Financial Stability 2/2002
1 Summary
Due to the decline in the equities market and weaker growth prospects,
the outlook for international financial stability is considered to be less favourable
than it was this spring. In a number of areas, the Norwegian economy will be
affected by the weak developments in the global economy, but growth in household
demand is expected to continue. Overall debt growth in Norway is still high.
The current high growth in lending to the household sector cannot be sustained
over time. The debt burden in the enterprise sector is high, but debt growth
is more moderate than in the household sector. Banks’ earnings have declined,
but their financial position remains sound. Overall, the outlook for financial
stability is considered to be satisfactory, but less favourable than in May
2002.
Chart 1.1
Sharp decline in international equity prices
The fall in equity prices worldwide during the last six months reflects a deterioration
in the outlook for the global economy. A number of accounting scandals have
also increased the uncertainty about actual earnings in US companies. Equity
prices have fallen somewhat more in Europe than in the US. Telecom companies
in Europe have been struggling after high investment in the next generation
mobile network. In the financial sector, life insurance companies and pension
funds in particular have invested heavily in the equity market. These companies’
unwinding of positions to reduce risk has pressed equity prices down further.
The decline in the Norwegian equity market is approximately the same as the
decline in the European market in the last half year.
More uncertainty internationally
The fall in the equity market has to varying degrees weakened the financial
position of financial institutions, households and enterprises. Uncertainty
about future developments in the international equity markets is currently high.
How the decline in the equity market will affect economic developments is uncertain.
The international financial system’s ability to withstand shocks will
depend in part on the existence of adequate buffers against losses. The system
has effectively dealt with disturbances in the last few years, but the recent
decline in the equity market has reduced reserves.
Continued high debt growth in the Norwegian economy
So far, the decline in equity markets, weaker international growth forecasts
and higher interest rates have had little effect on reducing Norwegian households’
and enterprises’ willingness to take on debt. The rise in total mainland
debt has been more or less unchanged since the previous report. Debt growth
has remained very high in the household sector. It is more moderate in the enterprise
sector.
Chart 1.2
Increasing debt burden in the household sector
In the household sector, debt growth has been far stronger than income growth
for several years. The debt burden has thus increased rapidly. Nominal and real
interest rates have been relatively high the last few years, but high income
growth over a period of several years, probably in combination with expectations
of a continued increase in purchasing power in the years ahead, has contributed
to the high demand for household credit.
Rising house prices have probably had an effect as well. Real house prices
are now 25% higher than the previous peak level recorded in 1987. Compared with
income growth, however, house prices are still somewhat lower. The rise in house
prices has slowed somewhat recently, but this has not reduced debt growth. Figures
from the Banking, Insurance and Securities Commission show a definite increase
in the number of housing loans which exceed the collateral value of the dwelling.
Overall, this may indicate that households are increasingly taking advantage
of high property values as collateral when taking loans for other purposes.
Overall net financial wealth in the household sector fell markedly in the second
quarter of this year. The net financial wealth of NOK 365bn becomes considerably
negative if insurance claims are deducted.
Chart 1.3
Households with a high interest burden currently account for a considerably
larger share of banks’ lending than before. A large share of these loans
has been given to low- and middle-income households. This is new compared with
the period preceding the banking crisis. At that time, this type of high-risk
loan to low- and middle-income households represented a considerably lower share
of lending. Overall, credit risk associated with loans to the household sector
is considered to be moderate and somewhat higher than in the previous Financial
Stability report.
Continued higher debt burden in the enterprise sector
The overall debt burden in the enterprise sector is high after many years of
heavy borrowing. In the last few years, weaker profitability has reduced the
ability to service debt. Year-on-year growth in enterprise debt slackened in
2001 and has been stable at about 7%-9% the last six months. However, there
are substantial differences across sectors. Enterprises in the exposed sector
have substantially reduced debt growth, and year-on-year growth was almost zero
at the end of August. On the other hand, debt growth in enterprises in sheltered
industries has remained relatively high.
Chart 1.4
The sharp fall in equity prices in 2002 may indicate that participants in securities
markets expect lower enterprise earnings. Lower earnings combined with a very
high debt burden may cause debt repayment problems for a number of enterprises
in the period ahead. Enterprises in the exposed sector are most vulnerable.
Enterprises in the sheltered sector will not be affected to the same degree.
Both the number of bankruptcies and enterprises’ gross non-performing
bank loans rose markedly in the first three quarters of 2002 compared with the
same period of 2001. Nevertheless, both of these indicators are still at a low
level compared with the first half of the 1990s. Credit risk associated with
loans to the enterprise sector is higher than in May 2002 and must now be described
as relatively high for loans to enterprises in the exposed sector, but still
moderate for enterprises in sheltered industries.
A slight increase in banks’ liquidity risk
The prolonged decline in banks’ deposit-to-loan ratio slowed somewhat
in the beginning of 2002. In the third quarter, however, it fell again, and
at the end of September was lower than ever before. Banks have somewhat reduced
their borrowing in the money and capital markets in the last half year. Long-term
financing rates have risen less than short-term financing rates during the last
half year. While the small- and medium-sized banks have adjusted to these developments
by increasing their bond financing, the three largest banks have reduced the
share of bond financing in their portfolio. In isolation, this will contribute
to increasing these banks’ liquidity risk. Overall, banks’ liquidity
risk is considered to be relatively low, but somewhat higher than in the previous
Financial Stability report.
Chart 1.5
Deterioration in banks’ results, but financial position is still sound
Banks’ results were considerably weaker in the first three quarters of
2002 than in the same period of 2001. This is mainly due to lower commission
income and lower income from securities markets. Losses on loans and the share
of non-performing loans have also risen somewhat. Despite weaker results, capital
adequacy for banks overall improved in the same period. At the end of the third
quarter, the core capital ratio for banks overall was 9.5%, while the core capital
ratio in the eight largest financial groups varied between 6.8% and 8.9%. The
largest Norwegian financial groups recorded a lower return on equity in the
first three quarters of this year than in the same period last year. This was
also lower than that recorded by the largest Nordic financial groups.
Chart 1.6
Financial stability remains satisfactory
Banks are well equipped to deal with more sluggish economic developments. Norwegian
banks are typical lending banks and are therefore highly exposed to credit risk.
The current sharp growth in household lending cannot be sustained over time.
The increased concentration of debt in households with a high interest burden
and low incomes is a new uncertainty factor in relation to the period preceding
the banking crisis. Even though the increase in direct losses on household loans
will probably be relatively limited, weaker household income growth or a decline
in asset values will reduce their demand. This in turn may weaken enterprises’
financial situation and lead to losses for banks. Overall, the outlook for financial
stability is considered to be satisfactory, but less favourable than in May
2002.
Chart 1.7
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