Abkhazia – Central bank issues consolidated report on commercial banking sector in 2012: NPLs still very high but profits are recovering

Commemorative 50 apsar gold coin issued by the Bank of Abkhazia on 22 March 2013

and featuring the Dormition Cathedral of Lykhny

On 17 April the Bank of Abkhazia (Аҧсны Аҳәынҭқарра Амилаҭтә банк) published a 19-page report on the performance of Abkhazia’s banking sector in 2012.  The highlights are discussed below.  (All currency amounts are given in Russian rubles.  As of 31 Dec. 2012 one euro equaled 40.25 RUB.  The Bank of Russia reports that core inflation in RUB in Russia ran at 5.7% in 2012.)

GENERAL

In 2012 the number of commercial banks operating in Abkhazia decreased from 15 to 11.  Although the number had remained unchanged at 15 banks for more than three years, since 3Q 2008, in 2012 the central bank revoked the licenses of four commercial banks.

- On 4 April the central bank revoked the licenses of three banks, stating in each case that the bank’s management had failed to remedy a situation consisting of insufficient equity, non-compliance with required ratios, and untimely fulfillment of obligations to creditors:

1. Invest-Bank (Abkhazian: Акоммерциатә банк «Инвест-Банк» (ЗҲА); Russian: ООО КБ «Инвест-Банк»), which was headquartered in Sukhum.  The central bank’s quarterly report on the banking sector for 2Q 2011 had identified Invest-Bank as having 100% of its loan portfolio impaired, i.e., all of its loans classified as falling in quality categories II through V.*  The central bank’s quarterly report for 3Q 2011 indicated that due to non-performing loans, the average effective interest rate that the bank received on its loan portfolio in the first nine months of 2011 was 6.0%.  Invest-Bank at end-2011 had a 2.9% market share in Abkhazia in total assets.  (The largest bank, Sberbank of Abkhazia, had a 49.4% market share in total assets, followed by Gagra-Bank with 11.6% and Garant-Bank with 6.3%.)

2. Leon-Bank (Акоммерциатә банк «Леон-Банк» (ЗҲА); ООО КБ «Леон-Банк»), a bank headquartered in Novy Afon. The central bank’s quarterly report for 2Q 2011 had identified the bank as having more than 70% of its loan portfolio impaired, and stated that the bank’s liquidity ratios had fallen below the established minimums several times in 9M 2011.  The central bank’s quarterly report for 3Q 2011 indicated that due to non-performing loans, the average effective interest rate that Leon-Bank received on its loan portfolio in the first nine months of 2011 was just 0.6%.  Leon-Bank at end-2011 had a 1.6% market share in Abkhazia in total assets.

3. Bank-Prestige (Акоммерциатә банк «Банк-Престиж» (ЗҲА); ООО КБ «Банк-Престиж»), a bank headquartered in Gulrypsh. The central bank’s quarterly report for 2Q 2011 had identified the bank as having 100% of its loan portfolio impaired, and stated that the bank’s liquidity ratios had fallen below the established minimums several times in 9M 2011.  The central bank’s quarterly report for 3Q 2011 indicated that due to non-performing loans, the average effective interest rate that the bank received on its loan portfolio in the first nine months of 2011 was 5.1%.  Bank-Prestige at end-2011 had a 2.3% market share in Abkhazia in total assets.

- On 31 May the central bank revoked the license of one other credit organization, stating that its management had failed to maintain sufficient equity and failed to comply with mandatory standards:

4. Gudauta, formerly known as Agrarian-Bank (Гудауҭатәи акоммерциатә банк “Аграртә-Банк”; КБ «Аграрный-Банк» / РНКО «Гудаута»), headquartered in Gudauta. The central bank’s quarterly report for 2Q 2011 had identified the bank as having 100% of its loan portfolio impaired.  The central bank’s quarterly report for 3Q 2011 indicated that due to non-performing loans, the average effective interest rate that the bank received on its loan portfolio in the first nine months of 2011 was just 0.6%.  Agrarian-Bank at end-2011 had a 0.7% market share in Abkhazia in total assets.

Data: Number of commercial banks (количество действующих кредитных организаций) in operation at yearend:

2012: 11

2011: 15

2010: 15

2009: 15

2008: 15

2007: 14

2006: 15

2005: 14

2004: 14

*The Bank of Abkhazia in 2007 established five categories for loan performance that banks must use when allocating loss reserves.  The categories are based not on the number of days that a loan is in arrears but on an estimate, made using professional judgment, of the risk that the borrower will default on the loan.  The categories are as follows:

Category I:  Standard loans (стандартные ссуды) – no risk of default

Category II:  Non-standard loans (нестандартные ссуды) – 1-20% risk of default

Category III:  Doubtful loans (сомнительные ссуды) – 21-50% risk of default

Category IV:  Problem loans (проблемные ссуды) – 51-100% risk of default

Category V:  Uncollectible loans (безнадежные ссуды) – 100% risk of default

A bank may not proceed to write off a loan until the borrower has been in default on his obligations for at least one year.

Data: Number of scheduled and unscheduled bank inspections (инспекционной проверки, плановый и внеплановый) carried out by Bank of Abkhazia during the year:

2012:  n.a.

2011:  12

2010:  12

2009:  18

2008:  n.a.

ASSETS

Total assets: In 2012 total assets of commercial banks increased by 7.6% to RUB 7,271,578,000 (€ 180.7 mln).

