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COVID-19: A Test Of The Highly Dollarized Georgian And Armenian Banking Systems


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History Of U.S. State Ratings


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COVID-19: A Test Of The Highly Dollarized Georgian And Armenian Banking Systems

S&P Global Ratings expects that banks in Georgia and Armenia will be able to withstand our expectations of a deterioration in asset quality due to lockdown-induced recessions in 2020. Under our base case scenario, the contraction in Georgia will be more severe than in Armenia because it has a greater share of tourism-related businesses that were hit hard by measures to contain the coronavirus epidemic. On the other hand, Armenia is more reliant on remittances, which accounted for about 13% of its GDP versus 10% in Georgia in 2019 and that we expect will decline sizably.

Nevertheless, GDP in both countries will shrink less than in most neighboring peer countries, due to structural economic differences and no dependence on oil revenues compared with peers such as Russia or Azerbaijan (see chart 1). In addition, Armenian and Georgian banks do not have excessive exposures to sectors that we believe will suffer more due to recession: tourism, transport, commercial real estate, construction, and leisure. The banks' direct exposure to these sectors is 15%-20% of total loans (see charts 2a and 2b).

Chart 1


Chart 2a


Chart 2b


Reliance on foreign currency funding exposes Georgian and Armenian banks to vulnerability in times of stress

We consider higher than peers' net external debt of the Georgian and Armenian banking systems--at about 25% of total loans at year-end 2019--a funding weakness because we believe that in time of stress like today's, external funding could be more volatile than funding from domestic sources (see chart 3). In Armenia, about 30% of total domestic deposits at year-end 2019 were from nonresidents, mainly comprising the Armenian diaspora, which we believe might be less stable and more confidence sensitive than deposits of residents. Additional foreign funding is from parent banks and multilateral financial institutions, often linked with particular on-lending requirements under special lending programs aimed at developing small and midsize enterprises (SMEs) or certain important economic sectors. We consider this type of funding to be more stable and less prone to panic-driven outflows than deposits of nonresidents, although we cannot exclude the possibility that new funding from institutional investors might diminish if economic risks will materially increase. Georgian foreign currency liabilities come predominantly from domestic depositors, international financial institutions, and deposits of nonresidents--the latter accounting for 20% of foreign currency-denominated liabilities at year-end 2019.

Chart 3


Despite a gradual reduction over the past four years, foreign currency deposits in Georgia and Armenia remained at the highest level among international peers, and we expect them to stay above 50% in the next two years. The population prefers to keep term deposits in foreign currency despite the central bank's efforts aimed at de-dollarization, such as offering a lower volume of deposit guarantees for deposits in foreign currency and higher liquidity requirements for these deposits.

Absent an active foreign exchange market and given the tight supply of local currency, banks typically raise funding in foreign currency to match loans in foreign currency, which boosts dollarization, resulting in high currency risks for the sector that might potentially translate into credit risks in case of currency depreciation. However, asset and liability mismatches in foreign currency are not large.

We expect material deterioration in asset quality for Georgian and Armenian banks in 2020-2021 under our base case of mild currency depreciation

We expect the asset quality of Georgian and Armenian banks to deteriorate in 2020-2021 with nonperforming loans (NPLs; loans over 90 days overdue) increasing to about 8%. Historically and in the forecast, NPLs in Armenia are somewhat higher than in Georgia. We forecast that banks will create new provisions for loan losses that will reach 3%-4% of total loans in 2020, compared with just about 1% for Georgian banks and 1.5% for Armenian banks in 2019 (see chart 4).

Chart 4


We believe the current stress will weaken the credit quality of Georgian and Armenian banks because of a numbers of factors: high household debt and loan dollarization and fast loan growth over the past few years.

Georgia and Armenia feature the highest household debt among peers.  Household debt in Georgia and Armenia has grown rapidly in the past decade and is currently the highest among neighboring peer countries—but modest compared with that of developed countries (see chart 5). In Georgia, lower-risk mortgage loans account for about two-thirds of retail lending, while in Armenia higher-risk unsecured consumer loans account for the same share. A meaningful share of consumer loans in Georgia and Armenia is for small businesses, reflecting the economy's higher share of small businesses and therefore employment. We do not anticipate these loans will perform materially better under stress than unsecured consumer loans. Corporate debt is also higher than peers' average, with corporate bank debt approximately equally split between SMEs and large corporates. We expect that debt growth will moderate in 2020-2021 due to the effects of the pandemic.

