site.btaFinance Professor: Rising Lending Rates Should Not Lead to Extremes

Rising lending rates should make consumers more carefully assess how meaningful their particular ideas are in the current environment, but not stop them from developing, Prof. D. Sc. Virginia Zhelyazkova, Director of the Finance and Financial Management research unit at the Laboratory for Scientific and Applied Studies of VUZF University, said in a BTA interview. 

According to her, the increase of the European Central Bank (ECB) key interest rates was an expected measure. The ECB raised its benchmark interest rate by 0.5 percentage points last week, lifting the rate for the first time in 11 years in a bid to cool inflation in the eurozone. The institution, which is the central bank for the 19 countries that use the euro, had kept the rate at a historic low in negative territory.

"As a result of 11 years of zero and even negative interest rates, we have forgotten that this is not the normal market situation. With this policy, the ECB was trying to incentivise banks and their customers to keep less money on deposit and to invest in different activities. However, the deposit stock grew faster than the volume of loans," Prof. Zhelyazkova explained.

She pointed out that it was not realistic to expect interest rates to remain at the same level throughout the life of the loans. Moreover, the rise and fall of interest rates is part of the normal functioning of the economy and people should be prepared for different scenarios when deciding on the use of credit products. 

Prof. Zhelyazkova said that the ECB's decision has mixed consequences. On the bright side, the ECB's interest rate hike will have a positive impact on deposit yields, which are currently bearing losses for their holders.

At the same time, the effect of the increase in interest rates on loans in Bulgaria is not expected to be significant - now it is about half a percentage point increase, and in the future the increase is expected to be gradual. Moreover, in recent years the lending rules of the banks in Bulgaria have been prudential, which is most clearly visible in the debt-to-income ratio of borrowers. It varies between 50 and 60% in different banks in the country, which means that borrowers have a buffer to meet unforeseen increases in costs, Prof. Zhelyazkova pointed out, adding that the banks in turn are highly capitalised and this gives confidence that they will continue to be stable and support the sustainability of the whole economic system.

Asked about the galloping inflation, the financier said that people should not forget the effect of inflationary processes that develop in parallel with the increase in interest rates. An important consequence of these is the nominal increase in the income of the population. An essential aspect of the situation is that, despite the increase in ECB interest rates, inflation continues to be at levels well above those of lending rates, adds Prof. Zhelyazkova.

This effectively means that money on credit continues to be at negative real interest - people pay less for it than their money depreciates. From this perspective, the use of credit continues to be fully justified, especially if the funds are invested in assets and projects that will add value over time, the financier explained.

According to prof. Zhelyazkova, Bulgaria’s credit market has not reached its maximum development potential.

"For example, if housing loans in Europe are between 30 and 40% of GDP, their share in Bulgaria is only about 11%. It is true that in Bulgaria about 80% of the population owns their own home, but at the same time our country is characterised by the smallest housing area per person. This means that the market has the potential to grow and in a situation of gradually rising interest rates, supply and demand will be increasingly determined by the quality of properties," she said.

Prof. Zhelyazkova pointed out that recently there has been an increased interest in modern solutions such as “green” and “smart” buildings, which require minimal energy consumption and have many innovative features. In this sense, the crisis has been a catalyst for increased efficiency, innovation and new opportunities, the expert concluded.