Financial system in Slovenia remains stable; elevated risks amid change in economic situation
Banka Slovenije finds the financial system in Slovenia to have remained stable this year. In the wake of the anticipated downturn in the economy, and persistent high inflation, in which the key factor was the Russian military aggression and its accompanying effects and uncertainties, the systemic risks to financial stability are elevated.
Banka Slovenije identifies the largest risks as (a) macroeconomic risk, (b) credit risk, (c) risks inherent in the real estate market, and (d) interest rate risk. The banking system’s resilience to any realisation of risks remains robust.
Banka Slovenije supports the resilience of the banking system through macroprudential policy, which currently is primarily addressing access to loans, and is also limiting the transmission of risks from the real estate market to the banking system. Monetary policy normalisation within the framework of the ECB is helping to prevent the current inflation expectations from extending over the medium term.
Key systemic risks to the Slovenian banking system
The continuing Russian military aggression against Ukraine and its effects represent the greatest risk to future economic growth. Macroeconomic risk, which is the key to defining the environment in which banks and savings banks do business, thus remains elevated. Soaring inflation, the disruptions to supply chains, and declining confidence are worsening the macroeconomic situation. Banka Slovenije’s assessment is that the worsening economic situation could spill over into the financial system. Furthermore, the continued worsening of the economic situation could strengthen this risk in the future.
Indicators of credit portfolio quality have improved further, but the assessment of credit risk remains elevated in the third quarter. Our assessment is that the downturn in the macroeconomic outlook and the high inflation will have an adverse impact on the future performance and debt servicing capacity of bank customers.
The risk inherent in the real estate market remains elevated, as a result of the continuing surge in residential real estate prices and strengthened housing lending. The further rise in fixed-rate long-term housing loans is additionally increasing the banks’ interest sensitivity. Interest rate risk thus remains elevated, with a trend of increase over the horizon of one year.
Having long been elevated, income risk is gradually declining. The favourable trends are evident in growth in net interest income driven by higher lending and the accompanying positive quantity effects, while the overall negative growth from price effects has diminished at the same time. Amid the normalisation of monetary policy, additional positive effects on income generation at banks can also be anticipated. There remains considerable uncertainty surrounding future developments in connection with the need to create impairments and provisions, which will be a major factor in bank performance.
Resilience of the banking system
The resilience of the banking system and its capacity to absorb the adverse effects of any realisation of systemic risks is assessed as medium in the solvency and profitability segment, and high in the liquidity segment.
Action to address macroeconomic risks
Given the anticipated weakening of the economy and the continuing high consumer price inflation across the euro area, including Slovenia, adjustments are being made to monetary policy within the framework of the ECB. The Governing Council of the ECB thus decided at its June meeting to continue normalising monetary policy, with the intention of raising key interest rates. This was realised in July (a hike of 50 basis points), with one more hike following in September (of 75 basis points). The interest rate hikes and their impact on the financing conditions will prevent current inflation expectations from extending over the medium term. Banka Slovenije emphasises that curbing excessive inflation requires all strands of economic policy to work together well, as pressures on the supply side cannot be effectively addressed by monetary policy alone.
Action to address risks in the financial system
Banka Slovenije is addressing the aforementioned risks by means of adjustments to its macroeconomic measures. They aim not only to limit excessive credit growth and excessive exposure, but also to increase the resilience of the banking system and thus to act as a buffer to financial cycles.
The Regulation on macroprudential restrictions on consumer lending adopted in May thus brings changes that will increase access to loans for retail customers, while limiting the transfer of risks from the real estate market to the banking system and strengthening resilience in the event of any realisation of risks.
A look at the responses to the difficult situation across the EU shows that strengthening capital buffers is a commonly deployed response. The aim is to increase the resilience of banks and to protect the banking system from any losses resulting from excessive credit growth. Approximately a third of EU Member States have strengthened the resilience of the banking system in recent years by introducing a positive countercyclical capital buffer in the amount of between 0.5% and 1.0%. The rate in Slovenia is currently set at zero. Any decision to change it over the coming months, particularly in the event of worsening risks, will depend on the economic situation, and developments in credit activity and on the real estate market.
Figure: Risk and resilience dashboard