ICAP Credit Risk ConferenceCredit Risk in Romania – The Banking PerspectiveGeorge GeorgakopoulosExecutive Vice President, ...
Some Questions for Today1. Have the banks played a role in the crisis in Romania?What have the banks done wrong?2. Will th...
1. How Did We Get in the Crisis in Romania – What Did the Banks Do Wrong?    What is really behind the boom & subsequent c...
Capital Inflows  A large current account deficit in the run-up to the crisis was financed by FDI and inflows to the financ...
Factors Driving BorrowingEver higher inflows until end 2008 boosted the economy, creating higher employment and subsequent...
How the Banks Accentuated the Boom Phase of the CycleBank lending to GDP increased rapidly by a factor of 2.4 times (as % ...
Banks Brought High Foreign Funding in Romania                Romania is one of the countries most dependent on foreign and...
Capital Outflows and Risk Perception for Romania Led to Depreciation of the Currency Pressures in the financial markets ge...
Depreciation of the Currency and Lower Expectations on Growth Led to Sharp                  Increase of NPLs              ...
A Balance of Payments Crisis                       Capital outflows           Ron depreciation         Deterioration of gr...
2. Will the Lending Interest Rate come down? Will Lending Expansion Restart?     Lending interest rates in RON in the last...
Lending Rates Are Currently at Historic Levels           Lending interest rates in RON in the last one year are the lowest...
The Poor Profitability of the Banking Sector in Romania is an Inhibitor to Further Fall           of Lending Rates        ...
The Key Vulnerability of the Banking System in Romania is Credit Quality                         Currently, the growth rat...
3. What are the Risks in the Banking System?    Banking system has shown resilience. It is well capitalized with adequate ...
Resilience of the Banking System   The Banking System remained well capitalized throughout the crisis while the loan/depos...
Maturity Mismatch of Banks’ Assets & Liabilities                        Lending is predominantly done over long maturities...
4. Can Romania be in Control of its Economic Destiny?  Romania is following a regional pattern in risk perception  And it ...
CDSCredit costs (as measured by CDS) increased for all countries in the CEE region starting from 2008;Romania was affected...
Economic Outlook and Structural Challenges: Labor Market EmploymentThere are large discrepancies in the structure of emplo...
Macro ForecastsMACRO INDICATORS                                          2008             2009                2010   2011 ...
Key Macro Forecasts   The exchange rate may stabilize in the 4.3-4.4 interval as international markets remain   apprehensi...
Economic Outlook and Structural Challenges   The simultaneous deleveraging of both consumers and the government has result...
Fiscal StabilityBefore 2008, fiscal imbalances were concealed by rapid GDP expansion. Budget deficit widened to9% of GDP i...
To Sum Up     The economic cycle of the last 7-8 years in Romania is defined by capital inflowsand outflows and the view o...
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G. Georgakopoulos Credit Risk In Romania Icap Presentation 24 04 2012 Final

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Presentation at 4th Annual Risk Management Conference in Romania organized by ICAP. by George Georgakopoulos

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G. Georgakopoulos Credit Risk In Romania Icap Presentation 24 04 2012 Final

  1. 1. ICAP Credit Risk ConferenceCredit Risk in Romania – The Banking PerspectiveGeorge GeorgakopoulosExecutive Vice President, Bancpost April 24th 2012 1
