In 2024, Latvijas Banka paid increased attention to the issue of improved availability of financial services, which also includes the availability of financial services across the regions and the possibility to receive various financial services at an appropriate price. As a result, targeted measures were taken in 2024 to ensure that the availability of financial services was not a systemic problem. Progress is also confirmed by the statistical data on positive developments in the decline in the number of terminated business relationships, with financial institutions becoming less likely to decide to terminate a business relationship. The issue of the availability of financial services is pertinent not only in Latvia. Taking into account the regular tightening of various international requirements, it is also a global matter. For example, the US has developed a strategy to facilitate the availability of financial services. The international organisation Financial Action Task Force (FATF) in its research on financial institutions' decisions to terminate business relationships with customers has also concluded that this is a complex issue affected not only by anti-money laundering requirements, but also by aspects such as profitability, reputational risks, and the lower risk appetite of financial institutions.1See https://www.fatf-gafi.org/en/publications/Fatfrecommendations/Fatf-action-to-tackle-de-risking.html.
Dialogue with market participants
In 2024, Latvijas Banka:
- organised individual working sessions with the staff of all credit institutions and major financial institutions in other sectors to explain and discuss cases where the application of AML/CFTP requirements has been excessive;
- supplemented the AML/CFTP Guide which provides practical explanations and examples in order to help financial institutions comply with legislative requirements in a proportionate manner while avoiding their excessive application;
- sent an explanatory letter to all credit institutions on the areas where Latvijas Banka expects further improvements in the availability of financial services. The areas related to the availability of financial services that deserve particular emphasis were communication with customers, transparency of pricing policies, proactive offering of a basic account, and product diversification, which could limit the use of an individual product, resulting in less information requirements from customers.
Supervisory activities
In 2024, Latvijas Banka carried out a horizontal inspection of all credit institutions regarding their ability to manage risks in a proportionate manner, ensuring that legislative requirements were not applied in an exaggerated manner and that appropriate financial services were available for different groups of customers at an appropriate price. As a result, the credit institutions in which deficiencies were identified drew up remedial plans. Consequently, the availability of financial services does not exist as a systemic problem, and each issue is addressed individually.
Historically, AML/CFTP inspections focused primarily on the ability of financial institutions to comply with AML/CFTP requirements. In 2024, additional attention was paid to the ability to apply these requirements in a proportionate manner, i.e. whether a financial institution is able to identify the most important risks and does not apply supervisory measures in an exaggerated manner, without assessing them in the context of risks.
At the same time, Latvijas Banka actively offered mediation processes in cases where customers complained that financial institutions were imposing exaggerated requirements on them.
Improvement of the regulatory framework
After assessing the barriers to the regulatory framework that most often hinder the application of a risk-based approach, Latvijas Banka amended its regulatory acts in 2024 to ensure that the framework allows a financial institution to apply a risk-based approach more effectively in practice. The key amendments were as follows.
- The financial institution will be able to set a deadline for customer due diligence on an individual basis. Until now, if the financial institution was unable to obtain the information necessary for customer due diligence within the set deadline, the business relationship with the customer had to be terminated. The new procedure will allow the financial institution to extend the customer due diligence period on an individual basis, when necessary, if it is related to objective circumstances. At the same time, the financial institution remains obliged to carry out customer due diligence within a reasonable time frame.
- The financial institution will only be required to carry out related customer due diligence in high-risk cases where due diligence is applicable. The previous procedure did not specify that the analysis of related customer groups depended on the risk level. This will facilitate customer due diligence for related customer groups that do not show signs of increased risk.
- The financial institution will no longer be obliged to assess and justify the customer's relationship with Latvia in all cases.
Availability of financial services across regions
In 2024, Latvijas Banka organised several discussions in the regions of Latvia to discuss the developments of the Latvian economy and the availability of financial services across the regions. During these engagements with local governments, businesses, and residents, a recurring concern emerged: the shortage of quality housing and the limited availability of housing loans are major barriers to attracting employees. These constraints, in turn, were widely recognised as key impediments to regional economic growth.
