## _cr1674 — Executive Summary and Stress Test Results

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### Objective, scope, and data
- Objective: assess resilience of Moldova’s banking system to major sources of risk as part of the 2014 Financial Sector Assessment Program (FSAP) Update.
- Coverage: all 14 banks operating in the country (Share of total sector assets: 100 percent).
- Data and baseline date: supervisory data as of September 30, 2013 (top-down) and banks’ own data for bottom-up tests.
- Key aggregated system figures (from supervisory data):
  - Total assets: 69,094 (MDL millions)
  - Total loans: 38,457 (MDL millions)
  - Total deposits: 48,033 (MDL millions)
  - Total regulatory capital: 7,766 (MDL millions)
  - Total risk-weighted assets (RWAs): 33,376 (MDL millions)
  - Capital adequacy ratio (in percent of RWAs): 23.3 (All banks), 22.2 (5 largest banks), 25.2 (All other banks)
- Stress test projection period: 2014–18. Stress test horizon: 1 year/period (instantaneous shocks, constant balance sheet assumption).

### Macroeconomic scenarios and translations
- Four macroeconomic scenarios used: one baseline (IMF Area Department projections as of December 2, 2013) and three adverse scenarios (External I / External II / Domestic), with detailed scenario paths for Real GDP growth, CPI inflation, MDL/USD, MDL/EUR, MDL/RUB, NEER, REER, NIKA index growth, Unemployment rate, Domestic credit growth (Table 6 excerpts preserved numerically in source).
- Adverse scenarios (qualitative):
  - Adverse Scenario 1: deeper than expected slowdown in major emerging markets with lower oil prices → moderate slowdown in Russia → adverse effects on Moldova's trade, remittances, and capital inflows.
  - Adverse Scenario 2: severe global shock from disorderly unwinding of unconventional monetary policies → global financial market stress, increase in sovereign spreads, re-intensification of euro area periphery stress, fall in global oil prices → Russia’s real GDP growth falls sharply → combined trade, remittances, and capital inflow shocks cause a fall in Moldovan output larger than observed in 1998-99 and 2008-09.
  - Adverse Scenario 3: severe drought in Moldova plus restrictions on exports to Russia → agriculture output and exports fall → overall GDP growth declines, MDL depreciates, and interest rates rise.
- Translation into risk factors: scenarios quantified a broad set of macro and financial variables and were mapped into loan migration (NPLs), issuer default probabilities, interest rate shocks, exchange rate paths, and deposit run-off assumptions.

### Solvency and credit risk results
- Main risk: Credit risk on the loan book is the dominant risk factor; FX-denominated loans are highly sensitive to exchange rate and macro developments.
- Top-down loan-book loss estimates (based on increases in provisions implied by loan migration):
  - MDL 1.7 billion in “adverse scenario 1”.
  - MDL 5.0 billion in “adverse scenario 2”.
  - Equivalent to 1.7 and 5.1 percent of total banking system assets, respectively.
- Modeling notes:
  - NPL-ratio modeled via logit transform; Equation [2] estimated separately by currency using annual data over 1998-2012; main macro drivers include real GDP growth, the exchange rate, and interest rates.
  - Real GDP growth has a negative and significant effect on NPLs; appreciation of the MDL lowers NPLs.
- Top-down versus bottom-up alignment:
  - Overall broad alignment, but top-down aggregate increases in NPLs are noticeably larger than bottom-up results.
  - Largest differences concentrated in EUR and USD denominated loans where top-down implies significantly larger provisions.
  - Some banks’ bottom-up models show almost no reaction of NPLs to adverse macro scenarios.

### Issuer default risk (fixed income holdings) and equity investments
- Debt instrument holdings:
  - Debt instrument holdings represent less than 8 percent of total assets.
  - Government bonds represent around 95 percent of these holdings.
- Sovereign default calibration:
  - Moldova’s sovereign 12-month default probability (Moody’s B level): 3.391 percent.
  - Sovereign recovery rate assumed: 90 percent (based on Moldova’s technical default experience in 2002).
  - Corporate initial default probability assumed equal to sovereign: 4.466 percent; corporate recovery rate: 32.8 percent (World Bank Doing Business).
- Expected losses on debt holdings are relatively small; expected losses increase with severity of macro shock via higher sovereign default probability.
- Equity holdings:
  - Total equity holdings amount to less than 1 percent of total assets.
  - All equity investments held as AFS; companies usually not listed → equity risk treated as credit risk (potential corporate bankruptcies).
  - Potential losses from equity exposures are relatively small.

### Market risk (interest rate and FX) results
- Interest rate risk:
  - Assessed via time-to-repricing buckets: less than 1 month; 1 to 3 months; 3 to 6 months; 6 to 12 months; more than 12 months.
  - Percentage of interest rate sensitive items with repricing < 1 month:
    - 79 percent of interest rate sensitive assets.
    - 68 percent of interest rate sensitive liabilities.
  - Interest rate shocks (standard deviations over 1997–12): Adverse Scenario 1: 0.7 standard deviations; Adverse Scenario 2: 1.5 standard deviations; Adverse Scenario 3: 1.1 standard deviations.
  - Most loans are floating rate; repricing gaps small → limited interest rate risk on net interest income; many banks show modest positive repricing gaps yielding potential interest income gains under rising rates.
  - Valuation effects on bond holdings limited due to small holdings and prevalence of HTM government bonds.
- Exchange rate risk:
  - Assessed by net open FX positions by currency (USD, EUR, RUB, other); “other currencies” positions: less than 0.5 percent of banks’ total FX positions.
  - Regulatory caps: 10 percent of capital for each individual currency; 20 percent of capital for aggregate net open position.
  - Most banks keep net open FX positions close to zero; implied FX gains/losses small even under sharp depreciations.
- Market risk results broadly similar between top-down and bottom-up exercises; differences reflect banks’ translation of macro scenarios into risk parameters.

