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Maltese Banking Sector Concerns IMF

by Robert Lee,, London

27 January 2012

With public finances being given a clean bill of health, the International Monetary Fund (IMF) in its latest assessment of Malta has warned that safeguards must be introduced to protect the Maltese banking sector.

Following rapid budget consolidation in 2011, Malta's government has been commended for reducing its deficit to 3% of GDP. The IMF has said however that the government has relied excessively on one-off measures and recommended further cuts to expenditure. The IMF's report however said government should also focus its efforts on shoring up the nation's banking sector.

The IMF reported that the financial sector has continued to perform strongly, but warned that - given the large external risks - it is important to further strengthen the sector’s resilience. "Banking and insurance companies appear healthy with relatively sound capital and liquidity ratios, but the sector’s sheer size (above 8 times GDP) and large foreign ownership represent a number of risks to financial stability and fiscal sustainability," the Fund warned.

Listing the risks, the IMF said there are concerns about the sector being "too large to save", with inadequate resources in the case of a major banking crisis, deposit run or bank default.

The IMF further found the target size of the Deposit Compensation Scheme (DCS) to be unsatisfactory. The IMF reported that a shortfall could have knock-on effects on the entire banking system through confidence and reputation effects and on the government’s budget in case the DCS needs emergency funding.

"As a small economy with a large financial sector, the authorities should give due recognition to the potentially high risks to financial stability, by erring on the conservative side and imposing buffers above the suggested minima," the IMF stated.

"Maintaining financial sector stability requires a multi-faceted approach, encompassing macro-prudential policies and surveillance, micro-prudential regulation and supervision, and lastly contingency planning, safety net, and crisis management," the IMF noted.

"Further strengthening the analysis of risks posed by the financial sector, including the so-called international banks and insurers, is key to identifying and addressing systemic imbalances before they materialize. In this context, we commend the Central Bank of Malta (CBM) and the Malta Financial Services Authority (MFSA) for extending the EU-wide stress testing exercise to all domestic banks, and for participating in EU-wide insurance sector stress tests."

The IMF went on to say: "Substantial credit concentration in the banking sector and rising credit risks warrant close supervisory scrutiny and strong financial buffers. Lending is highly concentrated in housing and construction, loan quality has deteriorated, and the number of restructured loans increased. Bank profitability may suffer if loan losses were to increase further, due to further declines in real estate prices or a fall in growth. Banks’ financial positions may also be affected by the forthcoming Basel III/CRD IV requirements."

Presenting recommendations against that background, the IMF advocated that:

  • Banks with riskier profiles should be encouraged to increase provisioning and restrain dividend payout policies to strengthen capital buffers.
  • Further improvement in the MFSA’s assessment of the robustness of banks’ processes for loan classification, impairment determination, and provisioning practices are needed, although plans to increase supervision have been initiated.
  • An action plan to enable the implementation of new liquidity regulations, including individual liquidity guidelines and liquidity stress testing, is needed since this would be the most constraining element of Basel III for Malta’s banks. In this context, the IMF said banks should be encouraged to lengthen the maturity of their liabilities.

Concluding its recommendations, the IMF said, in light of the ongoing euro area crisis, it is imperative to ensure a sound financial safety net. "Contingency planning for crisis preparedness should move to the forefront of the policy agenda," the IMF said, "and should involve: (i) stress testing to assess the adequacy of financial buffers; (ii) the development of scenarios for key material risks; (iii) performing crisis simulation exercises regularly, covering all systemically relevant institutions, as well as cross-border dimensions; and (iv) reviewing existing coordination arrangements between the key institutions."

TAGS: investment | economics | Malta | banking | international financial centres (IFC) | offshore | offshore banking | regulation

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