CAUSES AND EFFECTS 1
5. Consequences and outlook
In recent decades (and especially following the outbreak of the financial crisis), international literature has striven to define those processes which might imply an emerging financial crisis in the economy. Though each crisis is obviously different according to the unique characteristics of the economies, studies have still managed to identify a few trends that substantially increased the vulnerability of the economy and the probability of an emerging banking crisis.
These studies found that banking crises are most often preceded by excessive lending.
Either from an historical aspect27 or by statistical analysis28 the common feature of periods prior to the banking crisis is a large amount of credit flowing out to the economy. This, often simultaneously with a reduction in saving willingness, can lead to a deteriorating balance of the current account, i.e. the economy depends more on foreign capital – and this capital is often only available with ever shorter periods of maturity.29 The large-scale credit outflow often contributes to the increasing price of a real or financial asset, thus house price or stock market booms might develop.
The most widespread method for seizing the excessiveness of lending is the quantification of the GDP gap. During the calculation of the indicator, the development of credit-to-GDP is decomposed to a trend and a cycle component, and if the actual value of the indicator exceeds the trend considerably and permanently, lending is considered excessive. The trend-cycle decomposition can be carried out by multiple methodologies but none of them are free from estimate uncertainties.30 Based on the credit gap calculated for the domestic household outstanding loans the credit volume exceeded the estimated equilibrium level after 2005, and the credit gap reached its maximum peak by the turn of 2008 to 2009 (Figure 16:). This implies that lending dynamics were not coupled with income developments.
26 The increases were certainly defensible in respect to economics by the increasing resource costs, country risk, state burdens and bank losses (SCHEPP – SZABÓ, 2015, SCHEPP – MÁTRAI-PITZ, 2016), however the possible changes of burdens derived from the contract were made non-transparent and untraceable for the consumer.
27 KINDLEBERGER and ALIBER, 2005, and SHULARICK and TAYLOR, 2012
28 BORIO – DREHMANN, 2009
29 LÁMFALUSSY, 2008
30 HOSSZÚ – KÖRMENDI – MÉRŐ, 2016
Figure 16: Household structural credit-to-GDP gap
Note: Based on Hosszú, Körmendi and Mérő (2016). Source: MNB
The development of the current account showed a large deficit before the outbreak of the crisis (Figure 17:). Its emergence can be largely linked to the budget deficit, the extent of which was not even approached by the continuously decreasing contribution of households to the balance. As the previous chapters showed, the substantive part of external funds involved to finance the deficit of the current account flowed into the economy via the banking system, and they mainly consisted of short-term funds. The two conditions of vulnerable financial systems – excessive lending and current account deficit – were both met in Hungary before the crisis.
Figure 17: Net lending of specific sectors (as a percentage of rolling annual GDP)
Source: MNB
The picture is not so obvious in the development of asset prices. Excessive lending did not fuel the housing market to the same degree as was typical in the case of real estate crises during previous
banking crises. In the period of 2005 to 2008, models showed a slight overvaluation of house prices, moreover, the price level could be considered as equilibrium based on estimates (Figure 18:).
However, overvaluation could develop in the real exchange rate during the period of foreign currency lending (Figure 19:): between the summer of 2006 and 2008, the real exchange rate appreciated by some 21 per cent. The external funds and the disbursement of FX-loans both contributed to this exchange rate appreciation to a great extent.
Figure 18: Deviation of house prices from the estimated level justified by fundamentals, nationally and in Budapest
Note: Light bars denote the uncertainty of the national estimate. For methodology see MNB (2018b) footnote 4.
Source: MNB (2018b)
Figure 19: The development of the HUF real exchange rate (December 2007 = 100 per cent)
Note: Higher values mean the appreciation, lower values mean the depreciation of HUF.
Source: Bruegel Institute based on Darvas (2012)
In addition to the macro-economic consequences, the impacts on debtors is also worthy of note. The realization of the exchange rate risk, as well as the unilateral interest rate increases by the banks substantially affected the amount of the credit instalments. In respect to the interest rate increases, the comparison with Polish FX-loans is especially interesting, these already being linked to the reference rate before the crisis. In their case, the base rate reductions of the Swiss central bank following the outbreak of the crisis were priced in the mortgages completely. Conversely, in Hungary, the banks – as previously mentioned – increased the interest rates (Figure 20:). Due to the two impacts, the credit instalments sometimes increased by up to 80 per cent in the case of a typical mortgage (Figure 21:).
Figure 20: Average interest rate of the outstanding FX-denominated loans
Source: National central banks of these countries
Figure 21: The fluctuation of an average housing loan’s instalments compared to the initial value
Source: Own calculation
The increasing instalments led to the spread of non-performing loans. Especially those loans proved to be the most problematic that were disbursed during the one and a half years prior to the outbreak of the crisis, in the most intense period of competition. Nearly 40 per cent of these loans later became non-performing, and their share was still 60 per cent within the non-performing loan portfolio in 2018 (Figure 22:).
Figure 22: Distribution of the household mortgage loan contracts outstanding at the end of March 2018 by rating category and the month of contract conclusion
Source: MNB (2018)
Overall, the financial crisis of 2008 found Hungary in an extremely vulnerable situation with high external debt, a current account deficit, and relying on foreign funds.
The correction of the imbalances took many years, although as a legacy of foreign currency lending several tens of thousands of families were still struggling with a debt service that they could not pay easily in 2018. Although the situation was settled with the conversion of foreign currency loans into forint loans and the settlement of unilateral interest rate increases, during their tenure FX-lending caused immense damage to the economy.
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