Data: Total assets (валюта сводного баланса (брутто)) at yearend:

2012:  7,271,578,000

2011:  6,757,228,000

2010:  4,563,586,000

2009:  3,344,795,000

2008:  2,408,323,000

2007:  1,634,169,000

2006:     900,476,000

2005:     770,076,000

Total loans: In 2012 the total loan portfolio of commercial banks decreased by 1.0% to RUB 2,983,525,000 (€ 74.1 mln).  The ratio of total loans to total assets declined somewhat more significantly, from 44.6% at end-2011 to 41.0% at end-2012.

Data: Total loans (кредитные вложения) at yearend:

2012:  2,983,525,000 (41.0% of total assets)

2011:  3,014,474,000 (44.6% of total assets)

2010:  2,286,665,000 (50.1% of total assets)

2009:  1,798,046,000 (53.8% of total assets)

2008:  1,536,482,000 (63.8% of total assets)

2007:     995,147,000 (60.9% of total assets)

2006:     405,325,000 (45.0% of total assets)

2005:     325,102,000 (60.7% of total assets)

NPLs: In 2012 the total of non-performing loans declined 9.7% to RUB 1,281,743,000 (€ 31.8 mln).  The ratio of non-performing loans to all loans at end-2012 was 43.0%, slightly improved over the 47.1% recorded in the previous year.  The ratio of coverage for allowances for impaired loans also improved slightly in 2012, from 44.2% to 45.7%.

Data: Non-performing loans (impaired loans of categories II-V) (качество кредитных вложений (обесцененные ссуды II-V категорий)) at yearend:

2012:  1,281,743,000 (43.0% of total value of all loans)

2011:  1,419,160,000 (47.1% of total value of all loans)

2010:     652,337,000 (28.5% of total value of all loans)

2009:     480,878,000 (26.7% of total value of all loans)

2008:     304,108,000 (19.8% of total value of all loans)

2007:     161,412,600 (15.7% of total value of all loans)

2006:     n.a. (reporting of the data via Form 115-А only became obligatory on 1 June 2007)

Data: Allowances for impaired loans (резервы на возможные потери по ссудам) at yearend:

2012:  585,659,000 (45.7% of impaired loans)

2011:  627,118,000 (44.2% of impaired loans)

2010:  300,824,000 (46.1% of impaired loans)

2009:  118,347,000 (24.6% of impaired loans)

2008:    49,780,000 (16.4% of impaired loans)

2007:    14,785,000 (9.2% of impaired loans)

2006:    n.a. (allowances became obligatory only from 1 April 2007)

Illarion S. Argun (Илларион Шамахович Аргун), Chairman of the Bank of Abkhazia

LIABILITIES

Deposits by physical persons: Deposits by physical persons in 2012 declined 7.2% to RUB 475,055,000 (€ 11.8 mln).  The share of deposits denominated in currencies other than Russian rubles declined for the fourth straight year in 2012, falling from 16.9% to 12.4%.

Data: Deposits by physical persons (депозиты (вклады физических лиц)) at yearend:

2012:  475,055,000 (87.6% in RUB)

2011:  511,880,000 (83.1% in RUB)

2010:  485,779,000 (77.9% in RUB)

2009:  338,874,000 (76.0% in RUB)

2008:  241,646,000 (83.7% in RUB)

2007:  146,973,000 (84.7% in RUB)

2006:  106,130,000 (68.1% in RUB)

2005:  161,100,000 (51.7% in RUB)

Deposits by legal entities except financial institutions: Non-retail deposits, which had been extremely small but growing continuously since the war of August 2008, underwent extreme volatility in 2012.  The total of such deposits began January 2012 at RUB 43,180,000, collapsed to RUB 3,184,000 by 31 March, rose again to RUB 13,150,000 by 30 June, and returned to RUB 46,558,000 – approximately its original level – by 30 September, only to collapse again down to RUB 11,577,000 by 31 December.  But because total non-retail deposits rarely exceeded the equivalent of one million euros at any point during the year, the volatility might well be due to activity by one or more comparatively large firms or government agencies.

Data: Deposits by legal persons (excluding financial institutions) (депозиты юридических лиц (кроме кредитных организаций)) at yearend:

2012:  11,577,000

2011:  43,180,000

2010:    9,967,000

2009:    3,400,000

2008:    3,794,000

2007:    n.a.

2006:    n.a.

INCOME

Net income: In 2012 the net income of the commercial banking sector increased by 41.7% to RUB 2,261,200,000 (€ 56.2 mln).  Net income increased at 6 out of the 11 commercial banks, most notably at Sberbank of Abkhazia (+63.3%), Garant-Bank (+37.1%), Universal-Bank (+26.2%), and CIBIT-Bank (+12.9%).  But net income decreased at 5 out of 11 banks, especially at Amra-Bank (-57.9%), Sukhum-Bank (-20.3%), Ochamchira (-16.3%), and Black Sea Development Bank (-14.5%).

Data: Net income (общая сумма доходов) for year:

2012:  2,261,200,000

2011:  1,595,900,000

2010:  n.a.

2009:  n.a.

Past-due interest: At end-2012 the total amount of interest in arrears was RUB 412,800,000 (€ 10.3 mln), 4.7% lower than the level at end-2011.

Data: Past-due interest (просроченная задолженность по процентам / задолженность по просроченным процентам) at yearend:

2012:  412,800,000

2011:  433,200,000

2010:    97,300,000

2009:    50,600,000

2008:    29,400,000

2007:    n.a.

2006:    n.a.

Net profit: Following on enormous losses experienced by five banks in 2011, in 2012 profits in the sector recovered, with net profit for commercial banks reaching in 2012 the modest level of RUB 49,855,000 (€ 1.24 mln).

