IV. Recent Developments in the Banking Sector1
1. Thai banks’ financial positions have improved but remain weak. Banks posted profits in 2002 for the first time since the crisis and continued to strengthen their balance sheets. However, progress has been uneven and capital adequacy remains a concern for some banks, since some have delayed the full realization of losses and the necessary increase of capital. In addition to the risks from the poor quality of loans (about one third of loans have been restructured), banks are also exposed to interest rate risk given the rising share of securities investments in their portfolio. The recent pickup in lending activities has been mainly driven by state-owned financial institutions, including Specialized Financial Institutions (SFIs), raising concerns about the fairness of competition and prudence in lending practices. Despite those risks rating agencies share a positive outlook for Thai banks and have upgraded some banks to low investment grades from speculative grades. Nevertheless, Moody’s Financial Strength Index remains low but comparable to Korea and the Philippines.
B. Banking System Structure
2. Recapitalization, consolidation, and new ownership have shaped the current structure of the Thai banking system. At present, 13 commercial banks, compared to 15 banks pre-crisis, and 18 foreign branches2 operate in Thailand (Table 1) following the merger of two state-owned banks and the opening of one new bank (established by a merger of five finance companies and a credit foncier) in 2002. Three banks arc classified as state-owned, but government ownership has fallen to 49 percent in one of them after a public offering in September 2002.3 During and after the crisis foreign banks acquired majority ownership in four small banks, accounting for 7 percent of assets.
|Number||(B billions)||Number||(B billions)||Number||(B billions)||Number||(B billions)|
|Specialized Financial Institutions||7||667||930||7||821||1,266||8||883||1,411||9||1,070||1,629|
|Finance and Securities Companies 2/3/||91||1,310||1,639||36||5/||448||502||21||134||253||19||170||254|
|Credit Fonder Companies 2/||12||6||8||12||6||7||10||3||5||6||5||6|
|International banking facilities (IBFs) 4/||45||1,247||1,273||46||912||915||41||431||401||31||243||216|
|Nominal GBP (In B billons)||4,733||4,627||4,917||5,433|
3. The degree of concentration in the Thai banking sector is moderate. The four largest banks (three privately owned) account for about half of banking sector assets and deposits and somewhat less of loans.4 The share of state-owned banks is around one third and, in addition, SFIs conduct about 18 percent of lending operations. Activities of non-bank financial institutions, namely finance and securities companies, credit fonciers and international Banking Facilities (IBFs) (or “offshore banking activities”) have continuously fallen since the crisis. Loans of B 418 billion compare with B 2,592 billion pre-crisis (Table 1).
4. A plan to shape the future structure of Thailand’s financial landscape is currently being developed by the government and BOT. The Thai banking system might be opened further to foreign participation by increasing foreign ownership limits to 49 percent from currently 25 percent5 and relax the single branch limit for foreign branches operating in Thailand. The concept of universal banking could be institutionalized and the consolidation of finance and securities companies, and credit fonciers fostered.
C. Commercial Banks6
5. The gradual pickup in lending activity, which bottomed out in 2001, has been carried mainly by state-owned banks and SFIs. By expanding its performing loans by 15 percent in 2002, the biggest state-owned bank accounted for nearly 80 percent of the total credit growth of 4 percent. In the first quarter of 2003, its loan expansion has accelerated further to 20 percent or 92 percent of total lending growth. Private banks have seen less appetite for business loans since corporates are still in the process of deleveraging, rely to a large extent on retained earnings as a source of finance, and some high-quality borrowers have turned to the capital market to raise funds (B 180 billion new private securities were issued in 2002 equivalent to 4 percent of bank loans).7 Banks also view remaining bottlenecks in the legal and institutional framework as impediments to faster expansion of credit. The reopening of the two credit bureaus should help banks to assess credit risk.
6. Consumer credit, in particular mortgage loans, enjoyed the strongest increase, but its share in total loans (excluding interbank loans) remains low at 14.5 percent at end-March 2003. Housing loans from financial institutions have increased by 12.4 percent over the past year; other consumer loans by nearly 17.9 percent. Anecdotal evidence indicates that most loans are to home owners who occupy their units and are not used for speculative purposes.
