Increased interest rates have boosted the interest margins of banks (+37% in Luxembourg in 2022), found a Statec report published at the end of February 2023. Photo: Christophe Lemaire / Paperjam / Archives

Increased interest rates have boosted the interest margins of banks (+37% in Luxembourg in 2022), found a Statec report published at the end of February 2023. Photo: Christophe Lemaire / Paperjam / Archives

A recent Statec report investigating the impacts of the rise in interest rates on banks in Luxembourg has found that demand for loans has decreased. However, the higher interest rates have also led to greater interest margins for banks in 2022.

To tackle inflation, central banks have hiked interest rates several times over the course of 2022. The European Central Bank, for example, has between July 2022 and February 2023, while the US Federal Reserve’s most recent rate hike means that .

In Luxembourg, interest rates also saw a sharp increase, noted a  published at the end of February. As 2022 was coming to a close, average interest rates on new loans to granted to businesses were 2.8% (an increase of 1.7 percentage points over one year), average interest rates on new loans for consumption were 4.1% (an increase of 1.5 percentage points), while the variable rates for housing loans were on average 2.6% (an increase of 1.2 percentage points) and fixed rates on housing loans were at 3.5% (an increase of 2.1 percentage points). Since 2016, the majority of new housing loans in the grand duchy have been granted with fixed interest rates.

Demand for loans drops across all categories

The results of a banking credit survey carried out in January across the eurozone show that demand for business and household loans have dropped sharply in 2022, noted the Statec report. Demand is expected to decrease during the first quarter of 2023 as well.

This is also the case for Luxembourg. Statec found that all the banks surveyed in the country noted a decline in demand for home loans in Q4 of 2022. The amount of new fixed-rate real estate loans granted by Luxembourg banks fell by 40% over one year in the fourth quarter of 2022, while the amount of business loans dropped by 23% over the same period. This dip in housing loan applications is more pronounced than following the 2008 financial crisis.

Banks in all categories benefit, and will continue to benefit

Despite the drop in loan applications, institutions in all categories--retail, corporate, universal, private, custodian and other types of banks--are benefitting from these higher interest rates. 76% of banks saw their interest margins increase over the first three quarters of 2022 (an increase of 35% over one year in total), thanks to the rising interest rates in the eurozone and in the US. Retail, corporate and universal banks are likely benefit most from the increase in interest rates, as interest margins make up the main source of their income, said the report.

For Luxembourg banks, the median interest margin rate (as a percentage of interest-bearing assets) increased from 0.4% in 2021 to 0.6% in 2022. The Statec report also found that for 2022, the value added is expected to increase 27% over one year, driven by a strong increase in interest margins (+37%) and a 9% increase in net commissions. Moreover, the interest margins of Luxembourg banks are expected to increase by 26% in 2023, while the value added of banks is expected to increase 16%.

The interest margins of banks in the euro area also increased (8% over one year), but less strongly in countries with a tradition of fixed rate loans and stricter rules on rate setting, found the report. That being said, net income in the eurozone was also impacted by Russia’s war in Ukraine (-11% over one year).

In spite of the benefits that banks have been experiencing due to rising interest rates, the Statec report cautions that banks may face an increase in personnel costs and the cost of credit risk, which may impact their net results in 2023.