Today: From Zombies to Transvestites

Thank you very much Fabrizio, and thank you for the invitation.

It is always a pleasure to be in Slovenia.

It is an interesting feeling to be the first speaker on this panel and to talk not about how to revive credit markets, but about how to contain credit booms. Fortunately, our problem is a rather nice one, as we are still trying to contain and direct the credit expansion in Turkey. There are many reasons why we still have a relatively rapid credit growth in this global environment.

One of the reasons is the low household sector leverage that we had initially. Macroeconomic stability has been achieved after four decades of extremely high and volatile inflation and extremely heavy fiscal dominance. Turkey solved the fiscal dominance problem by bringing down the budget deficit-to-GDP ratio from double-digit levels to below 2 percent as of now. With the inflation targeting regime, we have also addressed the inflation problem and decreased it to single digit levels. Since then, access to long maturities and the low cost of credit have led to a significant demand coming from households and firms for all sorts of credit.

Now, the question is, what do you do with your external account? If the private-sector debt is booming instead of public-sector debt, then you have a low domestic savings rate and, inevitably therefore, a high external deficit. Having an external deficit at levels like 10 percent of GDP in 2011, may sound a good idea if you had ample liquidity thanks to quantitative easing in major central banks. But when people start talking about normalization, then the spotlight turns on the countries with external deficits. It is, therefore, a good idea to contain the extremely rapid credit growth in the private sector through macroprudential policies. Turkey has used those effectively, together with monetary policy.

I would like to express two points that are essential to revive credit––first, to provide liquidity from the central bank, and second, to ensure that central bank liquidity is allocated to useful ends by the banking sector.

In our case, the situation is somehow similar, but the opposite.

We basically should reduce liquidity, including the creation of

“inside money.” Regarding the second point, we should ensure that liquidity continues to support productive forms of credit at a sustainable pace, which I call a “targeted credit policy.” How do you run a targeted credit policy? One very nice example, which works well in Turkey, is a state-owned bank that is directly targeting SMEs. This is basically a bank, which is eligible to get some subsidy from the government’s budget. Therefore, in the

budget there is an amount which will be transferred to specific types of SMEs through subsidized loans. This has been there for a long while, since the bank was established many decades ago.

It is working well.

Previously, before Turkey’s 2001 crisis, the problem was that this subsidy was not budgeted; the bank was directly ordered to lend to SMEs at a low cost and thereby made losses. That was a very bad idea, and then after a reform in 2002, this process became very transparent––there is a budgeted amount, everybody knows the fiscal costs, and the bank makes money off these loans. The purpose is served by this budgetary subsidy mechanism. The second example is coming from history. The central bank has been using funding for an exports program.

Turkey has an export deficit problem; therefore, it is a good idea to fund exporters directly. The second use of this program is lending to exporters in domestic currency, but with FX indexed to LIBOR, through the Turkish Eximbank (state-owned investment bank for financing exports) and any other bank willing to use this facility. They then put a very minor spread on these funds and lend them to the exporters. This is, in essence, like buying FX from our exporters, so we are building our reserves through this channel. This facility has been used from time to time in history, and after the global financial crisis in 2008, we have reactivated it by increasing the line. Today, the stock of receivables we have from this channel is US$9 billion, and we are going to add this amount to our reserves within the coming eight months.

These are just some examples. But then, what do we do about consumer loans? The pace of consumer credit growth reached 35 percent, 40 percent nominal, when QE2 started at the end of 2010. That was simply unsustainable and not very good for the current account deficit as well. Our research has also shown that consumer loans are the main drivers of the current account deficit, in sharp contrast to business loans. We have really taken a lot of macroprudential measures such as higher risk weights on nonmortgage consumer loans―100 percent and 150 percent, depending on the maturity, well above the Basel II minimum;

and also 50 percent instead of 35 percent on mortgages. We have introduced a LTV restriction of 75 percent on housing loans; also recently, loan-to-income restrictions initially for credit cards, and we will then extend these restrictions to broader types of consumer loans. All in all, it works. Now, the pace of consumer credit growth has come below 10 percent, which is compatible with our macro objectives, including the external deficit. But commercial loans still keep growing at about 20 percent, nominal. So basically, the composition is shifting from consumer loans to commercial loans. But as a central bank, we have not been able to do it alone; the bank regulator and the Government had to take action to achieve this by using macroprudential policy instruments.

Thank you very much for your attention.

Panelist 2: Adam Balog, Deputy Governor, Central Bank of