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Georgia's banks remain unshaken by political uncertainty

As the political stand-off in Georgia between the new prime minister Bidzina Ivanishvili and president Mikheil Saakashvili shows no sign of abating, the country’s economy is showing resilience and its banks are eyeing opportunities to strengthen growth by tapping into the country's unbanked population.
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Georgia's banks remain unshaken by political uncertainty

In parliamentary elections in October 2012, the previously media-shy billionaire Bidzina Ivanishvili and his Georgian Dream coalition ousted president Mikheil Saakashvili’s United National Movement, which had been in power in Georgia since 2004. It was quite a reversal of fortunes. In December, Mr Saakashvili’s once remarkable approval rating dropped to 29%, according to the National Democratic Institute, while the new prime minister’s soared to 80%.

Since then, the two men, former allies turned bitter foes, have had a deeply uneasy relationship. Their rare meetings have produced little agreement. In November, the government launched a series of arrests that mainly targeted high-ranking members of the previous administration, including former ministers.

Foreign direct investment dropped in the first three quarters of 2012 (from $771m in the same period in 2011 to $684m) amid a tense election campaign. Could current the political stand-off scare off foreign investors?

“The cohabitation has not worked so far, and there is an element of political uncertainty that we would like to see resolved,” says Paul-Henri Forestier, director for the South Caucasus at the European Bank for Reconstruction and Development (EBRD), which invested $100m in the country in 2012. “That said, it is certainly not something that will prevent us from investing into the country.”

Russian relations

More than four years after the conflict in August 2008 over South Ossetia, Russia continues to cast a long shadow over Georgia. Mr Ivanishvili’s government remains committed to integration with the EU and North Atlantic Treaty Organisation. But Mr Ivanishvili also hopes to improve Georgia’s polarised relationship with Russia – a promise on which he campaigned. That process began with a meeting between diplomats in Geneva in December 2012; a second meeting took place at the end of February 2013.

The potential benefits of an improved relationship are many. When Moscow enforced a trading ban on Georgian products in 2006, the country lost 70% of its wine exports overnight. Russia’s admission to the World Trade Organisation last September proved a crucial step forwards, given that free trade between members is a precondition of membership. Negotiations to restore trading between the two countries are under way.  

The twin shocks of the August 2008 conflict with Russia over South Ossetia and the global economic crisis caused the Georgian economy to contract by 3.8% in 2009. But it recovered, growing by 6% in 2012, with the International Monetary Fund predicting similar figures for 2013.

The commercial banking sector is one of Georgia’s success stories. Figures from 2012 are mostly positive: total assets increased by just under $1bn (14%) to $8.7bn, net loans were up $592m (14%), and equity was up $183m (15%). However, bad debts increased by 324% to $198m, which meant a 58% reduction in profits. The bad debt ratio is still manageable, however, at 4%.

“Overall the sector is solid and sound,” says Andrew Coxshall, managing partner at KPMG South Caucasus. “Banks are well capitalised, regulated and run, and so far they remained insulated from the crisis that hit the eurozone.”

There are no toxic assets on their balance sheets either, according to Irakli Mekvabishvili, a senior EBRD banker, as Georgian banks are not integrated in the global markets.

New competitors

Georgia's top two banks – Bank of Georgia and TBC Bank – account for about 63% of the Georgian banking market. The remaining 37% is shared among 18 banks, with ProCredit Bank (7.4%), Liberty Bank (6.6%) and Bank Republic (5.5%) making up the top five. The smallest 10 banks account for just 7.35% of the country's total banking industry.

With banking sector assets representing only 70% of gross domestic product (GDP), there is significant room for growth. Most banks have introduced a range of products in order to tap the part of the population without a bank account. Liberty Bank, for example, has set up mobile banks on vans able to reach small villages in rural areas.

But they face competition from microfinance organisations (MFOs). For the unbanked population, MFOs offer easier credit availability, faster approval times and lower loan minimums, and their loan portfolios have significantly grown over the past few years.

“Many borrowers with unproven credit will take out a loan from GeoCapital and then refinance their debt with a bank after demonstrating several months of on-time payments,” says Daan Harmsen, financial manager at GeoCapital, which is Georgia’s fastest growing MFO, based in Kutaisi, the country’s second largest city. “GeoCapital considers this outcome a success, because the company has helped a previously unbankable individual move back into the financial system and made a bit of money in the process.”

