## EXECUTIVE SUMMARY (1sweea2023011)

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### Institutional Setup and Coordination
- FI has an established macroprudential mandate and has:
  - increased risk weights on commercial real estate (CRE),
  - tightened amortization requirements for residential real estate,
  - increased several capital buffers,
  - changed CCyB policy to set a positive neutral rate of 2 percent.
- Pandemic-era relaxations have been re-established as the economy recovers.
- Market-based finance challenges:
  - Tools not well developed for borrower-based measures beyond lending to households.
  - Many market-based finance participants are outside national regulatory perimeters.
  - Interlinkages and spillovers can cause one authority’s objectives to be affected by another’s policies.
- Financial Stability Council (FSC):
  - Platform to discuss interlinkages and spillovers; not a decision-making body with system‑wide responsibility.
  - FSC prep group meets usually monthly; FSC usually meets every six months.
- Responsibilities:
  - Macroprudential policy concentrated in Finansinspektionen (FI); Riksbank has important monitoring role.
  - FSC helps counter inaction bias.
- Use of “soft power” and joint communication:
  - Authorities should make more use of joint communication when risks become more systemic (example: joint article by heads of three authorities to encourage corporate bond issuance to a proposed benchmark standard).
  - Communication can be the only available tool when risks are outside the regulatory perimeter and can complement other measures and reduce capture by short-term interests.

### Systemic Risk Monitoring and Modelling
- Data gaps persist across sectors:
  - Micro-level data collection has improved for households and CRE, but lack of household liquid asset data limits analysis.
  - A new household data collection is proposed; first vintage in 2022, but delivery of full improvements not expected for a few years.
- Modelling tail risk and interconnectedness:
  - Need to better model tail risk (e.g., GDP-at-Risk) and interconnectedness using large datasets.
  - FI commissioned in 2018 to develop such methods but has not yet fully built these models.
  - Riksbank modelling capacity decreased slightly with dissolution of ‘Applied modelling’ division.
  - Additional resources and technical expertise needed at FI and Riksbank.
- Data powers and gaps (selected exact points):
  - FI produces a financial stability report twice a year [for the government].
  - Riksbank sends a Financial Markets Survey twice per year and publishes it before the FSR.
  - Around 50 percent of loans have very short term, i.e., under three months.
  - The Government inquiry chair is to report on the inquiry’s remit by October 14, 2022.

### Household Indebtedness: Risks, Stress Tests, and Policy Options
- Key vulnerabilities:
  - High household indebtedness complicates policymaking and amplifies distributional effects of monetary policy.
  - Most households should still be able to pay mortgages after a substantial increase in interest rates, but many will likely cut consumption—raising potency of monetary policy and complicating the trade-off between inflation and output stabilization.
  - As a small open economy, Sweden faces pressure to raise policy rates to align with other advanced economies to avoid krona depreciation fueling inflation.
- Stress-test findings and sensitivity:
  - FI stress tests focus on defaults; these may understate macroeconomic channels from cuts in consumption.
  - FI’s analysis suggests that even with an increase in interest rates to 5 percent, fewer than 3 percent of borrowers would have a deficit.
  - Around half of borrowers have an LTI above 3; borrowers with LTI above 3 would see disposable income—or “surplus”—almost halved in the illustrative scenario; those with LTI above 4.5 would lose around two thirds of their disposable income.
  - Definition: “Surplus = Income after tax – interest payments – amortization payments – housing expenses – other living expenses.”
  - Loan-to-income ratio amounted to 201 per cent at the end of 2021, which is 13 percentage points higher than at end of 2019.
  - The market standard used in banks’ interest rate stress tests has declined from 7 percent to around 6.0 percent.
- Suggested measures:
  - FI should consider introducing an interest rate stress test for short-term variable rate mortgages based on interest and amortization payment as a proportion of income.
  - FI should consider gradually increasing the mortgage amortisation requirement to ensure household resilience.
  - Authorities should consider amortisation holidays as potential automatic stabilisers.
  - The government should commission an independent study into distortions from interest tax deductibility; Sweden’s marginal effective tax rate for owner occupied debt‑financed housing is around -30 percent (the third lowest in the OECD). Consider involving the competition authority.

### Household Unsecured Lending and Interactions with Mortgages
- Over 20 percent of mortgage borrowers had existing unsecured loans when taking out a mortgage.
- Unsecured loans are smaller but often have higher interest rates and faster repayment, making them a significant part of household payments.
- Mortgages may be up to 85 percent LTV; unsecured loans are used above 85 percent if income suffices.
- 2–5 percent take a new unsecured loan when they take out a mortgage.
- Recommendation: FI should use unsecured lending data to integrate household debt analysis.

### Commercial Real Estate (CRE): Vulnerabilities, Transmission, and Remedies
- Magnitude and funding structure:
  - CRE prices among the largest increases in the EU in recent years.
  - Between 2009 and 2021, net debt-to-net operating income grew from around 10 to 15.
  - CRE exposures represent on average 15 percent of the major Swedish banks’ lending to the general public.
  - Commercial real estate firms have just under SEK 190 billion in contingent credit lines with banks, enough to sustain funding for 2 years.
  - Swedish CRE bonds constitute 50 percent of the corporate bond market.
  - The share of market-based finance for CRE now consists of around half the sector’s funding overall.
- Shock transmission and amplification:
  - Around two thirds of CRE firms’ bank loans are at variable rates; FI estimates around 60 per cent of all property firms’ interest costs will be impacted by a change in the interest rate.
  - FI assumes CRE firms’ average maturity for bank loans is on average just over two years.
  - Concentration: only 12 ultimate owners identified among listed CRE firms in 2021.
  - Illiquid, non-standardized corporate bond market amplifies price shocks.
  - Redemption requests at investment funds can force fire sales and spill over to broader corporate bond markets.
- Stress-test evidence:
  - FI’s bank CRE stress test scenarios include: lower earnings from commercial premises by 25 percent, higher financing costs by 3 percentage points, and a combined stress. A 3-percentage point increase in funding costs is considered plausible given increases since early 2022.
  - Systemic Risk Assessment Technical Notes found high loss rates on CRE exposures, suggesting current capital could be insufficient.
- Policy recommendations:
  - Require CRE firms to improve disclosures, including contingency funding plans in bond issuance templates, annual reports, and prospectuses.
  - Encourage issuance of benchmark bonds and increased standardization to improve corporate bond market liquidity.
  - Authorities should consider increasing capital requirements for banks’ exposures to CRE given concentration, structural issues, and feedback loops.
  - FI should adjust solvency stress tests to examine impact if all contingent credit lines were drawn down in a short period.
  - Investment funds and asset managers should align redemption terms with portfolio liquidity; authorities should ensure access to an adequate set of liquidity management tools.
  - Crisis intervention planning should be prepared to restore market functioning while limiting moral hazard; interventions should be transparent, allow equity recapitalization (wiping out insolvent equity holders), ensure bond holders take losses, and target negative links to the real economy.

