As a result of the normalisation of bank lending in 2021 that I mentioned earlier, and the start of the economic recovery, in the last stretch of 2021 the gap continued to correct, after widening at the onset of the pandemic. This process is expected to continue into the coming quarters, but the gap is still quite large. In this respect it is important to note that, against the backdrop of the crisis caused by the pandemic, the growth in the credit-to-GDP gap is associated with the sharp drop in GDP (the denominator in the credit-to-GDP ratio) in 2020 and with the measures taken to support the flow of credit to the economy (the numerator in the ratio), which drove its strong growth in that year. Accordingly, it does not reflect exuberant credit dynamics. Likewise, credit intensity and the debt service ratio, which are complementary indicators to identify cyclical risk, stand at moderate levels. Looking forward, our projections expect the credit-to-GDP gap to continue to correct in the coming quarters. Yet further acceleration in inflation and increasing downside risks to growth make for greater uncertainty. In particular, we need to ensure in the coming 4  Moreover, in the case of the loan-to-income (LTI) ratio, which measures the relationship between the mortgage principal and the borrower’s income at mortgage origination, the LTI ratios in most new mortgage loans were either low (LTI less than 3 times) or high (LTI over 4.5 times).
Further, Spain and Italy took their fiscal actions in close consultation with finance ministers from other countries in the euro area, demonstrating a healthy ability to work together. While difficult work still lies ahead, countries in the euro area have made meaningful progress toward achieving long-term fiscal sustainability. Looking to the future, the difficult work that remains also presents special risks – both for Europe and the United States. If Europe fails to chart an effective course forward, this could have a number of negative implications here. In particular, there are three areas of potential risk that I would like to highlight for the Subcommittee today. First, if economic conditions in Europe were to weaken significantly, demand for U.S. exports would decrease. This would hurt domestic growth and have a negative impact on U.S. jobs. It is important to recognize that the euro area is the world’s second largest economy after the U.S. and an important trading partner for us. Also, Europe is a significant investor in the U.S. economy, and vice versa. Thus, what happens in Europe has significant implications for our economy. Second, deterioration in the European economy could put pressure on the U.S. banking system. As the recent round of stress tests revealed, U.S. banks are much more robust and resilient than they were a few years ago. They have bolstered their capital significantly, built up their loan loss reserves and have significantly larger liquidity buffers. The direct net exposures of U.S. banks to the so-called “peripheral” European countries are actually quite modest.