FINANCIAL STABILITY REVIEW. The number of companies facing difficulties with loans is starting to rise a little
The latest financial stability review from Eesti Pank finds that the number of companies having problems in repaying their loans will rise a little in the near term. The number will however remain much lower than it was during the economic crisis of 2008-2010. The banks in Estonia have sufficient buffers to cover an increase in problem loans and continue lending to companies and people.
Around 0.2% of corporate loans were overdue more than 60 days in autumn this year, but by 2023 that will probably rise to close to 2% if the economy develops as Eesti Pank forecast in September. For comparison, as many as 10% of loans were long-term overdue in the 2008-2010 crisis. At the same time, there is currently a great deal of uncertainty about how the economy will develop in the near term because of the war in Ukraine among other factors.
Companies will start to face problems with repaying their loans partly because of demand for products and services declining as the economy cools, which will reduce their revenues, and partly because their costs will rise as inflation is high and interest rates on loans are rising. The central bank believes that most companies will be able to cope with servicing their loans as they can use the financial buffers built up in recent years.
Eesti Pank considers that the capacity of households to repay their housing loans remains intact despite the rising interest rates, and that the level of problem loans will probably advance to 0.3% in 2023. That figure was close to 5% in the crisis of 2008-2010. How able people are to repay their loans depends primarily on the labour market, and the Eesti Pank September forecast expects unemployment to rise by only a small amount next year. The share of consumer loans facing problems is expected to rise to 2% next year.
Even as the volume of problem loans rose, the banks in Estonia have sufficient buffers to be able to cope with those loans and still carry on lending to companies and people. The rise in interest rates will support the profits of the banks and so their capacity to cover loan losses.
The war that Russia started in Ukraine and higher interest rates from the central banks will make it more expensive than before for the banks to raise funding from international financial markets. At the same time, the banks in Estonia have become a little more dependent on those international financial markets, as they have in recent years been more active at issuing bonds to raise funds from the markets.
Financial markets have, however, a limited effect on the funding of the banks and so on the loan market, as the great majority of banks in Estonia fund themselves from deposits. Funding for Estonian banks and companies from issuing bonds is made more expensive not only by the rising interest rates, but also by foreign investors assessing that the war makes the region more risky.
The central bank considers that the banks are more exposed than before as their loan portfolios have grown rapidly, and they could face bigger loan losses if the economic climate were to deteriorate. Not only housing loans but also corporate loans have started to grow increasingly quickly, and although the real estate market is showing the first signs of quietening down, housing loans continue to be issued at historically high levels.
Eesti Pank is planning to raise the countercyclical capital buffer requirement for the banks from 1% to 1.5%. The central bank considers that this will help reduce the risks that accompany the rapid growth in the loan portfolio of the banks and ensure that they are able to continue funding the Estonian economy. The higher rate of the countercyclical capital buffer will start to apply from December 2023. Eesti Pank will assess the state of the loan market again in six months, and is ready to cancel the rise in the buffer if the growth in lending has clearly slowed and a deterioration in the economic or financial climate means that capital requirements are starting to restrict lending excessively.
Eesti Pank also decided to raise the systemically important institutions capital buffer requirement for LHV Pank from 1.5% to 2%, as the market share of the bank has grown rapidly. The capital buffer will start to apply for LHV Pank at its new level from the start of 2023.
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