That Bank’ Growth in Performing loans
Data source: Bank of Thailand.
7. The banking sector posted profits in 2002 for the first time since the crisis due mostly to wider net interest rate margins, lower operating expenses and provisioning costs, and higher non-interest income (Table 2). When compared to other countries in the region, Thai bank’ profitability is still low. Private bank’ profitability displayed strong variations, One large bank registered losses as a result of stepped up provisioning to address risks from its loan portfolio, and three of the seven medium and small-sized private banks also still made losses. State-owned bank’ profitability benefited from the transfer of NPLs to the Thai Asset Management Corporation (TAMC). In 2002, they outperformed private banks with an average ROA of 0.7 percent compared to 0.004 percent for private banks. They operated with lower interest margins, but, in addition to lower provisioning costs, also had significantly lower operating costs, despite higher personnel costs, than private banks. This competitive advantage, however, might be short-lived if state-owned banks need to make additional investments by upgrading their technology, temporarily increasing their costs.
Profitability of Banking Systems in Asia, 2002
Source: IMF Global Financial Stability Report.
|Regulatory capital to risk -weighted assets||10.4||12.0||11.3||I3.3||12.9||12.9|
|NPLs to gross loans 2/||48.2||42.4||19.3||11.5||16.5||16.9|
|Loans less provisions to NPLs||27.7||37.5||44.1||47.6||64.9||62.7|
|NPLs loss of provisions to capital||370.8||252.0||109.9||53.0||34.8||60.9|
|ROAA (after tax)||(6.1)||(6.2)||(2.2)||(0.2)||0.2||0.9|
|ROEA (after tax)||(92.6)||(91.9)||(45.7)||(4.9)||3.9||16.8|
|interest margin to total assets||0.5||0.6||1.4||1.7||1.8||2.0|
|Noninterest income to total assets||0.5||0.8||0.9||0.9||1.1||1.1|
|Operating costs to total assets||2.7||2.5||2.3||2.2||1.9||1.9|
|Provisioning costs to total total assets||4.9||5.1||2.2||0.6||24.2||0.3|
|Liquied assets to total||12.4||13.1||10.6||23.4||24.2||23.3|
|Coustomer deposits to total loans||95.1||99.7||128.5||140.3||119.0||119.0|
|Loans in foreign currency to total loans 3/||16.5||11.3||10.9||8.8||7.6||7.2|
|Net open position in FX to capital 3/||11.8||12.1||12.3||8.2||8.8||9.7|
Assets quality and capital adequacy
8. Levels of NPLs are still high but most banks have raised provisioning ratios significantly (Table 2). As a consequence of the transfer of NPLs to the TAMC. state-owned banks’ NPLs have dropped to 8.3 percent of total loans, while NPLs in private banks continue to be much higher at 21.0 percent (23.8 percent if NPLs from bank’ Asset Management Companies are included). At end-March 003, banks covered on average 63 percent of their NPLs through provisions, which implies recovery values that are similar to those seen in practice. Nevertheless, some banks may be under provisioned and could face substantial additional provisioning needs, unless real estate prices continue to rise and raise the chances for higher recovery values.
9. Capital adequacy ratios are above the required 8.5 percent for all Thai banks, but additional provisions and capital may be needed by some banks. In 2002, only two small banks raised additional capital of B 7.8 billion compared to more than B 850 billion capital injections after the crisis. While the average CAR of 12.9 percent is comparable to other countries in the region, it has to be viewed against the backdrop of the poor loan portfolio quality and practices in the areas of provisioning, loan classification, and collateral evaluation that could be further strengthened. The recently added choices on the use of discount rates to calculate the net present value of restructured loans have given banks the option to shift provisions into the future. Banks can also move restructured loans immediately from the doubtful of loss to the pass category, if certain conditions are in place, or to the substandard category before a track record of payments has been established. Safeguards for collateral do not seem to be stringent enough in practice since a few banks show considerably lower required provisions (after factoring in collateral) than their peers.
