Major Factors

Rationale

S&P Global Ratings classifies the banking sector of Norway (AAA/Stable/A-1+) in group '2' under its Banking Industry Country Risk Assessment (BICRA). This is one of the best scores among the 86 banking jurisdictions we assess globally. Other countries in group '2' are Austria, Belgium, Canada, Finland, Sweden, and Switzerland (see chart 1). Our bank criteria use our BICRA economic risk and industry risk scores to determine a bank's anchor, the starting point in assigning an issuer credit rating. The anchor for banks operating only in Norway is 'a-'.

Chart 1

Our assessment of low economic risk in Norway reflects the banking sector's resilience to pandemic-related stress and the economic downturn. Strong capital and liquidity buffers and ample government support, backed by substantial reserves in Norway's sovereign wealth fund, the Government Pension Fund Global (GPFG), have helped limit economic risk. A rebound in private consumption and exports, supported by stronger oil prices, underline our expectations of real GDP growth of 3.4% in 2021 and 3.5% in 2022, followed by annual average growth of 1.9% over 2023-2024. This will support new business generation, growth in noninterest revenues, and the normalization of provisioning expenses, improving the banking sector's profitability.

As in many other European countries, the Norwegian authorities' response to the COVID-19 pandemic in the form of fiscal, monetary, and macro-financial support to the economy was unprecedented. Given the ample reserves in the GPFG, Norway is uniquely well-positioned to fund its fiscal-support programs, in our view. We consider that this, in turn, has helped to largely stabilize the banking sector's asset quality. In addition, we believe that the accumulated earnings and capital buffers will allow banks in Norway to absorb the credit losses that may follow the removal of the support schemes that have supported their credit standing. The Ministry of Finance announced on Sept. 7, 2021, that banks could restore dividends and capital-buyback programs after Sept. 30, 2021. Given the significant improvement in the economic outlook and the banks' strong capitalization, we do not anticipate that this will affect our view of the sector's capital robustness.

The residential mortgage portfolio--constituting about half of total bank loans--has appeared more resilient to the pandemic-related stress than the corporate portfolio due to various government employment- and income-support measures. That said, we recognize some latent risks to banks from structurally high household debt (236% of disposable income at year-end 2020), driven by strong growth in house prices over the past decade, and banks' exposure to the cyclical commercial real estate (CRE) segment.

Our assessment of industry risks for Norwegian banks incorporates the country's effective banking regulation, a stable competitive environment, and strong banking-sector capitalization. We believe that the authorities, including the banking regulator, have addressed the pandemic-related stress proactively by introducing various measures. Such measures included an unprecedented cut to the key policy rate, a temporary relaxation of the countercyclical capital buffer requirements, and the provision of liquidity support to the banking sector. The timely withdrawal of the pandemic-related support schemes, with the last withdrawals taking place by December 2021, is a sign of the effectiveness of the policy response.

Moreover, we consider that Norwegian banks have benefited from being at the forefront of the digital transformation, as evident from the joint mobile payment solution Vipps; the offering of accessible consumer-investment solutions; and the introduction of a digitalized mortgage-application process. A high digital-technology adoption rate and the population's openness to sharing data have helped drive this progress. The transformation will also help Norwegian banks keep their costs under control and further support the banking sector's resilience. Although domestic deposits as a portion of the total funding base are lower in Norway than in many other European markets, we believe that Norwegian banks will continue to have reliable access to domestic and international capital markets, in addition to deposits.

Economic And Industry Risk Trends

We view the economic risk trend as stable. In addition to the Norwegian authorities' unprecedented policy response to the COVID-19 pandemic, supported by the ample reserves in the GPFG, we expect that sound core earnings, advanced digital-banking offerings, and high capital buffers will continue to support the banks' credit standing and resilience through 2023.

We view the industry risk trend in the Norwegian banking sector as stable. High regulatory capital standards and Basel III liquidity requirements are fully in force, adding to the banking sector's strength. Norges Bank, Norway's central bank, will continue to raise the key policy rate gradually over the next couple of years, which, in our view, will support steady returns for the banking sector.

Economic Risk  |  2

We base our economic risk assessment for Norway on our assessment of economic resilience, economic imbalances, and credit risk in the economy.

Economic resilience: A strong net creditor position and flexible macroeconomic policy

Economic structure and stability.  Norway's policymaking environment is stable and largely predictable, underpinned by high wealth, as well as large external and fiscal net asset positions from over three decades of accumulated petroleum revenue. We estimate the country's GDP per capita at $81,400 in 2021, which is among the highest of all sovereigns we rate.

