Panama: Selected Issues and Statistical Appendix
Author: International Monetary Fund
Publication Date:
06 Jan 2006
eISBN:
9781451830842
Language:
English
Keywords:
ISCR; CR; tax; tariff; trade diversion; deficit; national bank of Panama; BNP law; BNP profitability; BNP credit; development bank; Commercial banks; State-owned banks; Loans; Nonperforming loans; Mortgages
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This Selected Issues paper for Panama reports that the administration is developing a strategy to enhance growth and competitiveness in the Panamanian economy. Corruption is perceived as a widespread phenomenon that has affected both private and public sectors in Panama at various levels of decision making. Even though Panama currently attracts substantial foreign direct investment, corruption may prove an obstacle to a medium-term growth strategy based on foreign investment. One important component of Panama's medium-term strategy is the prospect of a free-trade agreement with the United States.

Abstract

This Selected Issues paper for Panama reports that the administration is developing a strategy to enhance growth and competitiveness in the Panamanian economy. Corruption is perceived as a widespread phenomenon that has affected both private and public sectors in Panama at various levels of decision making. Even though Panama currently attracts substantial foreign direct investment, corruption may prove an obstacle to a medium-term growth strategy based on foreign investment. One important component of Panama's medium-term strategy is the prospect of a free-trade agreement with the United States.

V. Public Banks in Panama45

A. Introduction

76. The aim of this paper is to assess the financial structure and performance of four public sector banks in Panama and draw some policy recommendations. As in many developing countries, public banks in Panama were created to support economic development in general and to accomplish specific aims such as financing low income housing and catering to the financing needs of low-income agricultural producers. However, Panama also developed an efficient and densely populated private banking sector. The banking sector benefited from free entry and competition with foreign banks, leaving little room for public banks to collect savings and direct them toward “strategic long term projects.”

77. The paper concludes that the public banks’ mission needs re-assessment in view of the well-developed private banking sector in Panama, problems of corporate governance in public banks, and weaknesses in their balance sheets. Public commercial banks need to define a business strategy and at least in one case consider privatization. Public development banks may be substituted with more efficient instruments for achieving the banks’ original social objectives. Public banks should fully comply with the regulatory framework of the Superintendency of Banks (SB).

78. The paper is organized as follows. Section B provides an overview of the government ownership of banks. The financial structure and performance of commercial banks is evaluated in section C and that of the development banks in section D. Section E presents the conclusions.

B. Overview of the Public Banks

79. Through the mid-1990s government ownership of banks was pervasive worldwide. Even after a wave of privatization, as of 1995 government ownership of banks was quite common; in a typical country 38.5 percent of the equity of the largest banks was state-owned, excluding former socialist countries (La Porta 2000). State banks were especially significant in countries with low levels of per capita income, underdeveloped financial systems, interventionist governments and poor protection of property rights. Government ownership of banks is associated with slower subsequent financial development (Levine 2001).

80. Panama has a well developed financial system dominated by private banks. Well capitalized, profitable, liquid, and with a low nonperforming loan (NPL) ratio, the onshore banking system, including 23 foreign banks, had assets over 200 percent of GDP in 2004 while public banks had assets amounting to 38 percent of GDP. Domestic credit to the private sector reached close to 85 percent of GDP, a fourth of which originated in public banks.

81. In Panama, the public banking sector comprises two commercial and two development banks. The two commercial banks are the National Bank of Panama (BNP) and the Savings Bank (CA). The BNP is one of the largest commercial banks and has the largest network of branches. It has a loan per employee ratio that is less than two thirds of the banking system average, symptomatic of overstaffing. The CA is a mid-size player with an extensive branch network, similar to the largest private banks. It has a loan per employee ratio which is about one-third of the banking system average, also suggesting overstaffing. The two public development banks, National Mortgage Bank (BHN) and the Agricultural Development Bank (BDA), are nondeposit taking institutions attached to the Ministry of Housing and the Ministry of Agricultural Development, respectively, and whose official mission is to provide financing to the low-income population. Both public development banks seem to have redundant staff.

Panama: Public Banks Indicators

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Sources: National Bank of Panama (BNP); Savings Bank (CA); National Mortgage Bank (BHN); Agricultural Development Bank (BDA).

