Once bitten, twice shy

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Emerging Markets

Turkey’s 2001 banking crisis was a useful education for its financial institutions and regulator. Some claim the experience undermined its appetite for the structures blamed for those problems – and those are at the heart of the credit problems today.

“Particularly after what happened in 2001, I think the market perceives a high level of regulation as a good thing,” said Caroline von Nathusius, an associate at Linklaters. She praised the Banking Regulation and Supervision Agency (BRSA) for having the flexibility to supplement its rigorous approach to market oversight with regular consultations and feedback to keep its regime relevant.

The BRSA has provided “perfect supervision” for Turkey in the recent volatile global environment, said Tolga Egemen, executive vice president of financial institutions and corporate banking at Garanti in Istanbul. He praised the regulator for having done “an excellent job,” while conceding the opinion held by others in the market that its regulatory fervour has been being over-zealous. It has, he said, played an important role in shielding the country from the worst excesses of the credit crunch.

Turkish institutions are subjected to relatively high capitalisation and daily reporting requirements. The measures have helped its institutions but have also had a negative impact, driving business offshore, where regulation – and tax – are more favourable. Nonetheless, Turkish banks are reasonably profitable. Egemen called the profitability of Turkish institutions “satisfactory”, pointing to Garanti’s 27% return on equity in 2007.

Certainly, Turkish institutions were only marginally exposed to toxic sub-prime mortgages or other instruments that were hit hardest by widening spreads. However, it is not a regulatory straightjacket but a lack of sophistication that has kept Turkish institutions out of the securitised products at the heart of the recent credit crunch, according to Beat Siegenthaler, chief strategist for emerging markets at TD Securities in London. “They are not involved in these kinds of instruments because they don’t have the ability to manage them,” he said. “If they had the chance to do them they would.”

Tolga Ediz, emerging market strategist at Lehman Brothers in London, has an even simpler theory: structured products have failed to take off in Turkey because they are not profitable in a country with such high interest rates. As rates fall, structured products will gain traction, he predicted.

Whatever reason Turkish banks had for abstaining from structured credit business, “if the profits being made out of these CDOs had continued for another three years perhaps we would have ended up considering getting involved,” Egemen said, before adding: “I don’t think the regulator would ever have let us join in.”

“If the banking system was reckless I doubt the regulator would be able to hold it back,” said Siegenthaler. In fact, the biggest influence on the markets has been the large number of foreign players active in it, he said.

It is certainly possible to see parallels between 2001 and the most recent banking crisis. In Turkey’s own crisis, T Bills were being repo’d overnight to keep them off balance sheet. In 2007 institutions were warehousing their positions off balance sheet in conduits – the same risks, and the same lessons there to be learned. It seems an economic imperative that such crises occur periodically to remind bankers there are no free lunches in the financial marketplace.

When the current crisis is over, global regulatory standards will tighten, putting the BRSA’s regulatory philosophy in the mainstream, predicted Egemen. This view is to see the credit crunch as a nail in the coffin of the light-touch, principles-based regulation favoured by the UK, Germany and others.

There is little doubt global regulators will respond with increased regulation. As other regulators get stricter Turkey’s own regime will start to look relatively better, which may help keep more business onshore.