### Banking System Resilience, Capital Buffers, and CCyB
- Banks still provide majority funding to the real economy; low RWAs driven by large mortgage share.
- Capital framework adjustments:
  - The large three banks each have a systemic risk buffer of 3 percent.
  - FI has put in place an O-SII buffer of 1 percent for these systemically important institutions, including Nordea’s Swedish subsidiary.
  - Buffers are additive.
  - FI can request an opinion from the European Commission if total systemic risk buffer should exceed three per cent but not five per cent; establishing a buffer over five per cent requires European Commission authorization.
- Risk-weight floor impact:
  - The residential real estate risk weight floor’s impact on total capital requirements is about equivalent to a 6 percent CCyB or a 4   percent SRB taking it to 7 percent in total.
- Countercyclical Capital Buffer (CCyB):
  - During the pandemic FI cut the CCyB by 2.5 percentage points to 0 percent.
  - FI’s 2021 CCyB policy includes a positive neutral rate of 2 percent in standard times.
  - Timeline:
    - September 2021: set buffer rate at 1 percent (with standard 12‑month lag).
    - June 2022: raised buffer to 2 percent (with standard 12‑month lag).
  - Authorities should consider what capital buffers would be needed when risks become more elevated; unresolved questions on the level of releasable capital required for a shock similar to the global financial crisis.

### International Cooperation, Reciprocation, and Legal Perimeter
- Sweden’s system is open and connected; Nordea moved HQ to Finland in 2018 and is supervised by the SSM; Nordea accounts for about 30 percent of the lending market in Sweden.
- Reciprocation and legal instruments (selected verbatim entries):
  - CCyB — Articles 130, 135-140 CRD IV — Mandatory up to 2.5 percent
  - Risk Weights — Articles 124 or 164 CRR — Mandatory
  - "Flexibility package" — Article 458 CRR — Voluntary
  - Systemic Risk Buffer — Articles 133-134 CRD IV — Voluntary
- CCyB reciprocation issues:
  - FI has stated it would increase the CCyB beyond the mandatory reciprocation limit of 2.5 percent; reciprocation of rates above 2.5 is currently untested.
  - ESRB recommends member states generally recognise each other's buffer rates, including buffer rates exceeding 2.5 percent.
  - Given Nordea’s importance, reciprocation would be important should authorities set CCyB above 2.5 percent.

### Priority Recommendations (selected, with priorities)
- Institutional:
  - FSC, FI, and the Riksbank to make more use of “soft power” and joint communication (Agency: All — Priority: H/M).
  - FSC prep group and perhaps FSC to have horizon scanning meeting once or twice a year (Agency: All — Priority: H).
- Risk monitoring:
  - Improve household data collection initiative is high priority; FI and Riksbank to advance household analysis in the meantime (Agency: FI and RB — Priority: H).
  - FI and Riksbank to better model tail risk, spillovers, and interconnectedness and coordinate resources (Agency: FI and RB — Priority: M/L).
  - FI to emphasize that presentation of household risks reflects both financial stability and financial imbalances remit (Agency: FI — Priority: H).
- Systemic risk and tools:
  - FI to consider gradually increasing mortgage amortisation requirement (Agency: FI — Priority: H).
  - Introduce standards on interest rate stress-tests for mortgage applicants based on (interest and amortization)/income (Agency: FI — Priority: H).
  - Government to commission independent study on mortgage interest tax deductibility (Agency: MoF — Priority: M).
  - FI to consider further increasing capital requirements/buffers for banks’ CRE exposures (Agency: FI — Priority: H/M).
  - FI to adjust solvency stress tests to examine impact of drawing down all contingent credit lines quickly (Agency: FI — Priority: M/L).
  - Authorities to encourage issuance of benchmark bonds to improve corporate bond market liquidity (Agency: FI, FSC, RB — Priority: H).
  - Authorities to encourage CRE firms to disclose contingency funding plans in annual reports and bond prospectuses and consider expanding FI’s regulatory perimeter (Agency: All — Priority: H).
- Priority legend: H: within 1 to 2 years; M: within 2–3 years; L: within 3–5 years.

*Source: EXECUTIVE SUMMARY and selected chapters (1sweea2023011).*

### EXECUTIVE SUMMARY __________________________________________________________________________ 5

### EXECUTIVE SUMMARY

### Institutional Setup
- Since the previous FSAP macroprudential policy in Sweden has advanced considerably: the mandate for FI is now well established, FI has increased risk weights on commercial real estate, tightened amortization requirements for residential real estate and increased several capital buffers – including changing the CCyB policy to set a positive neutral rate of 2%.
- During the pandemic many requirements were relaxed but have now been re-established as the economy recovers.
- Increase in market-based finance challenges macroprudential policy:
  - Tools are not yet well developed for borrower-based measures beyond those applying to lending to households.
  - Many market-based finance participants are outside national regulatory perimeters.
  - Interlinkages and spillovers mean one authority’s objectives can be affected by another’s policies (e.g., excessive household indebtedness complicates monetary policy tradeoffs).
- The Financial Stability Council (FSC) is a platform to discuss interlinkages and spillovers and risks to financial stability, but is not a decision-making body with responsibility for the entire financial system.
- Responsibility for macroprudential policy is concentrated in Finansinspektionen (FI), with the Riksbank taking an important monitoring role. The FSC helps counter inaction bias.
- The authorities should make more use of “soft power” and joint communication, especially when risks become more systemic (example: joint article by the heads of three authorities to encourage corporate bond issuance in line with a proposed benchmark standard).
  - Communication can be the only available tool when risks are outside the regulatory perimeter and can complement other measures.
  - Joint communication can reduce capture by short-term interests or lobbying.

### Systemic Risk Monitoring
- Data gaps remain for almost all sectors.
  - Collection of micro level data has increased and improved for households and CRE, but lack of household liquid asset data makes it extremely difficult to examine imbalances from high household debt and to calibrate macroprudential tools optimally.
  - A new proposed data collection will lead to substantial improvements, but delivery is not expected for a few years.
- FI and the Riksbank need to better model tail risk, spillovers, and interconnectedness:
  - Technology for modelling tail risk measures such as GDP-at-Risk is evolving rapidly.
  - Modelling interconnectedness in financial markets requires working with extremely large datasets.
  - In 2018 FI was commissioned to develop methods for identifying and evaluating macroeconomic and financial stability risks and for evaluating macroprudential policy, but it has not yet built and sufficiently developed these models.
  - There is a need for additional resources and technical expertise to develop these models.
  - Modelling capacity at the Riksbank has decreased slightly with the dissolution of the dedicated ‘Applied modelling’ division.

