Budapest, 17 November 2016  - The vulnerability of the Hungarian banking sector is low; its shock absorbing capacity is solid and has strengthened further since the spring Report both in terms of solvency and liquidity. Banks’ lending activity is picking up both in the corporate and household segment, the annual SME loan dynamics reached the sustainable growth supporting 5–10 per cent band. It is of great importance however that recovery of lending should happen with strengthening price competition, particularly in the household segment, in order to induce higher cost-efficiency among banks. In the meantime, external risks are increasing. In addition to the still unsolved legacies of the crisis, geopolitical developments and challenges posed by the persistently low interest rate environment represent the

main risks in the European banking sector.

The banking sector’s stability risks are low, its resilience to stress improved in the past half year. At the same time, external risk factors are escalating. Possible market turbulences evolving on the weak fundamentals of the European banking system may affect the Hungarian banking sector as well through various channels of contagion. In addition, increasing political and geopolitical risks have an adverse effect on the already weak growth prospects both in the EU and globally. Regarding developments in domestic lending, corporate lending dynamics has experienced a turnaround in 2016, particularly in SME lending, where central bank programmes (FGS, MLS) played a strong stimulating role. As a result, SME lending dynamics entered into the band between 5 and 10 per cent, which is necessary for sustainable growth. Market based SME lending is considered to continue without any break after phasing out of FGS. Meanwhile, the role of public credit guarantee schemes becomes more valuable and thus stronger activity and higher risk-taking is required of guarantee

institutions in order to boost investment loans increasing SME’s productivity.

The segmented pick-up in the real estate market continued. A strong price increase is observed in Budapest, but for the time being the price level cannot be considered as overheated. In contrast, price increase is not so typical in less frequented areas or smaller types of settlements. In order to track house prices and its impact on financial stability the MNB has constructed its own house price index, which is more capable of reflecting changes. In parallel with the housing market developments, a turn took place in household lending as well. For the first time since 2008, as of June this year, disbursements already exceed repayments, primarily as a result of a nearly 50 per cent increase in housing loans. At present, the central bank debt cap rules keep new lending in a prudent channel. This may further be supported by a shift towards fixed-rate loans, which would especially be desirable at longer maturities, in the case of clients with higher payment-to-income ratios (PTI). This, however, requires stronger price competition among banks, since the spread of loans with fixed interest rate is very high in Hungary in international comparison. The ratio of non-performing loans declined in H1, although further decrease is necessary. So far, the results of the decline are mainly attributable to regulatory measures, in particular to the active role

played by the Central Bank. The turnaround of lending also helps to outgrow the problem of nonperforming loans; nonetheless the active involvement of the Central Bank is still necessary, while the steps taken to date continue to urge banks to solve the problem.

Financial Stability Report (November 2016)