Analytics, Banks, Direct Speech, EU – Baltic States, Financial Services

Operating Environment. A rebound in exports to other European countries, combined with accommodative monetary conditions, will support corporate investment, job creation and household consumption, causing real GDP to expand in all three Baltic countries over the next two years. We forecast GDP growth of 2.5% and 2.9% in 2017 and 2018 respectively in Estonia (A1 stable), 3.1% and 3.9% in Latvia (A3 stable), and 3.3% and 3.5% in Lithuania (A3 stable). We expect lending to grow between 5% and 10% annually. Downside risks remain from continued tensions with Russia. 

Asset quality and capital. We expect asset quality to improve in Latvia and Lithuania as higher employment levels and higher real wages will continue to support recoveries in legacy loans. Asset risk will remain stable in Estonia, with problem loan ratios already on par with the low levels found in the Nordic countries. Additionally, local banks will maintain or improve their already solid capital metrics despite the relatively strong growth of their balance sheets, as increases in minimum regulatory requirements and solid internal capital generation will support capital retention. In contrast, we expect the subsidiaries and branches of Nordic banks operating in the Baltics to upstream capital to their parents, while nevertheless remaining well capitalized. 

Funding and liquidity. Baltic banks will continue to strengthen their funding and liquidity profiles through a substantial reduction in volatile non-resident deposits, which will be offset by strong growth in domestic deposits. The decline in non-resident deposits will also lead to a reduction in the equally volatile short-term liquid assets they tended to acquire with those foreign deposits. Meanwhile, we expect Nordic banking operations in the Baltics to slightly reduce their reliance on parental funding. Profitability and efficiency. Overall, the favourable macroeconomic environment will lead to stable profitability in the system, with potential opportunities for domestic banks to increase both market shares and profits as the merger between the subsidiariesof dominant foreign banks in the system will consume resources and management time at these banks. Furthermore, domestic banks’ profitability will benefit more than their Nordic peers from improvements in household finances thanks to their higher penetration of the consumer and SME segments.

Government support. Baltic banks are subject to the EU's Bank Recovery and Resolution Directive (BRRD), a resolution regime under which losses are primarily borne by equity and debt holders. The institutions we rate do not benefit from government support uplift.4