Average CAR in Asian Banking Systems, 2002
Source: IMF Global Financial Stability Report.
10. The large share of restructured loans continues to be a risk. About thirty percent of performing loans have been restructured. Reentry of restructured NPLs continues to be erratic and high at 0.4 percent of gross loans per month, and banks could be in trouble if there was a further deterioration of asset quality.8 Should one third of restructured Joans become nonperforming again and be recovered at the average values assumed for current NPLs, losses would amount to B 224 billion, equivalent to 50 percent of regulatory capital or 4 percent of GDP. With capital adequacy ratios (CAR) at 12.9 at end-2002, some banks have built cushions for some shocks, but CAR tends to be low for banks that have low provisioning ratios, and five banks hold hybrid capital which they intend to replace over the coming years.
Bank’ New NPLs
Data source: Bank of Thailand.
11. Banks can redeem their hybrid capital instruments starting from 2004 which could reduce their funding costs.9 Market analysts expect that banks will try to avoid diluting ownership and therefore generate internal capital to replace the hybrids. Tliey predict redemption to take place in 2004 or 2005 for the large two banks and one small bank, while their outlook for the two medium-sized banks is much more uncertain given their weaker balance sheets.
12. The rising share of bank assets invested in securities has exposed a number of banks to interest rate risk should Interest rates rise. At end-March 2003,13 percent of banks’ earning assets were invested in long-term securities predominately at fixed rates. Since loans are also typically at fixed rates for the first couple of years while deposits have much shorter repricing maturities, banks are liability sensitive over a short to medium-term horizon.10 Not all banks seem to be hedged against this risk. Interest rates swaps, for example, are still relatively low at US$3.5 billion per year. To provide banks with more variety of hedging instruments, the BOT issued a regulation permitting banks to enter into selected derivatives contracts in April 2003. The BOT also plans to introduce interest rate futures once the new futures market is established, for which the law has just been passed.
13. Foreign exchange rate risk appears to be manageable. At end-March 2003, banks had a positive net open position of US$1.2 billion or 10 percent of capital; thus, they would benefit from a Thai baht depreciation.11 The risk for banks from lending in foreign currency has also been contained with foreign currency loans (excluding interbank loans) shrinking to US$8 billion (8 percent of their loan portfolio), but an indirect risk remains since corporates are still highly leveraged and have foreign currency exposure of US$29.2 billion (23 percent of GDP).
14. Banks continue to be relatively liquid. About a quarter of the banking system’s total assets are held in liquid assets and customer deposits still exceed bank loans (Table 2). To further strengthen bank’ liquidity risk management, the BOT issued a guideline in 2002, requiring banks to have action plans on liquidity management in place, monitor and report their exposures, and conduct regular scenario analyses. An indicator of the current situation of excess liquidity is also the BOT’s net debtor position to the banking system (excluding the claims by the Financial Institutions Development Fund (FIDF)). To mop-up the structural excess liquidity in the interbank money market, the BOT has begun to issue its own papers.
D. The Role of Specialized Financial Institutions
Mandates and Operations
15. SFIs, which have operated in Thailand for many years under specific development mandates, have recently gained importance, serving as vehicles for a number of the government’s fiscal initiatives (Box). Eight of the nine SFIs are fully or largely government-owned (see Table 3 for an overview of the SFIs). The four biggest institutions (Government Savings Bank (GSB), Bank for Agriculture and Agricultural Cooperatives (BAAC), Government Housing Bank (GHB), and the privately-owned Industrial Finance Corporation of Thailand (IFCT)), which account for 95 percent of SFIs assets, have a long history of operations in the areas of deposit mobilization and consumer, agricultural, housing, SME, and project financing. Some of them also provide technical and advisory services to their customers. The other five institutions were established over the past ten years with specific development purposes in terms of trade financing (Export-Import Bank of Thailand (EXIM)), lending to small and medium-sized enterprises (Small and Medium Enterprise Development Bank of Thailand (SME Bank), The Small Industry Credit Guarantee Corporation (SICGC), promoting the development of a secondary mortgage market (Secondary Mortgage Corporation (SMC)), and servicing Islamic customers (Islamic Bank). Regulatory and supervisory responsibility for SFIs lies with the respective Ministries, but annual inspections are conducted by the BOT.
