## _cr0989

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---

### Executive Summary
- Report prepared by Monetary and Capital Markets and European Departments; approved February 13, 2009.
- FSAP Update mission visited Estonia from February 18–27, 2008; findings discussed during Article IV mission in May 2008; updated after staff visit in December 2008.
- FSAP Update team: Steven Seelig (Mission Chief, MCM), Nada Choueiri (EUR), Elina Ribakova (MCM), Joon Soo Lee and Heinz Rudolph (both World Bank), Goran Lind (Sveriges Riksbank); Magally Bernal (MCM) assisted.
- Main findings:
  - Significant vulnerabilities from real estate lending: much recent loan growth to this sector funded in euros, at floating rates, and used to fund long-term euro-denominated mortgages, implying liquidity and credit risk exposure.
  - Rapid banking-sector expansion funded largely by short-term foreign borrowing from parent banks, creating maturity mismatch and liquidity vulnerability.
  - Need to more fully develop the financial safety net, including implementing a lender-of-last-resort (LOLR) capability and an expanded bank resolution framework; consideration to increase target size of the deposit guarantee fund.
  - Creation of the EFSA improved supervision; organizational structure designed to address unique Estonian features. No serious weaknesses in bank supervision and regulation identified.
  - Despite global financial crisis pressures, Estonian financial system has thus far remained resilient.
- Main author: Steven A. Seelig.
- FSAP assessments focus on systemwide stability and not institution-specific risks.

### Macroeconomic Context and Recent Developments
- Real GDP growth averaged 10 percent in 2005–2006.
- External current account deficit widened to 18 percent of GDP by 2007.
- Estonia joined ERM2 upon EU accession in 2004 while maintaining its currency board arrangement; euro adoption "is now expected to take place in 2011, at the earliest."
- Credit rating outlook changes:
  - Moody’s: positive to stable in late 2007; downgraded outlook to negative in October 2008 but maintained rating.
  - S&P: stable to negative in late 2007; reaffirmed ratings and outlook in January and October 2008.
  - Fitch: lowered outlook to negative at end-January 2008 and downgraded rating by one notch in October 2008, maintaining negative outlook.
- Domestic demand weakened; economy in recession since Q4 2007.
- By end-2008, consumption and investment contracted; tighter credit and lower confidence.

### Financial Structure and Concentration
- Financial sector highly concentrated and foreign owned:
  - Two Swedish-owned banks control 68 percent of banking assets; two other Nordic-owned banks control an additional 26 percent.
  - Same institutions dominate insurance, brokerage, investment, and pension fund management sectors.
- Private sector bank credit equals 97 percent of GDP; deposits equal 47 percent of GDP.
- Banking sector is 96 percent controlled by Nordic institutions.
- Two subsidiaries of Swedish banks—Swedbank and SEB—hold over 68 percent of the sector’s assets.
- An additional 25 percent is held by the branches of Nordea (Finland) and Danske banks.
- Baltic operations accounted for 28 percent of Swedbank’s and 21 percent of SEB’s profits during first nine months of 2008.

### Financial Stability Vulnerabilities
- Real estate exposure and credit quality:
  - Mortgages account for 40.4 percent of credit to the private sector; real estate, renting and business activities account for 24.5 percent (as of December 2007).
  - Housing loans 60 days past-due have almost doubled during the past six months (end-2008), albeit from low levels.
  - Average prices fell by about 20 percent during 2008, after declining nearly 10 percent in 2007.
  - Some mortgages were made at 90 percent of purchase price with debt service coverage ratio of 40 percent.
- Funding and liquidity risks:
  - Loan growth to real estate funded in euros, at floating rates, from parent banks and used to fund long-term euro-denominated floating rate mortgages.
  - Almost half of banking sector liabilities have remaining maturities of one month or less; 46 percent of bank loans have maturities greater than ten years and about half of these exceed 25 years.
  - Liquid assets cover 31 percent of short-term liabilities for the banking sector; including central bank’s short term reserves under the currency board would increase coverage to 38 percent.
  - Banks’ liquid exposures reached 75 percent of GDP (over 12 billion euros).
  - Net international investment position reached minus 77 percent of GDP in September 2008; 60 percent of that is explained by banking sector’s net foreign liability position; bulk (47 percent of GDP) is FX denominated.
  - Some 86 percent of total loans are denominated in foreign currency (mostly euros).
  - Short-term FX liabilities significantly exceed Estonia’s international reserves — foreign exchange vulnerability.
- Parent-bank dependence:
  - Most liquidity exposure is to Swedish parents; parents rely on international markets for funding.
  - Market indicators showed increased vulnerability of Swedish parent banks: share prices fell; Moody’s KMV estimated increased default probabilities for SEB, Swedbank, Nordea.
  - Swedbank derives 29 percent of total operating profits from the Baltics; experienced deposit outflows in late September/early October 2008 leading to outflows from Estonian subsidiary; liquidity crisis averted by home-country central bank actions.

### Stress Tests — Design and Key Results
- Methodology:
  - Two types: macroeconomic scenarios (top-down and bottom-up) and sensitivity analyses.
  - IMF and BoE cooperated on four macroeconomic scenarios; EFSA and banks implemented six bottom-up sensitivity scenarios; IMF staff traced exchange rate shock separately.
  - Exchange rate shock of 30 percent treated as equivalent to a 30 percent increase in monthly loan service payments (approximated by a 200 basis points interest rate increase given weighted average loan maturity of 10 years).
- Macroeconomic scenarios run to 2011 with shocks assumed in 2008:
  - Risk I: real estate price correction (30 percent) + initial 13 percent decline in investment; loan growth ~10 percent.
  - Risk II: sudden stop in credit inflows from parent banks leading to negative credit growth and almost 20 percent decline in investment.
  - Combination shock: sudden stop, 30 percent real estate price drop, 50 percent increase in interest rates, negative real GDP growth.
  - Historical Scenario: shock to exports and investment similar to 1999 slowdown.
- BoE top-down results (initial values at September 2007: NPLs = 0.4 and consolidated CAR = 10.8):
  - Risk I (yr 2): NPLs 2.8; CAR 9.7. (yr 4): NPLs 2.0; CAR 6.8.
  - Risk II (yr 2): NPLs 4.2; CAR 10.2. (yr 4): NPLs 2.0; CAR 9.5.
  - Combined shock (yr 2): NPLs 5.5; CAR 6.9. (yr 4): NPLs 6.6; CAR -3.3. Under combined shock NPLs increase 14-fold to about 7 percent and banking system capital turns negative; cumulative injections in 2010–2011 required to reach 10 percent CAR would amount to 7 percent of GDP (assuming shock in 2008).
  - Historical scenario (yr 2): NPLs 3.9; CAR 10.0. (yr 4): NPLs 2.4; CAR 5.3.
- Updated stress tests (initial values at September 2008: NPLs = 1.6 and consolidated CAR = 12.9 percent):
  - Central Bank Risk Scenario (GDP: decline 4.7 percent in 2009, grow 1.5 percent in 2010):
    - LGD = 42%: NPLs (%) 2009: 4.6; 2011: 2.4. CAR (%) 2009: 11.6; 2011: 8.7.
    - LGD = 100%: NPLs (%) 2009: 4.6; 2011: 2.4. CAR (%) 2009: 8.8; 2011: 3.9.
  - Central Bank Risk Scenario + 300 bp higher interest rates:
    - LGD = 42%: NPLs (%) 2009: 5.7; 2011: 3.4. CAR (%) 2009: 11.1; 2011: 7.6.
    - LGD = 100%: NPLs (%) 2009: 5.7; 2011: 3.4. CAR (%) 2009: 7.7; 2011: 1.4.
  - IMF Staff Scenario (GDP: decline 5.0 percent in 2009 and 3.0 percent in 2010, credit contracts by 14 percent in 2009 and 3 percent in 2010, interest rates decline 270 bp):
    - LGD = 42%: NPLs (%) 2009: 4.6; 2011: 2.9. CAR (%) 2009: 13.4; 2011: 10.5.
    - LGD = 100%: NPLs (%) 2009: 4.6; 2011: 2.9. CAR (%) 2009: 10.6; 2011: 5.3.
  - Key point: Assuming LGD = 100 percent, by 2011 aggregate CAR would fall below 8 percent under all scenarios and none of the banks would fail. If LGD = 42 percent, sector only fails to meet regulatory requirements under a scenario with higher interest rates.
- Sensitivity analyses (EFSA bottom-up):
  - Income shock to households with mortgages (banks sell collateral at 50 percent discount):
    - Coverage: 58 percent of mortgages; write-offs between 1.3–6.2 percent of tested portfolio.
    - Extrapolated max write-off ~65 percent of banks’ 2007 profits; CAR remains above 9 percent for each bank.
  - Credit quality shock to corporates (downgrades 2–3 notches; LGD = 45%):
    - Coverage: 77 percent of corporate portfolio; write-offs 4 percent of tested portfolio.
    - Extrapolated write-offs <60 percent of banks’ 2007 profits; CAR remains above 9 percent for each bank.
  - Income shock to residential real estate developers (30 percent decline in sale price):
    - Coverage: 66 percent of developers’ portfolio; write-offs 4.9 percent of tested portfolio.
    - Extrapolated write-offs <7 percent of banks’ 2007 profits; CAR remains above 9 percent for each bank.
  - Exchange rate shock (30 percent depreciation):
    - IMF staff: NPLs increase to 6–10 percent; CAR could fall to as low as 5 percent in first year.
  - Aggregate observation: combined shocks of two or more scenarios could produce much larger effects than individual scenarios.

