BANK OF ALBANIA STATEMENT
Financial Stability Statement for H2 2010

Pursuant to provisions stipulated under Article 69 of the Law No. 8269, dated 23 December 1997 "On the Bank of Albania", as amended, and Article 8 of the Law No. 9962, dated 18 December 2006 "On Banks in the Republic of Albania", to inform the Parliament of the Republic of Albania and the Council of Ministers, and to draw the attention of financial institutions and the public at large on the situation of the Albanian financial system and the potential risks that may jeopardize its stability, the Bank of Albania releases the following periodical statement, which is an integral part of the Financial Stability Report for the same stated period.

As at end H2 2010, Albania’s financial system and banking sector are assessed as being stable. The banking sector’s activity has expanded further and its share to the Albanian economy has increased. Profit indicators have improved relative to the previous period. Capitalization and operating liquidity position is good. The need to improve the loan quality remains the main challenge facing the banking sector. Stress-test exercise results show banks’ resilience to adverse assumed economic and financial shocks. 

The financial system and banking sector’s stability is assessed on the basis of risks arising from its interaction with the surrounding economic environment, as well as from the financial system’s activity.

The risks arising from internal economic developments have by and large been declining. Their performance has mainly been determined by the contained budget and trade deficit, the more stable exchange rate and the declining interest rates. Inflationary pressures were moderate and economic agents’ expectations set the inflation rate around the Bank of Albania’s target. Liquidity in the interbank market was sufficient to meet banks’ short-term demand. The financial market has operated smoothly, although the transaction volume was generally lower. Based on the performance of investment, income and employment, businesses and households’ financial situation appears stable. 

Global economy grew at stable rates in H2 2010, 4.7% in annual terms. Advanced economies grew by 2.9% versus the 7.2% growth posted by emerging and developing economies. The lower growth in advanced economies owes mainly to the fiscal consolidation and the withdrawal of stimulating policies by the public authorities. Private demand in these countries improved but the tight lending terms, the low consumer confidence indices and the unsatisfactory labour market conditions continued to affect the modest economic growth performance. Nonetheless, inflationary pressures were subdued, unlike emerging and developing economies in which economic growth was coupled with higher price pressures. 

Albania’s financial system expanded its activity in H2 2010, thus increasing its share in the GDP to 85.7%. Banking sector’s assets amounted to ALL 990.6 billion, accounting for 94.5% of total financial system assets. Excluding accrued interests, loans rose to ALL 486.5 billion, up by ALL 21.1 billion or 4.5% versus end-June. The annual growth rate of loans is estimated at 9.1%, out of which about 7.1 pp represents the growth rate of business loans. Banking sector deposits rose to ALL 805 billion, up by 9.3% versus end-June and 17.7% versus the previous year. The positive performance of the banking sector owes also to the smooth operation of payment systems infrastructure. Liquid assets accounted for 26% of total banking sector assets. At the sectoral level, banking activity is well-capitalized, although Capital Adequacy Ratio has slightly dropped to 15.4%. The banking sector’s profit was positive at ALL 6.7 billion, almost twice higher than profit in 2009. Annualized return on assets is estimated at 0.72% versus 0.42% the same period the previous year. Annualized return on equity is estimated at 7.6% versus 4.6% the same period the previous year. The higher profit attributes to the increase in net interest income and better operating cost control. Nevertheless, the positive profit requires better allocation and it has to be higher in order to sustain the banking sector’s activity better. 

Concerning the assessment of risks facing the banking sector, the Bank of Albania conducts periodic stress tests in order to assess the resilience of the banking sector to possible adverse economic developments in several macroeconomic and financial indicators, on an individual or combined basis.

With regard to market risks, the stress-test results show some moderate impact of direct exchange rate risk due to the low open foreign exchange position of the banking sector. Concerning the interest rate risk, the spread between assets and liabilities sensitive to the interest rate shows low risk for maturity terms up to three months. The risk appears higher for longer maturity terms. However, the stress-test exercise shows that the impact of this risk on the banking sector’s CAR is moderate. The last rise in food, energy and primary commodity prices may give rise to higher interest rate in a number of countries due to the stable and upward impact on inflationary pressures. In the case of the Albanian banking sector, for the outstanding loan portfolio at variable interest rates, the possible increase in the interest rate on loans, albeit gradually, would couple with greater burden on borrowers, thus in turn affecting their solvency. Banks should therefore consider the probability of this occurrence in their risk scenarios and be willing to create reserves duly.

