PARTNERS FOR FINANCIAL STABILITY Addressing Institutional Gaps in the Financial Sectors of the Baltic States, Central, Eastern and South-Eastern Europe Conference Proceedings June 8-9, 2000 Budapest, Hungary Co-Sponsored by: Partners for Financial Stability Institutional Gaps: June 2000 Conference Proceedings 1 PARTNERS FOR FINANCIAL STABILITY Addressing Institutional Gaps in the Financial Sectors of the Baltic States, Central, Eastern and South-Eastern Europe CONFERENCE PROCEEDINGS OVERVIEW On June 8-9, 2000, the East-West Management An excellent summary of the purpose of the PFS Institute (“EWMI”) hosted a seminar on finan- program, its goals and objectives was provided cial sector development in Central and Eastern by William Frej, former USAID Mission Di- Europe (“CEE”) and Southeastern Europe rector to Poland, and currently USAID Direc- (“SEE”). The seminar introduced the Partners for tor of the Office of Market Transition, Bureau Financial Stability (“PFS”) program, jointly fund- of Europe and Eurasia. ed by EWMI and the U.S. Agency for Interna- tional Development (“USAID”) to promote The theme of this conference is “partnership”. financial sector development in CEE and SEE Partnership is certainly an important concept countries, to 75 participants from 13 CEE/SEE that USAID has been advocating as one of countries. The CEE countries under the PFS pro- our primary operating principles. In this re- gram are defined as the USAID graduated or near gard the program on which we are here to- graduated countries (Czech Republic, Estonia, day is a program that we hope will help all of Hungary, Latvia, Lithuania, Poland, Slovak Re- you better understand USAID’s new Partners public, and Slovenia). The SEE countries under for Financial Stability Program. the PFS program are countries in Southeastern Europe with active USAID programs (Albania, PFS seeks to fill the gaps in the institu- Bosnia Herzegovina, Bulgaria, Croatia, Mace- tional development of financial sectors of donia, Romania, Kosovo and Montenegro). graduated and soon to graduate Central The seminar provided an opportunity for repre- and Eastern European countries sentatives of government, business, and non gov- ernment organizations (“NGOs”) from CEE and PFS was initiated at the end of 1999 by US- SEE countries to share with each other and rep- AID and it is a program that seeks to fill the resentatives of donor organizations their ex- gaps in the institutional development of fi- periences and concerns in the area of financial nancial sectors of graduated and soon to grad- sector reforms. During the two-day seminar, four uate Central and Eastern European countries panels focused on banking, capital markets, in- in order to shorten the time required to meet surance and pension reforms. Each panel was international standards and accession to the composed of experts in the specific discipline European Union (“EU”). These countries in- from CEE countries and Western Europe. The clude the Czech Republic, Estonia, Hungary, observations and comments of the seminar par- Latvia, Slovenia, Poland, Lithuania and the ticipants reflect the discussion between the pan- Slovak Republic. While it is appropriate for elists and participants regarding reforms in the USAID to phase out of these countries, it is four focus areas. also premature to assume that the transition from a command to a market economy is Partners for Financial Stability Institutional Gaps: June 2000 Conference Proceedings 2 completed. These countries do not yet com- nizations and private pension fund regulato- pletely meet or practice international finan- ry organizations, all of whom are represent- cial standards and this gap could certainly put ed here today. These regional organizations at risk the significant reforms these countries can share lessons learned and exchange in- have already accomplished. formation within the region and affiliate with international organizations. The purpose of PFS is to address continued weakness in these Central and Eastern Euro- The East-West Management Institute is also pean financial systems. Such weaknesses responsible for implementing an inter-region- could make the still fragile financial systems al or East-East technical assistance program vulnerable to crisis, but continuing special- drawing upon financial experts from the US- ized technical assistance could help make key AID graduated or almost graduated countries institutions more resilient and better able to to provide advice in Southeastern European deal with the threats of the transition process. countries. Again, the concept is to share les- sons learned and to provide training and in- PFS consists of two components. The first stitutional support, drawing upon the component is focused on addressing gaps in experience of USAID CEE graduated coun- the financial sectors of specific close out tries. countries with assistance provided primarily by United States government agencies, such According to the panelists, each of the CEE coun- as the US Treasury and