### Financial Safety Net, Crisis Management, and Policy Needs
- Emergency Liquidity Assistance (ELA):
  - Estonia operates under a currency board arrangement (CBA) that limits ability to provide liquidity support; banks required to meet a 15 percent reserve requirement.
  - BoE developing ELA proposal consistent with CBA; operational procedures for small banks from excess reserves based on ECB haircut rules.
  - Policy recommendations:
    - Formulate an ELA policy including decision basis to grant ELA; finalize plans for large bank ELA; specify collateral, lending terms, documentation.
    - BoE intent previously to decide conditions on a case-by-case basis for small banks; recommendation is to establish ex ante policies for transparency and speed.
    - ELA arrangements will need coordination with home central banks of parent banks.
- Bank Resolution Framework:
  - Current legal tools: liquidation and bankruptcy; Credit Institutions Act (CIA) provisions to revoke license, order reorganization, or total/partial moratorium; EFSA may call court for liquidation; moratorium administrator appointed during total moratorium.
  - Recommended statutory changes:
    - Adopt special resolution framework allowing sale/transfer of assets and liabilities, negotiated mergers/acquisitions, or creation of a “bridge bank.”
    - Amend law to permit authority to assume ownership of an insolvent bank without prior compensation to shareholders while preserving right of appeal; make clear appeals cannot delay takeover.
    - Authorities plan to submit legislation to broaden resolution framework to parliament early this year; MoF exploring expedited removal of officers and clarification of shareholders’ rights.
- Deposit Guarantee Fund (DGF):
  - Coverage: €50,000 since October 23, 2008 (raised from €20,000; 10 percent coinsurance dropped); new level fully covers more than 90 percent of total deposits (by value).
  - Funding: banks pay quarterly premiums at flat rate 0.125 percent of guaranteed deposits; accumulated premiums presently EEK 1.8 billion.
  - Target: Fund to reach 2 percent of guaranteed deposits (equivalent to EEK 1.8 billion at September 2008 under old coverage); at 2 percent the Fund sufficient except for two largest banks.
  - Deficiencies:
    - Fund may only be used for payments to depositors and not for facilitating resolutions; other resolution forms would require taxpayer funds.
    - Payout timing slow: required to pay within three months and begin process in 30 days; recommendation to shorten payout period and arrange contingent government lines.
    - Recommended increasing target size to 4 percent of guaranteed deposits to facilitate orderly resolution of large banks.
- Crisis Management and Coordination:
  - Existing MoUs domestically and with foreign counterparties; late-2006 MoU between MoF, BoE, and EFSA creates high-level committee to strengthen preparations.
  - Recommended actions:
    - Assess policies and measures for crises including scenarios where subsidiaries cannot obtain liquidity from parents.
    - Conduct crisis simulations including Baltic authorities and Swedish home authority; focus on information flow.
    - Authorities submitted legislation in December 2008 to speed decision-making (reduce readings from three to one) and clarify state reserve use; enactment expected in January, 2009.

### Financial Sector Supervision — Findings and Recommendations
- EFSA establishment and capacity:
  - EFSA created in January 2002; supervisory capacity improved significantly.
  - EFSA is an integrated authority overseeing credit institutions, insurance companies, investment firms, fund management companies, and capital market.
  - Legal protection provided via FSA Act (May 2001) and State Liability Act (enforced January 1, 2002).
  - EFSA staffing: comprises 70 staff; Supervisory Board authorized increase in staffing of five positions; authorities expect agency fully staffed by second quarter of 2009.
- Supervisory framework and Basel II:
  - Capital adequacy regime aligns with EU Capital Requirements Directive; new regime adopted December 2006 effective January 1, 2007.
  - From 2008 all credit institutions must use one of the new Basel II approaches.
  - EFSA issued advisory guidelines on ICAAP for Pillar 2 implementation from January 1, 2008.
  - EFSA has worked with Swedish home supervisor and Baltic host supervisors on IRB and AMA approvals and conducted joint visitations.
- Pensions oversight:
  - Pension supervision should move from compliance-based to risk-based approach; assess adequacy of reserves during payout period.
  - EFSA should prohibit tied-in sales for savers and consider measures to reduce costs.
  - Authorities liberalized maximum equity exposure limit for pension funds in response to mission recommendation.
  - Recommendations: complete regulation of payout phase; require institutional separation between asset management companies and providers of depository/custodial services.
- AML/CFT:
  - MONEYVAL evaluated Estonia in February 2008; legal framework broadly in line with international standards and improved.
  - Remaining shortcomings: financing of individual terrorists not criminalized (legislation submitted October 13, 2008 but not yet passed); shortcomings in enhanced due diligence for some high-risk transactions and sanctioning regime.

### Priority Recommendations (selected and status where provided)
- Financial Safety Net:
  - Formulate ELA policy; finalize large bank ELA plans; specify collateral, lending terms, documentation. Status: A draft proposal has been prepared.
  - Assess and coordinate crisis management policies across government; plan for scenarios where parent banks cannot provide liquidity. Status: Under consideration.
  - Conduct crisis simulation with Baltic and Swedish authorities. Status: Under consideration.
  - Adopt special bank resolution legislation for rapid transfer of assets and liabilities. Status: Work underway at MoF with target legislation prepared by Spring.
  - Strengthen DGF: contingent liquidity arrangements; increase target to 4 percent of guaranteed deposits; shorten payout period. Status: Expedited procedures in legislation submitted to parliament may provide for liquidity in a crisis.
- Financial Sector Supervision:
  - Amend supervisory framework for pensions to a risk-based approach. Status: No actions to date.
  - Implement joint BoE-EFSA macrofinancial stress tests. Status: There is communication between BFSA and BoE on stress testing.
- Pensions:
  - Complete regulation of pension payout phase to address moral hazard. Status: Completed.
  - Require institutional separation between asset managers and depository/custodial service providers. Status: Institutional separation not required; legislation to minimize conflicts of interest has been prepared.
- Other:
  - Increase EFSA staffing and strengthen ethics rules. Status: Staffing increased; ethics rules drafted awaiting approval.

### Selected Quantitative Indicators and Time Series (selected figures as provided)
- Net international investment position: minus 77 percent of GDP (September 2008).
- Banks’ liquid exposures: 75 percent of GDP (over 12 billion euros).
- Net liquid asset positions of government + central bank: 9.5 percent of GDP (equivalent to 1.5 billion euros).
- Liquid assets cover 31 percent of short-term liabilities (banking sector); including central bank reserves coverage = 38 percent.
- Foreign-currency denomination:
  - 86 percent of total loans denominated in foreign currency (mostly euros).
  - Foreign currency loans as percent of total loans: 85.68 (Sept. 2008).
- Lending and deposit ratios:
  - Private sector bank credit = 97 percent of GDP; deposits = 47 percent of GDP.
  - Loans as percent of deposits: 151.60 (Sept. 2008).
- Non-performing loans (NPLs):
  - NPLs as percent of gross loans: 1.55 (Sept. 2008).
  - NPL net of provisions as percent of Tier I capital: 13.91 (Sept. 2008).
- Capital adequacy (consolidated):
  - Regulatory capital as percent of risk-weighted assets: 12.88 (Sept. 2008).
  - Regulatory Tier I capital to risk-weighted assets: 10.10 (Sept. 2008).
- Profitability:
  - ROAA (gross profits as percent of average assets): 1.97 (Sept. 2008).
  - ROAE (gross profits as percent of average equity capital): 21.37 (Sept. 2008).
- Risk classification of loans (Millions of Kroons, selected):
  - TOTAL loans: 261,116.60 (9/2008).
  - Under special surveillance: 24,758.59 (9/2008).
  - Doubtful: 6,795.74 (9/2008).
  - Hopeless: 2,222.21 (9/2008).
- Macroeconomic stress-test parameter highlights (selected from Block 1 scenarios):
  - Residential real estate prices: -30.0% (2008); scenario years show various declines.
  - Credit growth: 9.7% (2008); scenario column shows -1.4% (2008), -13.8% (2009), -6.3% (2010), 3.1% (2011).
  - Mortgage rate: 6.0% (2008); scenario column: 8.0% (2008).
  - CPI inflation: 7.2% (2008); scenario column: 7.1% (2008).

*International Monetary Fund — Financial System Stability Assessment for the Republic of Estonia (FSAP Update, February 13, 2009). Source: IMF staff report content unit _cr0989 (text and figures as provided).*

### 2009. The views expressed in this document are those of the staff team and do not necessarily reflect

### REPUBLIC OF ESTONIA — Financial System Stability Assessment

### Executive Summary
- Report prepared by Monetary and Capital Markets and European Departments; approved February 13, 2009.
- FSAP Update mission visited Estonia from February 18–27, 2008; findings discussed during Article IV mission in May 2008; updated after staff visit in December 2008.
- FSAP Update team: Steven Seelig (Mission Chief, MCM), Nada Choueiri (EUR), Elina Ribakova (MCM), Joon Soo Lee and Heinz Rudolph (both World Bank), Goran Lind (Sveriges Riksbank); Magally Bernal (MCM) assisted.
- Main findings:
  - The Estonian banking sector has significant vulnerabilities from its real estate lending; much recent loan growth to this sector has been funded in euros, at floating rates, and used to fund long-term euro-denominated mortgages, implying both liquidity and credit risk exposure.
  - Rapid expansion of the banking sector has been funded largely by short-term foreign borrowing from parent banks, making Estonia vulnerable to a disruption in international financial markets. Estonian subsidiary banks have a maturity mismatch that makes them vulnerable to a liquidity shock.
  - Need to more fully develop the financial safety net, including implementing a lender-of-last-resort (LOLR) capability and an expanded bank resolution framework; consideration should be given to increasing the target size of the deposit guarantee fund.
  - Creation of the EFSA has improved supervision; organizational structure designed to address unique features of the Estonian financial sector. No serious weaknesses in bank supervision and regulation identified.
  - Despite global financial crisis pressures, Estonian financial system has thus far remained resilient.
- Main author: Steven A. Seelig.
- FSAP assessments focus on systemwide stability and not institution-specific risks.

### Background, Financial Structure, and Macroeconomic Risks
- Macroeconomic context:
  - Real GDP growth averaged 10 percent in 2005–2006.
  - External current account deficit widened to 18 percent of GDP by 2007.
  - Estonia joined ERM2 upon EU accession in 2004 while maintaining its currency board arrangement; targeted euro adoption in 2007 but failed to meet the Maastricht inflation criterion in 2006. Euro adoption delayed and "is now expected to take place in 2011, at the earliest."
  - Credit rating outlook changes: Moody's and S&P downgraded outlooks in late 2007 (Moody’s: positive to stable; S&P: stable to negative). In January and October 2008, S&P reaffirmed ratings and outlook; Moody’s in October 2008 downgraded the outlook to negative but maintained rating. Fitch lowered its outlook to negative at end-January 2008 and downgraded the rating by one notch in October 2008, maintaining the negative outlook.
- Recent economic developments:
  - Domestic demand considerably weakened; economy in recession since Q4 2007.
  - By end-2008, tighter credit conditions and decline in confidence led to negative growth in domestic demand as consumption and investment contracted.
- Financial structure:
  - Financial sector highly concentrated and foreign owned: two Swedish-owned banks control 68 percent of banking assets; two other Nordic-owned banks control an additional 26 percent.
  - Same institutions dominate insurance, brokerage, investment, and pension fund management sectors.
  - Exceptional economic growth recently fueled by bank lending, producing strong profitability and asset growth for Estonian banks.
  - Banks have shown strength in asset quality and earnings historically; however, credit quality is beginning to deteriorate.

