Financial stability boosted by soft landing of the Dutch economy

The risks seen last autumn are still present

Since early October last year there has been a further increase in geopolitical tensions accompanied by uncertainty and fragmentation of global trade and the world economy. This has increased the likelihood of unexpected shocks. Furthermore, investor optimism about a soft landing leaves financial markets sensitive to corrections. And while high interest rates have not caused significant damage to the economy as yet, they are still feeding through to the economy. So far, the associated interest rate, liquidity and credit risks have not posed any problems for Dutch financial institutions, but these risks are still present.

Fragmentation may impact the financial sector

DNB president Klaas Knot: "Geo-economic fragmentation can hit our financial sector through the economy and other channels. The turmoil in today’s world demands a strong European Union more than ever. Strengthening the European single market, the capital markets union and the banking union will make the Dutch economy more resilient."

As an open economy, the Netherlands benefits from efficient global trade with minimal tariffs and trade barriers. Any fragmentation of the global economy into blocs hits the Netherlands relatively hard, and that translates into financial stability risks. The number of cyberattacks also increases when the geopolitical threat level rises, and fragmentation into blocs can undermine the effectiveness of international consultative bodies in solving global problems.

Geo-economic fragmentation may also impact loans and investments of Dutch financial institutions. Although they themselves have few direct links to countries that are geopolitically remote from the Netherlands, they are more vulnerable to the consequences of fragmentation through the value chains of businesses they lend to or invest in.

Banks remain resilient, even with economic headwinds

The uncertainties and risks may lead to a deterioration in the quality of Dutch bank loans. Banks are nevertheless in good shape, partly thanks to higher interest rates and historically high profits. Also, credit risk generally remains limited. Loans secured by commercial real estate – a market under pressure – nevertheless show signs of deterioration, so it is important that banks act promptly to reassess the value of their collateral and set aside provisions where necessary. The solid basis of banks also emerges from two scenarios with economic headwinds.

Pension funds and insurers face risks inherent in investments in illiquid assets

Dutch pension funds and insurers are also benefiting from the rise in interest rates over the past two years, although they have also started to invest more in risky, illiquid assets. Insurers and pension funds now have over 11% of their total capital invested in private equity and private credit. The global market for private credit (loans from non-banks to relatively risky businesses) has tripled to $1,700 billion over the past eight years and is mostly based in the United States.

While the availability of credit from other parties – besides banks – is beneficial for businesses, investors in private credit (including Dutch insurers) are exposed to associated credit, liquidity and contagion risks. This shift towards non-bank lending highlights the need for better information on this market and risk management appropriate to the institutions involved. 

Heightened uncertainty requires an appropriate framework

The uncertain environment underlines the importance of a sound framework for macroprudential policy – policies that focus on the health of the financial system on top of the health of individual institutions. The European review that is currently under way provides an excellent opportunity to make further improvements to this framework. Banks can draw lessons from the pandemic about the benefits of adaptive capital buffers. It is also important to further improve the consistent application of various macroprudential tools across Member States. This framework is underdeveloped in the case of non-bank financial institutions, even though these institutions are now playing a greater role in the financial system. It is therefore desirable to include system-wide risks in new and existing supervisory requirements.

Risk table illustrating Dutch financial stability in the Netherlands

Media representatives can contact Bouke Bergsma by email at bouke.bergsma@dnb.nl or by telephone at +31 653 258 400.