Annual Financial Statements 2011 of Bank Austria

Management Report
Management Report (CONTINUED)
� Italy is an industrial country (and a founding member of
the G7) and is playing in a different league. The country has
always been able to access capital markets, even though
interest rate spreads rose to record levels in autumn 2011
(+435 bp to 677 bp). This is not explained by country specifics
but was due to market views that Italy, a large economy,
shares the typical problems of the “southern peripheral countries”.
Unit labour costs in industry increased strongly in
recent years, with an impact on price competitiveness (which
the new government aims to correct through liberalisation).
But Italy is a major European trading partner. Italy’s main
problem is the legacy burden of public debt amounting to
119% of GDP. Debt accumulated in the 1970s and 1980s,
reaching a peak ratio of 122% in 1995. Given Italy’s size, this
requires an annual debt rollover of € 341 bn (in 2012, compared
with a total amount of € 1,400 bn for the euro area as
a whole); even a minor widening of spreads has an immediate
impact on the budget through interest expenditure. The new
government’s budget consolidation measures and its programme
to restore growth and improve competitiveness are
making progress. Even if Italy’s GDP probably contracted by
1.3% in 2011, according to data issued by the European
Commission, plans to achieve a balanced budget in 2013 are
seen as feasible. This would correspond to a large primary
surplus (balance of revenue and expenditure excluding interest
payments) of about 4%; in 2011, Italy achieved a primary surplus
of 1% of GDP. Based on the logic of rating agencies, the
downgrades of Italy’s credit rating also affected banks and
ultimately other companies which can tap capital markets.
Terms and conditions for new issues in the current year have
improved, and the rollover was based on shorter maturities to
take advantage of the yield curve. As regards net financing
flows, Italy is hardly dependent on external financing given the
high level of private net assets. The consistent implementation
of reforms which have been initiated, improved governance
and close cooperation in Europe can restore confidence in
financial markets. This is also reflected in a decline in interest
rate spreads (down from the peak level in 2011 by 374 bp to
304 bp). At 3.8% most recently, yields on 5-year Italian government
bonds have been lower than those prevailing in the
years 2006 to 2008, or even in 2002. In the years before the
collapse of Lehman Brothers, yields even exceeded 5%.
� Developments in Hungary are of special significance – not
least for Bank Austria as an Austrian bank. Given the close
links between the real economy and the banking sector in
Hungary and neighbouring Austria, Standard & Poor’s used the
Hungarian crisis of confidence as an important argument for
downgrading the rating assigned to the Republic of Austria
shortly after the turn of the year. In Hungary, a number of
amendments to the Constitution and to the legal framework in
2011 were not entirely acceptable to the EU and the IMF, the
country’s most important lender. The levy on banks introduced
in 2010 was compounded by efforts to ease the solvency
problems of private households through administrative procedures,
placing a larger burden on banks which acted as lenders.
The Home Protection Act passed in May 2011 among
other things gave mortgage debtors the option of restructuring
their debt at fixed exchange rates. In September the government
went even further with the option of early repayment of
loans denominated in euro or foreign currency at a fixed mandatory
conversion rate. The rules imply a loss of at least 25%
on CHF-denominated loans and 15% on the restructuring of
euro-denominated loans – the total volume of foreign currency
loans is about € 18 bn. In December 2011, the government
and the Hungarian Banking Association reached agreement on
easing the burden on banks, permitting the latter to offset up
to 30% of the losses thereby incurred against the levy on
banks in 2012. The unpredictable regulatory intervention in
2011 (and in the early part of 2012) nevertheless led to a
sell-off by international investors. Hungary’s country rating
was moreover downgraded to speculative investment on
24 November 2011, which made the rollover of its foreign
debt much more expensive, and the country was faced with a
downward spiral of currency depreciation. Risk premiums rose
to a peak of 660 basis points on 4 January 2012 (5-year CDS
spreads) and a benchmark spread of 992 basis points for
5-year government bonds (which reflects both a risk premium
and the generally higher interest rate level). Based on a comparison
of year-end data, the Hungarian forint depreciated by
11.7% against the euro and by 14.2% against the Swiss
franc. Hungary’s economic policymakers responded by taking
countermeasures at the expense of domestic growth. While
real economic growth in 2011 was 1.7%, we assume that
2012 will see stagnation. The deleveraging process in the
banking sector also contributed to this development. Lending
volume stagnated in 2011 (+0.4% in euro terms). The proportion
of non-performing loans (NPL ratio) rose to 14.5%,
and several banks reported losses.
From the middle of January 2012, the exaggerated reactions
seen in financial markets reversed: from the end of 2011 to
the end of February 2012, the Hungarian forint appreciated
significantly (+9.0% against the euro/+8.3% against the
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