### Financial Stability Assessment — Vulnerabilities
- Real estate exposure and credit quality:
  - Banks heavily concentrated in real estate loans; market weakened and prices are falling.
  - Housing loans 60 days past-due have almost doubled during the past six months, albeit from low levels.
- Funding and liquidity risks:
  - Rapid expansion of mortgage lending funded by shorter-term foreign borrowing, leaving maturity mismatch and liquidity vulnerability.
  - Loan growth to the real estate sector was funded in euros, at floating rates, from parent banks and used to fund long-term euro-denominated floating rate mortgages.
  - Banks’ short-term liquidity exposure in foreign currencies significantly exceeds Estonia’s international reserves — identified as a foreign exchange vulnerability.
  - Late September (2008) run on one of the large banks confirmed vulnerability to liquidity shocks; liquidity problems were avoided by home-country central bank policy actions that allowed the parent to provide sufficient liquidity to Baltic subsidiaries.
- Policy and institutional constraints:
  - Estonia operates under a currency board that limits ability to provide liquidity support to banks; relatively high reserve requirements provide a partial buffer.
  - Bank of Estonia (BoE) developed procedures for meeting funding needs of banks that would apply only to small banks; conditions and policies will be decided case-by-case.
  - Authorities developed a plan to provide ELA to large foreign-owned banks with support of a neighboring central bank; considered essential to avoid severe system compromise during a liquidity crisis.
- Safety net and resolution framework:
  - Need to more fully develop the financial safety net, including an expanded bank resolution framework.
  - With a more robust resolution framework, the deposit guarantee fund could provide effective limited coverage of the entire system if the target amount were doubled to 4 percent of guaranteed deposits.

### Stress Tests (methodology referenced; detailed scenarios in main report)
- Stress test highlights (full methodology in Box 2 and scenarios in Appendix):
  - Stress tests explore macroeconomic scenarios, additional economic downturns, and sensitivity analyses.
  - Results confirm vulnerability to severe downturns and liquidity shocks linked to real estate exposure and foreign funding reliance.
  - Banks increased provisions as NPLs rose; increase in lending rates and spreads offset some impact on earnings.

### Financial Safety Net and Crisis Management — Key Needs and Actions
- Emergency Liquidity Assistance (ELA):
  - Formulate a policy for ELA, including decision basis to grant ELA; complete plans for large bank ELA; finalize procedures for collateral required, terms for lending, and documentation.
  - Authorities developed a plan to provide ELA to large foreign-owned banks with support of a neighboring central bank.
- Crisis management:
  - Assess policies and measures across governmental bodies for crisis management, including scenarios where Estonian banks cannot obtain liquidity from parents.
  - Conduct crisis simulation exercises with other Baltic authorities responsible for subsidiaries and Swedish authorities responsible for parent banks.
- Bank resolution framework:
  - Adopt legislation introducing a special resolution framework allowing quick transfer of assets and liabilities of an insolvent bank.
- Deposit Guarantee Fund (DGF):
  - Strengthen DGF by:
    - establishing contingent liquidity arrangements to assure sufficient funding for a larger failure;
    - increasing the target size of the fund to 4 percent of guaranteed deposits;
    - adopting measures to shorten the payout period from the guarantee fund.

### Financial Sector Supervision — Findings and Recommendations
- Supervision and regulation:
  - The creation of EFSA has improved supervision; EFSA organizational structure designed to address unique Estonian features.
  - Bank supervisory framework aligns with international standards and practices; capital adequacy regime consistent with EU Capital Requirements Directive.
  - Supervisory board of EFSA increased staffing to meet demands of Basel II and Solvency 2.
  - Most weaknesses from the 2000 Basel Core Principles Assessment have been addressed.
- Pensions oversight:
  - Regulatory framework for pension fund oversight should be strengthened: move from compliance-based to risk-based supervision, including assessing adequacy of reserves during payout period.
  - EFSA should prohibit requiring savers to purchase other products from the same firm and consider measures to reduce costs.
  - Authorities liberalized the investment limit on the maximum equity exposure allowed for pension funds in response to mission recommendation.
  - Recommendations: complete regulation of payout phase to address potential moral hazard; require institutional separation between asset management companies and providers of depository/custodial services.
- Other supervisory actions:
  - Implement joint BoE-EFSA macrofinancial stress tests.

### Priority Recommendations (Box 1 summary)
- Financial Safety Net:
  - Formulate ELA policy; finalize large bank ELA plans; specify collateral, lending terms, documentation.
  - Assess and coordinate crisis management policies across government; plan for scenarios where parent banks cannot provide liquidity.
  - Conduct crisis simulation with Baltic and Swedish authorities.
  - Adopt special bank resolution legislation for rapid transfer of assets and liabilities.
  - Strengthen DGF: contingent liquidity arrangements; increase target to 4 percent of guaranteed deposits; shorten payout period.
- Financial Sector Supervision:
  - Amend supervisory framework for pensions to a risk-based approach.
  - Implement joint BoE-EFSA macrofinancial stress tests.
- Pensions:
  - Complete regulation of pension payout phase to address moral hazard.
  - Require institutional separation between asset managers and depository/custodial service providers.

*International Monetary Fund — Financial System Stability Assessment for the Republic of Estonia (FSAP Update, February 13, 2009).*

### 3. A decline in the real estate market is also underway. Housing prices had soared at

### 3. A decline in the real estate market is also underway. Housing prices had soared at

### Real estate market developments
- Housing prices had soared at the height of the real estate market boom at the end of 2005.
- The market started easing in 2006 and has seen a marked contraction over the past two years.
- Average prices fell by about 20 percent during 2008, after declining by nearly 10 percent in 2007.
- Selling periods have considerably lengthened.
- Impact on household defaults has been limited through end-2008.
- Tighter credit standards for developers have limited risk in residential construction lending.

### Company profits, inflation, and labor market pressures
- Inflation peaked at 12 percent in June 2008 (y-o-y), driven by core inflation and significant contribution from food and fuel price increases.
- Inflation subsequently dropped under 8 percent by year end, driven by both the recession at home and the drop in international oil and food prices.
- Domestic growth and new employment opportunities in the EU led to a sharp fall in the unemployment rate to 4⅔ percent in 2007—the lowest level in Estonia’s post-transition history.
- Real wages rose by 14 percent, exacerbating the rise in unit labor costs that began in mid-2005.
- Company profits began to erode from high levels; the recession plus still-high wage growth in 2008 further reduced profitability and raised the specter of increased bankruptcies.
- Rising past-due loans are likely to affect bank profitability.

### Aggregate balance sheet and foreign exchange (FX) risk
- Net international investment position reached minus 77 percent of GDP in September 2008.
- 60 percent of the net international investment position is explained by the banking sector’s net foreign liability position.
- The bulk of that position (47 percent of GDP) is foreign-currency (FX) denominated.
- Banks’ FX exposure to nonresidents is more than covered by their net FX credit position vis-à-vis households and corporates, but households’ and corporates’ FX exposures are largely unhedged.
- So long as the currency board arrangement holds, these exposures would not pose a significant risk.
- Note: Corporate FX earnings data was unavailable; remittances remain very small—a few hundred million euros per year.

### Liquidity exposures and coverage
- Banks’ liquid exposures reached 75 percent of GDP (over 12 billion euros).
- Net liquid asset positions of the government and the central bank combined equal 9.5 percent of GDP, equivalent to 1.5 billion euros.
- Concentration of household loans in mortgages (long maturities) leaves only 28 percent of banks’ short term liabilities covered by liquid assets.
- Including the central bank’s short term reserves under the currency board arrangement would increase coverage to 38 percent.
- About 40 percent of the banking sector’s nonresident liabilities have maturities over 12 months (temporary safety valve).
- Changes in methodology treat all interbank borrowings as short-term.
- Short-term FX assets minus short-term FX liabilities (net FX liquidity positions) show significant negative positions for banks by sector (Figure 5 referenced).

### Mitigating factors and parent-bank links
- Most liquidity exposure of Estonian banks is to their Swedish parents.
- Parent institutions would in most circumstances be unlikely to cut off subsidiary funding as Baltic operations are strategic long-term investments.
- Parent institutions rely on international markets for funding; a broader international shock or loss of confidence in parent groups could have significant impact on Estonia.

### Financial structure and market concentration
- Private sector bank credit equals 97 percent of GDP; deposits equal 47 percent of GDP.
- Banking sector is 96 percent controlled by Nordic institutions.
- Two subsidiaries of Swedish banks—Swedbank and SEB—hold over 68 percent of the sector’s assets.
- An additional 25 percent is held by the branches of Nordea (Finland) and Danske banks in roughly equal shares.
- During the first nine months of 2008, Baltic operations accounted for 28 percent of Swedbank’s and 21 percent of SEB’s profits.

### Credit growth and lending behavior
- Growth of bank credit to the private sector exceeded 60 percent (excluding leasing credit) in 2005–06.
- Credit growth dropped to 33⅓ percent by end-2007 and continued to decline to about 10 percent for 2008.
- Decline was initially prompted by Estonia’s two major banks after the February 2007 exchange crisis in Latvia; by mid-2007 decline became increasingly demand-driven.
- Banks tightened credit standards, required additional collateral, and added a 3 percentage point risk premium to lending rates.

