Poland has a war on its doorstep. Missiles have exploded within miles of its border and more than five million Ukrainian refugees have fled through the country. But for Poland’s banks, the main impact so far has not been borrowers being unable to pay their loans but the costs of their government’s financial sector policies.
Since the invasion, Polish prime minister Mateusz Morawiecki has put in place a set of measures that weigh extraordinarily heavily on banks’ profits. Chief among those are sweeping mortgage holidays, announced at the European Economic Congress in April, entirely free of charge to borrowers and potentially costing banks as much as half their profit for the year.
For a nationalist government that has sought to win popularity by taking a hawkish stance towards Russia, the holidays are designed to help in the fight against inflation. It’s part of what the government calls an “anti-Putin shield” to protect consumers against price rises – and by extension local central bank rate hikes – fuelled by Russian president Vladimir Putin’s invasion of Ukraine.
“Putinflation is Putin’s second great weapon,” Morawiecki said when he announced the policy package in late April. “It is inflation through which he wants to destroy economic development and recovery after the pandemic.”
Poland, which currency traders still consider an emerging market, necessarily started raising interest rates much earlier than developed markets. Its reference rate stood at a near two-decade high of 6.5% in August, up from just 0.1% a year earlier.
Rising rates translate into higher mortgage payments unusually rapidly in Poland because variable rate mortgages are the norm here, unlike most of the rest of Europe. Nevertheless, given how interest rates are now also rising in western Europe, even in the eurozone, bankers across the continent might wonder whether they could be next to suffer similar policies.
Growing concern
In Warsaw’s financial community the consensus is that Morawiecki’s banking policy package reflects growing concern in his Law and Justice (PiS) party about how inflation will impact its re-election prospects – something that is increasingly preoccupying governing parties elsewhere in Europe too.
More than half a million Polish mortgage borrowers applied for the mortgage holidays in the first two days of the programme alone, Morawiecki said shortly after its launch. Meanwhile, he hopes that a simultaneous push to accelerate a reform of Poland’s Warsaw interbank offered rate (Wibor) interest rate benchmark will make mortgage margins lower. Banks’ contributions to a Borrower Support Fund, providing forgivable loans to people in particular need, are to increase. And that is all on top of cuts to taxes on income and energy consumption.
As elsewhere in central Europe, inflation has been higher in Poland than in western Europe. This is partly because of higher economic growth and lower unemployment and partly because the structure of the country’s economy means higher energy costs have a relatively large impact on prices across the board. Although Russia stopped supplying Poland with gas directly in the spring and Poland generates most of its electricity from coal, a wider Russian gas cut-off this winter would still hit Poland hard through higher prices on the European market.
By July, Polish inflation was running at 15.6%, making more central bank hikes inevitable, according to economists at ING.
The war in Ukraine and higher energy prices are not the country’s only economic headaches. Over the summer some in PiS – most notably party chair and former prime minister Jarosław Kaczyński – have ramped up their rhetoric towards the European Union in a dispute about reforms that Brussels says undermine the rule of law.
The Polish government has rowed back on some of those reforms but not enough for the European Commission to release €35 billion of Covid-19 recovery funds. Taking his cue from Kaczyński, PiS secretary general Krzysztof Sobolewski said in early August that Poland would “turn all the cannons” on Brussels in retaliation, threatening to veto EU initiatives and build a coalition to unseat Commission president Ursula von der Leyen.
By contrast, Morawiecki is generally considered a more technocratic figure in the Polish government, reflecting the fact that he was a banker before entering politics. In 2007 he became chief executive of the country’s third-biggest bank, BZ WBK, now Santander Bank Polska, and oversaw its sale by Allied Irish Banks in 2012. It is perhaps testament to Santander’s confidence in Morawiecki that the Spanish group kept him as chief executive until he resigned to become economy minister in 2015.
But Morawiecki’s banking background makes his role in formulating the government’s policies even more frustrating to those that are still running Polish banks. As the holidays are not targeted at the vulnerable but are available on any fixed or variable-rate zloty-denominated mortgage, bankers argue they are bad economics and legally questionable, including under EU law.
Impact on banks
Commerzbank, for one, is considering legal action because of the impact on its mBank subsidiary, Poland’s fifth-biggest bank.
“In general, we like the idea of instruments to help customers in trouble, to a certain extent – like we saw during the Covid pandemic, when a loan moratorium was restricted to people in trouble,” says Bettina Orlopp, Commerzbank’s chief financial officer and deputy chairman of mBank.
