EBRD and the New Europe: Financial Sector

By Axel  Reiserer

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Cityscape

After the end of communism the countries of central and eastern Europe had to build a private banking sector from scratch. Whereas in market economies banks fuel the growth of the real economy by providing loans, in planned economies they are channels for the allocation of centrally- assigned funds to the economy and depositories for private savings.

“The banking sector is the basis for the whole economy,” said Kurt Geiger, who was the EBRD’s head of Financial Institutions from 1999 to 2008 during the heyday of transformation and reform.

The transition from one model to the other was, however, a huge leap into the unknown, without a master plan in the countries and with no template to follow. Hungary had granted the first licence to a foreign private bank as early as in 1987. In Czechoslovakia the authorities started to create banks with the involvement of state-owned companies after the fall of communism, while Poland witnessed a rapid proliferation of private banks.

Also the EBRD was in its infancy. “When I joined the Bank in 1993, there were just six of us in Financial Institutions,” Mr Geiger recalled.

What was then perhaps still lacking in size was more than compensated for by enthusiasm. “We were hired as individuals with private sector experience and told to go out and apply our expertise and knowledge,” he said. “We travelled through the countries, introduced ourselves and asked: ‘What do you need and how can we help you?’”

In many cases the EBRD was the first lender, often to overcome interested Western banks’ and investors’ reluctance to engage what was then still largely unknown territory. This often went hand in hand with technical assistance programmes under which EBRD experts worked together with commercial Western banks to analyse banks and develop recommendations for restructuring and the establishment of proper corporate governance.

The first loan the Bank provided to a financial institution was a $50 million credit line for Bank of Poznan (WBK) in May 1991. It was the beginning of a commercial relationship which lasts to this day.

From the outset, the EBRD offered loans and equity to the emerging private sector in the region. In addition, the Bank put particular emphasis on international business standards, best practice and corporate governance.

“We looked after standards not only in our partner banks, but also in our talks with governments and supervisory authorities. We made a real difference here for the whole sector, I think,” Mr Geiger said. “We acted like a shareholder activist.”

Analysing the sector’s development he sees two major milestones: privatisation and the expansion of Western banks to the region. In both, the EBRD played a major role.

In the beginning, it was not always money that mattered most. “We were dealing with comparatively small amounts,” Mr Geiger remembered. What made the EBRD’s contribution special were the expertise and the deep involvement with the clients in which the Bank took equity stakes.

“We adopted a very hands-on approach and set out very clear reform targets in a pretty demanding timeframe. To a certain degree this was also a way to mitigate the risk. The more we knew and the more we were involved the less we had to fear unwelcome surprises.”

The results speak for themselves. Over the years the EBRD has provided over 200 loans for €3.2 billion to 98 financial institutions in Central and Eastern Europe (EU8) and made 59 equity investments for €1.4 billion. The Bank’s record year in the EU8 in financial institutions was in 2009 at the peak of the financial crisis with €734 million in new loans and investments.

Long before the term “seed money” was coined, the EBRD also played a pioneering role in the development of the private equity industry in central and eastern Europe. Investments of €3.4 billion to private equity along with a further €14.9 billion raised from other investors went into the development and the growth of some of the regions’ most innovative, dynamic and ground-breaking companies.

The financial sector has continued to be the largest single area of EBRD investment with an overall share of 30 per cent (€4.6 billion) of cumulative signings in Central Eastern Europe and the Baltics (€15.1 billion).

Throughout the period, the Bank has retained its insistence on structural reforms, the adoption of best practice and the implementation of international standards. The EBRD’s early engagement was focused on financing the real economy – first and foremost the SME sector – through local financial intermediaries. The existence of successful and viable banks in itself played a crucial role in raising the region’s attractiveness to foreign investors.

In the development of the financial sector in central and eastern Europe Mr Geiger sees three distinct phases: the early, often chaotic years of trial and error with roaring successes and crushing defeats.

The second phase was the consolidation period when the countries’ aspirations to become members of the European Union and adopt its rules and regulations became the decisive factor.

“The pursuit of European integration as the preeminent political goal provided the countries with the determination to implement many demanding measures. I think especially in this process we have played a role of which we can be proud of,” said Mr Geiger.

As the sector developed and became more sophisticated the EBRD also expanded its range of products. While debt and equity remain the two major instruments, the Bank developed a targeted approach to support small businesses with dedicated credit lines (€739 million through the EU/EBRD SME Finance Facility alone), specialised leasing lines, mortgage finance, securitisation programmes and other initiatives.

The EBRD was also – and remains – active in the non-bank financial sector. Some of Western Europe’s largest insurance companies, such as Allianz or Winterthur, made their first steps into central and eastern Europe with the EBRD. The EBRD has invested over €1 billion in insurance companies and other financial services in the EU8, providing 49 loans and making 25 equity investments.

The third phase is now. Central and eastern Europe was hit severely by the 2008/09 financial slump and the EBRD has been instrumental in overcoming the crisis and helping the region return to growth.

“Obviously we have a very different role from the one we had in the early days,” said Nick Tesseyman, the Bank’s current Managing Director for Financial Institutions. “But the financial crisis has demonstrated that the EBRD remains very relevant in the financial sector and has an important role to play in supporting the development of sound, sustainable banking and financial services in the region.”

The Bank expanded its activities and investments massively with €1.5 billion in the region in 2009/10 alone. The EBRD-led Vienna Initiative was crucial in avoiding uncoordinated withdrawal and deleveraging of Western parent banks with potential catastrophic consequences from the region.

The crisis has not been succeeded by a speedy recovery. Access to finance remains scarce and challenging. The EBRD can still make an impact: “Our major strengths are our long term commitment to the region and a continued drive to deliver products that are relevant to the needs of banks and their clients,” Nick Tesseyman said.

But Kurt Geiger retains his confidence. “This is a fundamentally sound region with a dynamic population and large pent-up demand,” he said.

 
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