### Banking sector soundness and early signs of stress
- Profitability was among the highest in Europe prior to the downturn; cost-to-income ratio averaged 45 percent.
- NPLs have remained extremely low in recent years; gross NPLs were 1.5 percent of the total portfolio at end-September, 2008.
- The share of loans past due 30 days has been steadily increasing, serving as a leading indicator of future increases in NPLs.
- Recession effects on banking sector performance indicators are expected with a lag.
- Deterioration in bank liquidity ratios and increasing reliance on external borrowing are important vulnerabilities.

### Parent-bank vulnerabilities and spillovers
- Market indicators suggest increased vulnerability of Swedish parent banks: share prices fell substantially relative to Nordic indices; Moody’s KMV estimated increased default probabilities for SEB, Swedbank, Nordea.
- Capital ratios have been falling, especially for Swedbank, though they remain above the 8 percent minimum.
- Swedbank was downgraded twice by Moody’s during 2008: bank financial strength rating lowered to C+ on October 1 and credit rating lowered to Aa3.
- Swedbank derives 29 percent of total operating profits from the Baltics.
- In late September/early October 2008 Swedbank experienced a deposit outflow after negative press; this led to deposit outflows from its Estonian subsidiary and other Baltic subsidiaries.
- A liquidity crisis was averted by Swedish authorities expanding eligible collateral at the Riksbank and encouraging Swedbank to use central bank borrowings.

### Capital, risk weights, and mortgage exposures
- Rapid loan growth led to leverage ratio (capital as percent of total assets) steadily declining since 2000.
- Regulatory capital ratios increased with the introduction of IFRS, but provision coverage for NPLs came down substantially due to restrictions on forward-looking provisions.
- In 2008 Basel II implementation changed risk weight on mortgage lending to 60 percent from 100 percent previously.
- The CRD allows a 35 percent risk weight on residential mortgages but permits national authorities to set higher risk weights where LTVs exceed 75 percent, as in Estonia.
- In view of the weakening real estate market, retaining the 100 percent risk weight would have been more prudent.

### Concentration, FX exposures, and maturity mismatches
- Lending is heavily concentrated in the real estate sector: mortgages account for 40.4 percent of credit to the private sector; real estate, renting and business activities account for 24.5 percent (sectoral distribution as of December 2007).
- Some mortgages were made at 90 percent of purchase price with debt service coverage ratio of 40 percent.
- Mortgages are typically denominated in euros with floating interest rates.
- Some 86 percent of total loans are denominated in foreign currency (mostly euros).
- Banks are long in euros; mortgage credit to households is nearly all euro denominated while households earn kroon income—converting FX risk to credit risk if the currency board were not maintained.
- Almost half of banking sector liabilities have remaining maturities of one month or less; 46 percent of bank loans have maturities greater than ten years and about half of these exceed 25 years.
- Liquid assets cover 31 percent of short-term liabilities for the banking sector, indicating significant vulnerability to a liquidity shock.
- At end-October, 2008, liabilities with maturities of one month or less were 46 percent of total liabilities, and those with remaining maturities of 90 days or less were 59 percent of the total.

### Policy-relevant observations and implications
- So long as the currency board arrangement holds, FX-denominated exposure risks are significantly mitigated.
- Given high LTVs and a weakening real estate market, maintaining a 100 percent risk weight on mortgage lending would have been more prudent than the 60 percent risk weight adopted in 2008.
- Reliance on parent-bank funding implies that the ability and willingness of parents (and their home-country authorities) to provide liquidity is critical to domestic bank stability.
- Monitoring of loans past due 30 days is important as a leading indicator for future NPL increases.
- Liquidity coverage enhancement and contingency plans for parent-funding disruptions are essential given concentrated short-term liabilities and long-term mortgage assets.

*Source: IMF staff report content unit _cr0989 (text and figures as provided).*

### 21.      Stress tests assessed the resilience of the system to extreme, but plausible, shocks

### 21.      Stress tests assessed the resilience of the system to extreme, but plausible, shocks

### Stress testing methodology and scope
- Two types of stress tests: macroeconomic scenarios (top-down and bottom-up) and sensitivity analyses.
- IMF and BoE cooperated on four macroeconomic scenarios; two were run bottom-up by banks while all four were run top-down by the BoE using aggregated financial reports data.
- EFSA and banks implemented six bottom-up sensitivity scenarios; IMF staff traced separate impact of an exchange rate shock.
- For top-down tests, BoE first calculated NPLs for four years ahead as a function of nominal GDP growth and interest rates, then adjusted ROAA and risk-weighted assets using expert judgment, and assumed LGD = 100 percent with loan losses written off the same year to calculate capital and CARs.
- Sensitivity analyses imposed univariate shocks on subsets of bank portfolios; banks ran shocks and EFSA aggregated results assuming normal distributions.
- Foreign exchange risk was analyzed indirectly as a shock to borrowers’ debt service capacity; an exchange rate shock of 30 percent was treated as equivalent to a 30 percent increase in monthly loan service payments (approximated by a 200 basis points interest rate increase given a weighted average loan maturity of 10 years).

### Macroeconomic scenarios (design and assumptions)
- Scenarios were run out to 2011 (shocks assumed to occur in 2008 for baseline testing) and included:
  - Risk I: sharp correction in real estate prices (30 percent) coupled with an initial 13 percent decline in investment but continued positive loan growth of almost 10 percent.
  - Risk II: sudden stop in credit inflows from parent banks leading to negative credit growth coupled with an almost 20 percent decline in investment and negative real GDP growth.
  - Combination shock: simultaneous sudden stop in capital inflows, real estate price drop of 30 percent, a 50 percent increase in interest rates, and slowdown of economic activity with negative real GDP growth.
  - Historical Scenario: shock to exports and investments similar to the 1999 slowdown leading to an increase in NPLs to a recent peak level.
- Footnotes/assumptions preserved:
  - Banks are required to meet a 15 percent reserve requirement and are not subject to an additional liquidity requirement.
  - The 30 percent real estate price decline was considered severe but reasonable; prices had already fallen 15 percent from their peak in 2006 when the tests were performed. A 50 percent decline was included in sensitivity analysis.

### Top-down test results (BoE) — summary of main outcomes (Table 2)
- Initial values at September 2007: NPLs = 0.4 and consolidated CAR = 10.8.
- Real estate price shock (Risk I) — All banks (BoE top-down):
  - NPLs (%) yr 2: 2.8
  - NPLs (%) yr 4: 2.0
  - CAR (%) yr 2: 9.7
  - CAR (%) yr 4: 6.8
  - Two largest banks (72% of system) ran bottom-up tests (results n.a. to staff); bottom-up indicated only marginal decline below regulatory limit.
- Funding shock (Risk II) — All banks (BoE top-down):
  - NPLs (%) yr 2: 4.2
  - NPLs (%) yr 4: 2.0
  - CAR (%) yr 2: 10.2
  - CAR (%) yr 4: 9.5
  - Two largest banks (68% of system) ran bottom-up tests (results n.a. to staff); bottom-up indicated only marginal decline below regulatory limit.
- Combined shock — All banks (BoE top-down):
  - NPLs (%) yr 2: 5.5
  - NPLs (%) yr 4: 6.6
  - CAR (%) yr 2: 6.9
  - CAR (%) yr 4: -3.3
  - Under the combined shock NPLs increase 14-fold to about 7 percent of total loans at the peak and banking system capital turns negative.
  - Assuming the shock occurs in 2008, cumulative injections in 2010–2011 required to bring the system to the minimum required capitalization of 10 percent would amount to 7 percent of GDP.
- Historical scenario — All banks (BoE top-down):
  - NPLs (%) yr 2: 3.9
  - NPLs (%) yr 4: 2.4
  - CAR (%) yr 2: 10.0
  - CAR (%) yr 4: 5.3

### Bottom-up results and comparison
- Bottom-up tests run by the two largest banks generally confirmed top-down results but showed much milder impacts, largely due to lower LGD assumptions based on banks’ own portfolios.
- Banks were not able to run the combined shock in time but agreed it would impose a greater challenge than isolated shocks.

### Updated stress tests (December 2008) and alternative scenarios (Table 3)
- Initial values at September 2008: NPLs = 1.6 and consolidated CAR = 12.9 percent.
- Several macro scenarios tested:
  - Central Bank Risk Scenario: GDP declines by 4.7 percent in 2009 and grows by 1.5 percent in 2010; credit growth barely positive in 2009 and grows by 2 percent in 2010.
    - LGD = 42%: NPLs (%) 2009: 4.6; 2011: 2.4. CAR (%) 2009: 11.6; 2011: 8.7.
    - LGD = 100%: NPLs (%) 2009: 4.6; 2011: 2.4. CAR (%) 2009: 8.8; 2011: 3.9.
  - Central Bank Risk Scenario with higher interest rates (same as above plus 300 bp higher interest rates):
    - LGD = 42%: NPLs (%) 2009: 5.7; 2011: 3.4. CAR (%) 2009: 11.1; 2011: 7.6.
    - LGD = 100%: NPLs (%) 2009: 5.7; 2011: 3.4. CAR (%) 2009: 7.7; 2011: 1.4.
  - IMF Staff Scenario of more severe downturn and with credit contraction: GDP declines by 5.0 percent in 2009 and 3.0 percent in 2010 before growing by 3.0 percent in 2011; credit contracts by 14 percent in 2009 and 3 percent in 2010 before growing by 1 percent in 2011, accompanied by a 270 bp decline in interest rates over the period.
    - LGD = 42%: NPLs (%) 2009: 4.6; 2011: 2.9. CAR (%) 2009: 13.4; 2011: 10.5.
    - LGD = 100%: NPLs (%) 2009: 4.6; 2011: 2.9. CAR (%) 2009: 10.6; 2011: 5.3.

- Key point: Assuming LGD = 100 percent, by 2011 the aggregate CAR would fall below 8 percent under all scenarios and none of the banks would fail. If LGD = 42 percent, the sector only fails to meet regulatory requirements under a scenario that entails higher interest rates.