The current iteration of the mortgage holidays is also more detrimental to bank profits than the repayment moratoriums of 2020 because this time interest will not be accrued on the whole mortgage during the holidays, which can run for eight months this year and next.
“We had mass mortgage holidays during the pandemic, but they were not in a manner that damaged the net present value of the loans,” says Brunon Bartkiewicz, chief executive of ING Slaski, Poland’s fourth-biggest bank. “The Covid moratorium was liquidity help. That’s the difference. It didn’t impact our profit and loss statement and capital very much.”
Bartkiewicz, who represents large banks at the Polish Bank Association, admits that the other key difference is that in 2020 rates were very low. Banks are now better able to afford free credit holidays as the starting point of their profitability is much higher. There is less risk of the policy resulting in such deep and widespread losses that systemic stability comes into question.
Also, during Covid allowing banks to charge interest during the holidays was much less detrimental to the borrower’s indebtedness.
What bankers say is an unworkably tight deadline for Wibor reform – by January next year – might suggest the wider mortgage support package is not all the work of people with deep knowledge of financial markets. Bankers now expect the government to row back on that deadline, as sticking to it could cause wider disruption, including to Polish sovereign debt issuance. As a result, they are hoping it will have less impact than the mortgage holidays.
So far, there is not much fear of a banking crisis resulting purely from the mortgage holidays. One bank – Bank Millennium, the seventh-largest lender – has indicated the mortgage holidays will result in losses that will push its capital ratio below the central bank’s minimum requirement.
Millennium, which is owned by Portugal’s Millennium bcp, says it can get back above the minimum by improving operational profitability and optimizing capital by reducing risk-weighted assets, including through securitization, and without having to conduct a rights issue.
For the sector as a whole, higher rates mean net income will still be higher in 2022 than in 2021, despite the holidays, according to Fitch Ratings. Polish banks for the most part emerged from the pandemic with exceptionally strong capital ratios, despite years of poor profitability. They have little or no direct exposure to Russia, putting them on a much better footing than many of their big eurozone peers, although Poland’s biggest bank, PKO Bank Polski, owns Kredobank, a medium-sized Ukrainian lender based in Lviv.
We had mass mortgage holidays during the pandemic, but they were not in a manner that damaged the net present value of the loans
Brunon Bartkiewicz, ING Slaski
“The mortgage holiday programme is not a threat to the stability of the banking sector,” Łukasz Czernicki, chief economist at the Polish finance ministry, tells Euromoney. “We are clearly aware that the Polish economy cannot function without a modern, profitable banking system.”
According to the central bank, the mortgage holidays could cost the banks up to Zl20 billion ($4.4 billion) although that is based on a take-up rate of 100%. The average industry expectation is for about two-thirds of borrowers to apply for the holidays. As a result, after tax, the impact will be closer to Z10 billion, according to Citi, although if interest rates stay the same, losses will be recouped in later years as the capital is added to the end of the mortgage.
Coupled with the smaller impacts of the government’s other measures – Zl1.1 billion from the Borrower Support Fund and Zl1.8 billion to a new Institutional Protection Scheme – Morawiecki’s package will cost Poland’s banking sector about 60% of its underlying profit in 2022, according to Citi’s analysis of the country’s top eight banks. Most of those losses will be booked in the third quarter.
Had it not been for the holidays, banks would have earned a return on equity of about 15% in 2022, estimates Łukasz Jańczak, equity analyst at Erste Securities Polska. Now the figure could be more like 7.5%.
This is putting the banks back to the kind of return on equity they were earning before rates started rising, which was already well below a 10% cost of equity. So far asset quality has remained strong, partly because wages in Poland have risen strongly. Yet the proximity to the war in Ukraine, high inflation and the government’s combative attitude towards Brussels all mean that Polish private-sector banks’ cost of equity has risen to about 13%, according to Citi.
This is clearly a big issue for bank investors, who have been thirsting for higher returns after eight years of exceptionally low rates that culminated in a central bank cut to just 0.1% in 2020.
Wider costs
But beyond bank investors and in terms of the direct cost on the wider economy and society, it is easy to see why Poland’s political leaders might have thought this would be a relatively easy win. The measure offers no benefit to people without a mortgage and is not universally popular among Poles, particularly given the lack of means testing. But for people who do have a mortgage, rate rises over the past year mean instalments have more than doubled, according to Citi.
Banks say the mortgage holidays disincentivize lending. The Polish Bank Association says they are an unheard of burden on the sector that will put some banks in very bad shape, making it impossible for them to lend to the economy.
