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Sinaia
September 22-24, 2010
National Bank of Romania
Sinaiaa
Dow Jones Industrial Average
EUR/RON
USD/RON
Sinaia
National Bank of Romania
REGIONAL SEMINARON FINANCIAL STABILITY
SinaiaSeptember 22-24, 2010
IMPLICATIONS OF THE GLOBAL FINANCIAL CRISIS
ON THE FINANCIAL STABILITY OF EMERGING EUROPE
Note
The issues of Regional Seminar on Financial Stability comprise papers presented at the annual conference hosted by the National Bank of Romania with the support of the International Monetary Fund. The opinions expressed by the authors do not necessarily reflect those of their organizations.
Reproduction of the publication is forbidden. Data may be used only by indicating the source.
National Bank of Romania25, Lipscani Street, postal code 030031 Bucharest – RomaniaTelephone: 4021/3124375; fax: 4021/3149752
www.bnr.ro
ISSN 2248-3365 (print)ISSN 2359-747X (online)
Contents
Opening RemarksCristian Popa, National Bank of Romania ................................................5Joseph Crowley, International Monetary Fund .........................................7
SESSION 1 ........................................................................................ 9
Recent Macroeconomic Trends and Management of Capital Flows in Emerging European CountriesJoseph Crowley and Yulia Makarova, International Monetary Fund .....11
Corporate Lending During the Crisis in the CEE RegionFábián Gergely, Magyar Nemzeti Bank .................................................35
To what Extent has the Crisis Affected the Romanian Banking System?Florin Bălăuţă, National Bank of Romania ............................................42
SESSION 2 ...................................................................................... 47
Stress Testing After the Global Financial CrisisDr. Heiko Hesse, International Monetary Fund ......................................49
Issues on Evaluating the Vulnerabilities of the Banking SystemVirgil Dăscălescu, National Bank of Romania .......................................63
Systemically Important Participants within ReGIS Payment System – a Stress Test Approach –Horaţiu Lovin, National Bank of Romania.............................................69
SESSION 3 ...................................................................................... 75
Issues Related to Foreign Currency Lending – Possible Measures to Decrease itJulia Uebeleis, Oesterreichishe Nationalbank ........................................77
Foreign Currency Lending in CroatiaSaša Cerovac, Croatian National Bank ...................................................92
National Bank of Romania’s Experience with Curbing FX Lending Rapid GrowthLuminiţa Tatarici, National Bank of Romania........................................95
SESSION 4 ...................................................................................... 99
Impact of Financial Developments on Emerging EuropeMark Allen, International Monetary Fund ............................................101
The Impact of the Withdrawal of Fiscal and Monetary Stimulus of European Area CountriesIrina Mihai, National Bank of Romania ...............................................118
SESSION 5 .................................................................................... 123
Basel III and Impact on Emerging EuropeNikolaos Tsaveas, Bank of Greece .......................................................125
Impact of the Basel III Liquidity Regulations on the Polish Banking SectorPiotr Kasprzak, National Bank of Poland .............................................135
Liquidity Risk Regulation in the Context of the Financial CrisisAlexandru Stângă, National Bank of Romania.....................................140
Closing RemarksJoseph Crowley, International Monetary Fund .....................................147Ion Drăgulin, National Bank of Romania .............................................149
5
OPENING REMARKS
Cristian Popa*
It’s a pleasure to have you here. I hope you have settled in well and that travelling was not too much of a burden. Obviously this is an event that occurs on a recurring basis and it’s my pleasure now to have taken over from my colleague Eugen Dijmărescu, whom I’m sure that quite a number of you have met and worked with in continuing the tradition of these seminars that we organize together with the International Monetary Fund. I would like to say only a few words, without exhausting the agenda, because we have a very good line-up today and tomorrow.
There is, or rather there was before the crisis, a tendency to look at countries’ fi nancial systems as isolated entities and I think that was unrealistic then. We know, for example, from freely fl owing capital how diffi cult it was for Romania during the boom period to restrain lending in foreign exchange. But there is also right now, because of the presence of common lenders and common parents in a regional context, in Central and Eastern Europe in general and elsewhere, a need to look at things from a greater perspective, i.e. let’s say from a bigger height, and to go into more detail as well.
One of the connections that we see made nowadays is between integrating fi nancial stability concerns into price stability actions of the central bank as the main mandate of modern, independent central banks and that is something where a lot of work has been done.
The second thing is that, obviously, something as hazy perhaps as the notion of macroprudential risk – because structural reform can mean very, very many things –, is coming (and very rightly so) to the forefront. People are looking increasingly at this and you will see it at every level, be it within the EU or G20 or elsewhere (the Fund itself is very vocal on this) and I think it has been given the right place and the attention that it deserves.
* Deputy Governor, National Bank of Romania
6
I also think that an exchange of information and an analysis involving independent observers of what is going on in the region (of a status check) and a look at the directions in which we are moving is extremely important. Primarily, what is short term movement from the bigger perspectives? And we have questions that I don’t think fall within the scope of this seminar, they are too big to exhaust. Will growth resume? Will there be a probability of a differential? Probably yes. What about potential GDP compared to developed economies? Will capital be fl owing as massively and in the same time structure as it did before? Possibly not, but in this context it is important to realize how the fi nancial sector will be contributing to sustainable growth and how growth will be moving. Let me stop here and pass the fl oor to Mr. Crowley, Senior Economist with the IMF, who will be delivering his remarks and then we will be proceeding with the agenda.
7
OPENING REMARKS
Joseph Crowley*
Thank you, Mr. Popa. I am very happy to be here. Allow me to say a few words: Hello everybody! Welcome to Sinaia and welcome to the joint IMF – NBR seminar on fi nancial stability issues. Those of you who were here last year had been introduced to me already, but for those of you who are new, I am Joseph Crowley, Senior Economist in the IMF’s Monetary and Capital Markets Department.
I had a great time at the joint seminar last year and I am very happy to be here again and to be working with the NBR in hosting this useful and interesting seminar. And while I’m glad to return to Sinaia, I can’t say I’m happy that the crisis, that was the focus of last year’s seminar, remains worrisome enough to again qualify as the topic of discussion this year. There are some positive signs that for some countries the worst could be over, but not for all, and a great deal of uncertainty and anxiety remains. The crisis is ongoing and new threats are appearing, that could cause another round of distress. But while the crisis is not over, it’s not too early to look backwards and to think about what actions could have been taken to make fi nancial systems more resilient and whether greater attention should have been paid to risks.
One element of the crisis in emerging European nations that has come under particularly heavy scrutiny is the reliance on large capital infl ows to fi nance investment and support growth, which enhanced the economic boom of the last decade but also worsened the impact of the crisis. There are many who suggest that this strategy was a mistake, because it was really risky, and there are others who challenged this view and proposed that the risky strategy yielded higher returns and was at least ex ante and possibly even ex post desirable.
The author Ernest Hemingway wrote a famous story called The Old Man and the Sea. The story received the Pulitzer Prize and helped Hemingway earn the Nobel Prize in literature and, like other great works, it may offer lessons that are valued outside the world of the characters in the story. In the story, Santiago is an elderly fi sherman who goes far out to sea one day into deep water and catches an enormous marlin, the largest fi sh he’s ever caught. He kills it after a long
* Senior economist, International Monetary Fund
8
struggle that pulls him far out to sea. Unfortunately, the fi sh is too large to fi t into his boat. So he has to tow it alongside his boat in the water and before he could return to shore sharks devoured it entirely. After the story ends, Santiago may have considered what measures he could have taken to get back to shore with at least part of his fi sh. The most obvious preventative step would have been to remain close to shore, but the fi shing was less good there. Besides, his decision to go so far out to sea was not entirely his own, as he was dragged part of the way out to sea by the fi sh. There were two key measures he could have taken. First, he could have better prepared himself to manage the problems of the deep water. For instance, he could have had a sturdier boat that could have carried most fi sh he was likely to catch and endured more storms he was likely to encounter.
Secondly, he could have improved his ability to navigate so as to have maintained a more desirable distance from shore at all times and to have been able to move quickly to a safer area when sharks arrived.
And fi nally, whatever measures he took, he had to decide how to balance the risks he was willing to take against the opportunity for greater rewards.
Now, it may be fun to play with metaphors, but let’s not lose sight of the fact that this is serious business, that the crisis is causing widespread loss and suffering. Hopefully, this metaphor is also informative. Also let’s note an important way in which policymakers face a different situation than Santiago; they are not deciding only for themselves how sturdy a boat to build, where to sail it and how much risk to accept in exchange for chances of greater rewards; they must make these choices on behalf of entire populations.
Next, my colleague Yulia Makarova and I will elaborate on the lessons of capital fl ows in a presentation entitled Recent Macroeconomic Trends and Management of Capital Flows in Emerging European Countries. We will look at the question of whether the capital fl ows were desirable and how they might have been managed differently. We also have two other IMF staff members here to give presentations.
Heiko Hesse will give a presentation on stress testing after the global fi nancial crisis, including the recent stress testing exercise in Western Europe, the new focus on liquidity stress testing, and some observations on stress tests in Eastern Europe.
Mark Allen will give a presentation on the impact of the withdrawal of fi scal and monetary stimulus of the developed countries on emerging European countries, a topic that the Vice-governor raised concerns about in his introductory remarks last year. I hope you will fi nd these presentations helpful.
SESSION 1
TO WHAT EXTENT HAS THE CRISIS AFFECTED THE EMERGING EUROPEAN
COUNTRIES’ FINANCIAL SYSTEM?HAS IT HAD A UNIFORM IMPACT ON THE REGIONAL COUNTRIES?
11
RECENT MACROECONOMIC TRENDS AND MANAGEMENT OF CAPITAL FLOWS IN EMERGING EUROPEAN COUNTRIES
Joseph Crowley* and Yulia Makarova*
Current Macroeconomic Trends in Emerging Europe
Emerging Europe was affected by the crisis more than other emerging regions …
... and its recovery has been weaker than in other parts of the worldThe differential impact of the crisis across countries refl ected variations in the factors that attracted excessive foreign capital before the crisis: the countries hit most had pre-crisis infl ows that were the most in excess of what can be explained by structural factors, such as degree of income convergence or the size or structure of their economies.
* International Monetary Fund
GDP growth in emerging economies
Source: IMF – World Economic Outlook
percent
-8
-6
-4
-2
0
2
4
6
8
2001
2000
2009
2002
2003
2004
2005
2006
2007
2008
Middle East
Emerging Asia ex. Japan Western Hemisphere
Emerging Europe
12
Variations within the region
Variances in the speed of recovery in emerging Europe have been due to:
Country-specifi c vulnerabilities
Differences in external fi nancing access
Differences in reliance on export demand
Differences in exchange rate regimes and economic structures.
0
2
4
6
8
10
12
148
0
1
2
3
4
5
6
7
1995 1997 1999 2001 2003 2005 2007 2009
Euro areaEmerging Europe
GDP Growth
1995 1997 1999 2001 2003 2005 2007 2009
Current Account Balancepercentpercent
European economies: cross-country standard deviation of GDP growthand current account balance, 1995-2009
Source: IMF – World Economic Outlook and IMF staff calculations
Euro areaEmerging Europe
13
Emerging Europe originally benefi ted from large infl ows more than other regions did:
0
5
10
15
20
25EuropeLatin AmericaAsia
Total inflows 1/
1/ Total FDI, portfolio debt and equity, other investment liabilities of banks and corporates (loans and currency & deposits)
0
2
4
6
8
10
12EuropeLatin AmericaAsia
Total FDI inflows 1/
1/ Direct Investment in reporting economy, net
-4
-2
0
2
4
6
8EuropeLatin America Latin AmericaAsia
Other investment bank inflows 1/ Other investment non-bank inflows 1/
1/ Other investment liabilities, loans and currency & deposits, banks, net
-1
0
1
2
3
4
5Europe
Asia
1/ Other investment liabilities, loans, other sectors (non-government, non-monetary authorities), net
(percent of GDP)
2001
2000
2002
2003
2004
2005
2006
2007
2008
2009
2001
2000
2002
2003
2004
2005
2006
2007
2008
2009
2001
2000
2002
2003
2004
2005
2006
2007
2008
2009
2001
2000
2002
2003
2004
2005
2006
2007
2008
2009
Source: IMF – International Financial Statistics and IMF staff estimates
14
There were variations in infl ows across countries4-quarter rolling sum of infl ows in percent of 4-quarter rolling
sum of GDP, 2003Q1 – 2010Q1
-505
1015202530354045
2003
Q1
2003
Q3
2004
Q1
2004
Q3
2005
Q1
2005
Q3
2006
Q1
2006
Q3
2007
Q1
2007
Q3
2008
Q1
2008
Q3
2009
Q1
2009
Q3
2010
Q1
Average EMBalticsPOL, CZEROM
Average EMBalticsPOL, CZEROM
Average EMBalticsPOL, CZEROM
Total inflows 1/
1/ Total FDI, portfolio debt and equity, other investment liabilities of banks and
corporates (loans and currency & deposits)
Average EMBalticsPOL, CZEROM
02468
1012
2003
Q1
2003
Q3
2004
Q1
2004
Q3
2005
Q1
2005
Q3
2006
Q1
2006
Q3
2007
Q1
2007
Q3
2008
Q1
2008
Q3
2009
Q1
2009
Q3
2010
Q1
Total FDI equity inflows 1/
1/ Direct Investment equity capital in reporting economy, net
1/ Other investment liabilities, loans and currency & deposits, banks, net
-15-10-505
10152025
2003
Q1
2003
Q3
2004
Q1
2004
Q3
2005
Q1
2005
Q3
2006
Q1
2006
Q3
2007
Q1
2007
Q3
2008
Q1
2008
Q3
2009
Q1
2009
Q3
2010
Q1
Other investment liabilities of banks inflows 1/
1/ Other investment liabilities, loans, other sectors(non-government, non-monetary authorities), net
Other investment liabilities of non-banks inflows 1/
-2-101234567
2003
Q1
2003
Q3
2004
Q1
2004
Q3
2005
Q1
2005
Q3
2006
Q3
2006
Q1
2007
Q1
2007
Q3
2008
Q1
2008
Q3
2009
Q1
2009
Q3
2010
Q1
Source: IMF – International Financial Statistics and IMF staff estimates
15
Emerging European economies: macroeconomic performance by region, 2001-2009
-12
-8
-4
0
4
8
12
2001
2002
2003
2004
2005
2006
2007
2008
2009
2001
2002
2003
2004
2005
2006
2007
2008
2009
General Government Balance(percent of GDP)
25
20
15
10
5
0
-5
-10
-15
Current Account Balance(percent of GDP)
Emerg. Asia ex. JapanMiddle East Western Hemisphere Emerging Europe
Source: IMF – International Financial Statistics, IMF – World Economic Outlook and IMF staff estimates
Emerg. Asia ex. JapanMiddle East Western Hemisphere Emerging Europe
-5
-3
-1
1
3
5
7
9
2001 2002 2003 2004 2005 2006 2007 2008 2009
Credit Growth(percentage points of GDP)
Emerging Asia ex. JapanMiddle East Western Hemisphere Emerging Europe
16
The counterpart of large capital infl ows into Emerging European countries was a decline in current accounts during the past few years, albeit from a wide variety of levels.
In 2009 current accounts improved signifi cantly … is this good news?
Source: IMF – International Financial Statistics
Current account/GDP for Emerging Europe countries, 2000-2008percent
-30
-20
-10
0
10
20
30
2000 2001 2002 2003 2004 2005 2006 2007 2008
Current account/GDP for Emerging Europe countries, 2000-2009
-30
-20
-10
0
10
20
30
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
percent
Source: IMF – International Financial Statistics
17
The initial infl ows fi nanced an increase in investment to GDP ratios. The decline in infl ows has been matched by an even larger decline in investment.
Investment/GDP for Emerging Europe countries, 2000-2008percent
10
15
20
25
30
35
40
2000 2001 2002 2003 2004 2005 2006 2007 2008Source: IMF – IFS. Countries include those on the seminar invitation list
Investment/GDP for Emerging Europe countries, 2000-2009
10
15
20
25
30
35
40
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
percent
Source: IMF – IFS. Countries include those on the seminar invitation list
18
The initial increase in investment ratios came from the private sector ...
… and most of the fall has come from the private sector as well.
Private investment/GDP for Emerging Europe countries, 2000-2008
0
5
10
15
20
25
30
35
40
2000 2001 2002 2003 2004 2005 2006 2007 2008
percent
Source: IMF – IFS. Countries include those on the seminar invitation list
Private investment/GDP for Emerging Europe countries, 2000-2009percent
0
5
10
15
20
25
30
35
40
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009Source: IMF – IFS. Countries include those on the seminar invitation list
19
The public sector did not contribute as much to the increase in investment …
It has also made a small contribution to the decline, though this contribution could increase as budget constraints become more serious.
Public investment/GDP for Emerging Europe countries, 2000-2008
0
1
2
3
4
5
6
7
8
9
2000 2001 2002 2003 2004 2005 2006 2007 2008
percent
Source: IMF – IFS. Countries include those on the seminar invitation list
Public investment/GDP for Emerging Europe countries, 2000-2009percent
0
1
2
3
4
5
6
7
8
9
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009Source: IMF – IFS. Countries include those on the seminar invitation list
20
What will be the consequences of a decline in investment?
Depends on the nature of the investments. Fewer houses will be built, but this doesn’t impact productivity
Lower investment in productive resources would be more damaging
Much of the credit extended during the boom years was for real estate and nontradables.
Credit (percent of GDP)Composition of credit (2000-2007)
Countries: Albania, Bosnia and Herzegovina, Bulgaria, Croatia, Czech Republic, Estonia,Hungary, Latvia, Lithuania, Poland, Macedonia FYR, Romania, Serbia, Slovak Republic, Slovenia.
2000
2001
2002
2003
2004
2005
2006
2007
0
5
10
15
20
25
30
35
40
2000
2001
2002
2003
2004
2005
2006
2007
0
5
10
15
20
25
30
35Credit to households
housing purposes
consumer and other
Credit to non-financial corporations
real estate and construction
other nontradables
tradables
21
However, credit to GDP ratios have mostly continued to rise during the crisis (even if this is due to a reduction in the denominator in some cases) …
Growth of real credit to private sector, 2006 – Jan. 2010
Source: IMF – International Financial Statistics
-20-10
010203040506070
Jan.
2006
Mar
.200
6M
ay 2
006
Jul.2
006
Sep.
2006
Nov
.200
6Ja
n.20
07M
ar.2
007
May
200
7Ju
l.200
7Se
p.20
07N
ov.2
007
Jan.
2008
Mar
.200
8M
ay 2
008
Jul.2
008
Sep.
2008
Nov
.200
8Ja
n.20
09M
ar.2
009
May
200
9Ju
l.200
9Se
p.20
09N
ov.2
009
Jan.
2010
Estonia, Latvia, and LithuaniaCzech Republic, Hungary, and PolandRomania and Bulgaria
Russia and UkraineEM EUR average
percent
Credit to the private sector/GDP for Emerging Europe countries, 2001-2009
0
10
20
30
40
50
60
70
80
2001 2002 2003 2004 2005 2006 2007 2008 2009
percent
Source: IMF – IFS, IMF – World Economic Outlook
The credit growth has dropped off steeply in 2009 …
22
There were large gains in per capita GDP. Every country improved during 2004-2008.
In 2009 many of the gains were lost, but even at the end of 2009 all countries had made substantial gains in per capita GDP relative to 2000 or even later.
Real per capita GDP (2000 = 100) for Emerging Europe, 2000-2008
80
100
120
140
160
180
200
220
240
2000 2001 2002 2003 2004 2005 2006 2007 2008Source: IMF – IFS, IMF – World Economic Outlook
Real per capita GDP (2000 = 100) for Emerging Europe, 2000-2009
80
100
120
140
160
180
200
220
240
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
Source: IMF – IFS, IMF – World Economic Outlook
23
Rapid precrisis growth in EM EUR:What about the Baltics?