### Key Systemic Risks: Household Indebtedness and CRE
- Household indebtedness:
  - High levels of household indebtedness create an imbalance of risks that complicates policymaking.
  - Most households should still be able to pay mortgages after a substantial increase in interest rates, but they will likely cut back substantially on consumption—this increases the potency of monetary policy but complicates trade-offs between inflation and output stabilization.
  - As a small open economy, Sweden will feel pressure to increase its policy rate to levels commensurate with other advanced economies to avoid krona depreciation fueling inflation.
  - Monetary policy can have stronger distributional effects given very high debt of some households and may face political opposition.
  - A large or rapid increase in interest rates could lead to a considerable fall in disposable income for many borrowers—particularly those with an LTI above 3—leading to an economic slowdown and potential corporate impairments.
  - Demand is highly sensitive and non-linear because of the tail of indebted households.
- FI’s remit:
  - FI has a remit to redress financial imbalances that can affect the macroeconomy, including high debts and high risk-taking among households and non-financial companies.
  - FI is unusual in having a specific remit to address financial imbalances without requiring that they be specifically identified as systemic risk.
- Suggested regulatory/supervisory measure:
  - FI should consider introducing an interest rate stress test for short-term variable rate mortgages based on interest and amortization payment as a proportion of income. This would guard against a decline in lending standards where the market standard has declined from 7 percent to around 6 percent even as expectations of further increases in policy rates have been increasing.
- Tax treatment of mortgage interest:
  - The government should commission an independent study into distortions from interest tax deductibility; at around -30 percent, Sweden’s marginal effective tax rate for owner occupied debt-financed housing is the third lowest in the OECD.
  - Interest deductibility insulates households short-term but encourages higher indebtedness and higher house prices long-term.
  - The government should consider asking the competition authority to co-author the report.

- Commercial Real Estate (CRE):
  - CRE firms raise substantial risks due to funding risks and spillover effects to the real economy.
  - Recent increase in CRE use of market-based finance leaves firms vulnerable to changes in market sentiment that could drastically increase funding costs or cut off funding.
  - Some CRE firms may draw down bank credit lines or benefit from bank lending at higher cost; others may need to shed assets or declare insolvency.
  - Amplification mechanisms:
    - Concentration among CRE companies could lead to contagion among CREs.
    - Investors may withdraw from all CRE issuance with little discrimination, due to asymmetric and opaque information.
    - Liquidity premia on funding costs undermine CRE profits and raise credit risk premia.
    - Redemptions from investment funds would withdraw liquidity and boost funding costs further.
  - Macro-critical spillovers:
    - Redemption requests could impact prices of securities more broadly.
    - Liquidations could lower property values across CRE and possibly residential real estate, weighing on consumption, investment, and bank capital.
    - Hits on bank capital from provisioning or losses could crowd out credit to the economy.
  - Policy responses short of borrower-based measures:
    - CRE firms should be required to improve disclosures, including contingency funding plans in bond issuance templates, annual reports, and prospectuses to improve investor assessment and market discipline.
    - Improved disclosure will help investors distinguish between more and less solvent firms, reducing contagion.
    - Improvements to corporate bond market liquidity are needed—issuance of a benchmark bond and increased standardization will reduce price impact of distressed sales.
  - Capital requirements:
    - Authorities should consider further increasing capital requirements for banks’ exposures to CRE given concentration, structural issues, and feedback loops.
    - Micro-prudential stress tests point in this direction; ideally feedback loops should be integrated into stress-testing models.

### Recommendations (from Table 1: Sweden: Recommendations on Macroprudential Policy)
- Institutional Setup
  - FSC, FI, and the Riksbank to make more use of “soft power” and joint communication for important issues, such as asking CRE firms to disclose their contingency funding plans in firms’ annual reports and bond prospectuses. — Agency: All — Priority: H/M
  - The FSC prep group and perhaps also the FSC should have a horizon scanning meeting once or twice a year. — Agency: All — Priority: H
- Risk monitoring
  - The initiative to improve household data collection is a high priority but will take time, FI and the Riksbank should make significant advances in analysing the household sector, such as by continuing to conduct surveys in the meantime and increasing their resources for analysing or increasing the frequency of collection of the data they do have. — Agency: FI and RB — Priority: H
  - FI and the Riksbank need to better model tail risk, spillovers, and interconnectedness and consider how to best allocate resources and share this expertise. — Agency: FI and RB — Priority: M/L
  - FI should emphasize even more that their presentation of risks from households reflects both parts of their remit—financial stability and financial imbalances. — Agency: FI — Priority: H
- Systemic Risk
  - FI should consider gradually increasing the mortgage amortisation requirement to ensure households build resilience over time and reduce financial imbalances. — Agency: FI — Priority: H
  - Introduce standards on the interest rate stress-tests that banks (or FI) could apply for mortgage loan applicants based on their (interest and amortization)/income or some other measure that achieves the same outcome of household resilience to an increase in interest rates and guards against a decline in lending standards by banks. — Agency: FI — Priority: H
  - The government should commission an independent study to determine the costs and benefits from the tax deductibility of mortgage interest. — Agency: MoF — Priority: M
  - FI should consider to further increase capital requirements and/or buffers for banks’ exposures to CRE risks—due to amplification channels and spillovers to the macro economy. — Agency: FI — Priority: H/M
  - FI should adjust their solvency stress tests or supervisory intelligence to examine the impact on banks if all contingent credit lines were drawn down in a short period of time. — Agency: FI — Priority: M/L
  - Authorities should continue to encourage, where appropriate, issuance of benchmark bonds which would improve corporate bond market liquidity. — Agency: FI, FSC, RB — Priority: H
  - Short of borrower-based instruments to curb CREs’ market funding, authorities should encourage CRE firms to disclose their contingency funding plans in firms’ annual reports and bond prospectuses, to allow investors to better assess the risks with CRE bond market issuance and to distinguish between firms. The authorities should continue to work on borrower-based instruments for macroprudential reasons and consider whether FI’s regulatory perimeter needs expanding. — Agency: All — Priority: H
- Priority legend: H: within 1 to 2 years; M: within 2-3 years; L: within 3-5 years.

*Source: EXECUTIVE SUMMARY (1sweea2023011).*

### 1.      Strong institutional arrangements for macroprudential policymaking are vital to

### 1sweea2023011 - 1.      Strong institutional arrangements for macroprudential policymaking are vital to

### Overview
- Institutional framework objectives: promote willingness to act, foster ability to act to increase resilience and mitigate systemic risk, and promote effective cooperation and coordination between institutions with a financial stability mandate.
- Evaluation is against three key principles set out in the 2014 IMF Staff Guidance Note on Macroprudential Policy.