  2. 2. Some Questions for Today1. Have the banks played a role in the crisis in Romania?What have the banks done wrong?2. Will the lending rates go down?3. What are the risks for the banking system in Romania?4. Can Romania be in control of its own economic destiny? 2
  3. 3. 1. How Did We Get in the Crisis in Romania – What Did the Banks Do Wrong? What is really behind the boom & subsequent contraction in the Romanian economy in the last 6 – 7 years is the foreign capital inflows for the boom, and outflows for the contraction. The bank-provided-finance has played a role in accentuating the cycle:firstly, foreign banks brought in significant capital through funding tosubsidiaries; and, secondly, they kept lending to customers, who over time gotmore indebted, in foreign currency, when sometimes the borrowers were nothedged. The pattern followed in Romania regarding the impact of capital inflows andthe role of bank-finance is similar across the CEE region. The role of the banks in Romania though cannot be compared with the US:banks here have only done prime lending (against proof of income andaffordability calculations). 3
  4. 4. Capital Inflows A large current account deficit in the run-up to the crisis was financed by FDI and inflows to the financial sector Capital Inflows to Romani Sept 2008 25 25 22 22 20 20 17 17 15 15 12 12 10 10 7 7 5 5 2 2 -1 -1 -3 -3 -6 -6 -8 -8 -11 -11 -13 -13 -16 -16 -18 -18 -21 -21 -23 -23 Dec-06 Jun-07 Dec-07 Jun-08 Dec-08 Jun-09 Dec-09 Jun-10 Dec-10 Jun-11 Dec-11 IMF loans Potfolio investment Foreign direct investment Financial derivatives Financial loans and cash Current Account Deficit Euro Billion Data Source: NBR 4
  5. 5. Factors Driving BorrowingEver higher inflows until end 2008 boosted the economy, creating higher employment and subsequentlyhigh optimism at households. Employment Outlook Sept 2008 90 14% 85 12% 80 10% 75 70 8% 65 6% In the period from 2003 to 2008, 60 consumers’ income and 4% 55 employment expectations rose 50 Mar-02 Dec-02 Sep-03 Jun-04 Mar-05 Dec-05 Sep-06 Jun-07 Mar-08 Dec-08 Sep-09 Jun-10 Mar-11 Dec-11 2% rapidly Unemployment Expectations Unemployment Rate (rhs.) This benign outlook encouraged the Balance of positive answers, Percentage points expansion of lending Data Source: European Commission, ANOFM Both the financial and employment Financial Outlook 500 Sept 2008 74 outlook deteriorated sharply from 450 2008 73 400 350 72 300 71 250 70 200 150 69 Sep-03 Jul-04 May-05 Mar-06 Jan-07 Nov-07 Sep-08 Jul-09 May-10 Mar-11 Jan-12 Statement on financial situation of household (rhs) Euro Denominated Net Real Wage (lhs) 5 Euros, Balance of positive answers Data Source: INSSE, NBR, European Commission
  6. 6. How the Banks Accentuated the Boom Phase of the CycleBank lending to GDP increased rapidly by a factor of 2.4 times (as % of the GDP) between Jan 2006 – Dec2008. Consumer Lending (incl. mortgages) increased 5.4 times. Bank lending to GDP 60% 3 years 50% x2.4 540% 40% 30% 190% 20% 460% 10% 150% 0% Dec-00 Jun-01 Dec-01 Jun-02 Dec-02 Jun-03 Dec-03 Jun-04 Dec-04 Jun-05 Dec-05 Jun-06 Dec-06 Jun-07 Dec-07 Jun-08 Dec-08 Jun-09 Dec-09 Jun-10 Dec-10 Jun-11 Dec-11 Banking and insurance Agriculture Public adm inistration Industry Construction Services Consum ers Percentage points Data Source: NBR, INSSE 6
