By Maryam Kennedy | 22 May 2012
From Central Europe to now the Middle East, the European Bank for Reconstruction and Development is playing a pivotal role in attempts to keep economies moving. Here, its President Thomas Mirow tells Maryam Kennedy about the challenges of running the world’s only transition bank
London’s principal financial district, known to Londoners as “The City,” crackles with activity. With cranes looming overhead as they labor to construct the next generation of skyscrapers, sidewalks full to bursting and traffic clogging up the roadways, there is little indication of the deep scars inflicted by the recent global financial crisis.
The City’s enduring status as a worldwide business and financial center — even during the volatility of recent years — ensures that it plays host to a huge number of financial services organizations. Nestled among these cross-border behemoths is the headquarters of the European Bank for Reconstruction and Development (EBRD).
Unlike many of its neighbors, this particular bank does not aim to “maximize profits” — but to make “sufficient profits” to support its development efforts. Instead, its role is to provide project financing for banks, industries and businesses, both new ventures and investments in existing companies, in financially viable projects that could not otherwise attract financing on “reasonable” terms — i.e., terms that markets expect for similar risk profiles.
Inaugurated less than two years after the fall of the Berlin Wall, it was created to support the development of market economies following the widespread collapse of communist regimes. Its continuing focus is the economic development of, and investment in, countries from central Europe to central Asia.
Financial crisis fall out
Calm and measured in tone, Thomas Mirow, the EBRD’s fifth President, gives no indication of the pressures of being the man at the helm during a storm. Taking office in 2008, only a short period after the credit markets first started to contract, he had no option but to hit the ground running.
The collapse of Lehman Brothers prompted a dramatic fall in global trade levels that had a significant impact on export-dependent Eastern Europe and many economies in the region collapsed. With little obvious mechanism for a coordinated response, the EBRD played a key role in the inception of the “Vienna Initiative” in 2009. This brought together the combined forces of the governments and authorities from Western banking groups and their Eastern subsidiaries, the IMF, European institutions and multi-lateral development banks such as the EBRD. Funding of €25b was pledged over two years for Eastern European banks to lend on to businesses.
At the same time, the EBRD sought to shore up locally owned banks, such as the systemically important Parex Banka in Latvia, which benefited from an equity investment and loans from the Bank. “This was a successful initiative in terms of bridging a certain gap which had occurred from the impact of the Lehman Brothers crisis,” says Mirow. “We encouraged banks to continue to fully engage in the region at the time.”
The EBRD was created to support the development of market economies following the widespread collapse of communist regimes. In the aftermath of the Arab Spring, there is little doubt that MENA is a region in pronounced need of EBRD assistance. The focus now, though, is “Vienna II,” a new initiative that aims to keeps stability in Eastern Europe’s economies through continued lending.
“The situation is different now because we do think a certain degree of deleveraging this time will be unavoidable because of the constraints all major banks are under in terms of their capitalization,” says Mirow. “We are aiming to help streamline this process, reduce the risks of insufficient coordination, and mitigate the risks of a disorderly deleveraging.”
Beyond Vienna II’s coordination efforts, the crisis environment will involve a substantial level of financial backing, to both the financial and the real sectors. “We have not reduced our level of engagement in terms of a crisis response,” he says. “At the time, we went up from something like €5b annual investment to €9b annual investment and this is where we still are. So we never got back to pre-crisis mode. Where there are specific opportunities to help banks stay engaged and continue their lending activities — particularly to small companies — we will be able to again invest but it will be less comprehensive than it was last time. And while it will again be a multiagency approach, it will probably be a little less because others have bigger constraints in terms of reducing their lending. But I’m quite sure there will be opportunities for us to invest alongside EIB or IFC to name two examples.”
Eyes on the Middle East
Although the EBRD is maintaining its deep involvement in Central and Eastern Europe, an expansion into the Middle East and North Africa is also under way. In the aftermath of the Arab Spring, there is little doubt that it is a region in pronounced need of EBRD assistance. “We will focus on four countries — Egypt, Morocco, Tunisia and Jordan — and there have already been initial country assessments,” comments Mirow.
“In many respects, our focus in the new region will be quite similar to the focus we have had since we began our work. Twenty years ago, in Central and Eastern Europe, there were structural problems such as the weakness of small and medium-sized companies, the subdued development of a fully fl edged private banking sector and poor services of utilities in the municipalities. And in the Middle East, in addition to these areas, the agri-business sector is one that will also be quite important going forward.”
