The price shock triggered by the constant rise in raw materials will further increase inflation, forcing central banks, including the ECB, to raise interest rates which will consequently cause an economic slowdown. In the baseline scenario, the most likely, according to Moody’s, the GDP of the G-20, the 20 largest economies in the world, will drop to 3.6% in 2022 from the rating agency’s February forecast of 4.3%. Growth will slow further to 3.0% in 2023.
A possible worsening scenario assumes an abrupt halt in Russia’s oil and gas exports to Europe as a reaction from the Kremlin to the latest sanctions package from Western countries, a liquidity squeeze and a widespread economic recession. In that case, Moody’s warns, the banking and insurance system will suffer. Today the dollar drops 0.8% to 79.33 against the ruble, confirming the Russian currency at pre-war values, while WTI oil is trading at 96 dollars a barrel and European gas at 105.5 euros per megawatt hour, both in slight flexion.
Sector sensitivity depends on four risk transmission channels. This is the commodity price shock driven by the rise in oil prices; the interruption of production activities mainly caused by prolonged blockages of supply chains; the tightening of liquidity and market volatility; safety and operational risks.
Clearly the banks closest to the epicenter of the conflict are the most exposed. Institutions in the Baltic countries and those belonging to the Commonwealth of Independent States (CSI) are the closest to war or closely linked to the Russian economy. And therefore they are more exposed to the repercussions of military conflict and have limited liquidity buffers to absorb the impact if it is prolonged. European, African and Turkish banks, airlines, insurance groups are subject to higher risk in the downside scenario, warns Moody’s.
The rating agency explains that the watershed and the recession in Europe. If it returned, it would be a serious matter, going to “weaken the quality of loans and the profitability of banks” by increasing the insurance costs of protection. The more Russia closes with oil and gas or, on the other hand, Europe decides to cut energy bridges with Moscow, the greater the probability of raising the value of crude oil and sending not only Europe, but the global economy into recession. , underlines the American rating agency.
Analysts now expect the ECB to start raising the deposit rate by the end of the year (now and at -0.5%), rather than early 2023. The UK central bank is likely to continue as well. to tighten its monetary policy “. The increase in interest rates in the Old Continent will offer protection on the profitability front of banks by improving their yields on loans. However, “institutions in France, Germany and Italy will benefit less than European ones as they have a lower than average share of the interest margin on revenues,” Moody’s points out.
In the bearish scenario, the interruption of energy trade flows with Russia or a strong liquidity squeeze would push Europe into recession “putting bank lending under pressure. Germany, Austria, Italy, Greece, Hungary and Slovakia are heavily dependent on from Russian energy and Russia’s retaliatory measures affecting supplies. ”
Rising inflation will reduce household disposable income and the affordability of corporate debt, which will increase loan defaults.
Inflation also undermines banks’ profitability through wage and cost inflation. Banks in Germany and Cyprus have a cost / income ratio of over 70% and “will find it more difficult to cope with additional cost pressures than their European competitors”. Reinsurance groups specializing in the aviation segment, meanwhile, are already facing claims of up to $ 11 billion from aircraft leasing companies, whose planes have been hijacked by Russian airlines.
The volatility of debt spreads and stock prices in a bearish scenario will erode returns on insurance portfolios, particularly long-term fixed income ones. Insurance groups in Asia are exposed to foreign exchange risk due to their large dollar investments. The positive side is that both European banks and insurance companies start from a high capitalization level. (All rights reserved)