We expect real GDP growth to rebound by 3.4% in 2021 and 3.5% in 2022, following a relatively mild contraction of 0.8% in 2020, thanks to robust petroleum exports, government-support measures, and domestic consumption. We believe that household consumption will continue to recover, driven by wealthy households with pent-up demand, as well as government support packages that have helped limit the long-term impact on the labor market. At the same time, we forecast that Brent oil prices will average $75 per barrel (/bbl) in 2021 and $65/bbl in 2022, before decreasing to $55/bbl from 2023 (for more information, see "S&P Global Ratings Revises Oil And Natural Gas Price Decks," published Oct. 4, 2021, on RatingsDirect). This, together with a more prominent resumption of global trade, will support Norwegian exports.

For 2023-2024, we expect that real GDP growth will average 1.9% annually, supported by still-solid private consumption and increased oil and gas exports and investments, as production for new fields comes onstream and development continues. Development will be supported by temporary changes to the Petroleum Tax Act, which will encourage new investments in petroleum before 2023. Oil companies have made a number of announcements regarding their willingness to start new development projects by the end of 2022, leading to a projected increase in petroleum investments throughout 2023 and 2024.

The GPFG has expanded rapidly since its creation in 1990. It underpins Norway's very strong external and fiscal net asset positions. Increases to the fund are through inflows of petroleum tax revenue, state-owned petroleum activities, and returns on the fund's assets. The fund's value stands at $1.4 trillion, or about 300% of total GDP.

The robustness of the Norwegian social security net, together with the large financial packages introduced to support the economy, have contributed to a fast recovery in the labor market. The reopening of the economy has been followed by higher capacity utilization and growing labor demand. By Aug. 31, 2021, seasonally adjusted registered unemployment had fallen to 2.7%, while workforce participation had increased (see chart 2).

Chart 2

Macroeconomic policy flexibility.   Norges Bank operates with an inflation-targeting regime and has a track record of operational independence and clear policy objectives. It has a wide array of monetary instruments at its disposal, and well-developed capital markets enable effective policy transmission. After hiking rates three times in 2019, Norges Bank lowered its policy rate to 0% from 1.5% in spring 2020 to dampen the pandemic's negative effects. Following the recent favorable developments in the Norwegian economy, on Sept. 23, 2021, the central bank increased the policy rate to 0.25%. The revised policy rate in the central bank's latest forecast implies a gradual rise to up to 1.7% toward the end of 2024.

Political risk.   General elections took place on Sept. 13, 2021, and following a period of negotiation, the Labour Party announced on Oct. 8, 2021, that they had reached an agreement to build a government coalition with the Centre Party. Despite the upcoming change in government composition, there is broad cross-party consensus on key economic issues, such as fiscal spending, and very large fiscal buffers act as important cushions against possible fiscal slippages. Therefore, we believe that the general stance regarding the country's economic position will continue.

Economic imbalances: An increase in property prices indicates growth in household debt

Despite a correction in house prices in 2017-2018 and a temporary drop at the beginning of 2020, prices have continued to increase. We still view the economy as being in an expansionary phase. We believe that the pace of household-debt accumulation will remain at around 4% and unemployment will continue to decline on the back of strong GDP growth.

House prices and private-sector credit growth.   At the end of September 2021, 12-month nominal growth in house prices for the whole country was 11% (see chart 3). Given the interdependence between developments in house prices and those in household debt, as well as the fact that only a very small proportion of household debt in Norway carries fixed interest rates, we believe that these accumulated imbalances could pose an economic risk.

Chart 3

However, we expect that house-price growth will slow down. Financing costs will likely increase following Norges Bank's policy-rate hikes. At the same time, the high house prices have made house building more profitable. Housing investment has therefore increased, and we expect this to continue to rise during 2022. We expect that increasing activity in the building sector, together with the reinstatement of macro-financial measures, will contain excessive lending demand and curb house-price growth. We consider financial supervision in Norway strong, and expect the authorities to implement further macro-financial measures if needed, while banks have reduced their related risk exposure in recent years. The high household debt partly reflects the high share of home ownership in Norway, where 76.4% of households own their own dwellings as per December 2020, compared with countries with similarly high household debt (see chart 4).

Chart 4

Commercial real estate prices.   Concentration on the CRE sector remains a key area of vulnerability for the Norwegian banking sector. Of banks' exposure to corporate clients as of December 2020, CRE constituted 47%, of which office properties represented the largest part. Before the pandemic, selling prices for real estate had been increasing over a long period, mainly driven by prime real estate in Oslo. After an initial decline during the first half of 2020, the price slowdown more than reversed during the second half of 2020. Selling prices for existing dwellings were 18% higher at the end of September 2021 than prior to the pandemic.