|GSB||BAAC||GHB||IFCT||EXIM||SME Bank.||SICGC||SMC||Islamic Bank|
|Bank for Agriculture and|
|The Industrial Finance|
Corporation of Thailand
|Export-Import Bank of|
|Small and Medium|
Bank of Thailand
(changed from SIFC)
|The Small Industry|
|Shareholder||State (100 percent)||State (100 percent)||State (100 percent)||State (incl. SOEs) 30 percent, Thailand Securities Depository Company Limited for Depositors (Foreign) 18.84 percent; others.||State (100 percent)||State (92 percent)||State (96 percent)||State (100 percent)||State (incl. stole banks) 35.73 percent; private companies and institutions in which the state holds shares 41.55 percent: private 7.72 percent; foreign (Brunei) 15 percent|
|Regulator||Ministry of Finance, Bank of Thailand||Ministry of Finance; Bank of Thailand||Ministry of Finance, Bank of Thailand||Ministry of Finance, Bank of Thailand||Ministry of Finance, Bank of Thailand||Ministry of Finance, Bank of Thailand, Ministry of Industry||Ministry of Finance, Ministry of Industry||Ministry of Finance, Bank of Thailand||Ministry of Finance|
|Law related||Government Savings Bank Act B.E. 2489||The Bank for Agriculture and Agricultural Cooperatives Act, B.E.2509||Government Housing Bank Act, B.E. 2496||The Industrial Finance Corporation of Thailand, B.E. 2502||The export-Import Bank of Thailand Act, B.E. 2536||Small and Medium Enterprises Development Bank or Thailand Act, B.E. 2545||The Small Industry Credit Guarantee Corporation Act (SICGC)||Emergency Decree on Secondary Mortgage Corporation, B.E. 2540||Toe Islamic Bank of Thailand Act. B.E. 2545|
|Total assets (in billions baht)||622||403||374||205||53||15||5||2||0.7|
|Total loans (in billions of baht) (March 2003)||269||289||312||155||40||l3||0||0||0.9 million|
|Mandate/objectives||Encourage savings, provide safe depository for funds, mobilize funds to finance national economic and social development projects.||Provide farmers with financial assistance.||Provide finance for homeownership.||Support industrial and capital market development by supporting private industrial entrepreneurs in terms of finance and administration.||Promote exports and business contributing to foreign exchange earnings||Provide financing for small enterprises.||Provide credit guarantees to promote lending to small to medium-sized enterprises||Promote and develop a secondary mortgage market.||Provide banking services to Islamic customers|
|Main instrument/activities.||Deposit and loan services, adminstering of government funds policy loans.||Various types of loans to finance agricultural production; protect financing: policy loans.||Mortgage and construction loans program to assets borrowers under economic hardship; policy loans.||Loans for SMEs, large-scale industries, and export-oriented industries; credit guarantees; financial advice: trade financing||Various types of export and import loans; export credit insurance; credit facility offered through commercial banks.||Loans to SMEs.||Credit guarantees to financial institutions that lend to manufacturing SMEs.||Purchases of residential mortgage loans and issue of debt to fund the purchases.||Following Islamic law; deposit services; loans services: bank guarantee; foreign exchange services.|
|Funding||Mainly through, deposits, including from the government and SOEs.||Mainly through deposit. including from the government and SOEs.||Through deposits, issuance of bonds, and long-term borrowing.||Issue of debt and borrowing. No deposit taking.||Issue of debt and borrowing. No deposit taking.||Issue of debt and borrowing. No deposit: taking.||Mostly issue of debt||Mostly issue of debt||Mostly through deposits.|
|Number of branches||588||1,578||110||36||8||64||7||1||1|
|Number of staff||9,600||13,144||2,030||1,000||565||799||142||46||50|
|(In billions of baht)|
The Role of SFIs in the Government’s Credit-Based Policy
Since taking office in February 2001, the government has embarked on a number of initiatives to boost domestic demand as a complement to export-led growth. The main initiatives that involve intermediation through SFIs are listed below.
