nils bernstein : proposals for mortgage credit regulation speech by mr nils bernstein, governor of the national bank of denmark, at the annual meeting of the danish mortgage banks ’ federation, copenhagen, 30 march 2011. * * * growth in the global economy has accelerated over the last year and has become more robust. but recent events have, once again, shown how unpredictable the world is. the turmoil in the middle east – with an armed conflict in libya – and the natural disaster in japan with its alarming consequences will not halt the global economic upswing, but they will have an impact. * * * combined with a number of other factors, the upswing has contributed to a global price hike. inflation is driven by rising food and commodity prices. commodity prices are now almost back at the high level seen before the financial crisis. it looks as if the crisis just led to a short interruption of an upward underlying trend in commodity prices. with higher inflation, the level of interest rates is likely to normalise sooner than the markets have previously expected. the anchoring of inflation expectations is important if the higher prices are not to spill over to wages and trigger a price - wage spiral. the european central bank has stressed its commitment to keeping inflation at bay, and there is reason to believe that an undesirable price - wage spiral can be avoided, as long as there is plenty of spare capacity and labour. the financial crisis and not least the european sovereign debt crisis have clearly shown that there is a need for stronger economic cooperation in the eu. and so far the eu has been ready to respond to this need. the first important step was taken in the autumn, when the commission and the van rompuy task force presented their proposals for strengthening the stability and growth pact and other aspects of economic cooperation. the member states have now agreed on a series of amendments to strengthen fiscal discipline and – as a new element – introduce a surveillance mechanism to prevent fundamental macroeconomic imbalances in eu member states, including those outside the euro area. the second important step was taken on 11 march, when the heads of state or government of the euro area member states agreed on the euro pact. the pact is first and foremost a strong political signal of shared determination to introduce initiatives to strengthen competitiveness, employment, fiscal discipline and financial stability. as a non - euro area member state, denmark did not have to join the pact. at danmarks nationalbank we are pleased to note that there was broad support for doing so in

to these targets, an investment in a danish bank or mortgage bank should yield a considerably higher return than an investment in danish government bonds. the reason for this high risk premium is not obvious to me. and certainly not if we take into account that the institutions have increased their capitalisation in recent years and are now seen as safer investments. the high targeted returns give cause for concern as they may trigger a need to increase the risks taken by credit institutions. this can be done on the assets side, e. g. via more risky lending. or on the liabilities side via higher leverage ratios. i hope that the high targets are not based on this type of strategic considerations. the credit institutions should carefully consider whether the current targeted returns are consistent with a prudent level of risk. * * * the long period of low interest rates may have had an impact on the expectations and behaviour of firms and households. the risk that interest rates may rise is disregarded. most people have clearly become accustomed to low interest rates. in relation to financial stability, this requires enhanced vigilance. if interest rates rise, this may lead to losses on the credit institutions ’ assets and the collateral behind their lending. for households, the costs of borrowing to purchase a home are historically low at present, even if the announced increases in administration margins are taken into account. how the administration margins are determined is no concern of ours. however, i would like to emphasise that there is a link between the very low level of interest rates, which also leads to a modest return on a credit institution ’ s equity, and the need for a certain level of earnings from other sources so that capital can be accumulated with a view to increasing lending. it should also be noted that improved earnings and better capitalisation of a mortgage bank benefit its customers by way of lower funding costs. this is reflected in the yield payable by the customers on the underlying bonds. combined with migration to the cities, the very low interest rates have led to a period of strong growth in house prices in some parts of denmark. adjusted for seasonal fluctuations, house prices continued to rise at a robust rate in the 2nd half of 2015 and at the beginning of this year. but there are signs of a slowdown compared with one year ago. trading activity has generally declined over the last year. this could indicate that price pressures will ease in the future. although substantial interest rate hikes are not on the cards for the time being, it is important that borrow