Search
Search
Speech delivered by: Sir Suma Chakrabarti
Event: Austrian National Bank Economic Forum
Date: 24 November 2014
[Asset Included(Id:1395241060289;Type:Media)]
EBRD President Sir Suma Chakrabarti delivered this address at the Austrian National Bank annual conference on European economic integration - "The Rebalancing Challenge in Europe - Perspectives for CESEE" on 24 November.
Good morning, it is a pleasure to be here.
At the outset, let me pay tribute to OeNB’s high quality research on our countries. This integrated perspective on emerging Europe – drawing on the deep expertise and analytical rigour of one of Europe’s foremost national banks – has been invaluable in understanding our region. My colleagues at the EBRD have benefited immensely from this, both in their own research and in our discussions with policy-makers.
I also would like to recognise the leading role of OeNB and in particular Governor Nowotny in what has become known as the Vienna Initiative. I am proud that my institution, the EBRD, and OeNB along with the Austrian Ministry of Finance, launched and have maintained this unique private-public sector coordination forum. Governor Nowotny, our special thanks to you.
In thinking about how to introduce this conference I feared that some might think of your topic as backward looking. After all, re-balancing the economies of central and south-eastern Europe has been under way for some time. Indeed, the rapid withdrawal of international liquidity from our markets, and the sharp spike in risk premia in the immediate aftermath of the 2009 crisis in essence forced us to address a number of vulnerabilities:
National banking systems have adopted much more balanced funding: less foreign and more local sources of funding. As foreign wholesale and parent bank funding was rapidly withdrawn banks began to compete more for domestic deposits. The loan-to-deposit ratio has come down significantly as a result. More recently, we have seen good success in opening domestic bond markets to bank refinancing, for instance in Romania, and a number of our countries have pressed forward with developing a framework for securitised transactions. The EBRD has strongly supported the development of local currency and capital markets through its dedicated initiative since 2010.
But well-structured and managed use of foreign capital should not be abandoned. We should not throw out the baby with the bath water, as we say in the UK. Central-Eastern Europe should continue its convergence and grow considerably faster than advanced Europe. Capital inflows should accordingly flow from advanced to emerging Europe. It has been, and will remain an overall good business both for advanced country investors and the recipient countries.
Some rebalancing is occurring in the ownership structure of banks too, including with regards to foreign and domestic ownership. As long as it is taking place on the basis of market principles – some banks withdraw from non-core markets and budding domestic investors take their place – this can be a healthy and welcome development. However, we do not believe in “targets” for national ownership in any sector. One of Europe’s main achievements has been its single market, and it needs to be maintained and protected.
We have seen some success in fiscal consolidation that has, at the same time, helped create fiscal space in some countries. Our own research has shown that quite a few countries in our region have fiscal space in terms of debt sustainability as well as absorptive capacity. The latest World Economic Outlook (WEO) has demonstrated that, if well designed and executed, infrastructure projects actually can be self-financing. We at the EBRD are supporting clients and countries in our region to help prepare and select high-quality investment, which is a key precondition of growth-enhancing high impact infrastructural projects. We of course support and catalyse infrastructural investment with projects.
Finally, we have recently seen domestic consumption becoming a more meaningful driver of demand. Improving labour market dynamics in central Europe, and some revival in consumer credit have underpinned household spending. Given the renewed concerns over the Eurozone this rebalancing comes not before time.
While we have gone through the recovery of the immediate post-crisis phase, this conference addresses a crucial agenda for future years.
As the euro area continues to go through simultaneous public and private sector deleveraging, EU growth prospects remain modest. Within emerging Europe policy space for crisis management policy is heavily circumscribed, and as regards the financial sector thoroughly exhausted. A sustainable growth model is needed that is rooted in domestic productivity growth.
It is worth recalling that we have seen a significant divergence in growth paths in our region. Most notably this is evident in Poland which expanded by 20 per cent over the past five years, while the eurozone still remains more than 2 per cent below the pre-crisis peak. The growth picture in the Western Balkans remains very disappointing, and Croatia and Serbia remain in recession.
Since overcoming the immediate challenges of the post-crisis period we have seen a slow-down in structural reforms, as was demonstrated in last year’s EBRD Transition Report: Stuck in Transition. In fact, in an attempt to boost growth some countries have regressed in what we previously thought of as key goals in economic transition, and we have seen a series of reform reversals. For growth and convergence, it is indispensable that structural reforms are revitalised in the transition region.