### A. Willingness to Act — Existing Setup and Assessment
- Key institutional aspects that foster willingness to act: a clear mandate; involving the central bank to harness expertise, incentives to take action, and independence; involving relevant regulatory and supervisory authorities; transparency and accountability mechanisms.
- Current Swedish setup:
  - Finansinspektionen (FI) has responsibility over macroprudential policy; the Riksbank plays an important monitoring role.
  - No overall decision-making body with responsibility for the entire financial system including payments and lender of last resort facilities.
  - The Financial Stability Council (FSC) is a discussion forum; constitutionally no authority can ask another to take an action.
  - Evidence: "only a quarter of Financial Stability Committees have any powers beyond information sharing and advising."
- FI mandate:
  - Mandated to promote a stable financial system characterised by a high level of confidence and well-functioning markets.
  - Mandate expanded in 2016 to include ensuring the financial system provides a high level of protection for consumers and implementing measures to counteract financial imbalances that can affect the macroeconomy.
  - Expansion clarified FI’s ability to take measures in the housing market and to address high debts and high risk‑taking among households and non‑financial companies.
  - FI’s remit unusually includes addressing financial imbalances without the requirement that they be identified as a systemic risk.
- Independence constraints:
  - FI has autonomy with capital instruments, but the government must approve any borrower-based measures on households and non-financial firms.
  - The Riksbank has publicly stated concerns that this limits the speed of reaction.
  - Trade-off noted: "a wide mandate where the authorities request consent from the government after making their case for borrower-based tools may have net benefits over giving the authorities a narrower set of borrower-based tools with prescribed ways to use them even if it comes at the cost of speed."
- Coordination mechanisms that mitigate inaction bias:
  - Financial Stability Council and the Prep Group can help build consensus; the Prep Group meets usually monthly while the FSC usually meets only every six months.
  - The Riksbank act coming into force in 2023 will "enhance the Riksbank’s mandate to monitor financial stability risks and also provide the Riksbank with a specific responsibility to inform other authorities: 'give an account of the assessments. If the Riksbank deems that these risks may affect the activities of other authorities the Riksbank shall draw the attention of the authorities and other bodies affected to this.'"
- Limits as risks broaden:
  - Mandate less clear as risks move beyond the banking sector and market-based finance increases.
  - Tools for borrower-based measures beyond lending to households are underdeveloped; many market-based finance participants are outside national regulatory perimeters (though may fall within EU regulation).

### B. Ability to Act — Existing Setup and Assessment
- FI’s powers and toolkit:
  - FI has powers over capital requirements and can propose new tools on borrower‑based measures.
  - FI has access to the full toolkit provided by CRR and CRDIV which specifies macroprudential tools for EU countries.
  - FI has access to some tools it has not used (e.g., cap on LTI) due to concerns about distributional effects on banks concentrated in city lending; instead FI uses LTI-based amortisation requirements which have a lesser distributional impact.
- Sweden’s use of countercyclical capital buffer (CCyB):
  - Sweden was an early adopter of the CCyB; "Sweden was the first BCBS member to use the CCyB."
  - Prior to the pandemic 8 out of 27 BCBS member countries had a positive CCyB or sectoral CCyB (six countries) or had announced an intent to activate the CCyB.
  - FI has sole responsibility for the CCyB; the Riksbank has sometimes wanted a higher level and faster implementation (only possible under exceptional circumstances under CRDIV).
- Challenges from market-based finance:
  - Market-based finance has grown rapidly; tools are only just being developed.
  - Around 30 percent of investors in Swedish corporate bonds are foreign and therefore outside the influence of the authorities.
  - Investment funds located in Sweden can relocate to avoid regulation.
  - Global and European coordination is necessary to develop a complete macroprudential toolkit for non-bank finance; work is underway led by the FSB.
  - The FSB has published policy proposals to enhance money market fund resilience and will review members' progress in 2023.
- FI’s supervisory perimeter and limits:
  - FI supervises many non-banks including investment funds and insurance firms but lacks an adequate toolkit to address risks.
  - Under Swedish mutual fund legislation FI may suspend sale and redemptions of units in funds "if it is in the interest of the unit‑holders or of the public" but such suspension must be done at the individual fund level.
  - FI has never used this suspension possibility; no detailed framework in legislation for its use. During the pandemic several funds suspended themselves.
- Use of communication as an alternative tool:
  - Communication via Financial Stability Reports (FSRs) and speeches is used to communicate risks and desired behavior.
  - Evidence suggests communications can reduce probability of extreme events if delivered with a considerable lead.
  - Both the Riksbank and FI publish FSRs to communicate views on financial stability and desired actions.

### C. Cooperation and Coordination — Existing Setup and Assessment
- FSC role and limits:
  - The FSC is a coordination and cooperation body but cannot be a decision-making body due to constitutional constraints.
  - This limits remedies when authorities disagree or have clashing objectives; spillovers are not fully internalized.
  - Example: Riksbank does not have to fully internalize financial stability risks from its QE; FI does not have to fully consider how financial imbalances affect the monetary policy reaction function.
  - FSC’s independent secretariat model should be maintained to ensure free and frank exchange of views.
- FSC activities:
  - FSC can commission cross-institution topics, helping internalize policy effects (example: review of reduced liquidity in the government bond market).
  - FSC usually meets twice a year; the preparatory working group meets more often and is productive for information and analysis exchange.

### International Cooperation and Reciprocation — Ensuring Effectiveness
- Cross-border aspects:
  - The Swedish financial system is very open and connected.
  - Nordea moved headquarters to Finland in 2018 and became supervised by the SSM; Nordea accounts for about 30 percent of the lending market in Sweden.
  - National macroprudential measures still apply to Nordea by reciprocation under article 458 in CRR, but application abroad is not automatic.
  - Sweden has strong historic cross-border cooperation with Nordic and Baltic countries; a 2016 MoU on supervision of significant branches includes a clear ambition to reciprocate national macroprudential measures.
- Reciprocation practice:
  - FI has had to seek reciprocity from Finnish supervisory authority for measures affecting Nordea’s Swedish branch; given the MoU reciprocity has always been granted.
  - For measures under article 458 FI has had to renew reciprocity requests periodically when prolonging a measure.
  - FI finds ESRB reciprocation policy helpful for effectiveness.
- Legal basis and reciprocity table (selected entries preserved verbatim):
  - CCyB — Articles 130, 135-140 CRD IV — Mandatory up to 2.5 percent
  - Risk Weights — Articles 124 or 164 CRR — Mandatory
  - "Flexibility package" — Article 458 CRR — Voluntary
  - Systemic Risk Buffer — Articles 133-134 CRD IV — Voluntary
  - Pillar 2 add-ons — Article 103 or 104 CRD IV — Not mentioned
  - Liquidity requirements — Article 105 CRD IV — Not mentioned
  - O-SII buffer — Article 131 CRD IV — Not mentioned
  - LTV/LTI limits — National legislation — Not mentioned
  - Loan-to-deposit limits — National legislation — Not mentioned
- CCyB reciprocation issues:
  - FI has stated it would increase the CCyB beyond the mandatory reciprocation limit of 2.5 percent. Reciprocation of rates above 2.5 is currently untested.
  - The ESRB recommends member states generally recognise each other's buffer rates, including buffer rates exceeding 2.5 percent.
  - Sweden has a positive neutral CCyB rate of 2 percent; a higher level of capital would likely be needed when risks become more elevated.
  - Given Nordea’s importance, reciprocation would be important should authorities set CCyB above 2.5 percent to ensure financial stability benefits and a level playing field.
  - Authorities have communicated this position in the open EU consultation on the macroprudential framework.
- Non-banking market participation:
  - Foreigners are dominant buyers of corporate bonds in Sweden, which improves liquidity but limits the extent to which national authorities can apply macroprudential measures.

