From credit crunch to credit boom: transitional challenges in Bulgarian banking, 1999-2006

New econometric evidence is provided to identify the determinants of the rapid credit growth in Bulgaria and evaluate whether the credit boom has increased bank fragility, based on a panel data analysis of 30 Bulgarian banks over the 1999-2006 period. Employing Fixed effects and GMM estimation techniques to explore the link between credit and capital base in a partial adjustment framework, the study provides evidence for the growing risks of credit expansion and assesses the potential for banking distress in Bulgaria. The paper argues that after a period of severe credit crunch during 1997-1999, foreign-owned Bulgarian banks have financed a credit boom, especially since 2003 but this indicated growing risk in lending and increasing vulnerability to a systemic banking crisis as banks reduced their capital base and registered an increase in non-performing loans. Aggressive lending by less-capitalized banks without appropriate loan loss provisioning has also been verified empirically in a number of panel specifications. While well-capitalized banks have tended to expand credit in proportion to their capital base, banks with weak capital base engaged in excessive risk taking, and expanded credit despite growing ratio of non-performing loans. Hence, the credit boom has come at the expense of increased banking fragility in Bulgaria, raising the probability of bank failure in the event of a downturn in global financial flows which became a disturbing reality in 2008.Bulgarian banking, GMM estimation, credit boom, credit crunch

From credit crunch to credit boom: transitional challenges in Bulgarian banking (1999-2006)

New econometric evidence is provided to identify the determinants of the rapid credit growth in Bulgaria and evaluate whether the credit boom has increased bank fragility, based on a panel data analysis of 30 Bulgarian banks over the 1999-2006 period. Employing Fixed effects and GMM estimation techniques to explore the link between credit and capital base in a partial adjustment framework, the study provides evidence for the growing risks of credit expansion and assesses the potential for banking distress in Bulgaria. The paper argues that after a period of severe credit crunch during 1997-1999, foreign-owned Bulgarian banks have financed a credit boom, especially since 2003 but this indicated growing risk in lending and increasing vulnerability to a systemic banking crisis as banks reduced their capital base and registered an increase in non-performing loans. Aggressive lending by less-capitalized banks without appropriate loan loss provisioning has also been verified empirically in a number of panel specifications. While well-capitalized banks have tended to expand credit in proportion to their capital base, banks with weak capital base engaged in excessive risk taking, and expanded credit despite growing ratio of non-performing loans. Hence, the credit boom has come at the expense of increased banking fragility in Bulgaria, raising the probability of bank failure in the event of a downturn in global financial flows which became a disturbing reality in 2008

Monetary Transmission and Bank Lending Channel under the Currency Board: The Case of Bulgaria, 1999-2010

How do transitional economies’ banking sectors transmit monetary policy? In particular, how does monetary policy interact with bank lending under a currency board regime? In the Bulgarian currency board regime, the lev is irrevocably fixed in terms of the anchor currency, the euro, and the Eurozone monetary shocks are mainly transmitted to the Bulgarian economy through changes in the key interest rates and the monetary base. Moreover, Bulgarian banks, mostly foreign owned, remain dependent on parent banks located in the Eurozone economies for funding corporate loans. These special features of the Bulgarian monetary and banking environment warrant a detailed study of the monetary transmission of the Eurozone shocks to its domestic financial sector, in particular, to the bank system and its ability to extend loans. After assessing the relative strength of monetary integration between Bulgaria and the Eurozone by means of cointegration methodology, this chapter studies the bank lending channel of monetary transmission using a panel of quarterly time series of Bulgarian commercial banks for the period 2001- 2010 with a focus on the differential effects of monetary policy shocks on the growth rate of loans for banks with different characteristics. The econometric results, based on dynamic panel specifications of the Generalized method of moments (GMM) methodology suggest that banks respond strongly, in terms of their lending, to monetary impulses as measured by the base interest rate but the degree of its intensity varies with several bank specific measures, such as size, capitalization, and liquidity. This is taken as evidence for the presence of the lending channel in the Bulgarian case. The chapter also claims that the policy reaction of the BNB to the credit boom of 2002-2007 and the subsequent global financial crisis implies an active macro-prudential oversight on the financial sector despite the limited number of instruments at its disposal. Although the data is brief, an attempt is also made to capture the impact of the global financial crisis (2007-2009) on the bank lending channel in the Bulgarian context

The Determinants of NPLs in Emerging Europe, 2000-2011

The emerging Europe has been hardest hit by the surge in the non-performing loans (NPLs) in the aftermath of the global financial turbulence and the crisis-induced recession. The surge in the NPLs generated a severe banking distress, and left a legacy of a debt overhang that dramatically constrained bank lending and served as a drag on economic growth in the post-crisis period. We quantitatively study the determinants of loan losses in static and dynamic panel models with a focus on the linkages between the macro-financial vulnerabilities and a wide range of bank specific variables in 20 emerging European countries during 2000-2011. Our results indicate that the NPL dynamics have been particularly sensitive to real GDP growth, and inflation, while bank profitability as a proxy for management quality plays a significant role in constraining loan defaults. By contrast, higher lending rates may lead to adverse selection problems, and hence reduces loan quality. There is also some weak evidence that rapid credit growth as a measure of excessive risk taking in lending serves as a precursor to worsening loan portfolio quality. We observe, based on a unique data set, that banks in the region increasingly employ advanced risk management regimes (Internal Rating Based, IRB) with the potential to better monitor and evaluate loan quality and hence, rein on problem loans

Does a Credit Boom Increase Bank Fragility?

Based on a panel data analysis of thirty Bulgarian banks over the period 1999-2006, I identify the determinants of Bulgaria's rapid credit growth and evaluate whether the credit boom has increased bank fragility. I employ fixed effects and generalized method of moments approaches to explore the link between credit and capital base in a partial adjustment framework and find evidence of growing risks of credit expansion, which raise the probability of banking distress in the event of a downturn in global financial flows, as occurred in 2008. The credit boom has come at the expense of increased banking fragility, as banks reduced their capital base and registered an increase in nonperforming loans. Amid a quickly unfolding global financial crisis, conservative supervision of the banking sector by the Bulgarian National Bank and a stable currency board regime was a bulwark against potential banking distress and ensured financial and macroeconomic stability without resorting to International Monetary Fund funding.

Editor-in-Chief

Andrejs Geske (University of Latvia, Latvia) B. N. Ghosh (Eastern Med. Univ. North Cyprus) Bayram Ürekli (University of Selçuk, Türkiye) Erdinç Didar (American University, Bulgaria) Ercan Tatlıdil (University of Ege, Türkiye) Erman Artun (University of Çukurova, Türkiye) Hikmet Y. Celkan (University of Gaziantep, Türkiye) Hüseyin Bağcı (METU, Türkiye) Jean Crombois (American University, Bulgaria) Kemal Silay (Indiana University, USA) Lelio Iapadre (University of L'Aquila, Italy) Michael Goldman (University of Minnesota, USA