This year, state banks have started to chip away at their massive volume of non-performing loans, known as NPLs.
Previously, they risked legal trouble for “mismanaging state funds” if they were to sell NPLs at a discount. But new guidelines approved by the Cabinet of Ministers in April finally gave state banks a pathway toward healthier credit portfolios.
Reducing NPLs is also one of the International Monetary Fund’s major demands of Ukraine. The country’s Financial Stability Council in July approved a plan for government banks to reduce their NPL portfolios by Hr 305 billion ($10.8 billion) in three years.
They need it. Government banks, which dominate Ukraine’s banking sector, also account for almost three quarters of total NPLs in the country. According to NBU statistics, private banks have done a much better job of reducing their NPLs over the past several years.
“Banks with private capital are more flexible in managing bad debts, from prosecuting insolvent borrowers, to writing off bad debts,” said Olena Korobkova, head of the Association of Independent Banks of Ukraine.
But even state banks have made some progress. The share of problem loans in state-owned banks, excluding PrivatBank, decreased from 47.6% in September to 43.5% in October.
At the same time, the share of non-performing loans in the banking sector has decreased from 48% to 45.6% as of October 1, mainly through write-offs. They now total half a trillion hryvnias — or over $17 billion.
This is still extremely high, says Iryna Pinchuk, an associate at the law firm Integrites.
“Such high level of NPLs is a burden for Ukrainian banking system and impacts not only the capability of banks to lend (since the banks should set aside larger provisions) but also blocks obtaining financing from the International Monetary Fund (IMF) which could help to stabilize Ukrainian economy,” said Pinchuk.
But conditions in the country still make it hard to reduce NPLs either by selling them or by reducing their total percentage by issuing new loans.
“The main problem with NPLs is the judicial system,” said Serhiy Fursa, head of fixed income at Dragon Capital. “Until there are improvements in the judicial system up to the creation of new courts that handle problems in the financial system… the problem with NPLs will be very hard to solve.”
Artem Shevalev, a former deputy finance minister of Ukraine, agreed that actions to reduce NPLs are highly dependent on the Ukrainian courts.
“All of the former debtors are abusing our courts,” he said. “They’re making the work of recovery very problematic.”
The same courts also interfere with sales of assets from the bank’s balance. Whenever a serious buyer shows up, courts tend to block the sale, following lawsuits by former owners or their proxies.
Korobkova said that moratoriums are also a major problem that block debt recovery, even when the courts are on your side.
For example, this year saw an extension of the moratorium on foreclosure on foreign currency loans, as well as several new moratoriums introduced in connection with COVID-19: opening bankruptcy cases at the lenders’ initiative, penalties for late payments and others.
“An analysis of the payment discipline of borrowers… showed that since the entry into force of legislation on the release of all borrowers from liability for breach of contract, the level of overdue loans increased by 30%… despite the fact that the total volume of the portfolio remained unchanged,” according to the banking association.
Korobkova said that Ukraine has a profitable NPL market in spite of the risks associated with these assets.
Shevalev agreed to a point. That market is there, but said that interest is limited to loans with interesting assets attached, such as hotels, resorts or gas stations. To expand this market, Ukraine needs foreign buyers who specialize in distressed debts, he added.
But the courts’ depredations keep these buyers at bay. Another factor that can set back efforts to reduce NPLs is the global COVID-19 pandemic and its related economic crisis.
According to Pinchuk, the most challenging goal now is to create a favorable legal framework to jump-start growth for the secondary NPL market. The NBU already has started adopting road maps but the process is far from complete and the banks still lack necessary mechanisms.
The decline in business activity from quarantine complicates timely repayments. In spite of that, banks managed to reduce their NPLs by Hr 20 billion ($705.9 million) this year. Not all borrowers were extremely hurt by the quarantine. Medical services, e-commerce and others fared relatively well.
Countries around the globe are doing what they can to provide easy credit to businesses as a form of relief, which can ultimately layer new NPLs on top of old ones. Ukraine is no different, having expanded its small business lending program.
However, this is not the end of the world, said Shevalev. Over the past several years since Ukraine was forced to declare roughly 100 local banks insolvent and nationalize them in 2014–2015, risk control systems in the country have improved significantly.
But better risk control means banks are also unwilling to lend, reducing many businesses’ and individuals’ access to credit. While liquidity remains high and banks are ready to lend to high-quality borrowers, such borrowers are few on the ground.
“The point is that there aren’t solvent borrowers,” said Eugene Dubogryz, a former financial stability deputy at the National Bank of Ukraine. “Because there’s a crisis and because it’s hard for remaining borrowers to work ‘in the white,’” meaning on the books.
And if they’re working in the shadows to avoid taxes, banks can’t lend to them because that’s an unacceptable level of risk.
Dubogryz said that banks understand to whom they’re lending money and whether the borrower will pay it back. And government banks haven’t been working with their problem loans very well, he added, especially given that they have such a huge volume of loans, including to very well known companies.
“They pay back private banks and don’t pay back state banks,” he said.
Even solvent borrowers who are willing and able to pay their debts suffer as a result, Fursa said.