The Baltic countries had a fast rise and then a hard fall. But even after falling they were far ahead of where they started, and had improved more than many less risky countries.
PPP per capita growth, annual average in percent, Emerging Europe and other emerging economies, 2004-2007
02
4
6
8
10
12
14
16
Mid
dle
East
and
Sub-
Saha
ran
Afr
ica
Hun
gary
Latin
Am
eric
aM
ac.,
FYR
Alb
ania
Slov
enia
Cro
atia
Bos
nia
& H
erz.
Pola
ndC
zech
Rep
.R
oman
iaSe
rbia
Bul
garia
Turk
eyEm
ergi
ng A
sia
Slov
ak R
ep.
Mol
dova
Ukr
aine
Esto
nia
Lith
uani
aB
elar
usLa
tvia
Source: IMF – World Economic Outlook
Nor
th A
fric
a
Ukr
aine
Esto
nia
Lith
uani
aB
e lar
usLa
tvia
Real per capita GDP (2000 = 100) for Emerging Europe, 2000-2009Baltic countries highlighted
80
100
120
140
160
180
200
220
240
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
Source: IMF – IFS, IMF – World Economic Outlook
24
Incomes increased, but unfortunately the story is not over …Emerging market countries (world-wide, not just in Europe) that had higher vulnerability not only had harder falls, but are on a downward growth path as opposed to an upward growth path for other countries.
So was the boom of the 2000s undesirable?Per capita incomes increased significantlyInvestment to GDP ratios were still higher in 2009 than in 2003Countries with the most overheated growth experienced the same or
higher increases as other countries, on average, in GDP per capita by 2009 (Baltics)
Financial markets were more developed. Credit to the private sector as a ratio to GDP roughly tripled during the decade.
Questions:How many of these benefits would have been realized anyway without inflows?How harmful is income instability?Can we do better?
Real GDP(2008Q2 = 100, seasonally adjusted, medians)
90
92
94
96
98
102
100
106
104
2008Q2 2008Q3 2008Q4 2009Q1 2009Q2 2009Q3 2009Q4 2010Q1
EM: High Vulnerability
AE
Past crises
EM
EM: Low & Medium Vulnerability
Source: “How Did Emerging Markets Cope in the Crisis?”, IMF (2010), www.imf.org.
25
Managing Capital Flows in Emerging Europe
Capital infl ows are resuming
The question of whether or not countries benefi tted or not from them is important.
Advanced country liquidity measure
Source: “How Did Emerging Markets Cope in the Crisis?”, IMF (2010), www.imf.org.
-400
-200
0
200
400
600
800
-500
0
500
1,000
1,500
2,000
2,500AM narrow money, 3-month movingaverage (bn $, left scale)EM capital flows ex. China,12-month rolling sum (bn $)
Jan.05 Jan.06 Jan.07 Jan.08 Jan.09 Jan.10
26
Current infl ows to Emerging Europe vary across countries, with FDI recovering better than cross border bank loans:
-1,500
-1,000
-500
0
500
1,000
RU
SLT
UR
OM
LVA
POL
EST
TKY
BG
RU
KR
MC
DC
ZR SER
HU
N
Source: IMF – International FinancialStatistics; Haver Analytics;various central bank websitesand IMF staff calculations
1/ Other investment liabilities of banksand corporates, net; Oct. 2009 – Dec. 2009for HUN, MCD, SER, RUS, UKR; RUS: -4005 (banks & corporates),-6004 (banks)
Picture is mixed: crossborder loans in banks and corporates
Dec. 2009 – Feb. 2010(sum, EUR mn) 1/
MC
DLT
U
SER
EST
LVA
BG
RH
UN
TKY
CZR
RO
MU
KR
RU
SPO
L
Feb. 2010Sep. 2009
3,500
3,000
2,500
2,000
1,500
1,000
500
0
-500
Holding up: FDI inflows Sep. 2009 and Feb. 2010
(sum of previous 3 months, EUR mn) 1/
Source: IMF – International Financial Statistics;Haver Analytics; various central bankwebsites and IMF staff calculations
1/ Total FDI inflows, net; latest is Dec. 2009for HUN, MCD, SER, RUS, UKR; RUS: 8617 (2009Q3)
27
Globalization has been associated with an increase in world imbalances
Global Imbalances: In Midstream?Blanchard-Feretti, December 2010
There are good imbalances that can emerge from economic fundamentals:
A country with attractive investment opportunities may fi nance part of its investment through foreign saving, and thus run a current account defi cit
Deeper and more liquid fi nancial markets can attract investors, generating currency appreciation and a current account defi cit. (Recent deepening in Emerging Europe)
Countries whose population is aging faster than their trading partners’ should save and run current account surpluses in anticipation of the dissaving that will occur once the workforce shrinks and the number of retirees rises … and vice-versa
Table 1. Average current account balances(percent of world GDP)
1996-2000 2001-2004 2005-2008United States -0.8 -1.4 -1.4Peripheral Europe 1/ -0.1 -0.4 -0.8
Rest of the World -0.3 0.0 -0.3China 0.1 0.1 0.6
Emerging Asia 1/ 0.1 0.2 0.2
Japan 0.3 0.3 0.3Oil exporters 1/ 0.2
0.2
0.4
0.4
1.0
0.7Discrepancy -0.3 -0.3 0.4
These imbalances originated recently from:China’s export-oriented policiesThe boom in oil prices
High savings in some Western Europeanscountries with aging populations
1/ Peripheral Europe - Greece, Ireland, ItalyPortugal, Spain, United Kingdom, Bulgaria,Czech Republic, Estonia, Hungary, Latvia,Lithuania, Poland, Romania, Slovak Republic Turkey, Ukraine.
Core Europe 1/
percentCapital Inflows (ratio of world GDP)
25
20
15
10
5
0
-5AdvancedEmerging AsiaWorld
Latin AmericaCentral and
Middle EastAfrica
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
Eastern Europe
28
High private saving may refl ect poor social insurance (so people need to save) or poor fi rm governance, which allows fi rms to retain and reinvest most of their earnings. Conversely, improvements in these areas can reduce savings.
Imbalances are not fully the fault of one country. If another large country (China, Germany, Saudi Arabia, …) has large imbalances it may be hard to resist counterpart imbalances.
Should a country engage in competitive export orientation?
However …
“Even if the factors behind current account balances are ‘good’, they may interact with other distortions to create ineffi cient outcomes or increase risks”.
Risks:
Dutch Disease: large current account defi cits and real exchange rate appreciations can be diffi cult to unwind without a protracted real depreciation. This can be very painful when the exchange rate is fi xed and partner country infl ation is low
Capital fl ows – particularly for smaller economies – may be volatile, leave in a hurry, and be disruptive.
Responses:Address underlying distortions: tradable sector externalities leading to
Dutch Disease or underestimation of foreign exchange or liquidity risk by domestic borrowers
Correct the externalities through taxes or subsidies, and limit the risks taken by domestic borrowers through prudential regulation or controls on capital fl ows.
29
And rapid shifts in capital fl ows …
Average capital infl ows Emerging Europe declined from about 20 percent of GDP in 2007Q4 to almost none in 2009Q3.
The drop was particularly abrupt for bank and corporate overseas borrowing.
The composition of capital fl ows varied across countries. In general, infl ows to lower income countries were relatively more oriented towards FDI, with bank loans going to higher income countries.
Capital fl ows to Emerging Europe were similar to those in other emerging regions, with the exception of parent bank loans, which were much higher.
Assessment:
“Current account defi cits in emerging Europe were an example of an initially good thing later turning bad, particularly in those countries where current account defi cits as a ratio of GDP were in double digits, driven by credit and asset price booms”.
Crisisperiod
Europe deficit countriesUnited Statesoil exportersChina
140
130
120
110
100
90
801996M1 1997M1 1999M1 2000M7 2002M1 2003M7 2005M1 2006M7 2008M1 2009M7
Source: Author’s calculations based on IMF data
Exchange rateappreciation ...
Real effective exchange rate rose in Emerging European countries. (Figure shows“Europe Deficit” contries in red)
Emerging European countries were exposed to both types of risks:
30
Medium term outlook is for lower imbalances:
Lower oil prices mean less savings by oil exportersAsset price busts, leading to a sharp contraction in domestic demand,
including in Emerging Europe
Global increase in home bias by investors = diminished willingness of foreign investors to fi nance large net external imbalances
Reduction in demand for durable consumption and investment goods, a sharp contraction in exports in some surplus countries (Germany, Japan, …), and large reduction in their current account surplus.
Long term factors that will lower imbalances:
Higher private savings rates as asset prices remain low
Lower investment rates due to tighter regulation and more cautious lender behavior
Higher risk premia on cross border fl ows.
But:
Some Asian countries are showing a tendency to resist exchange rate appreciation and accumulate reserves
Oil prices have been rising.
Capital infl ows can be benefi cial if managed properlyFor emerging Europe, the key policy challenge will be attracting and harnessing healthy capital infl ows to restore economic growth.
A healthy level of capital infl ows requires a balance between domestic and external sources of economic growth.
The main factors determining capital infl ows are:
Convergence factors (income, urbanization, services, reforms)
Macroeconomic policies (exchange rate policies, monetary policies, fi scal policies)
Macroprudential policies (capital outfl ow and infl ow restrictions).
31
Lessons from the crisisIn some countries, infl ows sometimes exceeded healthy levels that would correspond to convergence, often refl ecting non-sustainable asset and credit booms.
Infl ows into Hungary exceeded the range that could be explained by convergence factors, while infl ows into Poland did not.
Policy messagesCountries with insuffi cient infl ows should address the underlying causes: Reorient the economy toward the tradable sectorSupport the private sector by
Promoting good inter-sectoral labor mobility Addressing skill-mismatches Maintaining adequate infrastructure.
Countries already benefi tting from adequate infl ows should:Allow exchange rate fl exibility where possibleMaintain tight fi scal policies, in particular if the exchange rate is fi xed
-5
5
15
25
35Hungary Poland
Con
verg
ence
fact
ors
Exc
ess i
nflo
ws
Source: IMF staff calculations
Note: The residuals are derived from a regression of overall inflows on convergence-related factors growth in real per capital income, urbanization, size of the service sector, progress on reforms, and privatization revenue.
2000
2001
2002
2003
2004
2005
2006
2007
2008
2000
2001
2002
2003
2004
2005
2006
2007
2008
-15
-5
5
15
25
35
-15
32
Use prudential tools (e.g., capital requirements on foreign borrowing) to curb excessive risk-taking by banks
Resort to temporary capital controls, if necessary.All Emerging European countries should strengthening their fi nancial stability frameworks.
Outlook for Recovery and Key Policy ChallengesOutlook for RecoveryModel of crisis duration
Mecagni et al. (2007)There is a strong negative relationship between current account to GDP and estimated crisis duration (ECD), and a strong positive relationship between debt and ECD.
Mecagni et al. estimate that countries with larger current account defi cits would have longer crises, and that the average duration of the present crisis in Europe would be longer than in other regions, at about two years on average, but longer in some countries.
9
8
7
6
5
4
3
2
10
9
8
7
6
5
4
3
2
10
External debt in 2008 (percent of GDP) Current account in 2008 (percent of GDP)
Estim
ated
cris
is d
urat
ion
2/
Estim
ated
cris
is d
urat
ion
2/
More than
More than
0 50 100 150 200 -30 -20 -10 0 10 20 30
Emerging markets: estimated crisis duration and initial conditions 1/
Source: IMF – World Economic Outlook and International Financial Statistics; Bloomberg L.P. and IMF staff estimates
Europe Europe
Middle EastMiddle Eastand Central Asiaand Central
Western Hemisphere
Western Hemisphere
Other countriesEuropean countriesRegional averages
Other countriesEuropean countriesRegional averages
Asia
Asia
Europe
Middle Eastand Central Asia
Europe
1/ Duration model is estimated in Mecagni and others (2007).2/ Measured as number of quarters in which probability of exiting from the crisis reaches 0.5.
Asia
33
IMF world economic outlook forecast
Modest growth for most of Emerging Europe, below pre-crisis levels
Unemployment will remain elevated or increase in many countries
Worsening of current account defi cits, but not to pre-crisis levels
Modest infl ation
Downside risks more pronounced than a year ago.
Selected European Economies:
Below 1Between 1 and 3Between 3 and 5Above 5Insufficient data
Source: IMF staff estimates
Average real GDP growth during 2010-2011
(annual percent change unless noted otherwise)
2008 2009 2010 2011 2008 2009 2010 2011 2008 2009 2010 2011
Europe 1.0 -4.0 1.3 1.9 4.0 1.2 2.0 1.7 -0.7 0.2 0.3 0.4
Emerging Europe -3.8 2.92.9 3.4 8.0 4.7 5.3 3.6 -7.3 -2.0 -3.3 -3.6
Real GDP Consumer prices Current account balance
Projections Projections Projections
real GDP, consumer prices and current account balance
Covered in a different map
34
Credit will likely be constrained by:Banking sector issues, including continued deleveraging and capital buffersUncertainty about future bank restructuring
Need to absorb additional write downs.
Final conclusions and recommendationsEmerging Europe’s exposure to the crisis has been exacerbated by vulnerabilities related to the large capital infl ows earlier in the decade.
However these infl ows generated benefi ts in early years that at least partly counterbalance the losses experienced recently. Capital fl ows can be good.
The challenge moving forward is to manage capital fl ows in a responsible way so that benefi ts continue to be realized while minimizing risks.
When capital fl ows exceed levels that can be explained by economic fundamentals, the underlying causes of the imbalances should be addressed rather than the imbalances themselves.
In all cases, risk should be reduced by strengthening fi nancial stability frameworks.
Looking forward:
The costs and limits of crisis interventions are a growing concern. Countries need to plan strategies based on a limited amount of available stimulus funding.
Exit strategies are needed. The persistence of blanket crisis measures in the fi nancial sector can allow banks to postpone restructuring and prolong fragilities. Blanket guarantees and liquidity support must be gradually replaced by specifi c interventions in individual institutions.
35
CORPORATE LENDING DURING THE CRISIS IN THE CEE REGION
Fábián Gergely*
Did/Could Banks Give Helping Hands in the CEE Region?
What determines credit aggregates?
Supply → price and non-price credit conditionsLending capacity (Capital, Access to market fi nance, Liquidity)Lending inclination (risk appetite)Parent bank behavior.
* Financial Stability Department, Magyar Nemzeti Bank
Source: Economist, printed edition, August 28, 2010
36
DemandEconomic growth/outlook → EndogenitySubstitution
Other?Distribution of PD
Rel
ativ
e fr
eque
ncy
of lo
an a
pplic
atio
ns
Source: Based on Michel Crouhy, Dan Galai, Rober Mark (2006): The essentials of risk management, McGraw-Hill
“Cut-off” point Probability of default(PD) by scoring
Risk taking and portfolio deterioration
37
Stylized facts
85
90
95
100
105
Oct
.08
Nov
.08
Dec
.08
Jan.
09Fe
b.09
Mar
.09
Jun.
10
May
09
Apr
.09
Jun.
09Ju
l.09
Aug
.09
Sep.
09O
ct.0
9N
ov.0
9D
ec.0
9Ja
n.10
Feb.
10M
ar.1
0A
pr.1
0M
ay 1
0
BG CZ* EE HU LT PL RO SK LV* * *
Source: central banks of the countries
The drop in banks’ corporate lending is one of the largest in Hungary ...(The outstanding amount of non-financial corporate loans by banks (Oct. 2008 = 100) in the CEE region)
* refers to exchange rate adjustment
98
76543210
910
876543210
Jan.
07M
ar.0
7M
ay 0
7Ju
l.07
Sep.
07N
ov.0
7
May
10
Mar
.08
Jan.
08
May
08
Jul.0
8Se
p.08
Nov
.08
Jan.
09M
ar.0
9M
ay 0
9Ju
l.09
Sep.
09N
ov.0
9Ja
n.10
Mar
.10
Jan.
07M
ar.0
7M
ay 0
7Ju
l.07
Sep.
07N
ov.0
7
May
10
Mar
.08
Jan.
08
May
08
Jul.0
8Se
p.08
Nov
.08
Jan.
09M
ar.0
9M
ay 0
9Ju
l.09
Sep.
09N
ov.0
9Ja
n.10
Mar
.10
BG EECZ HU LTPL RO SK LVLT PL RO
HU
Source: central banks of the countries
Spread on euro denominated loansSpread on domestic currencydenominated loans
(Interest rate spread on new loan volumes denominate in euro and domestic currency)
... while interest rate spread is one of the lowest in the caseof euro denominated loans ...
percent percent
38
-100-80
-20-40
-60
020406080
100
2007
Q1
2007
Q2
2007
Q3
2007
Q4
2008
Q1
2008
Q2
2008
Q3
2008
Q4
2009
Q1
2009
Q2
2009
Q3
2009
Q4
2010
Q1
Tigh
teni
ng
Poland Lithuania Hungary Romania Slovakia Latvia
Source: central banks of the countries
Note: Data only shows the direction not the magnitude of the tightening
(Change in credit conditions - net percentage balance of banks reporting tightening and easing)
On the supply side banks tightened their credit conditions ...
CZHU
LT
PL
RO
SK
60
65
70
75
80
85
90
95
100
0 0.5 1 1.5 2 2.5 3
Out
stan
ding
am
ount
of c
orpo
rate
loan
s den
omin
ated
in
dom
estic
cur
renc
y, M
ay 2
010
(Oct
. 200
8 =
100)
Change in the interest rate spread on domestic currency denominated loans
BG
EE
HU
LV
LT
PL RO
80
85
90
95
100
105
110
0 0.5 1 1.5 2 2.5 3 3.5 4 4.5
Out
stan
ding
am
ount
of c
orpo
rate
loan
s den
omin
ated
in
eur
o, M
ay 2
010
( Oct
. 200
8 =
100)
Change in the interest rate spread on euro denominated loans
Source: central banks of the countries
(The relation between the interest rate spread change and corporate lending contractionby denomination during the crisis)
... which points to a flight-to-quality rather than classic negative demand shock!
39
The lending survey, macroeconomic data and price-quantity relation point to a fl ight-to-quality behavior especially in Hungary, but what can explain this sort of supply behavior?
GDP volume change 2008Q3 – 2010Q2 (4-quarter rolling)
BG
PLCZ
SK
HU
EE
LV
LT
RO
80
85
90
95
100
105
110
-20 -15 -10 -5 0 5
Out
stan
ding
am
ount
of c
orpo
rate
loan
s Jun
e 20
10(O
ct. 2
008
= 10
0)
Source: ECB, central banks of the countries
(The relation between the GDP growth rate and corporate lending contraction during the crisis)... and demand for loans decreased as well due to the contraction in economy ...
