February 26, 2018 / 12:22 PM / in 4 months

Breakingviews - Latvian bank failure raises 8 bln euro question

MILAN (Reuters Breakingviews) - The failure of a Latvian bank poses an 8 billion euro question for the country’s financial system. That is the amount foreigners have deposited with lenders in the Baltic nation – equivalent to roughly 30 percent of GDP. ABLV, the third-largest bank, is to be wound up after U.S. regulators charged it with money laundering. The cost to local taxpayers will be limited. But it will be harder to contain the fallout for the overall banking system.

A security guard speaks on her mobile phone at the head office of the ABLV Bank in Riga, Latvia February 18, 2018. REUTERS/Ints Kalnins - RC1935EE5CF0

The ABLV affair has brought financial troubles in the euro zone member to a head. On the surface the lender – which like many domestic peers has taken deposits from former Soviet nations – appeared solid. Its capital and profitability ratios were in line with European best practice and it had ample liquidity. But after the U.S. Treasury singled it out as a recipient of illicit financing it lost around a fifth of its 2.7 billion euro deposit base in a week. At the weekend, the European Central Bank declared it at as likely to fail.

ABLV, which controls 13 percent of Latvian banking assets and deposits, will now be wound up in accordance with local laws, the ECB says. Latvian authorities, mindful of the painful 2008 bailout of Parex Bank, do not want to use taxpayers’ money. This might be feasible. Paying back deposits up to 100,000 euros, which are guaranteed by EU law, should cost 470 million euros, local regulators say. At the end of September 2017, ABLV had around 3.6 billion euros of assets on its balance sheet including 600 million euros in cash or the equivalent, 800 million euros of securities and about 1 billion euros of loans.

Focusing on the fiscal impact risks missing the point, however. Despite persistent evidence of poor compliance among Baltic banks, local regulators and the ECB appear to have been blindsided by ABLV’s collapse.  That raises the risk of contagion to other local lenders that have also funded their business with offshore funding from wealthy Russian-speaking neighbours. Foreign depositors and counterparties may vote with their feet. Even if Latvian authorities push through an overdue cleanup, the question is how much of the 8 billion euros of overseas deposits will be left when it is over.

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