Banks’ Favorite Business ‘Without Tilling and Digging’ Becomes Attractive Again

Depositing money at the central bank – a move that has brought domestic banks one billion euros in profit over two years – could again become an attractive transaction. The European Central Bank (ECB), driven by rising oil prices, which primarily fuels inflation, raised interest rates by an additional 25 basis points at the Governing Council meeting on Thursday. From September 16, the interest rate on monetary deposits will be 2.50 percent.

This interest rate, in conditions of large liquidity surpluses, is the primary indicator of the character of monetary policy, and the governor of the Croatian National Bank, Ante Žigman, stated that monetary policy is tightening in response to rising energy prices and associated inflationary pressures. This is also confirmed by the increase in the annual inflation rate in the euro area from 2.9 percent in July to 3.3 percent in August.

At the Upper Limit

– A more restrictive monetary policy will also contribute to reducing inflationary pressures in Croatia, after inflation slightly strengthened in August under the influence of rising energy prices. It is evident that overall inflation is approaching the euro area average, with the difference reduced to less than half a percentage point – commented Žigman in the HNB’s LinkedIn post. From a banking perspective, the ECB’s decision was expected.

As noted by Raiffeisen analyst Petar Bejuk, the interest rate is now at the upper limit of the so-called neutral range of interest rates, which has neither a stimulating nor a calming effect on economic activities. – Decisions on interest rate policy will primarily depend on the inflation picture in the coming months, and from the current point of view, we expect another increase of 25 basis points by the end of the year – it states in the announcement.

If these forecasts materialize, the ECB could enter 2027 with a key interest rate of 2.75 percent. The ECB’s interest rate hikes also affect the cost of loans, primarily for businesses, where changes are noticed first. According to the latest data from the HNB, the interest rate on new loans to businesses in July was 3.44 percent, or about five basis points higher than in May (the month before the first increase in the monetary deposit rate).

Growth, but Below Average

– However, compared to the average of the last quarter of last year, when EURIBOR had already started to rise, the rate is almost unchanged. This indicates a currently limited transmission of higher market rates, with monthly data needing to be interpreted cautiously due to relatively high volatility in the series and the impact of the structure of new deals. Namely, interest rates on larger loan amounts (over one million euros) fluctuate significantly depending on the businesses borrowing in a given month – they explain at the HNB.

Regarding the cost of borrowing for citizens, the interest rate on housing loans in July was 2.91 percent, the same as in May and below the average of the last quarter of last year of 3.03 percent. The interest rate on cash non-purpose loans rose from 5.30 percent in May to 5.36 percent in July, but also remained below the average of the last quarter of last year of 5.54 percent.

– The relatively mild increase in interest rates or their retention at achieved levels is likely contributed by strong competition among banks, which makes banks more cautious in raising interest rates so as not to lose market share. This trend has also been supported by promotional offers from banks, which were frequently renewed during the observed period. Additionally, loans to households are generally granted with long maturities and fixed interest rates that are less sensitive to changes in market conditions compared to variable interest rates – they assess at the HNB.

More Expensive Loans Are Coming

In their opinion, a trend of increasing interest rates on new loans to businesses and households is expected in the coming period, in line with financial market expectations for the continuation of the ECB’s key interest rate hike process. However, the intensity of interest rate transmission also depends on certain domestic structural and institutional factors. – In Croatia, such factors during the previous period of monetary tightening contributed to weaker interest rate transmission in most segments compared to the euro area average. Among them, high liquidity surplus, stable deposit base, relatively low loan-to-deposit ratio, and a small share of variable interest rates in loan approvals stand out – they believe at the central bank.

Although interest income from household lending (1.1 billion euros) accounts for every second euro in total interest income last year (2.14 billion euros), the increase in ECB interest rates is good news for banks for another reason – depositing money at the central bank. Namely, while lending carries certain risks of non-repayment, depositing liquidity surplus at the HNB is a completely risk-free business that brings banks a nice profit in return. Until recently, in 2024, banks earned 532 million euros from the HNB on this basis, after receiving just under 480 million euros the year before.

Let us recall that with the entry into the eurozone on January 1, 2023, banks were freed from huge amounts of liquidity by reducing the required reserve rate from nine percent to one percent. This money was immediately redirected into overnight deposits at the HNB. The amounts involved are shown in the HNB’s balance sheet – already in January 2023, 14.4 billion euros appeared at the HNB, and by the end of that year, banks had deposited 16.7 billion euros.

This Year, 121 Million Euros Paid Out

Good earnings were guaranteed – by the end of 2023, the ECB kept the interest rate at four percent, and a year later it fell to three percent. All this reflected in a jump in profitability expressed by return on equity (ROE). This indicator was still 8.16 at the end of 2022, when interest rates were near zero, and a year later it jumped to 15.46. A peak of 18.16 was recorded in mid-2024, and since then ROE has been declining. In the middle of this year, it was 15.3.

With the drop in interest rates to two percent, profitability also decreased. The HNB’s report for last year states that the decline in bank profits was six percent, to 1.4 billion euros, ‘mainly due to the reduction of the main source of income, namely interest income, where these revenues decreased the most from the HNB, as a result of the aforementioned reduction in overnight deposits at the HNB and the decline in interest rates on those deposits.’ Last year, the HNB paid banks about 350 million euros in interest on overnight deposits. Otherwise, at the end of 2025, banks had deposited just under 12 billion euros.

During this year, the amount of interest paid is far lower. In response to Lider’s inquiry, the HNB stated that in the first eight months, banks were paid a total of 121.1 million euros in interest on overnight deposits. However, the deposited amount has practically halved compared to last year. Data from the balance sheet at the end of June shows that overnight deposits amounted to 6.8 billion euros. The decrease can be explained by investments in government debt securities, such as treasury bills, which do offer a slightly higher interest rate.

A Solution Exists, But Not in Zagreb

Another reason may be the withdrawal due to dividend payments to shareholders. Thirdly, it should not be overlooked that the reduction of the Eurosystem’s balance sheet (through the maturity of securities from the APP and PEPP programs) gradually absorbs the liquidity surplus from the entire financial system of the eurozone.

The HNB emphasizes that it does not provide assessments of how much interest payments on overnight deposits to banks will be in the future. – This amount will depend on the movement of the ECB’s interest rate on overnight deposits, the willingness of banks to use the available option of overnight depositing funds, as well as the level of liquidity surplus of banks in Croatia – they state from the central bank.

A solution for significantly lower payments would be an increase in the required reserves, which would force banks to return that capital to their treasuries. However, that decision has not been made in Zagreb since 2023, but in Frankfurt.