As even the European countries hardest hit by the coronavirus pandemic are beginning to relax lockdown restrictions, Brussels is slowly starting to take stock of the economic carnage left in the epidemic’s wake. In an effort to ensure that the worst economic recession in the European Union’s history does not break its banking sector, the EU has already pledged €500bn in capital relief to help banks support the strain of higher demand for loans and an expected increase in defaults. It has also decided to postpone the full implementation of accounting standards which might erode banks’ capital.
Factors including the fragmentation of European capital markets, however, mean that the EU has limited tools at its disposal — notably in comparison with the US where capital markets play a key role in financing the economy. As many senior bankers now argue, Europe’s banks have to crystallise their role as an intermediary between public authorities and the economy. In order to do so, however, they must have a stable legal environment — something which is particularly tricky in the Central and Eastern European (CEE) economies still outside the eurozone.
But if the European institutions are now hard at work to ensure the stability of the continent’s banking sector, for CEE watchers this is a classic case of too little, too late. In fact, multiple financial fires raging across the region could have been put out had EU institutions responded sooner to the populist lawfare banks have been put through over the past few years. And perhaps the most egregious example of that has been the forced conversion of existing loans into local CEE currencies, sometimes even retroactively, which has left banks — many of them subsidiaries of eurozone financial institutions — billions in the red.
The debacle began due to the very high mortgage rates which prevailed in CEE countries around the turn of the millennium for loans in local currencies. In order to propose more affordable interest rates, many CEE banks offered loans denominated in Swiss francs. But after many of these national currencies sank in value against the Swiss franc in the mid-2010s, the borrowers’ capacity to pay back their loans decreased substantially. Not wanting to leave borrowers in a dire situation, CEE governments reacted — with much gusto.
It shouldn’t be a surprise to see that Viktor Orban’s Hungary wrote the blueprint. In 2015, his government forced banks to convert Swiss franc loans into forints. At the time, concerns proliferated that Orban’s manoeuvre might damage long-term trust in Hungary’s banking institutions. Voters didn’t mind that much, and the tactic worked pretty well: Budapest has posted solid economic growth since and its ranking on the World Bank’s Ease of Doing Business has improved.
Orban’s seeming success has since inspired Poland, Croatia, Romania and other CEE countries to look to similar courses of action — except without the saving grace of the Hungarian approach, which saw the central bank support the country’s financial institutions and help them cover their substantial losses. Even with this additional support for the banking sector, pitting the general public against the banks is not a sustainable financial strategy.
Though Polish holders of Swiss franc loans have cheered a 2019 European Court ruling allowing the conversion — the final decision still has to be taken by Polish courts — Poland’s banking sector could suffer major losses from which it may not recover after the COVID-19 pandemic. It’s understandable that Poland feels a compulsion to offer a lifeline to the 450,000 borrowers who still hold loans indexed in Swiss francs — but allowing major national banks to take a hit equivalent to four years of profit is sure to limit their ability to finance the economy.
Despite these systemic economic risks, CEE’s populist governments have increasingly opted for short-term wins. Croatia is the quintessential example: soon after Hungary, Croatia’s Social Democrats pushed ahead with a blanket decision to force the conversion of loans from Swiss francs into the Croatian kuna.
The move, as well as a series of decisions in Croatian national courts, gave a clear advantage to borrowers — but left Croatian banks facing billions of euros in losses. Already in 2015, the European Central Bank (ECB) criticised the Croatian loans conversion, particularly its retroactive effect, while in 2016 the European Commission asked Zagreb to rethink the law, judging that it “disproportionately hurt local lenders”. The European institutions’ disapproval already posed a particular problem as Croatia aspires to join the banking union and the eurozone, putting it under especially close scrutiny.
Now, amidst the economic devastation caused by COVID-19, there’s yet another reason why it’s pivotal that CEE financial institutions are in a good state. Given the importance of the banking sector to whatever recovery the EU can hope for in the months ahead, can the von der Leyen Commission ensure CEE banks are able to function in healthy regulatory requirements that conform with European laws and principles? Can the EU institutions find a way to take coherent decisions for the bloc’s economic health, both for countries inside and outside the banking union? The economic stability of the bloc’s CEE members may depend on the answer.
Nicolas Tenzer is chairman of the Paris-based Centre for Study and Research for Political Decision (CERAP), author of three official reports to the government, including two on international strategy, and of 22 books, including When France Disappears From the World (in French), Paris: Grasset, 2008 and 2013; The Word in 2030. The Rule and The Disorder (in French), Paris: Perrin, 2011; and lastly with R. Jahanbegloo, Resisting Despair in Confrontational Times (in English), Delhi, Har-Anand Pub., 2019.