Share the article
twitter-iconcopy-link-iconprint-icon
share-icon
Central & eastern EuropeSeptember 1 2014

Crisis leaves Bulgaria's banks in limbo

Bulgaria’s recent banking crisis and the resignation of its government have left its financial sector in a state of limbo awaiting elections in October. 
Share the article
twitter-iconcopy-link-iconprint-icon
share-icon
Crisis leaves Bulgaria's banks in limbo

Bulgaria is in a vacuum. Two of its largest banks have experienced a run on their institutions, the government has resigned and parliament is dissolved. The national bank deposit guarantee fund has a shortage of some Lv1.64bn (€839m) to cover the population’s guaranteed deposits with one of the country's banks, which has been placed under special supervision and seems to have shortcomings. Still, no solution is expected until after the parliamentary elections on October 5.

This, in short, explains the situation in Bulgaria, but the complications are a lot more wide-reaching. Rewind to June, and the country’s fourth largest bank by assets with a market share of 7.9%, Corporate Commercial Bank (or KTB as it is known in Bulgaria), saw its customers queue outside its branches to try to withdraw their deposits.

The run followed a quarrel between media mogul and politician Delyan Peevski and the main shareholder of the bank and chairman of the supervisory board, Tzvetan Vassilev. The two men have each claimed the other is trying to kill them; each has denied the other’s allegation. About 20% of KTB's assets were withdrawn within a week. The bank was running out of liquidity and, to avoid insolvency, was placed under special supervision.

Attack on Bulgaria’s banks

Meanwhile, First Investment Bank, another domestic institution and third largest bank in the country by assets with 8.7% of the market, also faced a run. In this case, the run came on the back of what the governor of the Bulgarian National Bank (BNB) referred to in a statement on June 27 as “an organised attack against Bulgarian banks, without any grounds”.

The Bulgarian government set aside €1.7bn as a support fund for the banking sector and launched an investigation into the “criminal attacks through social networking, through text messages and emails” on First Investment Bank, according to the then acting finance minister of Bulgaria, Petar Chobanov. It also arranged for a full analysis of the assets and liabilities of KTB and its Victoria Commercial Bank subsidiary by external auditors. Victoria Commercial Bank is the new name of Crédit Agricole’s Bulgarian subsidiary, which KTB only agreed to acquire in late January.

Meanwhile, the KTB audit found that “important information was missing on the financial position and/or the utilisation of loans for a specific category of borrowers”, according to a letter by the BNB and the ministry of finance to the European Commission from August 11. This corresponds to Lv3.5bn of the total Lv5.4bn loan portfolio of KTB. The available information on these loans was insufficient, the letter says, adding that there were “strong indications of credit risk with regard to the credit exposures in this category, which could cause considerable impairments”.

“There are suspicions that some not-so-accurate business procedures were undertaken and that’s why we don’t know what the real value is of this portfolio,” says Mr Chobanov. “There is also an investigation by the chief prosecutor of the country with some similar results. This investigation will also try to track the money [related to bank] transactions and then we should be able to see what stands behind this huge part of the portfolio.”

The chairman of the bank himself, Mr Vassilev, talks of the run on KTB and the following decision to put it under supervision as “a plot, planned and realised in an unscrupulous way, not without the help of the state apparatus”, according to a letter to the bank’s clients and employees published on his website and dated August 4. He did not reply to requests for an interview.

Lending allegations

One of the accusations made against KTB is that it was involved in lending to businesses linked to Mr Vassilev – allegations he denies.

“Related party lending is not something we want to find in our banking partners,” says Daniel Berg, country director for Bulgaria at the European Bank for Reconstruction and Development (EBRD), which works with the foreign-owned banks in the country. “We always investigate how much money may be going to the shareholder and into related parties because it is a major risk factor for a lender. If there are such linkages, once things start to fall apart, you face leveraged risk and that’s when you don’t get your money back.”

And that seems to be the situation that many of KTB’s clients are finding themselves in now. Their assets are frozen after what was effectively a temporary nationalisation of the bank.

In an initial plan by BNB, KTB and its subsidiary were meant to reopen after one month of investigations on July 21. A later idea had all healthy assets of the bank transferred into Victoria Commercial Bank, which would then be reinstated on the same day.

