The National Bank publishes its Financial Stability Report: resilience requires vigilance

Much like car manufacturers ensure their vehicles have crumple zones to absorb shocks, the NBB ensures that the Belgian financial system is able to cope with challenges while still continuing to fulfil its important economic functions. You can read about how robust the financial system is and how the NBB’s policy decisions contribute to this in the Financial Stability Report 2024, released by the NBB today. The key takeaway is that the country’s financial sector is in good health. To safeguard the future resilience of the financial sector, the NBB took several actions in 2023.

The financial sector: substantial resilience, and yet…

In recent years, the Belgian economy has proved resilient to major shocks such as the Covid-19 pandemic, Russia’s invasion of Ukraine, the rapid surge in inflation, and the significant tightening of monetary policy. This resilience has enabled the economy to enjoy a soft landing, with inflation returning to its 2% target over the medium term and no major impact on, for instance, the number of bankruptcies or the unemployment rate.

The Belgian financial sector has also demonstrated resilience. Thanks in part to considerable capital and liquidity reserves, Belgian financial institutions were not impacted by the turbulence observed in the first half of 2023, attributable to problems in the US and Swiss banking sectors.

These buffers remain high, thereby contributing to the resilience of financial institutions to potential shocks. This healthy solvency position is further reinforced by the good, albeit not excessive, profitability that the Belgian banking and insurance sectors recorded in 2023, with a return on equity of 12% and 11%, respectively.

Nevertheless, over the past year, the Bank undertook a number of actions aimed at securing the future resilience of Belgian financial institutions. These included specific risk analyses and the formulation of macroprudential policies and recommendations, as further explained below.  


The housing market: a sharp yet orderly correction

The rise in mortgage rates as from mid-2022 led to a gradual slowdown in residential property sales and lending to households. The latter nonetheless grew by 1.6% year-on-year, well above the euro area average (0.3%). Automatic wage indexation worked to the advantage of Belgian households, as did the moderate extension of maturities for new mortgage loans (especially for younger borrowers). The Bank is satisfied with this moderate extension of maturities, which helped mitigate the impact of higher interest rates. When mortgage rates were low, the Bank advised lenders not to extend maturities unless interest rates started to rise. After years of strong growth, a cooling of the Belgian housing market due to the sharp rise in interest rates was inevitable. However, this correction was relatively orderly. Although the number of residential property transactions on the secondary market fell in 2023 (-18% compared with 2022), house prices rose by 2.7% year-on-year in nominal terms in the first three quarters of the year.

By encouraging responsible lending, the Bank’s macroprudential policy contributed to an orderly adjustment to the higher interest rate environment. Since their introduction in 2020, the Bank’s supervisory expectations (guidelines) for new mortgage lending have resulted in fewer loans with a high loan-to-value (LTV) ratio. The Bank believes that these guidelines have not curbed mortgage lending to creditworthy borrowers, as lenders have not taken full advantage of the leeway they are afforded to extend loans with higher LTV ratios. Furthermore, the figures show that the longer maturities and generous margins offered for loans to first-time buyers have kept the share of mortgage loans to younger borrowers relatively stable, thus ensuring access to the housing market for young people. Based on these considerations, the Bank decided not to change its supervisory expectations.

The quality of new mortgage loans since 2020 has improved. As such, in August 2023, the Bank decided that the capital buffer for risks in the Belgian mortgage portfolios of banks could be reduced. This “sectoral systemic risk buffer” for Belgian mortgage loans was thus lowered from 9% of risk-weighted assets to 6% on 1 April 2024. As a result, the total amount of the buffer fell from around €2 billion to approximately €1.3 billion.

In 2023, Belgian financial institutions made significant progress in collecting information on the energy efficiency of their real estate exposures. A themed article in this year’s Financial Stability Report, entitled “Orderly downturn of the Belgian residential real estate market reduced financial stability risks”, elaborates on this subject and also looks at the increasing price differential between energy-efficient and energy-intensive homes and the challenges involved in renovating the housing stock.


The commercial real estate market: risks

Belgian firms have shown resilience in recent years to a series of crises. They therefore began 2023 with a very healthy financial position overall, having built up reserves and reduced their debt levels over preceding years. As is the case with households, this soundness is reflected in a stable loan default rate, despite the higher relative sensitivity of businesses to interest rate rises and an increase in their operating costs.

The corporate sector is however very heterogeneous. Problems that arose when interest rates were low may become visible as higher interest rates are transmitted to the economy. The financial sector’s exposure to real estate firms and the commercial property market is an issue demanding attention. The article “Trying times for Belgian real estate firms and the Belgian CRE market” takes a closer look at the latest developments in this market and lays out the Belgian financial sector’s significant exposure to it, which is, however, lower than its exposure to residential real estate. The article also includes several recommendations.

Given that transactions in the commercial real estate market have declined sharply and real estate firms continue to face significant challenges, there is uncertainty as to the value of these assets. Therefore, the Bank advises insurance companies and banks to assess their exposure to commercial real estate in a sufficiently prudent and conservative manner. For insurance companies, this mainly involves recording their significant investments in commercial real estate at a prudent book value on their balance sheets. For banks, such an approach primarily entails accurate valuation of the commercial real estate that serves as collateral for loans.

It is also important for banks to closely monitor the credit risk inherent in loans to real estate companies and to make provisions as from the time borrowers become vulnerable. For borrowers experiencing temporary financial difficulties, the Bank recommends that banks develop adequate credit strategies, potentially including debt rescheduling, taking into account the borrower’s individual situation.


Reactivation of the countercyclical capital buffer to strengthen banking sector resilience

Although the quality of their loan portfolios is still very good, banks could face higher-than-expected losses in the future, for instance on their corporate loan portfolios. The Bank therefore announced in late August 2023 that it would reactivate the countercyclical capital buffer to increase the resilience of the financial sector. In so doing, the Bank took into account the fact that banks had made limited provisions for credit losses on business loans over the three previous years and that these had therefore fallen to their pre-pandemic levels.

In practice, the Bank’s decision led to the creation of a macroprudential capital buffer of about €1.1 billion, as of 1 April 2024, corresponding to a countercyclical buffer rate of 0.5%. On 1 October 2024, the buffer will be increased to about €2.3 billion (corresponding to a rate of 1%). As is the case for the sectoral systemic risk buffer for Belgian mortgage loans, the Bank can, if and when it deems necessary, order the release of this countercyclical buffer to give the financial sector leeway to absorb losses and support the Belgian economy.


Need for a new statutory framework to allocate the costs of damage caused by natural disasters

With regard to the insurance sector, the Bank again recommends that a new, stable statutory framework be worked out quickly, unambiguously defining how the costs of damage arising from natural disasters should be allocated. If the current situation persists, there is a risk of reinsurers scaling back their activities in Belgium. This could oblige insurance companies to stop providing cover for natural disasters, meaning Belgian households would no longer be able to insure themselves against the risk of fire and natural disasters or would be able to do so only with much higher premiums.