Quantitative easing and non-bank debt financing in Slovenia

ECONOMIC ACTIVIT Y, BUSINESS CYCLES AND CREDIT GROW TH UDK 336.71:336.76(497.4) Quantitative easing and non-bank debt inancing in Slovenia Marko Simoneti* QUANTITATIVE EASING AND NON-BANK DEBT FINANCING IN SLOVENIA The objective of the paper is to explore why the development of non-bank financial institutions has become a precondition for Slovenia to increase the benefits of being a part of the Eurozone. The existence of modern banking integrated with non-bank institutions is assumed when strategic decisions are made in the Eurozone. First, we review how monetary policy works in the complex financial system and what are the main challenges for implementing quantitative easing (QE) effectively in the Eurozone. Second, we analyse why not many direct benefits should be expected in countries like Slovenia with a small nonbank financial sector. We conclude by proposing financial reforms needed in Slovenia to change this in the future. JEL G01 G21 G22 T here are two big themes for post crisis banking in the Eurozone: inancial stability and monetary measures to support growth. The Eurozone solutions are sought in the context of a modern well-developed inancial system composed of commercial banking, investment banking, shadow banking, non-bank inancial institutions and functioning capital markets. On the other hand, commercial banks in Slovenia are predominant inancial institutions by holding 75% of all inancial assets and companies are inanced almost exclusively by bank loans. Introduction Stability of the banking sector has been clearly the irst short term priority with massive government sponsored bank rehabilitation programs in most Eurozone countries. The developed non-bank inancial institutions are the advantage as they offer the alternatives for inancing at the time when the banking sector is blocked. They also offer additional opportunities to take actions on time, to design a broad range of bank rehabilitation instruments and to involve the private sector and banks in rehabilitation process as well: sale of non-core businesses, sale of tradable securities, securitisation of loan portfolios, sale of bad assets, guarantees on borrowing and lending, private sector recapitalisations, issuing of preferred shares, hybrid and other debt funding instruments. In Slovenia the solutions chosen for bank rehabilitation were late coming, simple and expensive for taxpayers: the government was the only important player buying bad assets from banks and providing liquidity, funding and capital for troubled banks. * Marko Simoneti, associate professor for money and finance, Faculty of Law, University of Ljubljana. 22 BV 11/2014 ECONOMIC ACTIVIT Y, BUSINESS CYCLES AND CREDIT GROW TH In the complex financial systems financial stability by definition has to take a broader view of banks and non-banks. We have learnt in the last global financial crisis that both types of institutions can be: too big, too important, too complex or too interlinked to fail. Long term solutions for maintaining financial stability in the Eurozone are the new micro and macro prudential regulations, the banking union, separation of investment banking from commercial banking and regulation and supervision of shadow banking1. These rules will change the way how the banking business is operated in Slovenia as well, but they should not have dramatic effects on the overall financial structure given the simplicity of the system. To support growth and to fight deflation in the Eurozone ECB has been using conventional interest rate setting monetary measures, complemented by mid-term low cost financing operations for banks. In Slovenia these measures have not been channelled through the banking sector to the real economy. The lending interest rates remain to be high and the volume of lending is stagnating for many years. The low cost ECB funding was mainly used by troubled banks for repayments of debt on the wholesale market. ECB has recently announced new broad quantitative easing measures (QE) following the examples of FED and Bank of England (BoE) in fighting recession and deflation. Details of this program are yet to be announced, but securitisation, non-banks and shadow banking institutions will be important as additional channels for allocation of new money in the economy. The objective of this paper is to explain why the development of nonbank financial institutions and capital market in Slovenia has become a precondition to increase benefits of being part of the Eurozone. The BV 11/2014 structure of the paper is as follows: first, we review how monetary policy works in the complex financial systems and what are the main challenges for implementing QE effectively in the Eurozone; second, we analyse why not many direct benefits should be expected for countries like Slovenia with limited non-bank financial sector and last, we propose what type of financial reforms are needed to change this. Conventional monetary policy Monetary policy consistent with stable and low inflation target of around 2% in the modern