This is also confirmed by Latvijas Banka's analysis which shows that the availability of financing across Latvian municipalities is very uneven. The amount of outstanding housing loans in Pieriga municipalities comes close to the euro area average. Meanwhile, in other regions of Latvia, lending activity remains sluggish, accounting for no more than 10% of municipal GDP, including the State cities and municipalities with a high level of economic activity. Overall, in nearly half of Latvia's municipalities, the amount of outstanding housing loans does not exceed 3% of the municipality's GDP (see the report Financing of the Economy 2024 for more details).
Regional disparities stem from several structural issues that hinder lending activity in the housing market, including the widespread shadow economy, the gap between real estate valuations and construction costs, as well as various loan supply constraints (minimum amount, etc.). To address these issues, a wide range of measures is needed, including the involvement of the state and local governments. The following proposals of Latvijas Banka to promote housing lending across the regions were sent to the government in autumn 2024.
- The shadow economy remains a persistent challenge, manifesting not only through the use of envelope wages and limited access to formal financing, but also through the under-reporting of actual transaction values. This practice is often driven by attempts to conceal income, evade taxes, and avoid paying the state fee associated with registering property rights in the Land Register.
The under-reporting of actual transaction values has detrimental effects on both honest market participants and the housing market as a whole. When a substantial share of transactions is deliberately undervalued, it undermines the accurate assessment of real property values – an essential factor in the process of granting housing loans. As a result, the recorded transaction values used for valuation purposes often fall short of the actual construction or purchase costs of new housing. This mismatch restricts the loan amounts that can be issued, thereby impeding the development of new housing and constraining activity in the secondary market. The problem is particularly acute in smaller municipalities, where the already limited volume of transactions further complicates reliable property valuation, amplifying the impact of under-reporting on credit availability and market development.
To address this issue, policy measures are necessary to encourage parties involved to report the true values of their transactions. One such measure is to reduce the state fee for registering property rights in the Land Register, which is significantly higher in Latvia than in Lithuania and Estonia. In Latvia, the full amount of the state fee is 1.5% of the transaction value1Yet, no more than 50 000 euro.
, while in Estonia, it ranges from 0.1% to 0.2%2See https://www.riigiteataja.ee/en/eli/519022016005/consolide and https://www.riigiteataja.ee/tolkelisa/5270/2202/4001/annex2.pdf#.
, and in Lithuania, it is a fixed payment of 17 to 34 euro3See https://www.registrucentras.lt/p/1532.
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Currently, a reduced (0.5%) fee in Latvia is only applicable to certain groups of the public, such as persons holding the Latvian Honorary Family Certificate4The Honorary Family Certificate is granted to large families that take care of at least three children under the age of 18 as well as adults under the age of 24 if they are in the process of obtaining general, professional, or higher education, or serving 11 months in the National Defence Service and families that take care of a child with a disability or an adult under the age of 24 assigned group I or II disability.
and persons who acquire real estate under state assistance in the purchase or construction of residential space (the guarantee programme of AS Attīstības finanšu institūcija Altum (Altum)).5The reduced 0.5% fee rate applies if, together with the request for the corroboration of property rights, the person submits a request for the corroboration of a mortgage, with the attached collateral agreement containing a credit institution's certification that state assistance in the purchase or construction of residential space is provided to a person who lives with and maintains at least one child or is pregnant or to the expected child's father, or state assistance in the purchase or construction of residential space is provided to a soldier serving in the National Armed Forces.
