Greece's Credit Cycle
Transcript of Greece's Credit Cycle
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GREECES CREDIT CYCLE IMPLICATIONS FOR
REGULATION AND POLICY
Dimitri Vayanos
Levy Institute Conference
Athens 8-9 November
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Outline Greeces credit boom (2000-2008) and crunch (2009-
present). Review of key facts.
The credit cycle in an institutionally weak economy.
A grim credit outlook. Policies for the short/medium run.
Greeces financial development.
Performance of Greek financial markets and institutions.
Policies for the long run.
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Credit BoomBanks private-sector loans (households and non-financialcorporations) to GDP:
Greece: Lowest starting point in EZ.
Fastest growth in EZ after Ireland and Spain.
Similar to EZ average in 2008.
Source: ECB
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2.50
3.00
AU BE FI FR GE GR IR IT LU NE PO SP All
2003
2008
Ratio 2008/2003
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Credit Boom and the EconomyDrivers of the economic boom after Euro entry:
Private credit overtook government spending and EU transfersas main driver of the boom.
Source: IMF, Country Report, 2007
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Composition of Credit BoomBreakdown of banks private-sector loans to GDP by category(households vs. non-fin. corp.) and growth of each category:
Greece: Breakdown in 2008 same as EZ average.
Fastest growth in EZ in loans to households (consumption loansand home mortgages).
Source: ECB
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3.50
AU BE FI FR GE GR IR IT LU NE PO SP All
Households/NFCs 2008
Households 2008/2003
NFCs 2008/2003
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Banks Risk Exposures
Private-sector loans:
Fast growth in loans to households and SMEs.
New borrowers with limited credit histories.(IMF, FSSA for Greece, 2006)
Government bonds:
Only Greek bonds lack of diversification across the EZ.
Holdings increased in the run-up to the crisis.
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Lack of DiversificationDomestic government bonds held by banks as % of EZgovernment bond holdings:
Greece: Least diversification in EZ.Source: Merler and Pisany-Ferry, BdF FSR, 2012. Data as of 2011.
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Credit to GovernmentGreek banks holdings of Greek government bonds and loans tothe Greek government:
Credit to government increased from 35bn in 01/2008 to58bn in 04/2010.
Credit to governments increased for the other GIIPS as well.
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10,000
20,000
30,000
40,000
50,000
60,000
Jan-07 Jul-07 Jan-08 Jul-08 Jan-09 Jul-09 Jan-10 Jul-10 Jan-11 Jul-11 Jan-12 Jul-12 Jan-13
Bonds
Loans
Source: BoG.
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PSI Losses and Bank Recaps For the aggregate of Greek banks:
Core tier 1 capital as of 12/2011 was 22bn. PSI losses were 38bn.
PSI rendered Greek banks insolvent.
If Greek banks had been holding a well-diversified
government bond portfolio:
Insolvency could have been avoided.
Less severe credit cycle.
Source: BoG, Report on the recapitalization and restructuring of the Greek banking sector, 12/2012.
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Effects of State Control Ratio of credit to government to core tier 1 capital:
3.03 for aggregate of state-controlled banks. (NBG,ATEbank, Postbank)
1.71 for aggregate of privately-controlled banks.
(Eurobank, Alpha, Piraeus, Emporiki, Millenium, Geniki, Attica,Probank, Proton, FBB, Panellinia)
(Based on this measure) State control:
Did not result in more stable banks.
Made credit cycle more severe.
Source: BoG, Report on the recapitalization and restructuring of the Greek banking sector, 12/2012.
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Credit Crunch How severe is the credit crunch?
% of non-performing loans (NPLs).
How quickly is deleveraging taking place? Are NPLs
being resolved quickly, through restructuring or
liquidation? Incentives of banks to extend and pretend.
Bankruptcy code.
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NPLsNPLs, expressed as % of banks private-sector loans in12/2008:
Ireland is highest. Greece is next highest and the fastestgrowing.
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5
10
15
20
25
30
35
40
45
2008 2009 2010 2011 2012 2013
GR
IR
IT
PO
SP
Sources: ECB and PwC, European NPL Outlook, 10/2013.
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DeleveragingBanks private-sector loans (households and non-financialcorporations) to GDP:
Large reductions in Ireland and Spain, partly because ofcreation of public bad bank (NAMA, 40% of GDP; SAREB,10% of GDP).
Small increases in Greece, Italy and Portugal.
Source: ECB and BoG
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2.50
GR IR IT PO SP
2008
2012
Ratio 2012/2008
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Advantages of Public Bad Bank Better incentives to resolve NPLs.
Banks are forced to recognize their losses since NPLs aretransferred to bad bank at (or close to) market value.
If NPLs remain with the banks, with no forced write-downs, thenbanks have an incentive to extend and pretend, i.e., notrestructure or liquidate the NPLs.
NPL resolution hurts banks regulatory capital and can force them toissue more shares, diluting their shareholders.
Bad bank does not have such an incentive: its only mandate is toresolve the NPLs.
Banks can make new loans. Selling the NPLs to bad bank frees up regulatory capital for new
loans.
Overall: Reduction of debt overhang.
