LONDON (Reuters) - Eastern Europe’s banks have underestimated the value of bad loans they hold in the aftermath of the financial crisis and their impact will be felt across the region next year, the chief economist at the European Bank for Reconstruction and Development (EBRD) said on Tuesday.
Warning that the region’s banking system remained fragile, Erik Berglof told the Reuters Central European Investment Summit the push for Western lenders to sell assets as part of conditions for obtaining state aid could also hurt the region.
He said Russia was one economy where bad debt levels were still “significantly worse” than officially reported.
“We know that non-performing loans are increasing. They haven’t been increasing at the pace we were worried about (at the start) but that is because in some countries the way official statistics report them is not satisfactory,” Berglof, who is also special adviser to the EBRD President, said.
He said the European Commission’s demand that Western banks get rid of non-core assets could prompt these lenders to sell off Eastern and Central European subsidiaries and further tighten credit to the region.
“They are asking for...the disposal of non-strategic assets. But some of these assets are strategic for our region. Most of these subsidiaries are systemic for our region,” Berglof said.
Central and eastern Europe has been hard hit by the global financial crisis, and is trying to recover from troubles with currencies, high foreign debt exposure and a euro zone slowdown.
Persistently weak credit growth and uncertainty over the banking system make the pace of economic recovery uneven and could hold the region back in the coming years, Berglof said.
He reiterated that the development bank was likely to revise downwards its forecast of a 5.2 percent contraction for the region this year and raise its 2010 forecast of 1.4 percent in its annual transition report expected in the coming weeks.
“It’s safe to say that compared to our forecast in May, the forecast will be lower this year because of information from Q2 numbers and what we know from Q3,” he said.
Reduced capital flows and weakened banking systems will see the region emerge from the crisis to grow at a slower, albeit more sustainable, pace than the boom years, Berglof said.
“For many countries we see continued deterioration. The diversity within the region is important to keep in mind...Even for countries that have turned the corner we look forward to slow and fragile growth,” he said.
Berglof said the fiscal sacrifices demanded across the region were “extraordinary” and “not easy” for any government to push through.
“You’re asking for the civil servant to take a 40 percent pay cut, for countries to close down hospitals and delay school entry age,” he said.
Berglof, who is also Special Adviser to the EBRD President, praised Hungary, which he said was beginning to reap the rewards of moving early to deal with its fiscal problems.
“Hungary has managed to take onboard a substantial fiscal adjustment program. They are now being rewarded for that and have been able to lower interest rates,” he said.
A Hungarian central banker told Reuters on Tuesday that the country was ready to come off its aid package from the International Monetary Fund (IMF) and signaled further gradual easing of interest rates.
Berglof said he was particularly concerned about Ukraine, where divisions among government leaders were allowing the fiscal situation to deteriorate.
He said curbs on foreign currency lending and raising of bank capital requirements by the central bank were also hampering real demand. “I‘m quite unhappy with how the Ukrainian central bank is dealing with problems in its banking sector.”
Set up in 1991 to help former communist states adjust to free markets, the EBRD is asking its 60-odd country shareholders for an extra 10 billion euros so it can expand lending in the region.
Reporting by Sebastian Tong; editing by Patrick Graham