How the Vienna Initiative saved emerging Europe’s banking system

By Dylan Bell

How the Vienna Initiative saved emerging Europe’s banking system

Why a coordinated approach remains the way forward

Today marks the tenth anniversary of the launch of the European Bank Coordination Initiative – or the Vienna Initiative as it is known more colloquially. Officials from many of the public and private institutions involved, as well as many of the Initiative’s original architects, are convening in Austria to mark the achievements from the last ten years and discuss the challenges ahead for the banking sector.

In a speech tomorrow EBRD President Sir Suma Chakrabarti will laud the success of one of the “signal achievements of the international financial institution (IFI) system this century so far” at the full forum event in Vienna.

Pointing to the initiative as a crowning achievement of multilateralism, he says the Vienna Initiative shows what can happen when the international system improvises, shares its knowledge and builds agile platforms to tackle pressing problems.

The initiative began with the global financial crisis in 2008. The ripples that followed, which former EBRD chief economist, Erik Berglöf, described as a “wave” that engulfed many Western countries before they finally reached the shores of the EBRD’s regions, soon came crashing down.

For the emerging markets in central and southeast Europe (CESEE) that constituted the EBRD’s traditional heartland, the crisis was exacerbated by the structure of their banking sectors. Sixty to 90 per cent of the sector in those countries were owned by western European banks and fear for potential spill-over of the effects was real and palpable.

“It was this historic point where all banking in the region was cross-border, but there was no regulatory framework, and definitely no resolution mechanism. The same ten banks owned the majority of the local banks in emerging Europe,” Piroska Nagy-Mohacsi, former EBRD Director for Country Strategy and Policy Initiatives and current Programme Director at LSE’s Institute for Global Affairs, explains.

“We saw this wasn’t a country-specific problem, but a wider one. We needed to pull all of the parent banks together and have a discussion with them about stability and how to avoid rapid deleveraging in that context.”

Multilateralism at its most effective

A problem as complex as the crisis required a sophisticated solution. As such, the EBRD, together with the European Commission, EIB, IMF and the World Bank, joined forces together in the beginning of 2009 to draw up plans to address the risks facing emerging Europe. They did so by closely engaging the large parent banks and their home and host authorities.

Their primary aim was to prevent what Ms Nagy-Mohacsi calls the “rush to the exit” from parent banks, as that would leave the developing economies across CESEE crippled and without access to credit during the crisis.

They did this by signing memoranda of understanding with Western-owned parent banks, offering support and funding in exchange for maintaining their exposures and recapitalising their subsidiaries in emerging Europe.

Doing so prevented a large-scale withdrawal of cross-border banks, which could have triggered a “doom loop” between banks and sovereigns, and a contagion effect that could have spread much further than the region itself.

Over the next four years, the IFIs involved in the initiative put together two joint action plans for the region with a combined total of €54 billion. These funds were used for investments to stimulate economic growth.

“Lending in a crisis situation – you have to have a tremendous risk appetite. But we were lending because we wanted to support the region. When crisis hits, international institutions need to take risks. If they won’t, who on Earth will?” Ms Nagy-Mohacsi says.

Vienna 2.0 and beyond

The Vienna Initiative’s original purpose showed the potential of public and private coordination during financial crises, and the name reflects that.

It was defined as an initiative to reflect the voluntary, cooperative and multi-party participants involved in the endeavour, addressing the urgency these local authorities and international institutions saw in preventing an even larger crisis.

Bojan Markovic, EBRD Deputy Director for Economics, Policy and Governance, was the Vice Governor of the National Bank of Serbia during the crisis, where he noticed a surge of outflow of deposits from the country’s banking sector because the Greek-owned banks were in crisis.

And so at the EBRD’s Annual Meeting in Zagreb in 2010, he arranged to meet with Bank representatives Ms Nagy-Mohacsi and Mr Berglöf, as well as those from other international institutions, to establish how to help the Western Balkan countries that were most exposed to Greece’s problems.

The Greek Depression launched the beginning of the wider crisis that hit the Eurozone at the end of 2011 and brought with it the reincarnation of the Initiative. Vienna 2.0, as it was called, includes many of the elements that the first iteration dealt with – combining policy action with investment – and strives to address the resolution of the high percentage of non-performing loans (NPLs) that persisted in the region.

Launched in 2014, the NPL Initiative is an EBRD-led and IFI-supported project that works on reforming the restructuring frameworks for many of the 17 economies it covers. At the time of its inaugural NPL monitoring assessment, ten countries across the region were in double-digit NPL ratios, while that number is down to two according to the last report.

“The NPL Initiative is a perfect example of a case where we really achieved what we needed to do through international cooperation, coordinated policy dialogue and targeted investment,” Mr Markovic explains.

Ms Nagy-Mohacsi echoes this sentiment: “Now, more than ever, we need to look at ways that show successful stories of a coordinated, multilateral structure that the Vienna Initiative pioneered.”

As the leaders meet today in Austria to discuss the future of the mechanism and its ability to help emerging Europe to cope with potential future shocks, these lessons ring truer than ever.