*Source: IMF staff assessment as presented in the chapter "Strong institutional arrangements for macroprudential policymaking are vital to" (1sweea2023011).*

### 23.      The Swedish authorities have several fora for cooperation including the supervisory

### 1sweea2023011 - 23.      The Swedish authorities have several fora for cooperation including the supervisory

### Cooperation fora and the Nordic-Baltic Macroprudential Forum (NBMF)
- The NBMF was established in 2011 at the initiative of FI and the Riksbank as a high-level forum for both central bank governors and heads of supervisory authorities in Nordic and Baltic countries.
- Sweden has been the chair of the NBMF since its inception; presently the Director General of FI is the chair.
- Meetings are held twice a year.
- Mandate and activities:
  - Informal body with no decision-making authority.
  - Discuss risks facing financial stability in the Nordic-Baltic countries and the implementation of macroprudential measures.
  - Separate work streams for in-depth examination of the countercyclical capital buffer and reciprocation of macroprudential policies.
- Authorities state the NBMF has substantially contributed to promoting cooperation between macroprudential authorities in the region.

### Recommendations: use of communication and “soft power”
- Authorities should make more use of “soft power” and joint communications, especially when risks become more systemic (example cited: joint article by heads of three authorities to encourage corporate bond issuance in line with a proposed benchmark).
- Communication is identified as a powerful macroprudential policy tool and should be used both individually and jointly by FSC members.
- Purposes of strategic communication:
  - Address risks outside the regulatory perimeter.
  - Complement existing or new measures.
  - Reduce susceptibility to short-term interests or lobbying by special-interest groups.

### Systemic risk monitoring — responsibilities and coordination
- Both FI and the Riksbank have responsibility for monitoring the financial system and financial stability.
  - Both produce a financial stability report (FSR) every six months.
  - FI is obligated to produce a financial stability report twice a year [for the government].
  - The Riksbank has a duty to monitor the financial system.
- Comparative advantages:
  - Riksbank: capacity for macroeconomic policy research, well equipped to examine financial stability.
  - FI: deep knowledge of supervised institutions.
- Risks of dual monitoring:
  - No single institution may take an overall view that is both broad and deep.
  - Potential for missed spillovers across sectors or failure to capture amplifiers and feedback loops.
  - FSC preparatory group discussions help cover cross-cutting issues and spillovers.
- Timing and communication sequencing:
  - The Riksbank publishes its FSR before FI publishes its FSR.
  - This can give clarity on macroeconomic backdrop but can create uncertainty when the Riksbank makes recommendations that leave unclear what FI will do.
  - Recommendation: authorities should think strategically about where their different communication channels are most influential; publication of FSC minutes after the two FSRs can reinforce messaging.

### Data collection and data gaps
- Data requirements for macroprudential policy:
  - High frequency, high quality, micro-level data are needed for continuous assessment of evolving risks and spillovers.
- FI data powers and limitations:
  - FI has a relatively broad mandate to collect data when investigating supervised entities.
  - FI can collect information from any entity within the same group as a supervised institution.
  - FI may request information from institutions it does not supervise as responsible authority for Swedish financial market statistics.
  - FI does not have general legal power to collect data directly from unregulated financial institutions and/or other private agents (households, nonfinancial firms).
- Riksbank data powers and limitations:
  - Fewer direct data collection powers than FI.
  - New Riksbank act will increase powers but legal clarity lacking on purposes and usage of collected data.
  - Riksbank directly gathers statistics from banks and infrastructure companies and conducts its own surveys when necessary.
  - Riksbank sends a Financial Markets Survey twice per year to participants active in the Swedish fixed income and foreign exchange markets; survey is published before the FSR.
- Key data gaps and ongoing work:
  - Substantial improvements made since prior FSAP; further improvements planned.
  - Good access to micro data: mortgage survey, consumer loan survey, commercial real estate loan survey, and a database covering all loans to non-financial firms.
  - Lack of micro-level household asset data (full balance sheet) — impedes assessment of consumption cutbacks following downturns.
  - Aggregate household liability data is good but incomplete: uneven distribution of savings means aggregate data may be overly optimistic.
  - Authorities are consulting on a new household data collection (see Box 1) to improve analysis of household consumption responses and to better calibrate macroprudential policies.
  - FI has limited access to micro-level data on CRE firms’ market financing; work underway to obtain access via Statistics Sweden and/or the Riksbank.
  - FI is working to obtain data on owners of non-financial companies’ bonds and commercial paper.
  - FI needs more resources and skills in data governance and modelling micro-level firm data.
  - Fund data is insufficiently granular and frequent: flows reported only at quarterly frequency by funds and asset managers; UCITS stress testing relies on commercial data sources often available only at aggregate level with gaps.
  - Centralised Securities Database (CSDB) is restricted to central banks; FI cannot have full access although Riksbank supplies the database with issuance data. Suggested solution: ECB and FI reach an arrangement (e.g., include FI in the “system of central banks” or extend access to designated authorities) without compromising proprietary data.

- Specific numeric and timing points preserved exactly:
  - NBMF established in 2011.
  - Meetings held twice a year.
  - FI produces a financial stability report twice a year [for the government].
  - Riksbank sends Financial Markets Survey twice per year and publishes it before the FSR.
  - Around 50 percent of loans have very short term, i.e., under three months, fixation periods.
  - The Government inquiry chair is to report on the inquiry’s remit by October 14, 2022.
  - The new FI household data collection: first vintage in 2022.