But let me point out four challenges that are shared by most of our countries.
A first is the post-crisis overhang of non-performing loans. As in many other emerging markets that have experienced an abrupt stop to a credit boom and contraction in domestic activity we have seen a sharp rise in the level of non-performing loans. The earliest and sharpest rise came in the Baltic countries. It is instructive that active bank restructuring and reforms in the legal context for insolvency laws brought about an equally rapid decline. Proactive provisioning policies by the National Bank of Romania have recently activated the NPL sales market there and sure enough, we have seen reductions in NPLs over the past months. By contrast, economies in south-eastern Europe – whether in the EU or not – have seen a steady rise in loan delinquencies. NPL ratios above 20 per cent now impair the very functioning of the banking system, undermining investment and growth across the economy.
Along with other international institutions the EBRD has supported our countries in trying to understand the necessary regulatory and tax reforms, and we have long called for action by the public sector and the banking community alike. I am therefore very pleased that NPL resolution has become a renewed priority under the Vienna Initiative – at this point focussing on implementation and action plans in affected countries. In addition to the strong engagement by a number of bank groups, holders of bad assets, we are helping to introduce outside investors into our region who could assist in the needed restructuring effort.
A second and related challenge lies in addressing corporate debt distress. In many countries the flip-side of the banks’ NPL problem is excessive leverage in the corporate sector. All too often enterprises took on credit from a large and unwieldy group of creditor banks. Empirical studies leave little doubt that debt distress translates into a weaker record on investment, productivity growth and employment. Our countries are no exception.
What is needed is a legal environment that encourages financial restructuring, on the back of which investment and operational performance will recover. In many cases that will require new equity investors to contribute risk capital and fresh strategies. We at the EBRD have been engaged in a number of such restructuring cases – typically a complex and extensive process. Slovenia is a good example. But increasingly we seek to bring specialist investors to the region who can handle such processes on a more efficient scale, freeing up banks’ capacity to again focus on fresh lending. We welcome in this regard Austrian parent bank groups’ initiative to adopt harmonised principles to corporate restructuring.
A third challenge is presented by the precipitous decline in investment, both public and private. Europe’s rate of capital formation is still more than 15 per cent below the pre-crisis peak. Years of underinvestment – in some sectors a shrinkage of the value of real capital – will translate into weaker trend growth, compounding the investment malaise. As I mentioned earlier, infrastructure investment would likely have a particularly potent link to trend growth, and concerns over short-term debt dynamics should be assessed in the light of such growth effects.
Some of our countries have recognised this weakness and despite stretched public finances have designed innovative investment schemes that seek to attract commercial funding into priority sectors. The new EU Commission is about to propose a 300 billion euro scheme with similar ambition. The EU structural and cohesion funds remain the principal source for a range of investments and the EU Commission encourages member states to blend public with private investment sources. We at the EBRD have for 24 years endeavoured to harness capital markets for a range of public and private investment priorities. We can attest to the benefits private capital can bring to the crucial process of project selection and structuring.
Finally, a fourth challenge lies in invigorating innovation. To date much of the growth in our countries has been based on factor accumulation and the re-deployment of factors of production away from unproductive sectors. These easy gains will soon be exhausted – in particular as foreign direct investment inflows will likely remain scarce, and the challenges of ageing and a shrinking workforce are increasingly setting in.
But plenty of gains remain where enterprises raise efficiency and productivity. Lifting the exceptionally low levels of public and private R&D spending is one aspect of this agenda. But much promise also lies in encouraging firms to adopt technologies of products that already exist in other markets or structuring management processes more efficiently. Our new Transition Report that was released last week provides much detail on this issue and I am sure my colleagues will present this research here in Vienna in the coming weeks.
Ladies and gentlemen,
25 years of economic transition comprised a deep early recession, then a rapid convergence, and in 2009 a crisis that exposed the risk from overly rapid financial expansion and excessive dependence on foreign funding.
Going forward, growth will need to be more balanced. Our countries will seek balance between different sectors of the real economy, between domestic and external demand, and between different forms of funding. Crucially, the search for a new growth model is advancing, and we all need to support reforms that will underpin domestic productivity growth.
I am sure your conference will offer plenty of insights in tackling these challenges.