Provision of a general nature I/2019

on setting the countercyclical capital buffer rate for the Czech Republic No. I/2019

of 7 March 2019

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”), 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”) and Article 9al(5) of Act No. 256/2004 Coll., on Capital Market Undertakings, as amended by Act No. 375/2015 Coll. (hereinafter referred to as the “Capital Market Undertakings Act”), 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, Article 8al(3) of the Act on Credit Unions and Article 9al(3) of the Capital Market Undertakings Act, 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, credit unions and investment firms pursuant to Article 9aj(1) of the Capital Market Undertakings Act shall apply the rate referred to in point I for the purposes of calculating the combined buffer requirement as from 1 April 2020.

Justification

1. Pursuant to Article 12o(3) of the Act on Banks, Article 8al(3) of the Act on Credit Unions and Article 9al(3) of the Capital Market Undertakings Act, the Czech National Bank 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, Article 8al(1) and (2) of the Act on Credit Unions and Article 9al(1) and (2) of the Capital Market Undertakings Act, the recommendations issued by the European Systemic Risk Board (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 90.4% and the relevant deviation from the long-term trend -1.0 percentage point in 2018 Q3.¹ This value 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 corresponds to a benchmark countercyclical capital buffer (CCyB) rate of 0%. The additional gap,² which is calculated in accordance with the ESRB Recommendation (section B, Article 2) and better reflects the specificities of the Czech economy, was 2.3 percentage points in 2018 Q3 and implies a benchmark rate of 0.25%.

3. In reaction to the ESRB recommendation, the Czech National Bank 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 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, Article 8al(3) of the Act on Credit Unions and Article 9al(3) of the Capital Market Undertakings Act.³

4. According to the CNB’s assessment, the Czech economy is continuing to move gently into the growth phase of the financial cycle. The increase in monetary policy rates has so far been reflected only partially in client interest rates in the household sector. Coupled with continued rapid wage growth, this means that financial conditions have remained easy for households. Taking into account wage growth, the low interest rate level has triggered household optimism about debt servicing and has fostered robust credit growth. Growth rates of key credit aggregates have been above average from the long-term and medium-term perspectives for both households and non-financial corporations.⁴ Amid insufficient supply of apartments in cities, the record-high volume of house purchase loans provided has resulted in rapid growth in residential property prices. According to newly used sustainability indicators, the overvaluation of apartment prices was in the range of 11%–14% in 2018 Q3.⁵ Favourable economic developments have been echoed in very low impairment losses and an optimistic perception of the degree of credit risks undertaken. The ratio of provisions to total loans is currently lower than at the end of 2017. The capital requirements and derived risk weights of loans to households in banks with the IRB approach have decreased due to favourable cyclical developments. This might mean on the aggregate level that the banking sector’s assessment of credit risk is over-optimistic and fails to take its actual level fully into account in the longer term. If these conditions were to last for an extended period, they would lead to the banking sector becoming insufficiently resilient. One of the implications of the switch to the IFRS 9 accounting standard also remains an additional source of vulnerability. IFRS 9 is supposed to be beneficial to financial stability from the long-term perspective, because unlike the previous IAS 39 standard it creates conditions for early and sufficient loan loss provisioning. However, the results of the macro stress tests of banks published in Financial Stability Report 2017/2018 support the view that IFRS 9 may have a significant effect in the form of a rapid and sharp pass-through of an adverse situation to capital in certain conditions. The overall assessment of the position of the economy in the financial cycle taking account of banking sector vulnerability indicators implies a need to create a countercyclical capital buffer for exposures located in the Czech Republic. However, the situation does not currently require an immediate response in the form of an increase in the buffer rate.

5. Based on the above assessment, the CNB Bank Board has decided to set the countercyclical capital buffer rate at 1.75%.⁶ The CNB stands ready to increase the CCyB rate further in the event of continued rapid credit growth, increasing risks connected with property purchase financing, a strengthening of other cyclical sources of systemic risk and a rise in the vulnerability of the banking sector.

Effect

This Provision shall take effect on 15 March 2019.

This provision of a general nature was published on 15 March 2019.

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 Q1–2018 Q3 and the Hodrick-Prescott filter with a smoothing parameter (?) 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 detailed approach of the Czech National Bank to setting the countercyclical buffer rate is presented in the thematic article Hájek J., Frait J. and Plašil M. (2017): The Countercyclical Capital Buffer in the Czech Republic, Financial Stability Report 2016/2017.

⁴ The annual growth rates of bank loans provided to households for house purchase and for consumption were 8.5% and 6.4% respectively in December 2018. Loans to non-financial corporations increased by 5.7% year on year in December 2018.

⁵ The CNB uses two approaches to assess the overvaluation of residential property: macroprudential and valuation (for details see Risks to Financial Stability and Their Indicators – December 2018).

⁶ Institutions shall apply a countercyclical capital buffer rate of 1.75% of the total risk exposure for the purposes of calculating the combined buffer requirement as from 1 January 2020. In line with provisions of a general nature issued earlier, institutions shall apply a buffer rate of 1.50% from 1 July 2019 to 31 December 2019. In line with the provisions of a general nature issued earlier, institutions shall apply a countercyclical capital buffer rate of 1.25% from 1 January 2019 to 30 June 2019.