To coordinate local activities, the EBRD is in the process of establishing resident offices staffed by both internationally and locally recruited professionals. These offices are fully involved in generating new projects and in monitoring the growing number of Bank operations. Up to now, most of the work has been done by teams traveling to the countries. But it has now opened preliminary offices in Cairo, Casablanca, Tunisia and Jordan.
When asked to identify the particular sectors EBRD will focus on, Mirow points out the Bank does not prioritize in terms of industries. “What we do is look at the specific needs of individual countries,” he says, before adding that the Bank has been able to draw on its experiences in Europe to shape its future activities. “I think the most important lesson is that it would be wrong to see the solution for all problems in just privatization,” he says. “We want to see of course a buoyant private sector but this means that good regulations have to be put in place; that privatizations are done in a good fashion; that a legal system is established on which private sectors from the inside and the outside can rely on; and that corruption and fraud are actively combated. Establishing a rules-based system is probably key to building up trust in the private sector.”
One of the challenges in the region is the lack of capacity in some of these countries and the fact that some of the institutions are brand new. Questioned on the bank’s expectations regarding the minimum standards of financial safeguards and institutions that need to be in place and operational before it lends, Mirow says an individual approach is key. “First of all, it’s probably fair to say that one needs to differentiate between those countries which have gone through a revolution — like Egypt and Tunisia — and countries which have had a more top-down approach like Morocco and Jordan,” he says.
“The minimum standards that we need to see includes an existing legal system that really works and protects private interests and private companies. We need to see companies emerging that adhere to international accounting standards. This demands a degree of transparency and corporate governance, which makes it possible to invest. We are happy to help in terms of legal advice because we have established quite a track record in helping companies set up good regulation, albeit in terms of financial supervision.”
EBRD’s strategy is to promote good governance through a combination of technical assistance to strengthen government institutions and direct project oversight. “What we are doing is quite a thorough due diligence on each and every individual project,” says Mirow. “These projects are looked at and rated on their individual merits and also against the backdrop of what we call a ‘country rating’ which takes into account broader elements of the economy and society. And we will monitor this throughout the lifetime of each project.”
Unfortunately, achieving high standards of governance is not a straightforward process. EBRD is clear in that it requires each and every country it operates in to follow the path of democracy, multi-party systems and market economy but such transitions do not happen overnight, especially in volatile situations. How does EBRD make this assessment in practice? For example, is the Bank going to pull out if countries don't fall into line after a period of time? In response, Mirrow says there are a range of options available.
“Pulling out would be the last possibility and, in our current region of operation, there is one country in which we more or less do no new business — Uzbekistan — for political reasons and because they have not corresponded to expectations we had. But there are many possibilities in between. For instance, shying away from certain sectors because they are not deemed to be transparent enough, reducing the overall volume and only being involved in small elements of financing such as micro finance in very small companies. So there is a whole range between being fully engaged and not engaged at all.”
Looking to the future
Aside from the move into the Middle East and North Africa, Mirow and his team remain very much focused on the continuing issues surrounding the financial future of the Eurozone. The ongoing difficulties there have demonstrated two clear lessons, he says. “The first is that the transition process in Central and Eastern Europe is taking longer than previously thought — including probably at the Bank. In times of crisis, the deficiencies and vulnerabilities become more visible than in prosperous times. And secondly, the way that the public and private sectors interact, and the solidity of a rules-based system, have proved to be particularly important during times of economic challenges.”
Interestingly, Mirow is keen to cite the “shining example” of Poland as a country that has exceeded expectations in terms of its economic performance. “In an amazing way, it succeeded in getting through the first phase of the crisis by outperforming all other European countries and still seems to be quite robust,” he says. “Poland is an example of how structural reforms and a well-managed financial sector — avoiding risks from unhedged foreign currency lending to take one example — can help a country endure even in difficult times.”
On the lessons from Poland, he cites its ability to learn from recent history. “Poland has had quite a conservatively managed banking system; we haven’t seen Polish banks taking risks. This is because they had their own banking crisis 10 years earlier. One of the key lessons seems to be that you need to have a banking crisis to really get as cautious as you should have been in the first place.”
Maryam Kennedy leads Ernst & Young’s Government & Public Sector Investigation team and advises on design and implementation of national anti-corruption programs.
This article first appeared in the May edition of Dynamics magazine