economy There is no automatic multiplication of reserve money. is implemented by setting the nominal interest rates on central banks reserves or the base money. This base short term rate is then influencing interbank interest rates and the range of other interest rates in the economy. This base rate is the main input for setting lending and deposit rates by banks and for determining the size of their lending activities. In the modern economy most of the money is created by commercial banks’ lending and simultaneously creating matching deposits in the account of the borrower. On the other side, the amount of overall broad money creation and bank lending is limited (1) by the profitability concerns of banks in the competitive financial environment; (2) by the macroeconomic situation and the behaviour of bank customers – mainly corporates, non-bank financial institutions and 23 households - that can destroy newly created money by paying back old loans, (3) by micro and macro prudential regulation and (4) above all by the monetary policy. (BoE, 2014) In the normal situation the central bank is therefore focusing on the price of base money and not the quantity of base money as it is described by the money multiplier model in most textbooks. The quantity of broad money is therefore endogenous, the money multiplier is not stable and the quantity of base money depends on the amount needed by banks to carry out their business profitably. The oldest central bank in the world has described these textbook misconceptions in its recent report very openly: “Rather than banks receiving deposits when households save and then lending them out, bank lending creates deposits. In normal times, the central bank does not fix the amount of money in circulation, nor is central bank money ‘multiplied up’ into more loans and deposits.” (BoE, 2014) Unconventional monetary policy In the time of recession and deflationary pressures, once the basic nominal interest rate is set close to zero, the conventional monetary policy has reached its natural limit. On the other side, the short term real interest 1 Former Federal Reserve Chair Ben Bernanke provided a definition in April 2012: “Shadow banking, as usually defined, comprises a diverse set of institutions and markets that, collectively, carry out traditional banking functions--but do so outside, or in ways only loosely linked to, the traditional system of regulated depository institutions. Examples of important components of the shadow banking system include securitization vehicles, asset-backed commercial paper (ABCP) conduits, money market mutual funds, markets for repurchase agreements (repos), investment banks, and mortgage companies.” Shadow banking has grown in importance to rival traditional depository banking in debt financing and was a primary factor in the subprime mortgage crisis of 2007-2008 and global recession that followed. Regulated non-bank financial institutions like insurance companies, pension funds and equity mutual funds are not considered to be a part of shadow banking (see FSB, 2013). ECONOMIC ACTIVIT Y, BUSINESS CYCLES AND CREDIT GROW TH Figure 1: Impact of QE on balance sheets of banks and non-banks Before asset purchase After asset purchase rectly to customers and they will not be automatically multiplied into more loans and deposits (see Figure 1). Pension fund Assets Liabilities Assets Liabilities How QE works in today´s complex financial systems? Government debt Other Deposits Other Assets Liabilities Economists generally agree that the interest rate that matters for stimulating investment and consumption is not the short but the longer term expected real interest rate. Any real long term rate is technically a function of the main components: average expected short term interest rates for the period (i.e., the one that can in principal be influenced by traditional monetary policy every period), a term (duration) risk premium and a credit risk premium, and expected inflation (Fawley and Juvenal, 2013). The monetary policy, being conventional or unconventional, has to influence these components through various channels to be effective. QE does work on expectations as it is signalling to markets that economic conditions are worse than previously thought and that low short-term rates will be warranted for longer than expected. In a sense by QE the central bank even financially commits itself to easy monetary policy and low interest rates for the longer time period. After QE is implemented the central bank is holding a large portfolio of bonds and if the interest rates are to be increased very shortly the potential losses on portfolio can be spectacular.2 The effects of QE on long term inflation expectations critically depend on when and how the exit from this policy is to be implemented which is at present the main topic in US. Effects of QE on expectations are generally referred to as the signalling channel.3 Central bank(b) Government debt Assets Liabilities Other assets Reserves Reserves Other assets Commercial bank Assets Liabilities Reserves Deposits Assets