The state of the economy comes under constant scrutiny from various regulators and international institutions like the ECB, the IMF, the European Commission and the rating agencies. At the local level, the most respected and independent review is that of the Central Bank of Malta. The views of the governor are therefore important for economic analysts trying to understand the undercurrents that affect the country’s economic performance.
The governor has often raised the issue of the interest rates that banks charge to industry. Many bank clients, especially SMEs, complain that the interest they are charged by banks are higher than the average imposed by other eurozone banks. According to the governor, this complaint is justified because “Malta’s rates are still the fifth highest in the eurozone, at 4.6 per cent for loans up to €1 million (eurozone average 3.5 per cent)”.
Such figures may raise suspicion of a possible informal cartel among the various banks that compete in the small local market. It is known that the competition authority is in the process of investigating whether there is, in fact, some form of illegal agreement to restrict the forces of competition in the local banking market. It will be interesting to know what the results of these investigations will reveal. Local bankers admit that the rates which they charge to businesses in Malta are indeed higher than those in some other eurozone countries but have an explanation for this.
The interest rate that is charged to borrowing customers is made up of two elements: the cost to the banks of raising funds and the pricing of risk that every loan entails. We often hear how local banks avoided the serious recent downturns faced by other EU financial institutions. Maltese banks adopted prudent models, including the practice of raising funds from the retail market even if this costs more than borrowing from other institutions. Put simply, if banks borrow money from thousands of small savers, the cost of their fundraising will be higher than if they were to borrow money from other banks. However, this practice is acknowledged as giving banks a more stable base. Even more important is the fact that local banks often lend money to business that have a poor capital base and, therefore, have a higher risk profile that can, at times, lead to bank loans not being repaid.
The recent asset quality review conducted by the ECB has, in fact, shown that the two largest banks in Malta are indeed sound, partly because they provide prudently for doubtful debts. So there is an argument to be made that local businesses would benefit if they were to have higher capital ratios to convince banks that their risk profile is not too high. The Central Bank governor also commented on the generally good performance of the economy. The economy has grown by 13 per cent since 2008 and, he noted, “growth has come from public and private investment”.
Looking at the future, the setting up of a development bank is indeed an encouraging prospect. The objectives of such an investment bank are still not known but, according to the governor, it “would help to finance SMEs and projects”, some of which may contain a social element, like, say, social housing. With banking regulation becoming tougher, it is essential that local banks continue to support the economy in a sustainable way by taking a long-term view of their mission. The guidance of the Central Bank through ‘moral suasion’ should always be welcome.