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AmericasSeptember 3 2006

Financial sector bucks up

Banks are posting healthy results in an improving economy, financial reforms are under way and there are plans to develop the capital markets. Monica Campbell reports.
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His tone unmistakably calm, Central Bank of Uruguay president Walter Cancela sits in his spacious office near Montevideo’s bustling port and talks about what is going right in his country. The economy is expected to grow by more than 5% this year, compared to an 11% drop in 2002, when it was brought down by Argentina’s collapse. The peso and inflation are steady and international reserves have increased. And, news that would hearten any central banker, banks operating in Uruguay are now posting healthy results.

“Nobody can say that the sector has recuperated completely,” says Mr Cancela, a University of Montevideo-trained economist. “But the system is in a far better position today to withstand market movements.”

This is proven by the balance sheets of the 14 banks in Uruguay. The largest bank, state-run Banco de la República Oriental del Uruguay (BROU), which controls about half of the market, posted a rise in its business during the first half of this year of nearly 5%. The rest of the banks, all foreign-owned – the bigger institutions being ABN AMRO of the Netherlands (ranked second) and Nuevo Banco Comercial (ranked third) – posted similar results and showed improvements in terms of the volume of deposits, outstanding credits and private banking.

Smaller banks, such as UK-based HSBC and Lloyds TSB, which mostly cater to niche private banking and trade-related financing, have also posted modest gains this year. Consider this rally against losses such as those suffered in May 2002, when the banking system lost about $1.4bn – 13% of total deposits.

Few are more relieved about the steady recovery than José Fuentes, head of Nuevo Banco Comercial (NBC). The bank was created by the government in December 2002 via the acquisition of three banks that went under during the crisis: Banco Comercial, Banco de Montevideo and Banco Caja Obrera. It quickly became Uruguay’s third-largest bank. Today, managing about $1bn in assets, NBC provides the typical array of commercial banking services, including corporate and personal loans, car loans, export and import finance and credit cards (it is the country’s largest card issuer).

“I believe we have convinced Uruguayans that banks are, once again, a safe place to keep their money,” says Mr Fuentes. “It has taken an enormous amount of work, in terms of restarting from zero in some instances to adapting to new regulations and supervision. But it’s now paying off.”

In July, sensing a foothold in Uruguay’s rebounding banking system, Advent International, an investment fund group that includes New York-based Morgan Stanley Alternative Investment Partners and two European development banks, agreed to acquire NBC in a $167m private equity deal.

Announcing the purchase, Ernest Bachrach, head of Advent’s Latin American operations, said that NBC combined “the best assets” of the three collapsed banks and had “excellent prospects for growth”.

The creation of NBC was a key step toward restructuring Uruguay’s banking sector.

Crisis fallout

The crisis showed that Uruguay’s traditionally secretive financial sector – the Switzerland of South America – needed tighter scrutiny. “The banks that collapsed were not being properly supervised,” says Mr Cancela. “They suffered from fraud, weak structures and not being capitalised sufficiently. The central bank was not performing enough oversight and regulations were imprecise.

“The push is on to get our system up to international standards. We’re not yet applying Basel II but that’s where we’re headed.”

It did not take long for the authorities to usher in a new set of rules. “There was no downtime here,” says Fernando Barrán, the central bank’s superintendent. “Every effort was being made to get the financial sector back on its feet.”

In late 2002, the Law for the Strengthening of the Banking System took effect. It still allows banks to keep customers’ passive banking transactions secret, such as assets and other holdings, but they are now required to divulge clients’ debt amounts and credit rankings. Supervision has also tightened when it comes to large loans, especially lending in dollars.

The underlying idea of the new rules is to be able to weigh up when a bank is testing its limits. “Looking back at the crisis, it’s now clear that some banks were taking on too much risk, and the new reforms address this issue,” says Mr Barrán.

Bankers’ grumbles

Bankers see no harm in stepped-up supervision and regulation but some grumble that the central bank has pressured institutions into adapting to more rules too quickly.