  7. 7. Banks Brought High Foreign Funding in Romania Romania is one of the countries most dependent on foreign and wholesale funding Foreign funding/total liabilities Customer deposits/liabilities 45 90 40 80 35 70 30 60 25 50 20 40 15 30 10 20 5 10- - Q3-2011 Q3-2011 Q3-2011 Q3-2011 Q3-2011 Q3-2011 Q3-2011 Q3-2011 2007 2008 2009 2010 2008 2009 2010 2007 2008 2009 2010 2007 2008 2009 2010 2007 2008 2009 2010 2007 2008 2009 2010 2009 2010 2008 2009 2010 Q3-2011 Q3-2011 Q3-2011 Q3-2011 Q3-2011 Q3-2011 Q3-2011 Q3-2011 2007 2008 2009 2010 2008 2009 2010 2007 2008 2009 2010 2007 2008 2009 2010 2007 2008 2009 2010 2007 2008 2009 2010 2009 2010 2008 2009 2010 Bulgaria Croatia Czech Hungary Poland Rom ania Slovakia Slovenia Bulgaria Croatia Cze ch Hungary Poland Rom ania Slovak ia Slovenia Republic Re public Percentage points Data Source: Corresponding Central Banks 7
  8. 8. Capital Outflows and Risk Perception for Romania Led to Depreciation of the Currency Pressures in the financial markets generated a spike in both the EURRON and Romanias CDS. EURRON, Romania CDS Sept 2008 4.6 700 4.4 600 500 4.2 400 4 300 3.8 200 3.6 100 3.4 0 3.2 -100 3 -200 Dec-05 Oct-06 Aug-07 Jun-08 Apr-09 Feb-10 Dec-10 Oct-11 EURRON (lhs.) Romania 5-yr CDS (rhs.) Ron/Euro, Basis Points Data Source: NBR, Thomson Reuters 8
  9. 9. Depreciation of the Currency and Lower Expectations on Growth Led to Sharp Increase of NPLs Volume of overdue loans increased very quickly from 2008, but the growth rate is receding. Both the credit risk ratio and the NPL ratio deteriorated rapidly once overdue loans started to accumulate. Asset quality deterioration in the banking system: Volume of Overdue Sept 2008 Sept 2008 3.5 500% 24B illions R ON 450% 21 3.0 400% 18 2.5 350% 15 300% 2.0 250% 12 1.5 200% 9 1.0 150% 6 100% 0.5 3 50% 0 0.0 0% Jan-07 Oct-07 Jul-08 Apr-09 Jan-10 Oct-10 Jul-11 Dec-05 Sep-06 Jun-07 Mar-08 Dec-08 Sep-09 Jun-10 Mar-11 Dec-11 EUR Overdue Loans RON Overdue Loans Credit Risk Ratio NPL Ratio* Ron Overdue Loans (y-o-y growth rate) Euro Overdue Loans (y-o-y growth rate) Percentage points percentage points Data Source: NBR, Bancpost Estimates Data Source: NBR * Backwards from November 2009, the NPL ratio is re-constructed as an interpolation of the Credit Risk Ratio. Credit Risk Ratio is defined as gross exposure to non-banking loans and interest classified as “doubtful” and “loss” to total non-banking loans and interest, excluding off-balance sheet elements 9
  10. 10. A Balance of Payments Crisis Capital outflows Ron depreciation Deterioration of growth outlook Higher debt burden for FCY loans Higher credit costs Loan Defaults 10
  11. 11. 2. Will the Lending Interest Rate come down? Will Lending Expansion Restart? Lending interest rates in RON in the last 1 year are at lowest level since 2007 In the short term, significant further fall in unlikely, due to competition for deposits, a loss-making banking sector and persistently high Non- Performing-Loans. Lending expansion has not restarted, because households and businesses are not optimistic about the future; this supports the point that availability of bank finance is not creating a boom cycle – this is driven by the confidence of consumers and businesses. 11
  12. 12. Lending Rates Are Currently at Historic Levels Lending interest rates in RON in the last one year are the lowest since Jan ’07. For EUR, current rates in the last 3 months are lowest since Jan ’07, too. Transmission of Monetary Policy to Consumer Interest Rates (RON) Euro Interest Rates High competition for20 New Deposits New Loans consumers deposits makes18 Jan. 2007 3.17 7.00 deposit interest rates sticky to downward adjustments of16 Jan. 2008 3.88 7.50 monetary policy14 Jan. 2009 6.39 6.9912 Jan. 2010 5.70 9.13 Lending interest rates are10 Jan. 2011 5.45 6.68 further constrained by high8 Nov. 2011 2.93 6.03 NPL ratios6 Dec. 2011 2.91 5.75 As a result, the transmission4 Jan. 2012 3.26 5.64 of monetary policy suffersJan-07 Sep-07 May-08 Jan-09 Sep-09 May-10 Jan-11 Sep-11 Feb. 2012 3.09 5.72 from an asymmetric lag New Deposits Interest Rate New Lending Interest Rate NBR Rate Percentage points Data Source: NBR 12
