Foreign investments in the Armenian banking system

The decision to merge banks raised a wave of  various discussions among the public. According to many <critics>, such a decision can lead to the destruction of the banks having Armenian capital, and only the banks will remain in the banking system that receive support from outside. Is it ineffective to merge the banks and reduce the number of banks?

 At present the combination of financial stability and banking competition is an essential issue for the Armenian banking system. Though many reforms are being done in Armenia, the efficiency of the Armenian banking system is not high by international standards. High spread of interest rates and considerable higher from normative liquidity supply indicate that banks work less effectively. The only reasonable way to resolve this and other issues is the development of competition[i].

 Foreign banks have important significance for the development of competition. The Armenian banking system is the greatest participant of the Armenian financial market, with about 90% of the financial system’s assets. One of the key characteristics of the Armenian banking system is the large presence of foreign capital. The study of the presence of foreign capital in the national banking system is particularly important for small countries with  transition economies, which have faced with difficult problem.

 In general, the main factor of the national banking system’s attractiveness for foreign capital is the receipt of higher profits under acceptable risk. The active participation of foreign capital in the Armenian banking system is conditioned by several factors:

• The country’s internal resources were not enough for significant investments in the banking sector. The lack of capital was typical for all the countries with transition economies and became a major impulse for penetration of foreign capital into national banking systems. In our case this was conditioned by economic and political situation.
• The warring country, which was in a state of severe depression after the earthquake and was in the blockade had not financial means to stand up the banks which were in bad conditions.
• The population had lost a significant part of the savings as a result of freezing deposits of Savings Bank. The population and businessmen lost faith in banks, and banks were deprived of the opportunity to involve modest cash resources․

 Compared with other spheres, we think that the banking sphere is the most regulated. The state encourages the inflow of foreign capital in Armenia’s economy, including the banking sector too. The conditions and order of non-residents’ access to the banking system are much simpler than in most countries of the world. There is a rather liberal system of registration and licensing of banks and other financial institutions with the participation of foreign capital in the Republic of Armenia.

 The point of view  that the presence of foreign capital in the national banking system raises its functionality and contributes to the improvement of financial intermediation is accepted as axiom by foreign researchers. In transition economies, where financial trustworthy mediators are lacking, foreign banks strengthen their financial infrastructure, improve the investment environment, and can promote the growth of  foreign direct investment in different sectors of the economy. Foreign banks are less vulnerable to the shocks of the host country. They usually increase their presence after crisis  removing the problematic local banks from arena. This phenomenon was obviously observed in the mid-1990s, when a considerable part of Armenia’s commercial banks, despite yourselves, created bank crises and  became its first victim. Many banks stopped operating in the RA, 1994-2002, only a small part of them operating on the basis of foreign capital.

 In the systemic risk of the Armenian banking sector, besides the political risks in the country, corruption and the risks of government and business cohesion are also noticeable. The influential economic groups in Armenia are trying to merge with the government and participate in the country’s governance. However, these groups can sometimes appear in serious risk situations. If they are merged with any political union, the bank will appear in a difficult situation as a result of a change in power or the role reduction of the given union. From that point of view, banking system is quite good, since foreign banks are trying to be distance yourselves from political actors and maintain their independence from the current authorities.

 One of the shortcomings of the Armenian banking system is that it is very weakly  integrated in the international banking system and integration has one-sided orientation. Being integrated weakly has a negative role, though  the Armenian banking system kept away from the recent global crisis due to being weakly integrated in these  international financial institutions.

67% of Armenian banks’ actives belong to foreign capital. This is stated in the report on the banking system of 180 countries prepared by the National Bureau of Economic Research (NBER). According to this index the Armenian banking system is in the first place among the banking systems of the world and the absolute leader among the CIS countries[ii].

This fact can not be approved of many people because of patriotic considerations. Really, it is  quite a good indicator that speaks about  the openness of the Armenian banking system. We think that this index will increase considerably in the coming years, which will have a positive impact on the Armenian banking system. The involvement of foreign capital also brings the experience and traditions of the countries having developed banking systems and forms a more competitive atmosphere. Workplaces are increased, quality properties are emphasized in competition. The country’s rating is rising, which is also a promotion for additional resources.

 Let’s also mention that taking into consideration the imperfection of the Armenian economy and the non-perfect judicial system, the presence of foreign capital in some sense is a guarantee of the protection of Armenian banks. Foreign capital is more competitive and there are few problems associated with risk management. One fact is important that mother banks can help foreign banks, if necessary. Under some circumstances, daughter banks may have problems with liquidity, may appear on the verge of bankruptcy or have other problems. In this regard, the mother  banks are more stable and can  assist their subsidiaries if necessary. Of course, this does not work in all the circumstances (as happened, for example, for BTA and ProCredit Bank).

 Consequently, the involvement of foreign banks creates so-called “strongholds” in the market that can operate stably in the country’s internal crisis conditions. Having stable banking institutions is important for internal market in the countries like Armenia.

 Foreign banks have more accessible and long-term resources, are  less risky, which gives them an incomparable advantage over rival banks. Even if foreign banks appear on the verge of bankruptcy, mother  companies can help. Of course, we should not forget about the shortcomings. In particular, foreign banks operate under the mother company’s regulations and bypass the laws, expel Armenian banks from competition , and most importantly, the dependency coefficient from other countries rises. Summarizing above mentioned advantages and disadvantages of involving foreign capital into the Armenian banking system, we find that the Armenian government and the Central Bank should any way attract foreign banks to invest in the Armenian banking system or have subsidiaries. The right choice of competition and stability ratio is of vital importance to our economy. With the involvement of foreign capital, we will have strong footholds, will be able to reduce unemployment. And by agreeing the experience of these banks with the peculiarities of Armenia’s economy, we will be able to further develop and improve our banking system.

Author: Lilit Ovsyan.   © All rights are reserved.

Translator: Nelli Karapetyan.