CEE/CIS economies at risk from high corporate indebtedness

CEE/CIS economies at risk from high corporate indebtedness
Non-financial sector corporate debt as a percentage of GDP: corporate debt rose markedly, much of it in forex.
By Clare Nuttall in Bucharest June 13, 2018

Corporate debt in the countries in the European Bank for Reconstruction and Development (EBRD) region of operations has increased strongly, with much of it denominated in foreign currencies, a senior EBRD economist warned on June 12. 

“We have seen an increase in overall corporate debt to around 60% of GDP in 2018 from 42% in 2007,” commented EBRD lead economist, economics, policy and governance Roger Kelly at a presentation of the bank’s 2017-18 Transition Report in Bucharest.

Taking into account that a large share of the debt is denominated in foreign currencies, “It doesn’t take much of an appreciation in advanced economy currencies for this debt to increase substantially,” he said. 

Kelly described rising corporate debt as “a fairly major risk in a lot of our economies”, especially those whose currencies are at risk of depreciation. 

Data published by the EBRD in its May 2018 Regional Economic Prospects report shows that non-financial sector corporate debt as a percentage of GDP is highest in Cyprus, at a staggering 477% of GDP. 

The rates are more manageable across the rest of the bank’s area of operations but still close to 90% of GDP in Mongolia, where the lion’s share is external debt. Mongolia’s economy has been recovering recently following a $5.5bn IMF-led bailout in 2016 and a rise in commodities exports to China. The country also saw its first major corporate debt restructuring in 2017; coking coal producer Mongolian Mining Corp successfully restructured $800mn worth of debt after failing to service a $200mn loan facility and missing an interest payment on its $600mn bonds.

However, Mongolia still has a substantial debt burden connected to Belt and Road Initiative (BRI) projects, putting it at risk of future debt distress, and it is also vulnerable to a potential slowdown in China, as its giant neighbour looks to curb its own debt burden. 

Meanwhile, Greece, Croatia, Turkey, Slovenia, Latvia and Bulgaria all have corporate debt at between 50% and 75% of GDP, the EBRD figures show. 

“In many countries, levels of corporate debt are comparable to those in Germany and the United States although they remain below the levels seen in many other advanced economies and emerging markets. In this regard, the composition of debt is a greater source of risk than the current levels,” said the EBRD report. 

This represents a significant risk to the region’s outlook; “The resilience of corporates to a significant tightening of global financing conditions is yet to be tested,” it stressed. 

Turkey’s central bank finally managed to halt a dramatic slump in the lira with two hikes of its main policy rate. Despite opposition to monetary tightening from President Recep Tayyip Erdogan, the regulator stepped in to allay fears Turkey was teetering on the edge of a full-blown currency crisis

Even before the lira went into freefall, there were signs that companies were struggling under their debt burdens. Yildiz Holding, owner of the brands Godiva chocolate and McVitie’s biscuits, agreed in May to a multi-billion dollar debt restructuring. Another giant Turkish holding, Dogus, is also in talks with banks with the aim of restructuring its obligations. And at the end of last month, Gama Holding, which is active in the construction and energy sectors, said it was seeking to restructure or refinance around $1.5bn worth of loans.

“[Rising corporate debt is] certainly a significant issue in Turkey, where corporate increased their indebtedness especially in foreign currency particularly over the last five to six years to an extent that now, particularly when the lira is declining, we see significant problems arising and a lot of request for restructuring among large corporates in the country,” Kelly said.

Croatia, meanwhile, is in the midst of restructuring former local champion, food and retail group Agrokor. After a year of negotiations that put Prime Minister Andrej Plenkovic’s government under intense pressure, a settlement deal was announced at the end of May, though it still has to be formalised.

2017 research from the Croatian National Bank (HNB) found that almost a third of the corporate debt in Croatia is excessive, which, it said, “points to sizeable deleveraging needs in the medium term. In the event of a decline in GDP and a rise in interest rates, almost half of the existing corporate debt might become unsustainable.” The debt overhang is also inhibiting much-needed investment in Croatia, which was one of the last countries to recover from the recent global economic crisis.

Similarly in neighbouring Slovenia, “high corporate over-indebtedness, as well as the slow pace of business environment reforms and privatisation, could act as a drag on growth,” the EBRD warned in its Regional Economic Prospects report.