### Sensitivity analyses (EFSA bottom-up) and key quantitative outcomes (Table 4)
- Income shock to households with mortgages (four scenarios for default; banks sell collateral at 50 percent discount):
  - Coverage: 58 percent of all banking sector mortgages.
  - Write-offs between 1.3–6.2 percent of tested portfolio.
  - When extrapolated to entire banking sector, maximum write-off is about 65 percent of banks’ 2007 profits, and CAR remains above 9 percent for each bank.
- Credit quality shock to corporates (corporates downgraded 2–3 notches; LGD = 45%):
  - Coverage: 77 percent of the banking sector’s corporate portfolio.
  - Write-offs amount to 4 percent of tested portfolio.
  - When extrapolated to entire banking sector, write-offs are less than 60 percent of banks’ 2007 profits, and CAR remains above 9 percent for each bank.
- Income shock to residential real estate developers (30 percent decline in sale price relative to budgeted price):
  - Coverage: 66 percent of banks’ portfolio of residential real estate developers.
  - Write-offs amount to 4.9 percent of tested portfolio.
  - When extrapolated to entire banking sector, write-offs are less than 7 percent of banks’ 2007 profits and CAR remains above 9 percent for each bank.
- Exchange rate shock (30 percent depreciation):
  - All banks (IMF staff): NPLs increase to 6–10 percent, and CAR could fall to as low as 5 percent in the first year.
- Aggregate observation from sensitivity analysis:
  - Losses largest from overall shocks to household and corporate incomes; reduced profits still cover a large share of write downs (ranging from 0.5 to 4.7 billion EEK) and effect on capital is moderate with only a few banks’ capital falling below the 10 percent requirement, and then by less than a percentage point.
  - A realistic combined shock of two or more sensitivity scenarios would compound impacts and could produce a much larger effect than individual-scenario results.

### Exchange rate shock implications
- A 30 percent depreciation in the Kroon was assumed equivalent to a 30 percent increase in monthly loan service; with weighted average loan maturity of 10 years, this approximates a 200 basis points interest rate increase.
- Under baseline GDP growth and credit growth assumptions, BoE’s model projected NPLs to increase to 6 percent of loans by end-2011.
- Bottom-up perspective: many foreign-exchange loans go to non-export oriented sectors and households with no proven foreign-exchange income; devaluation is equivalent to a combination of EFSA sensitivity shocks (income shock of 25 percent plus corporate downgrades 2–3 notches), producing NPLs between 6 and 10 percent and reducing aggregate CAR to about 5 percent in the first year.

### Overall assessment and vulnerabilities
- Despite economic deterioration, absent a major liquidity squeeze, Estonia’s banking system should remain resilient.
- Factors mitigating impact: likely drop in interest rates and healthy gains in capital accrued during 2008; these mitigate global crisis effects on income and balance sheet performance.
- Key vulnerability: further intensification of global liquidity pressures could raise interest costs to Estonian banks and their borrowers and materially worsen outcomes.

### Risk mitigation, financial safety net, and policy recommendations
- Existing policy measures:
  - Banks required to maintain reserve requirements of 15 percent.
  - Minimum capital requirements of 10 percent (higher than the 8 percent international norm).
  - A limited deposit guarantee scheme.
  - Given strict currency board arrangement (CBA), no emergency liquidity facility exists.
- Assessment: The current framework provides at least a partial buffer but may be insufficient to cope with a crisis; need to develop further policy instruments to deal with market and other shocks.
- Emergency Liquidity Assistance (ELA) recommendation:
  - Estonia has not had a policy or standing facility for ELA.
  - BoE should formulate a policy for ELA, including the basis for taking a decision to grant ELA.
  - Work done to identify collateral required, terms for lending, interest to be charged, and documentation; BoE’s Monetary Policy Committee has approved this framework.
  - Policy should clearly take into account constraints under the currency board arrangement while recognizing need to provide liquidity in a crisis.
  - Current BoE intent is to decide conditions for ELA on a case-by-case basis rather than establish a policy for small banks; recommendation is to establish basic ex ante policies to improve transparency and allow speedier action.

*Source: _cr0989 - 21.      Stress tests assessed the resilience of the system to extreme, but plausible, shocks*

### 33.      In response to the recommendations of the FSAP-Update mission, the BoE has

### _cr0989 - 33.      In response to the recommendations of the FSAP-Update mission, the BoE has

### Emergency Liquidity Assistance (ELA) and Central Bank Arrangements
- The BoE has been developing a proposal for an ELA capability consistent with its CBA.
- Any ELA will need coordination with home central banks of parent banks to:
  - assure banking groups are not given access to excessive funding, and
  - allow home supervisor and central bank access to up-to-date information about the condition of the banking group.
- Given limitations of Estonia’s CBA, the ELA arrangement may require close cooperation of neighbor central banks.
- The BoE has developed operational procedures for extending liquidity to small banks from its excess reserves, based on the haircut rules of the ECB.
- Note: Other countries with currency boards, such as Lithuania, have put in place ELA facilities with strict restrictions on their use.

### Bank Resolution Framework
- Current legal tools:
  - General legislation exists for liquidation and bankruptcy.
  - Special provisions in the Credit Institutions Act (CIA) give the EFSA mandate to revoke a bank license, order a bank to submit a reorganization plan, or order a total or partial suspension of a bank’s activities (“a moratorium”).
  - The EFSA may call on a court to issue an order for liquidation or bankruptcy.
  - A moratorium administrator is appointed during a total moratorium; during a total moratorium the bank will not make payments to depositors and other creditors.
  - A partial moratorium is used only to stop specific services or practices and is typically not used to address solvency problems.
- Identified needs and recommended statutory changes:
  - A more far-reaching framework is called for to protect franchise value temporarily while assessing and resolving financial problems without undermining system confidence or causing macroeconomic disruption.
  - Statutory measures should allow for resolution techniques such as selling assets and liabilities, negotiating mergers or acquisitions, or creating a “bridge bank.”
  - Law should be amended to permit the authority operating the resolution framework to assume ownership of an insolvent bank without prior compensation to shareholders, while preserving shareholders’ right of appeal to a court and potential compensation if the court finds the bank was not insolvent.
  - The law should make clear that a shareholder appeal cannot delay the authorities’ takeover of the bank.
- Authorities’ actions:
  - Authorities plan to submit legislation aimed at broadening the resolution framework to parliament early this year.
  - The Ministry of Finance (MoF) is exploring options to revise moratorium, resolution, and bankruptcy regimes to provide greater flexibility, including:
    - measures to expedite removal of bank officers,
    - clarification of treatment of shareholders’ governance and property rights in the resolution process,
    - expedited examination processes.

### Deposit Guaranty Scheme
- Coverage and recent changes:
  - Estonia has deposit insurance limited to €50,000.
  - The limited deposit guarantee program has been in place since 2002.
  - In response to the recent crisis, on October 23, 2008 the deposit insurance limit was raised from €20,000 and the 10 percent coinsurance feature was dropped.
  - The new level of coverage fully covers more than 90 percent of total deposits (by value) in the banking sector.
  - Following EU rules, deposits at branches of foreign banks are covered by the home country deposit insurer.
- Funding and targets:
  - Banks pay quarterly premiums at a flat rate of 0.125 percent of the amount of each bank’s guaranteed deposits.
  - The accumulated amount of premiums is presently EEK 1.8 billion.
  - Authorities’ target is to have the Fund reach 2 percent of the amount of guaranteed deposits (equivalent to EEK 1.8 billion at September 2008, under the old level of coverage), at which time levies on insured institutions may be reduced.
  - No action to reduce premiums has been taken.
  - At 2 percent of guaranteed deposits the Fund would be sufficient to cover guaranteed deposits at all but the two largest banks.
  - A fund of EEK 2 billion could pay out to depositors the full amount of guaranteed deposits, less the 10 percent coinsurance at all but the two largest banks. The size of guaranteed deposits at each of the two largest banks is larger than the size of the Fund.
- Deficiencies identified:
  - The Fund may only be used for payments to bank depositors and not for facilitating resolutions of banks; consequently, any resolution other than straight liquidation and depositor payout will require taxpayer funds.
  - Payout timing is slow: the guarantee fund is required to pay within three months and begin the process in 30 days. The Fund should be able to compensate claimants more quickly through technical arrangements and pre-arranged government/Parliament loans or guarantees. The MoF indicated it is pursuing these recommendations but will follow the lead of the EU on shortening pay-out periods. To date there has been no legislative initiative to provide the Fund with a government back-up line of credit.
  - The target amount set for the Fund is insufficient given the concentrated banking structure. Based on international experience, a ratio of 4 percent should provide sufficient funds to facilitate an orderly resolution of the large banks by covering negative net worth (though not guaranteed deposits).

### Crisis Management
- Existing arrangements:
  - A wide range of Memoranda of Understanding (MoUs) exist among domestic government agencies and with relevant foreign counterparties for information sharing, cooperation, and roles/mandates in a crisis.
  - A late-2006 MoU between the MoF, BoE, and EFSA creates a high-level committee that meets in non-crisis times to strengthen crisis preparations.
  - International bilateral and multilateral MoUs exist (e.g., central banks of the Baltic countries and the Swedish central bank); authorities participate in EU crisis management initiatives, such as the April 2008 MOU.
  - Authorities have conducted crisis simulation exercises, both internationally and domestically.
- Recommended exercises and focus:
  - Conduct a crisis simulation assuming problems at one of the larger Estonian banks active within the Baltics to identify policy weaknesses, communication problems, and needed information.
  - Include authorities from other Baltic nations and the Swedish home authority, mirroring the recent Nordic-Baltic exercise.
  - Focus specifically on information flow between the Baltic countries.
- Legislative actions:
  - In December 2008 authorities submitted to Parliament legislation to speed up decision-making during a crisis by reducing readings of crisis legislation from three to one and clarifying that the state reserve can be used to address a financial crisis.
  - Authorities expect enactment in January, 2009.

