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Financial Stability Review 2016 Vitas Vasiliauskas, Chairman of the Board of the Bank of Lithuania 7 June 2016 Structure of the presentation State of the financial system Risks to the financial system Resilience to shocks Instruments to strengthen stability 2 Financial Stability Review 2016 3 Financial Stability Review 2016 STATE OF THE FINANCIAL SYSTEM Economy grew, interest rates dropped Interest rates for loans to non‐financial corporations in euro area countries In 2015, Lithuania's economy grew at the euro area rate (1.6%) Percentage 8 The financial standing of enterprises and households improved 7 6 5 4 Global economic growth remains weak 3 2 1 0 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 Euro area range Euro area median Lithuania 4 Financial Stability Review 2016 Source: ECB and Bank of Lithuania calculations. Note: different shades of dissemination reflect the 10 per cent value ranges, distanced from the median. 2016 Low interest rates positively affected credit demand After a 2‐year break, crediting began to grow Banking system — stable, sector is profitable The capital adequacy ratio of the banking sector and its requirements 30 The capital adequacy ratio increased to 24.8 per cent Percentage 25 Financing from foreign banks decreased 20 15 10 The sector's profit increased by 0.9 per cent, but the profit of five banks decreased 5 5 0 2013 2014 2015 Banking sector cepital adequacy ratio Minimum capital adequacy requirement Requirement, incl. capital conservation buffer Financial Stability Review 2016 2016 The state of borrowers improved — bad loans reduced The banking sector's share of non‐ performing loans 16 Percentage 14 12 The level of non‐ performing loans decreased to 5.6 per cent 10 8 6 4 2 0 2013 6 Financial Stability Review 2016 2014 2015 2016 Crediting in Lithuania is recovering The loan portfolio of credit institutions The annual growth of loans to the non‐financial private sector has been positive for 10 months Percentage (GDP growth) EUR billions 11,0 10,5 43 10,0 33 9,5 9,0 Enterprises 23 Lending to both households and enterprises increased (+5.7% and +4.0% respectively) 8,5 13 8,0 7,5 3 Borrowing is encouraged by the improving financial situation of the private sector 7,0 -7 6,5 GDP growth rate 6,0 2008 2009 2010 7 Source: The Bank of Lithuania. Financial Stability Review 2016 2011 2012 2013 -17 2014 2015 2016 Banks expect that the loan portfolio will continue to grow The housing market recovered — price growth is expected, but not a bubble Housing price index and number of transactions in Lithuania In 2015, housing prices rose (3.3%) Number, thousands Index, January 2007 = 100 5,0 132 Number of housing deals 4,0 116 3,0 100 2,0 84 Housing prices 8 1,0 68 0,0 52 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 Sources: State Enterprise Centre of Registers, Statistics Lithuania, OberHaus and Bank of Lithuania calculations. Financial Stability Review 2016 Having dropped in early 2015, the activity of the housing market recovered Most rapid price growth — in Vilnius Increasingly more better‐ quality housing is being sold Expectations for housing price growth are increasing 9 Financial Stability Review 2016 RISKS TO THE FINANCIAL SYSTEM Key systemic risks: unstable RE price dynamics in Sweden and low interest RE market and indebtedness imbalances in the Nordic countries Protracted period of low interest rates Credit risk resulting from decreased demand in export markets 10 Financial Stability Review 2016 Sharp increase in risk premiums In Sweden, RE prices are rapidly growing Housing price indexes for the Nordic countries and Lithuania Index 2007=100 In 2015, housing prices in Sweden continued to grow rapidly (+13.0%) 150 The indebtedness of Scandinavia's residents remains high 140 130 120 Potential negative consequences for Lithuania: 110 100 Decreasing crediting volume 90 80 70 More expensive financing and greater lending price 60 50 2007 2008 2009 2010 2011 2012 2013 2014 2015 11 Financial Stability Review 2016 Sweden Finland Lithuania Source: OECD Norway Denmark Increased deposit volatility The low interest rate environment reduces bank income, encourages investor risk appetite The pressure on the banking net interest margin will increase in the future The gap between flat rental yield and the deposit rates is increasing Percentage Percentage 6 10 8 5 4 6 Yield on interest-earning assets 3 Incentive to invest in RE is growing 4 2 Net interest margin 2 1 0 2012 Price of interest-costing liabilities 2013 2014 Source: Bank of Lithuania calculations. 