### Concentration risk and interbank contagion
- Name concentration sensitivity methodology: hypothetical default of largest N borrowers using supervisory largest exposure data; central case recovery rate: 32.8 percent; alternative recoveries tested.
- Key concentration metrics and impacts (system interpretation):
  - Average relative size of largest exposure ≈ 20 percent of total regulatory capital.
  - Dispersion of largest exposure across banks: 7 percent to 68 percent of capital.
  - Default by the largest exposure of each bank implies a capital shortfall of around MDL 231m (0.2 percent of GDP).
  - Under extreme scenario (simultaneous default by the five largest exposures in each bank and "zero" recovery rate):
    - Number of insolvent banks: 2
    - Total capital shortfall: around MDL 3,181m (3.1 percent of GDP) — Table 3 entries show implied capital shortfall examples: 421 / 231 / 125 / 3,181 / 898 / 210 (MDL millions) under different recovery assumptions.
- Interbank contagion:
  - Domestic interbank contagion risks limited due to a thin domestic interbank market.
  - Using end-September 2013 data, no significant cascade effects domestically; at most one small bank could be distressed if a large bank defaults, with no systemic cascade.
  - Cross-border interbank risk: some domestic banks have interbank exposure to a single foreign bank larger than their total capital; default or blocking by that foreign counterparty could render those domestic banks insolvent.
  - Other contagion channels (confidence, reputational, non-transparent relationships) were not analyzed and could pose additional systemic risk.

### Liquidity stress tests and FX liquidity
- Framework: Basel III LCR-type proxies (30-day stressed LCR) for domestic currency and FX; NBM-specific assumptions and Basel III assumptions used for comparison.
- Key liquidity metrics (system-wide):
  - Aggregate LCR using NBM methodology: around 167 percent.
  - Aggregate LCR under Basel III assumptions: 110 percent.
  - Under NBM methodology: all banks exceed 100 percent LCR; under Basel III assumptions: potential liquidity shortfall around MDL 1.6 billion (1.6 percent of GDP), concentrated in four banks.
- Liquidity buffer and outflow assumptions (selected items; values preserved as in source):
  - Liquidity buffer — Central bank instruments (2-week CBNs): 0 / 0 (LCR - NBM methodology / LCR - Basel III assumptions)
  - Liquidity buffer — Government securities eligible as collateral RM<35 days: 5 / 15
  - Liquidity buffer — Interbank claims with less than 1 month maturity: 50 / 100
  - Potential outflows — Deposits: Interbank: 69 / 100
  - Potential outflows — Deposits: Households: 26 5 - 10
  - Potential outflows — Deposits: Corporates: 16 5 - 75
  - Potential outflows — Non-deposit liabilities maturing in 1 month: 100 25 - 100
  - Total contingent engagements: 10 / 10
- FX liquidity:
  - FX LCR system-wide: 160 percent.
  - FX shortfall: implied overall FX liquidity shortfall around MDL 1.2 billion (USD 89mn); this is roughly equivalent to 3 percent of central bank FX reserves.
  - Four banks exhibit FX LCR below 100 percent; a couple of banks rely on overnight FX claims and large cross-border interbank placements of questionable genuineness.
  - Central bank emergency FX lending not provided; MDL borrowing and FX conversion is an available, but imperfect, liquidity channel.
- Liquidity linked to solvency:
  - LCR-CR methodology links deposit run-off rates to bank CARs; losses implied by LCR linked to solvency risk amount to around MDL 1.2 billion (1.2 percent of GDP).
  - The same banks with potential liquidity shortfalls are those with concentrated portfolios and large foreign interbank exposures.

### Aggregate stress results, capitalization and shortfalls
- Selected solvency test baseline and post-shock figures (as of 30-Sept-2013; millions of MDL where indicated):
  - Total regulatory capital - before shock: 7,766 (MDL millions)
  - Total risk-weighted assets (RWAs): 33,376 (MDL millions)
  - Total assets: 69,094 (MDL millions)
  - Total regulatory capital-ratio (CAR) - before shock: 23.3 (in percent of RWAs)
- Examples of stress test estimated losses after shock (selected line-items show variations across scenarios and top-down/bottom-up where applicable; values preserved as in source):
  - Changes in provisions due to loan migration (Top-Down / Bottom-Up example entries): (267), 41, (1,720), (550), (5,021), (1,892), (2,527), (821) (MDL millions)
  - Expected gains/losses on government bond holdings due to issuer default risk: (19), (4), (32), (16), (72), (47), (43), (36) (MDL millions)
  - Expected gains/losses on corporate bond holdings due to issuer default risk: (9), (1), (15), (3), (31), (9), (19), (7) (MDL millions)
  - Expected gains/losses on equity instruments: (13), 1, (22), (1), (48), (12), (29), 11 (MDL millions)
  - Expected gains/losses on interest income: 50, 48, 198, 211, 432, 544, 260, 295 (MDL millions)
  - Expected gains/losses on net open FX positions: 4, 4, 14, 13, 68, 50, 28, 33 (MDL millions)
  - Total expected losses (examples across scenarios): (257), 89, (1,595), (345), (4,712), (1,370), (2,358), (528) (MDL millions)
- Selected capitalization after shock (examples from results):
  - Total regulatory capital - after shock (examples; MDL millions): 7,509; 7,855; 6,195; 7,445; 3,054; 6,396; 5,408; 7,238
  - Total regulatory capital-ratio (CAR) - after shock (in percent of RWAs): 22.5; 23.5; 18.6; 22.3; 9.2; 19.2; 16.2; 21.7
  - Implied capital shortfall (if any) (in millions of MDL): 85; 81; 592; 135; 2,814; 510; 953; 149
    - Note: implied capital shortfall is the amount required so that the CAR of each bank is equal or above 16 percent of RWAs.

