There have been several changes in the Estonian banking sector recently, including the founding of new banks and closure of others. This has led to changes in funding and competition. Risks to financial stability from the Nordic economies and real estate sector in Estonia remain. While money laundering accusations have affected parent bank share prices, the cost of funding has not increased significantly. Overall, the banking sector remains well capitalized and profitable, but macroprudential measures may need to be adjusted if lending growth accelerates.

1. Financial Stability Review
31 October 2018

2. • The founding of Luminor, change in the operations of Danske Pank, the
sale of Krediidipank and the founding of Coop Pank, and the closure of
Versobank
• This has led to changes in the funding and liquidity management of the
banks, and in the competition landscape
There have been important changes in
Estonian banking in recent years
2

3. Parent banks are playing a smaller role in
funding and liquidity management
3
Debt securities will be used more in the future, which increases the risk to
financial stability
0
5 000
10 000
15 000
20 000
25 000
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
securities issued
and other
liabilities
customer deposits
funds from banks
Structure of liabilities of the banks
Source: Eesti Pank
EURmillion

4. The risks to the Nordic economies and banking remain
important for the Estonian banking sector
4
Real estate prices in Sweden and Norway are rising again after a correction and loan
growth remains fast
0
20
40
60
80
100
120
140
160
180
200
2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018
Sweden
Norway
Denmark
Finland
Housing price indexes for the Nordic countries (2008 = 100)
Source: statistical agencies, calculations by Eesti Pank

5. Accusations of money laundering have affected the share
prices of the parent banks, but the effect on the cost of
funding has been small
5
0
20
40
60
80
100
120
01.18 04.18 07.18 10.18
Source: Bloomberg
Share prices of Nordic banking
groups (29.12.2017 = 100)
SEB Swedbank Nordea Danske Bank
-1,0%
-0,5%
0,0%
0,5%
1,0%
1,5%
2,0%
2,5%
3,0%
2014 2015 2016 2017 2018
maturity of up to 1 year
maturity of 1 to 3 years
maturity of 3 to 5 years
Average covered bond yields of SEB Bank
and Swedbank
Source: Bloomberg, Eesti Pank calculations

6. Cross-border payments through Estonian banks cannot
be used to estimate the amount of money-laundering
6
• Cross-border settlements are a natural part of the flows in the open Estonian economy
• The amounts are not particularly large in international comparison
Source: European Central Bank
0 2 4 6 8 10 12 14 16
Greece
Lithuania
Austria
Portugal
Slovakia
Spain
Netherlands
Finland
France
Belgium
Estonia
Germany
Latvia
Luxembourg
Cyprus
Malta
Cross-border payments as a ratio to GDP (2008-2015)

7. The share of non-resident deposits in Estonian banks
has declined a long way in recent years
7
0
500
1 000
1 500
2 000
2 500
3 000
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
households non-financial companies (EU) non-financial companies (non-EU)
Non-resident deposits
Source: Eesti Pank
EURmillion

8. The banking sector is well capitalised, liquid assets are
large and loan losses are small
8
0%
5%
10%
15%
20%
25%
30%
35%
40%
45%
2010 2011 2012 2013 2014 2015 2016 2017 2018
Capitalisation of the banking sector
Source: Finantsinspektsioon
change in calculation principles

9. The economy has grown fast and the financial
results of companies have improved
9
Corporate profits are quite small on average, making it hard to manage with
rising wage costs if growth in the economy and in sales slows
-10%
-5%
0%
5%
10%
15%
2013 2014 2015 2016 2017 2018
profit (operating surplus and mixed income) sales turnover wage costs
Yearly growth in corporate sales turnover, wage costs and profit
Source: Statistics Estonia

10. The economy has been running at above its long-term
sustainable level for some time, and the growth in
construction has been especially fast
10
-20%
0%
20%
40%
60%
80%
100%
0
20
40
60
80
100
120
140
160
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
2015=100
volume index of construction (left scale)
share of construction firms naming labour shortages as the most hindering factor for production (right scale)
Construction volumes and labour shortages at construction firms
Source: European Commission, Statistics Estonia

11. Banks have not increased the share of real estate and
construction in the credit portfolio, but it is already quite
large
11
Companies in real estate and construction are successfully accessing funds
from other sources, which also increases the risk from the sector for the banks
0%
10%
20%
30%
40%
50%
60%
70%
SE
DK
FI
NO
AT
LU
IS
DE
CY
FR
EE
NL
GB
CZ
LV
LT
IE
BE
ES
HU
PT
IT
PL
RO
SK
HR
BG
GR
MT
SI
Loans to real estate and construction companies as a share of all
corporate loans as at 30/09/2018
Source: EBA Risk Dashboard
EU/ EAA average