Countries 2007-2008 Q2 2008 H2 2009 2010 H1
Poland increase increase unchanged increaseLithuania increase decrease decrease decreaseRomania - increase decrease decreaseSlovakia increase decrease decrease -Latvia unchanged decrease decrease -Hungary Total unchanged increase increase increase
Investment loans - decrease decrease increase
(Change in perceived demand - net percentage balance of banksreporting increase and decrease)
… but in Hungary banks perceived increasing demand
Source: ECB, central banks of the countries
40
External liabilities/
liabilities (2008)
External liabilities/
Total
(June 2010)
Change in external
liabilities (as a percentage
of total
Private sector deposits/Total
liabilities (2008)
Private sector deposits/Total
liabilities
Change in
deposits (as a percentage of total
liabilities)
Bulgaria 26.2 19.8 -6.4 52.9 55.7 2.8
Czech Rep. 9.8 8.1 -1.7 55.9 58.8 2.9Hungary 25.4 26.1 0.7 35.8 35.2 -0.6
Estonia 43.4 40.5 -3.0 34.4 38.6 4.2
Latvia 58.6 49.3 -9.3 23.8 26.5 2.7
Lithuania 45.8 36.3 -9.5 38.3 42.5 4.2
Poland 14.9 15.6 0.7 52.9 54.5 1.6
Romania 29.7 26.3 -3.4 44.2 46.6 2.4
Slovakia 4.6 3.9 -0.7 52.4 61.9 9.5
Euro area 15.0 13.7 -1.3 29.3 31.6 2.3
liabilitiesTotal
(June 2010)
private sector
liabilities)
... and marked differences on the liability side
Source: ECB, central banks of the countries
Marked differences in the NPL ratio, profitability and loan-to-deposit ratio ...(Characteristics of the banking sectors in 2009)
Loan-to-deposit ratio ROA
ROA (domestic
banks)
Tier 1 ratio Tier 1 (parent NPLChange in NPL 2008 - May 2010
Bulgaria 126.0 1.1 1.4 17.5 10.6 8.2 9.0
Czech Rep. 75.0 1.4 1.1 17.2 10.3 5.7 2.8
Hungary 143.0 1.7 1.3 11.9 10.4 7.4 4.4
Estonia 190.0 -3.4 -0.1 9.4 10.4 4.1 2.8Latvia 255.0 -4.0 -2.9 10.8 8.6 19.6 15.2
Lithuania 169.0 -3.9 -0.8 8.0 9.4 4.6 14.7
Poland 105.0 0.8 1.1 12.1 10.0 8.0 4.7Romania 118.0 0.5 0.6 12.9 10.0 11.6 9.2
Slovakia 87.0 0.5 1.1 11.6 10.4 5.4 4.0
Euro area 107.0 0.2 - 10.1 - 4.2 2.0
Source: ECB, Autonomous Research, Bankscope
ratio banks)
41
Conclusions One of the biggest drop in the outstanding amount of corporate loans
occured in Hungary within the CEE region during the recent crisisSupply had a more pronounced role in corporate lending contraction in
Hungary than in other CEE countriesIt can be attributed to the fi nancing vulnerability of the banking sector and
the country.Characteristics of corporate lending, 2009
Source: ECB, Eurostat, central banks of the countries
Corporate loans by
banks (as a percentage of GDP)
Corporate loans total
(as a percentage
of GDP)
FX denominated
corporate loans/total corp. loans
FX denominated loans/total
loans
Average credit
growth (2007-2008)
Bulgaria 46 120 75.3 58.1 49.6Czech Rep. 21 41 18.1 8.2 15.2Hungary 27 67 57.7 64.5 14.9Estonia 52 47 91.5 86.9 15.9Latvia 50 75 94.4 92.2 23.2Lithuania 35 46 74.9 73.4 24.0Poland 15 36 23.7 32.8 25.3Romania 20 48 59.5 60.3 33.7Slovakia 22 28 2.4 1.1 17.1Euro area 52 74 n.a. n.a. 10.0
BG
PL
SK
HU
EE
LV
LT
RO
80
85
90
95
100
105
-10 10 30 50Net external debt as a percentage of GDP
(percent), 2008
CZ
BG
PL
SK
HU
EE
LV
LT
ROCZ
80
85
90
95
100
105
80 130 180 230 280
Out
stan
ding
am
ount
of c
orpo
rate
loan
s May
201
0
Loan-to-deposit ratio (percent), 2008
(Oct
. 200
8 =
100)
Out
stan
ding
am
ount
of c
orpo
rate
loan
s May
201
0 (O
ct. 2
008
= 10
0)All clues lead to the vulnerability of the banking sector and the country
(The relation between the loan-to-deposit ratio/net external debt and corporatelending contraction during the crisis)
0
Source: ECB, central banks of the countries
42
TO WHAT EXTENT HAS THE CRISIS AFFECTED THE ROMANIAN BANKING SYSTEM?
Florin Bălăuţă*
* Financial Stability Department, National Bank of Romania
Indicators of the Romanian banking system
2007 2008 2009 2010 Q1 2010 Q2Number of credit institutions 42 43 42 42 42Number of banks with majority private capital 40 41 40 40 40Number of banks with majority foreign capital 36 37 35 35 35
Assets of banks with majority private capital/Total assets (%) 94.7 94.6 92.5 92.8 93.2Assets of banks with majority foreign capital/Total assets (%) 88 88.2 85.3 85.7 86.1Assets of top five banks/Total assets (%) 56.3 54.3 52.4 53.2 53.1Herfindahl-Hirschmann Index 1,046 926 857 865 874
Source: NBR
During 2009 and 2010 H1 there were not significant changes of the number of credit institutions, their shareholding and the concentration degree
of the banking system
Greece16.99
Austria 38.38
Italy 2.21
Romania 13.97
The Netherlands
Other countries
7.12
Hungary
Greece
Austria
The
France
Other countries
4.50
20.22
33.79
21.89
Credit institutions’ sharecapital by country of origin
as at 30 June 2010
Source: NBR
percent
Market share of creditinstitutions by structure
of shareholding
5.606.44
14.00
France14.80
The large presence of foreign banks in the Romanian bankingsystem was maintained
Netherlands
43
The Romanian banking system remained adequately capitalized
The Romanian banking system remained adequately capitalized with a capital adequacy ratio of 14.7 percent in December 2009, 15 percent in 2010 Q1 and 14.3 percent in 2010 Q2 (signifi cantly higher than the minimum regulated level of 8 percent), with all banks having this ratio above 10 percent
Credit institutions’ own sources increased due to: (i) capital increases performed by shareholders, (ii) new subordinated loans granted by parent undertakings and (iii) the channelling of a substantial share of the 2008 profi ts into reserves
The nine largest foreign-owned banking groups have complied with the terms of the European Bank Co-ordination Initiative, broadly maintaining their exposure at March 2009 levels and making new capital injections in order to conserve a minimum solvency ratio of 10 percent.
Over the last six months (end-June 2010 compared to end-December 2009) the capital adequacy ratio decreased by 0.4 pp, ROE decreased by 4.5 pp,
while the NPLs/total loans increased by 2.3 pp
Financial condition (all banks) 2010 Q2 2010 Q1 2009 2008
Capital adequacy ratio 14.3 15.0 14.7 13.8Return on equity 1) -1.6 6.0 2.9 17.0Non-performing loans2) / Total loans 10.2 9.1 7.9 2.7
2) Non-performing loans (loans and interest to non-banking debtors overdue by more than 90 days and/or with judicial proceedings initiated) as a percentage of total loansand interest.
percent
1) Net income (annualized) to average equity capital
44
The main sources of operating income were interest, foreign exchange transactions and commissions
Even if operating profi t increased, the large growth of the loan loss provisions mainly caused the losses of the banking system at end-June 2010
In June 2010, operating profi t stood 21 percent above the fi gure recorded in the same year-ago period, with operating income decreasing at a slower pace than operating costs (-3 percent and -15 percent respectively)
Net interest income increased by 20 percentage points year on year reaching 58 percent in operational revenues, under a 47 percent rise of interest income and a 47 percent reduction of interest expense
Non-interest income contracted by 20 percentage points year on yearThe increase of the loan loss provisions by 71 percent year on year mainly
caused the losses of the banking system as of end-June 2010.
Bank asset quality recorded some worsening, with credit risk remaining the main vulnerability of the banking sector
As a general trend, asset quality continued to deteriorate in 2010, due to the delay in economic recovery. The share of loans classifi ed in “Loss 2” (defi ned as loans and interest to non-banking debtors overdue by more than 90 days and/or with judicial proceedings initiated) grew from 7.9 percent in December 2009 to 9.1 percent in 2010 Q1 and 10.2 percent in 2010 Q2 respectively.
The share of main sources in total operating income
0102030405060708090
100
Dec.2008 Mar.2009 Jun.2009 Sep.2009 Dec.2009 Mar.2010 Jun.2010
percent
net interest net commissionsnet income from financial assets other net losses (gains)
other
Source: NBR
45
Loan/deposit ratio in the non-government sector improved. Deposits attracted from households and companies
remained the main source of assets’ fi nancing
The competition among banks as concerns limited saving resources was refl ected by the increase in interest rates on new leu-denominated deposits, which were about 7 percentage points higher than the policy rate as of February 2009, then followed a slight downward trend.
02468
1012141618
Oct
.200
8
Dec
.200
8
Feb.
2009
Apr
.200
9
Jun.
2009
Aug
.200
9
Oct
.200
9
Dec
.200
9
Feb.
2010
Apr
.201
0
Jun.
2010
interest rate on outstanding time deposits interest rate on new time deposits policy rate
percent
Source: ECB
Although the share of foreign liabilities in total liabilities of the banking systemexceeded further those recorded by some CEE states, the relianceon external financing was lower than in the same year-ago period,
in line with the regional developments
0102030405060708090
Dec
.200
8M
ar.2
009
Jun.
2009
Sep.
2009
Dec
.200
9M
ar.2
010
Jun.
2010
Jul.2
010
Mar
.200
9Ju
n.20
09Se
p.20
09D
ec.2
009
Mar
.201
0Ju
n.20
10Ju
l.201
0
Dec
.200
8
Mar
.200
9Ju
n.20
09Se
p.20
09D
ec.2
009
Mar
.201
0Ju
n.20
10Ju
l.201
0
Dec
.200
8
Mar
.200
9Ju
n.20
09Se
p.20
09D
ec.2
009
Mar
.201
0Ju
n.20
10Ju
l.201
0
Dec
.200
8
Mar
.200
9Ju
n.20
09Se
p.20
09D
ec.2
009
Mar
.201
0Ju
n.20
10Ju
l.201
0
Dec
.200
8
HU RO BG PL CZ
010
2030
4050
total foreign liabilities (rhs) foreign liabilities in total liabilities
EUR bnpercent
46
Liquidity risk was lower than in the same period a year earlierDomestic interbank deposits further held a small share in total liabilities,
i.e. 2.4 percent, the transmission of the contamination risk in the banking system via this channel being contained. The results of interbank contamination test reveal a low systemic risk, with interbank bilateral exposure being generally small as compared with equity and liquid assets of banks
The immediate liquidity1*– of the banking system rose by 2.2 percentage points to 35.9 percent at end-June 2010, the liquid assets/short-term liability ratio stood at 146.7 percent, whereas the liquidity indicator calculated in compliance with regulations in force2 – was of 1.35, exceeding the minimum regulated level of 1
According to regulations in force, the NBR required credit institutions to draw up in-depth strategies on liquidity risk management in the context of crisis. The NBR ensured the appropriate management of liquidity in the banking system by the active use of money market operations.
To what extent has the fi nancial crisis affected the fi nancial stability of the Romanian banking system?
Financial stability remained robust although confronted with signifi cant challenges
Banks’ capitalization increased to comfortable levelsCredit risk remains our banking sector major vulnerabilityIn 2010 H1, profi tability entered negative territory, owing particularly to
higher expenses related to provisionsThe maturities of up to one year prevailing in the case of deposits taken
from households and non-fi nancial corporations, as well as the external short-term debt of banks are further potential vulnerabilities to the possible global liquidity shortages and to those specifi c to parent banks. Liquidity risk was lower than in the same year-ago period, given the commitments assumed by the parent banks of the nine largest foreign credit institutions to maintain their exposure to Romania, the external fi nancing arrangement, the NBR liquidity supply via monetary policy operations and banks’ efforts to preserve and increase domestic sources.
1 Holdings and deposits with banks + unpledged securities / Total liabilities.2 As a ratio of effective liquidity to required liquidity, by each maturity band, in compliance with
NBR Norms No. 1/2001 on banks’ liquidity, as subsequently amended and supplemented, and NBR Norms No. 24/2009.
SESSION 2
THE IMPACT OF THE GROWING REGIONAL BANKING SYSTEMS’
INTERCONNECTIONS
49
STRESS TESTING AFTER THE GLOBAL FINANCIAL CRISIS
Dr. Heiko Hesse*
Problems with stress tests prior to the crisis
Scenarios were not severe enough and (sometimes) lulled policymakers into a false sense of security (Borio and Drehmann, 2009)
The focus was predominantly on solvency risk and not liquidity risk. During the crisis even solvent fi nancial institutions have become vulnerable to a rapid evaporation of their bank liquidity with the closure of funding markets (BCBS, 2008)
Liquidity stress tests often did not adequately take into consideration key off-balance sheet positions, and stress test scenarios often did not consider the possibility of liquidity tail risk events
In hindsight, it has become evident that regulators in the pre-crisis period focused their supervisory efforts on individual fi nancial institutions and not their contribution to overall systemic risk.
Liquidity risks and the global fi nancial crisis
While liquidity risks have traditionally played a less important role than solvency risks, they have come to the forefront during the global fi nancial crisis
Evaporation of funding and market liquidity; liquidity spillovers
Run on retail deposits (e.g. Northern Rock) and wholesale funding (interbanking squeeze in different countries including Eastern Europe)
Illiquidity problems turning into insolvency and vice-versa
* International Monetary Fund Note: The views expressed here are those of the authors and should not be attributed to the IMF,
its Executive Board, or its management. Any errors and omissions are the sole responsibility of the authors.
50
Strong policy measures (blanket deposit guarantees, CB liquidity provisions)
Besides fi nalized Basel III capital standards, new proposed minimum liquidity standards including liquidity coverage ratio and net stable funding ratio
Focus on stress testing liquidity risks.
2,500
1,500
2,000
1,000
500
01 2 3 4 5
OtherUnited KingdomUnited StatesEuro area
Source: Moody’s
12-month periods
(billions of US dollars, 12-month periodsEuro area breakdownBy region
100
9080706050403020100
wholesale funding depositscapital external liabilities/other
Source: Bank of Japan, European Central Bank,
(percent of total liabilities)Maturing bank bonds Wholesale funding reliance
Japa
nU
nite
d St
ates
Uni
ted
Kin
gdom
Eur
o ar
eaFr
ance
Aus
tria
Ital
yG
erm
any
Finl
and
Bel
gium
Irel
and
Gre
ece
Port
ugal
Spai
nT
he N
ethe
rlan
ds
Federal Reserve
Funding pressures and wholesale funding reliance
from 7/1/2010)
51
Countries that experienced increases in NPLs can expect to see higher levels for years to come
“The data reveal that emerging market NPL ratios tend to rise rapidly in a crisis,
and remain more than twice as high as before the initial shock for more than four
years. … Simulations suggest that NPL ratios will peak during 2010 in most CEE
countries under the WEO baseline scenario for GDP growth” – IMF April 2010
GFSR.
500450
400
350300
250
200150
100
50
Historical dynamics of emerging market NPL ratiosaround large increases in year t
t-2 t-1 t t+1 t+2 t+3 t+4
Source: IMF staff estimates
Note: Average of indices for Argentina, Chile, Colombia, Dominican Republic, Indonesia, Malaysia, Philippines, Turkey, and Uruguay
52
Overview of Basel proposals
European Stress TestsOutline of the European stress testing exercise
91 banks from 20 countries tested
Goal – to restore market confi dence by providing:
Credible and transparent assessment of remaining vulnerabilities, andMeaningful backstopping measures to strengthen the fi nancial system.
Threshold to pass the test:
Post-shock Tier 1 Capital Ratio > 6 percent (Basel II Minimum: 4 percent; US Test: 4 percent Common/Core Tier 1 & 6 percent Tier 1)
Three scenarios: Benchmark (Baseline) Adverse macroeconomic developmentAdverse & Sovereign Risk Shock.
Macro-prudential:Procyclicality
Capital conservation buffer
Countercyclical buffer
Systemic banks
“Gone-concern” debt conversion
Capital surcharge:“guided discretion” approach
Micro-prudential:Idiosyncratic risk
Better quality of capital:mostly common equityless hybrids, better loss
absorption
Better risk recognition:market risk, counterparty
credit risk, relianceon external ratings
Leverage ratio as backstop
Liquid assets buffer (LCR)
Limit on maturity
(NSFR) mismatches
Macro-prudential:
Forward-looking provisioning
Reduce procyclicalityof Basel II risk weights
“Going-concern” contingent capital
53
Results:
7 banks failed the test, capital needs EUR 3.5 bn5 Spanish banks, 1 German bank, 1 Greek bank11 banks were “near misses” (Post-shock T1 Ratio below 6.6 percent).
What were the benefi ts of the European stress tests?
1. Positive market reaction
Markets appreciated the increased transparency and the absence of unexpected negative outcomes, including large sovereign exposures.
The tests provided market participants with a more transparent view of systemic vulnerabilities.
Market participants can and will do their own tests. If some tests were too benign, the data are publicly available for performing stricter tests.
2. Recapitalization opportunities for failed banks
It was announced that banks that failed the tests would be given needed recapitalization.
Lessons from the tests
1. Missed opportunity to recapitalize more banks?
2. Banks that only narrowly passed the tests will come under pressure to raise capital.
3. There were questions regarding the design of the tests
Should sovereign debt holdings have been subject to haircuts?
If profi ts for banks with benign profi t assumptions were instead assumed to be the same as the average for the 91 banks: Two more banks fail
If 1) the hurdle rate is increased or 2) stress of banking book debt holdings by applying the same haircut: Failures and capital needs increase substantially.
4. The stress test may not be a key “turning point” for the European banking sector.
54
Focus on liquidity risks
Second-Generation Stress Testing
Results(bank, system)
ContagionSolvency
Test
ParameterAssumptions
(incl. Scenarios)
Liquidity
Satellitemodel
Input data
“Expert”
Source: Schmieder et al., 2010a
55
Results(bank, system)
SolvencyTest
Assumptions(incl. Scenarios)
Liquidity
Input data
“Expert”
Second-Generation Liquidity Stress Testing
Source: Schmieder et al., 2010b
56
General considerations on stress testing liquidity risks
Liquidity stress tests are usually less developed than solvency tests:
Less of an issue before the crisis
Liquidity crises are low frequency – high impact events
They are different so standardized stress testing rather diffi cult.
Framework incorporates stylized nature of liquidity crises:
Liquidity crises originate from sudden drain of funding sources
Wholesale funding is the most “vulnerable”
“Classical” bank runs rare but silent deposit withdrawals more common
Limited time for banks to react to sudden liquidity outfl ows
Fire sales of assets costly due to haircuts and sometimes illiquidity
Maturity mismatches between assets and liabilities crucial
Central bank as lender of last resort and role of parents banks.
57
Overview of liquidity stress testing tool
Type of Test
Implied Cash FlowAnalysis (ICFA)
Description Outcome
Simulates banks’ counter balancing capacity in case of a “classical” deposit run for a period of (i) 5 days and (ii) 30 days.High level of granularity withdifferent haircuts of liquid assetsin case of a fire sale
Liquidity Coverage Test, which isa regulatory Basel III test assessing banks’ counterbalancing strategy for the next 30 days
The explicit liquidity gapsimulation matches liability andasset maturities and identifiesliquidity gaps at each maturityand under different scenarios
The regulatory net stable fundingratio (NSFR, to be introduced aspart of Basel III) assesses thestability of a bank’s fundingsources in more structural terms
Simulates the impact of changesof solvency, rating downgrades and concentration risks on fundingcosts (some of the assumptionsare derived from a credit riskmodel)
Integrated Liquidityand Solvency Test
MaturityMismatch/RolloverStress Test
Does bank remain liquidunder the specificassumptions? (Yes/No)
Does bank remain liquidunder the specificassumptions? (Yes/No)
Does bank remain liquidunder the specificassumptions? (Yes/No)
Does bank meet regulatoryrequirements (i.e. ratio)?(Yes/No)
Does bank meet regulatoryrequirements (i.e. ratio)?(Yes/No)
58
Implied cash fl ow stress test
The global fi nancial crisis has shown that a deposit run on a non-systemic fi nancial institution such as Northern Rock can have serious implications not only domestically but also cross-border
Simulation of a classical deposit run (5 and 30 days) on retail and wholesale deposits
Introduction of high-level of granularity on asset and liability side as well as haircuts of liquid assets in case of a fi re sale
Break down into deposits into demand/time, retail/wholesale and domestic/foreign currency as well as interbanking wholesale
Assumptions for all banks uniformly or manually
How long can any bank withstand a shock to their retail/wholesale deposits?
Components of liquidity coverage ratio test (Basel III proposals).
