December 13 (SeeNews) - The risk of abrupt worsening of investor sentiment and the unpredictable legislation in the banking sector could put pressure on Romania's economy, the central bank warned on Tuesday, stressing on the need for prudent fiscal and monetary policies.
Since the release of the previous report in April 2016, financial stability has remained robust and risks have diminished, but are still significant, the central bank, BNR, said in its December financial stability report.
The report identifies two high-intensity systemic risks, of which one rising, two moderate ones and one low systemic risk.
One of the highest risks to Romania's economy is related to a possible sudden shift in investors' confidence in emerging markets, the state of the international financial system and heightening geopolitical tensions. BNR estimated this risk could heighten.
"The risk of abrupt worsening of investor sentiment towards emerging economies has remained elevated, rising slightly compared with the previous report. There is evidence that uncertainties surrounding global economic growth, the state of the international financial system, heightening geopolitical tensions fuel investors’ wariness and their subsequent flight to safety," BNR said.
The second systemic risk, which has a downward outlook, is posed by the uncertain and unpredictable legislative framework in the banking and financial field, with implications on banking sector solvency. More exactly, BNR refers to the mortgage default law and Swiss franc loan conversion law, which were both approved by parliament but not promulgated by president Klaus Iohannis. Also, both laws were recently challenged in the Constitutional Court.
Under the mortgage default law, banks can seize from mortgage defaulters only the property for which the borrowers had received a loan of up to 250,000 euro ($283,000) but cannot claim any further payment. The Swiss franc loan conversion law aims to help Swiss franc borrowers convert their mortgage loans into local leu currency at historical rates.
"Under these circumstances, the risk associated with the uncertain and unpredictable legislative framework in the banking and financial field is estimated to have significantly declined," BNR said.
The moderate systemic risks are generated by the uncertainty about budget building and by the challenges facing the EU: the pending departure of the UK from the bloc (Brexit), the migrant crisis, unsolved vulnerabilities such as sovereign debt crisis in some euro area countries.
"The 2017 budget poses significant uncertainty. The consolidation of a responsible fiscal policy, by securing greater predictability in the regulatory field, and the preclusion of a pro-cyclical behaviour of the macroeconomic policy mix are crucial in preserving economic equilibria and underpinning financial stability in the period ahead" BNR said.
Regarding Britain's decision to leave the EU, BNR says that at the current juncture, it is difficult to estimate what and how large the Brexit implications on Romania would be. "Although consequences will materialise only to a small extent in the near run, Romania will have to calibrate its medium- and long-term policies starting from the major challenges facing the EU," the report said.
A low systemic risk identified by the BNR stems from the the foreign-currency loan stock if the risk of investor sentiment worsening materialises.
"The foreign-currency loan stock, albeit still significant, has clearly been trending downwards, as leu-denominated lending conditions have improved," BNR said. There are many positive effects arising from this structural adjustment of lending, BNR added, mentioning a more effective functioning of monetary policy transmission mechanisms.
On November 4, BNR maintained its monetary policy rate at a record low of 1.75%, in line with analysts' expectations. The bank last changed the rate in May 2015, when it cut it by 25 basis points.
"The risk associated with foreign-currency loans relates to a potential materialisation of the risk of investor sentiment deterioration that might weaken the domestic currency," BNR said.
Private lending in foreign currency fell 9.8% to 95.4 billion lei ($22.4 billion/ 21.1 billion euro) in October, following a 11% decline in September, BNR data showed.
BNR said that overall, the Romanian banking sector is capable of dealing with adverse developments, including those described above.
"Total capital ratio has remained high at 18.8% in September 2016, profitability has strengthened, liquidity is not a constraint to banks, and asset quality has improved noticeably, as the non-performing loan ratio fell by 3.5 percentage points January through September 2016 to 10 %, with the loan loss coverage by provisions staying above the EU average," BNR said.
(1 euro = 4.5075 Romanian lei)