A no-deal Brexit could have a negative impact on the key manufacturing economies of central and eastern Europe (CEE), according to UniCredit’s regional division head.
Carlo Vivaldi lists Britain crashing out of the EU as one of the main external risks to the region’s economies during the coming year, along with slowing growth in core Europe, potential additional sanctions on Russia and global trade wars.
“The countries that could be most affected by a disorderly Brexit are those that are closely tied into German manufacturing chains – Czech Republic, Slovakia and Hungary,” he says. “At the same time, we don’t see a very high direct immediate spill-over effect to CEE.”
In terms of internal risks, Romania tops the league table after the government’s surprise announcement in late December of a punitive tax on bank assets that came into effect on January 1.
Local lenders have estimated the initial impact of the tax, which will rise in line with the Robor interbank rate, at €1 billion a year.
“It’s a material amount,” says Vivaldi. “It will clearly reduce the ability of banks to support the real economy, which will in turn impact economic growth.”
News of the levy sent Romanian stocks plummeting. By mid-January, the Bucharest Stock Exchange’s blue chip BET index was still 16% below pre-announcement levels.
“You can see the effect of the tax in the market reaction,” says Vivaldi. “The market is usually right.”
We don’t see fintechs as a threat; we think they will work together with banks- Carlo Vivaldi, UniCredit
UniCredit also faces challenges in Turkey, where the bank’s analysts are forecasting three quarters of negative GDP growth this year.
The focus is on municipal elections planned for late March, which are seen as a key test for the ruling AK Party and a potential source of renewed market volatility. Once that hurdle has been negotiated, bankers are hoping the government will consider applying to the IMF for support.
“Turkey is emerging from a very tense period and the economy is partially stabilized, but there is a need for liquidity, especially for private companies,” says Vivaldi. “The authorities want to ensure a soft landing for the economy. External support can help to make this effective and fast.”
Despite UniCredit taking an €850 million impairment in the third quarter of last year on Yapi Kredi, the Turkish lender it owns jointly with local conglomerate Koç Group, the bank has pledged to maintain its exposure to the country.
“At the peak of market volatility in the summer, we ran all the numbers and we decided we wanted to stay in Turkey,” says Vivaldi. “Yapi Kredi is a systemic bank, full of best practices and very innovative. It is a valuable source of digital know-how for the group.”
UniCredit put its money where its mouth is on January 10, when it took $200 million of an additional tier-1 bond issued by Yapi Kredi. Koç Group subscribed the same amount, while debt investors bought a further $250 million.
Overall, Vivaldi is upbeat on the outlook for CEE this year.
“The region is continuing to perform well,” he says. “The growth cycle is getting closer to the end, but domestic demand remains strong, supported by low unemployment and high wages, while foreign direct investment still accounts for around 2.5% of regional GDP.”
Analysts at UniCredit are forecasting economic growth for CEE – excluding Russia and Turkey – to slow slightly this year from 3.7% in 2018, but still top 3%.
Banking profitability is also expected to remain well above levels in western Europe. Average regional return on equity came in at around 10% for the first nine months of last year on the back of healthy lending growth and a substantial improvement in asset quality.
By the end of last year, non-performing loans accounted for just 5% of the total in central and south-eastern Europe, down from 14% in 2014.
This strong performance is reflected in UniCredit’s results.
CEE was one of the group’s most profitable divisions last year, consistently contributing more than a third of total net profit. Outstanding loans in the region were up 9.5% in the 12 months to end-September, while return on allocated capital for the first three quarters of the year came in at 15.9%.
Vivaldi attributes these results to UniCredit’s geographical diversification in CEE.
“The benefit of being present in 11 countries is that negative outcomes in one or two markets can be absorbed by the others,” he says.
The group’s CEE division is also benefiting from a multiyear efficiency drive and an increasing focus on digitalization.
It has set user-penetration targets of 51% for digital banking and 47% for mobile by the end of this year, and has been working to boost knowledge-sharing and standardize customer experience across its countries of operation.
UniCredit is also using CEE as a testing ground for innovation.
Early this year, the group plans to trial a new digital customer-engagement tool in Serbia that was created in collaboration with Meniga, the Icelandic fintech in which it invested €3.1 million in June.
“We don’t see fintechs as a threat; we think they will work together with banks,” says Vivaldi. “Banks have capital and customers, while fintechs have ideas, so partnership is the best solution.”