Maturity mismatch/rollover stress test
Many of the failed institutions during the crisis suffered from a liquidity maturity mismatch with often illiquid LT assets but ST liabilities
Making these banks vulnerable to loss of confi dence, counterparty credibility and eventual liquidity squeeze
This stress test matches liability and asset maturities and identifi es liquidity gaps at each maturity and under different scenarios
Potential liquidity gaps can be closed by free assets at lower maturities
High asset granularity with asset-specifi c and maturity dependent haircuts
Possibility to include additional available central bank funding.
59
Integrated solvency and liquidity test
There is a natural link between solvency and liquidity, and they can reinforce each other. Here solvency concerns impact liquidity
Three different complementary perspectives:Increase in funding costs from a change in solvency (based on a credit
risk model) and then a rating downgradeClosure of funding markets (both LT/ST) depending on the level of tier 1
capitalImpact of concentration risk on funding, i.e. no intragroup funding and
default of liquidity providersSale of liquid assets subject to haircuts can compensate for liquidity drain.Possibility of additional central bank funding.
How to build stress testing scenarios?Importance of “extreme but plausible” scenarios
Alternatively, “stress test till it breaks” (Ong and Cihak, 2010)Identify set of scenarios under which the system reaches a pre-defi ned
threshold, low level of liquidityScenarios could be defi ned as follows:Derived from modelBased on expert judgment/ past empirical evidenceAssessment of the limit of each bank.
Recent Examples for Emerging EuropeRecent stress test efforts in emerging European countries
Individual Emerging European countries are already conducting independent comprehensive stress tests.Complementary and new stress tests are being undertaken in collaboration with central banks and the IMF (FSAP and TA missions).Recent FSAPs in the region include 2009 Belarus, 2009 Bulgaria, 2008 Estonia, 2008 Macedonia, 2009 Romania, 2008 Russia, 2010 Serbia. Most common stress test types involved sensitivity tests on credit quality, interest rate movements, direct foreign exchange and foreign-exchange induced credit risks, liquidity risks, and multi-factor macro scenarios.
60
Usi
ng S
tres
s Tes
ts a
s a C
risi
s Man
agem
ent T
ool
Bel
arus
Lat
via
Hun
gary
Rom
ania
U
krai
ne
Obj
ectiv
e To
pro
vide
the
auth
oriti
es w
ith
an e
stim
ate
of a
pot
entia
lca
pita
l red
uctio
n in
the
even
t of
adv
erse
shoc
ks
To a
sses
s the
pot
entia
l nee
d fo
r ca
pita
l inc
reas
e to
ens
ure
solv
ency
of b
anks
and
dete
rmin
ing
thei
r liq
uidi
ty
To a
sses
s the
ban
king
se
ctor
's sh
ock–
abso
rbin
g
capa
city
To a
sk b
anks
to se
cure
su
ffic
ient
reso
urce
s to
cove
r any
shor
tfalls
re
veal
ed b
y th
e str
ess t
ests
To a
sses
s cap
italiz
atio
n ne
eds o
f ban
ks
Met
hodo
logy
Bot
tom
up
appr
oach
stre
ss
test
ing
for c
redi
t ris
k, in
tere
st
rate
risk
, and
fore
ign
exch
ange
ris
k w
as c
ondu
cted
Scen
ario
s bas
ed o
n si
gnifi
cant
P
D a
nd re
al e
stat
e pr
ices
de
clin
e. In
200
9, su
pple
men
ted
stre
ss te
stin
g w
as a
lso
co
nduc
ted b
ased
on
unifo
rm in
put
para
met
ers (
mac
ro +
PD
etc
.) fr
om su
perv
isor
s
Cre
dit,
mar
ket,
and
liqui
dity
ris
k st
ress
test
ing
exer
cise
sSc
enar
ios r
elyi
ng o
n
prog
ram
mac
roec
onom
ic
assu
mpt
ions
and
mor
e se
vere
ass
umpt
ions
. B
otto
m u
p an
alys
is on
cr
edit,
liqu
idity
, int
eres
t ra
te a
nd fo
reig
n ex
chan
ge
Stre
ss te
st b
ased
on
soft
la
ndin
g an
d ha
rd la
ndin
g sc
enar
ios i
n th
e ar
eas o
f cr
edit,
inte
rest
rate
and
fo
reig
n ex
chan
ge ri
sks
Tim
ing
Bef
ore
and
durin
g th
e cr
isis
. C
urre
ntly
, it i
s con
duct
ed e
very
3
mon
ths.
The
fram
ewor
k w
as
deve
lope
d w
ith th
e MCM
tech
nica
l as
sist
ance
reco
mm
enda
tions
Stre
ss te
sts w
ere
done
by
the
cent
ral b
ank
upda
ted
qu
arte
rly a
nd re
sults
wer
e sh
ared
w
ith su
perv
isor
Bot
h th
e H
unga
rian
Fina
ncia
l Sup
ervi
sion
A
genc
y (H
FSA
) and
the
ce
ntra
l ban
k ca
rrie
d ou
t st
ress
test
on
a re
gula
r bas
is
The
NB
R c
ondu
cted
st
ress
test
s on
the
ba
lanc
e sh
eets
of b
anks
as
a p
rior a
ctio
n un
der
SBA
, bui
ldin
g on
the
st
ress
test
ing
cond
ucte
d du
ring
2008
FSA
P U
pdat
e
The
NB
U a
nd F
und
staf
f co
nduc
ted
prel
imin
ary
sc
enar
io a
naly
sis a
t the
tim
e
of p
repa
ring
Stan
d-B
y A
rran
gem
ent i
nO
ctob
er 2
008
Use
fuln
ess
Inte
grat
ion
betw
een
the
H
FSA
and
cen
tral b
ank
stre
ss te
st e
xerc
ises
w
ould
be
bene
ficia
l, as
m
arke
t and
cre
dit r
isks
may
re
info
rce
each
oth
er a
nd
gene
rate
larg
e lo
sses
Bas
ed o
n th
e ou
tcom
eof
the
stre
ss te
sts,
the
N
BR
cou
ld e
stim
ate
the
in
crea
se in
fund
s tha
t eac
h ba
nk w
ould
nee
d to
en
sure
that
its c
apita
l ad
equa
cy ra
tio re
mai
ned
abov
e th
e re
quire
d le
vel
thro
ugho
ut p
rogr
am
Prel
imin
ary
stre
ss te
st
resu
lts w
ere
usef
ul to
esti
mat
e re
capi
taliz
atio
n ne
eds.
The
au
thor
ities
als
o fo
rmul
ated
a
bank
reca
pita
lizat
ion
sc
hem
e fo
r via
ble
bank
s.La
ter,
indi
vidu
al b
anks
w
ere
diag
nose
d/st
ress
te
sted
acc
ordi
ng to
a sp
ecifi
c m
etho
dolo
gy w
ith so
me
fo
rwar
d lo
okin
g el
emen
tsw
hich
wer
e al
so im
porta
nt
elem
ents
in st
ress
test
ing
of
a ba
nkin
g sy
stem
Use
ful t
o as
sess
the
trend
s in
st
ress
test
resu
lts. U
sefu
l to
as
sess
pos
sibl
e ca
pita
l sh
orta
ges i
n in
divi
dual
ba
nks
The
outc
ome
of st
ress
test
ba
sed
on u
nifo
rm p
aram
eter
s w
as u
sed
for P
illar
2
disc
ussi
ons a
nd m
ost b
anks
en
ded
up p
reem
ptiv
e
reca
pita
lizin
g. H
owev
er,
stre
ss te
st b
ased
on
very
toug
h
scen
ario
s wou
ld b
e di
ffic
ult t
o
impl
emen
t pre
emtiv
e re
capi
taliz
atio
n be
caus
e it
coul
dje
opar
dize
the
stab
ility
of t
he
syst
em
perio
ds
61
Liq
uidi
ty S
tres
s Tes
ting
in R
ecen
t FSA
Ps in
Em
ergi
ng E
urop
e
Met
hodo
logy
/T
ype
of R
isk
- Te
stin
g liq
uidi
ty ra
tio
- Te
stin
g fo
r Liq
uidi
ty R
atio
, nu
mbe
r of i
lliqu
id b
anks
af
ter s
hock
, and
impa
ct o
n CA
R (L
iqui
dity
-Sol
venc
y Li
nk)
- Te
stin
g ba
nks'
abili
ty to
w
ithst
and
a de
posi
t run
ov
er a
per
iod
of fi
ve d
ays
with
out e
xter
nal f
inan
cing
- To
p-do
wn
and
Bot
tom
-up
- Te
stin
g liq
uidi
ty ra
tios
and
solv
ency
(ass
umed
ha
ircut
s on
the
asse
t sal
e)
- To
p-do
wn
and
Bot
tom
-up
- Te
stin
g liq
uidi
ty ra
tios
and
liqu
idity
shor
tfall
Scen
ario
s
A w
ithdr
awal
of 1
0, 2
0, a
nd 3
0 pe
rcen
t of
depo
sits
of d
omes
tic c
usto
mer
s (h
ouse
hold
san
d co
rpor
ates
). A
with
draw
al o
f 25,
50
and
75 p
erce
nt o
f fun
ding
thro
ugh
non-
resi
denc
e (h
ouse
hold
s an
d c
orpo
rate
s)Fu
ll w
ithdr
awal
of t
he p
aren
t ban
k's r
efin
anci
ng is
ass
umed
With
draw
als o
f par
ent f
undi
ng u
p to
50
perc
ent o
f lia
bilit
ies t
o pa
rent
B
ank
runs
by
depo
sito
rs o
vern
ight
up
toO
vern
ight
with
draw
als o
f: 20
per
cent
of r
esid
ents
dep
osits
, 80
per
cent
of n
on-r
esid
ents
dep
osits
, 80
perc
ent o
f for
eign
ban
ks d
epos
it,10
0 pe
rcen
t of d
omes
tic in
terb
ank
depo
sits
O
vern
ight
with
draw
al o
f 20
perc
ent o
f res
iden
t dep
osits
, 80
perc
ent o
f non
-resid
ent
depo
sits
(inc
l. fo
reig
n ba
nk d
epos
its),
and
100
perc
ent o
f dom
estic
inte
rban
k de
posi
ts
Com
bina
tion
of 1
and
2
Dai
ly w
ithdr
awal
s of 7
and
2 p
erce
nt o
f hou
seho
ld a
nd c
orpo
rate
dep
osits
, re
spec
tivel
y, o
ver a
per
iod
of fi
ve d
ays
With
draw
al o
f par
ent b
ank
fund
ing
(loan
s, de
posit
s, an
d su
bord
inat
ed d
ebt)
Red
uctio
n of
reta
il an
d cu
rren
t cor
pora
te d
epos
its b
y 30
per
cent
and
with
draw
alof
cor
pora
te t
ime
depo
sits
by
5 pe
rcen
t Sc
enar
io 1
plu
s 5 p
erce
nt h
airc
ut o
n hi
ghly
liqu
id as
sets
and
20 p
erce
nt h
airc
ut o
n liq
uid
asse
tsLi
mite
d (n
o) a
cces
s to
the
inte
rban
k m
arke
t C
onta
gion
risk
via
cou
nter
parti
es in
the
inte
rban
k m
arke
t
A w
ithdr
awal
of u
p 25
per
cent
of d
epos
itsSc
enar
io 1
plu
s lim
ited
acce
ss to
com
mitt
ed a
nd u
ncom
mitt
ed c
redi
t lin
es,
incl
udin
g th
ose
from
par
ent b
anks
Sc
enar
io 2
plu
s red
uctio
n of
ban
ks' a
cces
s to
cent
ral b
ank'
s ref
inan
cing
by
ass
umin
g a
5 pe
rcen
t hai
rcut
on
the
gove
rnm
ent p
aper
and
a 2
0 pe
rcen
t ha
ircut
on
stoc
ks a
nd b
onds
, whi
le o
ther
col
late
ral i
s not
acc
epte
d at
all
with
mat
urity
of l
ess t
han
one
year
1)
1)
1)
1)
1)
2)
2)
2)
2)
2)
3)
3)
4)
3) - -
Cou
ntry
Yea
r
Bel
arus
20
08 -
Top-
dow
n
Lith
uani
a 20
07 -
Top-
dow
n
Serb
ia
2009
- To
p-do
wn
Rus
sia
2008
Rom
ania
62
Conclusions
1. Stress tests are important for surveillance of the banking system and feedback mechanisms
2. The assumptions and the results must be deemed credible (“extreme but plausible”)
3. Stress tests can be a useful tool in (managing systemic) crises:
A comprehensive remedial action plan must be announced in conjunction with the results. Recapitalization plans need to be realistic and implemented quickly to draw a line in the sand
If public sector funds are required, resources must be available to ensure credibility
4. But without a readily available mechanism, either at the national or regional level, to help weaker banks raise capital, stress tests may increase volatility and nervousness rather than decrease it.
63
ISSUES ON EVALUATING THE VULNERABILITIES OF THE BANKING SYSTEM
Virgil Dăscălescu*
Romanian environment before the crisis:Credit was booming, despite some measures taken by the NBR to slow
down the lending activity
Increasingly more funded by external sources, as refl ected by the Loans to Deposits Ratio
* Financial Stability Department, National Bank of Romania
2004 2005 2006 2007 2008
20
25
30
35
40
Cus
tom
er lo
ans t
o G
DP
ratio
percent
0
2004 2005 2006 2007 200870
80
90
100
110
120
130
140
Cus
tom
er lo
ans t
o de
posi
ts
percent
64
Formation of a real estate bubble of an unprecedented size (large infl ows of capital due to a considerable number of Romanian nationals working abroad, partially fuelling the bubble)
Lack of credit discipline due to excess liquidity provided by parent banks, some of which might seem hilarious in the aftermath
An overheated economy driven by demand for non-durables with large increases in the wage levels with a lower productivity increase counterpart.
And then, comes bad news: we are in crisis
External demand drops signifi cantly; imports adjust even more
Expectations related to future earnings are revised, unsecured lending all but ceases, partially due to credit demand
Real estate collateral value is on a downward trend; however, in respect to fi gures, estimations vary, as the vast majority of transactions are not made at arm’s length
The labour market is now far from undersupplied, the low-skilled are hit hardest, a historically low level of households NPL’s starts to catch-up with those registered in the corporate sector, with unsecured loans paving the way. Unemployment reaches 7.2 percent (June 2010), as compared to 4.4 percent (December 2008)
Faced with possible funding problems, local banks increased dramatically their deposit rates, partially offsetting the cost on the asset side.
65
No or little exposure to derivatives, lack of sizeable mark-to-market assets, no depression of asset prices as a consequence of increasing “margin calls” it was left to “the good old” NPLs to do the job of threatening the profi tability and solvency of the credit institutions.
Measures taken in order to prevent a banking crisisA managed fl oating exchange rate during the peak of the credit lending
translated into a less dramatic depreciation of the local currency during the crisis
In order to ensure a buffer against unexpected losses that would allow banks to cope with the new environment, at the initiative of IMF and the WB, a credit risk stress test was conducted in the second quarter of 2009, based on a macroeconomic scenario then considered “extreme”, involving an economic growth of -4.1 percent and a strong domestic currency depreciation
Meetings between NBR staff and offi cials of each bank took place in April 2009, confronting the results of the top-down approach with some of the bottom-up approaches
Evolution of the NPL in the corporate sector
2009Q12009Q2
2009Q32009Q4
2010Q10
5
10
15
20
10
12
14
SECTORQUARTER
percent
Agriculture
Manufacturing
Utilities
Construction
Trade
Services
Real estate
66
Following the meetings, increases in capital levels were made; in addition, subordinated loans as well as off-balance sheet commitments eased the pressure
Financial distress was somewhat alleviated as agreements were made with the major foreign parent banks to maintain a minimum agreed level of credit exposure to Romania, agreements that were fulfi lled.
On the way to recoveryLiquidity was also envisaged by the NBR, when it gradually reduced the
level of required reserves for both domestic and foreign currency; long-term funding was also encouraged by establishing a 0 percent requirement for deposits with an initial maturity of more than 2 years
At the end of 2009, all of the banks were above 10 percent solvency ratio, despite the deep recession
Even more importantly, this was achieved with no public intervention: the role played by the parent banks was essential in this respect
The crisis is not over yet: market value of the real estate collateral is likely to be at its lowest; fear of a double-dip recession affecting external demand as well as capital infl ows are present not only in Romania ... stress test scenarios are built around them throughout Europe.
Current approach to stress testing the credit institutionsA benchmark, most probable macroeconomic scenario is built and
deviations from it are used to create adverse scenarios, usually over a two-year horizon
Estimates of the way in which macroeconomic scenarios impact on banks are divided into effects over the P&L:
On the revenue side, through market risk
On the expense side, through impairment losses due to reclassifi cation of loans in higher-risk categories as well as larger adjusted exposures (exposures that are taken into consideration for impairment losses under the national regulation) requiring additional LLP due to collateral value changes
67
Financial performance of the corporate sector is evaluated both before and after a shock, through changes in the fi nancial ratios according to the macroeconomic scenario. Data on the fi nancial statements of the corporate sector and the Credit Register is used for the purpose. Changes in the LLP for the households is linked to projections on the fi nal expenditure consumption and unemployment
An estimate of the fi nancial result of a credit institution is made by summing it all, assuming that unless there is a shift in the macroeconomic environment, the P&L positions of a bank would show the past monthly median values. Impact on bank’s own fund is then estimated
Despite running an interbank contamination simulation (based on the paper of Eisenberg&Noe, 2001), results are not included due to low interbank exposures, leading to “fundamental” defaults only.
Drawbacks and current progressDrawbacks:
The use of a constant balance sheet assumption (in reality, banks do react by changing their overall risk-taking profi le)
Lack of revenue data for the households as well as data on the corporate sector which is available with a considerable lag
Lack of banks own estimates on the PDs and LGDs due to dominance of the standard framework over the IRB approaches.
Work is in progress to:
Build a model linking the fi nancial performance of the corporate sector to “hard default” occurrence, over the economic cycle
Improve the model used for estimating the LLP change for the households
Incorporate a changing balance sheet assumption into the stress test.
68
Is good solvency enough to safeguard against fi nancial turbulences with system – wide repercussions?
It has been proved at a great price that this is not the case: liquidity plays an important role and it should not be taken for granted. Regardless of how big (“systemically important”), well-rated or interconnected, liquidity can render a credit institution bankrupt before shareholders can react
Even more than credit risk, having a system in place to evaluate liquidity risk under stress should not be taken lightly, as liquidity is usually not a reason for concern under “normal” conditions.
Rather than a residual maturity based framework, we would like to develop a stress test based on cash-fl ows:
Expected values for cash infl ows and outfl ows could be reported for all items comprising the balance sheet as well as other off-balance sheet items
Expected cash-fl ows could then be separated into time buckets depending on their time of occurrence
When a potential negative liquidity bucket is estimated (after taking into consideration excess liquidity from all buckets for which the time to the actual infl ows and outfl ows is smaller), estimate all available collateral to meet the liquidity requirements
Apply haircuts depending on the particular distribution of cash-fl ows expected (the actual stress test scenario).
69
SYSTEMICALLY IMPORTANT PARTICIPANTSWITHIN ReGIS PAYMENT SYSTEM
– A STRESS TEST APPROACH –
Horaţiu Lovin*
Systemic risk and systemically important participants
“Systemic risk can be described as the risk that fi nancial instability becomes so widespread that it impairs the functioning of a fi nancial system to the point where economic growth and welfare suffer materially”
A systemically important participant can be assessed as a combination of 3 factors: (i) size (absolute or relative); (ii) interconnectedness (linkages with the rest of the system); (iii) substitutability (other component of the system can provide the same services in the event of failure).
ECB (Financial Stability Review, June 2010)
Data available for the analysis
Period : January-May 2010Participants: 41 credit institutions (including foreign branches)Transactions carried out within ReGIS (Romanian RTGS) payment systemDaily balance for participantsInterbank money market transactionsSource: National Bank of Romania.
* Financial Stability Department, National Bank of Romania
70
Who are the systemically important participants?
A systemically important participant is sustained by 2 main pillars:
Large value of submitted and received payments (size criteria)High connectivity with the other participants (interconnectedness criteria).
