Banking scandals may make borrowing more expensive
The financial position of the Estonian banking sector is good and the risks to it are small. The biggest risks for Estonian banking are related to the money laundering scandals that have hit the Nordic banking groups operating in Estonia. Reputational damage to the banks could worsen the funding conditions of the Nordic banking groups, which could also make loans more expensive and harder to access for people and companies in Estonia.
The money laundering scandals have not yet had any notable effect on financial stability in Estonia or on the funding of the banks operating in Estonia. The share prices of the Nordic banking groups that have been caught up in the scandal have fallen however. The impact on financial stability in Estonia is reduced substantially because the banks in Estonia fund themselves largely through domestic deposits.
The total assets of the Estonian banking sector grew by 42% last year. The growth came largely because of structural changes in the Luminor group as the Latvian and Lithuanian subsidiaries of the bank became branches with the head office in Estonia. The health of the Estonian financial sector is now more dependent than before on developments in the Latvian and Lithuanian economies and banking sectors. For Eesti Pank, the changes at Luminor mean that macroprudential supervision will have to take greater account of the state of banking and the economies in the other two Baltic states than previously. If Luminor should need extraordinary liquidity assistance at any point in the future, it will be Eesti Pank that will have to provide it as the central bank of the country where the group’s head office is based. The risks from the structural changes at Luminor are reduced by the strong financial position of the group and its high level of own funds.
The financial sector in Estonia is affected by rapid wage growth and strong confidence, which may increase demand for housing and accelerate the growth in housing loans. While the economy is doing well, borrowers may overestimate their capacity to borrow and take on more loans than they can manage. People in Estonia have managed well with repaying their housing loans in recent years, and loan losses are very small. As a result the larger banks have been able to assess that they need less capital to cover the risks related to housing loans. If the state of the economy should deteriorate though, loan losses could increase significantly. To reduce the risk from housing loans, Eesti Pank is planning to introduce a requirement for the commercial banks that they should calculate their capital requirement for housing loans on the basis of at least 15% of outstanding housing loans.
The plan of the new government to make the second pension pillar voluntary brings risks to financial stability, to balance in the economy, and to the sustainability of the state budget. If some people take their money out of the second pillar, it could reduce the value of the units of the remaining investors. The money taken out of the pension pillar will probably also be used for consumption and for buying real estate, which could increase the danger of overheating in the economy and in the real estate market, and accelerate excessively the growth in housing loans. If an ageing population does not save enough for retirement, the state needs to find other solutions for how it will pay pensions in future.
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