"Profits have grown rapidly, as the rise in the Euribor rate has been accompanied by a rapid increase in income from Euribor-linked loans. These types of Euribor-linked contracts account for the majority of housing loans, leases and corporate loans," Bank of Estonia said.

In the first three quarters of the year, banks' profitability, or profit as a share of assets, was around 60 percent higher than the long-term average.

"Looking ahead, banks' profitability will decline because, unlike their interest income, interest costs are likely to continue to rise for some time. For the banks operating in Estonia, interest costs primarily mean interest paid on deposits," the central bank added.

"Interest rates on demand deposits, that is, money held in current accounts, are still very low, while interest rates on overnight deposits have risen rapidly. At present, depositors receive an interest rate of 4-4.5 percent for a one-year deposit at banks."

Bank of Estonia also sees a potential risk that the volume of overdue loans and loan losses may increase.

While the economic situation has been difficult, both individuals and companies in Estonia have so far generally managed to keep up with loan repayments.

At the end of September, the share of corporate loans, which were overdue by more than 60 days stood at 0.3 percent. The share of housing loans overdue by over 60 days was 0.1 percent.

"Individuals have been helped to cope with higher loan repayments due to low unemployment, while companies have benefited from the rapid growth in sales revenues over previous years and the buffers, which they have built up," said Bank of Estonia.

"However, if the economic situation remains challenging for longer and unemployment rises, then banks will need to be prepared for additional loan reductions and loan losses."

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