BoG: The risks to the economy, businesses, households

By Leonidas Stergiou

The Bank of Greece is ringing the bell for an increase in borrowing costs due to rising interest rates and a reduction in disposable income, in the Financial Stability Report. According to the BoG, the energy crisis, combined with the war in Ukraine, increases the risks to the Greek economy, businesses, households and the banking system.

Although the Greek economy will continue to grow, inflation and war will slow the growth rate, with an impact on fiscal figures. For the banks, he states that there has been a significant reduction in red loans, which, however, remain, as a percentage of loans, at the highest levels in the EU. At the same time, red loan sales have hit operating profitability, increased operating costs and reduced capital, both in size and quality.

An additional factor of uncertainty is the effects of the war, through intensifying inflationary pressures, on the quality of banks’ loan portfolios (red loans), due to the reduction of disposable household income and the increase in operating costs of businesses.

The new environment

According to Bank of Greece estimates, real GDP will continue to grow in 2022 but at a slower pace. The war in Ukraine creates energy supply problems, raises prices for energy goods and surrounds macroeconomic forecasts with intense uncertainty. Consumption, investment and exports will continue to contribute positively, while the average inflation is expected to accelerate significantly for the whole year.

Profitability and investment

Increased production costs and lower consumption may adversely affect business profitability and, together with general uncertainty, lead to postponement or even cancellation of investment decisions. In the face of these negative parameters, the European recovery instrument NextGenerationEU (NGEU) is expected to finance the implementation of major investment projects and structural reforms in 2022, contributing positively to the maintenance of economic growth.

New red loans

Russia’s invasion of Ukraine with the energy crisis it has triggered has exacerbated inflationary pressures, which negatively affects the disposable income of households and the operating costs of businesses. Given the uncertainty surrounding the development and duration of the war, combined with the withdrawal of the remaining borrowers’ support measures for pandemic protection by 2022, it becomes clear that the creation of new non-performing loans (NPLs) cannot be ruled out. ), especially if the geopolitical crisis is prolonged for a long time or escalates further. In this case, the consistent recording of new NPLs in banks’ balance sheets is considered particularly important.

The issue of reducing red loans was mentioned in an interview with ERT by the head of the European Monitoring Mechanism (SSM) of the ECB, Mr. Andrea Enria, who, underlined the catalytic role played by the Hercules Program in their vertical reduction. However, as he mentioned, now emphasis should be placed on the activation of the real estate acquisition and re-leasing body. The Hercules program must continue to contribute to the reduction of red loans, but there is also an urgent need for modernization in justice. This will change the page on red loans. Next, Greek banks should focus on what other European banks focus on, namely profit generation, their business model and digitization. These are necessary conditions for the creation of funds.

Risks and recommendations

Budget: The budgetary burden of emergency support measures and the increased volume of public debt must be addressed, given that favorable favorable low-cost financing conditions are gradually being reversed. Ensuring fiscal sustainability by eliminating primary deficits is a central objective of economic policy. The restoration of the fiscal balance is linked to the improvement of the current account balance, which showed a significant deficit during the pandemic.

Interest rates: The easing of the Eurosystem’s monetary policy is expected to be phased out in the medium term, taking into account the recent escalation of inflationary pressures. However, mortgage rates are expected to remain low for the whole of 2022, with only a small effect on the cost of servicing household debt.

Disposable income: For 2022, household disposable income will be challenged by the withdrawal of most fiscal support measures, inflationary pressures and geopolitical developments that cause uncertainty in consumer and investment decisions. However, there are factors that continue to have a positive effect, which is reflected in the growth rate of the Greek economy projected for 2022 and the strengthening of employment by the resilience of individual sectors, such as construction activity and exports.

Real estate: The European Commission’s recommendation to restrict residence permit schemes to investors (gold visa or gold passport) may have a partial effect on demand. However, it is estimated that investment interest will remain strong, especially for specific privileged locations in the Attica basin and in areas with tourist characteristics.