We estimate commercial property selling prices as rental prices divided by yield. We expect rents to increase in line with the economic recovery, and yields to pick up thanks to higher long-term interest rates. We project that the flattening in CRE prices will limit the losses on banks' CRE exposures. In recent years, price increases have not been matched by corresponding borrowing by CRE companies, and, in our view, the improved equity ratios have increased these companies' ability to withstand a fall in prices. Nevertheless, the risk of CRE companies not being able to withstand a fall in prices continues to be one of the main vulnerabilities of the banking sector in Norway, due to the CRE sector's inherent volatility and the banking sector's substantial concentration on CRE (see chart 5).

Chart 5

Equity prices.   With interest rates still low, the Norwegian stock market--like many global stock markets--has performed well. Equity prices remain a neutral factor in our assessment of economic imbalances as banks have limited exposure to the stock market.

Current account and external debt position.   Alongside fiscal resilience, and with the GPFG's assets invested abroad, Norway is in an extremely strong position in terms of net external assets, which constitute about 600% of its current account payments on average for 2021-2024. However, we estimate that the country's gross external financing needs are high, at about 180% of current account receipts and usable reserves during the same period, largely because of banks' foreign-currency borrowings. We expect current account surpluses to pick up through 2021-2024 to above 4% of GDP on average, supported by the oil sector, a rebound in global trade, and a solid income balance thanks to Norway's significant net external asset position. This follows a historically low current account surplus of 2% of GDP in 2020, compared with above 6% on average over 2015-2018 due to the decline in oil prices.

Credit risk in the economy: Private-sector credit growth continued to outpace GDP growth in 2021, and credit losses remained resilient

Private-sector debt capacity and leverage.   We estimate Norway's GDP per capita to be about $81,400 in 2021, increasing to $91,600 through to the end of 2024, which indicates high debt capacity. Growth in households' net financial assets has increased on the back of a high savings rate and booming equity markets. Furthermore, there has been continued growth in the government's net financial assets via the GPFG.

The GPFG continues to maintain much of general households' pension assets, and, since it has strict rules to invest abroad in order to diversify away from the Norwegian domestic economy, the country continues to have a significant net creditor position. Many domestic issuers seek funding internationally, while less than 50% of corporate debt is funded through banks. At the same time, corporate sector debt accounted for about 103% of GDP at year-end 2020. Despite rather high debt, we think that the positive economic tailwinds in 2021 will support the credit quality of the banking sector. We expect corporate credit growth to slow somewhat through 2022 and then pick up in line with higher investments associated with the ongoing climate and energy transition in mainland Norway.

Lending and underwriting standards.  We believe that a general lowering of Norwegian banks' lending and underwriting standards in the past contributed to a large increase in private borrowing. Over the past few years, the Ministry of Finance and Norwegian Financial Supervisory Authority (FSA or Finanstilsynet) have taken steps to tighten lending requirements using loan-to-value (LTV) caps, interest-affordability tests, amortization requirements, and debt-to-income (DTI) caps. These requirements were further tightened at the beginning of 2021 to temper increases in debt. Furthermore, to prevent a weakening of the sector's financial strength, the Ministry of Finance introduced risk-weight floors for banks' residential and CRE exposures of 20% and 35%, respectively. These have been applicable since year-end 2020 and are similar to the average risk weights at most Norwegian banks today.

Payment culture and rule of law.  We believe that the legal framework for creditor protection is effective and favors the banking system. Creditors can pursue an individual's assets, rather than just pledged collateral, in the event of default.

Base-case credit losses

In line with our expectations, in 2020, economic stress hit the corporate sector, especially the oil-related part, more severely than the private sector. Credit losses increased to 79 basis points (bps) in total, compared to 29 bps as of end-2019, with about two-thirds of the provisions related to oil and shipping. Within the corporate segment, the pandemic has affected the oil and shipping, tourism, travel, and non-food retail sectors the most, but in our view, extensive government support has limited downside risks in 2021. In line with our assumption that economic activity has started to pick up in 2021, we expect losses to return to pre-pandemic levels within two years. At the same time, we see high household debt and the sensitivity of consumer confidence as risks.

Industry Risk  |  3

Institutional framework: Higher capital requirements than many countries in the EU and the European Economic Area

Banking regulation and supervision.   We assess Norway's banking regulation and supervision as being well in line with European and international standards. Norway has been successfully incorporating Basel III, as well as the relevant European bank regulations, into its banking regulation. The Norwegian FSA has the right and obligation to participate as a member of the EU's regulatory authorities to ensure that the regulation and supervision are harmonized. The FSA remains in charge of the daily supervision of financial undertakings.

