April 2011
Expert’s opinion: Banking sector is for about to be stable
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Every country that implements a monetary strategy that prevents a national bank from pursuing discretionary monetary policy (such as currency board arrangements within an official euroisation/within the accession process to the EU, as is the case with Montenegro), is bound to consider potential arrangements with international monetary institutions such as the IMF or the World Bank as possible exit strategies in case of severe financial or macroeconomic imbalances (e.g. the Vienna Initiative).
Three years later, the outcome reflected in growing NPLs, provision levels, financial performance and the decreased lending activity of banks are all still very evident. However, a lesson has been learned from the crisis and it has consequently changed the vision and activities of the Central Bank. It has become more forwardlooking, yet at the same time it has become more conservative and risk-sensitive in its approach to supervision in the banking system.
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Recommendations made in Article IV by the IMF Mission, during their regular visits, have always been considered to be both objective and unbiased assessments of the Montenegrin economy, including the banking system. Their recommendations, in the context of the creation of a supervisory institutional framework, have always been considered by the Central Bank of Montenegro as being important and as giving valuable ‘added value’. It is felt that their comments have had a significant impact and have helped to create higher standards in our supervision practices, equal in value to monetary policy adjustments.
The banking system of Montenegro consists of 11 banks, and these are predominantly foreign-owned. I would like to point out the conclusions made by the IMF Mission that visited Podgorica at the beginning of March this year. Representatives from IMF accentuated the fact that owing to the authorities’ timely and appropriate actions, in addition to extended support provided by their parent banks, confidence in the banking sector had been restored. This can be seen in a renewed increase in deposits. Deposits, however, remain below levels recorded in the third quarter of 2007 and NPLs have still not leveled off.
After the recent crisis period, some banks recorded a decline in deposits and a certain loss in confidence. This was despite the fact that they were heavily supported by their parent banks and that the Central Bank, together with the Ministry of Finance, used a very broad range of instruments to decrease level of liquidation. Consequently, the following dilemma emerged: what have we learned from the crisis; and what should our next steps be in order to strengthen our banking system to make it more resilient to external shocks? A straightforward answer implies that we have to pay additional attention to certain
The next steps in the process should focus on a full restoration of security throughout the system in order to allow for renewed lending growth once the credit demand for quality projects has returned. Stagnant lending, at present, reflects a dearth of such projects and any efforts to force credit growth would be ill-advised. I personally believe that the root of the problem lies somewhere in between the two. It is commonly known that banks and the real sector work on the principle of connected vessels. Therefore, a problem which occurs in one sector will sooner or later be reflected in both sectors. The question is how to reconcile these issues.
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It is important to stress that the Central Bank of Montenegro has a limited ability to provide additional liquidity to the banking system. This is due to the fact that potential integration within EU is preventing it from taking more vigorous measures such as QE or active repo operations, some of the instruments that were widely used by various national banks during the financial crisis. Thus, the issue arises of a potential relative role for fiscal revenue. This could ensure potential additional funds for resolving any possible liquidity or solvency problems in the banking system. It could be argued that the accumulation of fiscal reserves through fiscal consolidation would provide additional confidence in the banking sector; nevertheless the primary task of the Central Bank remains to aggressively safeguard the banking system. This should thus prevent any increase in potential risk within the system that could trigger the need to use any fiscal sources. However, despite this, it is obvious that the preservation of a sound, financially stable environment requires strong involvement from all of the stakeholders (supervisory authorities as well as government institutions) who should be on the same, challenging mission - to preserve risk-free financial markets.
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Furthermore, the Central Bank of Montenegro and its new management team will be uncompromising and rigid when it comes to weaknesses in the system. It will demonstrate that there will not be any preferential treatment within the system, whilst also engaging its full capacity to deal with impending changes in regulations. At the same time, it will continue to cope well with frequent and risk-based on-site inspections coupled with fast follow-ups. In addition, it will assess and implement adequate solvency and liquidity buffers. The bank’s main objective is to be one step ahead of potential developments and to prevent any potential risk related to either liquidity or solvency within the banking sector. Recently, more secure banks have started to relax their regulations (this was not case at the beginning). It is also worth mentioning that we, the Central Bank of Montenegro, are working on the introduction of the IFRS system, and expect this to be in place no later than midof 2012. This will definitely make it easier for banks as they will no longer have to undergo two or more audits as they used to, due to discrepancies in financial reporting.
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Dr Velibor Milošević, Vice-Governor of the Central Bank of Montenegro
risks that were overlooked during the period of unsustainable boom in the Montenegrin economy (2005 to 2007). However, it should be stressed that the Central Bank only had limited means available at the time to prevent a strong growth in credit during this period. Additionally, this was not followed by a proportionately strong growth in deposits (which was accompanied by huge FDI inflows and a nominal growth in wages). In this respect, prudent measures (credit growth hard anchoring during 2008) introduced by the Central Bank appear to have been the most efficient instrument in preventing further growth, albeit with a delayed effect.
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