### Financial Sector Supervision — Bank Supervision
- Institutional roles:
  - Financial sector supervision is conducted by the EFSA in cooperation with the MoF and BoE.
  - The EFSA is an integrated supervisory authority overseeing credit institutions, insurance companies, investment firms, fund management companies, and the capital market.
  - The MoF drafts legislation and issues secondary legislation for insurance and securities; the BoE issues banking regulations.
- Capacity and progress:
  - EFSA’s supervisory capacity appears to have improved significantly since its establishment in 2002.
  - Unification of three separate supervision bodies into a consolidated authority strengthened operational independence, especially for securities and insurance supervision.
  - Most weaknesses identified in the Basel Core Principles (BCP) assessment during the 2000 FSAP have been addressed.
  - Legal protection was provided to the supervisory agency and its staff in 2002 with the EFSA Act and amendments to the State Liability Act.
  - Most employees have participated in internal and external training including Basel II; however, staff is stretched with Basel II implementation demands.
- Capital adequacy and Basel II:
  - The capital adequacy regime aligns with international standards and the EU Capital Requirements Directive.
  - In December 2006 the new capital adequacy regime was adopted, effective January 1, 2007.
  - All banks chose to calculate adequacy in 2007 on the former system; from 2008 all credit institutions must start using one of the new Basel II approaches.
  - For Pillar 2 implementation from January 1, 2008, EFSA issued advisory guidelines on “requirements to the internal capital adequacy assessment process (ICAAP)” based on CEBS guidelines.
  - EFSA has worked with Swedish home supervisor and Latvian and Lithuanian host supervisors on IRB and AMA approval processes and has conducted joint visitations and inspections with the Swedish FSA and other Baltic authorities.
- Home-host cooperation:
  - As of 2007, EFSA signed fifteen home-host agreements with supervisory authorities of nine countries, including Denmark, Finland, Germany, Latvia, Lithuania, Sweden, Switzerland, Cyprus, and Netherlands.
  - EFSA signed group-based agreements with Finnish FSA for banking groups Nordea and Sampo, and is participating in drafting group-based agreements concerning the two largest banks with the Swedish FSA and a MoU with the Bank of Russia.
- Supervision quality and constraints:
  - No serious weaknesses identified; EFSA conducts prudential supervision independently and professionally in close cooperation with BoE, MoF, and home (especially Sweden) authorities.
  - Estonian financial and supervision regulations are harmonized with EU rules; systemically important banking groups appear closely monitored.
  - The function-based organization structure of EFSA is appropriate given Estonia’s concentrated financial system.
  - Staffing constraints:
    - Number of staff on-duty is low relative to international standards given need for more extensive on-site verification.
    - About 10–15 percent of the staff are on leave at any time.
    - Supervisory Board authorized an increase in staffing of five positions; authorities believe the agency should be fully staffed by the second quarter of 2009.
    - EFSA prepared draft revisions to ethics rules but central bank agreement on necessity has not been reached.

### Supervision of Private Pension Funds
- Industry and system:
  - Estonia has a growing pension fund industry operating efficiently within a 3 pillar pension system: Pillar I (government pension), Pillar II (mandatory private investment), Pillar III (tax-incentivised private savings).
- Supervisory weaknesses and risks:
  - Current supervision is insufficient to ensure asset managers act in contributors’ best interest.
  - With the exception of integrity standards and some internal control mechanisms (not tested or supervised), nothing prevents potential fraud or misappropriation by pension fund managers.
  - More than 80 percent of pension fund portfolios are invested abroad, with sizable participations in countries with soft regulation on front-running or self-dealing.
  - Absent stronger EFSA supervision, Estonian pension funds face increased risk of wrongdoing by managers.
- Recommended changes:
  - Move supervision from a compliance-based approach to a risk-based approach to address credit and operational risks of pension funds and asset managers.
  - EFSA should prohibit tied-in sales in marketing of pension accounts.
  - EFSA should request more transparency in fees paid by the pension fund to intermediaries, including brokerage fees and asset management fees on UCITS and other investment funds.
  - Improve accounting system to distinguish expenditures attributed to the pension system versus other managed funds.

### Anti-Money Laundering (AML/CFT)
- MONEYVAL evaluation and findings:
  - MONEYVAL evaluated Estonia’s AML/CFT framework in February 2008; report adopted at plenary session in December.
  - Conclusion: Estonia’s legal framework for AML/CFT is broadly in line with international standards and has improved since the last evaluation.
  - Estonia has improved legal framework for criminalizing money laundering and ratified the United Nations Convention on the Suppression of Terrorist Financing.
  - MONEYVAL concluded Estonia significantly improved legal framework for criminalizing financing of terrorism.
- Remaining shortcomings:
  - Financing of individual terrorists is not criminalized; authorities submitted legislation to parliament on October 13, 2008 to address this issue, but it has not yet passed.
  - Shortcomings remain regarding enhanced due diligence for some higher-risk transactions and in the sanctioning regime for violations.
  - Some shortcomings were noted in the effectiveness of implementation of preventive measures.

*Source: _cr0989 - 33. In response to the recommendations of the FSAP-Update mission, the BoE has*

### 57.      In accordance with the agreement between the Fund and MONEYVAL, once the

### _cr0989 - 57.      In accordance with the agreement between the Fund and MONEYVAL, once the

### Supervisory framework — follow-up to 2000 FSAP recommendations
- Establishment and legal protection
  - Establishment of the FSA in January 2002 addressed many 2000 FSAP recommendations.
  - FSA Act passed May 2001 and State Liability Act enforced January 1, 2002 ensure legal protection of supervisors.
- Institutional independence and powers
  - FSA satisfies operational and budgetary autonomy; accountable to parliament.
  - EFSA’s powers include the right to issue and revoke banking licenses; secondary legislation issuance limited to central bank (banking) and MoF (securities and insurance).
- Resourcing and staffing
  - EFSA comprises 70 staff (post-2005 organizational change to functional units).
  - Flexible salary structure to attract and retain staff.
- Items not completed or only partially addressed
  - Self-regulatory organization (SRO) for Savings and Loans Associations: Not done (agency established as forum without supervisory functions).
  - MoU with Securities Inspectorate: Not applicable (Inspectorate merged into FSA).
  - Provision of stronger assurances for Deposit Guarantee Fund (DGF) access to funding (e.g., government EEK 700 million automatic credit line to be reduced as DGF reaches 3 percent of insured deposits): Not addressed (DGF can borrow but no statutory assurances).

### Regulatory framework — enactments and changes
- Loan loss provisioning
  - Decree No. 9 by Governor of BoE on loan classification and loan-loss provisioning signed June 27, 2000, enforced July 1, 2000. Status: Done.
- Insurance and securities
  - Rules on derivatives in insurance sector in line with EU: Done.
  - New Insurance and Securities Law: Law passed in 2001, amended in 2007 to align with EU: Done.
- Tax distortion affecting capital market investment: Done (distortion removed).

### Cross-sectoral and international collaboration
- MoUs and membership
  - MoUs on information sharing with relevant host and home supervisors: Done except MoU with Russia still in process.
  - MoUs with home supervisors of insurers: Done.
  - Estonia joined IOSCO in 2001 but relevant MoU still in process (Partly done).
  - Collaboration framework for solvency and liquidity crises: Done (through MoUs).

### Payment systems
- New payments system implemented from January 21, 2002: Done.
- Rules dealing with participants' financial risks: Not addressed (authorities feel not needed given system size and reliance on legal reserve monitoring and FX window activity).
- Limits and guarantees to prevent systemic failure from single participant failure: Done (within two-pronged payments system since 2002).
- e-money institution act passed October 2005 and enforced January 2006; no such institution created yet.
- Oversight of private card payment organization: In progress (authorities considering options and participating in EU-wide discussions).

---

### APPENDIX II — Main recommendations, priorities, and status (selected)
- All / High
  - Formulate ELA policy; coordinate with major home countries (notably Sweden). Status: A draft proposal has been prepared.
- Banking / High
  - Assess policies and measures for crises including liquidity loss from parents. Status: Under consideration.
  - Conduct crisis simulation exercise including Hansapank’s Baltic subgroup with Baltic and Swedish authorities. Status: Under consideration.
- Pension / High
  - MoF to complete regulation of payout phase including moral hazard issues. Status: Completed.
- All / Medium
  - Increase staffing of EFSA and strengthen code of conduct. Status: Staffing increased.
- Banking / Medium
  - Implement joint EFSA–BoE macroeconomic stress tests. Status: There is communication between BFSA and BoE on stress testing.
  - Conclude group-specific MoUs for Hansapank’s sub consolidated group. Status: Swedish FSA awaiting CEBS templates before drafting group MoUs.
  - Reconsider coinsurance feature of DGF. Status: Coinsurance removed in Oct. 2008.
  - Consider ways to shorten payout period from Guarantee Fund. Status: Consideration being given in the context of EU efforts.
- Pension / Medium
  - MoF to develop minimum standards for asset management for pension fund managers. Status: No action to date.
  - Develop framework guiding fee structure of pension fund managers. Status: No action; needs further analysis.
- Medium-term Banking / High
  - Draft resolution framework to allow transfer of assets and liabilities of insolvent bank without formal bankruptcy; introduce temporary administrator legislation. Status: Work underway at MoF with target of having legislation prepared by Spring.
  - Strengthen Guarantee Fund: (i) contingency plans for liquidity in case of failure of one of two major banks; (ii) increase target to 4 percent of guaranteed deposits. Status: Expedited procedures in legislation submitted to parliament may provide for liquidity in a crisis.
- Pensions / High
  - Move supervisory framework from compliance-based to risk-based. Status: No actions to date.
  - Require institutional separation between asset management company and depository/custodial services. Status: Institutional separation not required; legislation to minimize conflicts of interest has been prepared.
- All / Medium
  - Strengthen ethics rules for EFSA employees. Status: Strengthened ethics rules drafted but await supervisory board approval.
- Banking / Medium
  - EFSA to conduct on-site verification of reporting and loan documentation every 2–3 years. Status: Being done.
- Pensions / Medium
  - Gradually relax investment limits on equity exposures. Status: Done.

