Deleveraging is still very much impacting credit throughout the region which is proving especially vulnerable as most of the banks are foreign owned and retrenching to home markets, complain bankers and economists. Erik Berglof, chief economist at the EBRD, notes that it continues to be a major worry although it has been taking place at a slower pace than last year.
Marek Belka, governor for Poland, took a side-swipe at banks headquartered in developed markets that have been reducing credit. “It’s not clear that there’s too much debt in Central Europe. The business of banks here has been very profitable and successful so there’s no obvious reason why deleveraging should be focused here,” he said. Belka said debt as the key ingredient in economic growth models going forward is now a defunct model: “The previous model of debt-driven growth is a matter of the past. That is, in my opinion, is the most challenging task we are facing.”
Thomas Maier, managing director of infrastructure at the EBRD, added: “We are in an almost perfect storm where you have a banking sector that has to deleverage”.
Sviatoslav Didenko, head of international business at Kreditprombank in Kiev, said that while banks need to bring assets into equilibrium, deleveraging is more dangerous in countries where the banking models are particularly reliant on foreign funding. A home bias has already materialized in some countries, he noted. Parent bank repairs, however much needed, should not hurt the economies of the host countries, he said. More and more foreign banks are pulling out of Ukraine and confidence in the country is falling all the time, he notes.
“If problems arising in the relationship ‘home-host’ countries are not solved in a cooperative spirit, they will pose a serious risk to financial integration in the EU,” Belka added. Host countries may pursue policies “that are not in line with the principles of the “Single Market’,” he warned. He pointed to the Vienna 2.0 process as a cooperative solution.
Belka added that the inter-connectedness of financial markets means developing cross-border supervision is key to solving the financial crisis and more needs to be done. “Attempts to introduce a cross-border dimension into the supervisory system go in the right direction, but are of a partial nature and as such cannot probably function smoothly,” he noted. He cautioned that some of the Basel 3 proposals could disproportionately impact the expansion of credit in emerging markets.
As banks worry about deleveraging, a possible Greek exit from the Eurozone could hit banks especially hard in South-east Europe where Greek ownership accounts for a high percentage of assets. Romanian, Bulgarian and Serbian authorities are concerned and communicating with Greek authorities regularly, said Erik Berglof chief economist at the EBRD. The IMF might need to support these countries if there were additional problems, he noted.
As economists grope for a model for the Eurozone and Central Europe, Belka warned about turning to Latvia, lauded for its successful austerity programme, as a blueprint. The country saw GDP shrink by 21% between 2008-11 and unemployment leap nearly threefold accompanied by political instability, noted Andris Vilks, minister of finance. Last year the country recorded 5.5% GDP growth and a further 6.8% in the first quarter, the fastest growth in the European Union.
Pre-crisis growth was unsustainable and Latvia had to address a host of weak points, cutting the deficit, tackling a loss of competitiveness and productivity, and cutting the budget for education and health while maintaining service standards, said Vilks. It was a very painful process, he noted, but insisted: “if you have ownership of the process, the population might support you,” he said. “We responded better than anyone expected,” he concluded.
Belka agreed that Latvia’s austerity programme was highly successful. When a country is in the direst of trouble, it takes determination of the people backed by ‘collective memory,’ he said. But he cautioned that the Latvian experience has little application to other countries with different histories and cultures. “We have committed a mistake in Europe thinking that other countries are like Latvia; they are not,” he said.