Credit for small- and medium-sized enterprises. SFIs and state-owned banks were encouraged to extend new loans of up to B 225 billion (4 percent of GDP) between January 2002 and June 2003 However, actual credit extension on record has been considerably less—about B 95 billion by February 2003 of which about half provided by SFIs.
Subsidized mortgages for public sector employees. Employees of the government and public enterprises have been offered cheap mortgages. At of February 2003, the credit extended under this program is estimated at ½ percent of GDP.
Retired civil servant benefits. Civil servant retirees are being offered an opportunity to take a lump-sum advance against future benefits.
Housing for the poor. This program aims at providing 1 million homes for the poor over several years. About 600,000 homes will be built by the National Housing Authority (an SOE) and sold at subsidized prices to low income people. SFIs will finance both the construction and the purchase of these homes. For the remaining 400,000 homes, SFIs will provide affordable financing.
The Village Fund. This program established a revolving credit facility in all villages. The total cost of around B 75 billion (roughly l½ percent of GDP) was originally financed by the GSB, with budget reimbursment over eight years. Debt suspension for farmers. This program granted one-time relief to farmers on loans from the BAAC. The program is over, and the costs—originally borne by the SFI—are being reimbursed by the budget.
16. The SFIs’ strong credit expansion also went along with a diffusion of SF1 mandates and created some competition with commercial banks. SFIs’ market share in lending activities has increased to 18 percent in the first quarter of 2003 compared to 12½ percent at end-1999. The share in deposits is somewhat lower at 15 percent, since only the biggest three SFIs (GSB, BAAC, GHB) are permitted to take deposits, including from the government and state-owned enterprises, while the other SFIs relying mostly on the issuance of debt. In particular, the GSB has become more active in mortgage lending, including higher value mortgages, and increased its market share from 3 percent at end-1999 to 8 percent in the first quarter of 2003 at the expense of the GHB, whose market share fell from 40 percent to 38 percent, and commercial banks. Competition among SFIs and, to some extent with banks, occurs also in the area of SME lending which is pursued by three SFIs, namely the SME Bank, GSB, and the IFCT.
Contribunion of SFIs 10 Credit Growth
Data source: Bank of Thailand
Financial Conditions, Supervision, and Transparency
17. The government support to SFIs is generally not through subsidies, except for specific policy loans, but through other channels. SFIs are exempt from the profit and other taxes, hold more than a third of government deposits (including state-owned enterprises), and receive government guarantees on their debt instruments and customer deposits. To what extent this support is also used by SFIs to cross-subsidize their commercial operations, in which they compete with other financial institutions, rather than just their social and development activities is unclear. The government has also made various capital injections into SFIs over time, either to address capital shortfalls from loss-making activities or to foster expansion of SFIs’ business operations.12
18. The lack of clear separations between policy and commercial operations and less stringent regulatory requirements than for commercial banks make it difficult to assess the SFIs’ financial conditions. At end-2002, all SFls had CARs above 8.5 percent but not all of them follow loan classification and accounting rules that apply to commercial banks. For example, most SFTs classify loans only by past due criteria, in some cases far less strict than those for banks, and not by risk criteria. That SFI’ NPL ratios are lower and provisioning rates higher than those of commercial banks has to be seen against this background.13 SFIs’ interest margins were slightly higher than those of banks, particularly for SFIs that conduct relatively high risk lending, such as agricultural loans, and receive funding through government deposits. Personnel expenses as a share of operating expenses are much higher than for banks, given the SFIs’ target group of small and medium-sized customers and their advisory mandates. Overall operating expenses were at similar levels to those of commercial banks.
