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Mar 01, 2013

Struggling West gives a chance to banks from the East

Kyiv Post

The banking sector is once again in the spotlight, squeezed by a wobbly economy and saddled with toxic debt.

As deleveraging continues, many Western banks have already pulled out or cut down operations – their share of Ukraine’s banking sector sunk from 34 percent in 2009 to 20 percent today.

But others, particularly emerging market competitors, are less concerned, seeing this as their time to shine and their chance to replace their more mature competitors.

Most recently, Ukraine’s financial system has joined the list of International Monetary Fund concerns, with ongoing problems over non-performing loans, the lender’s country director Max Alier said at the Dragon Capital Investor Conference in Kyiv on Feb. 27.

Problems with transparency, liquidity and a big bundle of bad debt have led Ukraine’s banking sector to act as a catalyst during previous crises.

Indeed, the sector is still delevaraging from the latest crisis: the loan-to-deposit ratio fell from 2.3 in October 2009 to 1.53 in October last year, according to a recent Morgan Stanley report.

While the reduction is considerable, it still puts Ukraine at the highest ratio in the region. Likewise, most banks have significantly improved their books, but the country still has one of the highest levels of non-performing loans.

Official figures put these at slightly below 9 percent of assets, which is already high, but independent reports put the figure in excess of 30 percent.

This has led many Western institutions to reduce operations or even pull out of Ukraine, amidst considerable write-downs.

Problems on the home front have curtailed their ability to refinance Central and East European subsidiaries.

In its December 2012 quarterly review the Bank of International Settlements found that Euro area banks were responsible for 70 percent of the contraction in cross-border bank lending.

“The euro area crisis affected cross-border bank lending to emerging Europe particularly negatively,” the report read.

Nonetheless, Ukraine’s banks posted a profit in 2012 – a first in three years.

This was mainly driven by a reduced loan-loss provision, which fell from 4 to 3 percent, boosting profits enough to overcome a 5 percent fall in operating income.

Moreover, the retreat of Western banks has been partially compensated by an expansion of Russian ones, whose share of the market grew from 7.5 percent at the end of 2008 to 12 percent by the end of 2011.

Particularly active are state-owned Vnesheconombank, which bought Prominvestbank in 2009 and has since considerably cleaned up its books, and state-owned Sberbank, whose retail expansion is especially visible, climbed from 17th position to 11th in terms of assets in 2012.

Part of the reason for the shift are strategic mistakes on behalf of Western banks, argues Adnan Anacali, head of Turkish-owned Creditwest.

During the period of fast expansion after the Orange Revolution in 2005, a short-term expansion strategy led many to focus on retail and mortgage lending, often in foreign currency, and with bonuses for credit growth irrespective of quality.

After a 40 percent currency devaluation in 2009, the weaknesses of this approach became clear with problematic loans ballooning to 56 percent by June 2010, according to a Raiffeisen Bank report.

“Their big mistakes were starting lending to physical persons without understanding the court system and the regulations,” Anacali summed up their due diligence approach.

Creditwest, he argues, has followed an opposite course of “making sure to serve five customers properly instead of rushing through ten.”

The results are certainly encouraging: last year Creditwest ranked 4th in Ukraine by return on assets, and despite a relatively small book of Hr 345 million ($42 million) and with non-performing loans at around 1 percent.

Still, a high deficit and shrinking reserves have many worried. In the latest plan to wean Ukraine off its dollar-dependency, Party of Regions lawmaker Evgeniy Sigal registered a bill that would ban deposits in foreign currency, which account for close to half of Ukrainians’ holdings.

A second registered law, which would tax deposit-generated income to 25 percent, would help on the revenue side.

But Anacali says the fears over Ukraine’s fiscal position are exaggerated For one, the reserves – currently below the safety level of covering three months of imports – could last years when one considers just the net exports.

Secondly, the current government has built an unprecendented revenue collecting mechanism, which can cash in on an economy in which consumer spending is strong.

For the first time, Anacali says, the government is forcing companies to pay taxes. Still, he admits there is a lot more that can be done, particularly when it comes to taxing the country’s rich – taxes on foreign-made luxury cars, cigarettes and property.

“The country from the monetary side is rich, but the government is poor in terms of collecting the taxes from the rich people,” Anacali said.

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