The document discusses recent developments in the European financial system. It notes that government bond yields have declined due to accommodative monetary policy. However, interest rates on loans to corporations still vary substantially between countries. While the European Central Bank has implemented new supervisory mechanisms, banks continue struggling with bad loans and weak profitability. The document also examines the Estonian banking sector, which has strong capitalization and profitability compared to other countries. It notes early promising signs of growth in alternative funding sources for Estonian businesses like private equity funds, but the capital markets remain underdeveloped.

1. FinanceEstonia Forum 2014
Madis Müller
19 November 2014

2. 2
The decline in government bond yields driven
by the accommodative monetary policy
40%
35%
30%
25%
20%
15%
10%
5%
0%
Interest rates on ten-year government bonds
2010 2011 2012 2013 2014
Portugal
Ireland
Italy
Greece
Spain
Germany

3. Differences in the cost of borrowing for
corporates remain substantial
3
8
7
6
5
4
3
2
1
0
Interest rates on long-term bank loans to the non-financial
corporate sector
2008Jan
2008Apr
2008Jul
2008Oct
2009Jan
2009Apr
2009Jul
2009Oct
2010Jan
2010Apr
2010Jul
2010Oct
2011Jan
2011Apr
2011Jul
2011Oct
2012Jan
2012Apr
2012Jul
2012Oct
2013Jan
2013Apr
2013Jul
2013Oct
2014Jan
2014Apr
2014Jul
Cyprus
Germany
Spain
Greece (GR)
Ireland
Italy
Portugal

4. What has been driving the change in credit
standards?
4
15
10
5
0
-5
-10
Changes in credit standards applied to the approval of loans or credit lines to
enterprises; diffusion index
Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3
2012 2013 2014
Cost of funds Risk perceptions Competition Credit standards - actual
Source: ECB, Bank Lending Survey

5. Banks still struggling with bad loans, while the
weak economy adds pressure on profitability
5
25%
20%
15%
10%
5%
0%
-5%
Return on Equity of large EU banking groups
2006 2007 2008 2009 2010 2011 2012 2013 1H 2014
1-3 quartile median
Source: European Systemic Risk Board

6. European Single Supervisory Mechanism
(SSM) operational from 4 November 2014
• new system of banking supervision for Europe
• comprises of the ECB and national supervisory authorities of euro
area countries
• with an objective to ensure the safety and soundness of the
European banking system and increase financial integration and
stability
• one of the two pillars of the EU banking union, along with the
Single Resolution Mechanism
„We think that with the SSM, we have the best of both worlds: the expertise of
national supervisors and also some distance in the decision-making process that will
allow us to avoid national bias.“
D. Nouy, Chair of the Supervisory Board of the SSM, interview with Äripäev
(03/09/2014)
6

7. The Comprehensive Assessment
by the ECB supporting the confidence in
European banks
• The resilience of 130 of the
biggest banks in the euro area
as at the end of 2013 was
analysed
• 25 banks had a shortfall in
capitalisation of a total of 24,6
billion euros
– 15,2 billion euros of this
already built up this year
• Estonian banks (Swedbank,
SEB Bank and DNB Bank)
passed the assessment
successfully
Reduction in CET1 ratio by country of
participating bank - adverse scenario
SSM
median
7
16%
14%
12%
10%
8%
6%
4%
2%
0%
-2%
-4%
SI GR CY BE IE PT NL LU IT DE LT AT LV FI FR MT SK ES EE
Source: ECB

8. Efforts to reinvigorate non-bank
lending in Europe
• Securitisation:
– the initiatives by:
• the Association of Financial Markets in Europe/European Securitisation
Forum (AFME/ESF)
• the European Commission
• the Bank of England’s and the ECB’s pro-securitisation report
• EU Commission’s initiative on the Capital Markets Union
– a proposal with details yet to be developed
• The asset-backed securities purchase program and the covered bond
purchase program by the ECB
– potential positive spillover effects on all types of assets (incl. corporate bonds)
– the total of 400 billion EUR of ABS and 600 billion EUR of covered bonds
qualify as purchasable assets
– the programs will last at least two years
8

