Fiscal policy and banking sector reform urgent – MLP report on 1990’s credit boom

By Matthew Vella

The increase in credit from banks to low-prospect investments in the private sector has allowed indebtedness to accelerate at a much faster rate than profits in the private sector.

This and other observations are part of the Malta Labour Party’s analysis on consumption and private and public debt in their report ‘Living Beyond Our Means? A study of the 1990’s credit boom in Malta’.

The report offers an analysis of Malta’s economy in the 1990’s in terms of consumption and domestic credit figures since 1980 up till the present.

Addressing what it presents as the present repercussions of the 1990’s credit boom, the MLP report states that "the chickens have come home to roost". With one of the highest ratios of non-performing loans amongst EU applicants, Malta’s financial state is the result of what the report cites as the "feel-good factor" and "money no problem" attitude of the Nationalist administration.

The report includes recommendations on debt eradication debt without affecting the banking sector negatively or increasing taxation.

Lower house prices, a rigorous competition regime, curbing of public sector wastage and fiscal policy reform without increased taxation were included as concrete proposals on how debt can be slowed down without generating a banking crisis.

Considerable areas within the analysis seem to be pointing an accusatory finger to the operation of the banking sector in Malta and their advancing of credit to less-than-satisfactory economic performers.

In 2000, the amount of outstanding loans owed by the private sector to local banks was Lm1,061 million (66% of GDP) having increased by Lm673 million since 1993. The report noted that in 2001 credit to the private sector fell by 0.6%, a sign showing that banks could "have finally woken up to the implications of the sharp increase in their credit exposure".

The study identified wholesale and retail, and construction as the most indebted sectors. The amount of money owed by wholesale and retail operators increased to Lm295 million in 2001 from Lm117 million in 1993. Likewise, monies advanced to the construction sector increased to Lm96.7 million in 2001 from Lm27 million in 1993.

This credit boom contrasted sharply with the rate of performance of private sector operations whose gross trading profits failed to increase in the 1990’s, declining from 28.3% of total national income in 1989 to 23.7% in 2001.

The report states the growth of such indebtedness outgrew profits so much that barring the manufacturing sector, the ratio of loans to profits increased to 403% in 2000 from 167.8% in 1992.

According to European Commission figures on non-performing loans in 2001, Malta is fourth in the list of EU applicants with the highest ratio of non-performing loans (14%). Malta also registered as the EU applicant with the highest rate of non-performing loans as a percentage of GDP (13.8%).

This showed that in the past decade, banks had continued to supply credit to banks which were reporting lower profit margins.

The report recommended that banks reassess their approach to the credit business and that more public information on borrowers be made available. The report added that bank managers’ actions have to be closely scrutinised.

The study also draws on the fact that much domestic credit was used to finance Government’s financial needs.

After 1987 Government became a net debtor to the banking sector, which advanced Lm236 million to Government in the last five years. In 2001, net claims on government comprised of nearly 50% of the national debt.

Between 1993 and 2001 however, the public sector’s share of the nation’s outstanding loans decreased by 10.5% to 13.6% of total loans.

Advances from the banking sector to public sector enterprises (energy, water, transport, shipbuilding and shiprepair) rose between 1993 and 2001. The report said this was a sign of bad management where costs were allowed to grow faster than revenues. The result was a significant price increase in essential services.

The report said a complete overhaul of Government’s economic policy was urgently required especially in modernising the civil service and ensuring more efficiency at all levels.

Chiding Government’s "laissez faire attitude" and stating the Maltese economy was at a crossroads, the report called for a reformulation of Government’s fiscal policy without the need to raise taxes, sell public assets or decrease capital expenditure. But no quick amends would be forthcoming, the report said.

"It is now clear that there is no simple solution that will make up for the mistakes of the recent past. Those who succeeded to sell this idea in the 1998 election have in office ended up creating even more problems for the Maltese economy, not least by selling the largest Maltese bank to HSBC, a multinational that has so far shown itself disinterested in playing a part in our industrial development."