Given the current uncertainty, Bundesbank President Joachim Nagel and Bundesbank Executive Board member Joachim Wuermeling have advised banks in Germany to be vigilant. “The turnaround in interest rates is upon us, and that’s good news for banks in the medium to long run,” Mr Wuermeling remarked at this year’s Bundesbank symposium “Banking supervision in dialogue”. What matters, though, he continued, is how institutions deal with, and weather, the short-term burdens. This is because rising interest rates are just one part of the big picture, and, as Mr Wuermeling put it, this picture is fairly bleak right now. High inflation rates, energy shortages and a looming recession in Germany mean that the risks have most certainly risen. “That said, as things stand today, I am not expecting us to see a credit crunch or even a general banking crisis next year,” the Bundesbank Executive Board member said.

Real estate loans and loans to enterprises could become risk factors

The impact of rising interest rates depends, amongst other things, on the time horizon, said Mr Wuermeling, who stated that he would be focusing his comments on smaller banks. “Over the medium to long term, increasing rates are certainly welcome news,” he said, as they would widen banks’ interest margins. In the short term, though, Mr Wuermeling told symposium attendees that most banks would have to revalue many more items from the liabilities on their balance sheets than they would on the assets side – meaning that many institutions would probably initially see their interest expenditure rise more sharply than their interest income. To make matters worse, he added, the yield curve had been very flat for a very long time, forcing many banks to transform maturities on a substantial scale, leaving them more vulnerable to an abrupt uptick in interest rates. “Time will tell whether and to what extent these risks now materialise,” the Executive Board member remarked. For another thing, rising interest rates depressed the prices of securities, especially at banks that had not hedged securities holdings on their balance sheets – and these tended to be smaller banks, for the most part. According to Mr Wuermeling, real estate loans and loans to enterprises could also become risk factors for credit institutions. Rising interest rates would make it more expensive to finance a property, likely depressing prices and credit growth. In his view, problems could be encountered, first, by borrowers drawn in by the low interest rates who financed their property for short lock-in periods, with low repayments, or with very high debt service payments relative to their income. Add a significant uptick in unemployment and the problem could spread, Mr Wuermeling cautioned. “And if you then throw a slump in real estate prices into this cocktail – in other words, falling prices for the collateral securing mortgage loans – things might get expensive for the banks,” Mr Wuermeling explained, adding that it would probably become more difficult for enterprises, too, to service loans So far, however, credit defaults have been the exception. The ratio of non-performing loans on banks’ balance sheets was still low, Mr Wuermeling reported. According to the Bundesbank Executive Board member, German banks are, however, certainly stable overall thanks to comfortable capital buffers – a finding that was backed up by the Bank’s latest stress test among small and medium-sized institutions. “In times when uncertainty is as high as it is right now, there are three things that can help. First, proceed cautiously and with foresight. Second, expect the journey to be difficult. Third, preserve capital buffers,” Mr Wuermeling concluded.

Press ahead with monetary policy normalisation with determination

Bundesbank President Joachim Nagel also stressed the importance of a strong capital base. Additionally, he called on banks to prudently manage their risks in order to remain resilient. “This will enable them to effectively fulfil their vital financing role in the economy in future, too,” Mr Nagel explained.

In his speech, the Bundesbank President also called for further interest rate hikes in the fight against high inflation in the euro area. “Further interest rate increases are necessary to bring the inflation rate back to 2%,” he noted. The longer inflation remained high, Mr Nagel continued, the more difficult it would be for monetary policy to restore price stability. “I will therefore continue to do all I can to ensure that we, as the ECB Governing Council, do not – under any circumstances – let up too soon, that we press ahead with monetary policy normalisation with determination,” he said, “even if our measures dampen economic growth.” The Bundesbank President expects inflation rates in Germany to remain high. “I believe it is likely that, on an annual average in 2023, the decimal point will be preceded by a seven,” Mr Nagel predicted. The inflation rate in Germany hit 10.4% in October. In the euro area, meanwhile, consumer prices were 10.7% higher than in the same month a year earlier. Mr Nagel noted that inflation as measured by the HICP was expected to be above 8.5% in 2022. This means the rate has been well above the target of 2% over the medium term for months. The ECB Governing Council, of which the Bundesbank President is also a member, considers that price stability is best maintained by aiming for this target. 

For many years now, the Bundesbank symposium has been one of the key events on banking and banking supervisory topics in Germany. This year’s speakers included Andrea Enria, the ECB’s chief banking supervisor. He does not perceive a continued rise in interest rates as a threat to most euro area banks. “Capital depletion would be higher for certain business models, such as consumer lenders and promotional and development banks,” Mr Enria told the audience.