Liabilities Reserves Deposits (a ) Balance sheets are highly stylised for ease of exposition: quantities of assets and liabilities shown do not correspond to the quantities actually held by those sectors. The figure only shows assets and liabilities relevant to the transaction. (b ) Government debt is actually purchased by the Bank of England’s Asset Purchase Facility using a loan from the Bank of England, so does not actually appear directly on the Bank’s official consolidated balance sheet. Source: Bank of England (2014) rate and other longer term real interest rates can still be too high. One possible response to provide additional stimulus to economic activity by the central bank is to undertake a series of asset purchases, increasing the amount of central bank reserves in the system or so called quantity easing. The BoE report (2014) is describing the basic logic behind this measure very clearly: “QE is intended to boost the amount of money in the economy directly by purchasing assets, mainly from non-bank financial companies. QE initially increases the amount of bank deposits those companies hold (in place of the assets they sell). Those companies will then wish to rebalance their portfolios of assets by buying higheryielding assets, raising the price of those assets and stimulating spending in the economy. As a by-product of QE, new central bank reserves are created. But these are not an important part of the transmission mechanism.” Therefore, the same as in the conventional monetary policy, these reserves cannot be lend out di24 2 For example, FED and BoE have increased their balance sheets five times during the current economic recession and they hold respectively about one third and one half of the outstanding government issued securities. BV 11/2014 ECONOMIC ACTIVIT Y, BUSINESS CYCLES AND CREDIT GROW TH Figure 2: Key channels for the impact of The Bank of England´ gilts purchases on domestic demand Portfolio substitution channel (always operates) Gilt yields ↓ Bank of England gilt purchases Term premia ↓ Yields on long-dated risky assets ↓ Wealth ↑ Cost of accessing credit in financial markets ↓ Credit risk premia ↓ Bank deposits and liquid assets ↑ Domestic demand Availability of bank credit ↑ Bank funding channel (may operate in conditions of stressed bank funding) Source: Miles, D., Bank of England (2012) QE may also directly impact term and/or credit risk premiums on the financial markets for the range of debt instruments. If the central bank purchases longer term bonds, removing them from the market, prices will go up and required long term returns down. New money issued to investors in exchange for bonds acts like “hot potato”. It is pushing the investors out of balance in their chosen portfolios and they start to buy other more risky assets like non-government bonds and equities, raising their price, reducing the required returns and the spreads above risk free returns. There are wealth effects for the owners of these financial instruments and reduced rates for new issuing of these instruments, both stimulating consumption and investment. With reduced returns on longer term and more risky assets the moral hazard and negative selection problems on the bank lending are mitigated as well, improving the bank lending conditions in support of economic activity. Effects of QE on premiums, or relative asset prices, are referred to as the portfolio rebalance channel (see Figure 2). There is another possible bank BV 11/2014 funding channel through which QE works, particularly at times of stress in bank funding markets. This happens when banks themselves take advantage of lower long term interest rates on the market to obtain more stable and low cost funding for themselves (e.g., as a result of banks issuing new bonds or taking in long term deposits from non-bank institutions selling the bonds) which is likely to facilitate bank lending, particularly for those entirely dependent on banks for credit, for example SMEs (see Figure 2). QE in the market based financial systems There is strong empirical evidence that the portfolio rebalance channel of QE is working well in the current recession in the economies with welldeveloped non-bank financial sector. Miles (2012) is reporting for UK that the purchase of longer term government bonds has reduced not only the longer term returns on government securities (changing the yield curve for government bonds), but reducing the spreads for more risky debt instruments of financial and non-financial 25 corporations as well. Therefore, premiums for longer maturity and for credit risk in debt instruments were both reduced to support economic activity and resume economic growth in UK. The same channel has worked strongly in the USA as well where due to the size of the intervention the impact of additional liquidity on the markets has been felt globally by reducing long term interest rates for foreign sovereign debt as well (Neely, 2012).4 The evidence for the working of bank funding channel on economic activity is less convincing. The banks might well choose to participate in this new asset price really on the financial markets instead of looking for new opportunities in the financing of the 3 The best example of effectively using the signalling channel to influence the selected markets was the statement of the ECB President Mr. Draghi at the pick of the euro sovereign bond crisis that ECB is ready to do whatever it takes to protect euro. This OMT program from 2012, with potentially unlimited capacity to buy sovereign bonds, has never been even implemented in practice but market participants reacted with substantially lower required returns for troubled euro member countries. 