Georgian banks have larger ambitions. In February 2012, Bank of Georgia (BoG), listed on the London Stock Exchange since 2006, upgraded to a premium listing, and in June it joined the selected group of the FTSE250. Its share price rose more than 30% in the year following the premium listing.

“We will continue to focus on the Georgian market where we have a competitive advantage, which is why we sold our overseas operation in Ukraine. At the same time we are not interested in buying a smaller bank with 1% or 2% market share,” says Irakli Gilauri, chief executive of BoG, which recorded a 32.3% increase in its net profit in 2012. “We want to consolidate our position and broaden our portfolio, financing specifically in the agriculture and construction sectors.”

According to analysts, the dominance of a handful of big players may lead to consolidation in Georgia's banking sector, either as the big five try to acquire a greater market share through acquisition, or as some of the smaller banks seek economies of scale by merging with other small institutions.

Trust the lari

Despite the generally positive picture, a high level of dollarisation poses a significant risk to Georgia's financial stability. About 70% of bank deposits are in foreign currencies (mainly US dollars) and only 30% in Georgian lari, and the banks’ balance sheets reflect that ratio.

“In the case of a lari devaluation, borrowers’ loan repayments would be put at risk,” says Lindsey Liddell, Fitch Ratings’ Moscow-based director for financial institutions. “Furthermore, a big rise in withdrawals of dollar deposits, for whatever reason, would put pressure on banks’ foreign currency assets and in turn potentially also on those of the central bank.”

Yet dollarisation is declining, thanks to increased macroeconomic stability, the development of the financial markets and National Bank of Georgia (NBG) reforms that mean more loans are available in lari.

“[NBG does] not want the process to happen artificially, using administrative powers," says Giorgi Kadagidze, governor of NBG. "Instead it offers market incentives. The larisation is a process of confidence, which cannot happen in a day. If we see a 3% to 4% de-dollarisation each year but with strong fundamentals behind it, NBG will be happy.” 

International financial institutions such as the EBRD and the International Finance Corporation have been helping, too. Last year, EBRD launched a €40m ($52m) programme denominated in local currency for agriculture financing. The EBRD is also actively working with the central bank in the larisation process and “is the only financial institution providing long-term funding in local currency, up to five years, to commercial banks”, says Mr Mekvabishvili.

Elusive savings culture

Interest rates remain high, with deposits in lari earning between 10% and 12%, and about 8% for foreign currencies. “It is the nature of an emerging economy [such as Georgia],” says Badri Japaridze, TBC Bank's vice-chairman and one of its founders. “Higher risks and higher returns on investment mean that banks can absorb higher interest rates, but the trend is for rates to come down." In February, NBG reduced the refinancing rate to 4.75%, a move that ProCredit and Bank of Georgia followed.

“Rates on deposits remain too high. I expect them to come down further this year,” says Sasha Terns, general director at German-owned ProCredit Bank, a dominant player in the small to medium-sized enterprise banking sector. “Interest rates on loans have stabilised, though, and will eventually follow suit, but only if the cost of funding will decrease.” 

Many bankers and analysts see the much-anticipated reform of the pension sector as a tool to lighten the dollarisation and develop Georgia’s embryonic capital markets. “The pension fund reform is in my view essential,” says Mr Japaridze. “It will help to destroy the Soviet mentality as citizens will have to plan for their retirement. It will supply the languishing Georgia Stock Exchange with much-needed liquidity, and it will provide long-term resources in lari, relieving the high dollarisation.”

Planning for the future

Not everyone agrees, however. Lado Gurgenidze, a former prime minister and CEO of Liberty Bank, says that capital market development in Georgia is limited by the size of the country (Georgia’s population is only 4.5 million). He believes that private pension schemes were invented for countries with the level of GDP per capita and demographics found in northern Europe, not Georgia.

“Seriously, if I can get a minimum of 8% on my deposit, tax free because interest is not taxed in this country, for locking up my money for one year in a deposit, what can you possibly offer me to lock my money up for 40 years? Nothing. How many fund managers do you know in the world capable of producing such a net return year after year?” he says.

Mr Gurgenidze is not alone in worrying that in its 20 years as an independent country, Georgia’s economy has come on in leaps and bounds, but Georgians may still be reluctant to make long-term plans. Nevertheless, its strong banks have underlined Georgia’s resilience and ability to grow.

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