Press release - The Meeting of the Governing Board of the Bank of Slovenia on 26 May 2015

05/26/2015 / Press release

The Governing Board of the Bank of Slovenia discussed current supervisory matters at today’s meeting. 
It also discussed and approved the following materials: the Financial Stability Review (May 2015), theSummary of macroeconomic developments (May 2015)* and the Analysis of fees charged by banks and savings banks for payment services and calculation of the costs of payment service baskets for 2014*

Conditions in the banking system were more stable at the beginning of 2015 than they were in the period prior to the start of the bank recovery and resolution process. In addition to the positive effects of the aforementioned process, improvements in the macroeconomic environment and favourable expectations for both Slovenia and the euro area also contributed to the more favourable development of systemic risks. Income risk is moving to the fore as credit risk diminishes. In previous years, the former was primarily affected by a high level of impairments of non-performing claims, while the main factors this year are low reference interest rates and unfavourable changes in the structure of the banking system’s investments in the direction of less-risky, but also less profitable investments.

Credit risk remains one of the major risks in banking system, albeit to a lesser extent than a year ago. Contributing to the decrease in the stock and proportion of non-performing claims (claims more than 90 days in arrears) to 11.4% in March were both the transfer of non-performing claims to the BAMC in the final quarter of 2014 and the autonomous process of improving the quality of the credit portfolio. The process of reducing the proportion of claims more than 90 days in arrears would be even faster if the banks were not faced with a contraction in the scope of operations.

Several indicators in recent months point to a possible reversal in lending to the non-banking sector. The stock of newly approved corporate loans, particularly long-term loans, has begun to record growth. Bank lending rates are falling rapidly this year and are approaching the euro area average, which increases their competitiveness and could result in an increase in credit demand from companies that currently search for sources in the rest of the world. Corporate demand for loans has been strengthening since the beginning of last year, while demand from large corporates has been strengthening for an even longer period. Households continue to refrain from additional borrowing, which is seen primarily in weak demand for consumer loans, while growth in housing loans remains positive. 
The poorest quality of claims continues to be seen in terms of exposure to non-residents and corporates. Non-performing claims against non-residents have remained unchanged in terms of the stock for some time, but are rising in relative terms and already account for a quarter of the banking system’s total non-performing claims. That proportion has doubled since prior to the start of the bank recovery and resolution process.

The continued financial and operational restructuring of corporates is crucial for a further improvement in the quality of the portfolio, although at 17.8%, the proportion of non-performing claims is considerably more favourable than it was prior to the start of the bank recovery and resolution process. The continuation of the domestic economic recovery will be an important factor in easing the corporate financial restructuring process. The aforementioned process has been particularly intensive over the last three years, when corporate leverage declined by 23 percentage points to a more acceptable 112%. Since the outbreak of the financial crisis, the decline in leverage has been driven primarily by a decrease in debt-related liabilities and to a significantly lesser extent by an increase in equity. However, the deleveraging process will slow in the coming period due to the economic recovery. Slovenian corporates’ debt servicing capacity improved last year, as the net financial debt to EBITDA ratio was also lower on account of the doubling of the real sector’s net profit. Despite their improving debt servicing capacity, corporates must ensure a more sustainable debt-to-equity ratio in the future than in the pre-crisis period.

Within the corporate sector, the quality of the portfolio of small and medium-sized enterprises (SMEs) is relatively poorer. This presents a challenge in terms of resolving this client segment due to its greater diversification. This part of the portfolio already accounts for 64% of all non-performing claims against corporates. It is therefore reasonable to expect that the banks will dedicate more activities to this part of the portfolio with the aim of restructuring and resolving the associated debt. While large corporates were under greater financial stress during the first phase of the crisis until 2012, the SME segment has been hit hard by the crisis in the most recent period.Some 74% of the total excess debt of the corporate sector is concentrated in the SME segment. The latter have been considerably more successful in deleveraging than large corporates during the crisis, but remain limited in terms of bank financing. SMEs also require more opportunities for equity financing via alternative financial institutions or via the capital market, which would facilitate new investments by this segment of corporates and contribute to a reduction in excess debt through the generation of higher profits. It is generally true for Slovenian corporates that their continued reduction in leverage must rely more heavily on additional equity financing in the future and less on reducing their debt. It was the reduction of corporate debt that led to a deterioration in the liquidity of the real sector in the past, and thus a deterioration in the quality of the banking system’s portfolio.

