EU INTEGRATION DOESN'T RESULT IN AUTOMATIC FALL OF CREDIT INTERESTS
What will happen with the interests on consumer and mortgage loans when Bulgaria joins the European Union (EU)? And how will they move once the country introduces the euro as a single means of payment? How will lev credits already taken be transformed into the European currency and again - what will happen with the interests on them? These questions are already bothering most people who have taken bank credits so far. And this is absolutely normal, considering that with the current level of income in Bulgaria borrowing money for a house, a vehicle, or furniture, for example, is associated with serious financial commitments that burden the budget of every family. For some people this is a move equivalent to financial bondage for five, ten, and even more years, therefore perspectives for possible facilitation of the credit terms are logically of interest for them. However, an examination by a BANKER weekly reporter in the big credit institutions in Bulgaria proved that the country's integration into the EU is not going to influence directly the interests on credits. Bulgaria's joining the community is a political act, the economic effects of which have already been consumed to a great extent. Interest rates are affected by the situation on both the Bulgarian and the international markets, BULBANK CEO Levon Hampartsumyan said.
In fact, it is common practice for the banks to calculate their interest rates on the basis of their own base interest rate on which a specific risk premium and a margin of profit are calculated.
Base interest rates
depend to a great extent on the price at which credit institutions attract funds from the market, as well as on their administrative costs. In Bulgaria, this price is directly related to the interests on transactions on the interbank market, as the Bulgarian National Bank (BNB) has not been conducting monetary policy since 1997 and does not fix its own interest rates. Once the country joins the EU and introduces the euro as its single currency, the price at which Bulgarian banks will attract funds will be directly affected by the interest on transactions of the European Central Bank. Currently, this rate is 2.5% per year and is expected to be raised within a year. The question is - how much? Of course, there is no concrete answer to it now, because the increase depends on the economic development of the countries in the euro zone. Therefore, if this interest rate goes up, we cannot expect credits launched in euro to get cheaper.
The significant administrative costs that Bulgarian banks are still to make on meeting the requirements for a European payment zone and introducing the new capital adequacy standards known as Basel II may appear another deterrent to the fall of interest rates.
Another element of the calculation of interests on credits is
the risk premium
It depends mostly on the rating the country is given by the international agencies Standard Poor's, Moody's and FITCH Ratings.
There is a tacit agreement on the financial market that Bulgaria may join the European Union on January 1, 2007. This attitude reflects positively on the country even now. Due to the fact that the expectation itself is already influencing the policy of the banks, at the time of integration nothing dramatic will happen, Peter Harold, CEO of HVB Bank Biochim and HEBROSBANK, commented for the BANKER weekly. Right now we see there is a trend for raising the European rates by ECB, but this is a normal international cycle. In Bulgaria, interest rates are much more influenced by the rating or the assessment of the country's risk. It already has an investment rating and international capitals consider it a good destination. Naturally, when it becomes a member of the European Union its rating will increase and it will be a good chance for reduction of the risk factor in the calculation of the interest rates. Later, when the euro is introduced, confidence in your country will grow even more, because in order to join the euro zone you have to meet lots of requirements regarding the economic indicators. That, too, will affect the interests in a favourable manner for the people.
Regardless of whether you borrow levs now, when the euro is introduced all lev-denominated assets and liabilities will automatically be denominated in euro. I mean - the value of the amount you own and the value of the amount you owe will be transformed in euro. And what the interest rate will be then depends on what is written in the agreement with the bank. If you have a fixed rate, it will remain the same. If you have a floating one and it is based on EURIBOR, this will automatically affect it. It all depends on the agreement you sign today - it is where the answer is, Peter Harold claimed.
The third factor that affects the interest rates on credits in Bulgaria is the demand and supply of credits and the free competition among the banks on the financial market. The factor is the basis for calculation of the
margin of profit
which is currently the most important component in the calculation of the credit interest rates. Before a year and a half when (according to the BNB statistics) the average rate on consumer credits was 13.41%, this margin varied between 8 and 10 per cent. However, the competition among credit institutions led to reduction of the margin and at the end of May 2006 the average interest is 10.45 per cent.
Today, the premium on consumer credits from which banks form their profit is about 7% a year. I think there is potential to reduce it by 2 or 3% and that will probably happen when the country joins the European Union because I expect the competition among the banks to intensify, Post Bank's Executive Director Assen Yagodin said. As to mortgage credits, he said that the margin was much lower - 4-5%, and the possibilities for its reduction have been nearly exhausted. Considering the BNB statistics, at the beginning of 2005 the average interest on loans guaranteed by real property was 11.5%, in the end of March it went down to 6.43%and a month later it went up to 7.16 per cent.
Most Bulgarians who are aware of the conditions under which European citizens use credits highlight that interests are much lower abroad. They are right. But they do not take into account the fact that these countries have a higher credit rating compared to Bulgaria and therefore the risk premium is lower there. Unfortunately, Bulgarian people (unless they live or work somewhere in united Europe) will not be able in the near future to borrow money from banks in other EU member states where interest rates are lower. The reason is that credits for individuals are regional banking business in which the bank has to know the customers and the economic situation in the country in order to assess their solvency and then decide whether or not to finance them.
As to mortgage credits, legislation in the various countries that regulates the pledging of real estates is still very different. That is why even bankers in the EU who traditionally support the globalisation in financial services remain reserved toward the possibility to get a credit from a bank in one community state by pledging property in another EU member. In this case, Bulgarian people have nothing else to do but hope that after we enter the large European family new big European banks will step on the Bulgarian market, competition will intensify and as a result, interest rates will fall. There is no alternative, at least for the time being.