C. Public Commercial Banks

BNP Balance Sheet

82. Most of the BNP’s funding comes from public sector entities that by law are required to deposit their funds at the BNP. Over half of the BNP’s deposits comes from the public sector, with the lion’s share related to the Social Security Agency (CSS) (Table 1). A large share of public sector deposits are placed as sight deposits for extended periods of time without earning interest. As a result, the effective rate of interest paid by the BNP on its total deposits has been about 200–250 basis points lower than the effective interest paid by the banking sector, or about one-third lower. This source of subsidy to BNP activities increased the bank’s profits by an estimated one-third in 2003.

Table 1

Panama: Accounts of the National Bank of Panama

(In millions of balboas at end period)

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Sources: National Bank of Panama; and Superintendency of Banks.

83. The low interest paid by the BNP on its public sector deposits has been a major source of disagreement with the CSS. In September 2004, the CSS had deposits at BNP of about 38 percent of the actuarial reserves of the public pension fund. However, the low deposit interest rate paid to the CSS is partially explained because the CSS funds were deposited at very short maturities, including overnight deposits. The term structure of CSS deposits is out of line with the long-term nature of the CSS’s liabilities, comprising pension payments.

84. The BNP and CSS reached an agreement in November 2004 to reschedule CSS deposits at BNP. Under the agreement, the CSS distributed US$404 million of its deposits (out of US$680 million in September 2004) with terms ranging from 6 months to 10 years, at market-related interest rates ranging from 1.8 percent up to 7.25 percent. The CSS kept $240 million at the overnight interest rate. Nevertheless, the deterioration of CSS finances due to growing pension payments, combined with the low interest rates paid to its deposits, has motivated a massive deposit withdrawal over the past four years. CSS deposits at the BNP decreased by the equivalent of 10 percent of BNP total assets over the period 2001–04.

85. The BNP reduced its holdings of international reserves to finance the deposit withdrawal and a rapid expansion of credit to the central government. The BNP’s international reserves decreased from 34 percent of total assets in 2002 to 19 percent in 2004, while the share of loans to the central government increased to 34 percent of total assets. The BNP credit to the central government is at an interest rate somewhat below market interest rates. For example, while a 10-year global bond placed in November 2004 carried a coupon of 7.25 percent, the BNP refinanced in December 2004 an 11-year loan to the central government at an interest rate of 6.5 percent. The main source of repayment are the dividends that BNP transfers to the central government, which in turn uses the dividends to pay back BNP.

86. BNP credit to the private sector is almost twice private sector deposits (Table 1). BNP’s effective interest rate on assets has been 60 basis points below the banking system average during the last three years, supported by the low interest rates paid on public sector deposits.

87. Public and private commercial banks compete to lend to the same sectors, especially for mortgages, commerce, and personal consumption. Within the mortgage sector, public commercial banks specialize in low- and medium-income housing, while private banks focus on the higher-income segment of the market. Public banks give priority to mortgage lending to address the constitutional mandate to implement a housing policy focusing on low-income housing. However, the mortgage portfolio of the banking system is well developed and equivalent to 25 percent of GDP in 2004, of which 3.5 percent of GDP is managed by the BNP and 2.5 of GDP is administered by the CA.

Panama: Credit Distribution by Sector in 2004

(In percent)

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Source: Superintendency of Banks.

88. The BNP financial soundness indicators are generally solid, but not as strong as the private banks prudential indicators (Table 2). The BNP is a well capitalized, profitable bank. However, its profitability arises in part from not paying market interest rates to public entities, as mentioned before, and from low provisions to cover nonperforming loans. The share of nonperforming loans to the private sector decreased over the period 2000–04, but are still higher than the banking system average. With the loss of international reserves, the ratio of liquid assets plus marketable securities to deposits diminished to 36 percent in September 2004, below the banking system average of 42 percent.

Table 2

Panama: Commercial Bank Performance Indicators, 2000–04 1/

(In percent at end-period, unless otherwise noted)

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Sources: Superintendency of Banks; and Fund staff estimates.

Data refer to the domestic banking system, comprising general license banks.

In relation to private sector loan portfolio.

Corporate Governance

89. The 1998 Banking Law is not fully applicable to public banks. BNP is supervised by an external auditor dependent of the Comptroller General of the Republic and by the SB in transactions involving private sector operations, according to Article 150 of the Banking Law. The corporate governance guidelines set up by the SB, which do not apply to the BNP, require transparent mechanisms to avoid conflicts of interest with related parties, including relations with an economic group. At end-2004, BNP direct loans to public sector entities were over one and a half times its net worth, beyond the SB limit of bank loans to a related economic group set at 50 percent of the net worth of a bank. In addition, the BNP law does not require the bank to set up a Risk Assessment Unit as is required by the SB for private banks.

