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Where there is no law, but every man does what is right in his own eyes, there is the least of real liberty
Henry M. Robert

The Burden of Inefficiency

25 May, 1999 - 00:00

German economist Volkracht Winzenz shares his views on the Ukrainian banking
system

Interviewed by Iryna KLYMENKO, The Day
The interest rate, among other things, depends on the risk of nonpayment.
For example, 20% of the loans received by Ukraine under Cabinet guarantees
are listed as bad, meaning they will never be repaid. In other words, the
interest rate must be geared to provide for the risk of bad debts in the
first place.

For several years there has been increased interest in the Ukrainian
banking system. This is only natural, as the banks have suffered staggering
losses after last year's financial losses. However, the general public
seems less concerned about the survival of depleted banks and their customers
(considering the domino principle by which the banking system responds
to danger) than about the scandalous goings on in the National Bank. Ukrainians
mostly understand the hullabaloo around NBU, but what about foreign experts?
This was my first question to Herr Volkracht Winzenz, member of
the German economic consulting team working under Cabinet auspices.

V. W.: I think this is one of the manifestations of different
forces trying somehow to influence, control the National Bank, and I also
think that there should be a law making the NBU independent.

The Day: But today's NBU debate is less concerned with monetary
and exchange policy than with where and for what purpose this bank should
channel the money on its balance sheet (what construction projects and
where, etc.), and whether there have been instances of abuse of office
in terms of foreign exchange resources. Can all these problems be solved
by passing an NBU independence bill?

V. W.: Of course someone should control how NBU money is being
used. It is a government institution, so there should be controlling authorities
monitoring its activities, so the bank does not get out of line, but there
must be no playing around with money, using funds for purposes other than
those for which it was designated. But if a bank does the wrong thing it
has nothing to do with its independence.

The Day: After last August the banks lost their main source
of financing and their assets have lost much of their value. What are the
prospects for the Ukrainian banking system?

V. W.: A Ukrainian banking system in the traditional sense of
the word is still to take shape. At the initial stage your banks earned
money by exchange speculations, then there were domestic government bonds.
Over that period the economy received almost no credit, while lending,
using depositors' money, is actually the number one task of any banking
system. After the crisis last fall the bond saga also ended, the result
being that the banks had only one way to earn money: by lending to the
economy. However, your banks almost never practiced this previously, so
they have no loan experience. In addition, attempts are very likely to
be made to keep the hryvnia from dropping after the autumn devaluation.
This will be accompanied by extracting "surplus" money from the banking
system, so that high interest rates will be an obstacle in an active credit
policy.

The Day: According to Deputy Premier Tyhypko, 20% of the banks'
loan portfolios is made up of bad debts. How does this affect the entire
banking system?

V. W.: This problem exists in all countries with transition economies,
except that some point to 20% and others to 30% of bad debts. And the fact
remains that this problem has not been solved anywhere. I don't think that
Ukraine will be able to solve it easily this year. It may take several
years and the consequences will not be painless. The banks will have to
broaden the spread between deposit and loan interest rates. This, in turn,
may provoke a deposit outflow, on the one hand, and the inability to place
loans on the other. Yet the banks will have no other way to cover their
losses from bad debts. Hence I don't think that the difference between
the deposit and loan rates will change soon and loan rates show any substantial
decline.

The Day: You mentioned two things preventing lower interest
rates on loans to the economy: keeping the hryvnia from falling and bad
debts in bank portfolios. Any other factors?

V. W.: Lowering the interest rate by only one percent is an extremely
complicated task. Let us figure out precisely what affects the cost of
credit resources: first, inflationary expectations, second, the amount
of money issued by the National Bank, and third, deposit interest rates.
If citizens stop trusting banks to deposit their money, there will be nothing
the banks can do. Who can influence these factors? The National Bank can.
How? It may be required to print more money to make these rates drop. But
who can stop inflationary expectations? And this is precisely what makes
the rates jump.