4 Slovenia was a non-intended beneficiary of this policy, selling new bonds when this window of opportunities opened on the high yield market and avoiding the international financial assistance that would include conditionality by troika (IMF, ECB, EU). ECONOMIC ACTIVIT Y, BUSINESS CYCLES AND CREDIT GROW TH real economy. There are many other side effects of these measures on foreign exchange and equity markets as well. Only the future will tell if this general inflation of asset prices, which has been the key part to revive the growth in the short term, will be translated into long term and sustainable growth of US economy as well or it is only the beginning of the next asset price bubble. For the rest of the world, including EU, this is more or less an academic issue as they have practically no choice but to follow the US and UK lead in this area. interventions during the crisis had to take these structural and institutional limitations into account. The largest ECB programs - long term repurchase operation (LTRO) and the new targeted LTRO, being conditional on new financing of non-financial sector - can hardly be compared with QE programs in US and UK. ECB is creating additional reserve money by providing banks with medium term financing at low cost and expending its balance sheet with wider range of eligible assets taken as collateral. The purchase of sovereign bonds from banks is therefore indirect and QE in the Eurozone with no “Eurobonds”? It is interesting to note that the real intention of QE programs is to lower interest rates for private debt, while the purchase in US and UK is made almost exclusively of risk free government debt. Why the central bank is not buying these private debts directly? This would imply that the central bank is taking on the balance sheet not only the market risk associated with the change in the interest rate level but the credit risk of individual issuers as well. This is very relevant for the ECB as there are no bonds issued on the level of the Eurozone while they are institutional limits on buying bonds of the member countries. In addition, at present sovereign bonds of some of the member countries are not really risk free.5 The financial system in the Eurozone (and Japan as well) is also much more bank based than in US and UK and the portfolio unbalance effect in the non-banking sector will be automatically smaller (Fawley and Neely, 2013). The banking channel has to play more direct and important role in fighting the deflationary pressures in the Eurozone as this is the only large enough channel that exists in many member countries. The ECB unconventional monetary ECB measures can hardly be compared with QE in US and UK. temporary. But additional reserves in banks do not automatically multiply into cheaper new lending and money creation as in the textbook money multiplier model. Precondition for this bank funding channel to work at all is that banks are financially stable and new lending is profitable. Many of the banks used this ECB facility simply to refinance their liabilities on the wholesale banking market (including the banks from Slovenia) but the overall lending to non-financial corporate sector has remained stagnant. In addition, the fragmentation of the banking sector in the Eurozone in this period has been further increased with wider dispersion of bank interest rates for corporate clients. On the other side, it can be argued that with26 out the ECB intervention in providing refinancing for over-leveraged banks the credit crunch in the Eurozone would be much deeper (Rant and Gregorič, 2014). It should not come as a surprise that banks with capital adequacy concerns would be very reluctant to increase lending as well. The non-participation of the EU banks in the first round of TLTRO in the fall 2014 is the case in point. Systemically important banks are waiting for the final results of stress tests and they find little interest in new funding and implicit commitments to new lending before they now how much additional capital will be needed for existing portfolio of loans. QE measures in the US and the UK are targeted at non-bank financial institutions holding large portfolio of government bonds and banks serve only as intermediaries to unbalance their asset mix. For participating banks (prime dealers in the US) this “dancing with the central bank” is rather lucrative and low risk activity as long as the program last as promised. Therefore, banks willingness to participate