12 Financial Stability Review 2016 0 2015 2016 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 Average interest rate on new long term deposits* Average flat rent yield in Vilnius** * monthly average interest rate 3-month moving average. ** yield is expressed as average flat rental and selling prices ratio, based on data from Aruodas.lt. Sources: Aruodas.lt, Statistics Lithuania and Bank of Lithuania calculation. Credit union sector particularly vulnerable, key changes are necessary Operating performance of credit unions EUR millions Individual credit union capital adequacy ratio changes over 2015 Decreased Increased 2 0 -2 -4 -6 -8 -10 -12 -14 -16 -18 13 Financial Stability Review 2016 2008 2009 2010 2011 2012 2013 2014 2015 2016 Q2 Current year's retained losses Current year's retained losses Sources: Bank of Lithuania calculations. -40 -35 -30 -25 -20 -15 -10 -5 0 p.p. Source: Bank of Lithuania and Bank of Lithuania calculations 5 10 Cybercrime is growing, significance — increasing Number of payment and recorded e‐ incidents in Lithuania Number, millions Thousands of recorded incidents 120 14000 12000 100 10000 80 6000 4000 40 2000 0 20 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 Cross-border payments Payments in Lithuania Financial Stability Review 2016 Potential impact is growing — more services are provided electronically 8000 60 14 The number of electronic link incidents is increasing (in 2015 — +15%) Electronic communications incidents recorded It is important to actively implement the country's cybersecurity assurance plans, ensure efficient cooperation between different institutions 15 Financial Stability Review 2016 RESILIENCE TO SHOCKS Banks are able to “absorb” material losses The range of the capital adequacy ratio of the banking sector under the adverse scenario Percentage 25 20 15 According to the adverse scenario: in 2016, GDP would drop by 5.3 per cent, in 2017 — 4.4 per cent; export would drop, income and consumption would decrease, RE prices reduce Bank credit losses would amount to EUR 642 million 10 The capital adequacy ratio would decrease by 16.6 per cent. 5 0 Q1 2016 16 Financial Stability Review 2016 Q2 2016 Q3 2016 Q4 2016 Q1 2017 Q2 2017 Capital adequacy ratio dispersion Minimum requirement for capital adequacy Weighted average of capital adequacy ratio Sources: bank data and Bank of Lithuania calculations. Q3 2017 Q4 2017 The banking sector would require around EUR 0.6 million in additional capital. The system would withstand depositor panic The decrease in dispersion of the deposits assessed during the liquidity risk testing The bank liquid assets would be enough to withstand a 17–44 per cent deposit decrease over the month Percentage 50 40 29 30 20 15 10 0 17 Financial Stability Review 2016 Deposit withdrawal that banks could withstand with liquid assets Deposit withdrawal that banks could withstand without reaching the required level Source: Bank of Lithuania calculations. Note: the columns note the deposit decrease dispersion among banks, the dots — the banking sectors weighted average. Two banks are relatively less resilient to liquidity shocks, but they belong to foreign bank groups 18 Financial Stability Review 2016 SOLUTIONS FOR STRENGTHENING FINANCIAL STABILITY Major changes in strengthening the financial system 2016 • Necessary to implement structural CU reform • The other systemically important institution capital buffer will come into force • The BoL will take decisions on the need for a systemically important capital buffer 2015 19 Financial Stability Review 2016 • Ready to apply the Anti‐cyclical capital buffer • Review of RLG: decrease of interest rate growth and excess borrowing risks • Contributions to the deposit insurance fund are calculated by taking into account the bank and CU risk • The BoL is given the function of financial institution restructuring Goal: to ensure stable operation of the CU sector and its competitiveness Goal: ensure the resilience of systemically important financial institutions Goal: sustainable credit developments Goal: price deposit insurance by risk, harmonise application in the EU Goal: decrease the negative impact on the economy and public finances when banks experience solvency difficulties 20 Financial Stability Review 2016 Thank you for your attention!