The European Central Bank has warned that the full effect of higher interest rates is yet to be felt in economies across the single currency area.
In its Financial Stability Review, published today, the ECB says higher borrowing and debt service costs will "increasingly test the resilience of euro area households, firms and governments".
It describes the outlook for financial stability in the euro area as "fragile".
The ECB review says the effect of higher interest rates can already be seen in real estate markets across the euro area which are in a downturn.
Lower prices in residential property markets are due to higher mortgage costs and deteriorating affordability, it said.
A downturn in commercial property is also due to higher financing costs but also what the ECB describes as "a structural shift" in the demand for office space following the pandemic.
The ECB says euro area banks have been resilient so far, but their funding costs will also rise as savers demand higher interest long-term deposits while loans may come under pressure as borrowers struggle with higher rates and a weaker economic environment.
Profits made by banks are also expected to come under pressure as lending volumes drop, due to higher rates and tighter credit standards.
"The weak economic outlook along with the consequences of high inflation are straining the ability of people, firms and governments to service their debt," said ECB Vice-President Luis de Guindos.
"It is critical that we remain vigilant as the economy transitions to an environment of higher interest rates coupled with growing uncertainties and geopolitical tensions," he added.
The Central Bank will publish its Financial Stability Review tomorrow which focuses on the Irish financial system and mortgage borrowing rules.
