15 March 2023

Statement of the Central Bank of Iceland Financial Stability Committee 15 March 2023

The Icelandic financial system is on a solid footing. The systemically important banks have delivered solid results and they have supported households and businesses Their capital and liquidity positions are strong.

However, households’ and businesses’ financial conditions are tightening because of high inflation and interest rates. The outlook is for inflation to be stubbornly high and debt service burdens to grow heavier.

The headwinds facing financial institutions in international markets provide a reminder of how vital it is that deposit institutions maintain enough strength to perform their role of intermediating credit and payments and of analysing and managing risks appropriately through the financial cycle. Given that domestic demand is strong and developments in the financial markets are uncertain, it is important to preserve the resilience of domestic financial institutions.

Tension in the housing market has eased in recent months. Housing supply has increased and the average time-to-sale has grown longer. Real estate prices have begun to fall but remain high by nearly all measures. One indicator of this is the ratio of capital area property prices to construction costs, which is extremely high. Borrower-based measures have significantly reduced high-risk lending. Furthermore, Icelandic banks are strong enough to ease borrowers’ debt service by converting their loans to other forms. The Financial Stability Committee (FSN) urges mortgage lenders to work with borrowers, as they have in the past, to minimize the likelihood of financial distress.

The FSN has decided to increase the countercyclical capital buffer rate from 2% to 2.5% of the domestic risk base. The banks are well prepared to satisfy increased capital requirements while maintaining the credit supply. The countercyclical capital buffer is an important element in banking system resilience. This increase is conducive to bolstering that resilience still further in the face of the risks that have accumulated and could materialise in the coming term. The Committee’s decision will take effect twelve months from now.

The FSN reiterates the importance of establishing an independent domestic retail payment solution and supports the steps taken thus far towards achieving this goal. It is preferable that this work be expedited to the extent possible so that a conclusion can be reached within one year.

The Committee will continue to apply the policy instruments at its disposal so as to preserve financial stability, thereby enabling the financial system to mediate credit and payments and redistribute risks appropriately.

No. 8/2023
15 March 2023