A landlocked country of just six million people, Laos is commonly regarded as a tranquil place. Wedged between Thailand, Myanmar, China, Vietnam and Cambodia, the country has been run by the Lao People’s Revolutionary Party for more than 30 years. Laos’ policy-makers, like their neighbours and ideological mentors in Hanoi and Beijing, have sought gradually to liberalise the business and economic sphere over the past two decades, while keeping a tight grip on the political helm.
At present, Laos’ commercial banking sector comprises just three state-owned banks, two foreign joint venture banks, one private domestic bank, six foreign bank branches, and a representative office of Standard Chartered Bank. Altogether, these banks employ no more than 2400 people, of whom more than 80% work for the state-owned banks, which account for about 57% of aggregate commercial bank assets (of about $690m). The foreign bank branches represent less than 20% of total bank assets.
Bad loans problem
Despite repeated and fairly intensive efforts by the Asian Development Bank and other members of the donor community to restructure and recapitalise the state-owned commercial banks, they continue to suffer non-performing loan levels believed to exceed 60% of total loans, and remain technically insolvent. There is also some concern at present that two of the banks were pressed into lending about $60m to a cement plant being constructed in the southern town of Thakhek. Should the loan go awry, it could put a rather large hole in the banking sector, where the aggregate loan portfolio is estimated to be no more than $265m.
Established in the mid-1990s, the Agricultural Promotion Bank (APB) serves as a credit delivery mechanism for the government, and as the name suggests, its mandate is to support the country’s large agricultural sector. (Even though much of it is semi-subsistence, agriculture still makes up roughly half of total gross domestic product.) Such a role, as a policy lender, renders it difficult for APB to become a commercially viable operation. However, there is some speculation that the bank will spin off its policy-lending activities in the next year or so, which might enable it to become more sustainable.
The state-owned Lao Development Bank (LDB) has similar policy-lending origins, but has sought to become more commercially oriented in recent years. This summer, LDB signed a memorandum of understanding with the mighty China Development Bank, which should see the latter take a strategic stake in its much smaller Lao cousin. As yet it is unclear whether such a tie-up will allow LDB to improve its capacity to become a viable bank, or whether it will herald a reversion to less sustainable policy-lending activities.
Australian interest
As for the biggest state-owned commercial bank in Laos, Banque pour le Commerce Exterieur (BCEL), it is rumoured in Vientiane that a large Australian bank has expressed some interest in becoming a strategic investor. However, it remains to be seen whether the central bank, Bank of Lao PDR, would feel comfortable with such a proposition, given that BCEL alone accounts for about 45% of total loans and deposits in Laos. Despite its weaknesses, BCEL is widely regarded to be the country’s most robust domestic bank.
Of the six foreign bank branches operating in Vientiane, five are Thai and one is operated by Public Bank of Malaysia. Public Bank has been particularly successful in developing a presence in the local market. In contrast – with the possible exception of Bank of Ayudhya and Bangkok Bank – the Thai banks have been more conservative in their approach. They appear to focus primarily on serving existing Thai clients that have business operations in Laos, rather than actively building up a local client base.
After the Asian financial crisis of 1997-98, Thai business activity in Laos contracted markedly, and Thai Farmers Bank (now Kasikornbank) elected to close its branch office in Vientiane. But recent years have seen the gradual emergence of contract farming activity in lowland Laos, for export across the Mekong River into Thailand. Looking ahead, this may be a vehicle for greater trade financing activity by the Thai bank branches in Laos, if they have the desire.
Bond issue
The Export-Import Bank of Thailand recently raised the possibility of selling and guaranteeing a $78m bond issue, all the proceeds of which will be given to state-owned Electricite du Laos, to finance its equity stake in a new 615 megawatt (MW) hydropower project, Nam Ngum 2. The bonds would have a tenor of 10-12 years. This Lao power project is being enacted by a Thai consortium of developers, and is being financed by Thai banks. Should the bond issue proceed, then this would be a first for Laos. However, it seems that the Lao Ministry of Finance, acting as counter-guarantor, has yet to make a decision on the bond issue.
Late 2006 should see a new entrant in the Lao banking sector – Phongsavanh Bank. Ostensibly owned and managed by a local entrepreneur, this is the first new bank to gain licensing approval since the Lao-Viet joint venture bank started operations in 1999, and may mark a new chapter in Lao banking. Much may depend on whether the bank’s owners are able to resist the temptation to use it as a financing vehicle for their other business interests.
The central bank is also busy preparing a new financial institutions law, intended to replace a small number of decrees that currently govern – and markedly constrain – commercial banking activity in Laos. This comes hard on the heels of a new enterprise law, which came into effect in March this year, replacing a flimsy business law dating back to 1994. It also follows a new set of regulations on collateral, which should increase bank lending activity, as firms can now use movable assets as loan security for the first time.
A multi-donor funded offshoot of the International Finance Corporation, the Mekong Private Sector Development Facility, is currently providing technical assistance to the Bank of Lao PDR on the new financial institutions law. It is expected that the new law will be approved by government in May 2007. Vientiane has expressed a desire to gain entry into the World Trade Organisation by 2010 and, in that context, the new law is expected to make several moves to level the playing field for foreign and private banks.
Such moves should include lifting the current restriction preventing foreign banks from establishing branch offices outside of Vientiane. If this restriction were removed, it is likely that a number of foreign banks would seek to establish a branch presence in the southern panhandle of Laos, notably in provinces that have economically benefited from recent mining, power and road-building projects.
Onshore restrictions
Another restriction that needs removing is a stipulation that companies involved in natural resource exploration and production in Laos may not bank onshore with foreign banks. And a similar restriction applies to bank accounts used for grant aid provided by members of the (very substantial) donor community in Laos. This clearly provides the state-owned local banks, most notably BECL, with a huge advantage, and probably drives mining companies in particular to maximise the amount of financing they do offshore. Perhaps this was less of an issue when Laos’ mining sector was largely dormant, but the recent success of Oxiana’s Sepon gold and copper mine has sparked a lot of interest in the global mining industry, and prompted a spate of new mineral exploration projects in the country. Several Australian independent mining firms are leading the charge, buoyed by high global prices at present for energy and commodities.
Risk guarantees
After a decade of discussion, the World Bank Group and Asian Development Bank took the decision last year to provide partial risk guarantees that would allow the $1.45bn Nam Theun 2 hydropower project to proceed, and construction of the 1070MW plant and 450 square kilometres reservoir has begun. Other financiers include European Investment Bank, Nordic Investment Bank, AFD and Proparco of France, a number of European export credit agencies, as well as a syndicate of Thai and international banks.
Nam Theun 2 is a major project for a country with an annual GDP of less than $3bn – it is the biggest investment Laos has ever seen. More than 90% of the electricity generated by the build-own-operate-transfer (BOOT) project will be exported to Thailand. Like Nam Ngum 2, virtually all of the financing for Nam Theun 2 is being conducted offshore, as local banks are simply too small and inexperienced in project financing to participate.
Perhaps the most they can hope for is that they will derive some additional lending to local firms that are appointed sub-contractors to these large-scale power and mining projects. Much of the economy stands ready to benefit from these large investment projects, as evidenced by the government’s recent decision to create a new ministry devoted exclusively to mining and energy. (Previously, such activities came under the mandate of the industry and handicrafts ministry.)
Looking ahead, Laos’ banking sector seems poised for growth. If they can capitalise on some of the large-scale energy and mining projects that have recently got under way – as well as the impending liberalisation of banking regulations – Lao banks are likely to benefit.