The coverage of non-performing claims by impairments has risen further to 64%. For this reason and due to the extensive recapitalisation of the banks between December 2013 and December 2014, the banking system’s resilience to potential major losses has improved significantly. The ratio of non-performing claims for which impairments have not been created to the banking system’s capital has fallen from 106% prior to the start of the bank recovery and resolution process to 35%, primarily at the large domestic banks, while that ratio remains unfavourable at the small domestic banks, which do not achieve a sufficient level of capital adequacy.

Overall capital adequacy and the Tier 1 capital ratio improved further last year, the former to 17.9% and the latter to 17.2%, and were well above the EU average. The aforementioned improvement is primarily the result of the recapitalisation of Abanka and Banka Celje, and a reduction in capital requirements, for the most part on account of the transfer of the two banks’ claims to the BAMC, which reduced exposures with the high risk weight. In the context of diminishing solvency risk for the banking system overall and for the large domestic banks in particular, the small domestic banks remain exposed to the aforementioned risk, despite an improvement in 2014.

Income risk is one of the rare forms of risk that are rising for the banks. Despite a temporary improvement in the net interest margin last year, the profitability of the banking system is limited due to low market interest rates, a contraction in the scope of the banks’ operations and a high proportion of non-performing claims in their portfolio. The banks responded to falling deposit rates with a delay by beginning to cut lending rates, which could have an adverse impact on the banking system’s income in the short term, but in the long term could stimulate an increase in lending and the return of corporate clients that have secured financing in the rest of the world under more favourable conditions. Due to their aversion to risk, the banks are maintaining a significant portion of their investments in low-risk but less profitable investments.

Low interest rates in 2014 led to an increase in interest-rate risk at the banks. The banks have become more exposed to the risk of a rise in interest rates on account of a growing proportion of investments in securities with a longer average interest rate repricing period and the shortening of maturities of financing sources. The probability of further cuts in interest rates has diminished considerably, while the probability of future increases in interest rates has risen.

The banks made intensive debt repayments on the wholesale markets in previous years, while that process slowed significantly last year on account of a reduction in outstanding debt. The structure of financing is similar to the structure seen prior to the period of extensive borrowing by the banks in the rest of the world: the proportion of loans raised at foreign banks has fallen from 36% prior to the outbreak of the crisis to 15.4%, while the proportion of funding secured from the ECB has fallen from its peak of 8.7% at the end of 2012 to just 2.2%. Refinancing risk has diminished as a result, while the banks under majority domestic ownership have successfully borrowed on the wholesale markets, as well, after an extended period. The banks are more vulnerable to maintaining a stable funding structure than they are with respect to refinancing risk. The proportion of deposits by the non-banking sector, particularly by households, as the most stable form of funding, is rising. That growth, however, is gradually slowing. Growth in the proportion of total deposits accounted for by sight deposits indicates investors’ willingness to search for alternative investments, which has already been seen in growth in net inflows into mutual funds in the context of slowing growth in bank deposits. Nevertheless, the banks are not expected to be exposed to an increase in liquidity risk while there is currently a high level of excess liquidity. The ECB’s non-standard monetary policy measures provide the banks a relatively affordable and stable source of liquidity, as well as the opportunity to increase lending activities. The Slovenian banks did not exploit such opportunities to any great extent last year.

While the bank recovery and resolution process, together with the improving macroeconomic situation, contributed significantly to the banking system’s greater resilience to unexpected shocks, low interest rates brought changes to other segments of the financial sector. Non-banking financial intermediaries, such as leasing companies, are gaining in importance. On the savings side, an increase was recorded in funds invested in investment funds and other assets. Regulation and control over the aforementioned intermediaries continues to lag significantly behind the banking sector.

Euro area economic growth continued to strengthen during the first quarter, although quite unevenly and only moderately on average. Quarter-on-quarter growth rose to 0.4%, while year-on-year growth stood at 1.0%. Growth in Germany lagged somewhat behind forecast growth, while growth was up in the majority of other major European economies. Last year’s fall in unemployment came to halt, but without a reversal upwards. After four months of negative inflation, year-on-year growth in prices returned to zero in April, with the prevailing expectation that the rate will distance itself further from deflation in the coming months. After improving for three months, economic sentiment indicators deteriorated slightly in April and May, but remain at their highest levels of the last three years. With the exception of Russia, the majority of forecasts for Slovenia’s main export markets remain favourable.

