Banks have been criticised for being slow in responding to the recent ECB interest rates hike
Cyprus’ main banks are set to increase interest rates on deposits this year after a period of 10 years during which they were paying close to zero interest, but this might yet take a while.
The increase in the deposit rate was on the cards even before the European Central Bank raised interest rates by 50 basis points 10 days ago. It was the sixth time the ECB raised interest rates for euro countries, increasing the deposit rate it pays banks overnight to 3 per cent and the minimum refinance rate it lends banks overnight to 3.5 per cent.
People have been complaining that banks in Cyprus have been slow to increase deposits rates which remain below 1 per cent, but this is set to change, although it is not happening as fast as some would like.
Central Bank Governor Constantinos Herodotou appeared to have applied some pressure on bank bosses a few days ago. After a meeting on Tuesday with chief executives of the banks, a Central Bank announcement said the governor urged the banks to proceed as soon as possible with the evaluation of their data with regard to the level of their deposit rates.
The banks were taking their time, perhaps as a way of compensating for the fact that for years deposits incurred a cost to banks.
“Deposit rates are going to rise as we go through the year but bear in mind that for about the same time as banks were paying their depositors near zero per cent, they were charged at -0.5 per cent by the ECB for their overnight deposits,” said Ioannis Tirkides, senior economist at the Bank of Cyprus.
“Banks absorbed considerable losses over a long period of time, when their Net Interest Margins, the difference between the average rate at which they lend and the average cost of their deposits, dropped considerably lower,” he added.
“Inevitably, there is also a technical issue, because many people had fixed-term deposits which renew at the end of their term, and so there is a lag between the time the ECB raises interest rates and term deposits come up for renewal, or a new deposit is made, when a higher interest rate will be paid by the bank,” Tirkides said.
Hellenic Bank CEO, Oliver Gatzke also suggested that the increase in interest on deposits would be gradual. Speaking to journalists some 10 days ago, he said that the bank would slowly proceed with increases on the rates of fixed term deposits.
The banks have excess liquidity and no big incentive to attract more deposits by increasing interest rates.
“Look at the banks today in comparison to 10 years ago, there is capital, there is big liquidity,” said Gatzke. He explained that Hellenic’s liquidity coverage ratio was at 440 per cent more than four times the 100 per cent supervisory limit.
The same ‘problem’ also exists at the Bank of Cyprus. More broadly in the banking system today the value of deposits was double that of loans, compared with the period before the crisis when the value of loans exceeded the value of deposits particularly for local residents.
“In about the middle of 2012, total deposits in the banking system were €72 billion of which €44 billion belonged to residents, domestic companies and households. Loans were €72 billion also of which €54 billion were to residents,” explained Tirkides and added:
“At the end of 2022, the value of deposits was €52 billion and the value of loans €26 billion. For residents alone there were €43 billion deposits and €22 billion loans. Banks have substantially more deposits than loans, which perhaps indicates that lending opportunities are more limited, the banks are more cautious and definitely more prudent than buying long-term securities in large amounts.”
Cyprus banks are in very good shape today, something that Gatzke attributed to supervision. “The Cyprus banking system has improved significantly and this was because of the supervision and at the end of the day banks are more secure,” he had told journalists.
A minor reason the banks are not in a big rush to raise interests on deposits is that their customers have changed the banking habits after 2013 and are unlikely to go to another bank for the sake of a 0.5 per cent higher interest rate.
“Many customers keep accounts of less than the guaranteed €100,000 in different banks, and are unlikely to move them,” said a Hellenic Bank official. “These are what we call sticky accounts because they are for relatively small amounts and their holders have no incentive of moving them to another bank to earn a couple of hundred euro more in a year because of the marginally higher interest rates.”
Of course, higher interest on deposits would also lead to higher interest on loans. “New housing loans would be higher now,” said a bank executive. “The interest would go up after the ECB rate hike.”
A retired banker pointed out that with the ECB offering 3 per cent interest, “a bank would be happy to put its money there, securing a good return without taking any risk rather than offer a loan to a business at 4.5 or 5 per cent which has some risk.”
Would the higher lending rates put businesses under pressure?
“Understandably the normalisation of interest rates will cause some stress, but still real interest rates (nominal interest rates less inflation) are negative, and companies should be in a position to absorb them, especially bearing in mind the steeply reduced private debt,” Tirkides said.
Households with loans, however, will be under more pressure because they are hit doubly, by inflation eroding their real incomes and higher interest rates on their loans.
Akel has already started complaining about the high rates, demanding that the banks cut their profit margins and immediately increase the interest on deposits.
Member of the party’s central committee, Vakis Charalambous also called on the government to cover part of the interest rate rise. The government “must work out a targeted plan for the subsidising of interest rates for the middle and low strata of society and secure access to viable borrowing for small to medium enterprises,” said Charalambous.
He also spoke about the need of setting limits on interest rate levels and extending loan repayment periods in order to ease the burden on borrowers.
Such measures are unlikely to happen as it would defeat the one and only aim of the higher interest rates – bringing the inflation rate in the eurozone under control. In fact, there are reports that the ECB could announce another hike in interest rates by early May.
With the forecasted inflation in the eurozone, for this year, at 5.3 per cent, almost three times the ECB’s 2 per cent price growth target, another hike cannot be ruled out.
