house price overvaluation, the mortgage lending rules can be left unchanged for now. Only a few institutions are exceeding the LTV limit and providing loans with high DTI and DSTI ratios. However, there is a risk that the currently cautious lenders could react to a potential loss of their market share by easing standards like their more aggressive competitors,” commented Governor Rusnok on this decision of the CNB Bank Board.
However, the CNB points out to lenders that it considers credit standards to be as relaxed as acceptable. The CNB regards the high and increasing share of loans with a DTI (debt-to-income) ratio of over 8 and a DSTI (debt service-to-income) ratio of over 40% as a potential source of systemic risk. Lenders should therefore take measures to ensure that such loans are only provided to applicants who are highly likely to repay without problems. The CNB would have to react using macroprudential policy tools to any further easing of credit standards and taking on of additional risks.
“The volumes of genuinely new mortgage loans reached record highs in the second half of last year and the first few months of this year, owing to a marked rise in the average loan amount. However, the numbers of these loans were not beyond those common in previous years,” said Jan Frait, Executive Director of the CNB’s Financial Stability Department.
The CNB has been applying a set of instruments to mitigate risks associated with mortgage lending (the Recommendation) since 2015. The LTV, DSTI and DTI limits are the most visible part of these rules. The Recommendation also covers other parameters of mortgage loan risk, such as loan maturity.
Financial Stability Report 2020/2021 states that a renewed spiral between credit financing of residential property purchases and rapidly rising residential property prices is a significant source of systemic risk in the Czech economy. Despite the pandemic, residential property prices rose apace last year and in the first few months of this year. Property prices in the Czech Republic are now about 70% higher than they were at their lowest point at the end of 2013. The continued property price growth has made housing less affordable. The CNB now estimates that apartments in the Czech Republic are overvalued by 18% on average and by as much as 25% in selected localities with a high share of investment apartments.
Increasing concentration of loans connected with residential property financing is thus one of the structural risks to the domestic banking sector. The share of mortgages in loans to the private non-financial sector is close to one-half, an above-average concentration compared with other EU countries.
However, the capitalisation of the domestic banking sector remains strong even after the pandemic. The ratios of non-performing loans with deferred instalments (under last year’s statutory moratorium or individual bank moratoria) remain lower than banks had expected before the end of the statutory moratorium on 1 October 2020.
The volume of approved (statutory or individual) moratorium applications stood at around CZK 470 billion at the end of September 2020 (about 15% of banks’ credit exposures to the private non-financial sector). Of this amount, CZK 94 billion had been repaid by the end of March 2021. The current stock of loans under moratorium had thus dropped to CZK 376 billion. Interest in deferrals granted by banks after 1 October 2020 has been relatively low so far. Such loans amounted to around CZK 43 billion at the end of March 2021.
Based on the information known at the end of March 2021, banks expect provisioning to total between CZK 10 billion and CZK 15 billion in 2021, i.e. less than in 2020 (around CZK 20 billion), and profits to be slightly above the 2020 level.
The CNB will publish the full Financial Stability Report 2020/2021 on 15 June 2021. The minutes of today’s Bank Board meeting on financial stability issues will be published the same day.
Director of the Communications Division and CNB Spokesperson
Notes for journalists:
Financial stability has been a key objective of the Czech National Bank alongside price stability since 2013.
The CNB Bank Board discusses financial stability issues twice a year – in the spring in May, and in the autumn in November. The aim of this report is to identify the risks to the financial stability of the Czech Republic in the near future on the basis of previous and expected developments in the real economy and the financial system.
The main macroprudential policy tools applied in the Czech Republic are the countercyclical capital buffer (CCyB), the capital conservation buffer (CCoB) set for all banks, the systemic risk buffer (SRB) set for systemically important banks and the Recommendation on the management of risks associated with the provision of retail loans secured by residential property.
Countercyclical capital buffer (CCyB) – This instrument is aimed at increasing the resilience of the banking sector to risks associated with fluctuations in lending activity. The CCyB should enable banks to lend to households and firms even at a time of recession or financial instability. The current rate is 0.5%.
Combined capital buffer – the sum of the capital conservation buffer (CCoB), the countercyclical capital buffer (CCyB), the systemic risk buffer (SRB) and the capital buffer for other systemically important institutions.
LTV (loan-to-value) – the ratio of the value of a mortgage loan to the value of collateral. The CNB recommends that this ratio does not exceed 90% for more than 5% of the volume of new loans. Banks providing loans should take this recommendation of the CNB into account.
DTI (debt-to-income) – the ratio of the applicant’s total debt to their net annual income. The CNB currently does not set an upper limit for this ratio at which the loan should not be provided. At the same time, however, the CNB has long pointed out that the risk of non-repayment of the loan is higher if the applicant’s total debt exceeds eight times their net annual income.
DSTI (debt-service-to-income) – the ratio of the sum of an applicant’s monthly repayments to their net monthly income. The CNB currently does not set an upper limit for this ratio at which the loan should not be provided. However, it has long pointed out that this indicator should not exceed 40%.
Maintaining financial stability is defined in the Act on the CNB as one of the CNB’s primary objectives. The Act requires the CNB to set macroprudential policy by identifying, monitoring and assessing risks jeopardising the stability of the financial system and, in order to prevent or mitigate these risks, to contribute by means of its powers to the resilience of the financial system and the maintenance of financial stability.
The CNB has long sought the statutory power to set upper limits on the LTV, DTI and DSTI ratios. This power will soon be granted to it by an amendment to the Act on the CNB approved by the Chamber of Deputies on 25 May 2021. Compliance with the limits must be legally binding in order to ensure a level playing field on the market and to prevent unfair competition in the future if new (especially non-bank and foreign) players enter this market segment. Enforcement of the rules set out in the Recommendation would not be as effective for them as it is for banks.