Ter our mic success

But before discussing private provision, let us discuss social housing. Recent developments have reinforced the case for replenishing our social housing stock. However, this expansion needs to be accompanied by a change in approach. In recent years, most of Malta’s benefit system has been changed so as to create clear incentives to shift from benefit dependence to participation in the formal labour market.

The only area where this is not happening yet is social housing, where the tendency remains that, once allocated, social housing tends to become a lifetime entitlement. We need to change this so that social housing schemes act to activate individuals and empower them rather than encourage passivity.

Such a transition could itself be helpful in financing the expansion of social housing. Instead of seeing social housing as a passive benefit, we can eventually develop projects which become to an extent self-financing, through a combination of social housing provision and programmes to enhance the employability of individuals, enabling them to eventually pay market rents.

The financial sector could play a role here. We have already seen how some banks have partnered with government to offer social loans, which are beginning to decrease reliance on the social housing stock. Going forward, we can see the possibility of other innovative initiatives where the Housing Authority partners with financial institutions to develop social housing projects.

At this point, I take this opportunity to inform you that the Central Bank of Malta has set up a lean but highly competent and proactive Social Research Unit to study, among other issues, access to credit by the lower income groups.

Another area where we need to register progress is home equity release. We have a situation where many elderly persons are asset rich but cash poor. They live on relatively modest pensions, while residing in large and relatively expensive homes. This creates issues for financing long-term care, as many find it difficult to sell their homes outright in order to go into a private home.

If, over the coming years, we manage to come up with ways of releasing part of the equity in homes, this could raise the supply of available housing, reduce the pressure on state long-term care institutions and hospitals while guaranteeing better living standards for our elderly. This, of course, needs to be done carefully, sensitively and in a well-regulated environment. Once again, we believe that financial institutions can have a key role to play here.

The rental market is another area where we believe we need to act, with due consideration of the trade-offs involved. Any measures that are too restrictive could take us back to a previous situation where the rental market was utterly dysfunctional. On the other hand, we should not shy away from reforms that facilitate a better functioning of the market. We need more legal clarity about the rights and obligations of landlords and tenants.

We also need to have this market operate in the formal economy, with rent contracts duly registered. Stabilising this sector will be beneficial to our economy’s competitiveness, while also helping to address social inequalities.

Although loan-to-value ratios range from 60% to 90% (and lately we have observed a shift to the upper bound) the banks have largely kept to their cautious approach when extending credit for buy-to-let purposes. We think that their prudence bears witness to the maturity of our financial institutions, though more caution in mortgage credit for secondary residences is called for.

The need for long-term investment

Let’s now shift to a more critical gear. At present, financial institutions deposit with the Central Bank close to four times the average of the previous 10 years. In essence, all the growth this year in deposits from Maltese residents has ended up being deposited with us at the Central Bank. Loans to the private sector have essentially remained flat.

Taking a longer term perspective, banklending to non-financial corporations has fallen from 62% of GDP in 2009 to 31% in the first half of this year. From a situation where credit to the non-financial sector amounted to more than half of all bank loans, the share has fallen to slightly more than a third.

Now, the usual explanation is that banks welcome any feasible projects that come forward, and that the decline is therefore demand and not supply driven. Moreover, stricter regulation on bank capital and liquidity has made life tougher for bankers, and this, it is argued, has warranted a higher level of caution regarding which projects are financed.

Permit me, however, to submit some other facts for your consideration. The recent IMF mission concluded that the cost of bank borrowing for corporates in Malta is among the highest in the euro area, and the spread has been widening in recent years.

In their forthcoming report in January 2018 they will furthermore show that credit supply constraints impact SMEs disproportionately. While surveys do not suggest that access to finance is the private sector’s main concern, this is probably due to the fact that firms have been able to finance projects through their own funds. Over the last decade, companies shifted to intragroup loans and intercompany lending instead of bank loans as a main source of financing.

One, of course, needs to distinguish between intragroup loans (parent to subsidiaries or subsidiaries to other subsidiaries) which we think make up the bulk of “intercompany” lending and other intercompany lending undertaken through factoring, trade credit and loan funds.