In 2016, EU financial supervision regulations were incorporated into the European Economic Area agreement and subsequentially implemented nationally in the Financial Undertakings Act. The Financial Undertakings Act consolidates the main financial regulations and implements Norway's capital adequacy framework, which is aligned with the EU Capital Requirements Directive and Capital Requirements Regulation. In addition to this, the requirements of the European Bank Recovery and Resolution Directive (BRRD) were incorporated into national law in 2018 and entered into force from the beginning of 2019. Similarly, Basel III liquidity measures have been in place for many years, including a minimum net stable funding ratio and a liquidity coverage ratio (LCR) of 100% for all banks.

We consider that the regulator has been proactive in managing banking sector risks, including recent curbs on aggressive growth in mortgage and unsecured consumer lending that could lead to a fast accumulation of household debt and problem loans. The macroprudential regulations were updated at the start of 2021 and maintained the broader LTV cap of 85% on mortgage lending, the DTI cap at 5x gross annual income, the 5% interest rate add-on for affordability tests, and the mandatory amortization of residential mortgages. The updated amortization requirements were later tightened again to include all consumer and residential mortgage loans with LTVs above 60%. Although these measures will continue to slow the pace of lending growth, and, as such, provide stability to the banking sector, we consider that the gradual build-up of risks, especially in the mortgage lending segment, will likely remain.

A conservative approach to capital requirements by the Norwegian regulator has resulted in financial institutions reporting capital adequacy ratios that are among the highest in Europe (see chart 6). On Dec. 8, 2020, the Ministry of Finance adopted amendments to the capital requirements for Norwegian banks. This led to the systemic risk buffer increasing from 3.0% to 4.5% for domestic exposures. As the buffer targets risks in the Norwegian economy, it only applies to domestic exposures. The deadline for achieving the new buffer varies according to bank size to allow sufficient time for implementation.

Chart 6

The trend for the increased digitalization of financial services has revealed vulnerabilities mainly connected to increasing numbers of cyber attacks. Finanstilsynet is closely monitoring and working proactively with banks to mitigate these risks. As a result, no major incidents have occurred at institutions in the Norwegian financial sector so far.

Finanstilsynet has established a regulatory sandbox to give financial companies, as well as new players, the opportunity to launch new innovative products, technologies, and services. The purpose of the sandbox is to contribute to increased technological innovation in the financial industry. In addition to the regulatory sandbox, Finanstilsynet has an information service to solely answer inquiries regarding digital transformation and innovation.

Regulatory track record.   Norway's track record of regulatory actions confirms the efficiency of reforms in dealing with the banking sector's major deficiencies and providing sufficient support in times of stress. We consider that the macroeconomic policy framework is efficient and flexible, as demonstrated during the COVID-19 pandemic.

Governance and transparency.   We consider governance and transparency to be strong. Accounting and transparency in the banking sector are generally in line with international standards and we believe that governance within the banking sector is adequate. Banks have access to the detailed financial history of corporations and individuals, in keeping with the high transparency in the Norwegian market.

Competitive dynamics: A stable competitive landscape underpinned by a profitable and cost-efficient banking sector that is well prepared to ward off digital disruption

Risk appetite.  We assess risk appetite in the banking industry as moderate, despite fierce competition in the retail segment. Large established players, including DNB Bank ASA, have traditionally dominated the sector, especially retail lending, making it challenging for smaller banks to expand their retail businesses (see charts 7 and 8). Norwegian banks' loan books are heavily weighted toward real estate, with mortgages representing slightly less than 55% of all loans, lending to the property management industry accounting for an additional 14%, and lending to the construction industry 4.5% as of year-end 2020. We consider exposures to the oil and gas extraction, oil services, and shipping sectors (together accounting for nearly 20% of total loans) as riskier than other domestic exposures and more prone to cyclical downturns. The steep decline in oil prices put pressure on Norwegian banks' asset quality in 2020, but their profitability remained resilient as the mortgage and real estate markets continued to function well. Norwegian banks do not use trading or complex products for higher returns, nor do they hold significant market-making inventories or have highly leveraged balance sheets.

