Whilst, the world was in a lockdown, the government of Uzbekistan has been busy reforming the banking sector. The government announced a banking sector reform strategy for 2020-2025, where it described the pain points of the sector without mincing words. It has set specific steps to reform the sector with set target dates for concrete banks and given staff clear responsibilities to implement the policies. This strategy was based on the World Bank’s recommendations.
Unlike the pre-reform era documents, which mostly focused on the positives, the new plan is spot on with issues concerning the system: the state dominance of the sector (13 banks out of total of 31 are state controlled, 87% of the total equity of the banks are owned by the state and these banks comprise 85% of the banking system assets), subsidized loans distorting the market, the low tech operations of banks, little integration with the international financial system, corporate governance not on a par with international practice, and so on.
The strategy calls for the abolition of state funding through subsidized loans, the introduction of market mechanisms for interest rates, the introduction of modern IT technologies and the key phrase that is splashed across the document is the introduction of international level corporate governance.
The strategy clearly sets out a path that leads to the privatization of the state banking system: to transform the banks first with the help of international financial institutions and international consultancy firms, increase thier value and then sell them to strategic investors. The strategy lists the largest banks, marking them out for special attention: Ipoteka Bank (fourth largest) and SQB (third largest) will get investments from the IFC, while Asaka (second largest) and Aloqa from the EBRD.
It also lists the banks of strategic importance that will not be privatized in the initial phase: the National Bank for Foreign Economic Activities, Agro Bank and Mikrokredit Bank; for the first time in history, the strategy clearly explains the logic for keeping these banks with the state.
Uzbekistan has a quite underdeveloped financial intermediation system, hence the banks remain the main providers of funding, even for projects with equity risks, i.e. start up companies. The document states that subsidized loans constitute 60% of loans in the system, although most of these loans are not just for startup funding, but in the days of the bygone era, large number of state enterprises received low interest facilities from the state through the banks. Start up funding is still scarce and will stay so until the other financial intermediaries develop, hence the document clearly says the funding of these loans should be transferred to special entrepreneurship support funds from the banks and to be channelled through Xalq Banki, Agro Bank and Mikrokredit bank, whilst in the past almost all banks were involved in this activity.
The document also highlights the roles of the Central Bank (in its capacity as regulator) and Ministry of Finance (in its capacity as the majority shareholder in the dominant part of the banking sector) in supporting the reforms of the banking sector.
The document also calls for consideration of merging two state owned banks -- QishloqQurilish Bank and Turonbank. QQB has been primarily involved in providing long-term mortgage loans in the rural area and the focus of Turon has been with hydro energy sector in the country.
It is envisaged that Xalq banki (the largest retail bank in the country) with Asia Alliance bank will be sold to strategic investors. Prior to privatization, pension system operations of Xalq Banki are planned to be moved to the Government.
The strategy sets out a number of concrete targets:
● an increase in the share of private bank assets from current 16% to 60% by 2025;
● an increase in the share of private sector bank liabilities from the current 28% to 70% by the end of 2025;
● to attract at least three reputable and experienced strategic foreign investors by 2025 to invest into state banks; and
● increase in the share of non-bank credit organizations in the total volume of lending from the current 0.35% to 4% by 2025.
Key theme running through the document is integration into the international financial system. One hears quite often that the Uzbek banking system lags its ex-Soviet neighbours by 25 years. This leads to a false assumption that it will take another 25 years to catch up. In this authors view, probably the catch up will take place within the next 4-5 years in terms of product range and automation and (in terms of size in relation to GDP a bit longer), and basis this view on the following factors:
● Modern IT solutions can be introduced and rolled out relative cheaply and quickly. Like telecoms, where the technology allowed frontier markets to catch up and exceed the developed countries with rolling out of mobile technology.
● Most banks are becoming online banks and the COVID-19 epidemic has only confirmed its importance and catalysed the process. Once online, the banking learning curve can be quite steep. For example, if in the past, it took a long time to train credit analysts to scale up lending portfolio, the current scoring models can be implemented relatively quickly and scaled up if they are online.
● The experience of Uzbekistan’s neighbours and the other countries in Central and Eastern Europe (CEE), such as Poland and Russia, can be relatively quickly replicated and risk management and operational methods implemented. The senior management of the banks, of course, need to be on-board and there needs to be a carefully orchestrated organisational change management processes.
● Most importantly, the people in charge of the reforms are western educated (Timur Ishmetov is the UK educated Minister of Finance. Omonulla Nasretdinhojaev is a Bocconi graduate. And the Central Bank is led by the reformer Mamarizo Nurmuratov). Their understanding of the urgency of reforms and their potential impact on the economy will ensure the smooth implementation of the strategy’s goals. Another example of faith in speed of reforms is the largest (in terms of branches and staff) bank-Xalq banki is led by Farhod Salomov, a young banker who cut his teeth working for a US bank and who is attempting to make this elephant dance. The analogy with German Gref at Sberbank springs easily to mind.