Ukraine’s economy will struggle to climb out of recession unless the country’s heavily-battered banking sector starts lending again – and at affordable rates. But that is still not likely to happen soon, judging from the horrible financial results that banks posted last year and the mountains of bad loans and shaky public trust they are still struggling to overcome.
A horrible start
Domestic banks posted some $4 billion in losses in 2009, up from more than $1 billion the year earlier. In 2010, many are still struggling to clean up massive piles of bad loans. Luckily, a full-blown meltdown was avoided – courtesy of public and private bailouts, including of three big banks that nearly collapsed.
But “it’s too early to celebrate as the banking market will be still faced with quite a few challenges in 2010,” says Jozef Sikela, chief executive officer for Erste Bank in Ukraine.
For one, credit-needy businesses lucky enough to land fresh loans continue to borrow at some of the world’s highest rates, in the 20-30 percent annual interest range. And with the percentage of non-performing loans still high – in the double-digit percentage levels of banks’ total loan portfolios – lending will be limited and risky for banks.
Official figures show that the numbers of bank loans and amount of deposits have remained relatively stable since the global financial crisis struck in the fall of 2008, but that doesn’t mean banks are issuing fresh loans.
“Most commercial banks are reportedly refraining from issuing new loans, providing funds only within active credit lines,” said Olena Bilan, an analyst at Kyiv-based investment bank Dragon Capital.
In a February report, credit rating agency Fitch said that “fixing the banking sector will need to be a key priority” for Ukraine’s authorities and President Victor Yanukovych. But thus far, it is unclear what Yanukovych, whose close allies have strong representation within Ukraine’s central bank board, and a new governing coalition he promises to form, will do to change the system.
One thing is for certain: he and his team will have their hands full.
Bad loans in Ukraine will probably peak at 40 percent, Fitch said. “Further downside risk could materialize should political and macro-developments remain negative in 2010,” Fitch added.
Investment bank BG Capital estimated that write-offs for bad loans, up 85 percent on an annual basis to $8.5 billion, “were the key drivers behind the sector’s record loss” in 2009.
“A more robust banking system will be crucial to establishing a platform for the economy’s sustainable growth. Since the crisis began, the sector has suffered from deposit outflows, a liquidity squeeze, a sharp deterioration in asset quality and numerous bank defaults or restructurings, while the economy has experienced a large fall in gross domestic product, a substantial devaluation of the hryvnia and increased pressure on government finances,” Fitch said in the report.
“In 2010, an improvement, or at least no further deterioration, in the banking sector’s prospects will have a key bearing on sovereign creditworthiness, while greater political, macroeconomic and hryvnia stability would support recovery in the banking system and wider economy,” Fitch added.
“The sector’s loan loss reserves – 14.8 percent of gross loans as of end-2009 versus 5.7 percent as of end-2008 – is still insufficient to fully offset loan losses and banks will likely continue pursuing accelerated provisioning strategies in 2010. However, most banks are set to scale back impairment charges in 2010 and we expect the sector will turn marginally profitable this year,” BG Capital predicted.
SOS
With a more than 40 percent market share in Ukraine, European banks are nervously watching and wondering what position to take on Ukraine. They paid top dollar in past years – often a billion dollars or more – to snap up domestic banking operations. Along with foreign-owned banks from Russia and other countries, European banking groups have infused nearly $2 billion from abroad to refinance and recapitalize their domestic subsidiaries.
In doing so, they have kept their Ukrainian-owned banks afloat in the short term. But they are also knocking on the door of the National Bank of Ukraine for help, hoping it will stimulate the market by easing its lending – namely by offering financing to foreign-owned banks as readily as it has stepped in to help domestically-owned ones.
On Feb. 10, Ukraine’s central bank responded, adopting regulation No. 47 through which it could provide long-term funding to promote local bank lending, if banks keep up their regulatory capital, asset quality and maintain other criteria. Credit rating agency Moody’s said the new regulation should have positive credit implications for Ukrainian banks, and demonstrates the NBU’s “commitment to support the banking system.”
“The availability of long-term funding will help many banks balance their asset/liability structures, which are currently adversely affected by maturity mismatches,” said Moody’s.
Oleksiy Kushch, an adviser at the Association of Ukrainian Banks, said the banking sector’s health will improve if the government pursues such assistance in the refinancing of banks, and buys out part of bad credit portfolios from banks.
But Moody’s cautioned that “the NBU’s ability to provide longer-term funding” may be “limited by budgetary constraints, and restrictions imposed by the International Monetary Fund,” which froze a $16.4 billion bailout package late last year.
Sikela, who heads the operations in Ukraine for Austria’s Erste bank group, warned that “new regulatory requirements, dramatically increasing capital adequacy and liquidity ratios, if they are implemented, may create structural problems for the banking system and make lending more or less impossible.”
Another major concern is the stability of Ukraine’s national currency. “Should the hryvnia come under pressure, the level of non-performing loans can dramatically grow. Therefore, maintaining an acceptable hryvnia rate is one of the key issues for the NBU and the government,” Sikela said.
On the flip side, Sikela said continuing bank sector strains will spur further consolidation, efficiency and improve both liquidity and financing in the long term.
Sustainable?
Any improvements that come in the short term are not expected to bring relief for Ukrainian citizens and companies. They will continue to face some of the highest borrowing costs in the world, a trend which could fuel further asset bubbles in the country – inflating prices – and lead to a fresh buildup of bad debt.
Dmytro Ushenko, an analyst at Astrum investment bank, said the higher “political and economic risks” in Ukraine are expected to keep the cost of borrowing in the country sky high compared to Europe, where annual rates do not exceed 5 percent.
“Current loan rates for private individuals in Ukraine range from 28 to 35 percent; for businesses they vary from 25 to 35 percent [per year], which are twice higher than before the crisis,” Ushenko said.
Moreover, chances to get a loan even under such rates are very low for many, because banks are short of liquidity and have grown increasingly demanding on clients to demonstrate their sustainability and transparency.
“But even if a business gets a loan with under 30 percent interest,” it can be challenging to “pay it back without using additional financial instruments to sustain operating capital,” added Ushenko.
Kyiv Post staff writer Olga Gnativ can be reached at [email protected]
