HUNGARIAN BANKING SYSTEM: LIQUIDITY YES, LOANS NO

UNCLAS SECTION 01 OF 02 BUDAPEST 000883 SENSITIVE SIPDIS DEPARTMENT FOR EUR/CE JMOORE, EB/OMA, INR/EC, TREASURY FOR ERIC MEYER, JEFF BAKER, LARRY NORTON; COMMERCE FOR SSAVICH E.O. 12958: N/A TAGS: EFIN ECON PREL HU SUBJECT: HUNGARIAN BANKING SYSTEM: LIQUIDITY YES, LOANS NO REF: A. BUDAPEST 858 ¶B. BUDAPEST 871 BUDAPEST 00000883 001.2 OF 002 ¶1. (SBU) Summary. Although the Hungarian banking system is awash in forint liquidity, retail lending levels remain low. High borrowing costs and the difficult economic climate are impacting consumer and small business demand for loans, while deteriorating customer credit scores and high risk aversion negatively affects banks' willingness to lend. As a result, commercial banks are increasingly putting their money in the central bank in the form of two-week bonds, the value of which has nearly quadrupled since the beginning of the year. Although there have been attempts to make credit more available - in particular to small businesses - the lack of growth in lending is contributing to the continued stagnation in domestic consumption levels. Ideas to make loans more affordable and to increase banks willingness to lend are being proposed, but may fall to the next government to implement. End Summary. LIQUIDITY RETURNS, LENDING DOES NOT ¶2. (U) A lack of liquidity is no longer a serious problem in Hungary's banking system. According to the Hungarian National Bank's (MNB) November Financial Stability Report, liquidity in the banking sector has improved significantly over the past six months. In addition to lower financing risks, the MNB notes that forint liquidity has been boosted by central bank measures (lower reserve requirements, wider range of eligible collaterals, new credit structures) and by refinancing of the maturing forint-denominated bonds of the government by the IMF loan. ¶3. (U) Despite the significant improvement in the liquidity situation, borrowing in Hungary continues to decline, primarily due to high borrowing costs and an unwillingness of banks to lend. According to MNB data, in October, households repaid approximately USD 70 million more in loans than had been taken out, and housing loans were at their lowest levels in nearly five years. Adam Farkas, head of Hungary's Financial Supervisory Authority (PSZAF) noted on December 4 that despite "abundant forint liquidity," high forint interest rates are a key factor discouraging households from taking loans. Consumer and business demand for loans is also 
negatively impacted by Hungary's deep recession and growing unemployment rate. ¶4. (U) There are supply side factors as well, including a decline in banks' willingness to lend, as banks seek to improve loan portfolio quality in the face of deteriorating customer creditworthiness caused by the current economic environment. A November survey of senior loan officers on bank lending practices reveals that most banks in Hungary continue to report a decline in credit availability (willingness to lend) during the third quarter of 2009. MNB officials explain that this year "the unfavorable macroeconomic and money market environment raised credit risk significantly, while banks' risk tolerance weakened significantly." As a result, "banks are not circulating the ample liquidity to the real sector." MONEY IN THE (NATIONAL) BANK ¶5. (U) Instead of increasing household or corporate lending, banks are increasingly putting their money in the central bank through the purchase of two-week MNB bonds. According to MNB data, by the middle of 2009, banks' overnight deposits and two-week MNB bill holdings reached nearly 15 percent of the domestic banking sector's balance sheet total. The value of two-week MNB bills alone purchased by banks increased from approximately USD 5.5 billion in January 2009, to nearly USD 19 billion today. DOMESTIC CONSUMPTION DOWN ¶6. (U) Given existing fiscal and monetary policy constraints (ref A),many observers see lending growth as one of the few avenues available to Hungary to help increase domestic consumption and investment, thereby helping improve Hungary's growth outlook. In its most recent financial stability report, the MNB notes that "due to the strong interaction between the banking sector and the macroeconomy, persistently tight credit market conditions imply a significant risk to economic growth." Analysts do not expect the situation to turn around anytime soon. Erste Bank macroeconomist Nyeste Orsolya points out that while there has been an improvement in the performance of exports, "the deeply negative domestic BUDAPEST 00000883 002.2 OF 002 consumption is unlikely to show any spectacular recovery in the near term." FINANCING FOR SMALL BUSINESSES ¶7. (U) The government has taken some measures during the past year to provide small and medium-sized enterprises (SMEs) with financing support, including increasing micro loans and doubling the SME guarantee facility. According to the OECD, however, the overwhelming majority of SMEs are not "bankable" in Hungary, since "strict collateral requirements for loans, tiny supplies of venture capital, high real interest rates, and banks' insufficient expertise in assessing small and micro firms' credit risk combine to constitute a powerful web of financial constraints." ¶8. (U) One popular program that is helping to provide financing for Hungarian small businesses is the Szechenyi Card (ref B). Under the program, SMEs can apply for a revolving line of credit ranging from USD 6,000 to USD 150,000 at a lower, government-subsidized interest rate. To encourage banks to grant credit, participating banks receive a state guarantee for up to 80 percent of the value of the loan. ¶9. (U) CEO Laszlo Krisan of KA-VOSZ (the firm implementing the Szechenyi Card Program) estimated that 125,000 Hungarian SMEs (approximately 20 percent of SMEs) are currently extended USD 3.5 billion worth of credit under the program. KA-VOSZ Development Director Zoltan Szep notes that this year they have seen a 10 percent increase in companies applying to join the program above projected growth levels - a figure they attribute to Hungary's deep recession and SMEs lack of access to alternate sources of credit. COMMENT: TURNING LIQUIDITY INTO LOANS ¶10. (SBU) There is broad recognition of the need for affordable financing for SMEs and consumers in order to help revive domestic demand in the face of Hungary's deep recession and necessary conservative fiscal policies. Former MNB Governor Gyorgy Suranyi has proposed one such plan in which the Hungarian Development Bank would offer subsidized one-year bonds to commercial banks that would in turn offer longer term loans to SMEs and individuals at more competitive rates. This and other programs, however, would take time to develop and implement. With Parliament adjourning on December 14 and national elections just over the horizon, the task of reviving lending will likely fall to the next government. LEVINE