Financial Stability Review: Systemic risks to financial stability have declined in recent quarters, but nevertheless remain elevated

Amid the economic recovery in recent quarters, there is still uncertainty surrounding the ongoing evolution of the epidemic. In this situation the monetary policy stance remains highly accommodative, although we are withdrawing certain other measures that were put in place to support households and businesses during the initial waves of the epidemic.

The economic recovery is also bringing an improvement in business conditions for banks. Banka Slovenije finds that amid the high growth in residential real estate prices, the risks inherent in the real estate market are strengthening in particular. Macroeconomic risk and credit risk have gradually eased in recent quarters as the economy recovers, but they remain elevated in the context of the persistent risk surrounding the further evolution of the epidemic. The general risk level is therefore declining slightly relative to our assessments in the last few quarters, but at the same time our attention is switching to slightly different risks from those that were the focus in the recent past. Banka Slovenije notes that alongside the current challenges, the banking system is also facing challenges to the long-term sustainability of profitability, and changes that demand a modified and clearly defined strategy of action.

The Financial Stability Review further finds that the financial system’s resilience to systemic risks remains relatively good, given the scale of the economic policy measures taken.

Banka Slovenije actions

The euro area and Slovenian economies have recovered in recent quarters, and the pre-crisis level of economic activity is being regained. Certain risks nevertheless remain, as we entered a new wave of the pandemic in the autumn, which because of the low vaccination levels is more intense in Slovenia than in most other euro area countries.

ECB monetary policy remains highly accommodative, and thus continues to ensure ample liquidity and favourable financing conditions for the banking sector, the non-banking sector and euro area governments.

At the same time other measures that were put in place during the worst of the pandemic to support the economy and to ensure financial stability are gradually being lifted amid the encouraging performance. It was already decided in the first half of the year that the system-wide measure of favourable treatment of loan moratoria is no longer necessary. On the basis of in-depth analysis and in line with the decisions taken at European level, the decision was also made recently not to extend the macroprudential measure that until the end of September had restricted banks and savings banks from profit distributions, or the recommendation to leasing companies advising moderation in profit distributions.

Key risks to the banking system

Macroeconomic risk is easing as the economy recovers, but remains elevated amid the uncertainty surrounding the new wave of cases, which could slow the recovery. The economic recovery is pushing risks inherent in the real estate market to the fore. The current high growth in residential real estate prices could continue in the future, as the background to this high growth is a combination of structural factors that have been building up for some time now, and over which central banks have no influence. Credit risk also remains among the key risks in the banking system. The economic recovery and the resumption of repayments of the majority of loans covered by a moratorium have seen it decline, but it remains elevated given the uncertainty and the expectations of an increased inflow of non-performing exposures after the support measures expire. Income risk remains elevated, as in the short term, despite the positive trends in loans to the non-banking sector, we do not expect any major shifts in the generation of interest income by the banks.

Banks’ resilience

The banking system’s resilience in the segment of solvency and profitability remains good. Pre-tax profit over the first seven months of 2021 was high, up almost 90% on the same period last year. The key factor in the high pre-tax profit is the net release of impairments and provisions at the majority of the banks. Although bank profitability is high for the moment, there are question marks over its future sustainability, and with it the possibility of strengthening capital and maintaining stable capital adequacy.

Figure 1: Risk and resilience dashboard

Structural challenges to the banking system

Banka Slovenije also highlights that amid the gradual improvement in the general risk level, structural imbalances that are reflected in the banking system’s balance sheet are again coming to the fore. Under the prevailing business model in the banking system, which is universal in a relatively small market, the long-term sustainability of profitability is being put to the test, despite the gradual consolidation of the banking system. The pandemic also showed how important it is to exploit the opportunity of digital business and other sales channels. Considerable opportunities in the use of new technologies still remain unexploited. The green agenda is also becoming increasingly important, and will again be at the forefront once the pandemic has eased: the banks can make a significant contribution to the green transformation of the economy. All of this requires the banks to modify and clearly define their strategy of action.

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