Solid foreign demand and improving cost competitiveness helped maintain positive growth in Slovenian industrial production and exports (both merchandise exports and exports of services). The current account surplus thus held fast at around 6% of GDP. Growth in manufacturing is currently quite diversified. However, the fact that Slovenian exports have been driven in the last three years by only three high-tech sectors should not be overlooked. The absence of technological progress and restructuring for several years is gradually becoming apparent, and will likely be even more apparent in the future. The contribution of growth in labour productivity to economic growth has again been very minor this year.

Compared with the export sector, signals from the domestic market remain mixed. The consumer confidence indicator continued to rise until May, a trend that has been present for a year already, while retail trade figures until March point to barely perceptible growth in year-on-year terms and even a small decline in growth in current terms, the only exception being the trade and repair of motor vehicles. The construction sector recorded a slight decline in year-on-year terms, and has stagnated in current terms. Only the broader category of services (excluding trade) has recorded significant positive growth in nearly every sector.

Taken as a whole, solid economic growth continued in the first quarter, which is also confirmed by data from the labour market. The workforce in employment has been recording stable annual growth of around 2% since last spring, while that growth continued at the same pace until March. The unemployment rate remains high, but has fallen by 1 percentage point over the last year, and continued to fall until April. The aforementioned decline is still too weak to affect average wages, which were down again at the beginning of the year by around 1%. That and growing precarity with respect to employment likely explain why increased growth in the labour market has not yet passed through to comparable growth in household consumption.

At -0.7%, April’s inflation rate, as measured in by the HICP, reached another ‘record’ low. The main factor in the aforementioned rate was a decline in the prices of certain categories of services, which in turn resulted in a decline in all core inflation indicators. Taking into account the situation on the retail market, a low but positive core inflation rate will likely persist for some time. This year’s deflation has been dictated for the most part by falling energy prices, which in April contributed 1.1 percentage points to deflation (outstripping the euro area by 0.4 percentage points due to the higher weights applied to energy products in Slovenia and on account of a decrease in excise duties). The effect will diminish over the rest of the year, which will be noted for the first time in May, but will likely keep the inflation rate below zero until autumn.

The Ministry of Finance is planning a general government deficit of 2.9% of GDP for this year, bringing it back in line with the thresholds set out in the Stability and Growth Pact for the first time in six years. Figures according to the cash flow methodology indicate a year-on-year decline in revenues for the first two months of the year and an even more significant decrease in expenditure, while more up-to-date figures for taxes and contributions indicate a considerably better result over the next two months and a year-on-year increase of 6% over the first four months of the year, with growth present in nearly every category of taxes. The government borrowed at favourable interest rates: via a 20-year bond with an interest rate of 1.5% in March and a 12-month bill treasury bill with an interest rate of 0.19% in April.

The analysis addresses two key topics: an analysis of fees, which illustrates changes in the amount of fees for payment services in the period 31 December 2007 to 31 December 2014, and a calculation of the costs of payment service baskets by payment service provider. 

Findings included the fact that average fees rose in 17 of the 20 payment service categories analysed during the most recent observation period (2013/2014). The largest increase (of 15.00%) was recorded by the average fee for internal low-value payments by natural persons via electronic banking channels. An additional analysis was drawn up detailing changes in fees during the period 31 December 2014 to 1 May 2015, which studies the impact of the adoption of the Act amending the Taxation of Financial Services Act. The aforementioned act raises the tax rate from 6.5% to 8.5%. 
The calculation of the costs of baskets indicates that Delavska hranilnica d.d. is the most affordable for natural persons, notwithstanding the basket (Bank of Slovenia/Slovenian Consumers’ Association) or client type (traditional or e-client). The basket of payment services at the aforementioned service provider is up to EUR 206.04 cheaper than at the most expensive service provider. Savings for legal entities as the result of changing payment services provider can be even higher (due to a significantly higher number of transactions and due to generally higher fees), as a traditional client can save up to EUR 1,319.84 annually according to the calculation (the most affordable is Hranilnica in posojilnica Vipava d.d.), while an e-client can save up to EUR 450.06 (where the most affordable is likewise Hranilnica in posojilnica Vipava d.d.).

*Publications are currently available only in slovene language.