in QE to unbalance the portfolios of non-banks is really not a problem, but willingness of banks to increase their own lending depends on many other factors in the economy. QE in the Eurozone and securitisation The ECB has already announced the beginning of its own version of QE that will be focused on purchasing 5 Buying such bonds in large quantities for monetary purposes would be far from neutral operation for member countries. As critics are quick to say this would be the same as bailing out troubled countries and subsidizing their banking institutions which are usually holding a large portion of domestic sovereign bonds. One can argue that similar credit risks are present at least partially in US where government agencies guaranteed mortgage backed securities (MBS) were part of the QE purchase as well. FED has already announced the exit from QE program at the end of 2014 with the intention to hold accumulated assets till maturity. This in turn means that FED will be an important participant in housing finance in US for many years to come. BV 11/2014 ECONOMIC ACTIVIT Y, BUSINESS CYCLES AND CREDIT GROW TH structured products like asset back securities (ABS) and collateralised debt obligations (CDO) in support of financing SME sector in the Eurozone. Paradoxically, securitization of loans and practice of distributional banking used for subprime housing loans in US that were the main reasons for the global financial meltdown are proposed by the ECB as a solution to overcome recession in the Eurozone. It will be interesting to observe what will be the size of the program and the eligibility criteria. Will it be possible to include in the programme the mezzanine tranche in addition to senior tranche of these structured securities? More broad definition of eligibility will be needed to have large enough volumes to make an economic impact but that would imply the ECB helping banks to save regulatory capital and assuming additional credit risk that might well be larger than in the case of buying directly sovereign bonds. With the fully integrated financial markets one can argue that simulative effects of increased asset prices and reduced required returns are broadly distributed to investors in all asset classes and to all potential issuers. But the reality of the Eurozone is that financial sector is fragmented and capital markets are less important than in the market based financial systems. Who owns the assets to be purchased, who can generate new assets to be purchased and who is to be chosen to “dance with the central bank” in the Eurozone might well become the major political issue. Countries like Slovenia, with no domestic market for corporate debt securities and limited experience in securitisation will likely receive minimal direct and indirect benefits. On the other side, some larger member countries like Italy have already made major steps forward to encourage debt financing of SMEs on BV 11/2014 the capital markets to complement traditional bank financing. These policy measures will be reviewed in the next section as we believe there are lessons to be learned for Slovenia. It seems that the future of corporate financing in the Eurozone will become much more like in US and UK, where securitisation, capital markets, non-bank financial institutions and shadow banking will play an important role beside commercial banks. To benefit from these developments Slovenia should, like it or not, adjust to this new trend as soon as possible. Minibonds and securitisation in Italy Italy, like most continental European countries, have had for many years a typical bank based financial system with the great majority of companies almost exclusively relaying on domestic banks for short and long term financing. Bond financing was used only by a few large listed companies and financial institutions which could attract international investors as well. With the objective to improve SMEs and unlisted companies access to debt financing on the capital market and support economic growth, Italy introduced in December 2012 a special legislation for minibonds and commercial papers. In December 2013 this was accompanied by a new securitisation law, regulating establishing of SPVs to acquire corporate loans and securitise them. The legal framework to build up domestic shadow banking is in place. Banks can now set up investment funds with securitisation of existing portfolio of loans by retain a large part of first loss equity tranche or start new debt funds with outside investors.6 Minibonds can now be issued by SMEs that are not listed on the stock exchange and they are not intended for retail investors but only 27 for professional investors. Offering disclosures and regular reporting requirements for minibonds are lower than for retail bonds, no prospectus is needed, and sensitive information reporting is limited to major events, all reducing the costs of issuing for SMEs. To issue short term notes SME has to nominate professional sponsor. Minibonds can be participatory providing they have at least three years duration and they pay at minimum