16th Financial Stability Council session

The Financial Stability Council held its 16th session today, chaired by the CNB Governor Boris Vujčić and attended by the Finance Minister Zdravko Marić, the Croatian Financial Services Supervisory Agency Board President Ante Žigman, the Director of the Croatian Deposit Insurance Agency Marija Hrebas and their associates.

The Council members were briefed on the main risks to the stability of the financial system. Despite the accelerating recovery of economic activity from the effects of the pandemic, the overall exposure of the domestic financial system to systemic risk has remained elevated due to lingering uncertainty as regards the risks of returning to usual social contacts and operations. In addition to a high public debt, the financial sector's exposure to the government and a possible rise in corporate insolvency numbers, the risks that have arisen include fast growing prices of residential real estate. Namely, spurred by the continuation of the government's housing loans subsidy programme, favourable financing conditions, stable employment levels and income that has been impacted by subsidies paid during the pandemic, as well as low attractiveness of alternative investments, prices grew by 7.7% in 2020, on an annual level, exceeding even pre-financial crisis levels. At the same time, the growth of housing loans has accelerated and a portion of them has been characterised by the increased repayment to income ratio.

Since sections of the economy continue to be strongly hit by social distancing measures, the Council discussed the importance of timely and comprehensive reporting on the impact of the pandemic on corporate operations and materialisation of credit risk in financial institutions. Namely, prematurely terminating different subsidies might jeopardise the operation of healthy companies and increase credit risk, while, on the other side, extended subsidising might keep in the market companies with unsustainable business models and zombify the corporate sector, having serious implications on economic growth and financial stability.  

The banking sector is well capitalised and liquid, as aided by the CNB's macroprudential decision of January 2021, temporarily restricting distributions of credit institutions with the aim of additionally strengthening their ability to absorb possible losses since subsidies and regulatory benefits partially postponed the materialisation of credit risk. The volume of loans covered by moratoria continued to decline after peaking in September 2020, with such loans accounting for 8.6% of household and corporate loans at the end of March 2021 and being primarily directed towards companies from the hotels and restaurants segment. In addition to rising costs of credit risk, pressure on earnings of credit institutions, which halved in size during the pandemic, has continued to increase, also impacted by continued decline in interest rates and an increase in the share of lower yield placements. However, it is assessed that even under these conditions, as well as in simulated stress situations, the system is well-equipped to absorb considerable costs of rising credit risk, although displaying considerable heterogeneity among credit institutions, depending on the specific features of their operations and exposure to most affected industries.

The financial markets' recovery that started at the end of last year continued in the first half of 2021, with almost all sectors supervised by HANFA boasting growth. The positive mood reflected itself in the asset increase of financial services sector, whose assets rose by 3.5% at the end of March from the end of 2020 and accounted for 32.15% of total financial system assets in Croatia, i.e. 61.7% of the nominal GDP.

Early 2021 was marked by the recovery of prices in the domestic capital market, although trading was relatively low, reflecting a trading concentration trend. Investment and pension funds reported stable growth with positive yields realised in almost all categories over the past year and yield recovery continuing in 2021 as well. Insurance companies were relatively mildly hit by the coronavirus crisis since the overall gross written premium in 2020 remained at the previous year's level, although the increase in indemnification claims negatively affected their business results. Nevertheless, the insurance sector is stable, well capitalised and liquid, which is also aided by HANFA's decision of April 2021 to continue to restrict profit distributions. After a five-year growth trend, leasing companies suffered a substantial decline in profitability resulting from the fall in new contracts and the growth of expenses of value adjustments for impairment losses, but they remained relatively well capitalised.