9. Efforts to reinvigorate non-bank
lending in Europe (cont.-d)
… while the growth in “shadow banking” has picked up already.
9

10. Estonian banking sector strong in terms of
capital and profitability
10
0% 10% 20% 30% 40%
MT
EE
LU
HR
IE
DK
LT
LV
BE
SK
BG
CZ
RO
FI
DE
HU
UK
PL
EU
euro area
GR
FR
CY
SI
NL
PT
AT
ES
SE
IT
Source: ECB
Banks' Tier1 ratio (2013)
Banks' return on assets (2013)
-3,4%
-8,0%
EE
PL
CZ
LT
SK
LV
MT
BG
SE
LU
FI
BE
ES
FR
NL
DK
EU
UK
RO
euro area
HR
DE
HU
GR
AT
PT
IT
IE
CY
SI
-1.0% -0.5% 0.0% 0.5% 1.0% 1.5% 2.0%

11. Increase in domestic savings in Estonia
has continued
11
3,500
3,000
2,500
2,000
1,500
1,000
500
0
2007 2008 2009 2010 2011 2012 2013 2014
EUR million
Assets of investment and pension
funds
third pillar pension funds
second pillar pension funds
real estate and hedge funds
interest funds
stock funds
12,000
10,000
8,000
6,000
4,000
2,000
0
2007 2008 2009 2010 2011 2012 2013 2014
EUR million
Bank deposits of corporates and
households
other deposits
time and saving deposits
overnight and demand deposits
Source: Eesti Pank

12. Do Estonian businesses have sufficient access
to funding?
12
40%
30%
20%
10%
0%
-10%
-20%
100%
90%
80%
70%
60%
50%
40%
30%
20%
10%
0%
Corporate sector debt liabilities´ structure
2005 2006 2007 2008 2009 2010 2011 2012 2013 2014
domestic financial sector domestic non-financial enterprises
other domestic sectors foreign debt
annual growth of debt (right scale)
Source: Eesti Pank

13. Bank lending – no visible problems
13
100%
90%
80%
70%
60%
50%
40%
30%
20%
10%
0%
Factors limiting production growth in industry
2005 2006 2007 2008 2009 2010 2011 2012 2013 2014
none demand labour equipment other financial
Source: European Commission

14. Capital markets – no visible progress
The last IPO on the stock exchange in 2010; bond market still dormant
14
250
200
150
100
50
0
6,000
5,000
4,000
3,000
2,000
1,000
0
2007 2008 2009 2010 2011 2012 2013
EUR million
EUR million
Market capitalisation and monthly
turnover of shares listed on the Tallinn
Stock Exchange
other stocks (left scale)
Tallinna Kaubamaja (left scale)
Tallinna Vesi (left scale)
Tallink Grupp (left scale)
Olympic Entertainment (left scale)
Eesti Telekom (left scale)
250
200
150
100
50
0
1200
1000
800
600
400
200
0
2007 2008 2009 2010 2011 2012 2013 2014
EUR million
EUR million
Total volume of bonds issued and
new bonds issued quarterly
total volume of bonds issued (left scale)
issued new bonds (right scale)

15. But – early promising signs!
• The Baltic Innovation Fund (BIF):
– EUR 200 million invested in Baltic private equity and venture capital
funds over 4 years
• Review of regulation on investment funds
– draft legislation proposed by the Ministry of Finance
• easier to start different types investment funds
• review of investment constraints on pension funds, allowing for more
investment in local assets
15

16. • Do we need an active Estonian capital market or easy access to funding
for Estonian companies?
– room for more regional cooperation?
• Do we know where is the demand for alternative sources of funding for
businesses most pressing?
– access to equity and mezzanine probably more constrained than
straight debt?
• Do we have local savings to meet that demand?
– seems to be the case…
• How to make the demand and supply meet?
– necessary to educate both sides?
• Role of the government
– focus on the regulatory framework rather than outright funds
16
Questions we still need to discuss: