It is therefore more  2  Source: Record of the November 2016 Financial Policy Committee Meetings published 6 December 2016 http://www.bankofengland.co.uk/publications/Documents/records/fpc/pdf/2016/record1612.pdf 3 http://www.bankofengland.co.uk/pra/Pages/publications/ss/2016/ss1816.aspx 4  All speeches are available online at www.bankofengland.co.uk/speeches  4  difficult for insurers to assess credit and other risks. Investing in and managing these assets also requires different skills. For example, when bonds are downgraded, an insurer may expect to be able to sell them. But when a direct investment begins to go wrong, the insurer will probably only be able to sell at a fire-sale price. It needs the capability to renegotiate and restructure the debt. One particular area of growth has been equity release mortgage lending. Life insurers take on almost all of the flow of new equity release mortgages in the UK. This now stands at around £ billion or 1.4% of non-linked assets. We published a discussion paper on Equity Release Mortgages last year. A typical such mortgage is a loan to an older borrower that does not require regular interest payments. Instead interest accrues over time and is repaid, together with the principal, from the proceeds of the sale of the house when the loan becomes due. That is usually when the borrower either dies or goes into long-term care. Borrowers have a ‘no negative equity guarantee’. It protects them from being required to pay back any more than the value of their property. In economic terms, the insurer has sold the borrower a put option on the house.

The overall banking system represented more than 700% of GDP. In terms of employment, every third job was related to the financial and professional service sector. An active use of the relevant policy tools could – and indeed should – have curbed these unsustainable developments. But prudential supervision was too weak and did not prevent the build-up of large financial sector imbalances. Asset growth outpaced deposit inflows. Banks became increasingly exposed to funding vulnerabilities. They tried to attract deposits by offering very high deposit rates – on average, nearly 2 percentage points higher than in the rest of the euro area 1. Domestic credit expansion and imprudent lending practices fuelled a domestic property boom. As the bubble burst, non-performing loans increased dramatically. Moreover, Cypriot banks underwent sizeable losses following the Greek debt restructuring. This further deteriorated the soundness of their balance sheets. The lop-sided nature of the economic model was not confined to the banking sector alone. At the same time, significant external and internal imbalances had built up – notably persistent current account deficits, significant losses in competitiveness, rising fiscal deficits and public debt. All this left Cyprus in a weak position to tackle the problems of its banking sector. And these problems appeared to be daunting – especially compared to the small size of the  1  The rate for term deposits from households and non-financial corporations as of March 2013 was 4.4% in Cyprus and 2,5% in the euro area. BIS central bankers’ speeches  1  economy.