The financial stability of the euro area has deteriorated against a backdrop of elevated inflation, growing recession fears and tighter global financial conditions. This was noted in the latest report of the European Central Bank (ECB), dedicated to the financial stability among the countries, part of the European single currency system. 

High inflation rate has led to changes in the monetary policies, applied from the central banks, as a result credit conditions have tightened and increased financial market volatility. The mix of high inflation outturns and rising interest rates has continued to weigh on economic growth in many advanced economies, so one-year ahead recession probabilities have increased markedly, in both the euro area and other major advanced economies.

Bank’s asset quality concerns rise amid this background. High inflation is weighing on the disposable income and debt servicing capacity of lower-income households. Rising interest rates also have influence, pointed out the report. The problem does not appear to be systemic, as low-income households hold just 13% of bank debt in the euro area, Reuters notes. For comparison, those with high incomes, who don’t face problems, have a 70% share of bank lending.

In the household segment, the quality of consumer credit showed first signs of weakness and is vulnerable to increases in the cost of living, says ECB. 

Banks’ non-performing loan (NPL) ratios continued their downward trend in the first half of 2022, driven by securitisations and asset disposals. A further decrease in the NPL stock and continued credit growth both contributed to the decline of the total NPL ratio. As a result their ratio fell to the lowest levels since supervisory data were first published in 2015. 

ECB noted an increase in the share of Stage 2 loans, to a level just above the peak reached during the pandemic.This type of loans are classified as risky, with a probability of being overdue in the future. Both corporate and household loans in risk rose slightly for the third quarter in a row, in line with a deteriorating macroeconomic outlook. Despite this, there was no notable increase in provisioning coverage ratios in the first half of 2022.