This is a crisis which began, in essence, on the other side of the Atlantic and has spread throughout almost the entire world.
The starting point of its evolution has been the bankruptcy of Lehman Brothers, the American investment bank, in September 2008. The collapse of Lehman Brothers has brought out, on a global scale, the issue of capital adequacy of financial institutions, the quality of their capital structure and the failure of the global financial system in terms of assessing the risks that had been undertaken. Fortunately for Greece, this exogenous crisis and the adverse global developments in the money and capital markets had a relatively limited impact on the stability of the Greek financial system, compared to the systems in other countries that have been severely affected by this crisis. It is no coincidence that the Greek banks had no significant losses and demonstrated remarkable durability in this worldwide malaise. In a nutshell, the strength of the Greek banking system is attributed to the following six factors:
1. The almost insignificant exposure of Greek banks to products that have been developed by banks that have gone bust or to other problematic high-risk financial products.
2. The small leverage in the balance sheet statements of banks (i.e., the percentage of total debt to their own capital).
3. The strong deposit base.
4. The satisfactory liquidity in the system, which is attributed to the strong growth of the Greek economy during the last few years and the expansion of Greek banks to the rapidly developing countries of south-eastern Europe.
5. The relatively satisfactory capital adequacy (i.e., the relationship between the level of capital to the risks undertaken).
6. The capital structure of supervisory own funds which is of a relatively good quality (i.e., the percentage of own funds without any debt characteristics over the capital that has some characteristics of debt).
The capital adequacy of Greek banking groups and the capital structure of their supervisory own funds, play a catalytic role in the stability of the financial system and the confrontation of the risks that undermine it. This holds true because the level of protection against risks is not only attributed to the level of capital but also to the quality of capital.
A comparison between Greek banking groups and a representative sample of EU banking groups lead us to the following significant conclusions for the endurance of the Greek banking system:
1. The Greek banking groups are utilizing, in general, better quality capital compared to other EU banking groups. In Greece, the ratio of Tier I capital (the category of better-quality supervisory own funds) over total supervisory own funds, ranges at a level beyond 80% for every category of market capitalization. In the case of EU banking groups, this ratio was never beyond 80% for each banking group examined, while in certain cases it was below 70%.
2. The Greek banking groups generally make more use of the higher-rating hybrid capital (supervisory own funds with debt characteristics). More specifically, in Greece, banking groups with a high level of market capitalization utilize to a wider extent better quality hybrid capital before resorting to subordinated debt (supervisory own funds with mostly debt characteristics). On the other hand, EU banking groups which belong to the high capitalization category, make less use of the better quality hybrid capital in relation to the Greek banking groups, while there is also wider use of subordinated debt.
The Greek banking groups did not follow, in general terms, the development model of expansion and growth of other European banks mostly towards the south-eastern European countries. This expansion was based on a greater percentage of lower quality capital and conducted investments that made use of larger percentages of borrowed funds over total supervisory own funds. Nevertheless, the uncertainty of the magnitude and the duration of the global crisis is a cause of concern for Greek banks in 2009.
Firstly, all credit institutions should utilize as soon as possible the €28 billion financial support plan. Ideally, this utilization would be accompanied by increases in capital adequacy ratios, and more specifically on Tier I ratios together with improvements in their capital base and structure with capital of an even better quality.
Secondly, the Bank of Greece (BoG) for its part should adequately evaluate the risks that are embedded in the portfolios of commercial banks, especially for those banks with a significant presence in European developing countries and south-east Mediterranean countries. The risks from investments in those markets are significantly higher than those of the domestic markets. Following that, the BoG must encourage banking groups to strengthen their capital adequacy in accordance with the level of risk embedded in their portfolios.
Finally, the methods and procedures for monitoring the risks should be improved for almost all the banking groups, in particular those that are “aggressively” penetrating foreign markets. Continuous and scheduled examinations from specialists with the know-how and expertise in the area of risk management could help forecast future problems.
[Dr. Nikolaos Georgikopoulos is Research Fellow at the Centre for Planning and Economic Research (KEPE) in Athens, Associate Research Fellow at the Institute for Financial Engineering (IFE) - Imperial College London, and Member of the Society for Financial Econometrics (SoFiE) - New York University.]