With respect to liquidity risk, the ratio between liquid assets to liabilities of up to 1-year maturity shows a very good liquidity situation for operations in the Albanian lek. In the meantime, operations in EUR call for constant monitoring. In addition, the banking sector’s liquid assets provide sufficient coverage for the value resulting from the maturity gap between assets and liabilities. Borrowing in the interbank market or from the Bank of Albania is another form of managing the short-term needs for liquidity. This is generally a collaterized borrowing, and the type and adequacy of assets that may serve as collateral is another element that calls for monitoring in order to assess banks’ capacity to meet their short-term needs for liquidity. 

Direct and indirect credit risk remains the main risk facing the Albanian banking sector. As at year-end 2010, non-performing loans accounted for 14.0% of total loan portfolio. Loan quality deteriorated for both businesses and households. The banking sector’s capacity to cover the non-performing loans, net, with capital is weaker. In response to these developments, it has increased the reserve fund and has improved the collateral coverage indicators of non-performing loans. Worth noting is that banks were more active in lending in Q4. In addition, loans for investment purposes have revitalized and the growth rate of non-performing loans was the lowest in the last two years. Although these developments need to be confirmed in the periods ahead, they are considered preliminary signs signalling the possible stabilization of non-performing loans. 

In conclusion, stress-test exercises in the form of sensitivity and scenario analyses show that the banking sector is by and large resilient to various shocks in respect to capital adequacy and quality. However, the sensitivity of individual banks to these shocks has increased. Individual banks should therefore assess their resilience to similar scenarios, and take advance measures to strengthen their capital and ensure better control of their operational risks.  

In view of the challenges facing the banking activity and pursuant to the legal objective to ensure a sound banking sector activity, the Bank of Albania will take all necessary operational actions and it will assess the need for further amendments and improvements in the regulatory and supervisory framework.

Pursuant to provisions stipulated under Article 69 of the Law No. 8269, dated 23 December 1997 "On the Bank of Albania", as amended, and Article 8 of the Law No. 9962, dated 18 December 2006 "On Banks in the Republic of Albania", to inform the Parliament of the Republic of Albania and the Council of Ministers, and to draw the attention of financial institutions and the public at large on the situation of the Albanian financial system and the potential risks that may jeopardize its stability, the Bank of Albania releases the following periodical statement, which is an integral part of the Financial Stability Report for the same stated period.

As at end H2 2010, Albania’s financial system and banking sector are assessed as being stable. The banking sector’s activity has expanded further and its share to the Albanian economy has increased. Profit indicators have improved relative to the previous period. Capitalization and operating liquidity position is good. The need to improve the loan quality remains the main challenge facing the banking sector. Stress-test exercise results show banks’ resilience to adverse assumed economic and financial shocks. 

The financial system and banking sector’s stability is assessed on the basis of risks arising from its interaction with the surrounding economic environment, as well as from the financial system’s activity.

The risks arising from internal economic developments have by and large been declining. Their performance has mainly been determined by the contained budget and trade deficit, the more stable exchange rate and the declining interest rates. Inflationary pressures were moderate and economic agents’ expectations set the inflation rate around the Bank of Albania’s target. Liquidity in the interbank market was sufficient to meet banks’ short-term demand. The financial market has operated smoothly, although the transaction volume was generally lower. Based on the performance of investment, income and employment, businesses and households’ financial situation appears stable. 

Global economy grew at stable rates in H2 2010, 4.7% in annual terms. Advanced economies grew by 2.9% versus the 7.2% growth posted by emerging and developing economies. The lower growth in advanced economies owes mainly to the fiscal consolidation and the withdrawal of stimulating policies by the public authorities. Private demand in these countries improved but the tight lending terms, the low consumer confidence indices and the unsatisfactory labour market conditions continued to affect the modest economic growth performance. Nonetheless, inflationary pressures were subdued, unlike emerging and developing economies in which economic growth was coupled with higher price pressures. 

