S&P sees risks looming for Norway and Finland

Increasing economic risks may lead to bank downgrades in Norway and Finland, Standard & Poor’s has warned, while the introduction of bail-in regulation is putting pressure on banks across the Nordics. However, it sees positive signs for Icelandic banks.

In Norway, the economic risks facing banks are centred around the recent fall in oil prices and uncertainty surrounding the long term price trend, the rating agency said in a report on Monday. These factors could have significant regional effects on real estate prices, corporate defaults, and unemployment, potentially leading to higher provisions.

The pace of private debt accumulation in Norway has remained high, added S&P, meaning house price-sensitive consumers are likely to magnify any downturn, leading to negative implications for corporations and commercial real estate.

“A marked deterioration in these factors combined could lead us to revise our view of the banking sector,” the rating agency said. “However, supportive monetary policy, extensive fiscal flexibility, and low unemployment could mitigate some of these risks.”

For Finnish banks, economic vulnerabilities arising from the jurisdiction’s relatively high dependence on declining industries and large export sector are exerting downwards pressure on ratings, said S&P. Small and mid-sized corporations are likely to struggle, while house prices could also decline modestly, according to the rating agency.

“The outstanding risk for Finnish banks will therefore be to manage tempered economic growth conditions, which may lead to larger than anticipated risk costs,” it said.

“Finland’s banking sector has so far demonstrated resilience, with comparatively lower imbalances than its Nordic peers,” it added. “However, a more negative economic scenario could lead us to revise our view on the Finnish banking sector.”

Bail-in regulation is meanwhile putting pressure on the credit prospects of banks across the Nordics, added S&P. The agency noted that the introduction of the EU’s Bank Recovery & Resolution Directive (BRRD) will likely lead it to, before January 2016, reduce or remove notches of uplift for extraordinary government support in its ratings on systemically important banks in Sweden, Denmark and Finland.

One potential mitigating factor could be S&P’s proposed additional loss-absorbing capacity (ALAC) criteria, the rating agency said.

“Under the proposed criteria,” it said, “ALAC-eligible instruments with bail-in features could mitigate the potential reduction in notches of government support for systemically important banks given their ability to reduce default risk on senior unsecured obligations.”

The rating agency also anticipates similar legislation being adopted in Norway and Iceland, though the agency noted that none of its Icelandic bank ratings include uplift for government support, meaning they will be unaffected by such changes.

S&P said the prospects for Icelandic banks appears positive as the sector recovers post-crisis. It expects the government to gradually remove capital controls from this year with the economy growing and solutions for failed banks’ winding-up estates exerting less pressure on the exchange rate from potential outflows.

“In the near term, we expect that the banking system will build up enough capacity to limit the impact of any residual risks from the financial crisis that broke out in 2008,” the rating agency said. “If the structural improvements continue to gain pace, our assessment of Iceland’s economic risk could improve.”

“We still see risks from the partial or full lifting of capital controls, but expect that the government would act prudently to minimise any impact on the economy and the volatility of the exchange rate. We also see some risks related to the deterioration of external conditions, which could derail the growth we expect for the Icelandic economy and lead us to revise the trend back to stable.”