### Risk modeling and analysis: aggregate risks and spillovers
- Publication and analytical practices:
  - Riksbank publishes economic commentaries and staff memos; FI produces “FI Analysis” occasional series.
  - Both institutions’ deeper analyses complement the FSRs and help focus system-wide risks.
  - Riksbank’s first FSR chapter aims to take an overall system-wide view.
- Developments in indicators and aggregation:
  - Since 2021, FI has produced heatmaps aggregating indicators and expert judgment (example shown in Figure 6).
  - Riksbank publishes decomposition of its systemic risk indicator time series and is developing GDP at risk models; systemic risk indicator incorporated into the model.
  - These are material improvements relative to the 2016 FSAP but more progress needed.
  - In 2018 FI was commissioned to develop methods for identifying and evaluating macroeconomic and financial stability risks and macroprudential policy; work on intermediate stability targets remains incomplete.
- Capacity constraints:
  - Modelling capacity at the Riksbank decreased slightly with the dissolution of the dedicated ‘Applied modelling’ division.
  - Increasing complexity and interlinkages imply the gap between resources and requirements may grow even with static resources.

### Household risks: stress testing and limitations
- FI household stress tests:
  - Use mortgage data and focus on whether households have any money left after paying debts and standardized living expenses.
  - This approach emphasizes defaults (microprudential focus) and does not capture broader macroprudential channels such as cuts in consumption following falls in disposable income or other second-round effects.
- Contrasting outcomes illustrated:
  - Left-chart outcome: interest rate increase would have little impact on default rates, which would remain low.
  - Right-chart outcome: borrowers with an LTI above 3 would find their disposable income—or “surplus”—almost halved; those with an LTI above 4.5 would lose around two thirds of their disposable income.
  - Around half of borrowers have an LTI above 3, implying on aggregate a large fall in disposable income with likely significant effects on the economy and the financial system.
- Definitions and measurement notes:
  - “Surplus = Income after tax – interest payments – amortization payments – housing expenses – other living expenses.”
  - FI’s stress tests focusing on defaults may understate macroeconomic risks because high-LTI households are younger/newer purchasers and unlikely to have higher liquid asset buffers.

_Italic: Source — 1sweea2023011 - 23.      The Swedish authorities have several fora for cooperation including the supervisory_

### 47.      Households make substantial use of the unsecured lending market in addition to the

### 1sweea2023011 - 47.      Households make substantial use of the unsecured lending market in addition to the

### Household unsecured lending and mortgage interactions
- Over 20 percent of mortgage borrowers had existing unsecured loans when taking out a mortgage.
- Unsecured loans are smaller than mortgages, but often have a higher interest rate and a faster repayment rate than mortgages, making them a significant part of households' loan payments.
- In Sweden, households may borrow up to 85 percent of the home value as a mortgage (due to the mortgage cap). Above 85 percent it is possible to take out unsecured loans if the household have enough income to bear the loan payments.
- FI’s internal analysis suggests households are not using unsecured lending to avoid or reduce the amortisation requirement (for example by using unsecured loans to obtain an LTV on the mortgage below 70 percent, where amortization drops from 2 percent to 1 percent a year).
- Instead, households are using unsecured loans to supplement the mortgage loan and participate in the housing market: the latest mortgage market report finds that 2-5 percent take a new unsecured loan when they take out a mortgage.
- Recommendation for FI: to the extent that the data allows it, use data on unsecured lending to ensure a fully integrated analysis of households’ debt and potential payment difficulties.

### Bank risks: existing setup and assessment
- FI has developed a number of stress-testing models focusing on credit risk; stress testing uses a top-down approach to enhance comparability across banks but relies on less detailed data than banks’ internal tests.
- Data limitations:
  - Sweden was relatively unaffected by the Global Financial Crisis and detailed data do not exist from the banking crisis in the 1990s, leaving very few default episodes to inform modelling.
  - FI must rely on reduced form models using data from similar countries to Sweden.
- FI stress-testing findings and capital impacts:
  - Banks have generally stress-tested borrowers to an increase in interest rates of 6-7 percent.
  - FI’s analysis suggests that even with an increase in interest rates to 5 percent, fewer than 3 percent of borrowers would have a deficit.
  - The risk weight floor for mortgages increased risk weights from an average of about 5 to 25, leading to banks holding considerably more capital against mortgages.

### Recommendations (Policy and analytical)
- FSC prep group and possibly the FSC should hold a horizon scanning meeting once or twice a year to identify new risks or structural changes and exploit diverse expertise across the FS.
- Improving household data collection is high priority but will take time; FI and the Riksbank should make significant advances in analysing the household sector in the meantime (for example by conducting surveys).
- Because proposed data collection will take years and may face quality and vintage issues, authorities should advance analysis by:
  - drawing on other countries' experience;
  - making assumptions about the distribution of liquid assets;
  - conducting surveys on household responses to interest rate or income shocks.
- FI and the Riksbank need better models for tail risk, spillovers, and interconnectedness as the financial system becomes more complex and market-based finance grows; they should find the optimal mix of resources exploiting comparative advantages (Riskbank with macro modelling and FI with supervisory data).
- FI should ensure presentations of household risks reflect both microprudential and macroprudential objectives, including wider-system impacts (e.g., falls in consumption and corporate defaults). Where analysis is speculative due to data limits, present caveats and sensitivity analysis.

### Systemic risks, vulnerabilities, and tools — interest rates and indebtedness
- Context and recent dynamics:
  - Sweden entered COVID-19 with substantial buffers; macroprudential tightening and a well-capitalized financial sector allowed policy easing during the pandemic.
  - Low-for-long global interest rates left households and corporates highly indebted pre-pandemic.
  - Both house prices and total household debt in relation to income peaked in Q4 2021.
  - CRE sector’s debt kept growing during the pandemic.
- Interest rate normalization risks:
  - After prolonged very low rates the Riksbank has begun to normalize monetary policy, creating uncertainty for market and real economy participants.
  - Households are highly indebted and sensitive to interest rate increases and higher energy prices; the proportion of households with high loan-to-income has increased.
  - Interest rate fixation: the proportion of new mortgages with fixation periods less than three months has increased in the last year; approximately one-fifth of households’ loans have more than a two-year remaining fixed-interest period (double the figure compared to a year ago), though distribution is uneven.
  - High costs of repaying mortgage loans early incentivise choosing shorter fixation periods; current compensation calculation disadvantages borrowers with higher LTV or higher income uncertainty. The National Debt office and the Riksbank have supported FI’s proposal that this compensation for credit risk be removed.
- Direct banking impact:
  - The direct impact on the banking system of an increase in interest rates is likely to be limited because of stress-testing; full recourse loans incentivize households to keep paying mortgages, limiting mortgage defaults.
- Broader macro-financial implications:
  - High household debt can transmit large spillovers if households cut consumption or liquidate assets.
  - Households with LTI above 3 are particularly vulnerable to large falls in disposable income from rapid interest rate increases.
  - A large or rapid increase in interest rates could impair the corporate sector (see paragraph 45 reference in source).
  - Households likely have lower liquid asset buffers to smooth consumption due to higher LTIs among new purchasers and falling household wealth since early 2022; a structural increase in interest rates reduces incentives to maintain previous consumption levels.
- Corporate sector resilience:
  - Non-CRE corporates are more robust: a scenario with companies’ average interest rates rising by 3 percentage points (while revenues unchanged) raises average interest-to-income ratio from just over 8 to 20 percent—about the level in the euro crisis of 2012 and well below global financial crisis levels.
  - Distribution of corporate bank loans has shifted towards the service sector, which is more vulnerable to a consumption downturn.

