By Jean Christou
OF all the obstacles to putting the economy back on track, the IMF yesterday honed in on the banks’ non-performing loans (NPLs), citing the urgency for Cyprus to implement a foreclosures framework.
“The recovery of the Cypriot banking sector now hinges primarily on the successful and sustainable resolution of NPLs,” the IMF said in the Staff Supplement to its report. “Uncertainties related to NPLs also contribute to high funding costs, which translate into lending rates that further constrain credit demand,” it added.
NPLs have risen rapidly, and standing at 54 per cent of total loans or 143 per cent of GDP at the end of June. The growing strain was hindering credit and economic recovery.
On top of that, new lending is expected to be limited, given that the economy remains in recession and the recovery is expected to be modest, reducing the banking sectors’ to generate profits, build capital, and attract funding, said the IMF.
A positive result from the upcoming EU bank stess tests would help to boost confidence in the Cypriot banking sector and reduce liquidity pressures
“In sum, while progress has been made to stabilise the banking sector, addressing NPLs resolutely will be key to banks’ long-term viability and the resumption of credit and growth,” the IMF said.
“The reform of the legal regime for foreclosures and insolvency is a critical element.”
Cyprus’ sixth tranche of its bailout programme has been held up due to differences between the executive and legislature on foreclosures legislation. The Supreme Court is to rule on October 30 on whether four instruments tagged to the legislation by parliament are constitutional.
The IMF said a foreclosures framework needed to be implemented without delay and without interference from government agencies.
It described the law’s add-ons as “new obstacles”, including processes to delay foreclosures, moratoria, and debt-write-offs irrespective of viability considerations.
“These obstacles should be removed to protect the payment culture and provide incentives for debt restructuring.”
It said the banks were expected to use the law sparingly and mainly as a negotiation tool, as potentially declining collateral values due to foreclosures would affect their capital.
“To protect vulnerable groups, implementation of the foreclosure law for primary residences should be aligned with the new personal-bankruptcy legislation, and the authorities should ensure adequate implementation of the new safety-net reform protecting those most in need,” the IMF said.
It said supervisory tools also needed to be strengthened. Banks need stronger capacity and better incentives and tools to proactively restructure NPLs to spearhead the recovery. The Central Bank needed to follow up on its review of banks’ operational capacity and ensure that remaining deficiencies were being addressed.
“Early policy initiatives have not managed to curb the rising NPL trend,” the IMF said.
“NPLs are very high both in a historical and cross-country context. This reflects not only the severe recession, but also increasing strategic default. Indeed, NPLs exceed what could be explained by unemployment, especially given the large and positive asset position of households.”