Central Bank watching loan arrears amid interest rates squeeze

The Central Bank is “monitoring closely” any potential build-up of loan arrears from the changing interest rate environment.

At its latest macroprudential meeting in September, the regulator’s governing commission, which includes Governor Gabriel Makhlouf, discussed the impact of 10 consecutive European Central Bank (ECB) rate hikes on borrowers here.

“It was noted that key determinants of arrears are unemployment and incomes, and that the central outlook pointed to unemployment remaining relatively low, supporting household incomes,” minutes from meeting said.

“Nevertheless, the bank is monitoring closely early indications of potential financial distress given the changing interest rate environment,” they said.

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While retail banks have been slow to pass on the full extent of ECB rate increases, borrowers with nonbank lenders have seen their repayments rise considerably. This cohort of lenders appear to be driving an increased incidence of short-term arrears.

The commission said the transmission of tighter monetary policy would curb demand conditions while “contributing to lower inflation as the forecast horizon proceeds.”

It also noted there had been – to date – a stronger “pass-though to retail interest rates for businesses, but slower to new mortgage lending and household deposits”.

Frankfurt has increased its main refinancing rate, which impacts mortgages, from zero to 4.5 per cent over the last 17 months in a bid to tame inflation.

On the wider economy, the Central Bank noted that the outlook was shaped by a faster than previously estimated growth in the domestic economy, “with implications for the bank’s assessment around capacity constraints, as well as the building impact of monetary policy, both domestically and globally.”

Meanwhile, the possibility of a commercial property crash is “one of the main risks” the Central Bank is monitoring, according to Vasileios Madouros, the bank’s deputy governor for monetary and financial stability.

Speaking at the Federation of International Banks in Ireland (FIBI) conference in Dublin, Madouros confirmed that weak pricing in the real estate market and the possibility of a crash is “one of the main risks that we [the Central Bank] are looking at”.

He said that cyclical shocks such as rising interest rates have coupled with “persistent” structural shocks such as people not working from offices as much, and people shopping more online.

He added that shocks have led to “a significant fall in valuations” in the commercial property sector, and “it is still ongoing”.

“We have seen very significant adjustments in valuations globally in Europe, and in Ireland, and these adjustments are continuing. It has been orderly so far, but it is an area where investors might make losses and creditors might also make losses,” he said.

Separately the Economic and Social Research Institute’s (ESRI) latest “Nowcast” data, published on Tuesday, suggested modified domestic demand (MDD), a more accurate barometer of domestic activity, rose by 2.7 per cent in the third quarter of 2023, down from a previous estimate of 3 per cent.

Central Bank officials said the labour market here remained tight, with unemployment expected to remain close to 4 per cent, “supporting real-wage catch-up, but there were early signs of moderation in excess labour demand.”

They cautioned that the high-interest rate environment “was set to weigh on the global outlook, affecting indigenous exports and contract-manufacturing exports undertaken abroad on behalf of Irish resident multinational enterprises.”

A deterioration in headline GDP (gross domestic product) – it contracted by 1.9 per cent in the third quarter – has been put down to a fall-off in multinational exports, particularly from the pharma sector.