Also bear in mind that the Financial Institutions Act related companies (within a group) do not need a licence to lend to each other. To give loans outside the group (intercompany) one does need a licence.

While it is beneficial to see a diversification of firms’ financing sources, this change raises some issues. Let us start with something we discussed last year. We need to be careful that in the current low interest environment, investors’ search for yield does not stimulate excessive risk-taking. Therefore, we need to complement the rise in corporate bond issuance with a significant effort in improving investors’ education and compel corporates borrowing from the domestic capital market to provide more information to investors about their creditworthiness.

Secondly, even if we believe that the recent disintermediation process was a matter of choice, reflecting firms’ current liquidity, this nevertheless begs the question as to what would happen when the economy slows down and internal funds diminish. We believe that if the disintermediation process goes too far, our resilience to future shocks could be hampered. Whenever activity slows down, firms will tend to cut back on investment and innovation.

Moreover as a Central Bank, we have to be concerned that in such an environment, the transmission of monetary policy, which mainly occurs through the banking channel, could be impaired. This would make it harder for policymakers to react to economic needs.

The current situation, with a lot of savings lying unutilised at the Central Bank, seems to me to be a wasted opportunity to leverage our current success in order to build a better future. At a time when everybody agrees that we need to invest strongly in infrastructure and to upgrade the competences of our workforce – both of which are long-term investments – it is painful to note that we opt instead to pile our savings in what is essentially the most short-term of investments – deposits with the Central Bank. The fact that, despite overall excess liquidity, some smaller banks continue to borrow from us through regular monetary operations, is an indication that the domestic interbank market still faces some structural inefficiency.

A more efficient financial system would facilitate the allocation of capital to its most productive uses. This would boost capital stock and total factor productivity and, hence, sustainable economic growth going forward.

I believe that the setting up of the Malta Development Bank should help increase the availability of finance to the real economy, while also supporting long-term investment projects. This bank is going to fill in an institutional gap in our financial sector, which recent developments have made ever more evident.

In a banking sector, which remains relatively well profitable, compared to their European peers, despite the decline in lending to nonfinancial corporations, we need an institution that can help create an environment where banks feel comfortable to extend credit to innovative firms, namely firms that may not be able to provide adequate collateral due to the nature of their business, but which are still good business opportunities.

Besides the Development Bank, there are other policy measures that should help facilitate the flow of credit. At the Central Bank we will continue to evolve our credit register to provide more information to banks and help reduce credit risk.

More broadly we will continue to support government in its attempts to reduce excessive bureaucracy and further improve the insolvency process. We will also continue to take macro prudential measures to ensure timely policy interventions to safeguard the stability of the financial system.

The struggle against bureaucracy is a key element in the broader effort to improve the ease of doing business in this country. We are pleased to note that the World Bank Ease of Doing Business team is finally making serious efforts to understand our national specificities. The Central Bank urges and supports government’s ongoing efforts to take the Ease of Doing Business conditions to a new level.

Of course, it would be unforgivable of me not to seize this opportunity to urge the consultancy community to ensure that the information we provide to international competitiveness ranking agencies is up to date and factually correct.

I also take this opportunity to observe that in 2018, Malta will undergo a comprehensive and detailed analysis of its financial sector through a Financial Sector Assessment programme conducted by the International Monetary Fund.

At the same time, Malta will be evaluated against international standards on AntiMoney Laundering and Counter-Terrorism Financing by Moneyval as part of the Council of Europe’s peer review process. We are eagerly looking forward to both.

Our economy has managed to outperform because we managed to evolve and diversify rapidly. I believe that our financial services and banking sector needs to mirror this, to continuously evolve and adapt to the changing economy.

After the success of recent years, we are now in an excellent position to solidify our gains. This requires us all to focus our glance further into the future and to devote a greater share of current economic prosperity towards financing more long-term projects. If we do not, we run the risk of undermining our own future prosperity.

I believe that the financial services community can and must contribute to change our nation’s mentality. At the interface between our nation’s savings and investment it is best placed to leverage more effectively our current economic success.