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Managing Systemic Banking Crises David S. Hoelscher Systemic Banking Issues Division MFD/IMF

Managing Systemic Banking Crises David S. Hoelscher Systemic Banking Issues Division MFD/IMF. Introduction. Recent systemic banking crises have emerged in Argentina, Ecuador, Mexico, Turkey, and Uruguay.

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Managing Systemic Banking Crises David S. Hoelscher Systemic Banking Issues Division MFD/IMF

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  1. Managing Systemic Banking Crises David S. HoelscherSystemic Banking Issues DivisionMFD/IMF

  2. Introduction • Recent systemic banking crises have emerged in Argentina, Ecuador, Mexico, Turkey, and Uruguay. • These recent crises introduce new challenges not seen in the Asian banking crises of the late 1990s.

  3. A banking crisis is systemic when a loss of confidence the financial system is sufficiently large to have an impact on the real economy. The real effects arise from disruptions to the payments system, reduction in credit, and loss of asset value. A key feature is the impossibility of distinguishing viable from nonviable banks. What identifies systemic banking crises?

  4. Fiscal Costs of Systemic Crises(In percentage of GDP)

  5. Banking distress can persist for considerable time. A crisis can be triggers by any number of events economic developments political factors just bad luck Irrespective of origin, a crisis first emerges as a liquidity problem in one, or some, or all banks Triggers of crisis

  6. 3. Stylized Phases of Crisis Management • Phase 1 – Crisis Containment • Phase 2 – Bank Restructuring and Resolution • Phase 3 – Management of Impaired Assets

  7. Objective: Stabilize bank liabilities and protect the payment system Measures: Provide liquidity support to illiquid institutions Sterilize support with appropriate monetary policy Protect depositors (establishing a blanket guarantee has proven successful in some circumstances) Once depositors protected, remove nonviable banks Announce a medium-term restructuring program If all this fails: resort to administrative measures as a very last resort Phase 1 - Containing the Crisis

  8. Objective: Restore viability and efficiency of the sector Measures: Diagnosis Legal and institutional reform Resolution of weak banks Phase 2 - Bank Restructuring

  9. Phase 2 - Bank Restructuring (2) • Diagnosis • A medium term perspective needed • Need to evaluate banks based on uniform criteria • Special audits have been tried with mixed results • Classify banks into viable and nonviable banks.

  10. Phase 2 - Bank Restructuring (3) • Institutional and legal arrangements • A single, high level authority is needed to provide political support and coordinate efforts • Where possible, existing institutions should be charged with implementation • Where institutional or legal reforms are needed, quick progress is needed.

  11. Bank Resolution Viable, undercapitalized banks: Shareholder responsible for recapitalization Present time-bound restructuring plans Be subject to intensive reporting and monitoring Insolvent, unviable banks: Should be intervened and resolved quickly. The bank may be resolved, but the banking business preserved. Deposits should be transferred to sound banks. Should be passed to agency responsible for resolution. Resolution options guided by “least cost” criteria. Bank Restructuring (4)

  12. Use of public funds for recapitalization: May be justified under special circumstances Should be last resort Could be designed to encourage private sector contributions Bank Restructuring (5)

  13. Objective: Ensure orderly management of weak bank assets Dealing with impaired assets - centralized versus decentralized - speed versus value Phase 3 – Management of Impaired Assets

  14. 6. Recent Challenges • Dollarization • Sovereign Debt Restructuring

  15. Dollarization • Issues • Complicates management of deposit runs • Increases credit risk • Reduces effectiveness of policy tools (LOLR, blanket guarantees) • Measures • Increase liquidity coverage for dollar deposits • Obtain foreign credit lines to support international reserves • As a last resort, administrative measures may be only option

  16. Sovereign Debt Restructuring Few cases to analyze • Impact depends on unknowables • Bank exposure to the sovereign • Currency denomination of debt • Terms and modalities of restructuring • Any strategy for sovereign restructuring must include explicit consideration of the impact on the financial system.

  17. Conclusions and Lessons • Supportive legal and institutional framework should be in place before crisis hits • Make sure official safety nets are designed correctly (LOLR, blanket guarantee) • Aim for quick resolution, when momentum is there • Transparency in government actions is essential 5. Last but not least: Need for political leadership and coordination

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