Increased interest income should not derail banks from addressing structural vulnerabilities, CBC Governor says

Increased interest revenue stemming from the monetary policy normalization should not overshadow the Cypriot banks’ structural vulnerabilities, Constantinos Herodotou, Governor of the Central Bank of Cyprus (CBC) said on Monday.


Speaking to the parliamentary committee on Financial and Budgetary Affairs, Herodotou said that Cypriot banks are expected to have significant increase in interest income due to the European Central Bank’s interest rate hikes.


“This significant increase in income should overshadow or hide structural vulnerabilities of the banking sector which should be addressed in spite of the increased profits,” Herodotou said.


He referred to the non-performing loans (NPLs), high operational costs, strengthening corporate governance, high competition from non-traditional banks as well as the quality of customer service.


Herodotou said NPLs declined to €2.8 billion by end-July 2022, corresponding to 11.2% of total loans in the banking system and reiterated that NPL reduction is due to the larger banks which achieved 80% of NPL reduction whereas smaller banks achieved only 26%.


The CBC Governor also said the Cypriot regulator is against extending the moratorium on foreclosures, noting that this would create new risks to the banks, as they are coping with the challenge of borrower’s reduced disposable income due to high inflation.


He also pointed out that these NPLs are legacy loans created during the 2013 financial crisis and did not emerge as a result of the Covid-19 pandemic and the was in Ukraine.


“This is a new challenge and by allowing banks to manage the backlog (of NPLs) while we know that in 2023, we will have new challenges we are placing new risks which could affect the economy,” he added.


Asked on the impact of rising interest rates to debt-servicing capacity, Herodotou said that there is concern over the rising interest rates but added that macroprudential rules concerning loan origination could protect both lenders and borrowers.


He specifically said that loan origination stipulates that loan to value ratio amounts to 80% for first home purchase and 70% for second, which protects the borrower, while an additional provision states that debt repayment should amount to 80% of a borrower’s disposable income which protects the borrower from assuming a loan he could not repay.


“These (measures) protects both parties but this does not mean that interest rate hikes will be create problems,” he said.


On the economy, Herodotou said that the Cyprus’ output is estimated to rise by 5.5% in 2022 despite the war in Ukraine but is expected to slow down to 2.5% in 2023, compared with the Finance Ministry 3% projected growth rate.


Herodotou said the state’s macroeconomic scenario is “realistic” but added there is great uncertainty due to the war in Ukraine.


He also stated that public finances are expected to come under pressure due to increased expenditure from rising Cost-Of-Living Allowance in public sector salaries and pensions due to the rising inflation, increased cost of goods and raw materials and increased debt servicing costs.


Herodotou however, noted that despite pressures, Cyprus’ public debt is expected to continue its downward trajectory, stressing that “it is important to continue prudent fiscal management and to swiftly absorb funds from the national Recovery and Resilience Fund.”


Replying to a question, Herodotou called for targeted fiscal support to vulnerable households and businesses due to rising inflation.


As monetary policy aims to reduce inflation a wide fiscal support policy would not be conducive to mitigating inflation, he added.


Source: Cyprus News Agency