the ECB base interest rate. Therefore, bondholders can participate in the profit of the SMEs and share the risk with the owners of the SMEs. Corporate tax treatment of this profit sharing with creditors is the same as for regular interest payments, providing that bondholders do not have more than 2% ownership stake in SME. Minibonds are traded on the special segment of the stock exchange reserved for professional investors trading in bonds, commercial papers and project bonds. It should be very easy to use the same market infrastructure to organise centralised book building process on the primary market for minibonds as well. All these institutional arrangements are making transactions with minibonds cheaper and more easy to use by institutional investors who received also some regulatory reliefs in Italy to buy minibonds. The minibond instrument is risky by its nature as it issued by SMEs and, in addition, interest payment can be participatory. As they are not appropriate for retail investors, requirements can be lowered, but some standardisation is needed to achieve the main objectives, to support the program by favourable tax regime and to promote the broader use of 6 See for example Vestini, Tancredi (2014) and Linhard (2014). It seems that Italy has anticipated well in advance the ECB measures focused on the support to SME financing. In addition, institutionally Italy is well positioned to take the advantage of QE program focused on ABS and CDO securities, once details are disclosed by ECB President Mr. Draghi in October 2014. ECONOMIC ACTIVIT Y, BUSINESS CYCLES AND CREDIT GROW TH new instruments. These instruments in Italy seem to be well adjusted to the financing and operational reality of SMEs as they are half-way between bank financing and public bond financing. Extensive financial covenants as in the banking loans are combined with the standard public bonds provisions of negative pledge, “pari passu” and limited restrictions on asset disposal and extraordinary transactions. Debt financing and the capital market in Slovenia The size of the Slovenian financial system has been reduced to 161% of GDP during the financial crisis and it remains small compared to the 612% of GDP in the Eurozone. Banks with 75% of the assets under management are dominating players despite the contraction of the lending activities in recent years, while the other non-bank financial institutions have been underdeveloped in terms of size, structure and variety of financial instruments. In addition, the crosslinkages with the banking sector are not very strong as the main investors in all non-bank institutions, including the investment funds, are retail investors. The organized domestic capital market is small and suffers from low liquidity and remains off limits to companies and other entities as an alternative source of financing. The five most heavily traded prime market shares accounted for more than four-fifths of total volume of trading with 64 listed companies and two most heavily traded bonds accounted for nearly one-half of the total volume of trading. (BoS, 2014, p. 84- 98) At present non-bank financial institutions are not very relevant for domestic corporate financing as they mostly invest in government bonds and foreign assets. The insurance sector has increased its foreign assets during the financial crisis from 30% in 2009 to 45% in 2013. The mutual funds, mostly equity or mixed funds are 70% to 80% invested in foreign securities. A few money market funds and debt funds have been created recently but they are still small in size. Real estate funds and hedge funds are not present at all. Foreign asset management companies have mostly left the country during the financial crisis. Pension funds have at present very conservative investment policy due to legally required minimum return and they are mostly invested in government bonds and deposits. Banks' deleveraging in Slovenia was »brutal« to corporates. Contrary to the banking sector this part of the domestic financial industry was able to survive the implosion of equity and real estate price bubbles and the long lasting economic recession without the assistance of the government. It also showed a lot of resilience in the recent turmoil caused by the collapse of the domestic banking sector where the losses due to investments in shares, hybrid and subordinated debt instruments issued by domestic banks were substantial. The consolidation of the industry is close to complete and surviving institutions are financially strong and profitable. In 2014, the bank deposit rates in Slovenia were sharply reduced due to BoS intervention which might induce some bank depositors to switch their savings to alternative non-bank 28 institutions. At the same time, domestic insurance companies and pension funds are forced to look for better returns in alternative investments at home and abroad. On the regulatory front, the introduction of the new life-cycle investment policies in pension funds will increase the demand for shares and corporate bonds, while the introduction of solvency 2 in