Keynote speech by Primož Dolenc at ACI Slovenia Annual Assembly

The speech as given takes precedence over the written version

Ladies and gentlemen, good evening!

Firstly, I’d like to thank the organisers for inviting me to this event. It’s wonderful to be here, in the lovely surroundings of Lipica, which is one of Slovenia’s main cultural monuments and in a way represents the harmony between man and nature. This reminds us that we need to be careful in every aspect of our lives to preserve it (i.e. nature). I am sure that financial experts are keeping that in mind as well, as green finance and ESG factors are increasingly important in the decision-making process. As you all know, Banka Slovenije strongly supports your association, because as financial experts and as an organisation, you are devoted to boosting financial expertise in different areas.

The last three years we have seen a series of new stress events hitting the global economy, and thus the financial system as well. Just when it seemed that the world  had got over the pandemic, which has dominated our lives and economies since 2020 like few economic shocks before it, another shock hit us last year, particularly hard on Europe, namely the Russian military aggression against Ukraine. In just over a year since its outbreak, the conflict has shown no significant signs of resolution, while its consequences have grown wider and deeper.

Nevertheless, the economic reality shows that individuals and businesses have adapted relatively quickly and successfully to these circumstances. This year has thus begun in a more stable environment. This stability also played its part in the general uncertainty triggered by developments in the US and Swiss banking system, which have not spilled over to the banking system in the EU. This is yet another evidence that the European banking system, or more broadly, European financial markets, are sound and trustworthy. I strongly believe that consistent implementation of the Basel standards, which apply to banks of all sizes in the EU, is a strong defence against future disruptions.

To reiterate, businesses have adapted relatively well to the changed circumstances over the last three years. Not only in Slovenia, but across Europe and beyond, the economic recovery after the pandemic has been strong. Even the war in Ukraine could not have seriously dented the European economy. Last winter there was considerable uncertainty surrounding energy supplies and the risk of recession, but current data suggests that the economic picture is more favourable than expected last autumn. Economic growth appears to have slowed, but analysis no longer suggests any significant chance of a recession in our wider environment this year. Economic growth is expected to remain positive, albeit not particularly high in the year ahead. Moreover, the labour market is seeing record high employment and low unemployment, and is forecast to tighten further in the future. The economic picture in Slovenia is similar to that in Europe as a whole. However, at this point I must note that we at the ECB are right now at the end of our regular exercise of preparing macroeconomic projections, so I cannot comment in more detail on how we see the economy developing further.

For more than a year and a half, we have been witnessing another economic phenomenon, which has arrived several months before the war in Ukraine, but deepened with the beginning of the Russian military aggression. Since the second half of 2021, like many other places, the euro area has been hit by inflation that is significantly above our monetary policy target rate. Inflation in the euro area, as measured by the HICP, reached 5% by the end of 2021, which marked the final turning point in our monetary policy. Had the war in Ukraine not broken out, and had we been spared its consequences, it would likely have been possible to return inflation to desirable territory through more gradual monetary policy action. Due to the various factors, the euro area inflation exceeded 10% last summer (and even earlier in Slovenia), a decisive step in the direction of more restrictive monetary policy has become unavoidable. The euro area’s common monetary policy is thus responding with significant hikes in interest rates and the discontinuation of the last remaining non-standard monetary policy measures. The next monetary policy steps will depend on the assessment of the current situation, in particular economic and financial data, developments in core inflation, and effectiveness of our measures.

Let me touch briefly on the health of our financial system. While previous iterations of the assessment of financial stability in Slovenia recorded elevated levels of risks to financial stability, on this occasion our finding is that the general level of risk to financial stability is gradually declining in Slovenia. Overall, according to our latest assessment the financial system has reached a general level of systemic risk equal to that seen in the period before the outbreak of the Russian aggression. According to our estimation, systemic risks to financial stability are likely to reduce in the future. Similar developments can be seen in other European countries and in the wider euro area, although certain differences remain.

In the last few quarters, especially since the second half of last year, the rise in inflation and the resulting monetary policy response have undoubtedly had the greatest impact on banking and the systemic risks to financial stability. In a period when inflation was too low, and monetary policy was consequently highly accommodative, the banking system had to adapt to operating in an environment of low or even negative interest rates. The signalling of a reversal in monetary policy relieved banks of the pressure to cut interest rates on loans. The booming post-pandemic economic environment, the diminished uncertainty and the built-up savings encouraged individuals to seek alternative investments, which was found on the real estate market in Slovenia. At this point let me reiterate that associations such as yours can play a crucial role in financial literacy and encourage institutions to seek opportunities and find solutions to boost the development of financial markets, which are very underdeveloped  in some segments in Europe, especially in Slovenia. Therefore, all your endeavours to enhance expertise in trading with financial instruments have, in my opinion, a broader significance.  

