Czech financial sector more resilient, risks in housing loans
- The resilience of the Czech financial sector to potential adverse shocks has improved
- The risk of excessive growth in lending remains low and the countercyclical capital buffer rate therefore remains at zero
- A recovery in demand for loans, a fall in interest rates and an easing of credit standards represent potential sources of risks to financial stability in the future
- The CNB is preventively introducing a set of recommendations for the provision of loans for house purchase
- The CNB has prepared a new methodology for reviewing and assessing the risk of systemic concentration of sovereign exposures
- According to stress tests, banks and insurance companies remain highly resilient to adverse scenarios, while pension management companies are showing greater sensitivity to interest rate risk
The Czech financial sector’s already high resilience to potential adverse shocks has strengthened. Banks, which are the foundation of the financial system, increased their capital adequacy and liquidity and are comfortably compliant with the new European regulatory rules According to the Financial Stability Report 2014/2015, the main risk scenario for the financial sector is still a renewed recession leading to a fall in profitability.
“Robust capital adequacy and liquidity are the key to maintaining high public and investor confidence in the stability of the domestic financial sector. The current economic environment requires an active macroprudential policy approach from the CNB,” said CNB Governor Miroslav Singer.
Given the fragility of the economic recovery in Europe, the main risk scenario for the Czech financial sector is still a renewed economic recession leading to a sharp deterioration in its profitability. The profitability of banks, whose income depends heavily on interest margins, could also be adversely affected by a continued decline in interest rate levels. Low interest rates may negatively affect the performance of insurance companies, too.
The Czech economy is currently in a phase of the financial cycle that can be regarded as the onset of a recovery. The evolution of banks’ credit standards indicates a shift of the economy to an expansionary phase of the financial cycle. However, it has not yet been accompanied by changes in other types of cyclical risks. A zero countercyclical capital buffer rate will probably be applied in the next two years as well. However, this probability has decreased as a result of a recovery in credit growth, an easing of credit standards and a slight improvement in investment sentiment.
Expectations of further property price growth combined with favourable conditions on the market for house purchase loans may become a source of systemic risk. These loans are becoming more affordable for borrowers with lower and less stable income. The CNB assesses the current configuration of credit standards in the segment of loans for house purchase as mostly conservative. However, the CNB points to an increase in the risk profile of new loans. As these loans represent the largest part of the credit portfolio of banks, the CNB deems it necessary to deploy a set of recommendations as a preventive tool to counteract growth in the risks associated with providing such loans in the years ahead.
Given the continued growth in client deposits and subdued corporate demand for loans, credit institutions are allocating a significant proportion of their funds to government bonds (mainly Czech ones). As a result, credit institutions are displaying increased sovereign exposure concentration. CRD IV requires credit institutions to ensure consistent and effective management of concentration risk in their risk management systems. In line with EBA guidelines, national supervisory authorities should assess concentration risk management, including sovereign exposures. The CNB has therefore prepared a supervisory tool in the form of a methodology for reviewing the risk of concentration of sovereign exposures. If the CNB comes to the conclusion that this risk is not sufficiently covered by an institution, it will decide on the basis of the methodology to apply an additional capital requirement. A stress test of Czech public finance reveals that the current fiscal situation in the Czech Republic does not represent a threat to financial stability. Consequently, the CNB will not apply additional capital requirements to credit institutions at the three-year horizon.
The financial sector was subjected to further stress tests. The toughest Adverse Scenario, whose probability is very low, describes the risk of a pronounced and long-lasting decline in the economy. Even in this case, however, banks remained highly resilient, maintaining overall capital adequacy sufficiently above the regulatory threshold of 8%. The insurance company sector also showed sufficient resilience to an adverse scenario thanks to its large capital buffer.
Tomáš Zimmermann
CNB spokesman