Press Release No. 13/141

Press Release No. 13/141
April 26, 2013

The International Monetary Fund (IMF) today launched a new series entitled “Central, Eastern and Southeastern Europe—Regional Economic Issues (REI)”, which contains analytical papers on issues of interest to policy makers, academics, and the broader public in CESEE and aims to enrich the economic debate in the region. This new series is produced by the IMF’s European Department.

This first REI issue takes up the topic of “Financing Future Growth: The Evolving Role of Banking Systems in CESEE.” The context of this issue is that the region has generally relied on a strong presence of foreign banks that typically also provided extensive financing for the region’s growth. However, in the wake of the global financial crisis and the region’s own boom-bust cycle, this banking paradigm is now changing. Foreign bank funding is receding while foreign bank ownership has remained robust. What are the consequences and what should policy makers do?

The REI’s analysis shows that widespread foreign ownership has brought clear benefits to CESEE. With the arrival of foreign banks, the incidence of banking crises fell sharply, banking practices improved, local shocks were more easily absorbed, and access to credit improved dramatically. However, the recent experience also clearly speaks to the drawbacks of the region’s banking paradigm. Economies in the region became closely exposed to the large swings in funding from foreign banks, facilitating extended economic booms only to be followed by deep recessions with no evident long-term growth dividend from foreign financing.

With important benefits from foreign bank ownership but unclear ones from foreign bank financing, the recent trend toward less reliance on foreign funding and its associated volatility is generally welcome. However, the process should go neither too fast nor too far, lest it risks a credit crunch and sacrifices important benefits from financial integration.

Policymakers can facilitate an orderly transition to a more stable funding model, the REI found. Pushing ahead with establishing the envisaged integrated European financial architecture would reduce swings in the availability of funding to banks. Improved cooperation between the home and host country authorities more generally to better manage cross-border banking, including through more coordinated use of macroprudential policies, would do so, too.

In addition, policymakers can partly offset the economic fallout from foreign banks’ funding reductions by removing obstacles to credit growth. For example, tackling the still very high non-performing loans that make banks reluctant to extend new loans, and facilitating local capital market development to open up alternative ways to finance investment, would support economic expansion.