Not every shine is gold. Rising interest rates do not always benefit banks. While they push the cost of money higher, moving away from the negative territory seen last year, they can still squeeze margins. After years of relying on asset management and commissions for income, this rate hike, set against industry uncertainty and the SVB situation in the US and Credit Suisse troubles in Europe, may not be ideal for the sector.
What happens with bank financing?
Until recently, credit flowed fairly easily, especially before the European Central Bank began raising rates last July to curb inflation. The move aimed at cooling consumption and tempering price growth. The ECB’s rate hike does not simply help banks; it affects them in several ways. Higher lending fees and limited gains on deposits mean wholesale financing becomes more expensive. Banks must pay more to the ECB to obtain funds, after a period of free liquidity during the pandemic. Naturally, these costs tend to be passed on to customers as tighter access to credit and pricier new loans. In short, this setup hurts borrowers and those with variable-rate loans the most.
What could happen to the loan?
Until now, default rates among individuals and companies in banking have remained relatively controlled, as financial institutions have emphasized prudent risk management. If money costs keep rising, however, default rates could increase, a scenario highlighted by EY in a recent report on loan market prospects. The implication would be a slower pace of lending to households and companies, with stronger prudence and higher provisions taking hold. That dynamic would restrain economic growth and help cool inflation in time.
The one-year Euribor, a key benchmark for variable-rate mortgages, has tracked this shift. It moved away from negative territory last year and began to trend upward, reshaping mortgage portfolios. Variable-rate borrowers may face renewed pressure as the ECB considers further tightening to stabilize financial conditions after the recent banking turmoil in the United States. If the trend continues, Euribor could stay above 4%, complicating the situation for those with adjustable loans.
What about public debt?
A major concern for investors is how rising rates affect public debt. When money costs rise, bond prices fall, affecting banks holding large portfolios of government bonds bought at higher prices. This dynamic contributed to the Silicon Valley Bank episode in the United States, where a large, concentrated portfolio of public debt had to be sold to stem a deposit run. In Spain, banks typically maintain a more diversified mix with clients across households and businesses, spreading risk across a broader spectrum of activities such as credit, insurance, investment management, and private banking for high-net-worth clients, as well as corporate banking. Public debt holdings on average represent about 13% of balance sheets, compared with 50.6% for SVB. Moreover, most Spanish debt is held to maturity, with a large portion of investments already shielded from sudden market swings. Market value exposure tends to be shorter in duration than SVB’s, enabling more automatic and controlled risk management. Deposit guarantees remain in place up to a national limit per person, and authorities are adjusting coverage to bolster confidence. European regulators also enforce stricter liquidity requirements for eurozone banks. In the United States, mid-sized and regional institutions face additional regulatory considerations from policy changes being reconsidered at the federal level. [Source: EY and regional financial oversight bodies]n