### Main conclusions and vulnerabilities
- Overall assessment:
  - The banking system "appears to be well-capitalized and liquid, but significant vulnerabilities remain in specific segments."
  - Aggregate stress losses (mainly increased provisions in the loan book) are non-negligible but judged manageable at the system level based on supervisory data used.
  - System-wide liquidity ratios appear broadly adequate in both local and foreign currencies.
- Concentration of vulnerabilities:
  - Significant vulnerabilities concentrated in three banks: large concentration risks, significant cross-border interbank exposures, and questionable quality of some liquid assets.
  - These three banks are highly interconnected among themselves but present low direct linkages with other domestic banks; direct spillovers to the rest of the system are likely limited.
  - Indirect contagion channels (e.g., reputational risk) were not assessed and could pose significant systemic risks.

### Methodology notes, assumptions, and limitations
- Instantaneous shocks and behavioral assumptions:
  - Stress tests conducted as single-period "instantaneous shocks" to capture cumulative and lagged effects over 2014–18; RWAs and balance sheet composition held constant.
  - Income items such as net fees and commission, operating costs, taxes and dividends not considered; no management actions assumed.
  - Under Basel I, risk weights remain constant; multi-period exercises could yield different CAR dynamics when RWAs and risk weights evolve.
- Preconditions for multi-period stress testing (Appendix III):
  - (a) Sufficient data on macroeconomic and financial variables.
  - (b) Sufficient data on different income items of the P&L.
  - (c) Ability to model evolution of RWAs (changes in volumes and "riskiness") under scenarios.
  - Suggested technical remedy under Basel I: mapping into a "quasi-Basel II standardized approach" to allow risk weights to change with asset "rating."
- Coverage of risk channels:
  - Stress tests covered credit risk (loan book and issuer default), market risk (interest income, valuation, FX), equity investment risk, concentration risk, interbank contagion (domestic and cross-border), and liquidity including FX liquidity.
  - Non-quantified channels: non-transparent relationships and indirect contagion channels (reputational, confidence) were not assessed.

*Source: IMF staff and National Bank of Moldova supervisory data and FSAP team analysis as presented in the provided document.*

### EXECUTIVE SUMMARY___________________________________________________________________________ 5

### _cr1674 - EXECUTIVE SUMMARY___________________________________________________________________________ 5

### Executive summary
- Objective: assess resilience of Moldova’s banking system to major sources of risk as part of the 2014 Financial Sector Assessment Program (FSAP) Update.  
- Coverage: all 14 banks operating in the country. Top-down solvency stress tests (joint FSAP team and NBM) using supervisory data as of September 30, 2013, complemented by bottom-up stress tests by individual banks using their internal models and the FSAP macroeconomic scenarios. Liquidity stress tests and complementary sensitivity analyses were conducted for all banks.  
- Key aggregated system figures (from supervisory data):  
  - Total assets: 69,094 (MDL millions)  
  - Total loans: 38,457 (MDL millions)  
  - Total deposits: 48,033 (MDL millions)  
  - Total regulatory capital: 7,766 (MDL millions)  
  - Total risk-weighted assets (RWAs): 33,376 (MDL millions)  
  - Capital adequacy ratio (in percent of RWAs): 23.3 (All banks), 22.2 (5 largest banks), 25.2 (All other banks)  
- Sector structure and exposures: loans represent 56 percent of total assets; FX-denominated loans represent 43 percent of the lending book; assets of largest five banks account for almost 70 percent of the system. A couple of banks have sizeable interbank exposures vis-à-vis domestic and cross-border counterparties.

### Macroeconomic scenarios used in the stress tests
- Four full-fledged macroeconomic scenarios were used: one baseline (IMF Area Department projections) and three adverse scenarios developed by the FSAP team and agreed with authorities. Projections under each scenario quantified a large set of macroeconomic and financial variables (see Table 6 in source). The three adverse scenarios are:
  - Adverse Scenario 1: deeper than expected slowdown in major emerging markets with lower oil prices → moderate slowdown in Russia → adverse effects on Moldova's trade, remittances, and capital inflows.
  - Adverse Scenario 2: severe global shock from disorderly unwinding of unconventional monetary policies → global financial market stress, increase in sovereign spreads, re-intensification of euro area periphery stress, fall in global oil prices → Russia’s real GDP growth falls sharply → combined trade, remittances, and capital inflow shocks cause a fall in Moldovan output larger than observed in 1998-99 and 2008-09.
  - Adverse Scenario 3: severe drought in Moldova plus restrictions on exports to Russia → agriculture output and exports fall → overall GDP growth declines, domestic currency depreciates, and interest rates rise.
- Baseline scenario: projections provided by IMF Area Department team as of December 2, 2013.

### Solvency and credit risk findings
- Credit risk on the loan book is the main risk factor for the banking system. Top-down tests find asset quality, especially for foreign currency denominated loans, is highly sensitive to macroeconomic and exchange rate developments.
- Estimated potential loan losses due to credit risk (top-down): range from MDL 1.7 billion (1.7 percent of GDP) in Adverse Scenario 1 to MDL 5 billion (5.1 percent of GDP) in the most severe scenario.
- Other credit-risk sources are contained due to relatively small exposures to government and corporate bonds and limited equity investments.
- Top-down vs bottom-up alignment:
  - Overall top-down and bottom-up results broadly aligned, except for credit risk on the loan portfolio: top-down aggregate increases in non-performing loans (NPLs) are noticeably larger than bottom-up results.
  - Main differences concentrated in EUR and USD denominated loans where top-down calls for significantly larger provisions.
  - Some banks’ bottom-up models show little or no reaction of NPLs to adverse macroeconomic scenarios, biasing aggregate bottom-up outcomes.

### Market risk and valuation findings
- Interest rate risk: limited, because most loans are issued at floating rates and the asset-liability repricing gap is small.
- Valuation risk on debt instrument holdings: relatively small amounts involved; most instruments are held-to-maturity and none of the banks holds trading securities.
- Exchange rate risk: contained. All banks comply with regulatory limits and exhibit fairly small net open FX positions; net positions across currencies do not necessarily move in the same direction, providing natural hedging.