### APPENDIX III — Intersectoral asset and liability positions, September 2008 (selected figures in percent of GDP)
- Central bank
  - In domestic currency: Total Assets 0.0; Total Liabilities 0.0; Total net position 0.0. Short term: Assets 0.0; Liabilities 0.0; net 0.0. Medium & Long term: Assets 0.0; Liabilities 0.0; net 0.0.
  - In foreign currency: Total Assets 0.0; Total Liabilities 0.0; Total net position 0.0. (Selected rows show 15.4, 0.4, 15.0 in certain columns.)
- General government (selected)
  - In domestic currency: Total Assets 0.0; Total Liabilities 0.0; Total net position 0.0. Selected column shows 4.8, 0.4, 4.3.
  - In foreign currency: Selected columns show 9.4, 2.9, 6.6 and aggregate positions 13.5, 5.1, 8.3.
  - Equity: 17.2, 0.0, 17.2 in selected columns.
- Banks (including leasing) — selected aggregated positions
  - In domestic currency: Selected columns show 9.7, 0.0, 9.7 and other columns show 28.4, 33.4, -5.1.
  - In foreign currency: Selected columns show 111.2, 80.1, 31.1.
  - Short term and medium & long term breakdowns are provided in the table.
- Other private sector and Households — selected
  - Other private sector in domestic currency: Total columns show 30.1, 16.3, 13.8.
  - Households in domestic currency: Selected columns show 19.7, 8.9, 10.8.
  - Households in foreign currency: Selected columns show 15.5, 42.2, -26.7.
- Nonresidents — selected
  - In foreign currency: Selected columns show 93.0, 58.7, 34.3 and other breakdowns (e.g., 72.4, 42.7, 29.7).

(Note: Appendix table provides a detailed matrix of assets, liabilities, and net positions across counterpart sectors and instrument types with many additional specific percent-of-GDP entries.)

### APPENDIX IV — Financial Soundness Indicators of the banking sector, 2001–Sept. 2008 (selected time series)
- Capital adequacy (unconsolidated)
  - Regulatory capital as percent of risk-weighted assets: 14.39 (2001), 15.26 (2002), 14.51 (2003), 13.37 (2004), 11.72 (2005), 13.16 (2006), 14.78 (2007), 18.34 (Sept. 2008).
  - Regulatory Tier I capital to risk-weighted assets: 14.44 (2001), 13.57 (2002), 13.44 (2003), 12.92 (2004), 11.71 (2005), 10.04 (2006), 10.55 (2007), 12.83 (Sept. 2008).
  - Capital as percent of assets: 13.27 (2001), 12.14 (2002), 11.30 (2003), 9.81 (2004), 8.64 (2005), 8.41 (2006), 8.61 (2007), 8.95 (Sept. 2008).
- Capital adequacy (consolidated)
  - Regulatory capital as percent of risk-weighted assets: 14.80 (2001), 13.38 (2002), 12.50 (2003), 11.47 (2004), 10.72 (2005), 10.79 (2006), 10.84 (2007), 12.88 (Sept. 2008).
  - Regulatory Tier I capital to risk-weighted assets: 12.79 (2001), 11.85 (2002), 11.45 (2003), 11.06 (2004), 10.01 (2005), 8.64 (2006), 8.25 (2007), 10.10 (Sept. 2008).
  - Capital as percent of assets: 10.49 (2001), 10.91 (2002), 10.53 (2003), 9.94 (2004), 8.72 (2005), 7.61 (2006), 7.70 (2007), 9.11 (Sept. 2008).
- Asset quality
  - Non-performing loans (NPL) as percent of gross loans: 1.33 (2001), 0.80 (2002), 0.37 (2003), 0.26 (2004), 0.20 (2005), 0.18 (2006), 0.44 (2007), 1.55 (Sept. 2008).
  - NPL net of provisions as percent of Tier I capital: 5.16 (2001), 3.26 (2002), 2.32 (2003), 2.03 (2004), 1.22 (2005), 1.56 (2006), 3.82 (2007), 13.91 (Sept. 2008).
  - Large exposures as percent of Tier I capital: 16.44 (2001), 10.43 (2002), 8.20 (2003), 15.77 (2004), 28.38 (2005), 8.65 (2006), 0.58 (2007), 1.27 (Sept. 2008).
- Earnings and profitability
  - Gross profits as percent of average assets (ROAA): 2.66 (2001), 1.55 (2002), 1.70 (2003), 2.13 (2004), 1.96 (2005), 1.70 (2006), 2.59 (2007), 1.97 (Sept. 2008).
  - Gross profits as percent of average equity capital (ROAE): 20.71 (2001), 14.69 (2002), 14.15 (2003), 20.04 (2004), 21.04 (2005), 19.77 (2006), 30.00 (2007), 21.37 (Sept. 2008).
  - Net interest margin: 3.89 (2001), 3.59 (2002), 2.91 (2003), 2.39 (2004), 2.04 (2005), 2.22 (2006), 2.29 (2007), n/a (Sept. 2008).
  - Net interest income as percent of gross income: 56.70 (2001), 65.15 (2002), 55.73 (2003), 46.03 (2004), 45.90 (2005), 56.18 (2006), 45.17 (2007), 54.38 (Sept. 2008).
  - Non-interest income as percent of gross income: 43.30 (2001), 34.85 (2002), 44.27 (2003), 53.97 (2004), 54.10 (2005), 43.82 (2006), 54.83 (2007), 45.62 (Sept. 2008).
  - Non-interest expenses as percent of gross income: 53.54 (2001), 62.86 (2002), 56.39 (2003), 49.57 (2004), 50.94 (2005), 51.91 (2006), 40.71 (2007), 58.04 (Sept. 2008).
  - Personnel expenses as percent of non-interest expenses: 76.85 (2001), 76.86 (2002), 76.47 (2003), 77.90 (2004), 76.11 (2005), 76.91 (2006), 76.06 (2007), 30.00 (Sept. 2008).
- Liquidity and foreign currency exposure
  - Liquid assets as percent of total assets: 24.30 (2001), 21.20 (2002), 19.46 (2003), 22.30 (2004), 24.93 (2005), 19.19 (2006), 18.12 (2007), 17.64 (Sept. 2008).
  - Liquid assets as percent of short-term liabilities: 37.30 (2001), 32.24 (2002), 30.10 (2003), 39.17 (2004), 39.46 (2005), 31.98 (2006), 34.89 (2007), 31.43 (Sept. 2008).
  - Foreign currency loans as percent of total loans: 78.70 (2001), 82.60 (2002), 81.50 (2003), 80.40 (2004), 79.90 (2005), 78.10 (2006), 80.50 (2007), 85.68 (Sept. 2008).
  - Foreign currency liabilities as percent of total liabilities: 45.61 (2001), 46.95 (2002), 51.43 (2003), 57.80 (2004), 59.90 (2005), 59.80 (2006), 68.05 (2007), n/a (Sept. 2008).
  - Deposits as percent of assets: 62.40 (2001), 59.70 (2002), 54.10 (2003), 48.50 (2004), 51.30 (2005), 51.20 (2006), 58.50 (2007), 54.88 (Sept. 2008).
  - Loans as percent of deposits: 95.40 (2001), 102.50 (2002), 129.50 (2003), 142.90 (2004), 132.10 (2005), 144.80 (2006), 137.52 (2007), 151.60 (Sept. 2008).
- Sensitivity to market risk
  - Off-balance sheet operations as percent of assets: 38.00 (2001), 29.90 (2002), 38.10 (2003), 35.90 (2004), 50.10 (2005), 55.50 (2006), 46.88 (2007), 45.00 (Sept. 2008).
  - Gross asset position in derivatives as percent of Tier I capital: - (2001–2003), 3.68 (2004), 2.37 (2005), 2.78 (2006), 5.57 (2007), 5.50 (Sept. 2008).
  - Net open position in foreign exchange as percent of Tier I capital: 3.74 (2001), 31.83 (2002), 12.46 (2003), 18.36 (2004), 7.81 (2005), 21.70 (2006), 16.02 (2007), 20.32 (Sept. 2008).
  - Net open position in equities as percent of Tier I capital: - (2001–2003), 49.83 (2004), 58.77 (2005), 51.97 (2006), 65.54 (2007), 59.29 (Sept. 2008).

### Risk classification of banks’ loans (Millions of Kroons)
- In order: 33,829.47 (2001), 44,558.27 (2002), 62,642.08 (2003), 85,020.96 (2004), 113,488.68 (2005), 161,200.13 (2006), 210,601.60 (2007), 225,573.26 (9/2008).
- Under special surveillance: 4,322.24 (2001), 3,428.58 (2002), 4,666.13 (2003), 5,599.81 (2004), 9,725.88 (2005), 12,828.75 (2006), 21,844.06 (2007), 24,758.59 (9/2008).
- Doubtful: 1,177.24 (2001), 884.98 (2002), 1,035.69 (2003), 1,246.62 (2004), 1,724.37 (2005), 2,992.31 (2006), 5,245.33 (2007), 6,795.74 (9/2008).
- Risky: 1,024.72 (2001), 715.54 (2002), 449.88 (2003), 261.81 (2004), 252.09 (2005), 365.70 (2006), 805.97 (2007), 1,766.80 (9/2008).
- Hopeless: 339.65 (2001), 372.95 (2002), 362.66 (2003), 410.75 (2004), 262.90 (2005), 284.00 (2006), 658.86 (2007), 2,222.21 (9/2008).
- TOTAL: 40,693.32 (2001), 49,960.31 (2002), 69,156.00 (2003), 92,539.95 (2004), 125,453.92 (2005), 177,670.89 (2006), 239,155.8 (2007), 261,116.60 (9/2008).

*Source: Excerpts from the provided IMF content unit.*

### APPENDIX V. SELECTED EUROPEAN COUNTRIES: CAPITAL, NPL, AND PROFITABILITY

### APPENDIX V. SELECTED EUROPEAN COUNTRIES: CAPITAL, NPL, AND PROFITABILITY RATIOS, 2007Q3 OR LATEST AVAILABLE

### Estonia — Macroeconomic Stress Test Scenarios: Summary of Key Parameters (Block 1)
- Period covered for series: 2004, 2005, 2006, 2007, 2008, 2009, 2010, 2011 and scenario years 2008, 2009, 2010, 2011 (as presented)
- Source attribution within table: Estonian Authorities, Staff Estimates and Forecasts.

