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Nonperforming Loans in CESEE - What Do They Comprise?

Nonperforming Loans in CESEE - What Do They Comprise

Every so often in surveys or studies including data on nonperforming loans (NPLs) for different countries, we see remarks or references pointing out that the respective NPL information is incomparable, in particular as regards NPL levels.

In this study, in an attempt to overcome this obstacle at least up to a point, we strive to perform an analytical stocktaking exercise with respect to NPLs in Central, Eastern and Southeastern Europe (CESEE). 

Another motive is to look at credit developments before, during and after the crisis from a comparative NPL viewpoint. Given their swift and steep increase, nonperforming loans had turned into one of the focal points of attention during the crisis and have since remained relatively high or have only been declining at a slow pace. 

Coming to terms with the non performing loans problem appears essential, given that NPLs may compromise financial stability and macroeconomic recovery simultaneously. 

Section 2 presents the international NPL definition recommended by the IMF FSI Compilation Guide plus FSI data, and national NPL definitions plus national data as can be found in ten of the largest CESEE economies. 

Given that national NPL definitions, as will be shown, are not substantially at variance with international guidelines and given the still inadequate range and depth of data based on the international definition, it is decided here to concentrate further on available national NPL data series, which are essentially based on national credit quality classification schemes. 

This, however, should not be taken as lack of support for any attempts (already at the national level) at further harmonizing standards for the reporting of asset quality (and in particular NPLs) on the basis of binding international norms and definitions. 

On the contrary: Doubtlessly, there are caveats involved in trying to derive comparable NPL indicators from data reflecting differing national loan classification schemes, as is also acknowledged in this study. 

Where it appears necessary in the interest of comparability, we suggest adjustments of a given NPL definition to be able to carry out the comparison exercise in a more effective way. 

In section 3, we undertake such a comparison exercise, providing a brief descriptive overview and discussion of the evolution of NPLs and some subcategories in Bulgaria, Croatia, the Czech Republic, Hungary, Poland, Romania, Russia, Serbia, Slovakia and Ukraine from 2005 to 2010. Section 4, finally, presents a summary of the study and an assessment of its results.

Definitions, Data Availability and Comparability of Nonperforming Loans

The most widely known international definition of nonperforming loans was developed by the IMF in the framework of the Financial Soundness Indicators (FSIs) endorsed by the IMF Executive Board. 

The FSI Compilation Guide of March 2006 (IMF, 2006, p. 46) “recommends that loans (and other assets) should be classified as NPL when (1) payments of principal and interest are past due by three months (90 days) or more, or (2) interest payments equal to three months (90 days) interest or more have been capitalized (re-invested into the principal amount), refinanced, or rolled over (i.e. payment has been delayed by arrangement). 

The 90-day criterion is the time period that is most widely used by countries to determine whether a loan is nonperforming. (…) Indeed, the Guide regards the guideline of 90 days past due as an outer bound and does not intend to discourage stricter approaches.” Apparently in an attempt to further facilitate cross-country comparability of measurement, “the series ‘nonperforming loans’ are redefined” in the updated November 2007 version of the Compilation Guide (IMF, 2007, p. 6) “on the basis of a uniform criterion of ‘principal or interest payments 90 days overdue’. (…) .

This implies that the amended definition would not include, as the previous one in the Guide, stricter approaches.” A major advantage of this definition is that it provides a simple, clear and uniform yardstick to which national practices may further converge in the future. 

Also, the cross-country comparative presentation of NPL time series (and of time series of a number of other prudential data) on the FSI website (http://fsi.imf.org) brings more international transparency into financial soundness indicators that are pivotal to assessing economic developments in a financially not so stable world. 

However, the NPL data presented on the FSI website are not yet comprehensive, and time series are limited to five years, and in the case of Serbia, to three years. As is evident from table 1, only annual data are available, save the most recent data entry for 2011, for a number of countries (Bulgaria, Croatia, Serbia, Slovakia and Slovenia). 

Even where quarterly data are found, they cover less than a year (Poland, Romania and Russia) or up to four years (Czech Republic and Hungary). Moreover, the FSI website consists of two NPL data subsources, the FSI database (http://fsi.imf.org) with country data tables and the GFSR FSI tables (http://fsi. imf.org/fsitables.aspx), which are mostly – but not entirely – consistent with each other. 

Nonnegligible discrepancies in annual NPL data between the two subsources show up for the Czech Republic, Slovenia and Ukraine (see table A1 in the annex). Subcategories of NPLs (e.g. doubtful or loss, NPLs relating to retail or wholesale credits) are not available. 

Finally, despite the fact that the reporting countries are encouraged to follow the guidelines laid out in the FSI Compilation Guide, compilation practices may vary across countries, which limits cross-country comparability (Babihuga, 2007, p. 6; IMF, 2011b). 

Here, the FSI database might be made more user-friendly by identifying more clearly data adjustments made to national sources. It therefore seems more promising to give a detailed look at national definitions of NPLs. 

This is not to suggest that the scrutiny of existing national NPL data is the optimal path. It would rather appear to be a second-best solution as long as no consensus on the introduction of binding international (or at least regional) norms and definitions for the reporting – also at the national level– of asset quality (and in particular nonperforming loans) has been reached. 

Any initiatives in this direction (e.g. the Vienna Initiative Working Group on NPLs) should be welcomed. In this vein, this study could make a contribution to indicating aspects that may be in need of international harmonization. If and when international reporting standards will be established and applied, there will still be the need to address the data previously reported.

National Classifications and Definitions: Comparability in Need, but Sufficient Data to Work with

In practically all IMF member countries, the financial supervisory agency has the legal authority to issue prudential regulations regarding the classification of loans. Such lower-level legislation is liable to change relatively frequently, thus making the full consistency of time series uncertain. 

While not devoid of statistical breaks and other possible problems, time series based on national definitions are evidently longer and much more extensive than what is available on the FSI website. 

As can be seen from table 2, most national definitions relate to the commonly used loan quality classification (standard – watch – substandard – doubtful – loss), whose weakest three categories (substandard – doubtful – loss, in the following called: “s-d-l”) are typically identified as a nonperforming loan (see e.g. IMF, 2005, p. 396). 

But the concept of NPLs goes much beyond adding up subcategories published by supervisory authorities. 

NPL definitions based on national credit quality classifications of CESEE countries5 largely appear to be comparable: First, they bear important similarities to the above-mentioned international definition: As can be gleaned from table 3 as well as from its immediate source, table A2 in the annex, the majority of the NPL definitions of the countries dealt with in this study are based on the 90-day-past-due (in the following called: “90days+”) criterion and no national definition is contradictory to this yardstick. 

Second, another common characteristic is reference to the existence of “well-defined weaknesses” or a similar formulation as a trait of a nonperforming loan or borrower. The NPL definitions of practically all countries analyzed here include this element in one way or another. 

A kind of model classification was drawn up by the Institute for International Finance (IIF, see table A2). Some other criteria also play a role (e.g. the downgrade  requirement and the treatment of restructured loans, as explained in the next subsection).
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