Better allocation of credit.
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Public Bad Bank in GreeceA public bad bank has not been created in Greece
because: Market for distressed loans is illiquid.
Ireland, Spain: Many homogeneous real-estate loans.
Greece: Heterogeneous loans to households and SMEs.
There was not enough money (from the 50bn aid
package to banks) to create bad bank.(IMF, Greece Selected Issues, 06/2013)
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Incentives to Extend and Pretend Banks incentives to extend and pretend must be
addressed. Force write-downs through creation of public bad bank or
otherwise.
Do this in a uniform and transparent manner across banks.
Spain offers a good model (e.g., royal decree of05/2012).
This is likely to require extra capital and further dilutionof shareholders.
But the alternative is many years with a non-functioningbanking system and no growth.
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Bankruptcy Code Does bankruptcy code support efficient resolution
of NPLs? Households: Katseli law (3869/2010).
Collateralized loans (home mortgages): Loan amount is
reduced to 85% of collateral value.
Uncollateralized loans: Borrowers assets, except first
home, are used for debt repayment. Borrower is
discharged of any remaining debt.
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Household Bankruptcy Code: Pros Better to reduce principal, than leave it unchanged
and reduce interest payments (as per recent laws). Restores positive equity of borrowers, and improves
incentives to repay the loan and maintain the collateral.
Better to discharge borrower of any debt thatremains after assets are liquidated, than keep
him/her liable until full debt is repaid (as in Spain).
Improves incentives to generate future income (e.g., finda new job or start a firm).
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Household Bankruptcy Code: Cons Long delays to take cases to court. (Court dates currently set
to 2023!) No payments due until case goes to court. Strong incentives for strategic default.
Weak incentives to maintain the collateral and to invest. (Debtoverhang)
Evaluated by low-level courts, staffed by judges withinsufficient training. Huge variation in decisions, especially given that law leaves large
discretion to judges.
Foreclosures of collateral are currently prohibited. Negates basic principle of collateralized lending.
Direct cost to the taxpayers since banks are taxpayer-financed.
Delays and judge training are also key problems withcorporate bankruptcies.
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Real-Estate Taxes Credit-market problems are exacerbated by recent
increases in real-estate taxes. Collateral values decrease:
More loans become distressed, with negative borrower
equity. Borrowers will lack collateral to obtain new loans.
Some of the proceeds of the tax will eventually go
to cover the losses that banks will incur because ofthe reduced collateral values.
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Credit Outlook
Large and growing pile of NPLs in Greek banking
system. Hard to see how this pile will be cleared:
Banks prefer (and are pressured) to avoid write-downs.
Bankruptcy involves long delays. Home foreclosures are prohibited.
Collateral values are being reduced sharply by real-estate taxes.
Grim outlook for credit (and hence for economicgrowth), unless above problems are addressed.
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Financial Development
Financial development measures the quality of a
countrys financial markets and institutions. Laws protecting investors.
Financial regulatory agencies.
Financial literacy.
Large academic literature documents strong linkbetween financial development and economic growth.(See, e.g., survey by R. Levine in the Handbook of Economic Growth 2005.)
Brief overview of some financial development measuresfor Greece.
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Investor Protection and Corporate
Governance Investor protection index (World Bank, Doing Business Report 2013).
Extent of disclosure.
Extent of director liability.
Ease of shareholder suits.
Corporate governance quality index (De Nicolo et al., IMF WP 2006).
Disclosure of accounting information.
Earnings opacity.
Stock price synchronicity.
Greece scores low (tied bottom with Netherlands on IP, bottom on CGQ).
But significant recent rise in IP score (from 3.3 in 2012 to 4.7 in 2013).
Effects: High cost of capital for firms and high barriers to entry.
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AU BE FI FR GE GR IR IT NE PO SP Avg
Investor protection 2013
Corp. gov. quality 2006
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Household Portfolios
Relative to their EZ counterparts, Greek households: Invest the least in financial assets as % of total assets.
Invest the most in real assets (mainly real estate).
Have the smallest holdings of liquid assets relative to income.
Source: HFCS Analytical Report and Additional Tables. Survey conducted in 2009-2010.
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AU BE CY FI FR GE GR IT LU NE PO SP Avg
Net liquid assets as % of income
Financial assets as % of total assets
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Household Portfolios (contd)
Composition of households financial asset portfolio:
Greece has:
Largest share of deposits. Smallest share of mutual funds and stocks ( Least trust in financial
markets?)
Smallest share of voluntary pensions (e.g., individual retirementaccounts).
Source: HFCS Analytical Report and Additional Tables. Survey conducted in 2009-2010.
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AU BE CY FI FR GE GR IT LU NE PO SP Avg
Deposits
Mutual Funds
Bonds
Stocks
Voluntary Pensions
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Summary
Main objective for the short/medium run:
Efficient resolution of NPLs. Well-capitalized banking system.
But should not lose sight of the longer-run issues:
Efficient design and enforcement of investor-protection laws. Strengthen financial regulation (transparency, accountability,
conflicts of interest, resourcing, etc).
Current plans to centralize regulation at EZ level should help. Cut links between politicians and banks.