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July 31, 2018

IMF published its staff report under the 2018 Article IV consultation with Greece. Directors urged the authorities to accelerate efforts to address high non-performing loans (NPLs) and restore lending. They encouraged banks to step up use of the strengthened financial sector legislative and regulatory frameworks that have created a better environment for addressing high non-performing exposures (NPEs), including through the development of a secondary market for NPLs. They also called for building up of capital buffers, further steps to mitigate liquidity and funding risks, and stronger bank internal governance.

The assessment highlights that, to restore growth-enhancing lending, the focus should be on healing banks’ balance sheets. Bank balance sheets are weak and credit continues to contract. As of end-March 2018, NPEs of Greek banks were among the highest in EU at 49% of total loans, with a coverage ratio of 49%. Banks have so far met the NPE reduction targets submitted to the Single Supervisory Mechanism (SSM), but in large part because the targets are backloaded. Moreover, banks have mostly relied on write-offs to reduce NPEs, rather than on sustainable restructurings. Nevertheless, there has been some more recent progress in NPE reduction, helped by a better legal enabling environment. NPE sales have commenced, with several projects underway and the number of e-auctions of foreclosed properties is rising.Among other factors, increased usage of repo transactions, higher government deposits, and further deleveraging, have allowed banks to reduce Emergency Liquidity Assistance (ELA) to just under EUR 10 billion (a EUR 30 billion reduction year-on-year). In early July, S&P upgraded the ratings of all four major banks.

The authorities have strengthened financial sector legislative and regulatory frameworks, but banks’ capacity to provide credit remains constrained. Banks also face significant challenges regarding asset-liability management, as highlighted by systematic ongoing breaches of liquidity requirements. Capital flow management measures (CFMs) continue to be lifted in steps, most recently in June, but remaining limits are unlikely to be removed before 2019. Bank governance has improved (boards and senior management have been strengthened), but more is needed to ensure compliance with best-practice standards. These factors continue to constrain banks’ ability to meet credit demand. The discussions focused on the following steps needed to hasten the recovery of the financial sector and restore its capacity to support the economy:

  • More ambitious NPE reduction targets and supervisory incentives.
  • Proactive build-up of capital buffers, as needed. Over a medium-term horizon, banks will need to absorb the phasing-in of the new IFRS 9 rules and build up Minimum Requirements for Own Funds and Eligible Liabilities (MREL).
  • Steps to address liquidity and funding risks. Banks need to narrow maturity gaps and reduce asset encumbrance. Banks will need to secure liquidity at a sustainable cost and continue deleveraging.
  • Measures to further strengthen bank governance. The Bank of Greece and Single Supervisory Mechanism should increase their follow-up of progress in bank internal governance and related supervisory action, to address important operational deficiencies and loopholes in the internal control environment, the risk management framework, and the governance of NPL management and performance practices.
  • Effective implementation of legal reforms. The authorities should continue to adjust legislative frameworks as needed to facilitate NPE resolution.
  • Continued liberalization of CFMs in a prudent, conditions-based manner. Gradual relaxation should continue as planned. Ensuring sufficient bank liquidity while CFMs are relaxed will be critical to preserve financial stability.

 

Related Link: Staff Report

Keywords: Europe, Greece, Banking, Article IV, NPLs, IFRS 9, MREL, IMF

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