Costs of EU Accession: The Potential Impact On the Turkish Banking Sector

Costs of EU Accession:Costs of EU Accession:The Potential Impact On the The Potential Impact On the

Turkish Banking SectorTurkish Banking Sector

“ “Strong Banking Sector, Strong Strong Banking Sector, Strong Economy”Economy”

Dr. Ceyla PazarbasiogluDr. Ceyla Pazarbasioglu

Vice PresidentVice President

2

““Strong Banking Sector, Strong Strong Banking Sector, Strong

EconomyEconomy””

OutlineOutline

Structure of the banking sector and the Structure of the banking sector and the impact of the crisisimpact of the crisis

Restructuring strategy and resultsRestructuring strategy and results Restructuring of the state banksRestructuring of the state banks Resolution of the SDIF banksResolution of the SDIF banks Strengthening of the private banksStrengthening of the private banks Improving the regulatory and supervisory Improving the regulatory and supervisory

frameworkframework A comparison of the Turkish and EU banksA comparison of the Turkish and EU banks Foreign bank entry and impact on Foreign bank entry and impact on

competitioncompetition Compliance with the EU Banking LegislationCompliance with the EU Banking Legislation

3



Pre-crisis structural problemsPre-crisis structural problems Small scale and segmented market Small scale and segmented market

structurestructure19198080 19199090 19991999 20002000

Commercial Commercial BanksBanks

3131 5454 6262 6161

State State 88 77 44 44

PrivatePrivate 1919 2525 3131 2828

ForeignForeign 44 2222 1919 1818

SDIFSDIF -- -- 88 1111

InvestInvest. &. & Dev Dev.. BanksBanks 66 1100 1919 1818

State State 44 33 33 33

PrivatePrivate 22 44 1313 1212

ForeignForeign -- 33 33 33

TOTALTOTAL 3737 6464 8181 7979

4



Large FX open positions of Large FX open positions of private banksprivate banks

-10674

-8960

-2056-1487

-991

-1

-341 -454 -114

152

-954 -1049

140 110 321 -86 -334 -394252 122

-12000

-10000

-8000

-6000

-4000

-2000

0

2000N

ov. 0

0

Feb

. 01

June

01

Dec

. 01

Mar

ch 0

2

June

02

aug.

02

Dec

. 02

Jan.

03

Mar

ch 0

3

On-balance sheet positions Net Position

Crisis

5



Crowding out by Crowding out by governmentgovernment

Note: 2001 and 2002 data reflect the results of the three-stage audit process and are inflation-adjusted.

6,410,3 10,6

21,4

35,0

40,8

53,7

47,042,5

30,6

20,022,8

05

1015202530354045505560

1980 1990 1995 2000 2001 2002

Per

cent

age

Securities / T. Assets Loans / T.Assets

6



Summing up: Pre-crisis Summing up: Pre-crisis conditionsconditions

BanksBanks Liquidity problemsLiquidity problems State banks with over-night liabilities of $14 State banks with over-night liabilities of $14

billionbillion Large open positions of the private banksLarge open positions of the private banks Significant share of holdings of government debtSignificant share of holdings of government debt Low asset qualityLow asset quality Inadequate risk assessment and management Inadequate risk assessment and management

systemssystems Lack of good corporate governanceLack of good corporate governance

Operating EnvironmentOperating Environment Major macroeconomic instabilityMajor macroeconomic instability High public sector deficitHigh public sector deficit Systemic distortions created by state and weak Systemic distortions created by state and weak

banksbanks

7



Banking and Currency CrisesBanking and Currency Crises

Sharp Sharp increaseincrease in in

interest ratesinterest rates

Sharp depreciationSharp depreciation of of

the Turkish Lirathe Turkish Lira

ContractionContraction in economic in economic

activityactivity

Maturity mismatch Maturity mismatch funding lossesfunding losses

Decline in the value of Decline in the value of securities portfoliosecurities portfolio

Short-positionsShort-positionsFX FX losseslosses

Asset QualityAsset Quality Credit RiskCredit Risk

Result:Result:

Erosion in Capital BaseErosion in Capital Base

Macroeconomic Shocks Impact on the

Banking Sector

8



Banking System Restructuring Banking System Restructuring ProgramProgram announced on May 15, announced on May 15, 20012001 Objective is to Objective is to eeliminate liminate distortions in distortions in the the financial sector financial sector and adopt regulations and adopt regulations to pto promotromotee an efficient, globally competitive an efficient, globally competitive and sound banking sectorand sound banking sector RRestructuring of the state banksestructuring of the state banks Resolution of Resolution of the the SDIF banksSDIF banks SStrengthening of trengthening of tthe private bankshe private banks Improving the Improving the regulatory regulatory and and supervisory supervisory frameworkframework

4 Main Pillars4 Main Pillars

But crises also provide But crises also provide opportunitiesopportunities

for major restructuring for major restructuring

Banking Sector

Restructuring Program

State Bank Reform

Strong Capital BaseCost Efficiency

•Structural Reform•Macroeconomic Stability•Decline in Public Deficit

Efficient Supervision

Market Discipline and Transparency

Sound Sound BankingBanking

Strong Strong Economy Economy

and and Sustainable Sustainable

Growth Growth EnvironmentEnvironment

Corporate Restructuring

Goal: Sound banking-strong Goal: Sound banking-strong economyeconomy

10



Consolidation in the banking sector Consolidation in the banking sector Number of banks declined from 81 in 1990 Number of banks declined from 81 in 1990

to 53 as of April 2003to 53 as of April 2003 Decline in the share of the State and Decline in the share of the State and

the SDIF banksthe SDIF banksDuring 2000-2002 the share of these banks

in total loans and deposits from 34.2% to 18% and 53.3% to 39.3%, respectively.

Increase in mergers and acquisitions Increase in mergers and acquisitions Total asset size of the mergers and Total asset size of the mergers and

acquisitions that took place in the sector acquisitions that took place in the sector is around $26.5 billionis around $26.5 billion

Results of operational Results of operational rrestructuringestructuring

11



Results of financial Results of financial rrestructuringestructuring

Reduction of financial risks to Reduction of financial risks to manageable levels.manageable levels.

Improved transparency Improved transparency Improved profitabilityImproved profitability

In 2002 private banks generated a profit of $1.5 billion, state banks generated a profit of $646 million

Strengthened capital structureStrengthened capital structureCAR rose to 27.1% in December 2002 from 9.3% in December 2000.

12



Moving towards international standardsMoving towards international standards Regulations on capitalRegulations on capital Regulations on risk managementRegulations on risk management RRegulations on credit and subsidiaries’ limits egulations on credit and subsidiaries’ limits

and loan loss provisioningand loan loss provisioning AAccounting standards and independent ccounting standards and independent

auditingauditing Regulations on facilitating mergers and Regulations on facilitating mergers and

acquisitions acquisitions Regulations on special finance housesRegulations on special finance houses MoUs with other countries supervisory MoUs with other countries supervisory

authoritiesauthorities

Improving the regulatory and Improving the regulatory and supervisory frameworksupervisory framework

13



CountryCountry Crisis PeriodCrisis Period Total Cost/GDP Total Cost/GDP (%)(%)

SpainSpain 1977-19851977-1985 16.816.8

JapanJapan 1990-1990- 20.020.0

IndonesiaIndonesia 1997-1997- 50.050.0

MalaysiaMalaysia 1997-1997- 20.520.5

S. KoreaS. Korea 1997-1997- 26.526.5

MexicoMexico 19951995 20.020.0

ArgentinaArgentina 1980-821980-82 55.355.3

BrazilBrazil 1994-961994-96 15.0-20.015.0-20.0

TurkeyTurkey 1999-20021999-2002 13.7-26.513.7-26.5

Turkey is not the first nor the Turkey is not the first nor the last country to experience a last country to experience a

financial crisisfinancial crisis

14



The initial fiscal costs of the The initial fiscal costs of the Turkish Turkish

crisis have been highcrisis have been high

In addition, private banks In addition, private banks raised $2.4 billion of capital from raised $2.4 billion of capital from own resources.own resources.