Elzbieta Czetwertynska, chief country officer at Citi, which is seeking to sell the retail part of its medium-sized Polish lender, Handlowy, voices that argument most convincingly.
“When you support clients, you need to be able to predict your financials so that you can lend more confidently,” she says. “When you have question marks and unknowns, it’s harder to do that; you need to be more cautious and conservative.”
New mortgage lending, in contrast to consumer borrowing, has indeed nosedived in Poland. According to central bank data for the second quarter of 2022, demand for housing loans is down 87% year on year. However, there are bigger reasons than the mortgage holidays to explain these lower volumes. Demand for long-term corporate loans is also down 74%. And as well as banks’ own economic fears, the local financial supervisor, the Komisja Nadzoru Finansowego, has also asked them to tighten their risk models in mortgages because of the prospect of even higher rates.
“In the household segment, a less good economic outlook and higher funding costs due to rising interest rates is discouraging borrowing,” says Michał Dybuła, economist at BNP Paribas Bank Polska, who nevertheless thinks the mortgage holidays are a risk for the economy.
According to the Polish Bank Association, depositors will eventually pay for the mortgage holidays. And banks are also experiencing political pressure from Kaczyński and others to increase deposit rates – in addition to new plans to widen the supply of government bonds to retail investors, which could further reduce margins in the Polish savings market.
Easy targets
Could the banks have done more to avoid being such easy targets? Not really, bankers say. They flag how their own repayment moratoriums during Covid came before the government-imposed version. This year, they say they have worked hard to make it easier for Ukrainian refugees to use the Polish banking system and cooperated proactively in the preparation of the Institutional Protection Scheme.
The mortgage holidays, therefore, seem unfair to them. Even with interest not due on the outstanding, if the holidays had been more targeted, the benefit in terms of asset quality might have outweighed the lost revenue, as the central bank noted in a recent report.
“The attention of the media is all around the increase of costs and the increase of costs of servicing the loans, but very often we forget that at the same time salaries are increasing,” says ING’s Bartkiewicz.
“It’s painful, but if you look at the real budgets of families, the impact of inflation on mortgage customers is not that high. That’s why we are of the opinion we should be protecting people whose remuneration is not compensating the cost increases: people who are lower paid, pensioners, public-sector employers.”
There’s a contradiction to what the central bank is doing to some extent, but we can’t leave people without support
Łukasz Czernicki, Polish finance ministry
With the mortgage holidays in their current form, banks expect most borrowers to apply, saving the interest on the entirety of the loan while still maintaining their monthly payments. After eight months, an outstanding loan will be 6% less than it would have been without the moratoriums, according to Citi.
“Someone could have five, six or seven apartments, but if the loan is linked to the apartment where the person lives, that person can also benefit from the moratoria,” says Bartkiewicz in exasperation.
Perhaps the least disputable criticism of the macroeconomic wisdom of the policy is that it goes against the central bank’s aim of limiting money supply, running contrary the government’s claim that the mortgage holidays are designed to defeat inflation.
“There’s a contradiction to what the central bank is doing to some extent, but we can’t leave people without support,” admits the finance ministry’s Czernicki. “It was also a question of keeping regulation as simple as possible. There was a necessity to act quickly and we didn’t want to make it too complicated.”
For now, Polish banks’ valuations are holding up relatively well compared to their eurozone peers. Analysts calculate price-to-book values based on expected profits in subsequent financial years and in Poland they can only assume the holidays will expire as planned at the end of 2023. Bank returns after that point should come much closer to their cost of equity.
Yet banks and their investors worry about where all this ends and what will be the next policy-related hit to their profits. What happens if rates are just as high or higher in late 2023, when the scheme is about to expire, just before Polish parliamentary elections?
Perhaps this risk partly explains why PKO BP trades at 0.9 times book, even though it is expected to earn a return on equity of 10% in 2023 and 13% in 2024.
Polish banks’ discounts to book value might well be more to do with wider worries about the Polish government and fears of military escalation in Ukraine, rather than mortgage holidays. Compared to the war and to Poland’s unravelling relationship with the EU, these mortgage holidays – and with luck the Wibor reform – could seem a relatively minor matter for the economy.
In fact, Poland has done well from a macro standpoint over the past decade. While the war in Ukraine might now tip it into a recession, economic growth has mostly been in mid-single digits. Although preliminary data for the second quarter of 2022, released in August, showed the economy contracting 2.3% from the previous quarter, year-on-year growth stayed positive, at just over 5%.