90. Potential conflicts of interest are not addressed in the BNP’s organic law. The BNP law does not provide clear guidelines to deal with potential conflicts of interest between the government as shareholder of the BNP and the government as customer of the BNP.

91. The BNP’s payments of dividends to the government as sole shareholder do not follow a transparent rule. During the 1990s, the BNP’s dividends were used to repay BNP loans to the central government made in the late 1980s. The government agreed to accelerate the old loans repayment through a decree. However, during 2000–03, the BNP paid dividends to the Treasury that exceeded realized profits by a total of 0.5 percent of annual GDP. The administration that took office in September 2004 discontinued this policy, and the next payment of BNP’s dividends was shifted to 2005.

BNP’s Medium-Term Challenges

92. The BNP faces a challenging outlook. The BNP should define a business strategy, rebuild international reserves, and cope with a potentially large deposit withdrawal from the CSS. Without a pension reform, CSS funds would be depleted within 5–7 years and the BNP could lose close to 30 percent of its deposits. In a well developed but overpopulated banking system, the BNP has to find a market niche that could prioritize low-income housing (see below) and the needs of small producers. Best practices suggest that lending to the government should decrease with the development of the domestic securities market. Public entities’ deposits should be remunerated at market interest rates for its deposits, without unduly high bank fees, to give them an incentive to distribute their deposits at the BNP between sight and term deposits according to efficient cash management criteria. To sustain BNP profitability while paying market interest rates to its depositors, the BNP will have to reduce overstaffing.

Caja de Ahorros

93. In contrast to the BNP, the CA’s deposits come mainly from the private sector (Table 3). The effective rate of interest paid by the CA on its total deposits has been about 200 basis points over of the effective interest rate paid by the banking sector in the last three years due to the higher interest paid to CSS to attract her deposits, and despite having the largest number of saving accounts, which typically pay low deposit rates.

Table 3

Panama: Accounts of the Savings Bank

(In millions of balboas at end of period)

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Sources: The Savings Bank; and Superintendency of Banks.

94. Loans to the private sector increased substantially in 2004. In a departure from prudent credit policies, loans to the private sector increased by an estimated 43 percent in 2004, compared with an 11 percent growth for the banking system, with most of the increase taking place in the first three quarters, i.e., the final nine months of the Moscoso administration. The CA’s effective lending rate has been 150–200 basis points above the banking system average since 2002, reflecting higher risk in its credit portfolio, but not fully in line with its mandate to focus on low-income housing. In fact, since 2002 the CA diversified its loan portfolio away from mortgages. However, the sectors receiving more credit show an increasing trend in overdue payments. In 2004, overdue payments as percent of the sector loans reached 23.5 percent in the expanding sectors compared to the reduction to 21 percent in the ratio of overdue payments to loans in the mortgage sector. The CA loan diversification away from mortgages is not consistent with its original mission.

95. The CA’s financial soundness indicators are weaker than the average for the banking system. The share of nonperforming loans has been about 12 percentage points above the industry average over the last four years (Table 2), and provisions for bad loans also were substantially below the banking sector average. In 2002–03, the CA had a ratio of administrative costs-to-loans of 5.8 percent, compared with 4.2 percent on average in the banking system. With the low loan quality and high operational costs, the CA’s return on assets has been below the industry average since 2000.

Corporate Governance

96. The CA’s governance and credit policies have serious weaknesses. Audits by the SB in the second half of 2004 suggest shortcomings in governance. According to press reports, a trust department attached to the Board of Directors was able to effectively grant credits without following the bank’s own credit policies, and without the control of a Risk Assessment Unit as required by SB regulations.46 Loans made under the trust umbrella amounted to about $200 million, equivalent to about 17 percent of total assets at end-2004.

Medium-term Strategy

97. The CA could be privatized. The creation of the CA in 1934 was justified on the grounds that a then emergent private banking industry could not satisfy the financing needs of the housing sector. CA activities now overlap with those of well developed private banks and the BNP. To avoid duplicating public sector efforts to address the need for housing finances, the CA could be privatized, leaving to the BNP the task of supplementing private sector efforts to address the housing needs of the population.

D. Public Development Banks

Banco de Desarrollo Agropecuario

98. BDA is not a deposit taking institution. BDA is funded mainly through a 1 percent tax on new credits granted by the banking sector (FECI),47 equivalent to about 0.15 percent of GDP in 2004, and with transfers from the central government to address contingencies faced by rural producers (Table 4).