The substitutability criteria is assessed by running stress test scenario with BoF-PSS2 Simulator.
Size criteria:Total value of payments submittedTotal value of payments received.
02468
10121416
1 14 7 10 13 16 19 22 2528 31 34 37 40
percent
number of participants number of participants
-10-9-8-7-6-5-4-3-2-10
4 7 10 13 16 19 22 25 28 31 34 37 40
percent
Payments value Deviation from the cumulativeaverage (payments value)
Threshold
Possible systemically important participants
(Possible) systemically important participantsPossible systemically important participants
im
(PimPim
Participants who carry out large
value transactions
Highly interconnected
participants
71
Interconnectedness criteria:Total value of interbank money market transactionsDaily average of connections number.
How systemically important participants behaveDaily average transaction time
0:00
0:28
0:57
1:26
1:55
2:24
2:52
0:00
0:28
0:57
1:26
1:55
2:24
0:00
0:07
0:14
0:21
0:28
0:36
0:00
0:07
0:14
0:21
0:28
0:36
Large size systemic participants: HH:MM
payments submitedpayments received
Jan.-May 2010
Jan.-May 2010 Jan.-May 2010
Jan.-May 2010
LOW SPREADSHighly interconnected systemic participants:
0.00.10.20.30.40.50.60.70.80.91.0
1 4 7 10 13 16 19 22 25 28 31 34 37 40number of participants number of participants
Connectivity index
Threshold
-4.5-4.0-3.5-3.0-2.5-2.0-1.5-1.0-0.50.0
1 4 7 10 13 16 19 22 25 28 31 34 37
percent
Deviation from cumulative average(connectivity index)
72
Stress test scenario involving systemically important participants
Scenario hypothesis:
A (possible) systemically important participant faces a sudden liquidity shortage and starts the day with no liquidity reserves
Payments received from the other participants become the only liquidity source for the systemic participant to settle his own payment orders
Participants do not change their behavior and continue to submit payments as usual.
Objectives:
To validate the substitutability criteria for (possible) systemically important participants
To assess the contagion risk and payment system resilience to severe liquidity shocks.
Tool: Simulator BoF-PSS2
73
Daily maximum queue values (kernel distributions)
0 0.5 1 1.50
0.5
1
1.5
2
2.5 x 10-9
0 0.5 1 1.50
0.5
1
1.5
2
2.5 x 10-9
0 0.5 1 1.50
0.5
1
1.5
2
2.5 x 10-9
0 0.5 1 1.50
0.5
1
1.5
2
2.5 x 10-9
0 0.5 1 1.50
0.5
1
1.5
2
2.5 x 10-9
0 0.5 1 1.50
0.5
1
1.5
2
2.5 x 10-9
0 0.5 1 1.50
0.5
1
1.5
2
2.5 x 10-9
0 0.5 1 1.50
0.5
1
1.5
2
2.5 x 10-9
0 0.5 1 1.50
0.5
1
1.5
2
2.5 x 10-9
Size: LargeConnectivity: Low
Size: LowConnectivity: High
Size: -Connectivity: High
Size: MediumConnectivity: Medium
Size: MediumConnectivity: -
Size: LowConnectivity: -
Size: -Connectivity: Low
Size: MediumConnectivity: Medium
Size: -Connectivity: High
Participant 1
Participant 4
Participant 7
Participant 5
Participant 8 Participant 9
Participant 6
Participant 2 Participant 3
74
Contagion risk
ConclusionsA participant who both carries out large value transactions and is highly
interconnected with the other participants is systemically importantA participant who either carries out large value transactions or is highly
interconnected with the other participants is unlikely to be systemically important
Systemically important participants experiencing liquidity disruptions may jeopardize the payment system fi nancial stability
Large size participants trigger lower contagion risk compare to high interconnected ones, still the overall impact is stronger.
0
20
40
60
80
100
Jan.-May 2010
percentThe largest participant
100 percent = all queued transactionsinto the system are his own queuedtransactions (no contagion risk)
100 percent = all queued transactionsinto the system are his own queuedtransactions (no contagion risk)
Large size participants seem to trigger low contagion risk
Possible explanation: they quicklyrelease into the system the receivedliquidity; queues are mainly their ownpayment orders submitted and notsettled
0
20
40
60
80
100
Jan.-May 2010
percentHigh interconnected participantsseem to trigger higher contagion risk
Possible explanation: they havestrong liquidity connection withspecific excess/deficit participants(their impact is rather specific thengeneral)
The highest interconnected participant
SESSION 3
ISSUES RELATED TO THE FOREIGN CURRENCY LENDING – POSSIBLE
MEASURES TO DECREASE IT
77
ISSUES RELATED TO FOREIGN CURRENCY LENDING – POSSIBLE MEASURES
TO DECREASE IT
Julia Uebeleis*
Motivation for initiatives regarding FC lending in CESEE & CIS
FC lending – a factor of economic vulnerability in CESEE & CIS
Linking depreciation to systemic risks
Restricting the shock absorbing function of the exchange rate
Limiting the overall effectiveness of monetary policy.
But FC lending had also led to faster growth
Relaxed the fi nancial constraint of small non-tradable fi rms
Increased growth of small non-tradable fi rms
Increased employment (more than productivity)**.
* Financial Markets Analysis and Surveillance Division, Oesterreichishe Nationalbank** Ranciere, R., Tornell, A. and Vamvakidis, A., 2009. “Currency Mismatch and Systemic Risk in
Emerging Europe”, draft prepared for the 51st Panel Meeting of Economic Policy in Madrid.
78
AT-banks’ role … FC lending above country-averages
Size of the problem: FX lending is both a domestic issue in Austria …
0
0.1
0.2
0.3
0.4
0.5
0.6
0.7
0.8
HR UA HU RO RU SI CZFX share Austrian subsidiaries 07 FX share Austrian subsidiaries 09FX share other banks 09 FX share other banks 07
Comparison FX loan share Austrian subsidiaries vs. other banks (Dec.07 - Dec.09)
5
10
15
20
25
30
35
non-financial corporationsprivate householdsdomestic non-banks
Share of foreign currency lending
0
10
20
30
40
50
60
70
80
90
100
-0.5
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5
4.0
4.5
CHFJPYUSDinterest rate advantage JPY vis-à-vis CHF
Currency composition***
(right axis)
*** only CHF, USD and JPY used
percent percent percent
1998
/09
1999
/06
2000
/03
2000
/12
2001
/09
2002
/06
2003
/03
2003
/12
2004
/09
2005
/06
2006
/03
2006
/12
2007
/09
2008
/06
2009
/03
2009
/12
1998
/09
1999
/06
2000
/03
2000
/12
2001
/09
2002
/06
2003
/03
2003
/12
2004
/09
2005
/06
2006
/03
2006
/12
2007
/09
2008
/06
2009
/03
2009
/12
79
… as well as an even larger issue in CESEE and CIS
The unfolding of funding risk and ...
2008
Q2
2008
Q4
2009
Q2
2009
Q4
2008
Q2
2008
Q4
2009
Q2
2009
Q4
2008
Q2
2008
Q4
2009
Q2
2009
Q4
2008
Q2
2008
Q4
2009
Q2
2009
Q4
2008
Q2
2008
Q4
2009
Q2
2009
Q4
2008
Q2
2008
Q4
2009
Q2
2009
Q4
2008
Q2
2008
Q4
2009
Q2
2009
Q4
2008
Q2
2008
Q4
2009
Q2
2009
Q4
2008
Q2
2008
Q4
2009
Q2
2009
Q4
2008
Q2
2008
Q4
2009
Q2
2009
Q4
2008
Q2
2008
Q4
2009
Q2
2009
Q4
2008
Q2
2008
Q4
2009
Q2
2009
Q4
FC Deposit surplus LC Deposit surplus FC deposit deficit LC deposit deficit Funding Gap
Currency mismatches on country levelHU RO CZSKRUHRUA BG PL ALBARS
private households: 41%nonfin. corporations: 59%
35
40
45
50
55
Dec. 2006 Dec. 2007 Dec. 2008 Dec. 2009
non-banksprivate households corporations
0 10 20 30 40 50 60 70 80 90
Austria
CESEE subsidiaries
CESEE direct
lending
CESEE
EUR billion
FX-Exposure of Austrian banks
Source: OeNB; FX adjusted
FX share
77.1 (-0.3% Q2-Q4)
6.3 (-10.0% Q2-Q4)
41.0 (-0.3% Q2-Q4)
+ 3.0 SPV=80.1
47.7 (-3.8% Q2-Q4)
percent
leasing
RegionFC - indirect
EUR bn FC
CIS 19 USDEU-2004 20
EUR/
EU-2007 18 EURSEE 23 EUR
loans in
Indirect FC loans:EUR: 57% USD: 23% CHF: 20%customer segmentation:
Main
CHF
80
... credit risk clearly raised awareness of all parties involved
How should host and home regulators step in?
Macro: safeguarding fi nancial stability by improving individual banks’ prudential behaviour
Micro: reinforcement of risk management incentives of individual banks
Consumer protection/fi nancial education
FC lending regulation embedded within macroeconomic policies to avoid credit freeze.
Questions to address ...
Bank on the product category or focus on sound practice of FC lending
How to tailor-make regulations for different institutional set-up and economic stage of countries (key word: organic LC development).
0
1
2
3
4
5
6
2006 2007 2008 20090
1
2
3
4
5
6
LC LLPR FC LLPR
Loan loss provision ratios for LC and FC loans percent percentpercent
0
2
4
6
8
10
12
2006 2007 2008 20090
2
4
6
8
10
12
EU-2004 EU-2007 SEE GUS
FC loan loss provision ratios in CESEE and CIS percent
Source: OeNB survey
81
National regulator’s measures for discouraging FC lending
BG EE LT LV HU PL RO AT CY GR SIMonetary policy tools:Higher reserve requirementson bank liabilities in FX
VIII 2004VIII 2005 I & III 2006
Regulatory measures:Higher risk weights
V 20081
V 2009 I 2008
Higher provisioning rate IX 2005
Restrictions on LTV for FX loans III 2010Quantitative restrictions on FX lending IX 2005 X
Administrative measures:Eligibility criteria for borrowers VI 2011Restrictions on payment-to-income ratio VI 2011 VIII 2008
Guidelines/recommendations for banks or customers
I 2007VII 2007
IX 2006 VII 2006 X 2003X 2008 XI 2006 III 2007 VII 2006
XII 2007
Countries with fixed/pegged exchange rate
Countries with floating exchange rate Euro area countries
1 For JPY loans and total foreign currency risk under Pillar 2 of the Capital Requirements Directive (CRD); The dates in the boxes denote the time of the implementation of the measures.
Source: BSC’s WGMA Survey (November 2009) and information collected from nationalcentral banks (February 2010)
X2008
82
Country Characteristics
Country Country risk (EIU rating) Currency
Currency regime
FX share of total loans
Source: IMF
Main currency
Source: OeNB
Regulatory measures adressing
FCLs
Albania ALL Floating n.a. EUR YesBelarus BYR PEG USD
(2009)n.a. USD
Bosnia and Herzegovina
B BAM PEG EUR n.a. EUR
Bulgaria BB BGN PEG EUR 68 EUR NoCroatia B HRK PEG EUR 70 EUR (CHF) YesCzech Republic BBB CZK Floating 13 EUR Hungary B HUF Floating 68 CHF YesKazakhstan B KZT PEG USD
(2009)49 USD
Kyrgyz Republic KGS Managed Float
n.a.
Latvia B LVL PEG EUR 65 EUR NoMacedonia B MKD PEG EUR n.a. EUR YesMontenegro EUR Floating n.a. CHF Poland BB PLN Floating 37 EUR (CHF) YesRomania B RON Managed
Float 58 EUR (CHF) Yes
Russia BB RUB PEG USD/(EUR)
(2009)29 USD
Serbia CCC RSD Managed Float
62 EUR (CHF) Yes
Slovakia BBB EUR Floating n.a. CHF Slovenia BBB EUR Floating n.a. CHF NoTurkey B TRY Floating 27 USD YesUkraine CCC UAH PEG USD
(2008)40 USD Yes
Source: FMA and OeNB
83
Coordination of major stakeholders
Coordinated efforts of different agents vital ...
Foreign (owned)Banks
Domestic Peers
Host Supervisors
Home Supervisors
Central Banks
European CommissionIFIs
Borrowers
84
The roles of specifi c players
Governments, IMF (EC where appropriate) – helping with macroeconomic policy
The IMF & World Bank – advising on public debt management that relies increasingly on longer term local currency bond issues
European Commission – macro-prudential regulation of FCL exposures (but takes time)
Home and host regulators – harmonizing regulatory approaches to FC lending to avoid jurisdiction shopping (no rapid EU-wide approach)
WB and EBRD – advising on legal and institutional changes to develop longer term local currency capital markets
Investing IFIs (EBRD, EIB, IFC (IBRD)) – supporting this by issuing LC bonds, also helping with derivatives markets when needed; initiating local currency pilot projects if above happens
ECB – helping manage FC risks related to speculation onto euro zone
ESRB – will have FCL as top priority
Banks – committing to reduce FC loans.
Main Elements of the Austrian InitiativeHistory of FC loan initiative in Austria
October 2003: Financial Markets Authority (FMA) issued the minimum standards for Granting and Managing Foreign Currency Loans.
October 2008: FMA issued a recommendation to stop new domestic FC lending to private households as defi ned in the Consumer Protection Act.
March 2010: FMA issued an extension to the minimum standards for Granting and Managing Foreign Currency Loans and Loans with Repayment Vehicles.
85
New minimum standards on FC loans
New FC loans only to private households of highest creditworthiness or if they dispose of currency congruent income respectiv assets
Heightened risk awareness regarding EUR repayment vehicles FC loans
Strategies for sustained reduction of the overall volume of FC loans and loans with repayment vehicles
Strategies for limiting the refi nancing risk arising from FC loans
Credit assessment and information obligations vis-à-vis consumers.
Decrease of FC loans in Austria
-0.6
-0.4
-0.2
0.0
0.2
0.4
0.6
2008M01 2008M07 2009M01 2009M07 2010M01
EUR loansFC loans*
Oct. 2008 - June 2010:
* FX adjusted
0
5
10
15
20
25
30
35
End-2008 End-2009EUR CHF JPY
RVL in EUR: -12%
RVL in FC: -6% (FX adjusted)
Loan growth of FC vs. EUR loans
Monthly change (3-month moving average)EUR bn EUR bn
Repayment vehicle loans
Source: OeNB
-EUR -4.7 bn* (FCLs)
86
Recent Austrian Supervisory Initiative for Curbing Foreign Currency Lending in CESEE & CIS
The CESEE Foreign Currency Loan Initiative addresses:High currency induced credit risk of banks active in CESEE
Competitive distortions: Cooperation with Home- and Host-supervisors as well as IFIs shall ensure a level playing fi eld for all banks in CESEE.
Aim: curbing foreign currency lending in CESEE & CIS by restricting new lending to unhedged borrowers lower currency rate volatility induced credit risk.
Recent AT-supervisory initiative for curbing foreign currency lending
in CESEE & CISFirst step – unilateral agreement of Austrian banking groups1. No new lending in non-EUR foreign currencies (e.g. CHF, JPY), USD
denominated debt remains an open issue
2. No FC bullet loans combined with repayment vehicles
3. Consumer loans only to borrowers of highest creditworthiness – avoiding adverse selection.
Second step – stepped-up development of local capital markets
Substream 1: general framework to be agreed upon by home authorities and IFIs
Substream 2: coordination of this agreement to CESEE & countries.
… however, achieving a level playing fi eld and functioning local currency markets will prove the real test
Self restraint can only be of relevance if level playing fi eld
Development of a LC capital markets for bonds and/or savings products is a key element.
Second stepExtension to other loan types (e.g. mortgage) in the medium term.
87
Reasons for foreign currency lending in CESEE & CISReasoning on the supply side ...
“Original sin” – incomplete LC money and capital marketsDeposit euroizationEasy and cheap access to interbank refi nancingNo currency mismatchesEasier loan pricing (as LCY benchmarks are not available)Higher margins (?)Expected appreciation of LC vis-à-vis the FC of the loan (EUR-adoption
commitment)
Familiarity with the product “FC loan”
Moral hazard.
… on the demand side
Loan rate differential
Ledges of borrowers (FC assets and/or FC income)
Expected appreciation of LC vis-à-vis the FC of the loan (EUR-adoption commitment).
88
Loc
al C
apita
l Mar
ket d
evel
opm
ent n
eeds
to b
e ad
dres
sed
– a
task
for
loca
l Gov
ernm
ents
and
IFIs
3M
6M
1Y2Y
3Y
4Y
5Y
6Y
7Y
8Y
9Y
10
Y
15Y
20
Y 3
0Y
Not
e
Pola
nd4.
134.
233.
314.
974.
905.
295.
415.
49 -
5.66
-6.
006.
156.
066.
16Li
quid
Hun
gary
5.
555.
555.
455.
806.
136.
536.
756.
997.
187.
20 -
7.34
7.30
- -
Rel
ativ
ely
high
liq
uidi
ty
Cze
ch R
.1.
431.
691.
431.
622.
132.
593.
263.
333.
74 -
4.01
4.13
4.79
-4.
92M
ediu
m li
quid
ityR
oman
ia 7
.32
8.05
7.24
7.06
7.55
7.14
7.10
- -
7.70
-7.
80 -
- -
Smal
l dom
estic
mar
ket
but r
egul
ar a
uctio
ns
sinc
e 20
10Li
thua
nia
- -
-4.
755.
25 -
-5.
85 -
- -
- -
- -
Low
liqu
idity
, mor
e ac
tive
in th
e Eu
robo
nd
mar
ket
Latv
ia
- -
- -
- -
- -
- -
- -
- -
-N
o do
mes
tic m
arke
t. O
nly
one
issu
ance
si
nce
2008
Esto
nia
- -
- -
- -
- -
- -
- -
- -
-N
o do
mes
tic m
arke
t
Bul
garia
-
- -
- -
- -
- -
- -
- -
- -
Ver
y sm
all n
on-li
quid
m
arke
t
Cro
atia
2.
003.
003.
50 -
-4.
97 -
5.87
-5.
99 -
6.55
- -
-V
ery
rate
trad
ing
activ
ity, b
ut
esta
blis
hed
yiel
d cu
rve
Bos
nia-
H -
- -
- -
- -
- -
- -
- -
- -
No
mar
ket
Serb
ia
- -
- -
- -
- -
- -
- -
- -
-N
o m
arke
t, on
ly
T-bi
lls
Source:UniCredit Group CEE Research
89
Loan and deposit rates in selected countries
Higher margins for FC loans?