However, none of this happened and customers with some Lv3.74bn of guaranteed deposits of less than €100,000 equivalent in savings are still waiting to get access to their money. To their detriment, not much is expected to happen until October.

Meanwhile, international lenders to KTB are also affected. Because KTB's assets are frozen, a first interest payment on a $150m repackaged loan was already missed on July 3, according to rating agency Moody’s, and so was the repayment of the facility agreement on August 7. BNB reacted on August 15 by allowing the bank to repay loans and interest if a commitment was signed before June 1 of this year.

Politics in the mix

In the midst of the banking crisis, the technocratic government with minority support of 119 out of 240 members of parliament announced at the end of June that it would step down, dissolve parliament and call new elections.

“The bank scandal and the tensions between Mr Peevski and Mr Vassilev were partly a reason for the government to fall,” says Daniel Smilov, programme director at the Centre for Liberal Strategies in Sofia, Bulgaria's capital. In his view, the government was “without sound support domestically and abroad, and it relied heavily on the media machine created by Mr Peevski and Mr Vassilev – without that, it would have not survived so long”.

The government itself does not mention the run on the banks as a reason for its resignation but instead the weak result of one of its supporting parties, the Bulgarian Socialist Party (BSP), in the European parliamentary elections, and with it a reduced approval for the government (see interview with former minister of finance Petar Chobanov).

The Bulgarian political system is that of a parliamentary democracy, in which the government is formed after parliamentary elections. The incoming prime minister is usually the leader of the largest party in the national assembly. However, as in the case of Plamen Oresharski’s government, many members of his team did not belong to a party and he himself took office as an independent, although he had previously been a member of the BSP.

Since the resignation of the government and the dissolution of parliament in early August, the country is led by a caretaker government appointed by president Rosen Plevneliev until elections on October 5.

Meanwhile, at the end of July the governor of BNB also offered his resignation to the national assembly but with the condition that a quick appointment was made to replace him. He was still in office mid-August, while the deputy governor responsible for banking supervision, Tsvetan Gounev, took leave from his office on June 18 until the end of the proceedings.

This leaves Bulgaria in something of a vacuum because the caretaker government does not have any legislative powers and can thus only govern on the laws already in place. Resolution plans suggested by BNB before the caretaker government took over did not make it through parliament, which leaves KTB’s customers unable to access their deposits until a new parliament is elected.

Containing the contagion

In a country familiar to banking crises on a larger scale – it suffered a banking and currency crisis of 1996/97 – it was especially important to stop the bank runs from spreading to other institutions.

“Our actions [to guarantee the banks when the bank runs happened] were needed in order to stop the contagion effect in the banking system as a whole,” says Mr Chobanov. “The banking sector is dominated by very important, strong European banks and this really is a sign that it is stable.”

Seven out of the top 10 Bulgarian banks by assets in 2013 were foreign-owned subsidiaries, with UniCredit Bulbank the largest. With a 14.8% share of assets in Bulgaria, UniCredit Bulbank was also the largest overall, followed by the former state-owned savings bank DSK Bank (10.4%), which is now owned by Hungarian OTP Bank.

“The recent local [banking] crisis was only 50% bank-related and 50% political, but it created some instability in the market,” says Levon Hampartzoumian, CEO of UniCredit Bulbank. “In these kinds of situations you might expect to see a flight to quality and we have been one of the banks that has seen that. It is not something that makes us happy because a balanced and healthy environment is much better to work in than one where you have to enter bank-saving exercises.”

Fortunately, the situation was never as severe as in the 1990s and, according to a study by Bulgarian market research agency AFIS, it also had no major impact on trust in the banking sector. The study found that the population’s trust in the banking sector is high and, indeed, much higher than that in state institutions and politicians.

Hedging risk

Over the past couple of years, Bulgarians have been saving more than usual because of the political instability in the country, according to Mr Hampartzoumian. This, coupled with AFIS's research results, could also explain the fact that the population continues to deposit money with non-domestic banks, including the Austrian-owned Raiffeisenbank Bulgaria.

“It is not pleasant to see the fourth biggest bank under [BNB] management and a big portion of the population having to wait for months to get their deposits back,” says Oliver Roegl, CEO of Raiffeisenbank Bulgaria, which is the sixth largest bank in the country by assets, with 7% of the market. “But we do not expect this to become a severe crisis shaking the banking system or the currency board. We consider the banking system stable, very well capitalised and the currency is not really attackable – the financials of Bulgaria are strong enough to keep the currency board strong.”

