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June 25, 2018

IMF published its staff report and selected issues report under the 2018 Article IV consultation with Republic of Lithuania. Directors acknowledged that the financial system is sound and that recent credit and housing market developments do not pose risks to financial stability. However, they encouraged the authorities to continue using macro-prudential policy proactively to address systemic risks and cooperating closely with home-country authorities of banks.

The staff report notes that the authorities are committed to preserving macroeconomic and financial stability. Maintaining financial stability will require close monitoring of housing and parent bank developments and proactive use of macro-prudential policy. The Bank of Lithuania (BoL) should make full use of its broad powers to tighten macro-prudential and supervisory policy to prevent a systemic-risk build-up. BoL has a broad set of countercyclical, sectoral, and liquidity macro-prudential instruments to tackle shocks and should continue using them proactively, as needed. In implementing the macro-prudential policy, the BoL should cooperate closely with the parent banks’ regulators to assess potential spillovers from vulnerabilities in parent banks. Cooperation in the Nordic-Baltic Stability Group (NBSG) should be further enhanced following the conclusion of an MoU on cooperation and coordination on cross-border financial stability earlier this year. Given the fluidity of global markets, the crisis simulation exercise—which includes ECB supervisors covering three quarters of the Lithuanian banking sector—should help ensure crisis preparedness and coordination. Finally, credit union reform, which is gradually strengthening the system, should continue as planned.

The selected issues report reviews Lithuania’s macro-prudential policy framework against international best practices. It finds that Lithuania possesses the powers and tools to manage systemic risks, although the benign post-crisis period offers limited scope for assessing the effectiveness of macro-prudential policy. Lithuania’s institutional framework for macro-prudential policy is strong. It gives BoL the sole responsibility and broad powers to conduct macro-prudential policy, including identification and analysis of systemic risks. The macro-prudential framework also gives BoL a clear objective: to contribute to the stability of the financial system, including strengthening the resilience of the financial system, and mitigating the build-up of systemic risk. Lithuania’s macro-prudential toolkit appears adequate. Lithuania’s systemic risks stem primarily from external shocks through trade channels and volatile financial conditions in the Nordics.

BoL uses the macro-prudential instruments including loan-to-value (LTV), debt service-to-income (DSTI), loan maturity, stress test/sensitivity test, countercyclical capital buffers (CCyB), other systemically important institutions buffer, and capital conservation buffer. Moreover, the macro-prudential policy in Lithuania has not been recalibrated frequently in recent years, given the benign environment that has prevailed after the crisis. Hence it is difficult to fully assess its effectiveness. The infrequent recalibration of macro-prudential policy reflects weak credit growth in the post-crisis years. Regarding the recent increase in the CCyB, BoL appropriately addressed the emergence of risks related to credit growth through broad-based tools (which affect all credit exposures) such as the CCyB. Still, the increase is unlikely to have a significant impact on bank behavior because most banks hold significant capital buffers. BoL also proceeded cautiously by phasing the cost of adherence to the new regulation. 

 

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Keywords: Europe, Republic of Lithuania, Banking, Article IV, Macro-prudential Policy, CCyB, Financial Stability, Systemic Risk, IMF

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