Banking sector demonstrated good resilience to the Covid-19 economic shock in 2020

19.03.2021
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Data collected by the Financial and Capital Market Commission (FCMC) on the performance of the banking sector in 2020 demonstrate that the Latvian banking sector as a whole has shown good resilience to the Covid-19 economic shock.

Assessing the overall performance of the Latvian banking sector, it should be considered that several credit institutions were closed in Latvia during the first quarter of 2020 and accordingly they are excluded from the overall banking sector performance indicators. Following the Group’s strategic decision on closing down their businesses in the Baltic States, activities of the branches of Danske Bank and Svenska Handelsbanken AB were terminated in Latvia. On 18 February 2020, the European Central Bank (ECB) decided to withdraw the authorization of AS PNB Banka, which had actually been suspended already since 15 August 2019.

Despite the impact of the credit institutions’ closure, the total amount of Latvian banking sector assets grew by 1.9 billion euro or 8.4% during the year. Excluding the above effects from the termination of businesses, the increase in assets reached 10.9%. In 2020, two factors affected the comparatively rapid increase in assets: firstly, the participation of several credit institutions in the ECB’s targeted longer-term refinancing operations (TLTRO III) auctions; secondly, increasing uncertainty over economic development prospects and a decrease in consumption that contributed to a sharp upsurge in deposits of domestic non-financial corporations and households, with an increase in total deposits of 1.4 billion euro or 7.6%.

The total amount of loans granted to non-bank customers in the Latvian banking sector shrank by 3.9% over the year, including 3.0% for domestic customers. Excluding the above effects from the termination of credit institutions’ businesses, the amount of non-bank customer portfolio decreased by 1.0% mainly due to the decrease in the loan portfolio of domestic non-financial corporations (by 2.0%), as well as a decrease in foreign customer loan portfolio (by 0.3%), while the domestic household portfolio slightly grew (by 0.8%). However, the development of domestic non-financial lending in 2020 was broadly characterised by significant divergences between market participants: while the amount of loans granted to the domestic customers did not change dramatically or even decreased, several banks experienced a relatively rapid increase in domestic customer lending, including that banks that continued their business model change, where domestic customer loan portfolio increased by 17.8% or 112 million euro, confirming their involvement in the domestic customer lending market in line with business strategy settings.

The quality of loans granted to non-bank customers continued to improve across all borrower segments, with the share of nonperforming loans (NPL) decreasing to 4.7% at the end of December 2020. In the NPL structure, the share of loans overdue by more than 90 days decreased down to 2.3% at the end of December (compared to 3.2% at the end of 2019); but the proportion of unlikely to pay loans increased slightly in the NPL structure, reaching 2.4%.

Although the rate of a decrease in profit declined steadily in the second half of the year, it remained significant in 2020 – the Latvian banking sector closed the year with a profit of 154.1 million euro, which was 36.0% less than in 2019. The fall in profit was driven by both higher savings costs (by 20.7 million euro or 44.4%) and lower operating income (by 56.7 million euro or 7.4%). Operating income was significantly affected by the fall in profits from financial instrument transactions and exchange rate fluctuations (-47.2%), mainly due to the asset price adjustment in financial markets in the first quarter of the year. Though to a lesser extent, the uncertainty due to the Covid-19 and its impact on the economy as a whole also reflected in a 1.7% drop in net interest income and a 4.7% decrease in commission. Accordingly, the profitability indicators also deteriorated: the share of expenditure to income climbed from 61.6% up to 67.8%, while the return on equity decreased from 9.5% to 5.4%.

At the beginning of 2020, in line with the request from the ECB and FCMC to refrain from the distribution of dividend with a view of continuing lending and providing capital buffers to cover potential losses, several banks decided on incorporation of retained earnings in capital, significantly improving overall banking sector capital ratios. Also in the final quarter of the year, there was a relatively significant improvement in capital ratios, driven by the return of individual banks to profits, as well as a reduction in risk-weighted assets. As a result of above factors, the average CET1 ratio of the banking sector improved to 24.5% in the last quarter of the year, while the total capital ratio was up to 25.6% (22.1% and 23.4% at the end of 2019, respectively).

An infographic on the banking sector figures for 2020 is available at: https://www.fktk.lv/wp-content/uploads/2021/04/Inforgrafika_new_12-2020_ENG-1.pdf.

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