### Concentration and interbank contagion risk
- Concentration risk: high in specific segments. Average large exposure share at system level moderate, but a few banks have very large single-name exposures. In one case, the combined amount of the two largest exposures exceeds the bank’s total regulatory capital.
  - Sensitivity analysis: potential losses manageable at system level, but a couple of banks could become insolvent if a small number of their largest exposures default.
- Interbank contagion risk (domestic): small, due to limited domestic interbank transactions; hypothetical default of any bank would not trigger cascade effects domestically.
- Cross-border interbank risk: some domestic banks have significant interbank exposures to foreign banks; default or blocking of those foreign counterparty funds could render a couple of domestic banks insolvent, though losses would likely be contained within those banks and not cause direct system-wide impact.
- Note: non-transparent relationships and indirect contagion channels (e.g., reputational risk) were not assessed and could pose significant systemic risks.

### Liquidity stress test findings
- Overall system liquidity: generally sound. Liquidity stress tests based on Basel III LCR-type proxies show system-wide liquidity coverage ratio exceeding 100 percent.
- FX liquidity: similar outcomes when assessed separately.
- Potential liquidity shortfalls:
  - Aggregate potential liquidity shortfall around MDL 1.6 billion (1.6 percent of GDP).
  - In FX: MDL 1.2 billion (USD 89mn), representing 3 percent of central bank FX reserves.
- Caveats: a couple of banks’ ability to meet liquidity norms relies on large cross-border interbank placements; concerns exist about the genuineness of the liquidity of these positions.

### Overall assessment and vulnerabilities
- Aggregate stress losses (mainly increased provisions in the loan book) are non-negligible but manageable at the system level based on supervisory data used.
- System-wide liquidity ratios broadly adequate in local and foreign currencies.
- Significant vulnerabilities concentrated in three banks: large concentration risks, significant cross-border interbank exposures, and questionable quality of some liquid assets.
  - These three banks are highly interconnected among themselves but have low identified direct linkages with other domestic banks; direct spillovers to the rest of the system are likely limited.
  - Indirect contagion risks and non-transparent relationships (not assessed) could, however, pose significant risks to overall stability.

### Methodology and structure of the note
- Stress tests included top-down solvency tests, bottom-up bank-run tests, issuer default risk on debt instruments, equity investment risk, market risk (interest income, valuation gains/losses, FX open positions), concentration risk sensitivity, interbank contagion analysis, and liquidity stress tests including FX liquidity.
- Note structure: Section II — banking sector description and stress test coverage; Section III — macroeconomic scenarios; Section IV — solvency stress test methodologies; Section V — liquidity stress tests; Section VI — conclusions.

*Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2016/_cr1674.pdf*

### 4.      Banking sector losses were based on “instantaneous shocks”. Although the

### _cr1674 - 4.      Banking sector losses were based on “instantaneous shocks”. Although the

### Instantaneous shocks and behavioral assumptions
- Banking sector solvency and liquidity assessment was conducted for a single period using “instantaneous shocks” despite multiyear macroeconomic projections for 2014–18.
- The “instantaneous shocks” aim to encompass cumulative and lagged effects of several macroeconomic variables rather than representing a single calendar year.
- Risk weights under Basel I remain constant throughout the simulation horizon; therefore, evolution of the CAR under the constant balance sheet assumption derives mainly from changes in capital (the numerator) owing to increased provisions and net income losses, rather than from changes in risk-weighted assets.
- In a multi-period setting, the resulting CAR would reflect the cumulative expected net losses over the five year horizon, which can be smaller than those implied by the “instantaneous shocks” used in these stress tests.
- Main behavioral assumptions used in stress tests:
  - RWAs will remain constant at their pre-shock level.
  - Balance sheet composition will remain unchanged.
  - Income items such as net fees and commission, operating costs (wages, bonuses, etc), taxes and dividends are not taken into consideration.
  - Stress tests conducted under the constant balance sheet assumption to ensure consistency across banks and comparability of results.
- Footnotes and context:
  - This is the first time that Moldovan banks conduct bottom-up stress tests relying on their own internal methodologies; this, together with extensive risk coverage, posed challenges for some banks even within a single period stress testing framework.
  - See Appendix III for discussion of preconditions to conduct adequate multi-period stress tests.

### Solvency stress test: coverage and structure
- The FSAP solvency stress tests covered an extensive set of risk factors (Appendix I), including:
  - Credit risk (loan book and fixed income holdings / “issuer default risk”).
  - Market risk (interest and exchange rate risks).
  - Risks related to equity instrument holdings.
  - Concentration risk.
  - Contagion risk via interbank exposures, domestic and foreign.

### A. Credit Risk — loan book
- Loans to the economy represent more than half of total banking sector assets; a large share is directed to the corporate sector.
- Given the relatively large share of FX denominated loans, stress tests account for indirect effects of FX risk through credit risk.
- Due to lack of data on PDs and LGDs, the ratio of nonperforming loans (NPLs) (in percent of total loans) was used to assess credit risk in the loan portfolio.
- Losses related to credit risk were computed based on the increase in provisions implied by loan migration associated with increases in NPLs under stress.
- Modeling approach:
  - A logit transformation was applied to the original NPL-ratio to ensure predictions between 0 and 1 (0 and 100 percent).
  - The logit transform of the NPL-ratio for bank i at time t is modeled as a linear function of a vector of macroeconomic variables, individual bank fixed effects, and a well-behaved error term. Equation [2] was estimated separately by currency.
  - Equation [2] was estimated using annual data over 1998-2012; NPLs disaggregated across 20 economic sectors and by currency (MDL, USD, EUR, other).
  - Main macro drivers: real GDP growth, the exchange rate, and interest rates (to a lesser extent).
  - Real GDP growth has a negative and significant effect on credit risk (higher growth → lower NPL-ratio).
  - Appreciation of the MDL exchange rate lowers the NPL-ratio.
  - Specification [3] was used for modeling NPLs thereafter.
- Quantitative credit loss findings:
  - Credit risk losses on the loan book (top-down) range from MDL 1.7 billion in “adverse scenario 1” to MDL 5.0 billion in “adverse scenario 2,” equivalent to 1.7 and 5.1 percent of total banking system assets, respectively.
- Top-down vs bottom-up:
  - Top-down implied increases in aggregate NPLs are noticeably larger than bottom-up results (Table 8).
  - Main differences arise for FX-denominated loans (EUR and USD) where top-down calls for significantly larger provisions.
  - Some banks’ bottom-up NPLs show almost no reaction to macroeconomic conditions, which appears less plausible.