### Policy tools and evaluation of borrower-based measures
- LTV limit effects:
  - FI’s analysis suggests the LTV limit meant borrowers borrowed less than without the limit, but the average effect is modest at about 2 percent smaller loans.
  - Households affected (those who without regulation would have taken loans above 85 percent LTV) took out 13 percent smaller loans and bought homes about 10 percent cheaper, leading to substantially less debt as a proportion of income.
- Amortization requirement effects:
  - FI’s analysis suggests new mortgage borrowers took just under 7 percent lower total mortgages due to the amortization requirement.
  - Among those directly affected: the effect was estimated at 14 percent for those who needed to amortize at a rate of 2 percent and just under 9 percent for those who needed to amortize 1 percent.
  - These measures help prevent a decline in lending standards and reduce the potential increase in highly indebted borrowers even amid rising house prices.
- Current indebtedness trends and concerns:
  - Loan-to-income ratio amounted to 201 per cent at the end of 2021, which is 13 percentage points higher than at end of 2019; borrowers are more sensitive to interest rate increases than before the pandemic.
- Structural housing market issues and fiscal/subsidy effects:
  - Interest rate deductibility subsidises mortgage financing.
  - Sweden’s housing market is heavily skewed towards ownership; Sweden has the OECD’s most regulated rental market (as shown in Figure 16 referenced in the source).
  - Only Denmark and the Netherlands have similar levels of subsidies for mortgage-financed housing; the Netherlands is phasing out interest deductions and limiting deductibility to loans fully amortized over 30 years.
- Amortisation policy considerations:
  - FI should consider whether the amortisation requirement should be higher and whether amortization holidays could function as an automatic stabiliser.
  - Current amortization rules:
    - 1 percent per year for an LTV above 50;
    - 2 percent per year for an LTV above 70 percent;
    - An extra 1 percent each year if the LTI is above 450.
  - Internationally, several countries impose amortisation requirements that mean mortgages are fully or entirely amortised by retirement age; Sweden’s rates are lower, particularly for low LTV and LTI borrowers.
  - Appropriate amortization rates depend on many structural factors (including expected retirement income); introducing amortization requirements represented a considerable cultural change in the Swedish mortgage market.
  - Use of amortisation holidays when individuals experience negative shocks can act as a committed savings device and an automatic consumption stabiliser.

*Source: 1sweea2023011 — https://www.imf.org/-/media/files/publications/cr/2023/english/1sweea2023011.pdf*

### 73.      FI should consider introducing a new

### 1sweea2023011 - 73.      FI should consider introducing a new

### Interest‑rate stress testing and mortgage taxation
- Finding: FI should consider introducing an interest rate stress test for short-term variable rate mortgages based on interest and amortization payment as a proportion of income to guard against a decline in lending standards.
- Problem identified: The market standard used in banks’ interest rate stress tests has declined from 7 percent to around 6.0 percent even as expectations of an increase in policy rates is increasing.
- Fiscal distortion: Sweden’s marginal effective tax rate for owner occupied debt-financed housing is around -30 percent, the third lowest in the OECD.
- Behavioral implications:
  - Short term: tax deductibility of interest payments will insulate households against an increase in interest rates.
  - Long term: it encourages higher indebtedness and higher house prices, with negative ramifications for financial stability.
- Institutional recommendation: The government should commission an independent study into distortions from interest tax deductibility and consider having the competition authority co-author the report.

### Commercial Real Estate (CRE) — systemic vulnerabilities and transmission channels
- Magnitude and trends:
  - Sweden has experienced some of the largest CRE price increases in the EU in recent years.
  - Between 2009 and 2021, net debt-to-net operating income grew from a ratio of around 10 to 15.
  - CRE exposures represent on average 15 percent of the major Swedish banks’ lending to the general public.
  - Commercial real estate firms have just under SEK 190 billion in contingent credit lines with banks, which is enough to sustain funding for 2 years.
  - Swedish CRE bonds constitute 50 percent of the corporate bond market.
- Funding shift: The share of market-based finance for CRE has grown considerably over the last decade and now consists of around half the sector’s funding overall.
- Shock transmission mechanics:
  - Market-based funding can dry up due to increased policy rates, changes in risk sentiment, economic slowdown, lower real estate prices, or perceived leverage limits.
  - CRE firms may need to borrow from banks to repay maturing bonds or sustain operations; banks may or may not provide funding.
  - Liquidity premia and higher bank funding costs (relative to market funding) can turn liquidity shocks into solvency shocks.
  - Asset liquidation and fire sales can depress CRE prices, feeding back to borrowers and banks via collateral valuation and increased credit losses.
- Stress-test evidence:
  - FI’s stress test of banks’ resilience to a CRE shock includes lower earnings from commercial premises by 25 percent, a shock of higher financing costs by 3 percentage points, and a combined stress.
  - Given increases in funding rates since the beginning of 2022, a 3-percentage point increase is considered plausible.
  - Systemic Risk Assessment Technical Notes found high loss rates on CRE exposures, suggesting current capital for these exposures could be insufficient.
- Hedging and maturity structure:
  - Around two thirds of CRE firms’ bank loans are raised at variable rates.
  - FI estimates that around 60 per cent of all property firms’ interest costs will be impacted by a change in the interest rate.
  - FI’s analysis assumes CRE firms’ average maturity for bank loans is on average just over two years, implying refinancing needs within that period.

### Structural features amplifying shocks
- Concentration and cross-ownership:
  - The market is highly concentrated with substantial cross-ownership among bond-market issuing firms; only 12 ultimate owners are identified among listed CRE firms in 2021.
  - Cross-ownership can both allow intra-group support and increase the likelihood that idiosyncratic shocks become systemic.
- Corporate bond market fragility:
  - The Swedish bond market is very illiquid and has transparency challenges; bond issues frequently have non-standardized terms, making secondary market pricing difficult and amplifying price shocks.
  - Recent declines in liquidity metrics and turbulence in March 2022 indicate limited resilience.
- Information asymmetries:
  - Lack of disclosure increases asymmetric information, making it difficult to distinguish between good and bad firms and raising the risk that investors pull back indiscriminately.
- Funding‑to‑fund redemptions:
  - Redemption requests at investment funds holding CRE bonds can force fire sales of CRE bonds and spill over to the broader corporate bond market; the effect may be mitigated by funds’ holdings of foreign assets.