12. The volume of transactions in the housing market shrank
in the third quarter and the rise in prices slowed
12
0
1 000
2 000
3 000
4 000
5 000
6 000
7 000
2014 2015 2016 2017 2018
Number of transactions with apartments
Source: Land Board
0
250
500
750
1000
1250
1500
100
125
150
175
200
2014 2015 2016 2017 2018
eurosperm2
apartment price index (left scale)
average price of transactions with apartments in euros per m2
(right scale)
Apartment price index and average price
Sources: Statistics Estonia, Land Board

13. New loans to individual clients have been added at a
slowing rate
13
Demand for loans is still backed by relatively fast wage rises and low interest rates
* 12-month moving sum
-10%
-5%
0%
5%
10%
15%
20%
25%
30%
35%
2013 2014 2015 2016 2017 2018
housing loans car leases other consumer loans
Annual growth of new loans to households
Source: Eesti Pank

14. • Growth in lending remains strong in Sweden and household indebtedness
continues to increase
• Accusations of money laundering may start to affect the cost and
availability of funding
• The Swedish financial supervisory authority decided to require additional
capital buffers of the banks
The biggest risk to the Estonian financial sector continues
to come from the Nordic economies and banking sectors
14

15. • The role of construction and real estate in economic growth has increased
• The banks have not increased their lending to real estate and construction
more than to companies in other sectors
• The share of loans to construction and real estate in the portfolio of the
banks is already large
• A fall in orders or slower growth would make companies in real estate and
construction less able to pay their loans and would impact other sectors
The risk has increased of labour, investment and funding
becoming concentrated in construction and real estate
15

16. • The volume of transactions in the real estate market has decreased and prices are
rising more slowly
• Households have been taking out new housing loans at a slowing rate
• Conditions that support loan demand will be constant for a while as wage growth
is expected to remain relatively fast and interest rates low for some time
• It remains possible that demand for housing will increase and so will borrowing
and indebtedness
The risk remains of rapidly rising incomes and strong
confidence driving increased demand from households
for loans
16

17. • Anti-money laundering rules have been tightened in Estonia and internationally
• Supervision of compliance with anti-money laundering requirements has become
more efficient and penalties have become stricter
• The banks have started to focus more on the possible risks of money laundering
• The activities of banks that have ignored some money laundering requirements
have been sharply curtailed or ended
• The share of non-resident deposits has fallen from 21% in 2012 to 7% in
September in 2018
The threat of money laundering in Estonian
banks has declined a long way in recent years
17

18. There is currently no need to raise the countercyclical
capital buffer rate for the banks
18
The indebtedness of companies and private individuals stopped declining in
the second quarter as corporate debt grew faster
forecast
50%
70%
90%
110%
130%
150%
170%
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
2019
2020
debt / GDP bank lending / GDP
The debt burden of the non-financial private sector
Sources: Statistics Estonia, Eesti Pank
forecast

19. If loan growth should continue to accelerate, Eesti
Pank may require the banks to hold additional capital
19
-10%
-5%
0%
5%
10%
15%
2011 2012 2013 2014 2015 2016 2017 2018
8 year average annual GDP growth nominal GDP* loans and leases debt
Annual growth of loans and leases, debt and nominal GDP
Sources: Statistics Estonia, Eesti Pank
* 4 quarter moving average GDP annual growth

20. • The conditions for housing loans have not been loosened in the past two years
• The share of loans covered by KredEx guarantees has increased in recent years
and is quite large
• If the share of loans with guarantees should increase, Eesti Pank may change the
loan requirements
The conditions for housing loans have not been eased and
the requirements for loans are not changing at present
20

21. Eesti Pank’s measures to support stability in
the financial sector
21
Eesti Pank’s macroprudential measures
Instrument Rate
Systemic risk buffer 1%
Other systemically important institution buffer 0.5-2%
Countercyclical capital buffer 0%
Housing loan requirements**
loan-to-value ratio limit 85%**
debt service-to-income ratio limit 50%
maximum maturity 30 years
* Loans breaching the limit can be up to 15% of the loans issued in a quarter by volume
** For loans with KredEx guarantees the limit is 90%