  13. 13. The Poor Profitability of the Banking Sector in Romania is an Inhibitor to Further Fall of Lending Rates Profitability of Romanian banks has deteriorated very rapidly from 2008: both ROE and ROA turned negative since 2010 Return on equity Return on assets 30 3 25 2 20 2 15 1 10 1 5- - (1) (5) Q3-2011 Q3-2011 Q3-2011 Q3-2011 Q3-2011 Q3-2011 Q3-2011 Q3-2011 2007 2008 2009 2010 2008 2009 2010 2007 2008 2009 2010 2007 2008 2009 2010 2007 2008 2009 2010 2007 2008 2009 2010 2009 2010 2008 2009 2010 Q 3-2011 Q 3-2011 Q 3-2011 Q 3-2011 Q 3-2011 Q 3-2011 Q 3-2011 Q 3-2011 2007 2008 2009 2010 2008 2009 2010 2007 2008 2009 2010 2007 2008 2009 2010 2007 2008 2009 2010 2007 2008 2009 2010 2009 2010 2008 2009 2010 Bulgaria Croatia Czech Hungary Poland Rom ania Slovakia Slovenia Republic Bulgaria Croatia Czech Hungary Poland Rom ania Slovakia Slovenia Republic Percentage points Data Source: Corresponding Central Banks, IMF 13
  14. 14. The Key Vulnerability of the Banking System in Romania is Credit Quality Currently, the growth rate of provisions is slowing; the number of Overdue Loans has started to decline in 2011 Banking System Provisions Number of overdue loans 35 200% 1.2B illio n s R O N Millio n s 180% 30 1.0 160% 25 140% 0.8 120% 20 100% 0.6 15 80% 0.4 10 60% 40% 5 0.2 20% 0 0% 0.0 Jan-08 Oct-08 Jul-09 Apr-10 Jan-11 Oct-11 Dec-04 Sep-05 Jun-06 Mar-07 Dec-07 Sep-08 Jun-09 Mar-10 Dec-10 Sep-11 Bank Provisions Bank Provisions (y-o-y growth rate) Number of consumers with loans overdue for ove 30 days Numver of overdue loans Number of overdue loans Percentage points Data Source: NBR Data Source: NBR 14
  15. 15. 3. What are the Risks in the Banking System? Banking system has shown resilience. It is well capitalized with adequate liquidity Major banks kept capital in Romania – as a result of Central Bankrequirement and their commitment to the country But Risks Remain • Credit risk is key vulnerability • FX portion of loans @ c. 60% is high • There is mismatch between lending and deposits maturities • There is risk of contagion from Eurozone • Risk of bank capital flight – rather limited, since the significant deleverage needed to make an impact on the CAD ratios of parent banks is substantial and can only damage the profitability of the local franchises 15
  16. 16. Resilience of the Banking System The Banking System remained well capitalized throughout the crisis while the loan/deposits remained above 110%. Banking Sector Indicators: In spite of the financial strains, no major banks defaulted and the aggregate system remained liquid130 16125 15 Capital ratios remained above 12% throughout the turmoil120 14 Loan to deposits ratios also remained115 13 relatively conservative110 12 High MRRs for RON and EURO also105 11 helped limit consumer lending in the100 10 boom period Dec-07 Jun-08 Dec-08 Jun-09 Dec-09 Jun-10 Dec-10 Jun-11 Dec-11 Sep-08 Sep-09 Sep-10 Sep-11 Mar-08 Mar-09 Mar-10 Mar-11 Systemic risks are to be addressed via the creation of bridge banks Loans/Deposits Solvency Indicator >8% (rhs.) Percentage points Data Source: NBR 16
  17. 17. Maturity Mismatch of Banks’ Assets & Liabilities Lending is predominantly done over long maturities. Deposit maturity is overwhelmingly biased towards the short term. Lending in Romania Billions 150 135 120 105 90 75 60 Lending in Romania is 45 predominantly made over long 30 15 periods (in excess of 5 years) 0 Jan-03 Oct-03 Jul-04 Apr-05 Jan-06 Oct-06 Jul-07 Apr-08 Jan-09 Oct-09 Jul-10 Apr-11 Jan-12 Deposits are overwhelmingly over Short term lending (up to 12 months) Medium term lending (1 to 5 years) short maturities (up to 1 year) Long term lending (over 5 years) This maturity mismatch increases Deposit maturity lending costs and makes RON 140 illions lending on extended maturities 120 difficultB 100 80 60 40 20 0 Jan-07 Sep-07 May-08 Jan-09 Se p-09 May-10 Jan-11 Sep-11 Overnight Short tem (<1 year) Long Term (>1 year) RON 17 Data Source: NBR