Bonds: Greek bond liquidations were observed throughout the yield curve, especially in the most liquid issues and also affected the corporate bond issues, thus limiting the new issues to just two in 2022, totaling 200 million euros. If the high levels of yields are maintained during 2022 this will negatively affect the cost of servicing the public debt.

Insurance: In the three years 2019–2021, there is a significant increase in market risk, while there is a small decrease in the risks of insurance against losses and default of a counterparty. Operational risk and disease risk are slightly different in these three years as opposed to life insurance risk which is significantly reduced. In addition, there is no significant change in the benefit of diversifying the associated risks.

Loan management companies: They manage exposures of € 123 billion, including unaccounted for interest. These exposures account for 84% of overdue exposures. The BoG recommends making effective use of dormant collateral for “unsustainable” customers, which will have to be re-allocated to productive uses, and for “sustainable customers” to offer an effective restructuring solution that will ensure sound financial figures and will facilitate the reintegration of their loans, under certain conditions, in the balance sheets of credit institutions.

The challenges for banks

The level of capital adequacy of banks, which is directly affected by the consolidation of banks’ balance sheets and the gradual implementation of International Financial Reporting Standard 9 (IFRS 9), combined with the low quality of regulatory capital due to its high participation rate. Definitive deferred tax credit (DTC), as well as structurally low profitability, are challenges for the banking sector. At the same time, the risk of a further increase in the interconnection of the banking sector with the state is a source of concern.

Overall, the decrease in non-performing loans (NPLs) compared to their highest point, recorded in March 2016, reached 82.8% or 88.8 billion euros. However, the ratio of NPLs to total loans is still very high and multiple of the European average (December 2021: 2.0% 8). Therefore, the banks should intensify the efforts to de-escalate the existing stock, especially in the light of the challenges that emerge, the BoG states.

The resilience ratios of Greek banking groups fell in 2021, mainly affected by the implementation of NIS reduction strategies. A significant part of the banks’ profitability for 2021 came from non-recurring profits (one-offs). The acceleration of the consolidation of the balance sheet of the credit institutions through the sale of NPL portfolios resulted in the increase of the credit risk cost.

The capital adequacy of Greek banking groups declined in 2021 compared to 2020, mainly due to the losses resulting from the sale of non-performing loan portfolios and the implementation of the transitional provisions of IFRS 9, which offset the positive impact of the capital enhancement actions carried out. These ratios are significantly lower than the average of credit institutions under the direct supervision of the ECB in the Banking Union (CET1 ratios 15.5% and TCR 19.5% in December 2021).

The quality of the regulatory equity of Greek banks deteriorated further, as in 2021 the final and settled deferred tax assets (Deferred Tax Credits – DTCs) amounted to 14.4 billion euros, representing 63% of total regulatory equity (from 53% in 2020). In addition, deferred tax assets (DTAs) amounting to € 1.7 billion are included in the regulatory equity of banking groups (given the full impact of IFRS 9), accounting for approximately 8% of their total regulatory equity . It is noted that, although deferred tax assets (DTAs) amounting to 5.1 billion euros are not included in the banks’ regulatory equity, achieving sufficient future profitability is necessary in order not to pose a risk to the bank’s capital base in the medium to long term.

Increase in deposits

The increase in deposits since the onset of the pandemic is mainly due to forced spending cuts and support measures. The BoG analysis concludes that the largest increase in savings was observed in the scale with balances from 5,000 euros to 100,000 euros, while an additional 25% of the absolute increase came from the category of 100 thousand to 500 thousand euros. The sub-examination of the years 2020 and 2021, shows that for the very low accounts of individuals with a balance of up to 5,000 euros, the increase in deposits recorded in 2020 is quickly reversed to a decrease in 2021, while for accounts up to 50,000 euros the increase begins to slows down somewhat.