Transcript conclusions for small open economies

CONFERENCE
“THE FINANCIAL SECTOR IN THE CONDITIONS OF A
GLOBAL FINANCIAL AND ECONOMIC CRISIS”
Plovdiv, 4 March 2009
THE CURRENT FINANCIAL CRISIS:
THEORY, PRACTICE AND LESSONS
TSVETAN MANCHEV, Ph.D.
DEPUTY GOVERNOR OF THE
BULGARIAN NATIONAL BANK
MAJOR ISSUES
 What are the principal theoretical and practical results
and conclusions from the recent developments and how
does the macroeconomic policy respond to them?
 What are the possible scenarios for the development of
the process?
 What are the conclusions to be drawn for small and open
economies?
 Where do we fall?
 What should (not) be done?
FACTORS FOR THE GLOBAL CRISIS 2008-2009
Factors known to theory, inferred from previous crises:
 „The bubble burst” – the priсe bubble that burst on the US real estate market.
Its effect was exacerbated by the practice of subprime lending and loan
securitization (the originate-to-distribute model) by financial institutions,
instrumental to keeping liquidity high and hence interest rates at historically
low levels;
 «Inconsistent and incomplete regulation» of the US financial sector that
allowed investment banks, hedge funds, etc. to earn profits significantly
higher than the average market levels;
 «Lack of incentives» mortgage loans were taken out of commercial banks’
balance sheets, which LEAVES NO INCENTIVES for the lending banks to
monitor the condition of these loans and the borrowers’ creditworthiness;
 «Errors» made by credit rating agencies which increase the «asymmetry of
information».
Factors that turned the crisis global:
 «Imbalances» in the world economy;
 The role of the US dollar as a global currency.
THEORETICAL AND PRACTICAL CONCLUSIONS
FROM THE DEVELOPMENTS IN THE 15 MONTHS
SINCE SEPTEMBER 2007
What underlies the crisis is the interaction between the
global macroeconomic imbalances building up in the
last 10 years, and the trends in the major international
financial markets evidenced for almost 30 years now but
which gained particular momentum under the impact of
the above imbalances.
INITIAL MEASURES TO COPE WITH THE CRISIS
 Practically unlimited provision of liquidity not only by central banks but also
by GOVERNMENTS
 Guarantees to protect depositors and creditors, even in the extreme form of the
so-called „UNSECURED GUARANTEES”
 Structuring of programs for direct government lending to non-financial
corporations (the automotive industry)
 Structuring of programs for large-scale purchases by governments of
considerable share participation in banks and financial institutions, not
excluding the possibility for these programs to cover also non-financial
corporations
 Structuring of government programs for support of small and medium-sized
enterprises and protection against unemployment, and of borrower protection
programs.
THE SUCCESSFUL CRISIS RESOLUTION
POLICY (1)
Bringing the process to a s stop by means of a new social agreement between the
agents to:

Restrict the unfavourable impact of the crisis on the main macroeconomic
indicators;