Data: Net profit (конечный финансовый результат) for the year, and the number of banks that showed a signicant profit or significant loss (количество рентабельных/нерентабельных кредитных организаций) for the year:

2012:     49,855,000  (Banks with profit: 7.  Banks with loss: 3.)

2011:  -224,682,000  (Banks with profit: 10.  Banks with loss: 5.)

2010:    -85,679,000  (Banks with profit: 9.  Banks with loss: 6.)

2009:     15,301,000  (Banks with profit: 12.  Banks with loss: 3.)

2008:     67,729,000  (Banks with profit: 12.  Banks with loss: 2.)

2007:     31,268,000  (Banks with profit: 11.  Banks with loss: n.a.)

2006:       9,664,000  (Banks with profit: 12.  Banks with loss: 3.)

2005:     10,888,000  (Banks with profit: 11.  Banks with loss. 1.)

CAPITAL/EQUITY

Shareholder capital: Total authorized share capital in the commercial banking system declined by 15.3% in 2012, primarily due to the revoking of the licenses of four credit institutions in the second quarter of the year.

Data: Total authorized capital (уставный капитал) at yearend:

2012:  454,759,000

2011:  536,854,000

2010:  315,589,000

2009:  288,589,000

2008:  278,589,000

2007:  189,332,000

2006:    57,677,000

2005:    28,856,000

Equity: In 2012 equity soared by 120.6% to RUB 1,181,593,000 (€ 29.4 mln) notwithstanding the closure and resolution of four banks during the year.

Data: Total shareholders’ equity (собственный капитал) at yearend:

2012:  1,181,593,000

2011:    557,192,000

2010:    350,768,000

2009:    391,192,000

2008:    390,348,000

2007:    218,232,000

2006:      71,547,000

2005:      44,812,000

Sources:

Аналитическая справка о результатах деятельности банковской системы за 2012 год (2013-04-17)

Банк Абхазии: Годовой отчет за 2011 год (публикуемая форма) (2012-07-23)

Банк Абхазии: Годовой отчет за 2010 год (2011-03-23)

Банк Абхазии: Годовой отчет за 2009 год (2010-03-22)

Аналитический обзор экономики и банковской системы Республики Абхазия за 2008 год (2009-04-02)

Аналитический обзор развития Экономики Республики Абхазия и банковской системы за 2007 год (2008-06-09)

Аналитический обзор развития Экономики Республики Абхазия и банковской системы за 2006 год (2007-07-13)

Основные показатели развития экономики и банковского сектора Республики Абхазия за 2005 год (2007-07-17)

Quarterly report on banking sector for 2Q 2011: Аналитическая справка о результатах деятельности банковской системы за первое полугодие 2011 года (2011-09-01)

Quarterly report on banking sector for 3Q 2011: Аналитическая справка о результатах деятельности банковской системы за 9 месяцев 2011 года (2011-11-23)

Licensing actions in 2012: Информационные письма

Definitions of risk categories for loans: Положение Банка Абхазии «О порядке формирования кредитными организациями резервов на возможные потери по ссудам» от 21.03.2007г. № 20-П (2007-03-21)

Directive instituting requirement for filing 115-А on NPLs: Указание № 48-У «О внесении дополнений в Положение Банка Абхазии №14 от 16.06.2006г. «О перечне, формах и порядке составления и представления форм отчетности кредитных организаций (их филиалов) в Национальный банк Республики Абхазия» (2007-03-27)

Core inflation in RUB in Russia in 2012: Основные экономические показатели в 2012 году (в % к соответствующему периоду предыдущего года): Базовая инфляция, в % к декабрю предыдущего года

Mark Pleas

Eastern Europe Banking & Deposits Consultant

[contact]

Croatia – Police arrest former CEO of Karlovačka Banka and 7 others for fraud

On 10 April police in Croatia arrested eight individuals, including the largest shareholder of the community bank Karlovačka Banka (Karlovačka banka d.d.), on charges of fraud.  The suspects were charged with the perpetration of a criminal conspiracy from May 2008 through August 2012, having deliberately acquired an ownership stake in the bank in order to siphon out bank funds for use in real-estate speculation, resulting in damages of HRK 37,565,000 kuna (€ 4.9 mln) to the bank itself and HRK 46,900,000 to another company.  The action, dubbed “Mama Mia” (“Mamma mia”) by the press, was carried out by the state prosecutor’s Office for the Suppression of Corruption and Organized Crime – Ured za suzbijanje korupcije i organiziranog kriminaliteta, or more simply “USKOK” – along with agents from the affiliated USKOK unit of the national police force.

The eight suspects arrested were as follows:

-    Marija Šola, a former trustee and current management advisor of the bank, and mother of three of the other suspects,

-    Sandi Šola, the bank’s largest shareholder (17.16% as of mid-2012) and former CEO, presently a member of the bank’s supervisory board (nadzorni odbor, i.e., board of directors) and president of the Croatian Handball Federation, who was arrested upon his return to Croatia by car from a handball match in Macedonia,

-    Petar Šola, managing director of the real-estate development firm “Opatovina projekt d.o.o.”

-    Tomislav Šola,

-    Luka Miličić, former CEO of the prominent engineering/construction firm “Dalekovod d.d.”,

-    Josip Kovač, former director of credit and guarantee operations at Karlovačka Banka,

-    Marijana Trpčić-Reškovac, a former officer of Karlovačka Banka, and

-    Drago Brekalo, business partner of Petar Šola in the company “Opatovina projekt d.o.o.”

