Provision of a general nature IV/2015

on setting the countercyclical capital buffer rate for the Czech Republic No. IV/2015

of 3 December 2015

Pursuant to Article 12f(5) of Act No. 21/1992 Coll., on Banks, as amended by Act No. 135/2014 Coll. (hereinafter referred to as the “Act on Banks”), Article 8ac(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. 135/2014 Coll. (hereinafter referred to as the “Act on Credit Unions”) and Article 9ac(5) of Act No. 256/2004 Coll., on Capital Market Undertakings, as amended by Act No. 135/2014 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 12f(3) of the Act on Banks, Article 8ac(3) of the Act on Credit Unions and Article 9ac(3) of the Capital Market Undertakings Act, the countercyclical capital buffer rate for the Czech Republic shall be set at 0.5% 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 9aa(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 January 2017.

III. As from 1 January 2016, pursuant to Part X, Articles 1b, 2, 3 and 4 of Act No. 135/2014 Coll., (i) this provision of a general nature shall be deemed a provision of a general nature issued in accordance with Article 12o of the Act on Banks, Article 8al of the Act on Credit Unions and Article 9al of the Capital Market Undertakings Act, and (ii) an investment firm pursuant to Article 9aa of the Capital Market Undertaking Act shall mean an investment firm pursuant to Article 9aj of the Capital Market Undertakings Act.

Justification

1. Pursuant to Article 12f(3) of the Act on Banks, Article 8ac(3) of the Act on Credit Unions and Article 9ac(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 12f(1) and (2) of the Act on Banks, Article 8ac(1) and (2) of the Act on Credit Unions and Article 9ac(1) and (2) of the Capital Market Undertakings Act, the recommendations issued by the European Systemic Risk Board (ESRB) and any indicators that can identify growth in systemic risk.
2. Pursuant to Article 12f(1) of the Act on Banks, Article 8ac(1) of the Act on Credit Unions and Article 9ac(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. In accordance with the ESRB Recommendation¹, 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 1995–2015 and – in accordance with the ESRB Recommendation – the Hodrick-Prescott filter with a smoothing parameter (?) of 400,000 were used to calculate the long-term trend of the credit-to-GDP ratio. The standardised credit-to-GDP ratio was 75.6% and its deviation from the long-term trend 3.1 percentage points in 2015 Q2. If additional factors were not taken into account, these values would imply setting the benchmark countercyclical capital buffer rate pursuant to Article 12f(1) and (2) of the Act on Banks, Article 8ac(1) and (2) of the Act on Credit Unions and Article 9ac(1) and (2) of the Capital Market Undertakings Act at 0.5%.
3. Pursuant to Article 12f(2) of the Act on Banks, Article 8ac(1) and (2) of the Act on Credit Unions and Article 9ac(1) and (2) of the Capital Market Undertakings Act, when calculating the countercyclical capital buffer guide the Czech National Bank shall take into account in particular the credit cycle and growth in loans provided in the Czech Republic, changes in the credit-to-GDP ratio, the specificities of the Czech national economy and the recommendations issued by the ESRB.
4. The specific features of the Czech economy include the limited length of the time series of the credit-to-GDP ratio, structural (non-cyclical) breaks caused by the banking crisis in the late 1990s² and trends typical of converging economies. In reaction to the ESRB recommendation, however, the Czech National Bank has repeatedly emphasised in its publications (particularly the Financial Stability Report) that the method of calculation of the deviation of the credit-to-GDP ratio from its long-term trend is not entirely appropriate for the Czech economy in view of its specificities and so cannot be taken into account in full when deciding on the rate. For this reason, when setting the countercyclical capital buffer rate the Czech National Bank prefers to apply an approach based on a wider set of indicators and taking account of the specific features of converging economies.
5. In accordance with the ESRB recommendation,³ the Czech National Bank therefore calculates the additional deviation of the credit-to-GDP ratio from its long-term trend based on a shorter time series which does not include periods with write-offs of non-performing loans (i.e. on the time series starting in 2004). The deviation from the trend calculated in this way was -5.7 percentage points in 2015 Q2 and implies a zero countercyclical capital buffer rate. This indicator may better characterise the position of the Czech economy in the financial cycle than the indicator based on the 1995–2015 time series.⁴ However, the Czech National Bank considers the values of the additional deviation to be only approximate and sets the rate on the basis of a comprehensive assessment of the situation based on further relevant indicators which enable it to identify the position in the credit cycle and which may indicate an increase in systemic risk.
6. Credit growth is an important guide for setting the countercyclical capital buffer. The overall situation on the Czech credit market is characterised by increased activity resulting in stronger credit growth in the financial system. In September 2015, the annual growth rate of bank loans to non-financial corporations was 10.8% and that to households was 7%. For non-financial corporations these levels are well above the ten-year average, whereas for households they are still below it. The annual growth rates of new bank loans to households and non-financial corporations (as measured by the three-month moving average) stood at 13.8% and 4.4% respectively in Q3. These levels are well above the ten-year average in the case of households and only slightly above it in the case of non-financial corporations. A marked recovery is visible in the largest credit segment, namely loans to households secured by residential property. The stock of new loans in this segment rose by 26% year on year in 2015 Q2. Growth in total loans in the non-financial corporations sector was also intensified by a continued increase in issues of corporate bonds, although this came to a halt in 2015 Q3.
7. When setting the countercyclical capital buffer rate, the Czech National Bank takes into account additional indicators of potential growth in systemic risk. It considers the acceleration in private sector debt relative to income, the easing of credit standards and the property market developments in 2015 to be such indicators. The acceleration in private sector debt is increasing the private sector’s vulnerability to sudden economic shocks. The stronger growth in loans for house purchase may be reflected in further growth in residential property prices, which the Czech National Bank assesses as being slightly overvalued. There is therefore a risk of a spiral between property price growth and growth in loans used to finance property purchases. The combination of an economic recovery and very low lending interest rates, which is being reflected in a rise in investor optimism about both residential and commercial property, is a risk factor. A shift of the Czech economy to a more expansionary phase is also evidenced by the aggregate indicator of the financial cycle combining the above indicators and taking into account their correlation.  
8. Overall, the Czech National Bank’s assessment of the aforementioned indicators is that the Czech economy has shifted within the financial cycle to a phase of stronger credit recovery accompanied by an easing of credit standards, in which sources of systemic risk are strengthening. This assessment implies a need to create a countercyclical capital buffer for exposures located in the Czech Republic. As the Czech National Bank has found the credit growth rate to be stronger but not clearly excessive, it has set the countercyclical capital buffer rate for exposures located in the Czech Republic at 0.5%. Should the acceleration of credit growth, easing of credit standards and growth in investor optimism continue, the CNB will stand ready to increase the countercyclical capital buffer rate further.
9. The institutions shall apply this rate as from 1 January 2017 (see statement II).

Effect

This Provision shall take effect on 18 December 2015.

This Provision of a General Nature was published on 18 December 2015.

¹ Recommendation of the European Systemic Risk Board of 18 June 2014 on guidance for setting countercyclical buffer rates (ESRB/2014/1).

² A decrease in the stock of credit in the late 1990s and early 2000s, due to write-offs of non-performing loans from banks’ balance sheets, had a significant effect on the estimate of the long-term trend of the credit-to-GDP ratio used for the calculation of the buffer guide.

³ Recommendation B(1).

⁴ See the comparison of the indicators of excessive borrowing and accumulation of risks in Table IV.3 in Financial Stability Report 2014/2015.