  18. 18. 4. Can Romania be in Control of its Economic Destiny? Romania is following a regional pattern in risk perception And it is dependent on what’s going on in the Eurozone Its employment and economy structure, with 30% of employment in agriculture,indicates need for structural reform Its growth will be influenced by demand and investment appetite in theEurozone However, • Fiscal stability and good performance vs. IMF program • Low inflation @ 2.4% in March The basis for growth • Manageable public debt • Potential to absorb EU structural funds 18
  19. 19. CDSCredit costs (as measured by CDS) increased for all countries in the CEE region starting from 2008;Romania was affected particularly hard CDS for Romania and the CEE region 800 700 600 500 400 300 200 100 0 Mar-05 Nov-05 Jul-06 Mar-07 Nov-07 Jul-08 Mar-09 Nov-09 Jul-10 Mar-11 Nov-11 Romania Hungary Poland Bulgaria Basis Points Data Source: Thomson Reuters 19
  20. 20. Economic Outlook and Structural Challenges: Labor Market EmploymentThere are large discrepancies in the structure of employment for Romania and the CEE region Employment in CEE: Large discrepancies in the structure of employment for Romania and CEE region100% 90% 23.9 30.9 30.3 27.0 30.9 28.0 29.8 Employment in Romania is 80% 36.3 one of the lowest in the 70% European Union 60% The issue is further 50% 40.1 compounded by a high 67.6 52.3 percentage of workers in the 40% 63.8 55.8 65.2 62.8 agricultural sector 60.4 30% Economic convergence 20% should result in higher 30.1 10% 19.6 employment in the Services 6.9 8.6 9.2 13.3 sector 0% 3.4 3.9 Czech Estonia Hungary Latvia Lithuania Poland Bulgaria Romania Republic Agriculture Services Industry Percentage points Data Source: Eurostat 20
  21. 21. Macro ForecastsMACRO INDICATORS 2008 2009 2010 2011 2012F 2013F 2014FLong-term credit rating BB+ BB+ BB+ BBB- BBB- BBB- BBBReal GDP growth % 7.3 -7.1 -1.9 2.5 1.0 2.0 2.5Nominal GDP level (local ccy bn) 557.1 490.0 522.3 578.5 604.7 635.3 669.5Nominal GDP level (€ bn) 139.8 115.9 121.9 128.2 141.0 153.1 167.4Inflation (% YoY) 6.3 4.7 8.1 3.1 3.5 3.0 2.8Unemployment (%) 4.4 7.8 8.0 7.3 6.8 6.5 6.3FX rate (ye) vs € 3.99 4.23 4.28 4.32 4.29 4.15 4.00Local Currency Interest Rate % (3M) 12.00 8.00 6.17 6.05 5.25 4.90 4.90Budget Deficit/ GDP (%) 4.8 7.4 6.6 4.4 2.5 2.0 1.8Public Debt/ GDP (%) 42.3 56.8 59.3 60.5 61.3 61.3 60.6 Data Source: Fitch Ratings, INSSE, NBR, Ministry of Finance, IMF, Bancpost Forecasts 21
  22. 22. Key Macro Forecasts The exchange rate may stabilize in the 4.3-4.4 interval as international markets remain apprehensive about emerging market currencies • Structural changes in capital inflows ( reliance on EMTN issues, recovery of FDI and higher absorption of EU funds) should result in an appreciation of the domestic currency over the long term Inflation has fallen to historic lows (2.4% in March) as a corollary of low food prices and is expected to end the year within the NBR’s target interval (at 3.5%) • The Central Bank has been adjusting the monetary policy in line with the benign inflation environment (key rate lowered by 75bp from November and liquidity injections in the interbank market); relaxation is likely to continue with rate cut in May 2012 • Risks over the short term stem mainly exogenous factors: oil prices in the international markets, hikes of administered goods’ prices and expansionary fiscal policy in an election year • Inflationary pressures may return over the medium term as the output gap is gradually eliminated and global demand for commodities recoils; Nevertheless, we don’t anticipate a new rate tightening cycle from the NBR Labor market is gradually improving (ILO unemployment fell to 7.3% in December), but conditions may deteriorate slightly over the short term 22
