Central, Eastern European and Central Asian banks are set to take advantage of the region's economic rebound, partly due to Russia's recovery following years of recession, according to the European Bank for Reconstruction and Development.
But financial companies should still be watchful for risks stemming from market dominance by the state and a heated labor market, said Artur Radziwill, a director for country economics and politics at the London-based development bank.
"What we see in our region is a quite significant [economic] acceleration compared to 2016," Radziwill said in an interview. "Another piece of good news is that some of the countries are growing at a rate comparable with what we were seeing before the crisis."
The impact on the financial sector will be uneven, if broadly positive, the executive added. "In Central Europe the acceleration is linked with quite rapid credit growth, for example in Slovakia, but in other countries such as Hungary and Croatia, credit growth is still lagging."
"More generally, growth is always good for banks, for their profitability, and it creates conditions for the reduction of nonperforming loans," Radziwill said.
Greek, Cypriot, and Ukrainian banks have the highest levels of toxic loans in the region, data shows.
The EBRD has revised up its end-2017 economic growth forecasts for the region spanning Central, Eastern, and Southeastern Europe, Central Asia as well as Egypt, Morocco, Jordan, Lebanon, and Tunisia, where the institution has active investments, citing "higher export levels, a revival in investment and firmer commodity prices." Average growth will reach 3.3% in 2017 across the 37 countries tracked by the EBRD, up from the May forecast of 2.4% and the 1.9% of end-2016, the bank said November 7. Growth is set to accelerate in 27 of these countries, something that has not happened since 2010.
However, Radziwill cautioned that the growth spurt may be short-lived, and can only be sustained by reforms aimed at boosting labor market participation and reducing state involvement in industry.
"The medium-term prospects are pretty low...the bad news is that our countries are growing at a lower rate compared to other emerging markets," Radziwill said.
Central Europe and the Baltics in particular are facing a labor shortage likely to weigh on long-term prospects, he said, adding that governments may counteract this trend by stimulating participation of women in the economy and downsizing the public sector in order to make more employees available to more productive private enterprises.
Russia, the largest economy in the region and a major influence on output in neighboring countries, is set to come out of recession in 2017, with a growth rate of 1.8%, the EBRD said in its report. However, investment remains constrained and the financial sector is showing signs of stress after the collapse of two important banks in 2017 — Otkritie Financial Corp. Bank and B&N Bank."The current outlook is subject to numerous risks, including geopolitical tensions, persistent security threats, the growing appeal of populist anti-globalization policies in advanced economies, and a high degree of concentration in the sources of global growth," the EBRD's report said.
Romania and Turkey are seeing a particularly pronounced upturn, at 5.3% and 5.1% respectively, compared to 4.6% and 3.2% in 2016, it added.
Yet despite its growth, Turkey's economy remains fragile, said S&P Global Ratings on November 3: "Turkey's government will increasingly rely on budgetary measures, including credit guarantees, to support the economy in the absence of restored confidence in the private sector following the failed military coup in July 2016."
Pointing to the country's deteriorating relations with key trade partners such as the U.S. and Germany, the agency said that although headline GDP figures remain strong, a sudden drop in the value of the currency could hurt banks' asset quality.
"Turkey's weak external profile could be exacerbated by potentially mounting risks in the country's banking sector — the largest intermediators of the country's external deficit. Turkey's rapid credit expansion, which lately has been further fueled through the government's Credit Guarantee Fund, could eventually lead to a hard landing with deteriorating asset quality, external refinancing pressures, and ultimately fiscal cost for the Turkish government. We note that, over the past 10 years, the loan-to-deposit ratio in the Turkish banking sector has grown by 47 percentage points to 118% in August 2017 and remains on an upward trajectory," S&P analysts wrote.
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