insurance industry will likely switch demand from longer term to shorter term debt instruments. Therefore, in the near future some changes in investment policies are expected, some additional de-satisfied retail and institutional bank depositors might be attracted, but the overall organic growth of the non-bank institutions will depend mostly from the improvements in disposable income of households due to economic recovery and reduced unemployment. Financial crisis always leads to deleveraging of banks and corporates, but “good” deleveraging would try to minimise the negative impact of this process on economic growth. The deleveraging of banks in Slovenia was “brutal” to the corporate sector that depends almost entirely on bank financing. Between October 2008 and March 2014 the banks´ repayment of debt on the wholesale markets exceeded 32% of GDP. The main counterpart of these repayments was reduced bank financing for corporate sector and sharp increase in cost of debt financing (BoS, 2014, p. xii). The LTD ratio in the banking sector was in this period reduced from 160% to 103% and business models of both foreignowned and domestic-owned banks were transformed into simple savings and loans institutions on the domestic market. With the government assistance in the amount of close to 12% of GDP the banking sector is now well capitalised and liquid, but the lending activity is still low and interest rates for corporate lending about BV 11/2014 ECONOMIC ACTIVIT Y, BUSINESS CYCLES AND CREDIT GROW TH 3% to 4% higher than in Eurozone (see Figure 3). The precondition for overall credit growth is the restructuring of overindebted corporate sector that is lagging behind banking sector in restructuring of their balance sheets. It is estimated that this excessive corporate debt might be around one third of GDP and is not limited only to a few large debtors but to thousands of SMEs as well (UMAR (2014) and Damijan (2014)). It is clear that organised and coordinated efforts of the BAMC, banks and the government will be needed to financially restructure these companies and secure them new equity financing before they can take on new loans ( Simoneti and Jašovič (2013), Simoneti (2014a, 2014b)). Based on the BoS survey on the access to finance from 2011 to 2013 availability of bank loans has deteriorated, bank rejected more applications and companies received fewer funds than they demanded. They increased their demand for external financing in the period while the supply did not follow and the financial gap has increased. Most companies still do not expect that external financing in Slovenia will improve in 2014 (Geršak, 2014). Good companies are trying to escape from this long lasting financial repression on domestic bank loan market by borrowing from abroad, which is available to big traditional exporters and by issuing debt instruments on the capital markets, which is limited to large and financially sound companies. Financial experts estimate that only 5 to 10 Slovenian companies can issue debt instruments on international markets due to minimum size and rating requirements. Additional 50 companies might have the size and the quality to issue bonds and notes on the domestic market. The demand for these instruments is at present strong BV 11/2014 Figure 3: Interest rates on corporate loans of more than euro 1 million in percentages in comparison with the euro area Source: Bank of Slovenia (2014) even on domestic market as deposit rates were sharply decreased. There have already been first transactions indicating that a handful of qualified domestic companies will seize the opportunity to replace expensive domestic bank financing with debt financing on the capital market. But for most of the companies in Slovenia, being SMEs, this is not a solution unless there is a radical change introduced on the supply and demand side of the market. Conclusions The underdeveloped capital market and non-bank financial institutions in Slovenia are by-product of the distributional model of mass privatisation, non-transparent and bank supported domestic consolidation of ownership, large residual state ownership and of the key role played by state owned banks in the gradual transition to the market economy. In the transition and development model based on strong relationship among the state and domestic financial and corporate sector, supported by the ideology of “national interest”, transparency and disclosure rules of the capital market 29 were not really welcomed (Šušteršič, IER, 2010). With the banking crisis and the collapse of this development model many new opportunities have opened for the debt and equity capital market development to assist in solving the main economic challenges of Slovenia: restructuring of banks and companies, privatisation, corporate governance in state owned sector, new equity financing, foreign financing of domestic economy through non-bank channels, long term households savings and pension reforms. An extensive study from 2010 served to form a broad consensus of the financial industry participants what should be done