Finnish banks’ liquidity position stable but vulnerable to severe and long disruptionsThe liquidity position of Finnish banks has remained stable despite elevated risks in the operating environment. However, tightening monetary policy and rising market interest rates have increased banks’ funding costs. While deposit interest rates paid by banks have risen, the volume of deposits has decreased. To compensate for the reduction in central bank liquidity and deposits, banks have increasingly resorted to funding from the markets. Dependency on short-term market funding in particular increases banks’ vulnerability to market disruptions. Adequate liquidity reserves and appropriate liquidity contingency measures provide shock protection.
The tightening of monetary policy has reduced the volume of central bank liquidity available to European banks and increased the costs of funding. At the same time, the deposit stock of monetary financial institutions in the euro area has diminished. Banks have raised more funding from the markets, and issuances increased considerably in 2023 compared to previous years. Most of the long-term debt securities issued by banks has consisted of covered bonds and senior unsecured bonds.
– Despite the weakening operating environment and tightening financing conditions, the liquidity and funding position of Finnish banks have remained stable. However, high dependency on market funding and the shorter maturity of funding increase Finnish banks’ vulnerability to disruptions in the financial markets. Taking care of adequate liquidity and prudential buffers as well as appropriate liquidity contingency plans is particularly important for the banking sector to be able to support the real economy also in the event of potential disruptions in the economy and financial markets, states Tero Kurenmaa, FIN-FSA Director General.
Adequacy of Finnish banks’ liquidity reserves is limited in severe abrupt or protracted liquidity crises
The liquidity position of the Finnish banking sector has remained stable despite the weakened operating environment. The liquidity of domestic banks has improved in the past year, and banks’ liquidity position is supported by the high quality of their liquid reserves. Finnish banks’ short-term liquidity is also stronger than the European average.
Finnish banking sector’s deposits from the public have remained relatively stable, but in the past year, a moderate decline has occurred in household and corporate deposits. In the wake of the rising general interest rate level, deposit interest rates have also begun to rise in Finland, which signals increasing competition for deposit customers. More deposits have also flown into fixed-term deposits due to their higher interest rates.
Finnish banks’ growing dependency on short-term wholesale funding increases the liquidity risks of the banking sector since short-term wholesale funding may become rapidly compromised in the context of a crisis. Despite the weakening operating environment and market turbulence in spring 2023, Finnish banks have managed to raise both secured and unsecured market funding. The historically rapid rise in interest rates has increased the costs of market funding for domestic banks. However, the strong capital adequacy and relatively well diversified sources of market funding improve the availability and terms of market funding, while improving the resilience of the banking sector. Indeed, the increase in the costs of market funding for Finnish banks has been more moderate than in Europe on average.
Finnish banks’ liquidity reserves are of high quality, and they are sufficient to cover liquidity outflows in a 30-day stress scenario under the liquidity coverage ratio (LCR) requirement. However, liquidity stress tests conducted by the FIN-FSA demonstrate that the adequacy of Finnish banks reserves in a severe abrupt and protracted liquidity crisis is limited. This is due, in particular, to the high share of wholesale funding and its short maturity, the amount of credit commitments given to non-financial corporations as well as the volume of non-operational deposits by financial and non-financial corporations, which have traditionally been more exposed to outflows. Similar vulnerabilities were also identified in the Financial Sector Assessment Program (FSAP) exercise conducted by the International Monetary Fund (IMF) in 2022, in which context the IMF recommended that Finnish banks strengthen their liquidity buffers and raise the proportion of market-based funding.
As recommended by the IMF, the FIN-FSA will pay particular attention to the adequacy of liquidity reserves in its future supervisory measures. The FIN-FSA assesses banks’ liquidity by stress tests of its own on a regular basis. This assessment is contingent on reliable data, and therefore supervised entities must pay particular attention to the quality of reporting and control processes for data quality.
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Samu Kurri, Head of Department, Digitalisation and Analysis
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