### A. Credit Risk — issuer default risk (fixed income holdings)
- Debt instrument holdings include domestic government bonds, corporate bonds and other debt instruments (such as foreign sovereign bonds) across AFS, HFT, and HTM portfolios.
- Overall these holdings represent less than 8 percent of total assets.
- Expected losses on these holdings are relatively small because government bonds represent around 95 percent of these holdings.
- Expected losses reflect increases in probability of sovereign distress when macroeconomic outlook deteriorates; more severe negative shock → higher probability → higher expected losses.
- Box 1 methodology highlights:
  - Moldova’s current sovereign rating per Moody’s is in the “B level” category with a 12-month default probability of 3.391 percent; this level is the starting point in the FSAP stress test.
  - A panel regression elasticity between sovereign default logit and year-on-year real GDP growth was estimated (elasticity estimate referenced in text).
  - A recovery rate of 90 percent was assumed for sovereign holdings based on Moldova’s technical default experience in 2002.
  - Corporate sector rating assumed equal to sovereign, with initial corporate default probability of 4.466 percent; corporate LGD based on World Bank doing business report recovery rate of 32.8 percent.

### B. Market Risk
- Market risk channels included interest rate risk and exchange rate risk; other market risks (stock prices, volatilities) not relevant because Moldovan banks do not hold securities for trading purposes.
- Interest rate risk:
  - Assessed using time-to-repricing buckets: less than 1 month; 1 to 3 months; 3 to 6 months; 6 to 12 months; and more than 12 months.
  - Time-to-repricing gap = difference between interest rate sensitive assets and liabilities in the same bucket.
  - Expected losses/gains on interest income computed as product of gap and change in interest rate.
  - Conservatively, the largest net losses on any gap with repricing less than 12 months considered as representing the “instantaneous loss” due to the interest rate shock.
  - Envisaged interest rate shocks represent increases of 0.7, 1.5 and 1.1 standard deviations (in historical terms over 1997–12) under Adverse Scenarios 1, 2, and 3, respectively.
  - Vast majority of lending book is floating rate; 79 percent of interest rate sensitive assets and 68 percent of interest rate sensitive liabilities have time-to-repricing lower than one month.
  - Most banks present some positive, albeit relatively small, time-to-repricing gap enabling moderate interest income gains when interest rates rise (Table 7).
  - Valuation effects on bond holdings assessed by computing Macaulay duration, portfolio average duration, and applying change in bond yield; valuation losses/gains = portfolio size × average duration × change in interest rate.
  - Potential valuation losses on fixed income instruments remain limited due to limited exposure and prevalence of HTM government bonds.
- Exchange rate risk:
  - Assessed using net open FX positions by currency: USD, EUR, RUB, and “other currencies.”
  - Implied gains/losses = net open position × expected depreciation of corresponding currency in each scenario.
  - “Other currencies” positions minimal (< 0.5 percent of banks’ total FX positions).
  - Explicit exchange rate paths for USD, EUR, RUB (against MDL) provided in all scenarios; NEER path used for “other currencies.”
  - Most banks keep net open FX positions close to “zero”; existing regulatory caps: 10 percent of capital for each individual currency, and 20 percent of capital for aggregate net open position.
  - Therefore implied FX gains/losses remain small despite sharp depreciations in adverse scenarios.
- Overall market risk results:
  - Market risk losses are broadly similar between top-down and bottom-up stress tests; differences mainly due to how individual banks translated macro scenarios into risk parameters.

### Key statistics and numeric values (verbatim)
- Stress test projection period: 2014–18.
- NPL loss amounts (top-down, loan book):
  - MDL 1.7 billion in “adverse scenario 1”.
  - MDL 5.0 billion in “adverse scenario 2”.
  - Equivalent to 1.7 and 5.1 percent of total banking system assets, respectively.
- Estimation sample period for equation [2]: 1998-2012.
- Time-to-repricing buckets available: less than 1 month; 1 to 3 months; 3 to 6 months; 6 to 12 months; more than 12 months.
- Percentage of interest rate sensitive items with repricing < 1 month:
  - 79 percent of interest rate sensitive assets.
  - 68 percent of interest rate sensitive liabilities.
- Interest rate shocks (standard deviations over 1997–12):
  - Adverse Scenario 1: 0.7 standard deviations.
  - Adverse Scenario 2: 1.5 standard deviations.
  - Adverse Scenario 3: 1.1 standard deviations.
- Sovereign 12-month default probability used: 3.391 percent.
- Initial corporate default probability assumed: 4.466 percent.
- Sovereign recovery rate assumed: 90 percent.
- Corporate recovery rate used (World Bank doing business): 32.8 percent.
- Debt instrument holdings share of total assets: less than 8 percent.
- Government bonds share of these holdings: around 95 percent.
- “Other currencies” FX positions: less than 0.5 percent of banks’ total FX positions.
- Net open FX position regulatory caps:
  - 10 percent of capital for each individual currency.
  - 20 percent of capital for aggregate net open position.