### Policy recommendations and preparedness
- Capital buffers:
  - Authorities should consider increasing capital requirements for banks, specifically higher requirements against commercial real estate, because micro-prudential stress-test–based capital appears insufficient given concentration, structural issues, and feedback loops.
  - FI should take a flexible approach when considering where in the capital stack to add additional capital or intensify supervision.
- Stress‑test enhancements:
  - FI should adjust solvency stress tests or supervisory intelligence to examine the impact if all contingent credit lines were drawn down in a short period; tests should include an early drawdown of funds and subject that lending to subsequent stress.
- Liquidity management and investment fund terms:
  - Investment funds with profiles identified in the FSAP stress analysis and their asset managers should collectively move to redemption terms more closely aligned with the liquidity profile of their portfolios.
  - Authorities should ensure access to an adequate and comprehensive set of liquidity management tools (LMTs).
- Corporate bond market reforms:
  - Improvements to liquidity are needed—issuance of a benchmark bond and increased standardization will reduce the price impact of distressed sales.
  - Riksbank and FI have encouraged Swedish firms issuing bonds in SEK to use the benchmark standard to improve market functioning and reduce funding costs.
- Fund investment guidance and disclosure:
  - FI should consider the extent to which it can impose restrictions or guidance on the type of investments funds hold, recognizing limitations due to foreign-owned funds.
  - CRE firms should be required to improve disclosures, including contingency plans for when market funding dries up; such disclosure should be included in bond issuance templates and encouraged by authorities and securities market associations.
- Crisis intervention planning:
  - Authorities should plan interventions to restore market functioning while limiting moral hazard.
  - Any intervention should be transparent, allow equity holders to recapitalize (but wipe out insolvent equity holders), and ensure bond holders take losses (e.g., write-downs or equity conversions).
  - Interventions should be targeted to where negative links to the real economy are strongest and assets should be purchased at fair market prices.
  - Authorities should note that fully or partly state-owned asset management companies have been used in past crises but may entail significant upfront fiscal costs and risks.

*Source: IMF staff report excerpt.*

### 99.      The above sections covered the two main vulnerabilities for the financial system

### The above sections covered the two main vulnerabilities for the financial system

### Systemic vulnerability sources and resilience objective
- Shocks can emerge from many different channels including outside the financial system; recent examples include the global COVID-19 crisis and the disruption to energy markets from Russia’s invasion of Ukraine.
- Authorities need to ensure that the financial system is sufficiently resilient to a wide range of shocks and that the impact on the real economy is limited.

### Banks’ role, risk-weighted assets (RWAs), and loss-absorption risks
- Banks continue to provide the majority of funding to the real economy despite a shrinking role in the financial system.
- Banks’ capital ratios continue to be affected by low RWAs, especially due to low risk weights applied on mortgage loans and CRE exposures.
- The high portion of mortgage loans on Swedish banks’ balance sheets explains, to a large extent, the low RWAs.
- Resulting vulnerability: banks’ loss absorption could be challenging if a scenario of widespread defaults materializes, for example, in case of a large macro financial shock.

### FI’s capital policy framework and buffer calibration
- FI has increased capital requirements to take into account the concentrated level of the banking system.
- The large three banks each have a systemic risk buffer of 3 percent.
- FI has put in place an O-SII buffer of 1 percent for these systemically important institutions, including Nordea’s Swedish subsidiary.
- Buffers are additive (a change introduced when the banking package was implemented).
- FI can request an opinion from the European Commission if it assesses the total systemic risk buffer should exceed three per cent but not five per cent; FI can establish a systemic risk buffer of over five per cent only after authorization from the European Commission.

### Interaction of broad capital requirements and risk-weight floors
- Combining broad capital requirements (Systemic Risk Buffer) with FI’s risk weight floors considerably amplifies the benefits of each measure.
- Benefit of having microprudential and macroprudential authority within one institution: can use both broad capital requirements and targeted measures.
- The residential real estate risk weight floor’s impact on total capital requirements is quantified as:
  - about equivalent to a 6 percent CCyB or a 4   percent SRB taking it to 7 percent in total;
  - this reflects that, absent the ability to set risk weight floors, required buffer rates would have needed to be much higher and would have been harder to target appropriately.
- Using broad capital requirements is not a substitute for taking action on the sector as a whole; they are designed to capture spillovers, interconnections and structural features of the financial system.

### Countercyclical Capital Buffer (CCyB): purpose, recent history, and policy stance
- Ensuring adequate releasable or usable capital buffers is key to ensuring financial stability.
- The CCyB is a time-varying capital buffer set based on the relevant national authority’s judgement of system-wide risks.
- The CCyB aims to maintain capital in the banking sector for banks to draw on during an economic downturn, supporting the supply of credit and helping to ensure banks do not amplify the downturn.
- During the pandemic FI cut the CCyB by 2.5 percentage points and set it at 0 percent.
- In 2021 FI outlined a CCyB policy that includes a positive neutral rate of 2 percent in standard times. FI cited motivations:
  1) the risk that systemic risks and financial imbalances cannot be identified in a timely manner;
  2) the twelve-month delay from announcement for the buffer rate to be in force; and
  3) early activation and gradual increases make it easier for banks to adjust (for example by retaining profit rather than reducing their lending).
- Timeline of recent CCyB changes:
  - September 2021: FI announced an initial increase towards the target neutral rate, with the standard 12-month lag, setting the buffer rate at 1 percent.
  - June 2022: FI raised the buffer to 2 percent, again with the standard 12-month lag.
- Note on international practice: while original Basel guidance suggested a 0 percent rate unless risks are elevated, several countries have adopted a positive neutral rate (Australia, Sweden, Netherlands, UK had a positive neutral rate before the pandemic). Lithuania and the Czech Republic have set a positive neutral rate; Canada has a positive neutral rate for its Domestic Stability Buffer.

### Policy recommendation and unresolved calibration questions
- The authorities should consider what capital buffers (including the CCyB) might be needed when risks are more elevated.
- The 2 percent neutral rate is intended to cover a standard risk environment.
- The authorities have not yet reached a firm position on:
  - the level of capital that would be required in a more elevated environment, or
  - what level of releasable capital would be sufficient to ensure resilience to a macro-financial shock of similar magnitude to the global financial crisis.

*Source: 1sweea2023011 - 99.

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_Source: https://www.imf.org/-/media/files/publications/cr/2023/english/1sweea2023011.pdf_