Sandi Šola, born 23 Oct. 1973 in Zagreb, son of Ante Šola and Marija (Šarić) Šola

The next morning, 11 April, customers began queuing up at the counters of branches of Karlovačka Banka after a report appeared in the press stating that only deposits up to the insured limit of HRK 400,000 were safe, with larger deposits being at risk.  The management of the bank reassured journalists that all deposits at the bank were safe because there was no possibility of the bank going bankrupt, and a press release published the previous evening by the central bank – the Hrvatska narodna banka (HNB) – had stated that the case being investigated by the authorities would not have any impact on the stated book value of the bank or its system of corporate governance, so the lines at the counters did not turn into a full bank run.

Video from Dnevnik

Video from Al Jazeera Balkans 

On 11 April the central bank issued a second press release, explaining its overall role in bank supervision and inspection.  The document began by reassuring the public that the Croatian banking system is widely regarded as very safe because it boasts the highest average ratio of capital adequacy in Europe, and identified credit risks at Croatian banks are more than covered by loss provisions and by surplus capital above the regulatory minimum.  The press release went on to state that it is a bank’s management and supervisory board who bear sole responsibility for the truthfulness of a bank’s financial statements, which are then confirmed using prescribed procedures by the bank’s auditors, who in turn guarantee the validity of the bank’s statements and business practices to shareholders, the regulator, and the public.  The press release went on to point out that although the central bank examines a sample of banks with a frequency and scope that are determined by the central bank’s established priorities and its resources, nevertheless such examinations are not and cannot be frequent enough to eliminate all possibililty of fraud or deception at a bank.  The central bank added that since the previous year it had begun implementing measures to eliminate bad business practices at banks, including Karlovačka Banka, but that the content of the measures applied to individual banks constitutes a trade secret and cannot be made public.

The next day, 12 April, the press discovered and published documents indicating that several years earlier, on 30 September 2009, the central bank had in fact commenced an investigation of lending practices at Karlovačka Banka, and on 18 June 2010 had filed a motion with the Misdemeanor Court in Karlovac (Prekršajni sud u Karlovcu) to bring misdemeanor charges against Karlovačka Banka itself, its CEO at the time, Sandi Šola, and two officers of the bank, Marijana Trpčić-Reškovac and Siniša Žanetić.  In its motion the central bank accused Karlovačka Banka and the three officers of failing to indicate that certain loans that the bank granted were to firms actually related to officers of the bank, and of understating the risk attached to these and other loans.  One of the companies discussed at considerable length in the motion was in fact “Opatovina projekt d.o.o.”, and Petar Šola’s connection with that firm is mentioned.  The Misdemeanor Court in Karlovac issued a guilty verdict, which the defendants appealed, but in May 2012 the High Misdemeanor Court in Zagreb (Visoki prekršajni sud u Zagrebu) issued a final verdict, levying a fine of HRK 180,000 (€ 24,000) against the bank itself, HRK 90,000 against Sandi Šola, and HRK 60,000 against Marijana Trpčić-Reškovac, but the fourth defendant, bank officer Siniša Žanetić, was found innocent of most charges and only fined HRK 10,000 for inadequately verifying whether certain loans were being assigned to related parties.  It seems likely, therefore, that the USKOK section in the state prosecutor’s office took the central bank’s misdemeanor case as a starting point for its investigations, which in the end turned up evidence of a criminal conspiracy to commit bank fraud for the purpose of real-estate speculation.

On 12 April the management of Karlovačka Banka published the minutes of a meeting held on 8 April, two days before the arrests, at which the management of the bank had voted to convene on 23 May a general meeting of shareholders.  The shareholder meeting is due to consider, among other matters, a proposal to increase the bank’s share capital by HRK 20,000,000 (€ 2.6 mln) to compensate for last year’s loss of HRK 25,500,000, raising the total share capital from HRK 85,594,050 to HRK 105,594,050 (€ 13.9 mln).  This would be accomplished through the sale of 400,000 new shares of ordinary stock, with a nominal value of HRK 50 (€ 6.57) per share.

On 13 April it was revealed that the wives of two high-ranking Croatian intelligence officials, Milijan Brkic and Josip Jurcevic, would also be interrogated by USKOK, since the wives were both shareholders in the real-estate development firm “Opatovina projekt d.o.o.” that was run by two of the individuals arrested.  Although the firm had shareholder capital of just HRK 20,000, in 2008 it received loans totaling HRK 200,000,000 from Hypo Leasing, a subsidiary of the Austrian banking group Hypo Group Alpe Adria (HGAA).  Not long afterwards, on 30 October 2008 the two women sold their shares to Petar Šola, one of those arrested on 10 April.  The company “Opatovina projekt d.o.o.” used these loans to buy land in the Sava Opatovina area of Zagreb for future real estate development.

Basic financial data on Karlovačka Banka. (N.B.: As of 31 Dec. 2012 one euro equaled 7.546 Croatian kune (HRK).)

