MNB Publishes Financial Stability Report for May 2020
MNB published the financial stability report that assesses the strength of the banking system in Hungary. The report highlights that the banking system in the country is prepared to face the challenges likely to result from the COVID-19 pandemic with healthy balance sheets and adequate capital and liquidity reserves. The report also presents results of the stress testing exercise that is conducted every six months. According to the stress test, the banking sector is capable of weathering the effects of even a significant economic contraction. However, the real economic impact of the COVID-19 will have a significant negative effect on the banking system and, consequently, the financing of economic agents.
The financial stability report states that nearly one-third of the banks’ loan portfolios can be considered vulnerable due to COVID-19-related effects. The credit institutions may face challenges due to loans in sectors particularly affected by the pandemic situation. However, due to substantial bank reserves, the loan portfolios are not expected to contract permanently. Within the framework of the financial stability report, a comprehensive stress testing exercise is conducted every six months, the aim of which is to quantify the impact of a severe, but plausible, stress scenario on the liquidity and capital positions of the banking sector in Hungary. Based on the liquidity stress test, the systemic liquidity position improved somewhat in the second half of 2019 and the majority of the banking sector had a sufficient liquidity buffer at the end of 2019 to meet regulatory requirements, even in the event of severe combined liquidity shocks. The Liquidity Stress Index for the end of 2019 does not indicate significant risks to financial stability.
In the solvency stress test, in which MNB examined the effects of two stress scenarios, MNB included the effects of the payment moratorium and took into account the higher credit risk of significantly affected sectors. In the severe downturns assumed in the stress scenarios, the banking sector's two-year earnings before loan losses would be reduced by at least one-half compared to the earnings forecast before the outbreak of COVID-19, which would be accompanied by substantial loan loss provisioning needs. With this, in the more severe stress scenario three-fourth of the banking groups would suffer pre-tax losses during the examined period. By the end of the two-year time horizon, in the more severe stress scenario, the capital adequacy ratio would fall below 8%, for 9% of the credit institutions sector. To meet all the capital requirements effective at the time of writing the report, a capital injection need of HUF 106 billion would arise at the sectoral level. This amount of capital need is considered manageable from a financial stability perspective.
The report also highlights that several measures have been taken by the government and MNB to prevent procyclicality in the banking system. The main goal of these measures is to minimize the immediate pandemic-related stresses, to prevent lasting, long-term economic losses, and to facilitate the fastest possible reopening of the affected sectors. The first round of government measures was aimed to mitigate the immediate liquidity tensions. MNB will be able to flexibly manage the individual liquidity needs over the coming months by launching a collateralized lending facility with multiple maturities, extending the scope of acceptable collateral with large enterprise loans, and releasing the minimum reserve, among other things. In addition, the central bank supports banks’ lending capacity by releasing the existing capital buffers; by temporarily waving the capital conservation buffer, the systemic risk buffer requirements, and capital buffer of other systemically important institutions (O-SII); and through Pillar 2 recommendations.
Keywords: Europe, Hungary, Banking, COVID-19, Financial Stability Report, Stress Testing, Credit Risk, Liquidity Risk, Capital Adequacy, Procyclicality, MNB
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