Thus, much of the costs of adopting international standards Thus, much of the costs of adopting international standards have already been borne. Annualized costs of $4bn have have already been borne. Annualized costs of $4bn have been incurred which can be thought of harmonization costs.been incurred which can be thought of harmonization costs.

BillionUSBillionUSDD

Ratio to GDP Ratio to GDP (%)(%)

State Banks Duty LossesState Banks Duty Losses 19.019.0 12.812.8

Capital Support to State Capital Support to State BanksBanks

2.92.9 2.02.0

Resolution of SDIF Resolution of SDIF banksbanks

21.721.7 14.914.9

-Public Resources-Public Resources 17.017.0 11.711.7

-Private Resources-Private Resources 4.74.7 3.23.2

15



Turkish banks have similar Turkish banks have similar concentration ratios to EU concentration ratios to EU averageaverage

Graph 1: Concentration Ratio of 5 Largest Banks (%)

59

75,8

57,7

0

20

40

60

80

EU Average CandidateCountries Average

Turkey

2001

%

16



While the share of the While the share of the state banks remain very state banks remain very high in Turkeyhigh in Turkey

Graph 2: Public Share (%)

10

24

33

0

10

20

30

40


Turkey

2001

%

17



Although capital adequacy Although capital adequacy is high, free capital is high, free capital remains limitedremains limited

Graph 3: CAR

12,04

16,24 16,5

0

5

10

15

20


Turkey

2001

%

"

18



Blanket guarantee Blanket guarantee introduced during the introduced during the crisis in Turkeycrisis in Turkey

Graph 4: Deposit Insurance

30667

11939

27027

0

10.000

20.000

30.000

40.000

EU Average CandidateCountriesAverage

Turkey

2001

Eur

o

19



Low financial Low financial intermediation by Turkish intermediation by Turkish banksbanks

Graph 8: Financial intermediation indicators

474

186 167117

8357

9461

19

0

100

200

300

400

500

Assets/GDP Deposits/GDP Loans/GDP

2001

%

EU Average Candidate Countries Average Turkey

20



Size of the banking sector Size of the banking sector is smallis small

Graph 5: Average Bank Size (Total Assets / # of banks)

4.494

1.025

2.472

0

1.000

2.000

3.000

4.000

5.000

6.000

EU Average Candidate Coun.Ave.

Turkey

2001

Valu

e (m

illion

Eur

o)

21



Over-branched banking Over-branched banking networknetwork

Graph 6: Number of Branches per Bank

36 33

113

0

50

100

150

EU Average CandidateCoun. Ave.

Turkey

2001

Val

ue

22



Government crowding-outGovernment crowding-out

Graph 16: Debt Securities / Total Assets

21,68

34,5

0 10 20 30 40

EuropeanUnion

Turkey

23



Literature on foreign bank Literature on foreign bank entryentry

Features that attract foreign banks: liberalization of financial markets degree of economic integration between

host and parent countries support of the client base (“follow the

client”) (Konopielko,1999; Clarke at al, 2001).

profit opportunities, low taxes (Claessens et al., 2001; Clarke at al, 2001)

fewer regulatory restrictions for investment (Clarke at al, 2001).

24



EExpected benefits xpected benefits of of foreign foreign bank entrybank entry

Claessens Claessens et al.et al., 2001; Konopielko, 1999, 2001; Konopielko, 1999 iincreasencrease in in efficiency and better resource efficiency and better resource

allocation allocation iincreasencrease in in competition competition broad application of modern banking technology broad application of modern banking technology increased access to international capital marketsincreased access to international capital markets stimulate development of supervisory and stimulate development of supervisory and

regulatory practices regulatory practices

25



Potential disadvantages of Potential disadvantages of foreign bank entryforeign bank entry

Crystal Crystal et al et al (2002) and Stiglitz (1993)(2002) and Stiglitz (1993)

difficulties to compete with large international difficulties to compete with large international banksbanks

lower lower access to financial services by access to financial services by domesticdomestics as s as foreign banks generally serve to multinational firmsforeign banks generally serve to multinational firms

less sensitivity to host country’s government less sensitivity to host country’s government policiespolicies

vulnerability vulnerability to to economic conditioneconomic conditionss in the home in the home country country

26



MarketMarket share of share of foreign foreign banksbanks

Source: Bankscope; IMF, 2000.