- GDP (constant prices)
  - 2004: 8.3%
  - 2005: 10.2%
  - 2006: 11.2%
  - 2007: 7.3%
  - 2008: 0.2%
  - 2009: 6.4%
  - 2010: 6.2%
  - 2011: 7.3%
  - 2008 (scenario column): -2.5%
  - 2009: 4.1%
  - 2010: 3.4%
  - 2011: 4.0%

- Private consumption
  - 2004: 6.7%
  - 2005: 10.6%
  - 2006: 15.1%
  - 2007: 11.4%
  - 2008: 4.6%
  - 2009: 3.7%
  - 2010: 4.5%
  - 2011: 7.3%
  - 2008 (scenario column): 3.1%
  - 2009: 2.5%
  - 2010: 1.5%
  - 2011: 1.5%

- Investment
  - 2004: 4.4%
  - 2005: 9.9%
  - 2006: 22.4%
  - 2007: 7.5%
  - 2008: -13.2%
  - 2009: 3.1%
  - 2010: 5.1%
  - 2011: 11.9%
  - 2008 (scenario column): -19.0%
  - 2009: -3.4%
  - 2010: 1.9%
  - 2011: 5.9%

- Exports
  - 2004: 16.6%
  - 2005: 20.5%
  - 2006: 8.3%
  - 2007: 5.2%
  - 2008: 5.3%
  - 2009: 7.3%
  - 2010: 7.2%
  - 2011: 7.7%
  - 2008 (scenario column): 3.7%
  - 2009: 4.3%
  - 2010: 6.9%
  - 2011: 8.7%

- Imports
  - 2004: 15.5%
  - 2005: 16.3%
  - 2006: 17.1%
  - 2007: 5.0%
  - 2008: 2.8%
  - 2009: 3.7%
  - 2010: 5.6%
  - 2011: 8.8%
  - 2008 (scenario column): 0.7%
  - 2009: 0.4%
  - 2010: 4.7%
  - 2011: 7.6%

- Monetary/Financial sector
  - Money market rate (in percent)
    - 2004: 2.1%
    - 2005: 2.2%
    - 2006: 3.1%
    - 2007: 4.8%
    - 2008: 4.6%
    - 2009: 4.5%
    - 2010: 4.5%
    - 2011: 4.5%
    - 2008 (scenario column): 4.6%
    - 2009: 4.5%
    - 2010: 4.5%
    - 2011: 4.5%
  - Mortgage rate (in percent)
    - 2004: 6.7%
    - 2005: 4.6%
    - 2006: 4.2%
    - 2007: 5.8%
    - 2008: 6.0%
    - 2009: 5.9%
    - 2010: 5.9%
    - 2011: 5.9%
    - 2008 (scenario column): 8.0%
    - 2009: 6.9%
    - 2010: 6.9%
    - 2011: 6.9%
  - Credit growth
    - 2004: 33.0%
    - 2005: 50.4%
    - 2006: 51.6%
    - 2007: 30.2%
    - 2008: 9.7%
    - 2009: 5.5%
    - 2010: 10.5%
    - 2011: 11.5%
    - 2008 (scenario column): -1.4%
    - 2009: -13.8%
    - 2010: -6.3%
    - 2011: 3.1%

- Exchange rate & prices
  - CPI inflation (annual average)
    - 2004: 3.0%
    - 2005: 4.1%
    - 2006: 4.4%
    - 2007: 6.2%
    - 2008: 7.2%
    - 2009: 4.0%
    - 2010: 2.7%
    - 2011: 3.1%
    - 2008 (scenario column): 7.1%
    - 2009: 3.4%
    - 2010: 2.7%
    - 2011: 3.2%
  - Residential real estate prices
    - 2004: 26.6%
    - 2005: 52.0%
    - 2006: 31.5%
    - 2007: -3.4%
    - 2008: -30.0%
    - 2009: 2.5%
    - 2010: 4.8%
    - 2011: 5.3%
    - 2008 (scenario column): -0.6%
    - 2009: -6.2%
    - 2010: -2.8%
    - 2011: 1.4%

- Labor markets
  - Employment
    - 2004: 0.2%
    - 2005: 2.0%
    - 2006: 6.4%
    - 2007: 1.3%
    - 2008: -1.1%
    - 2009: -0.5%
    - 2010: -0.1%
    - 2011: 1.5%
    - 2008 (scenario column): -1.7%
    - 2009: -1.8%
    - 2010: -1.6%
    - 2011: 0.4%
  - Gross wages
    - 2004: 7.8%
    - 2005: 11.4%
    - 2006: 16.2%
    - 2007: 20.4%
    - 2008: 14.3%
    - 2009: 7.1%
    - 2010: 6.4%
    - 2011: 11.1%
    - 2008 (scenario column): 13.9%
    - 2009: 4.7%
    - 2010: 2.8%
    - 2011: 7.3%
  - Unemployment (percent)
    - 2004: 9.7%
    - 2005: 7.9%
    - 2006: 5.9%
    - 2007: 5.2%
    - 2008: 6.6%
    - 2009: 7.2%
    - 2010: 7.0%
    - 2011: 5.9%
    - 2008 (scenario column): 7.2%
    - 2009: 8.6%
    - 2010: 9.3%
    - 2011: 8.8%

### Estonia — Macroeconomic Stress Test Scenarios: Summary of Key Parameters (Block 2)
- Second block of estimates and forecasts with alternate scenario projections.
- Source attribution within table: Estonian Authorities, Staff Estimates and Forecasts.

- GDP (constant prices)
  - 2004: 8.3%
  - 2005: 10.2%
  - 2006: 11.2%
  - 2007: 7.3%
  - 2008: -3.0%
  - 2009: 3.7%
  - 2010: 2.3%
  - 2011: 5.3%
  - 2008 (scenario column): -3.3%
  - 2009: 1.8%
  - 2010: 2.8%
  - 2011: 2.8%

- Private consumption
  - 2004: 6.7%
  - 2005: 10.6%
  - 2006: 15.1%
  - 2007: 11.4%
  - 2008: 1.2%
  - 2009: 2.7%
  - 2010: 1.3%
  - 2011: 1.8%
  - 2008 (scenario column): -3.0%
  - 2009: 1.0%
  - 2010: 3.0%
  - 2011: 3.0%

- Investment
  - 2004: 4.4%
  - 2005: 9.9%
  - 2006: 22.4%
  - 2007: 7.5%
  - 2008: -11.4%
  - 2009: -3.2%
  - 2010: -0.5%
  - 2011: 8.0%
  - 2008 (scenario column): -25.0%
  - 2009: 2.0%
  - 2010: 4.0%
  - 2011: 4.0%

- Exports
  - 2004: 16.6%
  - 2005: 20.5%
  - 2006: 8.3%
  - 2007: 5.2%
  - 2008: -2.7%
  - 2009: 1.2%
  - 2010: 2.9%
  - 2011: 9.2%
  - 2008 (scenario column): -3.0%
  - 2009: 1.5%
  - 2010: 2.0%
  - 2011: 2.0%

- Imports
  - 2004: 15.5%
  - 2005: 16.3%
  - 2006: 17.1%
  - 2007: 5.0%
  - 2008: -3.0%
  - 2009: -2.8%
  - 2010: 1.8%
  - 2011: 6.9%
  - 2008 (scenario column): -8.0%
  - 2009: 1.6%
  - 2010: 3.1%
  - 2011: 3.1%

- Monetary/Financial sector
  - Money market rate (in percent)
    - 2004: 2.1%
    - 2005: 2.2%
    - 2006: 3.1%
    - 2007: 4.8%
    - 2008: 4.6%
    - 2009: 4.5%
    - 2010: 4.5%
    - 2011: 4.5%
    - 2008 (scenario column): 6.6%
    - 2009: 6.5%
    - 2010: 6.5%
    - 2011: 6.5%
  - Mortgage rate (in percent)
    - 2004: 6.7%
    - 2005: 4.6%
    - 2006: 4.2%
    - 2007: 5.8%
    - 2008: 6.0%
    - 2009: 5.9%
    - 2010: 5.9%
    - 2011: 5.9%
    - 2008 (scenario column): 8.0%
    - 2009: 6.9%
    - 2010: 6.9%
    - 2011: 6.9%
  - Credit growth
    - 2004: 33.0%
    - 2005: 50.4%
    - 2006: 51.6%
    - 2007: 30.2%
    - 2008: 0.0%
    - 2009: -4.9%
    - 2010: -3.5%
    - 2011: 5.2%
    - 2008 (scenario column): 0.0%
    - 2009: 0.0%
    - 2010: 0.0%
    - 2011: 5.0%

- Exchange rate & prices
  - CPI inflation (annual average)
    - 2004: 3.0%
    - 2005: 4.1%
    - 2006: 4.4%
    - 2007: 6.2%
    - 2008: 7.2%
    - 2009: 3.3%
    - 2010: 2.2%
    - 2011: 3.3%
    - 2008 (scenario column): 6.5%
    - 2009: 3.3%
    - 2010: 2.5%
    - 2011: 2.5%
  - Residential real estate prices
    - 2004: 26.6%
    - 2005: 52.0%
    - 2006: 31.5%
    - 2007: -3.4%
    - 2008: -3.9%
    - 2009: -2.2%
    - 2010: -1.6%
    - 2011: 2.3%
    - 2008 (scenario column): -30.0%
    - 2009: 0.0%
    - 2010: 1.0%
    - 2011: 1.0%

- Labor markets
  - Employment
    - 2004: 0.2%
    - 2005: 2.0%
    - 2006: 6.4%
    - 2007: 1.3%
    - 2008: -1.6%
    - 2009: -2.7%
    - 2010: -1.5%
    - 2011: -0.1%
    - 2008 (scenario column): -3.0%
    - 2009: -1.0%
    - 2010: 1.0%
    - 2011: 1.0%
  - Gross wages
    - 2004: 7.8%
    - 2005: 11.4%
    - 2006: 16.2%
    - 2007: 20.4%
    - 2008: 14.1%
    - 2009: 3.9%
    - 2010: 1.5%
    - 2011: 6.7%
    - 2008 (scenario column): 8.0%
    - 2009: 2.0%
    - 2010: 3.0%
    - 2011: 3.0%
  - Unemployment (percent)
    - 2004: 9.7%
    - 2005: 7.9%
    - 2006: 5.9%
    - 2007: 5.2%
    - 2008: 7.1%
    - 2009: 9.3%
    - 2010: 9.7%
    - 2011: 9.5%
    - 2008 (scenario column): 8.0%
    - 2009: 8.8%
    - 2010: 7.8%
    - 2011: 6.8%

- Bottom-row table label text present in source: Historical shockCombined shock RISK IRISK II

*Source: Estonian Authorities, Staff Estimates and Forecasts.*

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_Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2009/_cr0989.pdf_