Equity:

Share capital (dionički kapital – AOP PK 017) at yearend:

2012: 171,200,000 HRK (€ 22.7 mln)

2011: 135,000,000 HRK

2010: 166,259,000 HRK

Assets:

Total assets (ukupno imovina – AOP 017) at yearend:

2012: 1,781,353,536 HRK (€ 236.1 mln)

2011: 1,857,535,213 HRK

2010: 2,309,810,895 HRK

Loans other than to financial institutions (krediti ostalim komitentima – AOP 012) at yearend:

2012:  728,589,105 HRK (€ 96.6 mln)

2011:  841,271,555 HRK

2010: 1,105,338,466 HRK

Liabilities:

Total deposits (depoziti – AOP 021) at yearend:

2012: 1,474,656,045 HRK (€ 195.4 mln)

2011: 1,401,170,572 HRK

2010: 1,887,261,873 HRK

Income:

Net profit (dobit/gubitak – AOP 071) for year:

2012: -25,767,384 HRK (€ -3.415 mln)

2011: -33,545,502 HRK

2010: -90,623,836 HRK

Sources:

Press release by USKOK: Ured za suzbijanje korupcije i organiziranog kriminaliteta: Priopćenje o provođenju kriminalističkog istraživanja kojim je obuhvaćeno osam osoba i jedno trgovačko društvo (2013-04-10)

Press release by Croatian National Bank: Što nadzire HNB? (2013-04-11)

Press release by Croatian National Bank: HNB upoznat akcijom DORH-a I USKOK-a (2013-04-10)

Press release by Karlovačka Bank: Priopćenje Uprave Karlovačke banke (2013-04-10)

Karlovačka banka: USKOK će ispitati supruge Milijana Brkića i Josipa Jurčevića (2013-04-13 15:37:00, updated 20:39:44)

HNB je protiv Karlovačke banke podnio optužni prijedlog još 2010. godine (2013-04-12 22:09, with scans of entire HNB motion appended).  File containing the central bank’s motion alone: Karlovackabanka.pdf (10 MB)

ROHATINSKI JE ŠOLI PRODULJIVAO MANDAT SVAKIH ŠEST MJESECI Jutarnji otkriva šokantno izvješće HNB-a (2013-04-12)

NOVI DETALJI IZ ISTRAGE USKOK-a Osumnjičenu tvrtku osnovale supruge šefova SOA-e! (2013-04-12 09:50)

Osumnjičenima u slučaju Karlovačke banke istražni zatvor (2013-04-12 09:47)

Gužva na šalterima Karlovačke banke, povlači se novac (2013-04-11 12:47)

Sandi Šola u Hrvatsku stigao automobilom: čeka na ispitivanje u policiji (2013-04-11 09:06)

VELIKA AKCIJA USKOK-a Marija Šola i tri sina novcem banke punili obiteljske tvrtke? (2013-04-11)

VELIKA AKCIJA USKOK-a Uhitili majku i dva brata većinskog vlasnika Karlovačke banke Sandija Šole! Sprema se i njegovo uhićenje (2013-04-10 16:15, updated 20:09)

Uhićena majka i dva brata Sandija Šole, šef Karlovačke banke rezervirao prvi let za Zagreb (2013-04-10 17:22)

Video: Dnevnik - Priveden Sandi Šola

Video: Policija istražuje poslovanje Karlovačke banke - Al Jazeera Balkans

Video: Uhićena obitelj Sandija Šole zbog malverzacija u Karlovačkoj banci

Financial statements (unaudited, unconsolidated) for period ending 2012-12-31: Tromjesečni financijski izvještaj za kreditne institucije-TFI-KI

Financial statements (unaudited, unconsolidated) for period ending 2011-12-31: Tromjesečni financijski izvještaj za kreditne institucije-TFI-KI

Shareholder structure of Karlovačka banka as of 2012-06-30: Bilten o bankama 25 - Godina 12 - Prosinac 2012

Management decision of 2013-04-08 listing proposals to be considered at shareholder meeting on 2013-05-23: Glavna skupština redovnih dioničara (2013-04-12)

Mark Pleas

Eastern Europe Banking & Deposits Consultant

[contact]

Georgia – PayPal now available in Georgia; IMF publishes staff report on Georgia together with letter of intent from Georgian government promising accelerated de-dollarization of banking sector

 

On 10 April residents of Georgia gained access for the first time to the network of PayPal, a subsidiary of eBay Inc. that offers online money transfer and payment services in more than 190 countries.  Negotiations between PayPal and Georgia’s Ministry of Economy and Sustainable Development (საქართველოს ეკონომიკისა და მდგრადი განვითარების სამინისტრო) continued for more than a year before an arrangement was reached.

Source:

საქართველო PayPal–ის სისტემაში ჩაერთო (2013-04-10)

On 3 April the International Monetary Fund published a series of documents regarding Georgia, including an IMF staff report and a letter of intent from the Georgian government addressed to the IMF.

The staff report, completed on 1 March, was prepared after a visit to Tbilisi by an IMF staff team from 27 November through 11 December 2012.

The letter of intent, also dated 1 March, is signed by the prime minister, Bidzina Ivanishvili, by the minister of finance, Nodar Khaduri, and by the governor of the National Bank of Georgia (NBG), Giorgi Kadagidze.

Bidzina Ivanishvili (ბიძინა ივანიშვილი) is a 57-year-old billionaire Georgian businessman who in 1990 founded Rossiyskiy Kredit Bank (ОАО «Банк Российский кредит»), in 1993 co-­founded Impeksbank (ОАО «Импэксбанк»), and in 1996 founded Cartu Bank (სს „ბანკი ქართუ").  As of 31 March 2013 Ivanishvili still retained control of Rossiyskiy Kredit Bank through the limited-liability company Promelektro (ООО «Производственно-энергетический альянс «Промэлектро»), which owned 99.61497% of the bank’s stock.  According to the bank’s 2011 annual report, “No publicly available financial statements are produced by the Bank’s parent company.”

In parliamentary elections held in Georgia on 1 October 2012, Ivanishvili’s six-party coalition “Georgian Dream” defeated the “United National Movement” party of Georgian president Mikheil Saakashvili, and Ivanishvili was confirmed as prime minister by the Georgian parliament on 25 October 2012.