0 10 20 30 40 50 60

19941999

(%)

Turkey (June Turkey (June 2002)2002): % 4.9: % 4.9

HungaryChile

PolandCzech Republic

ArgentinaVenezuela

PeruMexico

ColombiaBrazil

MalaysiaThailand

Korea

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Turkish experienceTurkish experienceDespite...Despite... a a long history of liberalization policies long history of liberalization policies and and practicespractices advanced advanced technological facilitiestechnological facilities qualified human capital in banking sectorqualified human capital in banking sector

...foreign bank presence has been limited due to:...foreign bank presence has been limited due to: persistent macroeconomic instability persistent macroeconomic instability (high and (high and

volatile inflation)volatile inflation) low volume of foreign direct investment low volume of foreign direct investment delays in taking necessary steps for financial sector delays in taking necessary steps for financial sector

reforms reforms

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Recent increased interestRecent increased interest IIncreased interestncreased interest in in the aftermath of the the aftermath of the

bank restructuring programbank restructuring program

Unicredito Unicredito 49% of 49% of KocbankKocbank shares shares

HSBC HSBC acquired acquired DemirbankDemirbank

However further measures are necessary However further measures are necessary to attract foreign investorsto attract foreign investors

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Need to reduce intermediation Need to reduce intermediation costscosts

25,0

30,0

35,0

40,0

45,0

50,0

55,0

60,0

Net interest rate

Withholding tax, special transaction tax

Liq. requirements, dep.ins. premiums

Banking and insurance transaction tax, stamp duties, premiums

% 37,9

% 46,0

% 48,6

% 56,1

From TL deposits to TL corporate credits

30



Need to reduce intermediation Need to reduce intermediation costscosts

-

2,0

4,0

6,0

8,0

10,0

12,0

Net interest rate

Withholding tax,

Liq. Req., dep.ins. premiums

Banking and insurance transaction tax, stamp

% 4,0

% 5,0

% 6,7

% 10,3

From FX deposits to FX credits

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Need to overhaul blanket Need to overhaul blanket guaranteeguarantee

BRSA/SDIF is working on a deposit insurance BRSA/SDIF is working on a deposit insurance scheme scheme Elimination of blanket guaranteeElimination of blanket guarantee AAdoption of a limited guarantee scheme in doption of a limited guarantee scheme in

accordance with EU standards (20,000 accordance with EU standards (20,000 Euro) Euro) with with a one-year transition perioda one-year transition period

Redefining protection coverage in favor of Redefining protection coverage in favor of domestic currency.domestic currency.

Transition to a rTransition to a risk basedisk based premium premium structure in which risk is fairly priced.structure in which risk is fairly priced.

Application of co-insurance in order to limit Application of co-insurance in order to limit potential claims on the insurance system.potential claims on the insurance system.

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Quantitative Impact Study Quantitative Impact Study (QIS)(QIS)

Date ofexercise

No. of banksparticipating

No. ofcountries

participating

Scope

QIS 1 Autumn 2000 78 10 StandardisedFoundationAdvanced

QIS 2 Summer 2001 138 25 StandardisedFoundationAdvanced

QIS 2.5 Autumn 2001 37 12 Foundation

QIS 3 Autumn 2002 300? 50? StandardisedFoundationAdvancedAll portfoliosincludingsecuritisation

Almost 300 Almost 50

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Summary QIS-2 ResultsSummary QIS-2 Results

Documents

Costs of EU Accession: The Potential Impact On the Turkish Banking Sector