*Source: IMF staff content from the document text provided.*

### 22.      Expected losses on equity instruments relate mainly to potential bankruptcies of the

### _cr1674 - 22.      Expected losses on equity instruments relate mainly to potential bankruptcies of the

### Equity investments and expected losses
- Expected losses on equity instruments relate mainly to potential bankruptcies of the companies in which banks have invested.
- Two theoretical sources of potential losses on equity instruments: credit risk and market risk.
  - Credit risk example: a (non-financial) company in which a bank has invested goes bankrupt.
  - Market risk: changes in market prices and volatilities of equity instruments.
- In Moldova:
  - All equity investments are reported as AFS (available-for-sale) and are not for trading purposes.
  - Companies with participations are usually not listed on the stock exchange.
  - Therefore, risks associated to equity investments are considered as credit risk related to potential corporate bankruptcies arising in each stress test scenario.
- Exposure magnitude:
  - Total equity holdings amount to less than 1 percent of total assets in the banking system.
  - Some banks have no equity investments on their balance sheet.
  - Consequently, potential losses from equity instrument exposures are relatively small.

### Name concentration risk (stress test methodology and results)
- Methodology:
  - Sensitivity analysis assessed the impact of the hypothetical default of the largest N borrowers using supervisory data on largest bank exposures and their collateral.
  - Central case recovery rate used: 32.8 percent (based on the latest World Bank “Doing Business” report).
  - Alternative recovery rate assumptions were used.
- Table 3 (Stress Test Results on Name Concentration Risk) key figures (presented as in source):
  - Assumed recovery rate (in percent): 0.0 32.8 65.0 0.0 32.8 65.0
  - System-wide CAR (in percent of RWAs): 18.6 21.5 24.3 7.0 17.9 28.6
  - Implied capital shortfall (in millions of MDL) 1/: 421 231 125 3,181 898 210
  - Number of banks with a CAR less than 16 percent: 3 2 1 11 4 1
  - Number of insolvent banks 2/: 0 0 0 2 1 0
  - Default scenarios: Default of the largest borrower / Default of the largest 5 borrowers
- Interpretation and system-level impact:
  - A few banks exhibit very large single-name exposures; average relative size of the largest exposure is around 20 percent of total regulatory capital.
  - Dispersion: largest exposure ranges from 7 percent to 68 percent of capital across banks.
  - Default by the largest exposure of each bank implies a capital shortfall of around MDL 231m (0.2 percent of GDP).
  - Under extreme scenario (simultaneous default by the five largest exposures in each bank and assuming a “zero” recovery rate):
    - Number of insolvent banks: 2
    - Total capital shortfall: around MDL 3 billion (3.1 percent of GDP).
  - Overall, losses at the system level seem to be manageable, though concentration risks are concentrated within a couple of banks.

### Interbank contagion risk
- Methodology:
  - Used the matrix of interbank exposures containing, for each bank, the net domestic interbank exposure to every other bank.
  - Stress test assumes hypothetical default of each bank, one at a time, on all its interbank obligations and assesses cascade effects through subsequent rounds.
  - Complementary analysis assessed interbank exposures of Moldovan banks to foreign banks (impact of hypothetical default by a foreign bank).
- Findings:
  - Domestic interbank contagion risks remain limited due to a thin domestic interbank market with small interbank exposures.
  - Using data as of end-September 2013:
    - No significant cascade effects would take place through the domestic interbank market.
    - Only one small bank would be in distress if one of the large banks defaults on its interbank obligations; its default would have no significant effects on the rest of the system.
  - Some domestic banks are highly exposed to foreign (cross-border) banks:
    - For a few domestic banks, interbank exposure to a single foreign bank is larger than their total reported capital.
    - If that foreign bank reneged on obligations or obligations became impaired, the domestic bank would be insolvent.
    - Due to limited domestic interbank linkages, potential stress in these banks is not likely to directly affect other domestic banks via interbank channels.
    - Other contagion channels (confidence, reputational) were not analyzed and might represent additional risks.

### Liquidity stress tests (methodology and key results)
- Framework:
  - Liquidity stress tests based on Basel III LCR-type proxies; main indicator is the “stressed LCR” measuring potential net outflows over the next 30 days versus available HQLA.
  - Banks should maintain an LCR above 100 percent.
  - Tests included domestic currency and FX LCR proxies.
  - Top-down liquidity stress tests conducted by FSAP team and NBM staff using variants of the NBM’s existing framework (calibrated on historically observed deposit run-off rates in Moldova).
  - NBM haircut on interbank claims with maturity less than 1 month: 50 percent (compared to 100 percent under Basel III); FSAP ran tests using both Moldova-specific and Basel III assumptions.
- Overall liquidity (system-wide):
  - Aggregate LCR using NBM methodology: around 167 percent.
  - Aggregate LCR under Basel III assumptions: 110 percent.
  - Under NBM methodology: all banks exceed LCR threshold of 100 percent; none present liquidity shortfall.
  - Under Basel III assumptions: potential liquidity shortfall around MDL 1.6 billion (1.6 percent of GDP), concentrated in four banks.
  - Some banks meet liquidity requirements based on interbank claims; in one bank interbank claims represent over 80 percent of that bank’s HQLA (system average: 32 percent).
- Liquidity assumptions (selected items from Table 4, presented in source format; values in percent):
  - Liquidity buffer — Central bank instruments (2-week CBNs): 0 / 0 (LCR - BNM methodology / LCR - Basel III assumptions)
  - Liquidity buffer — Government securities eligible as collateral RM<35 days: 5 / 15
  - Liquidity buffer — Interbank claims with less than 1 month maturity: 50 / 100
  - Potential outflows — Deposits: Interbank: 69 / 100
  - Potential outflows — Deposits: Households: 26 5 - 10
  - Potential outflows — Deposits: Corporates: 16 5 - 75
  - Potential outflows — Non-deposit liabilities maturing in 1 month: 100 25 - 100
  - Total contingent engagements: 10 / 10
- FX liquidity:
  - LCR in FX system-wide: 160 percent (above 100 percent threshold).
  - Four banks exhibit an LCR in FX below 100 percent; implied overall FX liquidity shortfall around MDL 1.2 billion (USD 89mn).
  - This shortfall is roughly equivalent to 3 percent of total FX reserves held by the NBM.
  - A couple of banks cover FX liquidity needs mainly through HQLA concentrated in overnight FX claims, representing significant risk.
  - Central bank does not provide emergency lending in FX; banks could borrow MDL and sell MDL to obtain FX if needed.
- Liquidity linked to solvency:
  - LCR linked to solvency risk (LCR-CR) methodology: deposit run-off rates varied by bank based on CAR from solvency stress tests (lower CAR → higher run-off rates).
  - Losses implied by LCR linked to solvency risk amount to around MDL 1.2 billion (1.2 percent of GDP).
  - The same few banks with potential liquidity shortfalls are those with highly concentrated portfolios and large foreign interbank exposures.

