Financial stability risks have increased over the past six months. High inflation, rising interest rates, the war in Ukraine and the possibility of a global recession have combined to create an unprecedented situation. Furthermore, inflation may remain high for longer than is currently being anticipated in financial markets and economic forecasts. These developments will put the financial sector to the test in the period ahead. At the same time, it is clear Dutch financial institutions are in a healthy position with solid buffers. These developments are detailed in our Financial Stability Report, which was published today.
“Inflation is high and interest rates are rising, while economic growth is slowing. This is a mix of factors that we have not seen to this extent since the 1970s. We are in better shape than we were then, and I have confidence in the resilience of our financial sector, but this combination of adverse developments undeniably increases financial stability risks.”
The FSR describes the stability risks to the financial sector. These have clearly increased further since the previous FSR appeared at the end of May. Vulnerabilities that have accumulated over a protracted period of low interest rates are now coming to the surface. Highly indebted households, businesses and governments may face difficulties if interest rates rise further and income growth lags behind. An abrupt change in market expectations may also lead to sudden corrections in financial markets.
Banks can benefit from higher interest rates, but must also expect increasing losses on outstanding loans, for example to energy-intensive industries. Rising mortgage rates and the deteriorating economic outlook increase the likelihood of a price correction in the overheated housing market.
It is therefore important to maintain banks' capital levels. Banks should keep their buffers above regulatory requirements as much as possible and exercise restraint in dividend payouts and share buybacks. In addition, since the beginning of this year, banks have been subject to a floor for the risk weighting of mortgages on their balance sheets. Due to the persistent systemic risks in the housing market, we have decided to extend the floor by two years until 1 December 2024.
The Dutch financial sector is in a strong position to withstand the increased risks. Financial institutions have weathered out the coronavirus (COVID-19) crisis well, partly due to the extensive support measures taken by the Government and the European Central Bank’s policy. Banks’ capital positions, insurers’ solvency and pension funds’ funding ratios have remained stable or even improved in recent months. A stress test in this FSR based on persistently high inflation and a further rise in interest rates also bears out the resilience of the banking sector.
In the stress test scenario, credit losses reach almost €23 billion. The Dutch banks’ capital ratio decreases by an average of 2.7 percentage points in the period up to the end of 2024 in this scenario, but remains well above the statutory minimum requirements. The existing capital position gives banks a good starting position from which to absorb the losses in the stress scenario without having to squeeze lending to households and businesses.
For more information, please contact Bouke Bergsma by email at bouke.bergsma@dnb.nl or by telephone at +31 653 258 400.
Risk map financial stability risks
Financial Stability Report - Autumn 2022
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