Restructure the institutions that have lost public credibility so that they
can pursue an adequate macroeconomic, and particularly monetary,
policy.
This means intensifying of various elements of the economic policy and of the
regulations on micro, mezo, and macro level to reduce the uncertainty and clearly set
the rules on the markets, including:
Active, but transparent, central banking policy to maintain high bank liquidity;
Bringing the regulatory capital adequacy of debtors in line with market requirements;
THE SUCCESSFUL CRISIS RESOLUTION
POLICY (2)
Strengthening banking supervision and enhancing transparency of
creditors and borrowers;
Legal guarantees in case of bankruptcy as a principal means for debt
problem resolution, besides within time limits needed by the market;
Establishing and maintaining long-term relations between credit
institutions and borrowers and supporting detailed information by means of
accessible credit registers for real time exchange of information between
credit institutions for risk management purposes;
Enforcing, where necessary, additional legal restrictions and regulation of
banks and other financial intermediaries in these sectors approaching the
rate of profit in the other sectors.
CURRENT RESULTS
The main conclusion is that the initial response for
handling the crisis globally was not efficient, as it was not
well coordinated worldwide, not well targeted at (focused
on) eliminating the factors behind it, and not fully taking
into account past experience.
This has already multiplied the cost of accommodation
and the time needed for it compared to preliminary
expectations, and has further increased uncertainty and
mistrust.
POSSIBLE SCENARIOS FOR WORLD ECONOMY
DEVELOPMENT IN THE MID-TERM (3-5 years)
1. Continuing downfall and disintegration of global economy
2. Quick recovery
3. “State” capitalism”
4. “Liberal regionalism” (Restricting liberalisation at the global
level while preserving it within the respective economic and
monetary unions)
IS CAPITALISM “DYING”?
First, the politicians’ acting too hastily to prevent the crisis with the state being
overly and fully involved from the very beginning, which has already made
apparent the sizeable long-term costs, should not be regarded as a long-term
policy.
Second, the so far failed attempts of politicians and civil servants to act as
bankers have in many countries already drained the public credit of trust in them,
which too makes them reconsider their strategies and return to the sound
theoretical principles of market economy.
Third, it has become clear that neither the expansionist, however opaque,
monetary policy of the major central banks, nor any of the forms of capital
control introduced by individual developing countries can substitute a framework
of supervisory regulations adequate to market requirements and globally
observed by all participants.
CONCLUSIONS FOR SMALL OPEN ECONOMIES (1)
Countries with small open economies in the global crisis environment are
not unaffected and need to adjust.
 The tools of competitiveness of these countries are even more limited in
times of crisis, i.e. they need the crisis to end soonest more than the others.
 Small open economies which are part of economic and monetary unions
are in a better competitive position than the others as they enjoy, at least at a
minimum, the generally higher market confidence in the major participants in
these unions and in the unions in general.
The individual starting point and the level of affectedness by the crisis of
each small open economy, either participating or not in a monetary union, are
of GREAT importance where national adjustment strategies and actions need
to be developed.
CONCLUSIONS FOR SMALL OPEN ECONOMIES (2)
 A small open economy with a sustainable and transparent long-term
macroeconomic and monetary policy, supported by political consensus, which
has not undergone fundamental changes over the recent months enjoys a better
understanding, public and investors’ trust and will adjust relatively much easier
with no need for the country to become “indebted”.
 In the above case the main strategy should aim at further cutting down
government expenditure and enhancing labour market flexibility, which is
regarded higher by markets than are «blank» guarantees or other forms of state
intervention that only disrupt markets’ long-term functioning leaving
imbalances unrestricted. This is also the EU position.
 It has to be carefully watched to which of the above scenarios the global
economy will evolve in the mid-term so that an adequate adjustment strategy
and a range of actions be looked for and found on a timely basis.
WHERE ARE WE? (1)
 There is a clear political consensus on key long-term policies – currency
board in place till the adoption of the Euro; at least a balanced budget after
taking account of cyclical factors; low taxes as the main tool for better
competitiveness; keeping the current high degree of freedom of movement
of people, capitals, goods and services;
 The monetary policy has been based on clear rules for a long time and in
times of crisis liquidity is provided in a transparent for the market way,
observing the rules of the currency board arrangement;
 Strong public finances and low debt burden of the public sector;
 Lack of a direct channel for “infecting” banks owing to the long-standing,
closely related to traditional banking markets, evaluation of financial
instruments;
WHERE ARE WE? (2)
 Stable, though decreasing, funding from parent banks which are also in
good financial shape, are among the relatively less affected by the crisis,
and so far have not taken unexpected actions towards their subsidiaries;
 Well-diversified domestic financial market in terms of institutions by
countries, instruments, currencies, counterparties;
 Quick change in banks’ behaviour (adaptation) in the new situation –
change in the risk appetite; improving the methods and models for its
management; trying to ensure symmetry of information through an active
dialogue with regulators, markets and customers;
 Current profits are not affected by “impairment losses” resultant from
worsened quality of loans;
WHERE ARE WE? (3)
 Transparent and clearly-defined “anti-cyclical” regulatory framework:
– Conservative approach in provisioning, generating capital cushions;
– Additional provisions when capital charges are required (other than
those for impairment losses under IFRS);
– High level of MRR (currently 10%, but effectively over 7%);
 Pro-active and clearly-defined “anti-cyclical” monetary policy of the BNB
in recent years. A number of measures have been taken in a transparent and
timely manner to slow down credit growth, which provided a basis for a
sound increase in banking intermediation. In a consistent, transparent and
timely manner we also take measures to normalise liquidity after the shocks
in the past months;
 Yet there are some sporadic “cases” of, and “markets” with, unequal legal
or regulatory treatment of participants during the crisis.
CURRENT CONDITION OF THE BANKING SYSTEM
All indicators are in %
2007
June December
2008
2008
Return on assets (ROA)
2.37
2.40
2,14
Return on equity (ROE)
23.9
24.25
22.74
Capital adequacy
13.9
14.55
14.86
Non-performing loans (overdue by
more than 90 days)
2.05
1.91
2.41
Cost of resource
2.92
3.42
3,75
Liquidity
28.00 24.01
21.71
Annual credit growth rate
62.5
32.3
51.9
CURRENT CONDITION OF THE BANKING SYSTEM –
latest data
Data at January 2009:
 BGN 72 million monthly profit (one of the few banking
systems in Europe that generate profits even in 2009)
 The foundation is being reinforced:
• Audited profits for 2008 will be included in banks’
capital
• Quality of assets is still high and stable
• Liquidity ratio is above 20%
• Stable financing for banks in the coming periods
THE RESULTS SO FAR
 All markets function normally; we did not allow any «failure» on the major
markets – money, banking, credit, debt, labour, investment.
 The major conclusion is that Bulgaria is getting adapted smoothly and
consistently, in a market way, to the new global balance. There is economic
growth, even though decreasing. There is also positive, though relatively
low, growth of credit to the non-financial sector which corresponds to the
changes in agents’ risk appetite.
 Market participants’ increasing uncertainty and distrust as to borrowers’
abilities to repay their debts given the decelarating economic growth in
Bulgaria in 2009 – 2010.
WHAT SHOULD (NOT) BE DONE?
AS MARKETS FUNCTION EVEN DURING THE CRISIS, WE NEED MORE THAN
EVER PREDICTABILITY AND CONSISTENCY OF THE MACROECONOMIC POLICY
AND UNCONDITIONAL OBSERVANCE OF MARKET PRINCIPLES!!!
Keeping and strengthening the political consensus on key long-term policies; keeping the
current crises response framework – a currency board accompanied by a strong transparent
anti-cyclical fiscal policy, supported with a pro-active transparent monetary policy and an
anti-cyclical transparent regulatory policy
Giving up any inconsistent (ad hoc) legal and regulatory intervention in the functioning
markets
The public dialogue about “the Bulgarian strategy”and individuals’ behaviour during the
crisis should not take heed of the interests of “fear sellers” and those who were making profits
well above market levels in the period before the crisis;
Implementing a package of measures aimed to increase the administrative capacity in
accordance with the European Commission latest report on the performance of Lisbon
Strategy objectives
Continuous participation in the search for and quick finding of a generally accepted strategy
for restructuring after the crisis within the EU, actively supporting any proposal for consistent
liberalisation of markets and equal treatment of participants.
THANK YOU FOR YOUR
ATTENTION!