Chart 5


The two countries have the highest rate of loan dollarization among peers.   We believe the main vulnerability to credit risk could come from these countries' very high share of lending in foreign currency to unhedged retail and corporate borrowers compared with peers', in case of a more severe currency depreciation than the under 5% in 2020-2021 under our base case (see chart 6). Furthermore, Armenia to a larger extent and Georgia to a smaller extent remain the only countries in the peer group that continue to disburse retail loans in foreign currencies. Mortgages to individuals in foreign currency accounted for about 38% of total outstanding mortgages in Armenia at mid-2019 and about 65% in Georgia as of May 1, 2020, although new loans in both countries were predominantly in local currency over the past two years. We acknowledge a positive trend in loan de-dollarization over the past five years from about 70% at year-end 2014, but do not expect it to fall below 50% in the next two years.

Chart 6


A large amount of newer loans in the countries will test borrowers' ability to repay amid recession.  Georgian and Armenian banks have enjoyed four years of rapid growth of an average 13% in Armenia and about 20% in Georgia amid favorable macroeconomic conditions. The current situation will test borrowers' ability to repay loans amid recessionary conditions.

Adequate Regulatory Support And Sufficient Capitalization Will Cushion The Impact Of The Pandemic On Georgian And Armenian Banks

Our recent ratings affirmations and stable outlooks on three out of the four Georgian and Armenian banks we rate reflect our view that they are well positioned to withstand the current stress with regulatory support. We believe that National Bank of Georgia and the Central Bank of Armenia were proactive and supportive in extending regulatory measures to the banking systems (see table 1).

Table 1

Regulatory Crisis Support Measures To The Banking Systems Introduced In 2020

Armenia Georgia
Key rate 4.5% (-100 basis points) 8.5% (-50 basis points)
Liquidity provision Unlimited repurchase agreements, foreign exchange swaps Repurchase agreements in Georgian lari, U.S. dollars
Delay of intoduction of regulatory requirements Capital-to-assets ratio, liquidity coverage ratio, net stable funding ratio Liquidity coverage ratio, capital-to-assets ratio, concentration metrics
Credit holidays for individuals Two months for consumer loans, six months for mortgages (interest and principal) Three months (interest and principal)
Credit holidays for companies Three to six months, individual terms Four months (interest and principal)
Recommended no or lower dividends by banks Yes Yes
Source: Central banks.

The National Bank of Georgia also acted proactively regarding loss recognition, forcing banks to book provisions upfront in the first quarter 2020 in line with the stress test it conducted. As a result, under national standards, Georgian banks' new loan loss provisions reached about 3.4% of gross loans at the end of first-quarter 2020. We believe this treatment is the most conservative in the region. Although this has already led to a decline in regulatory capital adequacy ratios, they remained safely above the minimum requirements.

We think some banks might delay the recognition of problem loans and therefore the creation of provisions in the next two years, thus evening out the negative impact on profitability and capital buffers over a longer time. We believe that Georgian and Armenian banks have sufficient capitalization to absorb the increase in credit costs and weakened profitability in 2020. We forecast that risk-adjusted capital ratios (RACs) for rated Georgian and Armenian banks under S&P Global Ratings' methodology could somewhat decline in 2020-2021 but remain in the range of 6.5-10.5%. They will compare well to RAC ratios for peers in the neighboring countries, which we expect predominantly in the range of 5%-7%. However, forecasting and credit losses even for 2020 is difficult because predicting the course of the pandemic itself carries a great deal of uncertainty.

S&P Global Ratings acknowledges a high degree of uncertainty about the evolution of the coronavirus pandemic. The consensus among health experts is that the pandemic may now be at, or near, its peak in some regions, but will remain a threat until a vaccine or effective treatment is widely available, which may not occur until the second half of 2021. We are using this assumption in assessing the economic and credit implications associated with the pandemic (see our research here: As the situation evolves, we will update our assumptions and estimates accordingly.

Related Research

This report does not constitute a rating action.

Primary Credit Analysts:Annette Ess, CFA, Frankfurt (49) 69-33-999-157;
Roman Rybalkin, CFA, Moscow (7) 495-783-40-94;
Secondary Contacts:Sergey Voronenko, Moscow (7) 495-783-40-03;
Irina Velieva, Moscow (7) 495-783-40-71;

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