Provision of a general nature Ib/2020

of 19 March 2020

on setting the countercyclical capital buffer rate for the Czech Republic No. Ib/2020

Pursuant to Article 12o(5) of Act No. 21/1992 Coll., on Banks, as amended by Act No. 375/2015 Coll., (hereinafter referred to as the “Act on Banks”) and Article 8al(5) of Act No. 87/1995 Coll., on Credit Unions and Certain Related Measures and on the Amendment of Czech National Council Act No. 586/1992 Coll., on Income Taxes, as amended, as amended by Act No. 375/2015 Coll. (hereinafter referred to as the “Act on Credit Unions”), the Czech National Bank as a competent administrative body hereby issues the following provision of a general nature:

I. Pursuant to Article 12o(3) of the Act on Banks and Article 8al(3) of the Act on Credit Unions, the countercyclical capital buffer rate for the Czech Republic shall be set at 1.75% of the total risk exposure amount pursuant to Article 92(3) of Regulation (EU) No. 575/2013 of the European Parliament and of the Council.

II. Banks and credit unions shall apply the rate referred to in point I for the purposes of calculating the combined buffer requirement as from 1 July 2020.

Justification

  1. Pursuant to Article 12o(3) of the Act on Banks and Article 8al(3) of the Act on Credit Unions, the Czech National Bank (hereinafter referred to as the “CNB”) shall set the countercyclical capital buffer rate for the Czech Republic, taking into account the countercyclical capital buffer guide calculated pursuant to Article 12o(1) and (2) of the Act on Banks and Article 8al(1) and (2) of the Act on Credit Unions, the recommendations issued by the European Systemic Risk Board (hereinafter referred to as the “ESRB”) and indicators which may imply growth in systemic risk.
  2. Pursuant to Article 12o(1) of the Act on Banks, Article 8al(1) of the Act on Credit Unions and Article 9al(1) of the Capital Market Undertakings Act, the calculation of the buffer guide is based on the deviation of the credit-to-GDP ratio from its long-term trend – the credit-to-GDP gap. The credit-to-GDP ratio was 89.0% and the relevant deviation from the long-term trend -3.4 percentage points in 2019 Q3.[1] This value pursuant to Article 12o(1) of the Act on Banks and Article 8al(1) of the Act on Credit Unions corresponds to a benchmark countercyclical capital buffer rate of 0%. The additional gap,[2] which is based on the ESRB Recommendation (section B, Article 2) and better reflects the specificities of the Czech economy, was 0.9 percentage point in 2019 Q3 and implies a benchmark rate of 0%.
  3. In reaction to the ESRB recommendation, the CNB has repeatedly emphasised in its publications (particularly the Financial Stability Report) that it does not regard the size of the gaps referred to in paragraph 2 as a reliable guide for determining the position of the domestic economy in the financial cycle and setting the rate. The CNB prefers an approach based on a comprehensive assessment of indicators identifying growth in systemic risks under Article 12o(3) of the Act on Banks and Article 8al(3) of the Act on Credit Unions.[3]
  4. The financial cycle indicator is indicating a decrease in newly accepted cyclical risks in banks’ balance sheets and a decline of the domestic economy from the previous peak of the financial cycle in 2019 Q3. The decline was due mainly to weakening credit growth.[4] By contrast, the rate of property price growth remained elevated and continued to exceed the growth in households’ incomes. In line with this, the overvaluation of apartment prices increased slightly at the end of 2019 Q3 and was between 15% and 20% according to CNB analyses.[5] Despite slower cyclical risk-taking, banks’ balance sheets still contain increased risks accepted in the growth phase of the financial cycle, risks that may potentially result in high credit losses in the future. The prudential estimate of these losses is currently indicating a need for additional capital of CZK 17 billion. Cyclically low risk weights on loan portfolios under the IRB approach, which have been affected by the long-running favourable economic conditions and the related low asset impairment losses, also remain a source of systemic risk. A return of these risk weights to the levels observed at the start of the strongly expansionary phase of the financial cycle[6] would increase the absolute capital requirement and decrease the capital ratio. The aggregate estimate of the materialisation of unexpected credit losses and growth in risk weights is an additional capital requirement of around CZK 41 billion. This might mean on the aggregate level that the banking sector is failing to take the potential level of credit risk materialisation sufficiently into account in the current phase of the financial cycle. If these conditions were to last for an extended period, they would lead to a sharp decline in the banking sector’s resilience. The overall assessment of the position of the economy in the financial cycle, taking account of vulnerability indicators, and the quantification of risks accumulated in the banking sector imply a need to create a countercyclical capital buffer for exposures located in the Czech Republic. However, the situation currently does not require a change in the buffer rate.
  5. Owing to the coronavirus contagion and the related preventive measures, economic activity is highly likely to deteriorate during 2020. This will be reflected in credit growth and the quality of institutions’ loan portfolios. The capital position of the domestic banking sector is currently robust thanks to capital buffers and voluntary capital surpluses. The banking sector as a whole can cope with the consequences of even significantly adverse economic developments.
  6. Based on the above assessment, the CNB Bank Board has decided to set the countercyclical capital buffer rate at 1.75%. Given the probably long-lasting economic consequences of the new coronavirus epidemic, the countercyclical capital buffer rate will probably not be increased for at least 12 months. The CNB remains ready to release the buffer immediately and fully were the banking sector’s unexpected losses to rise, in order to support banks’ ability to provide credit to non-financial corporations and households without interruption. Due to the high uncertainty regarding further economic developments, the CNB expects in the current situation that banks will, with immediate effect and until both the acute and longer-term consequences of the new coronavirus epidemic fade away, refrain from any dividend payouts or any other steps that might jeopardise individual banks’ resilience.
  7. Pursuant to Article 12x(1) of the Act on Bank and Article 8au(1) of the Act on Credit Unions, this provision of a general nature is announced only in a manner facilitating remote access and takes effect on the day of its publication.