Albania’s financial system expanded its activity in H2 2010, thus increasing its share in the GDP to 85.7%. Banking sector’s assets amounted to ALL 990.6 billion, accounting for 94.5% of total financial system assets. Excluding accrued interests, loans rose to ALL 486.5 billion, up by ALL 21.1 billion or 4.5% versus end-June. The annual growth rate of loans is estimated at 9.1%, out of which about 7.1 pp represents the growth rate of business loans. Banking sector deposits rose to ALL 805 billion, up by 9.3% versus end-June and 17.7% versus the previous year. The positive performance of the banking sector owes also to the smooth operation of payment systems infrastructure. Liquid assets accounted for 26% of total banking sector assets. At the sectoral level, banking activity is well-capitalized, although Capital Adequacy Ratio has slightly dropped to 15.4%. The banking sector’s profit was positive at ALL 6.7 billion, almost twice higher than profit in 2009. Annualized return on assets is estimated at 0.72% versus 0.42% the same period the previous year. Annualized return on equity is estimated at 7.6% versus 4.6% the same period the previous year. The higher profit attributes to the increase in net interest income and better operating cost control. Nevertheless, the positive profit requires better allocation and it has to be higher in order to sustain the banking sector’s activity better. 

Concerning the assessment of risks facing the banking sector, the Bank of Albania conducts periodic stress tests in order to assess the resilience of the banking sector to possible adverse economic developments in several macroeconomic and financial indicators, on an individual or combined basis.

With regard to market risks, the stress-test results show some moderate impact of direct exchange rate risk due to the low open foreign exchange position of the banking sector. Concerning the interest rate risk, the spread between assets and liabilities sensitive to the interest rate shows low risk for maturity terms up to three months. The risk appears higher for longer maturity terms. However, the stress-test exercise shows that the impact of this risk on the banking sector’s CAR is moderate. The last rise in food, energy and primary commodity prices may give rise to higher interest rate in a number of countries due to the stable and upward impact on inflationary pressures. In the case of the Albanian banking sector, for the outstanding loan portfolio at variable interest rates, the possible increase in the interest rate on loans, albeit gradually, would couple with greater burden on borrowers, thus in turn affecting their solvency. Banks should therefore consider the probability of this occurrence in their risk scenarios and be willing to create reserves duly.

With respect to liquidity risk, the ratio between liquid assets to liabilities of up to 1-year maturity shows a very good liquidity situation for operations in the Albanian lek. In the meantime, operations in EUR call for constant monitoring. In addition, the banking sector’s liquid assets provide sufficient coverage for the value resulting from the maturity gap between assets and liabilities. Borrowing in the interbank market or from the Bank of Albania is another form of managing the short-term needs for liquidity. This is generally a collaterized borrowing, and the type and adequacy of assets that may serve as collateral is another element that calls for monitoring in order to assess banks’ capacity to meet their short-term needs for liquidity. 

Direct and indirect credit risk remains the main risk facing the Albanian banking sector. As at year-end 2010, non-performing loans accounted for 14.0% of total loan portfolio. Loan quality deteriorated for both businesses and households. The banking sector’s capacity to cover the non-performing loans, net, with capital is weaker. In response to these developments, it has increased the reserve fund and has improved the collateral coverage indicators of non-performing loans. Worth noting is that banks were more active in lending in Q4. In addition, loans for investment purposes have revitalized and the growth rate of non-performing loans was the lowest in the last two years. Although these developments need to be confirmed in the periods ahead, they are considered preliminary signs signalling the possible stabilization of non-performing loans. 

In conclusion, stress-test exercises in the form of sensitivity and scenario analyses show that the banking sector is by and large resilient to various shocks in respect to capital adequacy and quality. However, the sensitivity of individual banks to these shocks has increased. Individual banks should therefore assess their resilience to similar scenarios, and take advance measures to strengthen their capital and ensure better control of their operational risks.  

In view of the challenges facing the banking activity and pursuant to the legal objective to ensure a sound banking sector activity, the Bank of Albania will take all necessary operational actions and it will assess the need for further amendments and improvements in the regulatory and supervisory framework.