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S'pore banks can take 50% property price dive

IMF team involved in stress tests flags risks from jump in credit, real estate prices

Resilient: 70% of home loans are taken out for owner-occupied homes, which carry a low risk of default. - PHOTO: JAMIE KOH/THE STRAITS TIMES

[SINGAPORE] Singapore banks are so well-buffered that they will be able to withstand even a 50 per cent plunge in property prices here if this were to occur over the next two years, say stress tests done by the International Monetary Fund (IMF) and the Monetary Authority of Singapore (MAS).

The tests were performed as part of the IMF's Financial Sector Assessment Programme (FSAP), which the Fund undertakes every five years with the world's major financial centres, of which Singapore is one.

An IMF team made two visits here this year - from May 15 to 22 and from July 25 to Aug 7 - during which they met the authorities, representatives of financial institutions and professional bodies.

Among other things, the team that came here found Singapore's financial system highly developed, well regulated and supervised, and that the financial- soundness indicators for the big three domestic banks remained strong during the global and European crises.

But the team also identified several risks. The Financial System Stability Assessment (FSSA) report it prepared said: "The most pressing vulnerability appears to stem from the rapid growth of credit and real estate prices in recent years.

"The financial system is also exposed to possible spillovers from a future tightening of US monetary policy, an economic slowdown in China or a deterioration of economic conditions in Europe."

Referring to the risks posed by the property sector to financial stability in particular, the team noted that property prices here were already above their 2008 peak. "About 40 per cent of the three largest banks' loans are related to real estate, including 25 per cent in mortgage loans (predominantly based on floating rates), and 15 per cent in construction loans."

Copious notes on Singapore's property sector were also taken by another IMF team - one that came under the auspices of Article IV of the Fund's Articles of Agreement, which held discussions with officials here between June 26 and July 8.

It noted: "Bank loans expanded briskly, reaching more than 170 per cent of GDP (Gross Domestic Product) in mid-2013. Real estate-related loans grew especially fast, and housing and construction account for 46 per cent of bank loans, while household indebtedness is more than double household income."

It added that home prices have risen 55 per cent since 2009 as a result of "very low interest rates, ample global liquidity, provisions in the pension scheme that encourage home purchases and the rise in the number of permanent residents ... Nearly half of household wealth is held in the form of real estate".

The IMF team warned that "the rapid growth of credit and real estate prices in recent years could exacerbate aggregate sensitivity to macroeconomic shocks and interest-rate cycles".

Still, despite these risks, the FSSA noted from stress tests that Singapore banks are "resilient to adverse macroeconomic scenarios", and that their high capitalisation could offset potential losses, including from large exposures to real estate.

The stress tests conducted - both bottom-up by the banks and top-down by the IMF and MAS - had scenarios such as large declines in domestic and regional economic activity, falling asset prices, rising interest rates, and rapidly rising unemployment.

It was found that, even in a "worst-case" scenario for the property sector - one entailing a 50 per cent plunge in real-estate prices over two years, along with other economic and external-growth assumptions - banks here would have enough buffers to keep them resilient.

This was attributed partly to the fact that 70 per cent of home loans are taken out for owner-occupied homes, for which the risk of default is low.

The FSSA report said: "Both the bottom-up and top-down stress tests conducted by the MAS suggest that capitalisation ratios would remain above the domestic minimum regulatory capital ratio of 10 per cent.

"Credit losses, distributed between corporate loans and residential mortgages, would erode the capital base, while increased probabilities of default (PDs) would be reflected in an increase of risk-weighted assets, magnified by the initial low PD levels. All these factors would drive capitalisation ratios down by almost one third.

"IMF TD (top-down) solvency stress tests broadly confirm the results obtained by MAS, with balance sheet stress tests highlighting the resilience of domestic banks, even if residential loan defaults were to reach the levels observed in the US in the aftermath of the 2007-09 subprime crisis."

The IMF's Article IV report, which took note of the findings from the FSSA, said Singapore's macroprudential policies should continue to be "deployed as needed to contain asset prices and promote prudent lending".

The banks' large capital and liquidity cushions, together with appropriate macroprudential actions, would thus mitigate risks, it added.

The IMF also recommends "a countercyclical capital buffer, stepped-up on-site inspections of banks' credit risk and strengthened foreign currency liquidity practices by banks".