Bizina (“Boris”) Ivanishvili,

Prime Minister of Georgia since October 2012

Below are reproduced verbatim various sections of the staff report and the letter of intent that most directly concern the banking system.  (Emphasis as per original.)

Staff report:

INTRODUCTION

1. Georgia has completed the first peaceful handover of power in its modern history. The opposition six-party Georgian Dream coalition won a convincing, and unexpected, victory in last October’s parliamentary elections. Prime Minister Ivanishvili’s new government has taken office but its cohabitation with President Saakashvili, who remains in power until next October’s presidential elections, has posed challenges. Although macroeconomic stability has been maintained, uncertainty has increased during the elections and the resulting political transition. While financial markets have recovered, FDI and credit growth have showed signs of weakening.

2. The new government plans to reinvigorate economic reforms while pursuing more socially balanced policies. It has expressed a strong commitment to transparency, accountability, and the rule of law, already taking steps to strengthen the independence of the judiciary. The government’s economic priority is to reduce unemployment and poverty, which, despite strong growth over the last decade, remain relatively high, by generating sustained and inclusive private sector-led growth. To this end, it intends to improve the business environment, enhance social protection, better protect workers’ rights, strengthen the country’s inadequate antimonopoly regulation, and revamp the agricultural sector, which, on paper at least, represents about half of total employment.

[...]

RECENT DEVELOPMENTS

4. Despite an election-related slowdown in the second half of the year, growth is expected to have exceeded 6 percent in 2012 (Table 1). Real GDP grew by 7.5 percent in the first 3 quarters of 2012 driven by construction, manufacturing, and the financial sector. However, growth started to decline ahead of the October 1 election (averaging 6½ percent in August–September) and then declined further (to -0.8 percent in October–December according to the latest flash estimate). This decline appears to reflect a “wait-and-see” attitude among investors, with FDI declining sharply in the third quarter and credit slowing gradually (Figure 1).

5. Inflation has dropped well below the National Bank of Georgia’s (NBG) 6 percent target, mainly because of lower food prices and the lagged effects of real exchange rate appreciation. Headline inflation has fallen sharply from almost 15 percent in May 2011 to -1.4 percent at end-2012 (Figure 2). While a large part of this decline reflects falling food prices (27 percent of the basket), exchange rate appreciation has also reduced import prices more generally so that nonfood (or core) inflation has also fallen to around zero.

[...]

11. Reacting to lower inflation and signs that the economy might be slowing, the NBG has continued to ease monetary policy (Tables 4 and 5). It has gradually cut the policy rate from 8 percent in July 2011 to the current rate of 4.75 percent (although with a pause last summer). Partly explained by the cuts in the policy rate, lari deposit rates fell in 2012 by around 3 percentage points, while lari lending rates remained high at more than 20 percent (Figure 2) so that spreads have increased. In contrast, the spread between FX loan and deposit rates has fallen slightly due to lower lending rates. Despite this, private credit growth has continued to decline, and recently quite rapidly, from close to 30 percent (in FX-adjusted terms) at end-2011 to 13 percent at end-2012 (Figure 5). High dollarization (60 percent for deposits, around two-thirds for loans) remains a substantial impediment to monetary policy transmission.

12. Although nonperforming loans have increased and profitability has fallen, the banking sector reports comfortable levels of both capital and liquidity (Table 6 and Figure 5). The capital adequacy ratio, as defined by Basel I, stood at around 25 percent at end-2012, while liquid assets cover 40 percent of liabilities maturing in the next 6 months (Table 6). An increase in NPLs (NBG definition) in late 2012 reflects the NBG’s forward-looking (and somewhat conservative) reassessment of borrowers’ repayment capacity after the election rather than more tangible developments. According to the standard 90-day-overdue definition, NPLs remained broadly stable at 4 percent. While lower than in 2011, banks’ returns on assets and on equity remained positive in 2012, at 1 and 6 percent. Attracted by high FX deposit rates, nonresident deposits continued to increase rapidly and now amount to $700 million, or around 15 percent, of total deposits (up from 12 percent a year earlier). While financial soundness indicators remained strong for the banking sector as a whole, two small banks have been close to the minimum prudential requirements.

13. While economic performance has been generally positive, the incoming government faces a number of challenges that need to be addressed. Despite the past record of rapid economic growth, unemployment, poverty and inequality all remain high so that growth in the future needs to be more inclusive. The new government is responding to this by increasing social expenditure, but these spending increases will need to be reconciled with the need for further fiscal consolidation. The current account deficit and external indebtedness also need to be reduced, but without unduly sacrificing growth. The recent economic slowdown creates an additional complication, particularly if it were to prove more protracted than expected.

[...]

C. Monetary and Exchange Rate Policies

[...]

26. The NBG is taking steps to encourage de-dollarization. To encourage lending in lari, the NBG has recently relaxed collateral standards for refinancing lari loans and is encouraging commercial banks to issue long-term standardized lari CDs. The authorities are also considering a scheme to encourage lari lending by placing long-term lari government bonds at commercial banks (LOI, ¶29). Supervisory policies already discourage FX funding and FX lending (including through additional risk weighting for FX loans and higher reserve requirements for FX liabilities), but these extra charges have so far proved insufficient to offset the large risk premium that lari depositors require. Looking ahead, bank stress tests in 2013 that will require capital add-ons for FX lending risks, together with introduction of a Liquidity Coverage Ratio (LCR) that will include higher outflow rates for FX deposits in 2013, should further discourage use of foreign currency in the banking system (LOI, ¶29).