0123456789
10
Croatia Romania Hungary (HH)interest margin foreign currency interest margin home currency
Interest margin for HR, RO and HU percent
adding 5yCDS spread
adding 5yCDS spread adding 5y
CDS spread
Source: Central banks; All data is for “new business” January 2010; in Hungary ratesdepicted are for households; Croatian FX rates are for “linked” deposits/loans;margins are deposits to loans except for Hungary where the 6M Libor was used as substitute (no CHF deposits)
02468
10121416
loans deposits loans depositsInterest Level Home Currency Interest Level Foreign Currency
Croatia Romania Hungary (HH)
Loan and deposit rates for HR, RO and HU
Source: Central banks; All data is for “new business” January 2010; in Hungary ratesdepicted are for households; Croatian FX rates are for “linked” deposits/loans;margins (next slide) are deposits to loans except for Hungary where the 6MLibor was used as substitute (no CHF deposits)
percent
90
Key
find
ings
from
EC
B st
ock-
taki
ng e
xerc
ise:
Mea
sure
s tak
en to
slow
dow
n ov
eral
l dom
estic
cre
dit g
row
th in
EU
mem
ber s
tate
s
Mon
etar
y po
licy
tool
s:In
tere
st ra
teII
I & X
I 200
4V
II &
XI 2
006
III &
V 2
007
2004
-200
8IX
20
06
Res
erve
2004
200
5 V
II
2007
XV
20
02V
II 2
004
I 200
5X
II 2
005
V 2
006
VI
2006
X
Reg
ulat
ory
mea
sure
s:
Hig
her r
isk
wei
ghts
X
II
I 20
06II
20
07I 2
008
V
2008
1I
2005
I 20
07
X
I 200
6 I 2
007
Res
trict
ions
on
LTV
IV
20
06
VII
200
7 V
20
09
II
2004
XI
2003
VII
20
07
Prov
isio
ning
rate
X
I 20
05I 2
008
2006
Tigh
ter r
egul
atio
n on
hi
gher
risk
/larg
e ex
posu
res
IV
2006
X
II
2007
Qua
ntita
tive
on le
ndin
g gr
owth
IV
2005
XII
20
06
Cou
ntri
es w
ith fi
xed/
pegg
ed
exch
ange
rat
e C
ount
ries
with
flo
atin
g ex
chan
ge r
ate
E
uro
area
cou
ntri
es
incr
ease
requ
irem
ents
BG
EE
LT
LV
H
U
PL
RO
CY
ES
GR
IEM
T SI
rest
rictio
ns
2006
91
Lim
its o
n in
clus
ion
of
bank
pro
fits i
nto
capi
tal
IV
2005
I
2008
Rul
es o
n co
llate
ral v
alue
of
mor
tgag
e ba
cked
co
vere
d bo
nds
XII
20
07
Adm
inis
trat
ive
mea
sure
s:
Elig
ibili
ty c
riter
ia fo
r bo
rrow
ers
XV
I 20
11IX
20
07
Res
trict
ions
on
paym
ent-
to-in
com
e ra
tioX
II
2004
VII
I 20
05
XII
20
05
Intro
duct
ion
of fi
rst
dow
n-pa
ymen
t V
II
2007
Subm
ition
of i
ncom
e st
atem
ent f
rom
Sta
te
Rev
enue
Ser
vice
VII
20
08V
III
2008
Tigh
ter r
ules
on
taxe
s re
late
d to
real
est
ate
trans
actio
ns a
nd
gove
rnm
ent-s
ubsi
dise
d m
ortg
age
cond
ition
s
2003
20
04X
20
06IV
20
0620
03
2009
Gui
delin
es/
reco
mm
enda
tions
for
bank
s or c
usto
mer
s
II
2006
2003
20
04X
I & V
II 20
0720
04V
III
2006
1 For
JPY
loan
s and
tota
l for
eign
cur
renc
y ris
k un
der P
illar
2 o
f the
CR
D; t
he d
ates
in th
e bo
xes d
enot
e th
e tim
e of
the
impl
emen
tatio
n o
f the
mea
sure
s. So
urce
: BSC
’s W
GM
A Su
rvey
(Nov
embe
r 200
9) a
nd in
form
atio
n co
llect
ed fr
om n
atio
nal c
entr
al b
anks
(Feb
ruar
y 20
10)
BG
EE
LT
LV
H
U
PL
RO
CY
ES
GR
IEM
T SI
(con
tinue
d)
92
FOREIGN CURRENCY LENDING IN CROATIA
Saša Cerovac*
Eurisation in Croatia
Last 15 years of eurisation history in Croatia
1. continuous eurisation (until 2001)
2. de-eurisation (2002-2008)
3. re-eurisation (2009- )
On average above 70 percent (loans and deposits in f/c)
* Financial Stability Department, Croatian National Bank
f/c loans (percent of total loans to non-fin. institutions)f/c loans (percent of total loans to households)
f/c deposits (percent of total deposits to households)f/c deposits (percent of total deposits to non-fin. institutions)
Share of f/c loans and deposits: eurisation swings across sectors
40
50
60
70
80
90
100
99 00 01 02 03 04 05 06 07 08 09 10
I II III
Sectoraldifference(in levels)
93
Main causes (“literature review”)Lack of credibility (of policy makers and institutional vulnerabilities, as
well as history of banking crises)
History of high infl ation
Price (interest rate) differential (and implicit guarantee: stable exchange rate policy)
Availability and low cost of foreign capital (more so if foreign banking sector ownership)Underdeveloped fi nancial derivative market to help reduce currency
risk
Policy measures aimed at reducing f/c risk exposure.
Croatian caseAll of the above? Almost. Specially for small, transitional and open economy.
Risks?In general: the economy with continuous pressure on foreign reserves
exposed to high currency risks, vulnerabilities rise in crises, limited implementation of optimal policy measures to respond.
What are possible measures for de-eurisation?Assuming stable exchange rate policy, two approaches arise:
a) development of fi nancial markets based on domestic currency (important role of government borrowing)
b) inducing price differential in favor of domestic currency (both through loans and deposits).
94
HoweverRisks?
a) ineffectiveness of measures in the environment that has long history of eurisation
b) reduced lending rates to some sectors.
a) Share of f/c loans to the government is quite large –
f/c loans (percent of total loans to government)f/c loans (percent of total loans to public enterprises)
f/c deposits (percent of total loans to households)f/c deposits (percent of total loans to other enterprises)
40
50
60
70
80
90
100
99 00 01 02 03 04 05 06 07 08 09 10
Sectoraldifference(in volatility)
there is room for substitution and de-eurisation policies…
b) Lending and deposit rates clearly negatively correlated
-4-3-2-1012345
6065707580859095
100105
-4
-2
0
2
4
6
8
60
65
70
75
80
85
90
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
f/c loans (percent of total long-term loans to enterprises)f/c loans (percent of total long-term loans to households)Spread-kuna over f/c (enterprises)Spread-kuna over f/c (households)
f/c deposits (percent of total monetary
Spread-kuna over indexedSpread-kuna over f/cSpread-index over f/c
post
. bod
ovi
post
. bod
ovi
institutions deposits)
with a degree of eurisation
95
NATIONAL BANK OF ROMANIA’S EXPERIENCE WITH CURBING FX LENDING
RAPID GROWTH
Luminiţa Tatarici*
Where do we stand?
* Financial Stability Department, National Bank of Romania
200
150
100
50
0
80
60
40
20
0Dec.05 Dec.06 Dec.07 Dec.08 Dec.09 Jun.10 Dec.06 Dec.07 Dec.08 Dec.09 June 10
FX loans to the private sector
local currency loans to the private sector
lei bn EUR bn
FX loans are a material partof the Romanian banks’ portfolio ...
... and a significant componentof the private sector debt
Source: NBR
local currency loans from domestic MFI’s
FX loans from domestic MFI’s
FX loans from foreign financial institutions
96
What are the factors that can explain this evolution?
Both the lack of (i) an appropriate domestic saving and (ii) high presence of foreign owned banks in the Romanian banking system contributed to an increase of supply of foreign currency loans ...
…as well as (iii) interest rate differentials and (iv) previous appreciation of local currency created the incentive for the demand for foreign currency loans.
010203040506070
0
10
20
30
40
50
60
(0-1
mon
th]
(1-3
mon
ths]
(3-6
mon
ths]
(6-1
2 m
onth
s](1
-2 y
ears
]>
2 ye
ars
(0. 1
mon
th]
(1-3
mon
ths]
(3-6
mon
ths]
(6-1
2 m
onth
s](1
-2 y
ears
]>
2 ye
ars
lei
EUR(right scale)
Loan to deposit ratio (June 2010)
50
60
70
80
90
percent of foreign-owned banks assets
percent
percent of foreign-owned banks capitalin total shared capital
in total assets
Foreign owned banks importancefor the banking system
Dec
.01
Dec
.02
Dec
.03
Dec
.04
Dec
.05
Dec
.06
Dec
.07
Dec
.08
Dec
.09
Jun.
10
Source: NBR calculations
0
5
10
15
20
25
30
35the interest rate differential for companiesthe interest rate differential for households
percentage points
Feb.
05Ju
l.05
Dec
.05
May
06
Oct
.06
Mar
.07
Aug
.07
Jan.
08Ju
n.08
Nov
.08
Apr
.09
Sep.
09Fe
b.10
Jul.1
0
Feb.
05Ju
n.05
Oct
.05
Feb.
06Ju
n.06
Oct
.06
Feb.
07Ju
n.07
Oct
.07
Feb.
08Ju
n.08
Oct
.08
Feb.
09
Oct
.09
Jun.
09
Feb.
10Ju
n.10
Interest rate differentials were persistent ...
-30
-20
-10
0
10
20
CHF
USDEUR
percent
... and the exchange rate was on adownward path (January 2005=100)
Source: NBR calculations
Interest rate diferentials represent the difference betweennominal local currency interest rates and nominalEUR interest rates
97
What are the vulnerabilities and the risks for the banking sector?Besides large exposures that contributed to the increase of private sector degree of indebtedness …
… the credit risk stemming from households and non-fi nancial companies materialized
02468
10
1214
0200400600
8001,0001,2001,400
Households Companieslocal currency loansFX loansaverage value of FX loans/average value of local currency loans (right scale)
lei thousands
FX loans have on average a larger valuecompared to local currency loans ...
(June 2010)(June 2010)
0
4
8
12
16
20
24
Households Companieslocal currency loans FX loans
years
Source: NBR calculations
... and are granted on much longer maturities
stock of FX NPLstock of local currency NPLNPL ratio of FX loans (right scale)NPL ratio of local currency loans
stock of FX NPLstock of local currency NPLNPL ratio of FX loans (right scale)NPL ratio of local currency loans
02468
0369
12lei bn
Sep.
2008
Dec
.200
8
Mar
.200
9
Jun.
2009
Sep.
2009
Dec
.200
9
Mar
.201
0
Jun.
2010
percentHouseholds’ portfolio
lei bn
Sep.
2008
Dec
.200
8
Mar
.200
9
Jun.
2009
Sep.
2009
Dec
.200
9
Mar
.201
0
Jun.
2010
percent
02468
10
369
12
(right scale) (right scale)
Non-financial companies’ portfolio
NPL = non-performing loans (loans with more than 90 days overdue)Source: NBR calculations
0
98
What measures have been taken?NBR took very early precautionary measures to contain rapid growth of FX lending
Increase in the MRR on foreign currency liabilities depending on their maturity:- for FX liabilities with maturity
over 2 years, increase from 0 percent
- for FX liabilities with maturity of up to 2 years, the reserve ratio was increased from 25 percent
- Limiting FX exposures to unhedgedborrowers to 300 percent
- Restriction of rating unhedgedborrowers with the highest financialperformance (category “A”)
Aug.04 Sept.05 Mar.06 Feb.08 Aug.08
Debt service ratiolimits by inclusionof both interest raterisk and exchange
rate risk
Tightening theprovisioning rules
for unhedged borrowers
(individuals)
to 40 percent;
to 40 percent
of banks’ own funds;
What are the challenges for future measures?
High FX exposure delivers risks to the banking sector, but measures should be tailored by loans types, and with an unhedged borrower approach
In order to counteract banks appeal to avoid regulation, an EU “level playing fi eld” is desirable
Stimulation of domestic savings
Rising awareness for both lenders and borrowers in what regards the risks associated with foreign currency lending.
SESSION 4
THE IMPACT OF THE WITHDRAWAL OF FISCAL AND MONETARY STIMULUS
OF THE DEVELOPED COUNTRIES ON THE EUROPEAN EMERGING COUNTRIES
101
IMPACT OF FINANCIAL DEVELOPMENTS ON EMERGING EUROPE
Mark Allen*
* Senior IMF Resident Representative for Central and Eastern Europe
The world economy is recovering, but slowly
-6
-4
-2
0
2
4
6
8
10
2005 2006 2007 2008 2009 2010 2011 2012 2013 2014
Euro AreaJapanUnited StatesEmerging and Developing EconomiesWorld
change in GDP (year-on-year)
Source: World Economic Outlook, June 2010
How to Resolve a Financial Crisis
FiscalAutomatic stabilizers
and possible stimulus
MonetaryEase financial
conditions
FinancialDecisive and rapidsteps to clean up banking system
Support demand untilconsumers and investorsrecover
Revive confidence andreopen credit channels
Support demand andmarkets, assist financialsector repair
102
Most financial markets are returning to normal
Source: Global Financial Stability Report, April 2010
Subprime RMBS
Money markets
Financial Institution
Commercial MBS
Prime RMBS
Corporate credit
Emerging Markets
Sovereign credit
Jan.07 Jan.08 Jan.09 Jan.10
Source: International Financial Statistics
value of exports
-40
-30
-20
10
-10
0
20
30
40
50Ja
n.05
Jul.0
5
Jan.
06
Jul.0
6
Jan.
07
Jul.0
7
Jan.
08
Jul.0
8
Jan.
09
Jul.0
9
Jan.
10
Advanced EconomiesEmerging and Developing Economies
World
(percent change, year-on-year)Rebound in world trade has been supportive
103
2,500
2,000
1,500
1,000
500
0
7
8
6
5
4
3
2
1
0
Capital raising (USD bn) percent
Total UnitedStates
EuroArea
UnitedKingdom
Other
Europe
AsiaMature
Bank balance sheets are under repair ...
implies cumulative loss rate (right scale)realized writedowns/loss provisionsexpected additional writedowns/loss provisions
0
50
100
150
200
250
300
Source: Bloomberg
The crisis is becoming one of public finances
The four phases of the crisis (10-yr sovereign swap spreads, percent)I
Financial crisisbuildup
USAGermanyItalyUKJapan
IISystemicoutbreak
IIISystemicresponse
IVSovereigndebt crisis
Jul.0
7
Jan.
08
Jul.0
8
Jan.
09
Jul.0
9
Jan.
10
Jul.1
0
104
United StatesEuro Area
United Kingdom
20
15
10
5
0
-5
-10
-15
-20
Private credit growth(annualized percent change of 3 mma over previous 3 mma)
... and credit expansion subdued
Source: Bank of England, European Central Bank, and the Federal Reserve Board
2002
2003
2004
2005
2006
2007
2008
2009
2010
28
24
20
16
12
8
01 2 3 4 5 6 7 8 9 10 11 12 13
4
Euro Area
United StatesUnited Kingdom
Bank bond maturity profile(debt maturing as percent of initial outstanding; years from July 2010)
... but bank funding is tight ...
105
1995 2000 2005 2010 2015
Advancedeconomies
Emerging anddeveloping economies
120
100
80
60
40
20
0
Public debt (percentage of GDP)
Source: World Economic Outlook, April 2010
Fiscal risks have appeared in some economies
G-20 Advanced Economies: increase in public debt, 2008-2015(total increase: 37 percentage points of GDP; 2009 PPP weighted GDP)
... although the jump is largely due to the recession
Source: World Economic Outlook, April 2010; Staff estimates
3.2
Financial
Revenue loss18
Lending operations
4.1
Interest growthdynamics (r-g)
7.2
(2008-2015)
Fiscal stimulus
4.5 sectorsupport
106
0
2
4
6
8
10
12
14
JPN
USA IR
L
GB
R
ESP
FRA
NLD PR
T
CA
N
BEL
AU
T
ITA
DEU
Required Change in Structural Primary Balance Ratio to GDP 2010-2020 1/
percentage points
Many advanced economies need large fiscal adjustment
1/ Debt to GDP target: 60 percent in 2030 (for Japan, net debt target of 80 percent).Linear adjustment of primary deficit over 2011-2020, constant thereafter
0
1
2
3
4
5
6Euro AreaUKUSAJapanSwitzerland
Policy rates have been kept near zeropolicy rates, percent
Source: Bloomberg
Jan.
06
Jun.
06
Nov
.06
Apr
.07
Sep.
07
Feb.
08
Jul.0
8
Dec
.08
May
09
Oct
.09
Mar
.10
107
0
50
100
150
200
250
300
350
Euro Area UK USA Japan China
400
Source: Bloomberg
Total assets (Jan.07 = 100)
... and Central Banks have provided unconventional market support
Jan.
07
Apr
.07
Jul.0
7
Oct
.07
Jan.
08
Apr
.08
Jul.0
8
Oct
.08
Oct
.09
Jan.
09
Jan.
10
Apr
.09
Apr
.10
Jul.0
9
0
0.2
0.4
0.6
0.8
1
1.2
1.4
USEUR
OIS – Libor spreads
USDEUR
But market liquidity is under strain again
Jan.
09
Mar
.09
May
09
Jul.0
9
Sep.
09
Nov
.09
Jan.
10
Mar
.10
May
10
Source: Bloomberg
108
020406080
100120140160180 percent
Bra
zil
Col
ombi
aM
exic
oPa
ragu
ayB
ulga
riaEs
toni
aH
unga
ryLa
tvia
Lith
uani
aM
oldo
vaPo
land
Rom
ania
Rus
sian
Fed
erat
ion
Serb
iaU
krai
neG
hana
Mor
occo
Nig
eria
Sout
h A
fric
aIn
dia
Indo
nesi
aK
azak
hsta
nPh
ilipp
ines
Thai
land
CEE economies are relatively open to trade
05
101520253035404550
Cze
ch R
epub
lic
Hun
gary
Slov
ak R
epub
lic
Slov
enia
Aus
tria
Bul
garia
Pola
nd
Rom
ania
Rus
sian
Fed
erat
ion
Cro
atia
Uni
ted
Kin
gdom
Serb
ia
Turk
ey
Ukr
aine
Chi
na
Bra
zil
Uni
ted
Stat
esEU members
Euro members
others
CEE is highly dependent on eurozone conditionsMerchandise exports to Euro Area as a share of GDP(2007-2009 average, percent)
Source: Direction of Trade Statistics; World Economic Outlook, April 2010
109
Source: BIS
Bank flows into the region are stagnating ...
-30
-20
-10
0
10
20
30
40
50other Emerging EuropeUkraineSEE-Non-EUSEE-EUBalticsCEE3
External positions of reporting banks(USD bn, estimated exchange rate adjusted changes)
Excludes: Russia, Turkey
Mar
.06
Jun.
06
Sep.
06
Dec
.06
Mar
.07
Jun.
07
Sep.
07
Dec
.07
Mar
.08
Jun.
08
Sep.
08
Dec
.08
Mar
.09
Jun.
09
Sep.
09
Dec
.09
Mar
.10
Capital flow to emerging markets have resumed
0
10
20
30
40
50
60
AsiaLatin AmericaEMEA
Emerging market external bond and equity issuance (USD bn) M
ay 0
8
Nov
.08
May
09
Nov
.09
May
10
110
Source: BIS; IMF – International Financial Statistics
0
10
20
30
40
50
60
70
80
90
100
t-20 t-15 t-10 t-5 t t+5 t+10 t+15 t+20 t+25 t+30
Asia (Sep. 1997)
Emerging Europe(Jun. 2008)
Latin America(Dec. 1983)
Foreign banks exposure in relation to GDP (peak=100)
... as part of post-crisis deleveraging
Source: BIS
... and exposure has fallen from its peak ...
100
200
300
400
500
600
0
SEE-Non-EU-EU
SEE-EU
BalticsUkraine
Hungary
Czech Republic
Poland
-10.4%
-15.3%
-30.0%-35.5%
-9.6%
-30.1%
-13.7%
-17.5%
Decline from the peak (2008Q2)
Foreign bank exposure (USD bn)
Jun.
08
Jun.
09
Sep.
08
Dec
.08
Mar
.09
Sep.
09
Dec
.09
Mar
.10
111
-20
-10
0
10
20
30
40
50
2002 2003 2004 2005 2006 2007 2008 2009 2010
Latin AmericaEmerging AsiaEastern Europe
Private credit growth(annualized percent change of 3 mma over previous 3 mma)
Bank credit supply remains poor in CEE ...
Source: Bank of England, European Central Bank, and the Federal Reserve Board
-20
0
20
40
60
80AustriaSlovak RepublicCzech RepublicHungaryRomaniaCroatiaSerbiaUkraine
... and credit growth remains very restrainedPrivate credit growth (percent year-on-year)
Jan.
08
Apr
.08
Jul.0
8
Oct
.08
Jan.
09
Apr
.09
Jul.0
9
Oct
.09
Jan.