### Conclusions and main stress test findings
- Stress test scope and methods:
  - Top-down stress tests assessed solvency and liquidity of the entire banking system; complemented by bottom-up stress tests by all 14 banks using their internal models and FSAP macro scenarios.
  - Scenario-based stress tests used four macroeconomic scenarios (one baseline and three adverse) and covered credit risk on loan book, issuer default risk on debt instrument holdings and equity investments, market risk on interest income and valuation effects, and exchange rate risks; sensitivity analyses for concentration risk and interbank contagion were also performed.
- Main results (verbatim key points):
  - Credit risk in the loan book is by far the most significant risk factor on the balance sheet of the banks. In particular, asset quality in loans denominated in foreign currency seems to be highly sensitive to exchange rate development (though possibly less so now than in the past), in addition to overall economic activity.
  - Interest rate risk on interest income seems to be limited. Most loans are issued as floating rate loans, and thus the resulting gaps between assets and liabilities (based on time-to-repricing buckets) are small.
  - Risks related to debt instrument holdings and equity investments are quite small, owing to the limited amount of such holdings in the banks’ balance sheet. Most debt instruments are hold-to-maturity, and banks do not hold securities for trading purposes.
  - The direct effects of exchange rate risk seem to be contained, due to the relatively small net open FX positions reported by the banks.
  - Concentration risks are extremely high in a couple of banks, where the default by just a few of their largest exposures would render these banks insolvent. Concentration risks in the rest of the system appear more muted.
  - Contagion risks through domestic interbank exposures appear to be contained. The hypothetical default by any bank in the system would not trigger any “cascade effects”. However, a few banks present significant interbank exposures to foreign banks.
  - System-wide liquidity appears to be broadly appropriate, both in domestic currency and in FX. Nevertheless, a couple of banks meet their liquidity requirements with relatively large amounts of cross-border interbank claims, some of which are of questionable quality. Nevertheless, the potential system-wide liquidity shortfalls appear to be manageable.

*Source: IMF staff calculations and FSAP team analysis as presented in the provided content.*

### 41.      In conclusion, the banking system appears to be well-capitalized and liquid, but

### _cr1674 - 41.      In conclusion, the banking system appears to be well-capitalized and liquid, but

### Overall conclusion
- The banking system "appears to be well-capitalized and liquid, but significant vulnerabilities remain in specific segments."
- Aggregate stress losses "mainly related to increased provisions in the loan book" are assessed as "manageable, although non-negligible."
- System-wide liquidity ratios "appear broadly adequate, in both local and foreign currencies."
- Three banks within the system "with a wide range of significant vulnerabilities" exhibit:
  - "large concentration risks,"
  - "significant cross-border interbank exposures,"
  - "questionable quality of some of their liquid assets,"
  - and other unspecified vulnerabilities.
- These three banks are "highly interconnected among themselves" but "present low direct linkages with other domestic banks," so "any potential losses are likely to have limited direct spillovers to the rest of the banking system."
- Indirect contagion risks (e.g., reputational risks) "not assessed in the stress tests, could pose significant risks to the stability of the system."

### Solvency stress test key results (summary from Table 7)
- Actual data as of 30-Sept-2013 - before any shock:
  - Total regulatory capital - before shock: 7,766 (in millions of MDL)
  - Total risk-weighted assets (RWAs): 33,376 (in millions of MDL)
  - Total assets: 69,094 (in millions of MDL)
  - Total regulatory capital-ratio (CAR) - before shock (in percent of RWAs): 23.3
- Stress test estimated losses after shock (selected items; in millions of MDL):
  - Changes in provisions due to loan migration (Top-Down / Bottom-Up across scenarios example entries): (267), 41, (1,720), (550), (5,021), (1,892), (2,527), (821)
  - Expected gains/losses on government bond holdings due to issuer default risk: (19), (4), (32), (16), (72), (47), (43), (36)
  - Expected gains/losses on corporate bond holdings due to issuer default risk: (9), (1), (15), (3), (31), (9), (19), (7)
  - Expected gains/losses on equity instruments: (13), 1, (22), (1), (48), (12), (29), 11
  - Expected gains/losses on interest income: 50, 48, 198, 211, 432, 544, 260, 295
  - Expected gains/losses on net open FX positions: 4, 4, 14, 13, 68, 50, 28, 33
  - Total expected losses (examples across scenarios): (257), 89, (1,595), (345), (4,712), (1,370), (2,358), (528)
- Stress test estimated capitalization after shock (selected results; in millions of MDL and percent):
  - Total regulatory capital - after shock (examples): 7,509; 7,855; 6,195; 7,445; 3,054; 6,396; 5,408; 7,238
  - Total regulatory capital-ratio (CAR) - after shock (in percent of RWAs): 22.5, 23.5, 18.6, 22.3, 9.2, 19.2, 16.2, 21.7
  - Implied capital shortfall (if any) 1/ (in millions of MDL): 85, 81, 592, 135, 2,814, 510, 953, 149
    - Note: "The 'implied capital shortfall' is the amount of system wide recapitalization needs so that the CAR of each bank is equal or above 16 percent of risk-weighted assets."