for the revival of the capital market in Slovenia.7 A comprehensive and consistent package of measures to increase confidence in the market and quality of the market, to strengthen the supply side and demand side of 7 The new strategy for development of the capital market was drafted based on the initiative proposed by the Ljubljana Stock Exchange, proposals by market participants and the research conducted by the Slovene Institute for Economic Research (IER) entitled »Development Opportunities for the Capital Market in Slovenia Following the Financial Crisis« (2010). ECONOMIC ACTIVIT Y, BUSINESS CYCLES AND CREDIT GROW TH the market and to improve market infrastructure was agreed upon that is still relevant four years later.8 This paper only adds one more opportunity for non-bank institutions to play a positive role in the economy: increasing the benefits of the Eurozone membership for Slovenia. The expansionary monetary measures of the ECB have not been transmitted into new lending and lower interest rates for the real sector in Slovenia. Therefore, the new monetary policy of ECB focusing on corporate and SME financing through TLTRO and QE seems like a very timely and relevant measure for Slovenia. But how can these proposals work in the system which is dominated by banks that are still burdened with more than 20% of corporate NPLs after the transfer of bad assets to the BAMC at the end of 2013? They cannot because the bank funding channel does not function if banks are still under stress and preoccupied with their internal problems and most of the companies are still over indebted. But even if Slovenian banks and companies are once financially restructured there would be a problem as there is no infrastructure available to securitise bank loans. For many years Slovenian banks were using wholesale market and parent banks´ loans for additional funding and they have no experience in securitisation. The financial system in Slovenia is operating so differently that the proposed instruments cannot be used effectively in the near future. Some countries with traditional bankbased systems and a strong SME sector have already realised that being different and less developed in the Eurozone comes at cost and they are making big steps forward in closing this gap. Is there a lesson for Slovenia, to use minibond concept for alternative new financing of SMEs and, above all, to use securitisation of existing corporate loans once the financial restructuring of over-indebted borrowers is completed. For such a program to work we need (1) a supportive legal, tax and institutional environment, (2) motivated and capable issuers in corporate and banking sector and (3) strong foreign and domestic demand. With the ECB announcing QE programs the main constraint is no more on the demand side but on the limited domestic professional capabilities to design the overall framework and to execute transactions. The by-product of the suppression of capital market development in Slovenia for many years is that there is a lack of investment banking skills that are needed today to efficiently restructure banks and their corporate clients and to take full advantage of the new growth promoting initiatives within the Eurozone. Linhard, Stefanie: Italy innovates with minibonds to fill SME lending vacuum, Global Capital, 03 March 2014. REFERENCES: Simoneti, Marko (2014b). »Dobro« razdolževanje podjetij v Sloveniji po začetku sanacije bank, Dnevi slovenskih pravnikov, Podjetje in delo, letnik 40, oktober 2014. Damijan, J. P. (2014), Corporate financial soundness and its impact on firm performance: Implications for corporate debt restructuring in Slovenia, Working papers No. 168, EBRD. 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Damijan, Igor Masten, Simon Mastnak, Mojmir Mrak, Matija Rojec, Janez Šušteršič, Luka Vesnaver: Razvojne priložnosti trga kapitala v Sloveniji po finančni krizi - Development Opportunities for the Capital Market in Slovenia Following the Financial Crisis, IER 2010. http://www.ljse.si/cgi-bin/jve.cgi?d oc=12608&sid=oy1xTzkXkWzjxjN3 Simoneti, Marko. Razvojne priložnosti trga kapitala v Sloveniji po finančni krizi? IB revija, 2011, letn. 45, št. 1/2, str. 67-83. Simoneti, Marko in Jašovič, Božo. Prestrukturiranje podjetij s strani bank upnic : kako skupaj iz blokade. Bančni vestnik, 2013, letn. 62, št. 7/8, str. 9-17. Simoneti, Marko (2014a). Prestrukturiranje dolžnikov po spremembi insolvenčne zakonodaje. Bančni vestnik, jan./feb. 2014, letn. 63, št. 1/2, str. 13-17. UMAR, Ekonomski izzivi (2014), Zadolženost in razdolževanje slovenskih podjetij, junij 2014. Vestini Luca, Tancredi Marino: The “Destinazione Italia” Decree: New life for Minibonds and Trade Receivables Securitizations, Diritto Bancario, Gennaio 2014. Financial Stability Board: Global Shadow Banking Monitoring Report 2013 (2013). Geršak, Uroš: Raziskava o dostopnosti virov za podjetja – Access to finance survey, Bančni vestnik, 2014, letnik 63, številka 6. 30 8 See »Slovene capital market development strategy«, http://www.ljse.si/cgi-bin/jve. cgi?doc=1468 BV 11/2014