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Hungary's central bank tests green capital discount with eco-friendly mortgages

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An apartment block in the Ujpalota housing estate in the Hungarian capital Budapest.
Source: AP Photo

The Hungarian central bank is introducing preferential prudential treatment for lenders that offer energy-efficient mortgages to increase environmentally friendly lending and collect key data on green loans; the first European central bank to make such a move.

As of Jan. 1, Hungarian banks are eligible for preferential capital treatment if they apply an interest rate reduction of 0.3 percentage point on mortgages for energy-efficient houses or loans to refurbish properties. The scheme will last until Dec. 31, 2023, but might be extended. Hungary's building stock currently accounts for nearly 40% of the country's energy use, and new mortgage lending in the country topped 200 billion Hungarian forints in the first quarter of 2019.

"If green finance scales up in Hungary, that is a way, on the macro level, to reduce the risks stemming from climate change," Gábor Gyura, head of the sustainable finance and internal supervisory regulation department at Hungary's central bank, said in an interview. "We would like to see banks taking into account green and environmental and climate-related factors more in their daily business in their strategy and in their lending operations."

The move comes as central banks and regulators considering easing prudential rules for environmentally friendly investing, something that banks support, but which experts say is difficult to assess. A group of central banks formed a network in 2017 to study ways of managing climate risk in the financial sector, and the Hungarian central bank joined in January 2019. The EU has also been looking at a so-called green supporting factor through its sustainable finance action plan.

Data collection

In the Hungarian program, banks will have to collect data on the loans, allowing the central bank build a database on energy-efficient loans. The central bank will also gather data on non-energy-efficient properties so it can compare the two.

Given the small amount of "green" lending in Hungary, there is currently very little data, Gyura said. The lack of data is a "chicken and egg problem" because without data it is difficult to find ways to encourage green lending, he said.

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At the moment, central banks have little data on the "greenness" of banking assets. It will take several years for regulators to amass data and approve a green supporting factor, Gyura said. That partly encouraged the central bank to go ahead with its project "where there is a very strong justification for introducing a temporary supporting factor."

A green supporting factor "could be a game changer," he said.

"That is one of the most efficient ways to change the direction of finance ... but I think we have to be careful because there is a very wide consensus that capital requirements have to remain, and stay risk-based."

Capital discount cap

Under the scheme, the central bank will cap the capital discount to 1% of a bank's credit exposure.

While green lending does not necessarily reduce risk, the central bank is using energy-efficient mortgages to test the discount because it estimates the risk of default for green mortgages is lower. Energy-efficient buildings have lower utility bills freeing up more disposable income for the householder. Property values will also likely be higher because buildings will have up-to-date standards, Gyura said, lessening longer-term risk.

That analysis is used by the EU-funded Energy Efficient Mortgages Initiative, which is developing a European green mortgage pilot scheme under its energy-efficient Mortgages Action Plan. According to Dutch mortgage data for 127,309 buildings in the pilot scheme between 2014 and 2018, the default risk for energy-efficient homes is reduced by two to three times. Hungary is part of the pilot.

OTP Bank Nyrt., Hungary's largest lender, said it welcomed the scheme and planned to participate once it finished clearing regulatory requirements and developed green mortgage products.

In December 2019, EU governments agreed to a common classification system to define environmentally friendly investments, and Gyura said the central bank had used this taxonomy's definition for residential properties and refurbishment as the basis of its work.

The central bank is also planning to launch a consultation with lenders about introducing green covered bonds in Hungary to develop the relatively nonexistent green debt market in Hungary. It aims to look at preferential treatment for its mortgage funding adequacy ratio that requires banks to issue long-term securities, mostly in the form of mortgage bonds. Green covered bonds could be subject to a more favorable ratio.

Hungary does not have definitions for green buildings, while other countries such as France and Poland have definitions that meet the Climate Bonds Standards for green bond issues, Gyura said. The central bank plans to work with the Climate Bonds Initiative, which sets these, to create a local standard for Hungary, making it easier for Hungarian lenders to issue green covered bonds, he said.

As of Jan. 16, US$1 was equivalent to 300.46 Hungarian forints.