10
Apr
.10
Source: IMF – International Financial Statistics
112
Spreads in CEE have fallen until recently,
Source: Bloomberg
0
500
1,000
1,500
2,000
2,500
050
100150200250300350400450500
0
CDS spreads(basis points)
Nov
.09
Jan.
10
Mar
.10
May
10
Jul.1
0
Sep.
10
Jan.
10
Apr
.10
Jul.1
0
Slovak Rep.HungaryRomaniaCroatiaSerbia
500
1,000
1,500
2,000
2,500
3,000
3,500
4,0004,500
Ukraine (rhs)
Hungary Russia
Ukraine
Estonia
Lithuania
CzechRep.
Romania
Latvia
Poland
Croatia
Bulgaria
Turkey
-12
-8
-4
0
4
8
-10 -5 0 5 10Real Growth in Credit to the Private Sector, 2009Q3 to 2010Q1 (percent)
Cross-border bank deleveraging(peak = 100)
Central and Eastern EuropeEmerging markets and other countries
BIS
Cro
ss-B
orde
r Ban
k Fl
ows,
2009
Q3
to 2
010Q
1 (p
erce
nt o
f GD
P)CEE credit growth is tied to cross-borders flows
113
0123456789
10
Change in spreads on 10-year paper over Bunds(May 2009 to September 2010) period average
when market concerns have shifted to GIIPS,
Source: Bloomberg
Cro
atia
Cze
ch R
ep.
Hun
gary
Pola
nd
Slov
ak
Gre
ece
Italy
Portu
gal
Irel
and
Spai
n
0
200
400
600
800
1,000
1,200
0
50
100
150
200
250
300
350
400ItalyIrelandPortugalSpainGreece (rhs)Slovak Rep.
Euro area peripherals(10-yr spreads over Bunds, basis points)
ECB-EU-IMFpackage
CEBS results released
Source: Bloomberg
since spreads for GIIPS are rising
Jan.
10
Feb.
10
Mar
.10
Apr
.10
May
10
Jun.
10
Jul.1
0
Aug
.10
Sep.
10
114
0
20
40
60
80
100
120
140
160
2003 2005 2007 2009 2011 2013Czech Republic HungaryRomania Slovak RepublicCroatia SerbiaUkraineGreece IrelandItaly PortugalSpainAustria
Sovereign debt to GDP (percent)
}}}
EU NMS
Other Emerging EuropeGIIPS
Source: World Economic Outlook, April 2010
Sovereign debt is lower in CEE than in GIIPS
0
2
4
6
8
10
12
Spain Portugal Italy Ireland Greece
Banking system exposure to GIIPS (percent of system assets)
Source: BIS, EBF
Some banking systems are exposed to GIIPS ...
Portu
gal
Fran
ce
Net
herla
nds
Ger
man
y
Bel
gium
Irel
and
Aus
tria
Gre
ece
Switz
eran
d
Swed
en
Italy
Uni
ted
Spai
n
Kin
gdom
115
02468
101214161820
Ukraine SEE-EU SEE-Non-EU CEE3 EA NMS
Banking system exposure to Emerging Europe (percent of system assets)
... and others to CEE
Source: BIS, EBF
Portu
gal
Aus
tria
Fran
ce
The
Net
herla
nds
Ger
man
y
Bel
gium
Gre
ece
Switz
eran
d
Swed
en
Italy
Uni
ted
Spai
n
Kin
gdom
0
5
10
15
20
25
30
35
40
Spain Portugal Italy Ireland Greece
Banking system exposure to GIIPS (percent of GDP)
These can be large shares of GDP (1)
Source: BIS, WEO
Portu
gal
Aus
tria
Irel
and
Fran
ce
The
Net
herla
nds
Ger
man
y
Bel
gium
Gre
ece
Switz
eran
d
Swed
en
Italy
Uni
ted
Spai
n
Kin
gdom
116
0
10
20
30
40
50
60
70
80
Ukraine SEE-EU SEE-Non-EU CEE3 EA NMS
Source: BIS, WEO
Banking system exposure to Emerging Europe (percent of GDP)
These can be large shares of GDP (2)
Portu
gal
Aus
tria
Fran
ce
The
Net
herla
nds
Ger
man
y
Bel
gium
Gre
ece
Switz
eran
d
Swed
en
Italy
Uni
ted
Spai
n
Kin
gdom
0
100
200
300
400
500
-100 0 100 200 300 400 500 600
Austria Spain
SpainGreece
Greece
BelgiumPortugal
Portugal
Italy
October 2009 to June 2010
October 2009 to February 2010
Cha
nge
in lo
cal s
enio
r fin
anci
al C
DS
Percent change in sovereign CDS
Ireland
Source: Bloomberg
Sovereign creditworthiness directly affects that of banks ...
117
… and a feedback loop ties sovereign strains to banking system
DOM
ESTI
C
SOVE
REIG
N
SOVE
REIG
N
FORE
IGN
BANK
S
BANK
S
A. M
ark-
to-m
arke
t fall
in va
lue
of go
vt. b
onds
held
by l
ocal
bank
s
B. In
crea
se in
ban
kfu
ndin
g cos
ts
C. E
rosio
n in
pot
entia
lfo
r offi
cial s
uppo
rt
D. M
ark-
to-m
arke
t fall
in va
lue o
f gov
t. bo
nds
held
by f
oreig
n ba
nks
E. S
imila
r sov
ereig
nsco
me u
nder
pre
ssure
F. Co
ntag
ion ch
anne
ls(A
, B &
C as
abov
e)
I. In
crea
se in
cont
inge
ntlia
bilit
ies of
govt
.
I. In
crea
se in
cont
inge
ntlia
bilit
ies of
govt
.
G. R
ise in
coun
terpa
rtycr
edit
risk
H. W
ithdr
awal
of fu
ndin
gfo
r risk
y ban
ks
118
THE IMPACT OF THE WITHDRAWAL OF FISCAL AND MONETARY STIMULUS
OF EUROPEAN AREA COUNTRIES
Irina Mihai*
ECB monetary stimulus – exit strategies discussions are postponed to after the end of 2010 …
I. New Liquidity providing instruments and methods:
USD, JPY, and CHF funds
10 May 2010: “The Governing Council of the ECB decided to reactivate, in coordination with other central banks, the temporary liquidity swap lines with the Federal Reserve, and resume US dollar liquidity-providing operations at terms of 7 and 84 days”.
LTRO on 6 and 12 months
2 September 2010: “The Governing Council has also decided to carry out three additional fi ne-tuning operations when the remaining 6-month and 12-month refi nancing operations mature (…). The fi xed rate tender procedure with full allotment will also be used in these three operations, the rate being the same as the MRO rate prevailing at that time”.
Fixed rate tender procedure with full allotment:
2 September 2010: “European Central Bank (ECB) has today decided to continue to conduct its main refi nancing operations (MROs) as fi xed rate tender procedures with full allotment for as long as necessary, and at least until the end of this year’s twelfth maintenance period on 18 January 2011”.
* Financial Stability Department, National Bank of Romania
119
II. Extended list of eligible collateral:
8 April 2010: “(…) the Governing Council has decided to apply, as of 1 January 2011, a schedule of graduated valuation haircuts to the assets rated in the BBB+ to BBB- range (or equivalent). This graduated haircut schedule will replace the uniform haircut add-on of 5 percent that is currently applied to these assets”. The schedule was published on 28 July 2010.
III. Assets purchasing programme – Securities Markets Programme
10 May 2010: “The Governing Council decided to conduct interventions (…) to ensure depth and liquidity in those market segments which are dysfunctional”.
-300
-100
100
300
500
700
900
Feb.
07M
ay 0
7A
ug.0
7N
ov.0
7Fe
b.08
May
08
Aug
.08
Nov
.08
Feb.
09M
ay 0
9A
ug.0
9N
ov.0
9Fe
b.10
May
10
Aug
.10
Feb.
07M
ay 0
7A
ug.0
7N
ov.0
7Fe
b.08
May
08
Aug
.08
Nov
.08
Feb.
09M
ay 0
9A
ug.0
9N
ov.0
9Fe
b.10
May
10
Aug
.10
LTRO credit facilityotherMRO
deposit facility
EUR bn
ECB refinancing operations
0
1
2
3
4
5
6
refinancing interest rate deposit facilitycredit facility Euribor - 1 week
introduction of USD financing operations on 1, 28, 84 days
- MRO, LTRO on 3M, 6M and USD financing conducted with full allotment, at fixed rate;
- FX swap programme
Programme
introduction ofLTRO on 12M
Securities Markets
Interest rates on European money market
percent
... meanwhile some programs are concluded (Covered Bond Purchase Programme)or will be phased out as the loans mature (LTRO on 6M and 12M maturities)
Source: ECB
120
The distribution of injected funds was asymmetric, but in correlation with government bailout programs
ECB Germany France Italy The Netherlands Austria Greece
Refinancing (EUR bn, as of Dec. 2009) 795 277 134 50 35 23 38% of Central Bank’s total assets 39 45 24 19 30 27 54
% of GDP 9 11 7 3 6 8 16Government Guarantee Program (EUR bn) 400 320 n.a. 200 100 28
% of GDP 17 17 n.a. 35 37 12
Source: Petrovic and Tutsch (2009), ECB, Central Banks’ websites, Bloomberg
ECB funding and EU Governments’ guarantees programs
Dec. 2007 Dec. 2008 Dec. 2009 Mar. 2010
Writedowns/Losses EUR bn 72 323 417 419
Capitalization – All sources EUR bn 29 249 421 421
Capitalization – Government EUR bn 2 161 255 255
% Total 6 65 61 60
Source: Bloomberg
European Financial Institutions – Losses and capitalization
121
28 30 31 28 26 26 26
010
203040
506070
8090
100
capital and reserves other liabilities
external liabilities
deposits - MFIs deposits - non-MFIs
Banks liabilities structure
Dec
.07
Sep.
08
Dec
.08
Sep.
09
Dec
.09
Jan.
10
Feb.
10
100
110
120
130
140
150
Jan.
07A
pr.0
7Ju
l.07
Oct
.07
Jan.
08A
pr.0
8Ju
l.08
Oct
.08
Jan.
09A
pr.0
9Ju
l.09
Oct
.09
Jan.
10A
pr.1
0Ju
l.10
Loans to deposits on real sector
Banks recourse to shareholders for additional capitalas well as to local market for financial resources ...
Source: NBR
0
5
10
15
20
Jan.
07A
pr.0
7Ju
l.07
Oct
.07
Jan.
08A
pr.0
8Ju
l.08
Oct
.08
Jan.
09A
pr.0
9Ju
l.09
Oct
.09
Jan.
10A
pr.1
0Ju
l.10
Household sector
0
5
10
15
20
Jan.
07
May
07
Sep.
07
Jan.
08
May
08
Sep.
08
Jan.
09
May
09
Sep.
09
Jan.
10
May
10
spread-euro
spread-lei
intrest rate deposits euro
intrest rate loans-euro
intrest rate deposits
intrest rate loans
Non-financial companies... this was also reflected by interest rates dynamics
Source: NBR
122
Exports Bank assets
2009 2009 2009 2010f 2009 2010f 2009 2010f
EU 74.5 84.5 -4.2 1.0 -6.8 -7.2 73.6 79.6
Germany 18.8 0.3 -5.0 1.2 -3.3 -5.0 73.2 78.8
France 8.2 13.5 -2.2 1.3 -7.5 -8.0 77.6 83.6
Italy 15.4 7.7 -5.0 0.8 -5.3 -5.3 115.8 118.2
The Netherlands 3.3 7.0 -4.0 1.3 -5.3 6.3 60.9 66.3
Austria 2.4 35.1 -3.6 1.3 -3.4 -4.7 66.5 70.2
Greece 1.9 16.9 -2.0 -3.0 -13.6 -9.3 115.1 124.9
f = forecastSource: European Commission, May 2010
Economic growth
Public deficit Public debt
Fiscal stimulus – exit strategies are under way as pressures build up due to large public deficits and public debt
(%) (%) (% of GDP) (% of GDP)
SESSION 5
THE IMPACT OF THE EU CHANGING REGULATORY FRAMEWORK
ON THE EMERGING EU MEMBER STATES
125
BASEL III AND IMPACT ON EMERGING EUROPE
Nikolaos Tsaveas*
Basel III – an overviewCommittee’s package of reforms will
Increase the minimum common equity requirement from 2 percent to 4.5 percent
Require banks to hold a capital conservation buffer of 2.5 percent to withstand future periods of stress, bringing the total common equity requirements to 7 percent
Shift the focus to “better quality” capital, such as common equity, leaving aside capital of lesser supportive capacity.
The Basel III agreement, apart from the increased capital requirements reform, includes a timeline describing the necessary transitional arrangements.
Capital conservation buffer
Level: The 2.5 percent capital conservation buffer (CCB) will be met with common equity, after the application of deductions
Phase-in arrangements: CCB will gradually increase from 0.625 percent of RWAs on 1 January 2016 to 2.5 percent of RWAs on 1 January 2019 by being increased each year by an additional 0.625 percentage points
Objectives: CCB will be used to absorb losses during periods of fi nancial and economic stress While banks are allowed to draw on the buffer during such periods of
stress, the closer their regulatory capital ratios approach the minimum requirement, the greater the constraints on earnings distributions
This framework will address the collective action problem that has prevented some banks from curtailing distributions.
* Financial Stability Department, Bank of Greece
126
Basel III – An overview on capital requirements reforms
Common Equity (after deductions)
Tier 1 Capital
Total Capital
4.5 6.0 8.0
Conservation buffer 2.5
Minimum plus conservation buffer
7.0 8.5 10.5
Countercyclical buffer range* 0-2.5
* Common equity or other fully loss absorbing capital Source: BIS press release on higher global minimum capital standards, 12 September 2010
Calibration of the capital framework
Capital requirements and buffers (all numbers in percent)
Minimum
Liquiditycoverageratio (LCR)
Stock of high quality liquid assets(cash, government bonds) divided by...
... net cash outflows over 1 - 30 day period under acute short-term stress
Core funding broadly defined as highquality long-term funding
Funding requirement set as a weightedpercentage of most asset classes(excluding the highly liquid ones)
Net stablefunding ratio(NSFR)
(i.e. shareholders equity high quality
Ensure the bank maintainsadequate level of unencumberedhigh quality liquid assets to meetshort-term liquidity needs under
deposits, term debt)
acute stress
Promote medium and long term funding
Set minimum acceptable standard over a one-year horizon
Incorporate off-balance sheetand capital market activities
Definition Objective
Basel III - An overview of liquidity standards reforms
127
Sou
rce:
BIS
pre
ss re
leas
e on
hig
her g
loba
l min
imum
cap
ital s
tand
ards
, 12
Sept
embe
r 201
0
Bas
el II
I – P
hase
-in a
rran
gem
ents
(s
hadi
ng in
dica
tes t
rans
ition
per
iods
– a
ll da
tes a
re a
s of J
anua
ry 1
st)
2011
2012
2013
2014
2015
2016
2017
2018
As o
f 1
Janu
ary
2019
Leve
rage
Rat
ioM
igra
tion
to P
illar
I
Min
imum
Com
mon
Equ
ity C
apita
l Rati
o 3.
5%4.
0%4.
5%4.
5%4.
5%4.
5%4.
5%C
apita
l Con
serv
atio
n B
uffe
r0.
625%
1.25
%1.
875%
2.5%
Min
imum
com
mon
equ
ity p
lus
capi
tal c
onse
rvat
ion
buff
er
3.5%
4.0%
4.5%
5.12
5%5.
75%
6.37
5%7.
0%
Phas
e-in
of d
educ
tions
from
CET
1 (in
clud
ing
amou
nts e
xcee
ding
the
limit
for D
TAs,
MSR
s and
fina
ncia
ls)
20%
40%
60%
80%
100%
100%
Min
imum
Tie
r 1 C
apita
l 4.
5%5.
5%6.
0%6.
0%6.
0%6.
0%6.
0%
Min
imum
Tot
al C
apita
l 8.
0%8.
0%8.
0%8.
0%8.
0%8.
0%8.
0%
Min
imum
Tot
al C
apita
l plu
s co
nser
vatio
n bu
ffer
8.
0%8.
0%8.
0%8.
625%
9.25
%9.
875%
10.5
%
Cap
ital i
nstru
men
ts th
at n
o lo
nger
qua
lify
as n
on-c
ore
Tier
1 c
apita
l or T
ier 2
cap
ital
Liqu
idity
cov
erag
e ra
tio
Obs
erva
tion
perio
d be
gins
Intro
duce
m
inim
um
stan
dard
Net
stab
le fu
ndin
g ra
tio
Obs
erva
tion
perio
d be
gins
Intro
duce
m
inim
um
stan
dard
Supe
rvis
ory
mon
itorin
gPa
ralle
l run
1
Jan.
201
3 - 1
Jan.
201
7D
iscl
osur
e st
arts
1 Ja
n. 2
015
Phas
ed o
ut o
ver 1
0 ye
ar h
oriz
on b
egin
ning
201
3
128
Things to watch
A “holier than though” spiral that will necessitate ever-tightening standards, and may cut some fi nancial institutions out of the markets
An uneven application of standards that will distort the playing fi eldThe bank levyThe treatment of SIFIs.
Current account deficit
Foreign banks presence
Foreign currency lending
Strong capital base
Current account deficits widened sharply in the booming period (convergence story)
The banking sector of Emerging Europe countries is dominated by foreign-owned banks
Lending in foreign currency constitutes a large share of total loans in many countries
The loan-to-deposit ratio of many Emerging Europe countries is relatively high and has increased considerably in the booming period prior to the global financial crisis
Relatively strong capital base with good quality capital
Savings gap
Emerging Europe stylized facts
129
Emerging Europe stylized facts: current account defi citsCountries with fi xed exchange rates exhibited very wide CA defi cits in the
run-up to the crisis and suffered from a sharp correction afterwardsCountries with fl exible exchange rates faced a signifi cant but less
ronounced correction of the CA defi cit.
Emerging Europe stylized facts: predominance of foreign-owned banksThe banking sector of Emerging Europe countries is dominated by foreign-owned banks. Privatization and liberalization of domestic banking sectorsBanking crises in the early phases of the transitionLack of domestic inputsAttractive markets due to the convergence story.
Asset share of foreign-owned banks
0102030405060708090
100
Turkey
percent
Hungary Serbia Bulgaria Romania Croatia Estonia
Current account/Gross DomesticProduct of emerging european countries
-35-30-25-20-15-10
-505
1015
2005 2006 2007 2008 2009
Source: International Monetary Fund
Czech Republic RomaniaHungary Poland
Turkey
Current account/Gross Domestic Productof emerging european countries with fixed
-35-30-25-20-15-10
-505
1015
2005 2006 2007 2008 2009Note: Slovak Republic and Slovenia
Croatia Bulgaria
Estonia
LatviaLithuania Slovenia
Slovak Republic
belong to the Euro area
percent percentwith floating exchange rate regimes exchange rate regimes
130
Emerging Europe stylized facts: foreign currency lending
100
80
60
40
20
00 20 40 60 80 100
LV
EELT
HU
RO
PL
AT
CZ
Local currency loans
percent of total loans, 2009Q4
Loans in national and foreign currencyto the non-financial private sector
in selected EU countries
Fore
ign
curr
ency
loan
sBG
Source: Eurostat, ECB, BSI and ECB calculations
Note: Blue diamonds are used for non-area EUcountries with fixed exchange rate regimes andred diamonds are used for non-euro area EU countrieswith flexible exchange rate. Black diamonds designateeuro area countries.
The increasing share of FX loans, in particular euro-denominated lending went alongside a strongexpansion of overall credit, amid strong inflows of foreign capital attracted by expectations of a dynamic economic convergence
Partly funded by FX depositsand partly by parent funding
Banks in a way substituted direct FX risk with indirect credit risk, especially in the case of unhedged borrowers (e.g. households)
131
Emerging Europe stylized facts: high loan-to-deposit ratio
The loan-to-deposit ratio of many Emerging Europe countries is relatively high and has increased considerably in the booming period prior to the global fi nancial crisis thanks to:
Structural savings gap due to stage of development/convergence play
Availability of parent funding coupled with expansionary strategy of foreign-owned banks.