  23. 23. Economic Outlook and Structural Challenges The simultaneous deleveraging of both consumers and the government has resulted in a gradual recovery of growth.30.0% Agriculture Industry Construction 5.0% Retail Financial Services Other Services20.0% GDP (rhs.) 3.0% The recovery remains primarily driven10.0% by exports and industrial production 1.0% 0.0% For 2012, a deteriorating external -1.0% sector will be compounded by fiscal-10.0% adjustment and a strong negative -3.0%-20.0% base effect from agriculture -5.0% Growth is thus expected to-30.0% temporarily slow in 2012 to 0.6% - 1% -7.0%-40.0% GDP may receive a boost from-50.0% -9.0% improved absorption of European funds-60.0% -11.0% 2009Q1 2009Q2 2009Q3 2009Q4 2010Q1 2010Q2 2010Q3 2010Q4 2011Q1 2011Q2 2011Q3 2011Q4 2012Q1 2012Q2 2012Q3 2012Q4 Percentage points, y-o-y growth rate Data Source: INSSE, Bancpost Forecasts 23
  24. 24. Fiscal StabilityBefore 2008, fiscal imbalances were concealed by rapid GDP expansion. Budget deficit widened to9% of GDP in 2009. Fiscal Adjustment 2012/2011 (percent of GDP) Increase in Revenues 0.3 Excise rate hikes for cigarettes and In order to address fiscal imbalances and Excise taxes 0.1 diesel budget deficit and avoid a liquidity crisis, Increase in royalties for construction Romania applied for a €20 support Nontax revenues 0.1 materials program from the IMF (superseded by a Capital revenues 0.1 Sales of buildings precautionary agreement in 2011) Reduction in Progress under the program has been 2.1 Expenditures adequate, with Romania meeting all Personnel 0.5 Wage freeze and employment cuts quantitative and indicative targets Cut in district heating subsidy, Progress was made in limiting Subsidies 0.1 termination of coal subsidy and expenditures, raising budget income and substitution of EU funding for implementing structural reforms agricultural subsidises For 2012, Romania is committed to a Reduction in cofinancing of EU post- Cofinancing 0.6 accession projects cash deficit target of 1.9% (from 4.5% in 2011) Contingency Funds 0.2 Reduction in buffer Pensions 0.5 Pension freeze Social Assistance 0.1 New social assistance code Improvement in the 2.4 Fiscal BalancePercentage pointsData Source: Ministry of Finance, IMF 24
  25. 25. To Sum Up The economic cycle of the last 7-8 years in Romania is defined by capital inflowsand outflows and the view of foreign investors towards Romania.Banks have not created the boom & contraction cycle in Romania, have helped toaccentuate it, through capital inflows and FX lending. Lending rates are low by historical standards. They are unlikely to changemuch due to lack of profitability in the banking sector, competition for depositsand high credit costs. The banking sector is well capitalized, high credit risk being the keyvulnerability. There is a risk of bank capital flight and deleveraging, but rather lowin view of the commitment of the foreign banks and profitability risks thatdeleveraging would entail. Romania is heavily dependent on foreign capital & foreign demand for fastergrowth, and its economy follows the regional pattern. However, Romania has doneits homework, with sound monetary & fiscal policies and is ready to benefit fromany pick-up in the global economy. 25

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