Central Asia’s Frozen Financial System
A new World Bank report examining Emerging Europe and Central Asia’s 25-year financial sector reform record cites recovery since the 2008 crisis, with lingering weakness in a boom-bust credit pattern and lack of non-bank and securities market diversification. Regional bad loans average almost 10 percent, and compliance with Basel III and EU regulations has been elusive particularly in the least open eastern economies. Several countries at different development stages including Russia, Turkey, Armenia and Tajikistan signed the Maya Declaration on financial inclusion without underlying resilience to reach targets. Since independence banking’s fraction of GDP quadrupled to 55 percent but the late 1990s and 2000s featured consecutive crashes sparing only the least integrated and backward systems. Liberalization and control trends have exacerbated swings, and liquidity bubbles illustrated by 200 percent range loan-deposit ratios joined with foreign currency mismatches for major shocks. The “spare tire” of other savings products through insurance and capital markets lags other developing regions, and policymakers should set priorities across the matrix of stability, efficiency, inclusion and depth considerations for better performance, according to the study. From a long-term growth standpoint the greatest impact is through deeper engagement and penetration of households and firms, with the latter benefiting especially from stock market new equity issuance. Small business access is limited and low bank trust, around 50 percent in surveys, inhibits individual participation. However splits between expanded use and soundness and other factors are “inadequately addressed” as central banks, finance ministries and government agencies often work at cross-purposes and lack overarching strategies. The IMF and World Bank were involved in early efforts but country authorities have increasingly assumed ownership as in Ukraine’s working group approach under its latest aid program. These blueprints have improved over time but still fail on basic communication and coordination measure and are frequently absent altogether, leaving officials, intermediaries and investors without a common design.
Central Asia and Russia have the most scope for better balance, while Armenia is among the bottom-up leaders still missing overall sophistication. The Czech Republic and Poland are the strongest across indicators, while the Western Balkans is behind on efficiency. Turkey’s emphasis should be on stability through macro-prudential limits with recent years’ credit volatility, the authors suggest. They conclude that the top challenges should be tackling high NPLs, establishing cross-border supervision, running crisis simulations, overhauling state bank governance, and broadening electronic payments networks. Capital markets are often small and could achieve scale with neighbor tie-ups, but international financial center ambitions as in Istanbul, Astana and elsewhere may be extreme. Private pension fund schemes that build the institutional investor base have been overlooked and their portfolio guidelines should not be weighed down with government funding requirements. Poland’s pools shrank with recent social security takeovers and the stock market was off 10 percent on the MSCI index through November. Frontier components with nascent or absent “pillar 2” frameworks were mixed for the period, with Croatia and Ukraine leading the pack with over 15 percent gains; Lithuania and Slovenia with heavy losses; and Estonia, Romania and Serbia flat to modestly positive on shifting spare tire readiness.