- Another key factor hindering housing lending and real estate market activity in Latvia's regions is the disparity between real estate valuations and construction costs. While real estate prices (market values) vary significantly across Latvia's municipalities, construction costs remain relatively uniform. This hampers the construction of new residential buildings in the regions, the renovation of the housing stock, and the overall development of the housing market. To tackle this problem, it is necessary to reduce the costs of constructing new residential buildings in the regions. During Latvijas Banka's discussions with regional companies, residents, and local governments, some ideas were presented that should be assessed in depth, such as allowing private builders to construct multi-apartment buildings on municipal land or exploring the possibility of reducing the VAT rate for first-time real estate market transactions.
- The analysis conducted by Latvijas Banka suggests that the willingness of credit institutions to grant retail housing loans in the regions is rather limited. This is also confirmed by the fact that only a very small share of transactions for relatively small amounts are financed by bank loans – the number of transactions financed by loans secured by real estate collateral does not exceed 1% of the total transactions amounting up to 20 000 euro (to compare – more than half of the transactions for the amount over 60 000 euro are financed by secured loans). Instead, retail housing loans or unsecured housing loans are offered, accounting for nearly 15% of the entire housing loan portfolio at the end of 2023. The interest rates on these loans are on average 2–3 times higher than on secured loans.
The unavailability of reasonably priced loans is an issue, especially in the regions. To address this, Altum could establish a secured loan programme for property purchases. Latvijas Banka has discussed this proposal with the Ministry of Economy and Altum and supports the development of such a programme. Through direct lending, the programme would address a market failure by enhancing housing loan availability in the regions, while still maintaining the market for unsecured loans intended for repairs as well as other purposes that are unrelated to the purchase of a property. In developing such a programme, it should be anticipated that if active private sector involvement in financing housing purchase transactions is observed during the programme's operation, the programme could be terminated.
The significant variation in housing lending underscores a broader decline in the availability of financial services across Latvia's regions. With the reduction in cash transactions and the expansion of digital services, the number of bank branches has fallen sharply in Latvia. While this trend is evident across other parts of the euro area, the most significant percentage decline has occurred in Latvia.
Chart 1. Number of credit institution branches per 100 000 adults (2014–2022; changes; %)
Source: IMF.
* Information on Belgium is available only for 2021.
The reduction in bank branches has notable side effects, including for lending. The issuance of new loans requires a thorough assessment and often personalised solutions. This is especially true for small and medium-sized enterprises. As banks reduce the number of their branches, their ability to understand the plans and needs of local businesses diminishes, compounding the issues connected to accessing credit. Sveriges Riksbank provides evidence of this issue, noting that municipalities most affected by the reduction in bank branches have experienced significant declines in access to credit and weakening economic activity.
With reductions in bank branches, the range of services offered, and working hours, remote service solutions provided by banks are becoming increasingly important in the provision of financial services. Residents with sufficient digital skills and a willingness to reap the benefits offered by remote services welcome such changes and are able to adapt to them. However, digital transformation as a whole has failed to reach a stage of development where a complete transition to remote solutions is possible, and the risk of financial exclusion for certain groups in society is increasing (see also the OECD Economic Survey of April 2024).
Promoting the availability of financial services across the regions of Latvia and financial inclusion requires a balanced approach that envisages the continued coexistence of both remote and in-person methods of providing financial services. Addressing this issue, Latvijas Banka developed a regulatory framework in 2024. It lays down requirements for banks to provide in-person services, outlining both general conditions for the provision of financial services, aimed at promoting customer-friendly service delivery, and mandatory in-person services, along with their provision requirements, which significant banks must ensure for their customers. Additionally, it includes requirements for cash availability (an ATM network).
Banks must comply with the requirements regarding cash availability as of 2025 and for other financial services as of 2026. This framework will be implemented in 2025.
With the new framework coming into force, a greater regional presence of banks will be ensured. It aims to promote economic development throughout Latvia, as well as the provision of financial services in the manner desired by Latvian entrepreneurs and residents. Although we will not return to the past, with a bank branch operating in almost every city five days a week, as many residents use financial services digitally and will not change their habits, rational and flexible solutions will be sought to improve the regional presence of banks.