Let me point out a fact that I find especially important. Last year, the banks in Slovenia again recorded a pre-tax profit of more than 0.5 billion euros, despite increased uncertainty driving them to renew their creation of impairments and provisions, which had mostly been released for a number of preceding years. Comparing the Slovenian banking system side-by-side with those in other European countries, our system is one of the most profitable in terms of ROE, which was just over 10%. This goes hand in hand with the record high profits of the Slovenian corporate sector, which amounted to more than 7 billion euros last year. Slovenian banking system is now comparable to that of those European countries with the lowest NPL ratios, with the largest declines since the global financial crisis. Besides the obvious questions of where our banking system would go in the future, what business models can be derived and developed in this small yet globalised financial environment, the banks do not currently have any major issues in terms of operations. Of course, there is the question of when our monetary policy will be transmitted to banks’ funding and not only lending, but I think that the current environment also deserves attention in terms of broader responsibility of financial institutions.

In this respect, I am talking about global warming, which also poses a risk to the financial system. The growing importance of banks in supporting the green transition is a trend that will continue as part of the EU reaching its objective of net zero greenhouse gas emissions by 2050.

Central banks will also play a key role within the financial system in this context. There are many initiatives and actions we perform in relation to green finance and ESG, either in the regulatory and supervisory part of our activities, or with regard to our own environmental footprint in our daily work, and most notably in our portfolio decisions. In fact, for the first time this year, we have decided to devote a special chapter in our yearly report to such matters. The aim of such an approach is to be transparent in our actions and encourage others to focus much needed energy and devotion in this field.

Turning to our portfolio of financial assets, in February 2021 the Eurosystem announced our aim to start climate-related disclosure for euro-denominated non-monetary policy portfolios within two years. In Banka Slovenije, we have decided to disclose information on all four elements recommended by the Task Force on Climate-related Financial Disclosures, namely Governance, Strategy, Risk Management, and Metrics and Targets.

In the last five years, we have increased our investments in green, social and sustainable bonds from less than 1% to more than 7% of our own financial assets, in line with our pre-set target. Moreover, since 2020 we have excluded specific companies from the list of eligible non-financial corporate bond issuers. Such companies include those in the tobacco and arms sectors, and those found to be involved in corruption, causing major environmental harm or breach of human rights.

To reach our long-term objective, we have decided to set two medium-term targets, to be achieved by the end of 2025. First, we plan to increase our investments in green, social and sustainable bonds to at least 400 million euros (approx.. 10% of the portfolio). Secondly, we plan to significantly reduce the carbon footprint of our investments in private sector issuers by considerably tightening our current criteria for excluding companies from the list of eligible non-financial corporate bond issuers, and by setting carbon-lowering strategies for our other private sector investments.

Although being devoted to ESG, the real footprint in Slovenian banks in this respect is still rather low. Slovenian banks offer green loans, which can be used to purchase and build energy-efficient real estate, or for investments in energy-efficient systems (solar panels, heat pumps, heat recovery systems, etc.). These loans are still rare, namely, there were just 231 loans approved for energy-efficient systems in 2022, accounting for less than 0.2% of total new household loans. At the same time, there were just 772 housing loans secured by residential real estate (2.6% of the total) granted for the purchase or construction of energy-efficient real estate.

Although households generate approximately one fifth of all carbon emissions, decarbonising the entire economy requires significant investments. The high share of value-added accounted for by industry (27% in Slovenia, compared with the EU average of 19.6%) points to larger transition risks, and is also an indication of the opportunity for banks in financing the green sector. The exposure to climate-sensitive sectors (manufacturing, construction, electricity and transport) reflects the structure of the economy at a size of between one-third and approximately 60% of bank lending to NFCs.

The banks must offer greater support for decarbonisation efforts. The results of the first climate risk stress tests reveal great differences between the banks with regard to their readiness to address such risks. At the same time, the tests showed the banks’ progress in their consideration of climate risks in their business, their risk management frameworks, and their disclosure practices. In the future, the banks will above all have to improve their gathering of data in this area.

Obviously, there are numerous challenges ahead of us as central bankers and you as financial experts that we need to keep in mind for the future. Let me conclude with my own paraphrase of a poem, written more than 100 years ago by the famous Slovenian poet from this region, Simon Gregorčič. It is called “Izgubljeni raj” or “Lost Paradise” in English. He begins his poem with a statement that a paradise has been lost and finishes with a strong massage: “we need to take a step back to regain it (i.e. the paradise)”. Today, even more than in his time, this statement is still very relevant and we, as financial experts, have a moral obligation to follow this thought. Let us  be responsible and allow our descendants to enjoy natural beauties like Lipica in the future.