Chart 7

Chart 8

Industry stability.   The Norwegian banking market is quite stable, in our view, with no significant shifts in market share among the major banks. DNB Bank, the SpareBank1 Alliance, consisting of 14 independent savings banks, and pan-Nordic banks such as Nordea Bank Abp dominate the mortgage market. There has been an increase in competition for market share in retail and mortgage loans in recent years, which has been a contributing factor to the growth in household debt. We anticipate that lending margins are likely to increase following the increase in interest rates in 2022-2024.

Advanced digitalization in the banking sector provides Norwegian banks with a first-mover advantage and will continue supporting their high cost efficiency and solid profitability over the next few years. Our projection of the average cost-to-income ratio is in the range of 50%-51%, while our estimate of the average return on equity is around 10.5%-12.5% throughout 2023. We expect banks to be able to incorporate innovations from the digital/fintech sector, rather than spending their budgets fighting fintech competition. In our view, substantial investments in the digital/fintech sector to date have also prepared Norwegian banks well to manage key regulatory focus areas such as cyber risks and tightening anti-money-laundering and data-protection regulation.

Market distortions.   We do not perceive any significant distortions in the market. In our view, the government's 34% stake in DNB Bank is mainly to ensure that the DNB group remains headquartered in Norway. We believe that the government's ownership stake in DNB Bank does not distort the competitive environment for private banks, nor do any other actions by the government, such as government-sponsored mortgage programs.

Systemwide funding: Stable access to domestic and external capital markets, but relatively low deposits

Core customer deposits.   Although Norway is a wealthy country, with large pension assets, funding from domestic deposits is lower than in some peer countries. Norwegian banks fund most of their activities with deposits and bonds. Customer deposits account for around 40% of total funding, while long-term wholesale funding accounts for around 30%. At the same time, we consider that banks in Norway have stable and reliable access to domestic and international capital markets, in addition to deposits. We anticipate that domestic deposits as a share of the domestic loan stock will remain stable at the current levels. In addition, the funding picture could be distorted for the subsidiaries of foreign banks that might have access to funding both from the domestic market and external markets through their parent companies.

External funding.  Including foreign deposits, we expect the Norwegian banking sector's net external debt to amount to 30%-31% of domestic loans over the next two years. However, we estimate that about 55% of banks' external funding represents that from foreign parent banks, such as Nordea Bank, Danske Bank A/S, and some Swedish banks. Adjusted for this contribution, we estimate that the Norwegian banking sector's share of net external debt financing was closer to 13% of systemwide loans by year-end 2020.

The GPFG is prohibited from investing in domestic securities to limit inflationary pressure created by oil revenue. Furthermore, the government generates large current account surpluses and is a net external creditor. The banking sector therefore turns to the international capital markets to fund credit growth.

Domestic debt capital markets.  As of Dec. 31, 2020, the domestic debt market provided about 30% of banks' funding on terms longer than five years. The large share of short-term foreign issuance is mitigated by substantial deposits at foreign central banks and financial institutions and is not repatriated to the Norwegian economy.

Government role.  We believe that the central bank has considerable capacity to support banks' funding and liquidity, which enhances our view of systemwide funding.

Government Support

Norway introduced the EU's BRRD into national law in 2018 and enacted it from Jan. 1, 2019. We therefore consider the resolution regime as effective and government support uncertain for the domestic banking sector. The BRRD requires the mandatory bail-in of at least 8% of a bank's eligible liabilities, the so-called minimum requirement for own funds and eligible liabilities (MREL), before governments can provide solvency support. In 2020, Finanstilsynet prepared resolution plans and set the MREL for 14 banks, placing particular emphasis on the banks' information management systems and access to the financial infrastructure in a crisis. We expect Norwegian banks to continue to gradually increase their issuances over the next few years to meet the requirements ahead of the regulatory deadline in 2024.

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Related Criteria And Research

Related criteria

• Sovereign Rating Methodology, Dec. 18, 2017
• Analytical Linkages Between Sovereign And Bank Ratings, Dec. 6, 2011
• Banks: Rating Methodology And Assumptions, Nov. 9, 2011
• Banking Industry Country Risk Assessment Methodology And Assumptions, Nov. 9, 2011

Related research

• Sovereign Risk Indicators, Oct. 12, 2021. An interactive version is also available at http://www.spratings.com/sri
• S&P Global Ratings Revises Oil And Natural Gas Price Decks, Oct. 4, 2021
• Banking Industry Country Risk Assessment Update: September 2021, Sept. 29, 2021
• Norway, Sept. 13, 2021
• Leading Nordic Banks Keep Calm And Carry On Despite COVID-19 Stress, Feb. 23, 2021
• Nordic Banks: Strong Fundamentals And Digital Preparedness Shield Against COVID-19 Stress, Feb. 18, 2021