|Regulatory capital in risk-weighted assets||37.6||9.0||9.5||20.2||8.8||25.8|
|Equity to assets||9.5||7.0||4.5||19.5||3.4||23.4|
|Credit growth (y-o-y)||14.1||4.6||11.4||1.9||-0.2||111.6|
|NPLs to gross loans 1/||3.2||10.1||16.2||11.7||10.8||19.3|
|Total provied loan to NPLS||88.2||153.5||58.2||47.1||75.2||16.1|
|Interest margin to total assets||2.5||4.1||1.5||2.4||0.5||Na|
|Noninterest income to total assets 2/||0.5||-0.1||0.1||1.5||0.3||Na|
|Opening assets to total assets 2/||1.1||1.9||0.5||1.1||0.4||Na|
|Provisioning assets to total assets 2/||0.0||2.0||0.6||2.3||0.5||Na|
|Personnel expenses to opening expenses 2/||72.9||74.4||45.5||46.0||57.2||Na|
|Customer deposits to total loans (incl. govt. and||205.9||103.9||84.3||0.0||0.0||0.0|
19. The sophistication in terms of risk management varies widely among SFIs but has generally been strengthened, including through external advisors. Some risk management tools such as interest rate swaps are not accessible for SFIs, but changes in regulations are being discussed.
20. The expanding role of SFIs calls for greater prudential oversight and increased transparency of their operations. Moving the supervisory responsibility for SFIs from the Ministry of Finance to the BOT, as currently discussed, would be welcome. Such a shift is expected to establish closer and more regular monitoring and quicker adjustments to discovered shortcomings, and should go along with applying the same regulatory requirements and accounting rules as for banks. To enhance transparency of SFI operations the application of a Public Service Account, which distinguishes between commercial and policy operations, is in the pipeline. It would help (i) The government to estimate the policy costs and budget them accordingly, (ii) SFIs to price their commercial operations appropriately and avoid unfair competition with banks in areas where cross-subsidies has taken place, and (iii) the supervisor to assess SFIs’ financial conditions.
Summary and Outlook
21. The extension of SFIs’ operations in areas beyond well-defined mandates raises concerns about contingent liabilities and fairness of competition. A strategy that clearly defines the mandate and objectives of each SFI (typically as specific niches of operations), and possibly areas and means of cooperations, would help to avoid inefficiencies that have arisen from overlaps and competition among SFIs and with commercial banks. The introduction of the Public Service Account is a desirable attempt to make fiscal costs more transparent and help to separate policy from commercial activities so that they can be put on an equal footing with those of commercial banks if combined with an enhanced regulatory and supervisory framework. The intrinsic difficulties in truly separating both activities, however calls for SFIs to focus on their development mandates, in particular since the rehabilitated banking system is in a position to competitively provide banking services.
Prepared by Andrea Schaechter.
There is a single branch limit for foreign branches.
The Ministry of Finance also has a 49.8 percent stake in Thai Military Bank with the Thai military as the other big shareholder. Nevertheless, this bank is classified by the BOT as a private bank, a classification that is followed in this paper.
The Hcrfindahl-Hirschmann Index (HHI), a measure for market concentration, which is calculated as the sum of squares of each bank’s market shares, is 1.3 for the locally incorporated banks. An HHI of less than 1 indicates a market with no concentration, between 1 and 1.8 moderately concentration, and above 1.8 high concentration.
The current majority foreign ownership of four banks is a result of Emergency Decrees and limited to a 10-ycar period.
The following sections deal with locally incorporated banks only.
For more details on credit and real growth see Chapter VI.
For more details on progress in debt process see Chapter V.
To raise capital in the aftermath of the crisis without diluting ownership five banks issued hybrid capital instruments, so-called SLIPS (Stapled Limited Interest Preferred Securities) and CAPS (Capital Augmented Preferred Securities). The ratio of those instruments to tier I capital is on average more than 50 percent.
Rising interest rates would also raise the funding costs for the unprovisioned part of NPLs that banks continue to carry on their books.
In 2002, the BOT revised the regulation on net foreign exchange position in line with BIS standards. Banks must not maintain a net foreign exchange position of an individual currency exceeding 15 percent of total capital, and the aggregate position must not exceed 20 percent of total capital.
An attempt to quantify contingent liabilities is undertaken in Chapter III.
The SME Bank’s high level of NPLs is a legacy of its predecessor, the SIFC, which had a disappointing history of performances. The bank has since been recapitalized, risk management and corporate governance have been strengthened, and business activities have more than doubled.