Crisis centred on Central and Eastern Europe


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Crisis centred on Central and Eastern Europe

  • Crisis centred on Central and Eastern Europe

    • Significant structural / current account ‘imbalances’
      • Roughly: Russia / China export (dollar returns)
      • CEE / Southern Europe consumes
  • Mundell’s Impossible Trinity: impossible to have simultaneously i) an open economy, ii) fixed exchange rates, and iii) independent monetary policy

    • From China to the United Kingdom, few countries with free floats
      • Arguably only: Ukraine, U.K., Poland, Czech, Hungary, non-Euro Scandinavia, Turkey
    • Many countries with limited fiscal capacity, no ‘counter-cyclical’ policy feasible
    • Changes likely…
  • Waiting for / hoping for “Immaculate Recovery”



Russian government capital / liquidity support to banking sector has been massive – and successful

  • Russian government capital / liquidity support to banking sector has been massive – and successful

    • Real risk of banking sector “collapse” averted and avoided…
  • However, banking sector / real economy problems not yet resolved

    • NPLs and distressed assets stabilizing at high level
    • Extent of problems in “restructured” loans not clear, but likely high
    • Credit deterioration will continue to put pressure on bank balance sheets, as writedowns and loan loss provisions rise over the next few years


“Paradox of thrift” – real economy and bank solvency will not improve until growth resumes – which will require substantial additional capital – because of this many sectors are underserved

  • “Paradox of thrift” – real economy and bank solvency will not improve until growth resumes – which will require substantial additional capital – because of this many sectors are underserved

  • Regional banks: significant deposit-takers and intermediaries on local markets, many with minimum efficient scale

    • Experience of “local” deposit runs
  • Concentration of risks/assets in state-owned banks (incl bailed-out banks)



NPL / Distressed Assets

  • NPL / Distressed Assets

    • No doubt that distressed assets / NPLs will continue to grow
      • Peaking in 2010?
      • “Peak” NPLs: a measure of nominal risk, not losses
        • “Average temperature at the hospital” not a good indicator
      • True NPLs: uncertain repayment profiles (“restructuring”)
        • “Extend and pretend”
    • “Bad bank” solution
      • Recognise, resolve, rehabilitate >>> ‘good banks’ the goal
      • How likely without government/regulatory leadership?
  • IFC Approach

    • Approach will differ by country
    • No single ‘bad bank’, rather bad asset solutions
      • NPL resolution most attractive when economy/lending start to grow
      • BUT: this may be too late to maximise recoveries
    • Investments in ‘bad debt infrastructure’ – asset management co.
    • Investments in pools of assets / SPVs


Two Primary Models for NPL Management: usually called “Swedish” and “Chinese” … plus the “Zombie” solution

  • Two Primary Models for NPL Management: usually called “Swedish” and “Chinese” … plus the “Zombie” solution

    • Goal is similar, difference is distributive: who takes the losses?
  • “Swedish”: regulators require write-downs, investors contribute capital, bad assets spun off into “bad banks”

    • Ultimate goal is good banks – ‘bad banks’ are run down quickly
    • Government may be ‘capital of last resort’ – if investors unwilling/unable
    • May require losses/write downs for lenders
  • “Chinese” Solution

    • Government purchases bad assets at nominal, ‘bad bank’ assets sold at market price
    • Government is effectively re-capitalizing … may only work where banks are state-owned
    • N.B.: ‘Chinese’ not an accurate name – governments have been bailing out banks for centuries
  • Key Distinction: System-wide … or Bank-by-Bank?

    • May be driven by structure of banking sector, depth of crisis, extent of government involvement
  • “Zombie” Banks (The Japanese approach)?

    • Wait for banks to recover through earnings, no required write-down of assets
    • Problem: no incentive to become ‘good bank’, no/delayed economic recovery


In first phase of crisis, government response similar to those in other countries with strong fiscal position:

  • In first phase of crisis, government response similar to those in other countries with strong fiscal position:

    • Urgent and massive effort to avoid collapse of banking system
    • Massive liquidity support, government bail-outs / sanatsiya of failing banks
    • Government capital injections into ‘systemic’ banks
    • World-wide, government subsidies to banking sector not transparent
      • “Hidden recapitalization”
    • Centralized ‘bad asset’ solution unlikely
  • Second phase:

    • Extent of ‘second wave’ problems unclear
      • Historically, NPL peak is a trailing indicator 12-18 months after peak of crisis
    • External factors (commodity prices) – to date – positive effect on economy
    • Government now focussing on lending to “real sector”
    • Availability of / priority for Bank Capitalization programs currently lower
      • Capital needs still enormous, sources of capital undefined
    • Underlying belief / hope for “immaculate recovery” (непорочное экономическое восстановление)
      • Danger: NPLs decline in value over time








There needs to be a selection process of NPLs to compose a portfolio for disposal to make it attractive and valuable for the buyer: try matching the buyer’s needs and preferences.

  • There needs to be a selection process of NPLs to compose a portfolio for disposal to make it attractive and valuable for the buyer: try matching the buyer’s needs and preferences.

  • This portfolio of loans needs to have to the extent possible:

    • Diversification: e.g. industry, geography, type of borrower (corporate/SME/retail/mortgages), type of collateral, foreign/local currency denomination, etc.
    • Granularity: not too very large nor too very small exposures
    • Vintages: not too “old” loans
    • Security: loans with some good collateral (some buyers prefer real estate)
  • May need to group some more attractive assets (e.g. sub-performing loans) with NPLs in order to dispose them all.



Receive a satisfactory return on the assets (NPLs)---a function of the price paid.

  • Receive a satisfactory return on the assets (NPLs)---a function of the price paid.

  • Good servicing platform in place.

  • Good data and historical performance on collections and liquidation.

  • Diversified portfolio of loans---sectors, geography, granularity, types of collateral, currency denomination, types of assets.

  • Buyer looks for asset risk and to avoid other risks---past portfolio risk, reps & warranties, seller’s risk.

  • If the NPL portfolio produces some cash flow then it is easier to finance.



Inadequate data and information in loan files

  • Inadequate data and information in loan files

  • Banks want to transfer only “very bad” loans

  • Inadequate provisions---low NPL coverage ratio

  • Weak or mis-valued collateral

  • High expectations about loan recovery

  • High price expectations





Seasoned investment team

  • Seasoned investment team

    • Investment expertise and proven track record in equity investing in financial markets in IFC client countries, including sourcing, negotiating, structuring, monitoring, and exiting investments
  • IFC’s track record (since inception)

    • All industries: over 1,800 equity investments
      • Aggregate realized and unrealized real gross US dollar IRR of 23.1% and real value to real cost ratio of 1.73 times
    • Financial services industry: over 490 equity investments
      • Aggregate realized and unrealized real gross US dollar IRR of 27.9% and real value to real cost ratio of 1.97 times
  • IFC’s global expertise in the financial sector & local presence:

    • 100 field offices in 81 countries
    • Hands-on approach
    • Ability and capacity to “applying global standards locally”
    • Strategic guidance to portfolio banks include, for example:
      • Stabilizing operations
      • Improving risk management and NPL resolution
      • Re-initiating growth through MSME lending










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