Earlier last week BM.GE was reporting that Fitch downgraded three Georgian banks' support rating on resolution framework - these three banks being the systemic banks – Bank of Georgia, TBC Bank, and Liberty Bank.
It's no doubt that especially during the pandemic, the soundness of the Banking Sector is of crucial importance for Georgia due to its dominance on the background of underdeveloped capital markets on the one hand, and on the other, due to the fact that Georgia's banking sector is highly concentrated with these three largest banks accounting for 79% of assets, 81% of deposits and 78% of loans.
BM.GE decided to clarify whether or not this downgrade affects in any ways outlooks for these three systemic banks and might have an impact on the trust of the consumers and investors. Two of these systemic banks - BOG and TBC - are listed on the London Stock Exchange (LSE) and their investors follow Ratings closely.
So we approached both - Fitch Ratings and Georgia's Central Bank – NBG for more detailed comments and explanations. Alyona Agrenenko, Director of Fitch Ratings and Papuna Lezhava, vice-Governor of NBG took BM. GE's questions.
In its report, distributed earlier by the Fitch Moscow office, Fitch Ratings explained the logic behind the downgrade by the recent adoption of legislation on Georgia's banking resolution framework. "We believe that this legislation, combined with constraints on the ability of the authorities to provide support, mean that government bail-outs, although still possible, can no longer be relied upon" – reads the statement, elaborating further that the regime of the current resolution framework does not provide for mandatory senior creditor bail-in in case of failure, but instead states that decisions on bail-in and/or support will be at the sole discretion of the authorities, based on such considerations as broader financial market stability and the ability of the bank to continue its key operations: "This suggests that support for senior creditors is still possible, but the adoption of the resolution framework, combined with constraints on support ability, mean that support can no longer be relied upon, in our view" – Fitch Ratings explains.
NBG says, this view of Fitch Ratings on the resolution framework is not new to them; however, it is fully out-of-line with the assessments of other credible international institutions.
BM.GE decided to fact-check Vice-Governor Papuna Lezhava for his comment.
What we found so far on the issue is that in April 2020, Moody's upgraded the Government Support Rating for the same three systemic banks: "Georgia's largest banks benefit from government support rating uplift. We consider that there is a "high" probability that government support would be provided for senior creditors of the two dominant Georgian banks, namely TBC Bank and Bank of Georgia, and that there is a "moderate" probability of support for the third largest bank, Liberty Bank. The upcoming resolution regime does not change our views on government support" – stated Moody's in April last year, further calling Georgia's new recovery and resolution regime an important legislative step to enhance crisis management in a bank failure and support financial sector stability. "It strengthens the resolution powers of the National Bank of Georgia (NBG) and modernizes the resolution framework, bringing it largely in line with the European Union's BRRD and international best practice – Moody's stated, adding that - It will help contain contagion, reduce disruption to bank clients and markets, and potentially help reduce losses for creditors".
In May 2020, after the completion of the sixth review under the Extended Fund Facility and the approval of the request for augmentation of access to support Georgia address the COVID-19 Pandemic, International Monetary Fund (IMF) welcomed "the NBG's proactive monitoring of the impact of the crisis on asset quality in coordination with the banks, while also making further progress in implementing the resolution framework".
What seems to be the most important argument in Fitch Ratings recent report is the high dollarization of the banking system – as Fitch Ratings believes "the ability of the authorities to provide support is limited primarily because of the high dollarization of the banking system, with 62% of total liabilities being denominated in foreign currencies (FC) at end-11M20. The banking system's FC liabilities of USD9.4 billion exceed the National Bank's foreign-exchange reserves of USD3.9 billion. As a result, Fitch sees a significant risk of banks' need for government support coinciding with heightened constraints on the ability of the authorities to provide it due to stress in the country's external finances".
This argument stems from one of the basic pillars of the resolution framework which assumes that there should be no creditor worse off under the resolution regime than it would be under liquidation, and although he understands the thinking of Fitch Ratings behind the downgrade, it is not sufficient to the Vice-Governor of the NBG. "To counter that argument few things need to be considered - Papuna Lezhava tells me in a short interview to respond to Fitch Ratings - First, dollarization is not a new thing - we have identified this risk for some time now and are taking action; Second, before the adoption of this regulation government support was illegal - Georgian government was not able to invest in the equity of the banks at all; Third, before the adoption of the resolution there was no alternative to the liquidation regime. And finally, compared to the EU regime that requires a bail-in of a creditor which means a write-off of the debt or a conversion into equity - we do not have such a regime - we can use government support before the creditor takes any loss" - Lezhava explains.
Unlike NBG, Fitch Ratings politely declined from the interview, but agreed to take my questions and send answers in a written form, stating that its directors had nothing more to say other than what was already written in the released document.
Alyona Agrenenko, assures BM.GE and its readers that the Issuer Default Ratings (IDRs) and Viability Ratings (VRs) of the three banks are driven by their standalone profiles and intrinsic strengths and do not factor in potential support from the sovereign, thus the downgrade of Support Ratings and revision of Support Rating Floors do not have any impact on Fitch's assessment of the banks' financial profiles.
"The rating action has no impact on our assessment of the soundness of the Georgian banking sector - Alyona Agrenenko sent a written comment - As it considers only Support Ratings and Support Ratings Floors, which reflect our view on the likelihood of extraordinary support banks could receive from the authorities in case of need".
In her written comments Alyona Agrenenko, Director of Fitch Ratings also assesses the soundness of Georgian banks, which shows that most probably such extraordinary support won't be needed at least in the nearest future.
"We expect that revenues of the banking sector would improve in 2021 against the backdrop of the economic recovery and stronger credit demand. Banks have created significant pre-emptive provisions in 2020 against potential pandemic-driven asset quality weakening, reducing risks that banks will need to create high loan impairment charges in 2021 and incur losses - Alyona Agrenenko wrote to BM.GE - Thus, we expect sector bottom line profitability to be stronger in 2021, compared to around breakeven result in 2020. At the same time we believe that sector asset quality could deteriorate in 2021 as a result of the lagged impact of the downturn in 2020. However, we think that banks' pre-impairment profitability buffer would be sufficient to cover for potential losses without putting pressure on capital".
To sum up the first part of this Editor's Note is that this Downgrade from Fitch Ratings, does not reflect on Banks' standalone profile - it is the support rating which is a subcomponent and overall soundness of the banks is not affected.
"The investors of our banks are quite sophisticated - they know this reform - Papuna Lezhava tells me in conclusion to our interview - In many cases these investors are IFIs - who have themselves positively assessed this reform. So, all this makes us at the NBG think that overall, this report will have no material implications for banks and investors".
Since the assessment of Fitch is not the only approach to the banking resolution framework and since other reputable players such as Moody's and IMF have totally different analyses - BM.GE finds it interesting to research this issue further and give you more assessments of independent experts and analysts.
So, to be continued....