the US Securities and tries has made progress in the area of financial Exchange Commission. It also consists of as- sector reform. The conference participants also sistance provided by private sector experts agreed that the progress toward reform, howev- and contractors and as well NGOs such as er, has been uneven across CEE countries in the the Financial Services Volunteer Corps that areas of banking, capital markets, pension, and has been operating in this region from the insurance. very beginning of the transition in 1989. The panel discussions highlighted some of the Whereas this first component takes a bilater- progress in CEE financial sector reforms, and al approach, the second component of PFS, areas where reform is still needed, as well as the which is being implemented by the East-West areas where lessons learned from the CEE finan- Management Institute, is focused specifical- cial sector reform experience can be shared with ly on regional integration and regional link- SEE countries. SEE participants were quick to ages. The East-West Management Institute is share the challenges facing them in these four fi- implementing an inter-regional program of nancial sub-sectors and to outline areas where financial sector assistance. The program con- lessons learned from the CEE experience might cept is to share ideas, lessons learned and be beneficial. The comments of the panelists and policy recommendations and to build and participants are highlighted below. strengthen inter-regional institutions to ad- vance financial sector reforms in Central and Eastern Europe. BANKING One way to encourage movement by CEE fi- CEE Perspective nancial institution policy and decision mak- ers is to adopt international standards creat- The CEE experience in banking reform was dis- ing and strengthening regional linkages and cussed by George Szapáry on the first day of organizations including securities regulatory the conference, and by the Banking panel on the organizations, regional bank regulator orga- second day of the seminar. Mr. Szapáry, a senior Partners for Financial Stability Institutional Gaps: June 2000 Conference Proceedings 3 advisor at the National Bank of Hungary and a Hungary is not to give government guaran- former International Monetary Fund official, tees on bad or outstanding loans. When you made a convincing argument based on Hunga- privatize, the potential buyers sometimes ry’s experience in bank privatization that one of spend a month or more sending as many as the critical elements in the reform process is thirty people here to look at the banks. Then speed. He also explained that Hungary made an they say we found most of what we could early decision to sell its banks to strategic inves- find, but they are not one hundred percent tors, resulting in bank sales to foreign banks, as sure whether they have found all the bad there was an insufficient number of strong do- loans. So, they ask for a government guaran- mestic investors. In addition, he noted that coun- tee. Three years after their purchase the owner tries still undergoing consolidation, should not comes back and says, listen, I found these bad provide government guarantees to strategic in- vestors, but instead should sell the banks at a small Without strengthening financial disci- discount. This recognizes that there may be bad plines in the corporate sphere, the bank- loans that will turn up after the purchase. He de- ing sector rehabilitation cannot be suc- scribed with great clarity some of the salient les- cessful sons learned about Hungary’s bank privatization: loans and according to our agreement, you Under [bank] consolidation, the longer the guaranteed that you would pay for these bad procedure the higher the expenses. I think this loans that originated before. And the govern- is not a typical Hungarian experience, as we ment had to pay of course, but they got a lot have seen it everywhere else. But there are of political criticism because it was very cost- two reasons for that. One is that as banks con- ly. So having gone through this, I would ad- solidate the management and enterprises, they vise this: do not give a guarantee, rather sell see that the state will bail out the bank, so the bank at a discount. those that can pay will just not pay or will just try to disappear from the scene. The banks Much of the shared experiences about banking also make less of an effort to collect because reform by CEE participants and panelists also you need a lot of collecting, you incur a lot focused on issues of bank consolidation and priva- of expenses, and you need to sue the borrow- tization, strong supervision, and recapitalization ers and so forth. Thus if you drag on the pro- following privatization. Panelists stressed the cess of consolidation the cost will climb. need to build strong information technology (“IT”) systems and to leap frog to the next gener- The consolidation of the banking sector ation of electronic banking to rapidly reduce the should be linked to enterprise restructuring.