The interest rate also depends on the nonpayment risk. As has been mentioned,
20% of the loans guaranteed by the government are bad debts. Thus, the
loan rate must first provide for this risk. I believe that this risk in
the Ukrainian economy does not depend on monetary policy but on structural
reform.

The Day: NBU refinancing rate is 50% annually. Is it high
or low?

V. W.: It could be lower, I think, but this would also mean lower
commercial bank rates. By and large, it is difficult to say how the economy
responds to interest rates. By the way, 90% of Ukrainian capital investment
is financed by enterprises' own assets.

The Day: Considering that the banks lend practically no money
to enterprises, the Ukrainian government decided to artificially stimulate
the process. It was announced recently that Ukraine's largest Savings Bank
will be reorganized. The government wants to increase industrial financing
in this manner. Is this project realistic? Can such a crediting institution
be viable?

V. W.: The problem with such a structure is that someone will
decide who to give the loans to. There is a principle in the private economy
whereby a bank which stops issuing or repaying loans, and thus making profits,
disappears. By the same token, a bank choosing a good, solvent borrower
will survive. So who will decide this for the Savings Bank? Mr. Pustovoitenko?
Mr. Hureyev? The Ministry of Industrial Policy? For some reason someone
in power believes that they know better than bankers working with and risking
their own money. If they practice this approach with the Savings Bank and
if the bank gets 10 or 20% bad debts it just won't survive.

Perhaps they should have chosen a different tactic, setting up one or
two development banks. Such banks were established in Germany after the
war. They are still working.

The Day: You said that the problem of bad debts cannot be
solved quickly and simply. At the same time, there is no effective bankruptcy
legislation in Ukraine. Yet the problem of bad debts and bank reorganization
is resolved somehow. Now and then we hear that the NBU has helped this
or that bank. And then those that did not receive such help start accusing
the NBU of abuses. What criteria do you think the National Bank should
use in helping some and refusing others?

V. W.: There is a trace of last year's crisis in the current
situation, of course. The state went bankrupt and stopped making government
bond payments, and most of these bonds are held by banks. Of course, there
is an essential difference between the bonds and bad debts. When the state
goes bankrupt the banking system automatically assumes all its liabilities.
It stands to reason that at such periods the banks should be supported
by the state. One should also consider that the banking sector operates
by somewhat different rules than the economy as a whole. Here the domino
effect is possible - that is, a bank failure could cause the entire system
to topple. Thus certain preventive measures are in order. I consider it
normal procedure when the NBU, while calling on banks to rely on their
own resources, helps those that have suffered the worst. I think the main
criterion of help is the amount of such bonds in a given bank's portfolio.

The Day: Yet our banks do not complain about NBU using formal
criteria with regard to all of them. Rather, they complain that there are
no such procedures and this is precisely why one starts looking for other
reasons to help. Some may try to prove that their banks have "social importance,"
others visit Mr. Yushchenko and say look, you worked at this bank once,
so please help us, we're in trouble.

V. W.: Yes, this is a difficult problem. It is hard to make banks
work for themselves the way they are really capable. There is a real danger
that banks will relax and take it easy once the NBU says it will be there
to help everyone in need. A compound solution must be found. First, it
is necessary to determine exactly how badly a given bank is hurt. And the
amount of internal government bonds in its portfolio may not be the decisive
criterion. Suppose this bank did nothing but buying bonds, in which case
it does not deserve help and its manager must be told that he did wrong
from the outset. They should have shared the risks. And so there ought
to be several criteria: credit policy, degree of damage by default, and
of course the bank's place in the banking system. We all know that a large
bank going down is much more dangerous than a small one. We say in Germany
that this or that bank is too big to be allowed to go bankrupt. But this
certainly does not mean that Mr. Yushchenko should constantly say that
the Ukrayina Bank will never go bankrupt.

 

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