Table 4

Panama: Agricultural Development Bank Balance Sheet

(In millions of U.S. dollars)

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Source: The Agricultural Development Bank.

99. Asset quality is poor. Accounting deficiencies make it difficult to have a full assessment of the balance sheet. However, available data show high nonperforming loans, equivalent to 32 percent of total loans, and a low provision coverage equivalent to only 25 percent of the nonperforming loans (Table 5). Most of the loans granted to address contingencies faced by producers end up being rescheduled and guaranteed by future crops. Furthermore, deducting loans that have been in arrears for more than one year reduces assets by about $90 million or 55 percent of BDA net worth at end-2004.

Table 5

Panama: Agricultural Development Bank—Portfolio in Arrears

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Sources: The Agricultural Development Bank.

BDA Reform Strategy

100. An initial step to reform the BDA was the external audit of the BDA included as a structural performance criterion in the 2000 Stand-by Arrangement. Although the external audit was achieved with a delay, no substantial reforms followed.

101. The BDA’s objectives can be achieved through alternative mechanisms. Panama has a well developed banking system that can accommodate the financial needs of profitable agricultural firms. According to market participants, under current practices, a significant amount of BDA resources is not directed to low-income producers but to well established agricultural enterprises that benefit from low cost loans. Social needs of rural small producers can be addressed at a lower cost through alternative mechanisms, including insurance schemes for agricultural activities. Financing social objectives, e.g., providing interest rate subsidies or loan repayment subsidies may be transparently provided by the government through budgetary resources and channeled through the private banking system.

Banco Hipotecario Nacional

102. Legislation to close the BHN to the National Assembly was a structural performance criterion in the 2000 Stand-by Arrangement. The proposal aimed for approval for the sale of the bank’s performing assets, the release of its employees and its liquidation. However, the performance criteria was not achieved.

103. The BHN continues to have management problems. The bank has been used for political purposes and lacks basic tools to conduct sound banking practices. It does not report audited financial statements, nor does it follow generally accepted accounting rules in financial institutions, or have an adequate corporate governance framework. In addition, it has a poor information technology infrastructure, and it lacks a complete record of its own assets and the status of past loans.

BHN Balance Sheet

104. The BHN is not a deposit taking institution. The BHN is funded through the budget and through the Ministry of Housing with resources amounting to a cumulative 0.4 percent of 2004 GDP since 1998. The Ministry of Housing provides in-kind resources in the form of land and buildings (Table 6). The buildings are then managed by the BHN, which leases or mortgages them. The CSS also funded the BHN in the past but the BHN is in arrears to service those funds. The dominant group of assets is the mortgage portfolio, which represents 39 percent of total assets.

Table 6

Panama: National Mortgage Bank Balance Sheet

(In millions of U.S. dollars)

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Source: The National Mortgage Bank.

105. Asset quality is also poor. Nonperforming loans reached approximately 44 percent of the loan portfolio at end-2004 (Table 7); loan-loss provisions covered 16 percent of the nonperforming loans. The high nonperforming loan ratio may reflect both the risk levels of the bank’s loans and difficulties in managing the portfolio efficiently. In particular, many debtors do not have a stable employment; loan repossession is minimal; and interest on past due loans continues to accrue more than one year after payments become overdue. The BHN does not have a concept of unrecoverable loans. There is no loan classification by credit risk.

Table 7

Panama: National Mortgage Bank—Portfolio in Arrears 1/

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Sources: The National Mortgage Bank.

This portfolio includes bad loans related to projects financed through the Ministry of Housing aid at alleviating the problem of housing for lower income families.

106. In addition a “no payment” culture has developed among the BHN debtors. The BHN failed to collect payments on time and had long delays in title processing and regularization. A large but unspecified share of the tenants in the apartments leased by BHN are not current in their rent. However, the BHN has to pay the maintenance cost of those apartments.

107. The BHN’s current priority is to implement a financial, administrative, and operating re-structuring. BHN should adopt accounting rules applicable to financial institutions, update the asset register, focus on asset recovery, and upgrade its information technology systems.

E. Conclusions

108. Public commercial banks do not address any obvious market failure in Panama’s relatively well developed banking system. Public commercial banks need to implement sound banking practices, improve efficiency, enhance governance, and define a business strategy to find their niche in an over-banked financial system. Corporate governance needs to be modernized, including the appointment of Board of Directors members whose term should not coincide with the government cycle. Intra-public sector transactions should be conducted on an arms length basis using market prices to avoid the misallocation of resources.

