Financial stability: SNB points finger and shows new openness

The Swiss National Bank (SNB) shocked the markets last Thursday with an unexpected interest rate hike – its first for 15 years. The trend towards monetary policy normalisation has thus spread to Switzerland. The SNB’s rate hike quite rightly sends out an important signal to the economy and points to the possibility of further tightening.

On the same day, the SNB published its annual Financial Stability Report. The report makes it clear that the turnaround in interest rates is just one factor among many in the current environment of uncertainty. A stable financial system is especially important at present.

Stable banks, SNB ignoring other risks

First, the good news: the SNB sees the two big banks as resilient when it comes to handling the current risks, including those stemming from the war in Ukraine. It also believes that the domestically focused banks are on a solid footing. Their capital buffers are sufficient to absorb losses, even in various stress scenarios, and a steepening yield curve should improve their earnings compared with recent years.

All this paints a general picture of stability, but is that picture really accurate? Year after year, the SNB’s Financial Stability Report focuses entirely on banks, completely ignoring other potential sources of risk to system stability. Renowned international bodies such as the Financial Stability Board, meanwhile, endeavour to identify and understand these other risks. We still have no information whatsoever, for example, on the importance of financial services provided by non-banks in terms of stability.

SNB’s real estate market investment advice and risk control

Another thing the SNB has been doing for years is drawing our attention to the persistently high risks on the real estate and mortgage markets. It quantifies the overvaluation of the real estate market relative to the price levels suggested by fundamental factors at around 10-35%, which sounds rather like a piece of investment advice. The SNB’s decision on interest rates should cause some movement in the interest rate-sensitive segment of investment properties.

However, at its news conference on its assessment of the monetary policy situation, Vice Chairman Fritz Zurbrügg downplayed this. This kind of rate hike, he said, will not lead to a slump in prices – in fact, it will probably reduce real estate risks. Conversely, it is clear that the SNB’s low-interest policy, which has been in place for many years, has helped to boost real estate prices, with the banks bearing the burden in the form of stricter macroprudential requirements.

For instance, the banks have substantially reduced their risks on the basis of the more stringent self-regulation introduced by the Swiss Bankers Association in 2020. The share of new mortgage loans against investment properties with a loan-to-value ratio of more than 75% fell by around a third last year alone.

New SNB openness?

Nevertheless, the SNB’s assessment of the risks in terms of affordability and valuation is largely unchanged. That said, a noteworthy and welcome shift is that it is now more candid about the limits of its risk assessment.

For example, it qualifies its estimate for owner-occupied residential property with references to pandemic-induced higher demand for living space and tight supply in Switzerland. Even more significant is the implied admission that the analysis input only allows for an approximation of the actual risks. The meaningfulness of the SNB’s analysis on affordability, among other things, is limited by the fact that it only takes account of the borrower’s income, not any available assets. The SNB itself says so: “In reality, borrowers may have substantial additional financial resources, which could have implications for financial resilience.”

This new openness on the SNB’s part as regards broader acknowledgement of relevant factors the industry has regularly pointed out (see our article) is a positive development. However, it also makes the SNB’s statement that it is currently looking into the possibility of further regulatory action all the more difficult to understand.

The announcement seems totally inappropriate against the backdrop of the reduction in risk mentioned above, the rate hike, the recent reactivation of and increase in the countercyclical capital buffer (CCyB), and the imminent implementation of the final Basel III standards. We can only hope that this new openness also feeds through into the SNB’s evaluation of the need for regulation.