The EBRD’s Lopsided Transition Tread
The EBRD’s 2015-16 transition report focuses on missing financial system features since the last detailed look a decade ago, and in particular on debt buildup and lackluster small business and private equity channels. Despite the end of the credit boom in 2008, the post-crisis debt/GDP ratio has risen 25 percent to almost 125 percent, above the global average for the period. The levels outside Cyprus and Greece jumped most in Ukraine, Mongolia, Armenia and Slovenia and the aggregate proportions are highest in Croatia and Hungary. Hard currency (euro, dollar and Swiss franc) corporate and household exposure is 50 percent compared with 30 percent in other emerging economies, and despite private sector deleveraging government obligations increased to support domestic demand and ailing banks. The investment/output ratio in turn has been stuck at 20 percent, with an estimated $75 billion in annual unmet needs. Non-performing loan loads at 15 percent throughout Southeast Europe and Kazakhstan remain a drag without bankruptcy procedure and distressed instrument remedies.
Of the individual debt categories, corporate growth is still available in a cross-section of countries including Estonia, Poland, Bosnia and Herzegovina and Georgia and could boost infrastructure in particular. In the initial post-communist decade this allocation came to 3.5 percent of GDP, and governments have absorbed 60-70 percent of the cost, leaving ample room for FDI and capital markets to fill the gap, with public and private equity layers especially lacking. However small firms with less collateral and transparency will continue to be frozen out under tighter conditions and “cumbersome” application processes, according to EBRD surveys. Simplification is urgent in Albania and Tajikistan, and credit registries could otherwise be introduced without legal changes. Leasing, factoring and microfinance are developing as alternatives, but to make real inroads they require a “second phase” of regulatory and statutory revisions, the findings add.
From 2008-14 only 1 percent of global private equity or $20 billion went to the region, and three-quarters was in venture capital deals. The emerging market portion also halved from 20 percent pre-crisis, and in the main targets Poland, Russia and Turkey the activity is less than 0.1 percent of GDP, with net returns around 15 percent. The EBRD has invested in 100 funds over its history, and retail, consumer goods and information technology have been the leading sectors. Buyout transactions have shown the biggest payouts but typically entail leverage no longer provided by mainstream banks as they cope with new risk-weighted capital and liquidity formulas. Potential portfolio companies have a $60 billion book value, and the number could triple to 2000 and create 40,000 jobs with the right policy help. In 2014 a comprehensive corporate governance analysis revealed major gaps in shareholder rights and board independence. Public equity markets can be an outlet, but only Poland, Romania and Turkey have “fledgling” small business tiers. Private pensions have also been rolled back in the region as a natural long-term investor base. Stock market development indicators put capitalization/GDP under 0.1 percent for most of the top 15 countries, and diversification had faded with a 0.8 correlation with Western Europe. The report concludes that economic growth will be flat this year and just 1.5 percent in 2016, while the financial sector structural reform rankings across banking, insurance and securities are barely positive across the 35 members yet to rebalance the score.
