Bulgaria: Bank distress adds to government's unstable position
July 7, 2014
The Bulgarian government is trying to weather a political crisis that was sparked by speculation over the stability of the banking system and questions regarding the legality of its handling of the South Stream project. On 29 June, Bulgarian President Rosen Plevneliev announced that he would dissolve the parliament on 6 August, which will pave the way for early elections to be held on 5 October. Plevneliev said that an interim government will be appointed to govern the country until elections are held.
The news followed a run on Corpbank (CCB) and First Investment Bank (FIB)—two of Bulgaria’s biggest banks. On 20 June, the Central Bank took over CCB after its customers withdrawing over 20% of their deposits in just a week caused a liquidity crunch. On 29 June, FIB’s depositors withdrew an equivalent of EUR 400 million from their accounts in a matter of hours. FIB was able to resume normal activity shortly thereafter, but CCB will remain closed until 21 July. Both of the banks’ owners have strong political connections, which has led some to conclude that a battle between oligarchs caused the run on the banks.
According to the authorities, the banking system has fallen victim to media speculation, which drove customers to withdraw their money under allegations that the system was on the verge of collapse. Lack of confidence in the government, along with fears that there would be a repeat of what occurred during the 1997–1998 financial crisis in which 14 banks went bankrupt, drove Bulgarians to pull their money out of the banks. Authorities have urged people to stay calm while reassuring them that the banking system is sound and well capitalized. As a precautionary measure to ensure sufficient liquidity in the banks, the European Commission approved a EUR 1.7 billion credit line on 30 June.
The situation in the banking system has added to the government’s already weak and unstable position. On 13 June, the cabinet of Prime Minister Plamen Oresharski survived a no-confidence vote—the fifth since he took office last year—following his party’s poor performance in May’s European Parliament elections.
Adding to the political turmoil, the EU raised questions recently about the legality of the construction of Bulgaria’s part of the South Stream project pipeline as Bulgaria granted construction rights to a Russian company that is sanctioned by the United States. The EU’s questioning of the project prompted Oresharski to announce that Bulgaria would freeze construction, which sparked an internal government conflict, thus contributing to the events that led Plevneliev to dissolve the Parliament.
Demand for foreign currency has escalated due to the banking distress and could call into question the stability of the currency board. Lars Christensen, chief analyst at Danske Bank, says:
“In our view, the currency board is not currently threatened and there is a strong commitment on the part of the authorities to defend the board and by construction the central bank has the currency reserves to defend the peg. That said, an escalation in demand for foreign currency would lead to an automatic tightening of monetary conditions, which in itself could increase stress in the banking sector and cause a further contraction in economic growth.”
Three-quarters of Bulgarian banks are foreign-owned and the run was only on domestically-owned banks. What occurred at the FIB and CCS are considered to be isolated cases and the situation is not expected to affect other Banks in the country, however, the effects remain to be seen.
Author: Dirina Mançellari, Senior Economist