Bulgaria's currency is pegged to the euro, which restricts BNB from setting interest rates, leaving fiscal policy as the country's main tool to influence the economy. The EBRD is a creditor to 10 foreign-owned Bulgarian banks and its director for the country, Mr Berg, says that there is no increased reason to worry about the institutions the EBRD is working with.

“We monitor the banks we are working with closely and we haven’t raised the risk level after this event,” he says. “Nobody suggests banking in Bulgaria is a simple thing. It has its difficult periods but we don’t think that the recent events have changed the situation dramatically. For us, it’s pretty much banking as normal in the banking system other than in this one institution.”

What’s the resolution?

Despite the overall soundness and averted contagion, as of late August there still is a possibility that all Bulgarian banks could feel a hit from the bank run.

In a letter on August 1, the European Commission urged the Bulgarian authorities to pay the Lv3.74bn guaranteed deposits placed with KTB and its subsidiary back to the savers but so far no resolution has been found to make up for the Lv1.64bn gap between the guaranteed deposits and the amount available under the Bulgarian bank deposit guarantee fund.

In a reply to the letter, BNB governor Ivan Iskrov and interim finance minister Roumen Porozhanov noted that deposits can only be paid if KTB is declared insolvent, while interim partial repayments cannot be made, as this would require legal amendments.

Another option, in which all Bulgarian banks have to pay their bank deposit guarantee fund share for 2015 early, rather than when scheduled next year, could put pressure on the banks and their full-year results.

The letter warned that “collecting annual contributions in advance from banks would have a negative impact on the banking system” that it would “lead to substantial reduction in the profit of the banking system in the country, which as of June 2014 totalled Lv409m” and that “several banks [already] report negative operating results”.

Mr Vassilev, who has lost his voting rights in the bank through the quasi-nationalisation of KTB, said in his letter to clients and employees that he is also working on a solution.

“The state does not have the funds and the intention to repay [KTB’s] liabilities to its clients,” he said. “Soon there will be an offer from a consortium of investors, including the State General Reserve Fund of Oman [a shareholder of the bank]. I hope that you will support it as we think you are the important ones and we count on you. Once this is done, we will demand our rights from the people who are supposed to preserve the stability but failed.”

It remains a mystery why KTB, only months before the run on its bank and the subsequent investigations into its financial soundness, was given the go ahead to buy Crédit Agricole’s Bulgarian subsidiary by BNB. Why missing documentation and alleged malpractices at KTB were not discovered then is unclear. BNB did not reply to requests for comment on this topic.

Confidence in Bulgaria

“Even in a worst-case scenario that this one bank has nothing left, which is technically impossible, the costs are not going to bankrupt Bulgaria or the currency board,” says Mr Berg. “In a worst-case scenario, say when you can’t recover anything from the assets, we are talking about €3bn [of losses], maybe a little bit more. That’s 7% of [gross domestic product] – definitely a lot of money – but we have dealt with worse in other countries.”

And despite all the troubles, international and domestic investors have also expressed their confidence in Bulgaria. At the same time as the banking crisis unfolded, the state marketed and sold a €1.5bn 10-year bond – its first since 2012 and the country's most attractively priced ever.

“The assessment of the market was that we are fundamentally stable, we have a good fiscal track record, the macroeconomic developments and indicators have the potential for the economy to further develop,” says Mr Chobanov. “All the things that have been happening in Bulgaria were regarded as noise, which will not affect the long-term stability and profile of the country.”

The previous government had also put in place precautions to prevent a similar event happening again by applying for its banking system to join the eurozone’s single supervisory mechanism (SSM). The SSM is scheduled to start in November and will effectively pass supervisory powers over banks in the eurozone to the European Central Bank from the respective countries’ central banks. 

“Joining the [SSM] would be positive for our banking system and our banking supervision,” says Mr Chobanov. “If we were accepted in the SSM, it would give us external assessment, [which would check] that our banking system and banking supervision is in order.”

Was this article helpful?

Thank you for your feedback!

Read more about:  Central & Eastern Europe , Bulgaria