Effect

This Provision shall take effect on 20 March 2020.

Tomáš Nidetzký
Deputy Governor
Jan Frait
Executive Director, Financial Stability Department

This provision of a general nature was published on 20 March 2020.


[1] In accordance with ESRB Recommendation 2014/1 (Recommendation of the European Systemic Risk Board of 18 June 2014 on guidance for setting countercyclical buffer rates), total credit means the value of all loans provided to the private sector (non-financial corporations, households and non-profit institutions serving households) plus the volume of bonds issued by the domestic private sector. The time series of 1995 Q1–2019 Q3 and the Hodrick-Prescott filter with a smoothing parameter (λ) of 400,000 are used to calculate the long-term trend of the credit-to-GDP ratio. The time series of 1995 Q1–2019 Q3 and the Hodrick-Prescott filter with a smoothing parameter (λ) of 400,000 are used to calculate the long-term trend of the credit-to-GDP ratio.

[2] The additional gap – the expansionary credit gap – is calculated as the difference between the current ratio of bank loans to gross value added of the private non-financial sector and the minimum level of this ratio achieved in the past eight quarters.

[3] The approach of the Czech National Bank to setting the countercyclical buffer rate is presented in the thematic article Hájek J., Frait J. ands Plašil M. (2017): The Countercyclical Capital Buffer in the Czech Republic, Financial Stability Report 2016/2017. Minor revisions of this approach are regularly published in the Financial Stability Report and Risks to Financial Stability and Their Indicators.

[4] The annual growth rates of bank loans provided to households for house purchase and for consumption were 6.7% and 7.1% respectively in December 2019. Loans to non-financial corporations increased by 3.3% year on year in December 2019.

[5] The CNB uses two approaches to assess the overvaluation of residential property: macroprudential and valuation (for details see the thematic article on financial stability 1/2019).

[6] According to the CNB’s estimate, the Czech economy entered the strongly expansionary phase of the financial cycle in 2015 H2.