“As a leading global bank, we already face reporting procedures from our headquarters that meet the strictest international standards,” says Víctor Marcelo Oten, head of Crédit Uruguay, the country’s sixth-largest bank, which is owned by France’s Crédit Agricole. “So it’s not that the new regulations require us to present information that we do not already compile, but they do represent new layers of bureaucracy. It has felt a bit rushed.”

Other bankers agree, but also understand the state’s determination to put better norms in place fast. “The central bank took a lot of flack during the crisis but has been taking steps to get the house in order,” says HSBC’s Uruguay director Alan Wilkinson, who has previously been posted with the British bank in 12 countries. “If one of the prices we have to pay now is over-regulation, then that’s better than under-regulation.”

Reform commitments

There is little room to back away from the reforms; most form part of the commitments to which Uruguay must adhere in its three-year stand-by agreement with the IMF, approved in June. That agreement requires changes that are still pending. This year, parliament is set to discuss the implementation of a deposit insurance system and a bankruptcy law, which mirrors the Chapter 11 law in the US by allowing struggling businesses to consider mergers or sell-offs.

“We are reworking a bankruptcy law that has changed little since the 18th century,” says Mario Bergara, Uruguay’s vice-minister of economy and finances. “The new law means more flexibility for businesses that tend to simply disappear when they go broke.”

Overhaul goes ahead

Overhauling Banco Hipotecario del Uruguay (BHU), the state-run bank that focuses on financing construction and individual mortgages, is another major task. While the country’s economy struggled, BHU’s bad-loan rate exceeded 60%. In 2004, the government banned BHU from granting new loans. Moves to improve the bank include shifting non-performing loans to a fiduciary trust and sufficiently capitalising the bank, while also putting regulations in place to ensure that it only deals with residential mortgage lending on a commercial basis. Until these changes are set in place, BHU will not lend until the central bank says so.

“We’re completely modernising the mortgage bank, from how it is managed to the type of technology it uses,” says Fernando Lorenzo, the economy ministry’s chief economist. “It used to be Uruguay’s leading mortgage bank but was left in such bad shape after the crisis that it virtually shut down the market for home loans as a result. There has been no institution to substitute its position in the market, so it is of utmost importance to put the bank back on its feet again.”

Developing Uruguay’s capital markets is also pending. They remain woefully undeveloped and are not considered an alternative source of finance. Most of the activity in this market segment is concentrated in government paper. The country’s two stock exchanges remain tiny and share trading is barely visible.

“Most local businesses are not accustomed to seeking out alternative forms of financing, opting instead for traditional bank loans or funding from shareholders,” says Gabriel Oddone, an economist at CPA Ferrere, a consultancy in Montevideo.

Portfolio weakness

Bankers also say that the regulatory environment is weak in terms of portfolio investment. “When the capital market does eventually develop, I can’t imagine it will engage in big volumes,” says Mr Oten. “There’s a cultural barrier here. Companies are very traditional and not open to risk.”

Meanwhile, everyone is anxious to see more lending. Although banks are showing profits and stability, financing appears to be stuck. Government officials are beginning to become more outspoken about their desire to see banks expand medium-term and long-term financing to consumers and business, particularly smaller enterprises that have typically been shut out of the banking system.

“We understand that the lack of rapid credit growth is still linked to the crisis,” says Mr Barrán. But he says he hopes to see lending rise in line with Uruguay’s improving economy, which is already making real headway. The economy has significantly recovered from the 2002 crisis and the country’s president, Tabare Vázquez, despite his leftist sheen, is sticking with pro-market policies focused on structural reforms and attracting more investment and foreign trade, including with the US.

Bankers say that they want to lend more but argue that demand remains weak. “Income levels are still recuperating and only now are Uruguayans pulling together the cash to ask for loans,” says Mr Oten. He says that he hopes, like most bankers in Uruguay, that as the financial sector gains more strength, new business will be unlocked.

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