D. Financial Sector Policies

27. The NBG is taking measures to contain non-core funding by banks. While the NBG views noncore funding, including nonresident deposits, as a potentially useful source of financing diversification for banks, the steady increase in this funding, combined with its potentially volatile nature, increases financial stability risks. The mission welcomed the NBG’s new initiatives to contain nonresident deposits by increasing their regulatory costs. In particular, the NBG has decided to adopt sooner (end-2013 versus 2015) the LCR framework, which assigns a higher outflow rate to nonresident deposits. Moreover, starting in June 2013, banks whose nonresident deposits represent more than 10 percent of total deposits will face a higher liquidity requirement on nonresident deposits—this requirement will increase by one percentage point for each additional percentage point over the 10 percent threshold (LOI, ¶34).

28. The NBG has further strengthened its supervisory framework and is continuing preparing its transition towards Basel III and risk-based supervision. The NBG completed its self-assessment of its supervisory framework against Basel Core Principles in December 2012 and agreed to submit it to staff for review, along with a document describing the NBG’s updated approach to supervision, by March 2013. They are requesting an FSAP to start by the end of 2013 (LOI, ¶35). From March 2013, banks will be expected to comply with the standardized approach of Pillar 1 of Basel III. The NBG has been assisting banks with their risk models and, in line with Pillar 2, banks are expected to submit their first Internal Capital Adequacy Assessment Process (ICAAP) forms in May 2013. The development of risk models for ICAAP, in addition to allowing the NBG to better monitor different risks, will strengthen bank risk analysis and should contribute to refining banks’ risk taking behavior. To comply with Pillar 2 capital requirements, banks will perform firm-level stress tests under macro scenarios (LOI, ¶31). Following Basel recommendations, the NBG has developed a monitoring framework for domestic systemically important banks, which will be used, together with micro-level stress tests, to determine countercyclical supervisory measures (LOI, ¶32).

E. Structural Reforms to Boost Growth and Reduce Poverty

29. The authorities intend to implement a far-reaching set of structural reforms to improve the business environment and boost competitiveness (LOI, ¶37-38):

- Free Trade Agreement (FTA) with EU. Georgia hopes to fulfill EU requirements and complete negotiations (started at the end of 2011) in 2013. If successful, the FTA should increase Georgia’s trade integration with EU and encourage foreign direct investment.

[...]

RISKS

34. Macroeconomic prospects are more uncertain than usual with risks skewed to the downside. The mission emphasized that growth could be lower than expected if the post-election slowdown persists, notably if investors remain cautious until the government defines more clearly its economic strategy. Concerning external risks, a slowdown in Euro Area growth could hurt Georgian exports, while a shortfall in private capital inflows, especially FDI, could also adversely affect external and financial stability. Nonresident deposits, and the potential for crisis if they are rapidly withdrawn, remain another source of vulnerability. On the upside, the authorities emphasized that the opening of the Russian market to Georgian products could boost exports substantially, as would the free trade agreement with the EU if negotiations are successful. Also, if established early in 2013, the Rural and Agricultural Fund could boost domestic demand in the second half of the year (but might worsen the current account deficit in the short term).

35. Political risks are also a factor. Tensions between the government and the president, if protracted, could dent investor confidence in the new government’s ability to implement its policies. Conversely, greater moves towards promoting the rule of law, economic freedom, and transparency could promote growth in the long term.

[...]

STAFF APPRAISAL

[...]

43. Georgia’s financial sector appears healthy, and the authorities’ efforts to continue to monitor and minimize risks are welcome. The NBG has continued to strengthen its supervisory framework and its efforts to transition towards risk-based supervision are welcome. However, high financial dollarization is a source of significant vulnerability, and reducing it will prove challenging. The NBG’s attempts to limit the growth in banks’ noncore funding are welcome, and it will be important to continue to monitor the isolated signs of possible risk that may be present in one or two relatively small banks.

[...]

Letter of intent:

Tbilisi, March 1, 2013

Ms. Christine Lagarde

Managing Director

International Monetary Fund

Washington, D.C.

Dear Ms. Lagarde:

1. The convincing victory of our Georgian Dream coalition in the October 2012 parliamentary election has given our new government impetus to further advance Georgia’s political and economic transformation based on transparency, accountability, and the rule of law. Free and fair conduct of the election and the peaceful handover of power demonstrate Georgia’s progress toward a vibrant democracy. The newly elected parliament has approved a new government, a new prime minister, and 19 other cabinet members. Throughout this momentous transition macroeconomic stability has been maintained.

[...]

III. MONETARY AND EXCHANGE RATE POLICIES

[...]

29. To accelerate de-dollarization and to strengthen the monetary transmission mechanism, we will implement policies to encourage the use of the lari in the financial system. The NBG has relaxed collateral standards for refinancing loans and will encourage commercial banks to issue long-term standardized lari CDs. We are also considering placing longterm government deposits with commercial banks (in exchange for sale of treasury bills to commercial banks) to promote long-term lari lending.

IV. FINANCIAL SECTOR

30. We are taking steps to further strengthen the financial sector and to enhancing the regulatory environment:

- Competition in the banking industry has intensified. However, our financial sector maintains comfortable buffers of capital and liquidity. The capital adequacy ratio as defined by the BIS is around 24.6 percent (NBG definition: 16.5 percent); the BIS Tier I ratio is 18.8 percent (NBG definition: 13.2 percent). Liquid assets (excluding short-term loans) cover 53 percent of client deposits and 33.7 percent of total liabilities, while the liquidity ratio (NBG definition) stands at 40 percent. These high capital and liquidity ratios mean that our banks have very low levels of leverage, with a net loans-to-capital ratio of only 3.5.