Loans/deposits ratios
Source: Fitch and national sources
Country groups
Baltic countries with extremely high ratios
High for most other Emerging Europe
Low in Czech Republic, Slovakiaand Turkey
190
160
130
100
70
200720082009 H1
percent
Lith
uani
a
Latv
ia
Esto
nia
Slov
enia
Hun
gary
Rom
ania
Pola
nd
Bul
garia
Cro
atia
Slov
akia
Turk
ey
Cze
ch R
ep.
132
Emerging Europe stylized facts: strong capital baseThe banking sectors in most Emerging Europe countries are relatively well
capitalized …… more importantly in most cases the share of Tier 1 in total capital is also
high.
Are these stylized facts linked?There is some evidence that the aforementioned stylized facts are linked to each other, but intrinsic characteristics of each banking sector also matter.
Tier 1 and CAR levels
Source: EU Banking Sector Stability
percent
0
5
10
15
20
25Tier 1 CAR
Lith
uani
a
Latv
ia
Esto
nia
Slov
enia
Hun
gary
Rom
ania
Pola
nd
Bul
garia
Cro
atia
Slov
akia
Turk
ey
100
80
60
40
20
050 100 150 200 250 300
LVEE
LTHURO
PL
ATCZ
Loan-to-deposit ratio
(percent; 2009 Q4)
Loan-to-deposit ratio and foreign currencylending in selected EU countries
Shar
e of
fore
ign
curr
ency
loan
s
BG
Source: Eurostat, ECB, BSI, JEDH and ECB calculations
Countries with the largest customerfunding gaps tended to build up thelargest stocks of foreign currencyloans (e.g. Baltic’s), but …
… Slovakia and Czech Republicscore better despite havingpredominantly foreign-owned banks
133
Capital level and quality might mitigate impactThe share of Tier 1 in total capital is high
Less impacted by change in equity defi nition and higher Pillar I minimum requirements
Capital levels are high but minimum capital requirements are also higher in some Emerging Europe countries.
Fundingpressure
New liquidity requirements
Structural savings gap
High loan-to-deposit ratios anddependency on parent funding
Strategic re-orientation of parent banksdue to new capital (e.g. minorities)
Reduced availability of parent funding
More difficult to attract FDI
Bankrestructuring
Capital flowsadjustment
and liquidity requirements
Intensified competition fordomestic deposits leadingto higher savings interest
Subdued credit growth due toreduced availability andincreased cost of funding
rates
Crowding out due to preferencefor government bonds
Potential investments/consolidations
Revised business models
Difficulty in financingCurrent Account deficits
Drivers Impact on Emerging Europe
Impact of Basel III on Emerging Europe
Share of Tier 1 in total capital
0
20
40
60
80
100
Source: EU Banking Sector Stability
percent
Lith
uani
a
Latv
ia
Esto
nia
Slov
enia
Hun
gary
Rom
ania
Pola
nd
Bul
garia
EU-2
7
Slov
akia
Turk
ey
134
Policy implications for Emerging Europe countries
Incentives to strengthen domestic deposit base
Facilitate improvement of loan-to-deposit ratio
Avoid / contain need for deleveraging
Encourage fi nancial deepening through a favorable environment for domestic pension funds etc.
Fiscal consolidation to avoid crowding out
Orderly introduction of new measures
How to calibrate the CCB and when to use it.
The wider view
The end of carry trade?
A return to a more traditional role for interest rate policy?
135
IMPACT OF THE BASEL III LIQUIDITY REGULATIONS
ON THE POLISH BANKING SECTOR
Piotr Kasprzak*
Basel III vs. Polish banking sector
Defi nition of capital
Limited impact
Over 90 percent of currently held capital is Tier 1
Potentially important impact of deductions (differed tax) but limited to individual small banks
Liquidity standards
Liquidity standards already exist under Polish regulatory regime
Strong position regarding short-term liquidity (Liqudity Coverage Ratio)
Net Stable Funding Ratio (NSFR) may be a concern
* Financial System Department, National Bank of Poland
136
NSFR impact simulation
Shortage of stable funding sources:
December proposal: 107 zloty billion (25.7 EUR billion)
July proposal: 30 zloty billion (7.1 EUR billion)
How much the needed adjustments would cost?
Simulation assumptions:
Asset structure remains unchanged
Adjustments only in the funding profi le
Balance sheet total remains unchanged
Immediate (thus static) adjustments
Three ways of increasing stable funding sources:
Extending the maturity structure of already held deposits (and acquiring new if necessary) [Long deposits]
– Aiming at increasing the “stability weight” of already held deposit portfolio from 85/90 percent to 100 percent
0102030405060708090
<25
25-5
0
50-7
0
70-8
0
80-9
0
90-1
00
>=10
0
Shar
e in
the
bank
ing
sect
ors’
ass
ets
July DecemberShort-term domestic wholesale
6
Long-term debt issue
2Short-term debt issue
0
Deposits55
Capital
percent
11
Other10
Short-term foreign
wholesale4 Long-term
domestic wholesale
1
Long-term foreign
wholesale11
Met by over 80 percent of banksafter amendments in July
Dominant deposit and short-term funding
Source: NBPSource: Own calculations based on NBP data
percent
137
Acquiring new (not necessarily long-term) deposits & reducing short-term wholesale liabilities [New deposits]
– Aiming at substituting debt of 0 percent “stability weight” with 85/90 percent weight
New long-term debt issue & reducing short-term wholesale liabilities [Debt issue]
– Aiming at substituting debt of 0 percent “stability weight” with 100 percent weight
Estimating the costs of 3 strategies
Long deposits – interest rate on new households’ term deposits > 1 year (NBP/ECB interest rate statistics)
New deposits – interest rate on new households’ term deposits < 1 year (NBP/ECB interest rate statistics)
Debt issue – implied theoretical yield on bonds issued in the euro area market by a bank operating in Poland with an A rating
maturity
3.0
3.5
4.0
4.5
5.0
5.5
6.0
6.5
7.0
7.5
2 2.5 3 3.5 4 5 6 7 8 9 10
implied yield
smoothed implied rate
percent
Source: Own calculations based on Bloomberg
138
Estimating the current costs of funding Effective interest rate approach
Annualized interest costs on liabilities towards selected sectors are expressed as a percent of annualized stock of liabilities
Eventually, for each bank we get its’ effective interest rates on liabilities towards:– Households– Enterprises– Other fi nancial entities– General government sector
Estimating the burden of additional costs for 3 strategies
For each bank with a shortfall of stable funding sources we:
1. Calculate the difference between:a. Long deposits costs and effective interest on liabilities towards
householdsb. New deposits costs and effective interest on liabilities towards fi nancial and general government sector
c. Debt issue costs and effective interest on liabilities towards fi nancial and general government sector
2. Multiply the above difference and the shortfall of stable funding in order to get the amount of additional interest costs
NSFR Impact Simulation
Decrease in percent Long deposits New deposits Debt issue
Interest income 11.9 5.8 4.2 - 14.7
Net profit 34.6 17.0 12.2 - 42.8
- July proposal:
- December proposal:
Decrease in percent Long deposits New deposits Debt issue
Interest income 2.7 3.5 2.6 - 7.2
Net profit 8.0 10.2 7.6 - 21.1
Results of the simulations:
139
Results of the simulationDistribution of banks’ assets by the fall in interest income due to different strategies: debt issue (left panel), long deposits (centre panel) and new deposits (right panel) (July proposal).
Conclusions
Amendments to the original (December) regulation proposal signifi cantly decreased the potential costs associated with necessary funding adjustments
However, for some individual banks change in funding profi le may be very costly
Conservative assumptions of the simulation and the recent BC agreement on the timeframe (NSFR to be in power in 2018) seem to make the simulated costs a little overestimated.
0
2
4
6
8
10
12
<10
10-2
0 20
-30
30-4
0 40
-50
50-6
0 60
-70
70-8
0 80
-90
90-1
00
>100
shar
e in
the
bank
ing
sect
ors’
ass
ets
2y 5y 10y
0
2
4
6
8
10
12
<10
10-2
0 20
-30
30-4
0 40
-50
50-6
0 60
-70
70-8
0 80
-90
90-1
00
>100
shar
e in
the
bank
ing
sect
ors’
ass
ets
0
2
4
6
8
10
12
<10
10-2
0 20
-30
30-4
0 40
-50
50-6
0 60
-70
70-8
0 80
-90
90-1
00
>100
shar
e in
the
bank
ing
sect
ors’
ass
etspercent percent percent
Source: Own calculations based on NBP data
140
LIQUIDITY RISK REGULATION IN THE CONTEXT OF THE FINANCIAL CRISIS
Alexandru Stângă*
Liquidity risk – defi nition
Liquidity represents the capacity of a bank to fulfi l all payment obligations when they fall due, without incurring unacceptable losses
Banking business has at the core the principle of maturity transformation thus it has a inherent exposure to liquidity risk
Solvent banks can default due to liquidity problems with negative impact on the stability of the fi nancial system and the real economy.
Liquidity risk and the fi nancial crisis
The years preceding the fi nancial crisis were characterized by an ample supply of liquidity and a low risk aversion environment that led to an underestimation of liquidity risk
The ineffective management of liquidity risk became clear during the fi nancial crisis as banks struggled to maintain adequate liquidity
Central banks around the world had to intervene with unprecedented levels of liquidity support in order to defend fi nancial stability.
International reaction to the liquidity crisis
The liquidity crisis triggered a strong reaction at the international level
April 2009 – G20 recommended that BCBS and national authorities should develop by 2010 a global framework for liquidity risk
December 2009 – BCBS issued for consultation a set of quantitative standards and monitoring tools for liquidity risk and launched an impact assessment.
* Financial Stability Department, National Bank of Romania
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July 2010 – The Group of Governors and Heads of Supervision, the oversight body of the BCBS, reached a broad agreement on the overall design of the liquidity reform
The details of the liquidity reform and the results of the impact assessment will be published later this year.
BCBS quantitative liquidity standards
Liquidity Coverage Ratio (LCR)
“This metric aims to ensure that a bank maintains an adequate level of unencumbered, high quality assets that can be converted into cash to meet its liquidity needs for a 30-day time horizon under an acute liquidity stress scenario”**.
LCR implementation
2011 – Observation period begins
2015 – Introduce minimum standard
Net Stable Funding Ratio (NSFR)
“This metric establishes a minimum acceptable amount of stable funding based on the liquidity characteristics of an institution’s assets and activities over a one year horizon”**.
NSFR implementation
2012 – Observation period begins
2018 – Introduce minimum standard
** BCBS, December 2009, International framework for liquidity risk measurement, standards and monitoring
Available amount of stable fundingRequired amount of stable funding
> 100%
Stock of high quality liquid assetsNet cash outflows over a 30-day time period
00
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The EU reaction to the liquidity crisis
February 2010 – The European Commission launched a public consultation on possible changes to the Capital Requirements Directive (“CRD IV”)
CRD IV includes a set of liquidity requirements that are closely aligned with the BCBS standards (LCR and NSFR)
The Commission is conducting an impact assessment
In the second half of 2010 the Commission intends to adopt and publish the legislative proposal.
Liquidity regulation in Romania
In 2001 the National Bank of Romania (NBR) issued a quantitative liquidity regulation
Under the regulation banks are required to maintain a ratio greater than one between liquidity adjusted assets (effective liquidity) and volatile liabilities (necessary liquidity), including off-balance sheet items, on a monthly basis
The ratio is calculated for fi ve maturity bands (<1m; 3-6m; 6-12m; >12m) and at the aggregate level
The excess liquidity from a lower maturity band automatically spills into the next maturity band and is added to the adjusted assets when computing the liquidity indicator.
Amendments to the liquidity regulation
As a reaction to the fi nancial crisis the NBR initiated an evaluation of the liquidity regulation with the following objectives:
Improve the liquidity requirements based on the lessons learned during the fi nancial crisis
Increase the transparency of the regulation and reduce its complexity
Align the haircuts methodology to the international approach (fi xed coeffi cients)
Address specifi c bank behavior generated by the fi nancial crisis
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Based on the results of the evaluation NBR has introduced two amendments to the liquidity regulation and intends to issue a new amendment in the near future.
Main changes to the liquidity regulation
New haircuts for:
Securities Loans***
Demand deposits Current accounts***
Term deposits***
Additional currency reporting of the balance sheet and off-balance sheet positions included in the liquidity ratio for monitoring purposes (separate reporting of RON and EUR items).
Demand deposits and current accounts
Maturity band: fi rst band (necessary liquidity)
During the fi nancial crisis banks started to promote a series of short term saving products that were registered either as demand deposits or current accounts
Main factors that encouraged this behavior The income tax for these accounts was zero compared to 16 percent
income tax for the saving instruments with longer maturities
The liquidity pressures generated by the fi nancial crisis led to a competition for funding between banks that increased short term interest rates
The saving products became very popular due to the attractive interest rates and the possibility of immediate withdrawal
The expansion of these products had the potential to increase liquidity risk due to a higher volatility of the account balances generated by clients who searched for higher yields
*** The NBR is evaluating the possibility to change the haircuts in the next amendment.
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July 2009 – The treatment was tightened to discourage the use of the accounts as a saving instrument
Past treatment: Liquidity adjusted balance = Current account balance – Average account balance in the previous six months
New treatment: Fixed coeffi cient: 100 percent (the entire account balance is included in the necessary liquidity)
December 2009 – The treatment applied to demand deposits was relaxed after a change in bank behavior and a decrease in the liquidity pressures
New treatment – Fixed coeffi cient, 40 percent (calibrated by analyzing the account balance behavior during the fi nancial crisis)
In 2010 the fi scal regime was changed to an uniform income tax (16 percent) for all types of saving instruments thus the incentives to promote saving products registered as current accounts diminished
For the next amendment to the liquidity regulation NBR is evaluating the possibility to relax the treatment applied to current accounts.
Term deposits
Maturity band: all maturity bands (necessary liquidity)
For the next amendment to the regulation, NBR is considering a change in treatment in order to align the haircuts methodology to the international approach (fi xed coeffi cients)
Current treatment:
Liquidity adjusted balance = Current account balance – Average account balance in the previous six months
Alternative treatment:
Fixed coeffi cients calibrated based on the dynamics of account balances during the fi nancial crisis.
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High quality fi xed income securities
Maturity band – First band (adjusted securities are included in the effective liquidity on the fi rst maturity band regardless of their residual maturity)
December 2009 – The haircuts applied to the high quality fi xed income securities were relaxed based on an analysis of the price behavior during the fi nancial crisis
Past treatment:
Securities (maturity ≤1Y): fi xed coeffi cient, 90 percent
Securities (maturity >1Y): fi xed coeffi cient, 70 percent
New treatment:
Securities (maturity ≤ 1Y): fi xed coeffi cient, 95 percent
Securities (maturity >1Y): fi xed coeffi cient, 90 percent
Loans granted to clients
Maturity band: all maturity bands (effective liquidity)
For the next amendment to the regulation, NBR is considering a change in treatment in order to align the haircuts methodology to the international approach (fi xed coeffi cients)
Current treatment****
Adjusted loans = (Loans with payment delays ≤ 30 days – impairment adj.) x K
Alternative treatment: replacing the haircut (K) calculated by each bank with a fi xed haircut calibrated at the system level.
**** Loans with payment delays ≤ 30 days include current loans
Loans with payment delays > 30 days
Total loansK =
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Conclusions
The fi nancial crisis illustrated the negative consequences of the ineffective liquidity risk management prevalent in the previous years and triggered an international reaction at the highest level
Currently, BCBS and the European Commission are working on a set of quantitative liquidity standards with the objective to strengthen the resilience of the fi nancial system to future shocks
The NBR improved the national liquidity regulation as an intermediary step in the process of international standardization.
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CLOSING REMARKS
Joseph Crowley*
I would like to thank you all for coming and particularly those who made very good presentations. They were very useful and interesting and we had good discussions and I think people enjoyed them. While this seminar’s topic was the same as last year’s, I think the discussions were different. There were a lot of new topics and we were certainly not going over the same material as the last year. There’s enough for us to continue for several more days, I suppose, and next year let’s hope that the crisis is over, but if we discuss the crisis again, there will very likely be new issues that will come up.
In Italy, hundreds of years ago they produced all kinds of great works of art, at least this crisis is producing some good papers. There is new focus on liquidity, on stress tests, on Basel III, so there are certainly new topics to be discussed. There is a lot of uncertainty going forward, there is a lot of uncertainty about the capital fl ows that Yulia and I discussed in our presentation. We don’t know what is going to happen to the price of oil and whether there will be a lot of savings in the oil-producing countries that will be seeking productive investments.
There was a headline today about how Obama is getting very tough with China on its exchange rate. We don’t know what is going to happen to China’s savings rate and the initial point that was raised in the discussions afterwards and that was not mentioned in our presentation is what is going to happen to the sources that were absorbing the savings all along. The US may not be absorbing the savings from China and wealth-producing nations the way it was before. So, who knows whether there are reasons why there may be less capital available or more capital available? Now, whether or not there is more capital available, what is going to happen to world output and therefore what is going to happen to productive investments? Maybe there will be capital available, but maybe there won’t be good investments if there aren’t good export markets. So, that’s another source of uncertainty.
* Senior economist, International Monetary Fund
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I think there are two things to do in response to this. One is implementing better regulation, paying much more attention to prudential ratios and trying to build much stronger and sounder fi nancial systems, so that, whatever happens, the building will be stronger when the strong winds come and, also, it would be best to try to be ready to adapt. Secondly, we don’t know what is going to happen, so the more fl exible you can be, the better off you are. Those countries that are not part of the Eurozone might, as far as possible, look for more exchange rate fl exibility. Everyone seems to be doing a better job of monitoring, trying to forecast what is going to happen, so as to be able to react more quickly, and all that is good. I hope you all enjoyed our presentations (ours from the IMF) and all the other presentations.
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CLOSING REMARKS
Ion Drăgulin*
I would like to stress the general approach to our seminar this year in the sense that we tried to combine a kind of overview of the region with the necessary links to the international framework, particularly in the context of the crisis, with the specifi cs of individual countries, which tended to reveal that basic things are similar. Some elements are different among countries and, in some cases, the details generated a lot of comments and need further exploration. However, the general understanding is that developments in the region are homogenous and the perspectives for parent banks and their subsidiaries are complementary. Therefore, participants could understand the situation better if considering, for example, the case of Austria, one of the major countries in terms of investment in banking industry in the region, and our own views, I mean countries with subsidiaries, which should be based on the region’s realities and fi t into the global understanding of developments. So, while I admit that we should have started with those global views which have offered a chance to position yourself in the discussion and better understand your own country’s problems, in the end we have succeeded to mix them and reach the needed understanding of the phenomena.
As Joseph has mentioned, several issues have tended to raise to the surface this year and, as compared with the last year’s discussions, things are clearer now and I feel that we have the confi rmation of the fact that the crisis could be overcome primarily if your own country pursues sound macroeconomic policies. And this is a precondition which has been forgotten by a number of countries including mine, and now we are paying the price which is signifi cant, as we all know. Even if the situation is similar in terms of complications with the current account or the fi scal policy, this is not an excuse, I think. If we only look at Romania’s real context today, with the limited capacity of the authorities to deal with the challenges, we should draw the conclusion that we should have avoided weak policies in particular, because crises or disturbances at the global level always come up.
* Director, Financial Stability Department, National Bank of Romania
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Therefore, I think that you and Mr. Mark Allen have both underlined these matters here. I would also stress, apart from the importance of the key speakers’ presentations which spurred the discussions, the interest of the colleagues from the participating countries, the quality of their presentations, and the complementarity of their interventions. That suggests that all the countries are highly preoccupied by fi nancial matters. Moreover, the language tended to be homogenous among the colleagues and the level of discussions high around the table.
I therefore thank you all and hope that we will draw lessons and knowledge from this seminar which will hopefully be maintained on the agenda of our management.