Punitive policies
But despite the country’s economic performance, Polish banks have not posted good returns, mainly because of adverse legal rulings on legacy foreign currency mortgage portfolios. After coming to power in 2016, the PiS also imposed one of the highest bank taxes in Europe, dependent on balance sheet size rather than profitability and directed for general government purposes rather than a resolution fund as in the eurozone.
Now, thanks to the mortgage support package and despite a favourable interest-rate environment, Polish banks will still only earn a return on equity of about 5% in 2022, according to Fitch.
This sort of attack on the sector is not unique to Poland in 2022. As rates started rising earlier outside the eurozone, other countries in central Europe have reacted to increased borrower pressure and rising bank profits with administrative help for borrowers and new taxes. Spain, the only other big European state where variable-rate mortgages are the norm, has also announced a new windfall tax.
But Poland’s policies are now exceptionally punitive on banks’ profits, even compared to a country like Hungary, says Fitch analyst Artur Szeski. “As they are open to almost any borrower and therefore likely to impose significant cost on banks, the mortgage holidays are another sign that the level of intervention in the banking sector is increasing in Poland,” he says, explaining why Fitch put its viability ratings of five Polish banks on ratings watch negative in August.
Erste’s Jańczak adds that the holidays are effectively a windfall tax, accruing to the mortgage borrowers rather than to the treasury but amounting to the same thing for banks. “It sends a message to investors that there’s a level of profit in the banking sector that’s not acceptable from a political and social perspective,” he says.
Quite how much the PiS leadership cares whether international investors can expect high returns from Polish banks is another question. Citi – and probably Commerzbank – would like to sell their Polish retail banks if they could get a decent price for them. But since 2016, the Polish government has overseen the sale of formerly private and foreign-owned banks, including the second-biggest bank, Pekao, to Polish state-owned entities.
Poland’s spin on benchmark reform adds to bankers’ woes
For most people around the world, an interbank offered rate is an arcane concept that they might never come across unless they work in finance. But in Poland the issue of benchmark reform has become distinctly political in a way that is causing anxiety in the financial markets. That’s because, unlike most of the rest of Europe, most mortgages in Poland are not fixed but floating rate based on the Warsaw interbank offered rate (Wibor).
While Poland’s attempt to transition away from an interbank rate is in line with other countries around the world, there is a different starting point in Polish prime minister Mateusz Morawiecki’s recent demand to accelerate the transition. Accelerating Wibor reform was part of a policy package announced by the prime minister in late April to support consumers in the face of rising inflation and interest rates.
The push for reform is not just to make the reference rate more transparent to avoid manipulation scandals, as has been the pattern elsewhere in the world. Rather, it was explicitly intended to reduce the cost of people’s mortgages. Indeed, Morawiecki said that accelerating the reform could save borrowers Zl1 billion ($211 million) every year.
Unlike other parts of the package – most notably, mortgage holidays – the Wibor reform is not yet finalized. There is some optimism in Warsaw’s financial community that a deadline to switch from Wibor will be extended beyond the end of 2022, which was the date the prime minister initially set when announcing the package in April.
The transition will be a logistical challenge. Bankers say that trying to do it by the end of December could jeopardize a local currency equivalent of trillions of dollars of financial instruments, mostly derivatives, disrupting hedging transactions and even depriving the Polish government of its ability to place debt in the market.
But they seem hopeful that the government will work more closely with other stakeholders and follow the example of other countries, where similar transitions have typically been done over several years.
Meanwhile, some bankers and other market participants appear confident that the acceleration of the reform will not make any difference to interest margins, which they say is the more contractually sound approach.
This latter assumption, however, could be complacent. Błażej Wajszczuk, head of treasury at BNP Paribas Bank Polska, worries that in the case of mortgages the reform may not include an adjustment mechanism to compensate lenders’ margins for any difference between the old reference rate and the new one.
“The motivation of reforming the reference rate in order to lower rates for mortgages – which is not the biggest part of the market – is completely apart from the general idea of benchmark reform,” he says.
Euromoney approaches the finance ministry, whose chief economist Łukasz Czernicki confirms that the government wanted to accelerate Wibor reform because of what it saw as the necessity to support borrowers facing higher rates. As such, even if the reform is delayed, he says it could be a sort of prolongation of the mortgage holidays and a new support mechanism for borrowers once those holidays expire in late 2023.
“The main point is to get lower rates from the perspective of the consumer,” says Czernicki. “It will ultimately translate into lower instalment payments for the public.”