- Given that there is very little difference at present between the cost of funds and the cost of equity, we believe that our conservative capital requirements do not impede efficiency; on the contrary, they contribute to a lower cost of funds due to lower bank credit risk. We are committed to ensuring that banks will continue to improve their efficiency without compromising their financial soundness.

- We will encourage banks to develop enhanced pricing models for their products. We have developed common guidelines for the development of those models and have intensified profitability analysis of the banks to identify profit and loss generating sources.

31. We will continue the transition towards Basel III compliance and risk-based supervision. In 2013, banks should start to comply with the standardized approach of Pillar 1 of Basel III. In line with the transition to Pillar 2, banks are expected to submit their first Internal Capital Adequacy Assessment Process (ICAAP) forms in 2013. Banks will also perform firm-level stress tests under macro scenarios. These results will be used for Pillar 2 capital requirements. We have initiated programs to help financial sector firms make this transition, especially regarding ICAAP, while some banks are receiving assistance from external consultants to smooth the process.

32. In line with Basel III, we are monitoring the need for additional countercyclical measures, vis-à-vis our old, more rigid methodology of changing the risk weighting for FX assets in the capital adequacy ratio; which, given the high dollarization of the banking system, has been quite an effective regulatory tool. We have developed the framework for monitoring domestic systemically important banks (D-SIBs), in line with recent Basel recommendations. This framework, together with the development of micro-level stress tests, will gradually replace the current, less fine-tuned approach.

33. Starting from 2012, the NBG has made efforts to make the liquidity coverage ratio (LCR) the core liquidity ratio for banking supervision. We are currently calibrating our use of the LCR. Currently we use the LCR as a monitoring tool; after some further fine-tuning, we aim to adopt it by end-2013, well ahead of Basel III’s 2015 deadline. Within our LCR, we already include higher liquidity requirements for nonresident deposits compared with resident deposits. Going beyond Basel recommendations, our LCR also accounts for such characteristics as: withdrawable vs. nonwithdrawable deposits, parent financing vs. private financing, concentration, and loan quality.

34. While in the past we have relied mainly on moral suasion, we are now taking a more formal approach to discouraging nonresident deposits. By June 2013, we will introduce a transitory liquidity ratio for nonresident deposits, which will take effect until the full LCR comes into force. Provided nonresident deposits are no more than 10 percent of total deposits (in which case we believe they can be a useful source of diversified funding), they will face the standard 30 percent liquidity requirement. For each percentage point above the 10 percent threshold, the liquidity requirement for nonresident deposits will increase by the same amount. Thus if nonresident deposits make up 15 percent of total deposits, then total nonresident deposits will face a liquidity requirement of 35 percent. At the same time, the NBG will continue to work on distinguishing nonresident depositors with no interest in the country from non-residents who have close economic links to Georgia (employees of international organizations and embassies, diaspora, foreign companies with business relations in Georgia, etc.). While hard to calculate precisely, our current estimates suggest the share of NRDs of people with no other interests in the country is less than half of total reported NRDs. This will help us refine our supervisory measures.

35. After upgrading the NBG’s supervisory structure and approach, we completed a selfassessment of our regulatory framework against Basel Core Principles. To complement our selfassessment we have developed General Risk Assessment Program (GRAPE), a document which describes our approach to supervision. We aim to send GRAPE and our self-assessment documents to the IMF for review by March 2013. These would be important inputs for an FSAP, which we request from the Fund and which we hope will be launched by the end of 2013.

36. We are continuing our attempts to further de-dollarize the banking system. Our existing policies, including additional risk weighting for FX loans, higher reserve requirements for FX liabilities, and overall higher negative liquidity carry for FX liabilities already discourage FX funding and FX lending. Our micro-level stress testing framework (to be performed by banks in 2013) will also take into account currency-induced credit risk. Furthermore, to address the macro-level implications of dollarization, in our new framework we will impose a capital add-on for FX lending on top of the amounts indicated by the micro stress tests. We will do this gradually in 2013–14. The use of higher-than-required run-off rates for FX deposits, once our LCR framework takes effect, should also help discourage the use of foreign currency.

[...]

Sincerely yours,

Bidzina Ivanishvili

Prime Minister of Georgia

Nodar Khaduri

Minister of Finance of Georgia

Giorgi Kadagidze

Governor of the National Bank of Georgia

Sources:

Georgia: First and Second Reviews Under the Stand-By Arrangement and Under the Standby Credit Facility Arrangement, and Request for Waiver of Nonobservance of Performance Criterion—Staff Report; Press Release on the Executive Board Discussion; and Statement by the Executive Director for Georgia (2013-04-03)

Georgia: Letter of Intent, Memorandum of Economic and Financial Policies, and Technical Memorandum of Understanding (2013-04-03)

Official biography of Bidzina Ivanishvili: საქართველოს პრემიერ-მინისტრი

Ivanishvili’s effective control of Rossiyskiy Kredit Bank through Promelektro as of end-2011: JSC Rossiyskiy Kredit Bank: Consolidated Financial Statements for the year ended 31 December 2011 (2012-07-04)

Shareholders of Rossiyskiy Kredit Bank as of 31 March 2013: Список аффилированных лиц ОАО «Банк Российский кредит» по состоянию на 31 марта 2013 года (2013-04-01)

Иванишвили Бидзина (Борис) Григорьевич (2012-10-25 20:18)

Mark Pleas

Eastern Europe Banking & Deposits Consultant

[contact]