The countercyclical capital buffer is intended to strengthen banks’ solvency and mitigate the risk that banks amplify an economic downturn. According to the capital framework, the countercyclical capital buffer is intended, in principle, to range between 0 percent and 2.5 percent. Norges Bank will normally set the buffer rate in the upper part of this range. Norges Bank sets the countercyclical capital buffer rate each quarter.

Growth in the Norwegian economy slowed through 2023 and has been low recently. Unemployment is low, but the economy is now cooling down and employment growth is weak.

Many households are highly indebted, and property prices rose considerably over many years. There is still a heightened risk that these financial system vulnerabilities may amplify an economic downturn (see Financial Stability Report 2023 - H2).

For many years, debt rose faster than household income. Over the past two years, debt growth has been slower than income growth and is now appreciably lower than its historical average. However, owing to high debt levels and higher interest rates, households need to spend a larger share of their income on interest payments. Analyses in Financial Stability Report 2023 - H2 show that the vast majority of households can service their debt, but many households will have to tighten consumption. A markedly sharper-than-expected tightening of consumption may lead to bank losses on corporate exposures and amplify an economic downturn through tighter credit standards.

House price inflation was low in 2023 and lower than household income growth. Existing home sales were approximately at a normal level, but the stock of unsold existing homes has increased markedly. New home sales have fallen over a long period and are at a low level. The outlook for house prices is more uncertain than normal. Large and abrupt falls in house prices may trigger higher losses on banks’ exposures. The risk of a pronounced decline in house prices is dampened by low construction activity and low unemployment.

Banks’ high commercial real estate (CRE) exposures are a key financial system vulnerability. For a long period, low interest rates fuelled a rapid rise in commercial property prices. In 2023, the rise in long-term interest rates pushed up estimated CRE yields, and selling prices have fallen since summer. Long-term interest rates are lower than in November but remain high relative to CRE yields.

Higher interest expenses reduce CRE firms’ profitability, and lower selling prices lower their equity ratios. Since high employment is helping sustain demand for office space, most firms will be able to cope with higher interest expenses. Lower equity ratios and profitability will make rolling over maturing loans more demanding. This may force fire sales of properties, which can amplify a fall in property prices. If rental income developments in the CRE sector prove markedly weaker than expected and selling prices fall sharply, many firms will have problems servicing debt. This may lead to substantial bank losses.

In Norges Bank’s quarterly lending survey, banks as a whole reported unchanged credit standards in 2023. The exception is CRE, where banks in a number of surveys reported that they are setting somewhat stricter equity and debt-servicing capacity requirements for new loans. In the most recent survey, banks expected unchanged credit standards for households and firms in 2024 Q1. Risk premiums in the corporate bond market have fallen since November and reduced the cost of new bond issues. Risk premiums for CRE firms have also fallen but are still higher than normal. In the Bank’s overall assessment, creditworthy households and firms have ample access to credit.

Norwegian banks satisfy capital and liquidity requirements by a solid margin. Norwegian banks are highly profitable, and interest margins have risen since the tightening cycle began in 2021, at the same time as losses have been low.

The capital requirements reflect the vulnerabilities in the Norwegian financial system. If there is a sharp economic downturn, credit losses may prove to be so large that banks will operate at a loss and have to draw on the capital they have built up. Norwegian banks are resilient and are able to absorb losses and maintain lending in a severe economic downturn. The countercyclical capital buffer rate of 2.5 percent helps banks to preserve that resilience.

The Committee unanimously decided to keep the countercyclical capital buffer rate at 2.5 percent.

Ida Wolden Bache
Pål Longva
Øystein Børsum
Ingvild Almås
Steinar Holden

24 January 2024