109. The CA’s privatization could save public resources related to the duplication of efforts between the CA and the BNP in financing low-income housing. The CA’s loan diversification away from mortgages is not consistent with its original mission and its financial soundness indicators are relatively poor. While the BNP’s financial soundness indicators are somewhat better than those of the CA, they remain below the average for the banking system.

110. The BDA and BHN perform essentially quasi-fiscal functions and should be closed. Both institutions have a large portfolio of nonperforming loans, have governance problems, and are inefficiently run. There is also concern about how well their subsidies are targeted. Since development banks do not have deposits, the main closure costs are related to severance payments that can be partially financed with the sale of the bank’s performing loans and fixed assets.

111. Alternative ways to target assistance to rural producers and low-income housing can be designed. The social functions these banks perform should be carried out directly by the government, and reflected in explicit budgetary subsidies with loan administration being turned over to commercial banks.

Public Commercial Banks

The mission of the National Bank of Panama (BNP) is to support the development of the Panamanian economy. It combines commercial banking activities with extensive banking services to the government, acting as fiscal agent and managing the clearinghouse. Public enterprises and municipalities must deposit their resources at BNP. The government guarantees all BNP liabilities.

The BNP does not have a modern corporate governance framework. The BNP operates under the terms of its 1975 Organic Law, which predates the Superintendency of Banks (SB) and its regulatory framework; and the BNP lacks operational independence from the government. The upper BNP management is appointed by the President and its term coincides with that of the administration. The BNP is managed by a five-member Board of Directors and a General Manager.

The BNP’s profitability on average assets has been above the industry average during 2000–03, in part because it does not pay deposit interest rates to public entities and has a low provision in relation to its nonperforming loans.

The Savings Bank (CA) mission is to promote savings and provide financing to address the shortage of low-income housing problem. It has the largest number of small savings accounts. The CA offers deposit insurance that doubles the minimum guideline set for the private banking sector in the banking law.

The CA Board of Directors is appointed by the President, subject to approval by the Assembly. Its five year term overlaps with the administration cycle.

The CA’s profitability has been below the industry average since 2000.

Public Development Banks

Public development banks follow the accounting rules applicable to government entities and not the accounting rules set by the SB for financial institutions. Income is registered on an accrual basis and the banks lack a loan classification framework.

The BDA’s objectives are to lend to small and medium-size producers specialized in traditional crops (rice, beans, corn), to support new agricultural activities with higher value added aimed to increase nontraditional exports, to finance their equipment acquisition and to provide resources to agricultural producers in trouble due to weather or other type of contingencies.

BDA management rules are inconsistent with sound banking practices. BDA corporate governance entails conflicts of interest. The Executive Committee is chaired by the Minister of Agricultural Development and includes the Minister of Commerce and Industry and representatives from organized independent producers.

BDA follows the accounting rules applicable to government entities and not the accounting rules set by the SB applicable to financial institutions. Income is registered on an accrual basis and the bank lacks a loan classification framework. BDA does not pay taxes.

The BDA is a loss making institution. Although accounting deficiencies make it difficult to have a full assessment of the BDA financial statements available data reports losses on a cash basis of about $1.7 and $1.4 million in 2003 and 2004 respectively.

The BHN mission is to finance low-income housing as the Constitution states that housing is a social right of the population. BHN activities include providing the land to build either to future dwellers or to developers. BHN also manages apartment buildings constructed by the Ministry of Housing.

The government appoints the Board of Directors. The Board of Directors is chaired by the Ministry of Housing and other four members appointed by the President, including representatives from the construction industry and savings and loans associations with potential conflicts of interest. BHN is tax exempt.

The BHN has had losses on a cash basis since 2000.

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45

Prepared by Mario Dehesa (WHD).

46

See Panama’s national newspapers, “Panama América,” December 16, 2004, and “La Prensa,” December 15, 2004.

47

In the fiscal reform initiative adopted by the National Assembly in February 2005, FECI is scheduled to end in 2008.

Same Series

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Cover IMF Staff Country Reports
Panama: Selected Issues and Statistical Appendix
Author: International Monetary Fund
Volume/Issue:
Volume 2006: Issue 003
Publisher:
International Monetary Fund
ISBN:
9781451830842
ISSN:
1934-7685
Pages:
126
DOI:
https://doi.org/10.5089/9781451830842.002