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3. Risks arising from corporate loan defaults ↑
In 2024, the economic situation in Germany remained challenging. Economic output had already fallen by 0.3% in 2023. In 2024, economic activity fell by 0.2%. The German Council of Economic Experts (Sachverständigenrat) is expecting slight economic growth of 0.4% in 2025.
In view of the weak economic situation, there is a danger that the share of non-performing loans will increase.
The stress test conducted by BaFin and the Deutsche Bundesbank on less significant institutions (LSIs) in Germany shows that they are generally well positioned. However, institutions with low equity ratios that have furnished too few loan loss provisions up until now would be particularly at risk. In the event of a significant economic downturn, a mid double-digit number of institutions would fall below the regulatory capital requirement.
Economic sentiment gloomy
In 2024, geopolitical conflicts repeatedly had an impact on supply chains. While the acute risk of an energy crisis has been averted, the high energy costs compared with other countries continued to put a strain on German companies. This affected energy-intensive sectors in particular, such as the chemical industry and paper and glass production. At the same time, the industry underwent a structural change, which was primarily due to the transformation towards a climate-neutral economy in addition to changes in international trade relations. This was particularly evident in the automotive industry. These developments are likely to also be relevant in 2025.
In 2024, increasingly protectionist and isolationist tendencies could be observed worldwide. Export-dependent companies suffered as a result of increasing trade barriers and geopolitical tensions. In particular, an intensification of the trade dispute between the US and China would have considerable direct and indirect consequences for the global economy, but especially for Europe. The import tariffs on German and EU goods announced by the incoming US government would likewise have a direct impact on the economy.
Default risks for banks on the increase
There was an increase in company insolvencies (see Figure 6). At the end of the third quarter of 2024, the number of regular insolvencies applied for was 13.7% higher than in the previous year. The social and healthcare sector, the property and housing sector and the manufacturing industry were most strongly affected.
Figure 6: Company insolvencies in Germany
Source: BaFin diagram using data from LSEG Datastream, as at December 2024
There is therefore an increased risk that companies will partially or completely default on their loans. Effectively, the result of this will be a revaluation of credit risks. Value adjustments in banks’ loan portfolios rose sharply in the fourth quarter of 2023. This increase was in large part due to commercial real estate loans (see Risks in BaFin’s Focus 2024). Since then, the ratio of non-performing loans (NPLs) has risen slightly. This trend continued in the third quarter of 2024.
Loan loss provisions at German banks continued to rise, albeit at a low level. There was a stronger rise among LSIs compared with SIs (see Figure 7). The aggregate loan loss provision ratio was 1.41% in the third quarter of 2024.
Figure 7: Development of loan loss provisions of German banks
Source: Joint calculation by the Deutsche Bundesbank and BaFin based on FINREP, as at 30 September 2024
From the third quarter of 2023 to the third quarter of 2024, the aggregate ratio of non-performing loans (NPLs) at German institutions rose from 1.38% to 1.76% (see Figure 8) but remained at a relatively low level, also by international comparison. This trend was observed for both SIs and LSIs. Due to the persistently weak economy and poor market situation for commercial real estate, a further increase in non-performing loans is expected.
Figure 8: Development of NPL ratios of German banks
Source: Joint calculation by the Deutsche Bundesbank and BaFin based on FINREP, as at 30 September 2024
According to the Eurosystem's Bank Lending Survey (BLS), the German SIs and LSIs surveyed slightly relaxed their lending standards for corporate loans in the third quarter of 2024 despite poor economic projections, while for private households they tightened their guidelines. According to the BLS, however, the banks are planning to raise lending standards for corporate loans again in the future. On the demand side, banks recorded slight growth in the third quarter of 2024. They expect this trend to continue.
Insurers also affected by credit risks
Insurers are equally affected by credit default risks since they grant corporate loans themselves and invest in private debt funds (see Risks in BaFin’s Focus 2024). The share of private debt investments increased slightly in 2023. As at 31 December 2023, such investments accounted for 4.2% of insurers’ total investments.
Private debt investments place high demands on insurers’ risk management. It is of particular importance that insurers have a clear understanding of the business models of the companies to which the private debt funds are granting debt capital.
BaFin`s line of approach
- A countercyclical capital buffer has been in place for all domestic risk positions since February 2023. This was introduced by BaFin in 2022. The buffer is intended to make the banking system more resilient by strengthening institutions’ capital base in stress situations.
- BaFin will provide close support to credit institutions with a strong exposure to sectors that could be particularly affected by a collapse in economic activity or by geopolitical tensions.
- BaFin conducts targeted special inspections of lending business in addition to impairment tests, which focus on the general economic environment, among other things. These tests will be further intensified.
- BaFin will continue to closely monitor the development of the private debt market and the investment behaviour of insurers. In 2025, it will also closely examine risk management for alternative investments. It will also analyse whether companies comply with the “prudent person” principle. This will be based on a BaFin survey carried out in 2024 on the investment behaviour of insurers and pension funds showing indications of potential shortcomings.
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