Higher interest rates would lead to higher net interest income but lower economic value of equity in the next three years for most lenders under the European Central Bank's supervision, results of the central bank's 2017 stress test showed.
The ECB conducted a sensitivity analysis of interest rate risk in the banking books based on 2016-end numbers and applied six hypothetical interest rate shocks to determine how the economic value of equity and net interest income projections would change in an evolving interest rate environment.
A hypothetical increase in interest rates of 200 basis points would result in an aggregate rise in net interest income of 4.1% in 2017 and 10.5% by 2019, while the economic value of equity would drop 2.7% on aggregate. The findings also show that should interest rates stay at their 2016-end level and if there is no credit growth, the aggregate net interest income would decrease 7.5%.
The ECB also asked lenders about the behavioral models they use to measure and manage interest rate risk, and found that most deposit models are based solely on a period of decreasing interest rates, therefore potentially entailing high model risk. The central bank said it will discuss its findings individually with the banks during a period of supervisory dialogue.