### Liquidity stress test key results (Table 9)
- LCR / liquidity proxies (in millions of MDL unless otherwise noted):
  - Liquid assets: 21,942; 17,770; 9,820; 17,770
  - Potential outflows: 13,130; 16,134; 6,119; 15,744
  - System-wide LCR (in percent): 167.1, 110.1, 160.5, 112.9
  - Liquidity shortfall 5/: -, 1,631, 1,164, 1,201
  - Number of banks with LCR below 100 percent: 0, 4, 4, 3
- Notes (as provided):
  - 1/ "LCR-proxy based on haircut on liquid assets and deposit run-off rate assumptions from the existing NBM methodology."
  - 2/ "LCR-proxy based on haircut on liquid assets and deposit run-off rate assumptions suggested in Basel III rules."
  - 3/ "LCR-proxy based on haircut on liquid assets and deposit run-off rate assumptions from the existing NBM methodology, to assess FX liquidity."
  - 4/ "LCR-proxy, where bank specific haircut on liquid assets and deposit run-off rate assumptions are linked to the results from the solvency stress tests."
  - 5/ "Liquidity shortfall is the amount required so that the LCR in each bank in the system is equal or above 100 percent."

### Macroeconomic projections used in stress test scenarios (Table 6 excerpts)
- Scenarios are "based on projections made on December 2, 2013." "All numbers are period averages."
- Baseline scenario (selected series; percent or levels preserved exactly as in source):
  - Real GDP growth (%): 3.2 5.0 3.0 7.8 -6.0 7.1 6.8 -0.8 5.5 4.0 5.0 5.0 5.0 5.0 4.0
  - CPI inflation (%): 12.0 9.6 12.4 12.8 -0.1 7.5 7.7 4.5 4.5 4.6 5.6 5.8 5.0 5.0 5.6
  - MDL/USD: 11.35 2.62 12.09 10.37 11.19 12.38 11.71 12.13 12.60 13.10 13.50 13.80 14.00 14.30 13.50
  - NEER (increase = appreciation): 115.5 26.0 95.8 108.1 113.9 103.2 106.4 109.8 107.2 104.4 102.2 100.7 99.8 98.4 102.2
  - Real estate prices: NIKA index growth (%): 18.8 23.5 15.6 14.9 -13.1 -4.1 0.2 -7.4 3.9 1.0 3.4 3.5 2.6 2.1 1.0
  - Unemployment rate (%): 6.5 2.4 5.2 4.0 6.5 7.6 6.7 5.6 5.9 5.7 5.3 5.0 5.0 5.0 5.7
  - Domestic credit growth (%): 24.0 16.9 51.7 20.3 -4.9 12.7 15.0 16.1 13.6 12.7 10.9 11.1 10.3 10.3 12.7
- Alternative scenarios (External I, External II, Domestic) modify these trajectories; the scenarios include specific numerical sequences for Real GDP growth, CPI inflation, interest rates, exchange rates (MDL/USD, MDL/EUR, MDL/RUB), NEER, REER, NIKA index growth, Unemployment rate, and Domestic credit growth that are preserved in the source tables.

### Stress test methodology and scope
- Institutions included: "All banks (14 banks)."
- Market share: "Share of total sector assets: 100 percent."
- Data and baseline date: "Supervisory data" and "Banks’ own data" (for bottom-up).
- Methodology:
  - Bottom-up: "Combination of banks’ own models and pre-defined benchmarks."
  - Top-down: "IMF stress testing framework (tailor-made for the Moldova FSAP; along the lines of Cihak, 2007); complemented with the NBM’s stress testing models (when applicable)."
- Stress test horizon: "1 year/period (instantaneous shocks)."
- Shocks:
  - "Shocks based on GDP trajectories, and translated in a consistent manner to all other variables in the macro-scenarios."
  - "Three adverse scenarios: moderate external shock (1.25 StD in historical terms); severe external shock (3.25 StD in historical terms; larger output losses than those recorded during the 'Russian crisis' and the 'global financial crisis'); domestic shock to agriculture sector (2.25 StD for agriculture GDP in historical terms)."
- Risks/factors assessed (comprehensive coverage):
  - Credit risk: loan book; issuer default risk on government and corporate bond and other debt instrument holdings.
  - Market risk: interest rate risk impact on net interest income, government and corporate bond holdings; FX risk.
  - Equity investment-related risk (credit and market components).
  - Concentration risk (name concentration risk).
  - Contagion risk (interbank market).
- Calibration and behavioral assumptions:
  - Bottom-up: "Loan migration (downgrades) and changes in provisions based on banks’ internal models."
  - Top-down: "Loan migration (downgrades) and changes in provisions based on satellite models."
  - Behavioral adjustments: "Total assets and RWAs assumed constant during 'instantaneous shock' (constant balance sheet assumption)." "No management actions considered." "No additional income sources, dividends, and taxes are considered."
- Regulatory standards used: "Hurdle rates based on regulatory minimum for total capital (minimum CAR of 16 percent)." "Basel I rules."

### Limitations and preconditions for multi-period stress testing (Appendix III)
- Current exercises are "one-period" instantaneous shocks; "all shocks are assumed to take place 'instantaneously', and their impact is deducted from capital, while all (or most) other items in the balance sheet remain unchanged."
- Multi-period stress tests would better capture "shocks [that] tend to have an impact on the banks’ balance sheet through time."
- Preconditions listed for undertaking multi-period stress tests:
  - (a) "Sufficient data on macroeconomic and financial variables are available."
  - (b) "Sufficient data on the different income items of the P&L are available."
  - (c) "Possibility to model satisfactorily the evolution of RWAs (allowing for changes both in volumes and 'riskiness') under the different macroeconomic scenarios."
- Key challenge under Basel I: risk weights are constant, which can produce counterintuitive results (e.g., "the CAR might be higher in the 'worst case' scenario compared to e.g. the baseline scenario") because worse macro outcomes may reduce volumes (RWAs) without increasing risk weights.
- Suggested remedy: mapping from Basel I into a "quasi-Basel II standardized approach" to allow risk weights to change with asset "rating" so that "the 'increase in risk' effect (through changes in risk weights) might outweigh the 'volume effect'."

*Source: IMF staff and National Bank of Moldova supervisory data as presented in the cited stress test chapter.*

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_Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2016/_cr1674.pdf_