Greek banks have been advertising their growth story with success for years but the international credit crisis appears to be knocking on their door. They need to borrow billions of euros in wholesale financial markets in 2008 to fund their strong loan growth at a time when the cost of funding has gone up and some segments of the market are not functioning. Although all Greek banks do not have the same structure of funding, this is the first time that the credit crunch is raising eyebrows, making market watchers take a harder look at the issue of liquidity. The story of Greek banks is about strong earnings growth depending on strong loan growth and cost containment supported by a strong capital base. The under-banked home market provided them with most of the impetus for years but the banks correctly noticed that the small and fast maturing local retail banking market could not support their ambitious long-term growth goals. Undoubtedly, the Greek market has room to expand as the Greek economy grows. According to analysts, the country’s total loans amounted to 92 percent of gross domestic product (GDP) in the first nine months of 2007, compared to 134 percent in the eurozone. It was much higher in southern European countries, such as Spain and Portugal, which are considered comparable to Greece, where total loans reached 164 percent of GDP. Moreover, in the fast-growing category of household lending, such as mortgages and consumer loans, where spreads are wider, Greece’s ratio is estimated at about 45 percent of GDP, compared to 55 percent in the eurozone and 77 percent in Spain, according to analysts. Mortgage lending accounts for about 23 percent of GDP in Greece, compared to about 40 percent in Europe. Still, the banks correctly foresaw that the local market of 11 million people was too small and fast-maturing to support their growth story. So it was natural to seek opportunities abroad. Therefore, the Greek banks have been investing heavily in the last few years in expanding the branch network of their subsidiaries in southern European countries, betting it will pay off with sustained profit growth in the future. Today, the National Bank of Greece and EFG Eurobank have more than 50 percent of their group branches outside Greece and Alpha Bank has more than 40 percent of its total branches abroad, with Piraeus Bank posting similar numbers. Still, Greece accounts for more than 70 percent of their total group loans because foreign branch networks are relatively new and have yet to mature. Despite this, the contribution of these international operations to group loan volume growth, revenues and profits is increasing as they grow at much faster rates than those in Greece. So far, so good, but the international credit crisis brings to light an issue: Strong loan volume growth in Greece and in southern and eastern Europe in general carries risks as well. FX risks Macroeconomic imbalances, such as large current account deficits resulting in higher foreign exchange risks, in countries such as Romania and Bulgaria are being brought to the fore. At this point, the risks look to be manageable but may take some shine off the Greek bank growth story in an investor world becoming more and more risk averse. However, these risks, however small or manageable, show up at a time that Greek banks are being confronted with the consequences of their own growth success. With group lending growth far surpassing deposit growth, the majority of large local banks will have to resort more to the international wholesale markets to fund the gap and roll-over existing debt than before. It is known that some try to limit their wholesale funding requirements, estimated at more than 40 percent of total loans for the banking sector, by offering high interest rates on term deposits. This is especially true with small banks which either are not rated by international credit agencies such as Moody’s or S&P or are rated below investment grade. Still, the cost of funding is higher than before, to the delight of large depositors, such as state and private corporations, which can bargain for hefty deposit rates as well as wealthy individuals. Of course, there are differences among banks. National Bank of Greece, the country’s largest, stands out since its group deposits still exceed its group loans. However, this cannot last forever. At the end of 2008, National’s customer deposits are projected to be equal to loans so it will have to come out issuing more subordinated debt and other debt securities than it does now. Undoubtedly, the large Greek banks are well-capitalized at this juncture with the Tier I ratio getting as high as 12 percent in some cases compared to the 7 or 8 percent demanded by central banks in other countries. However, as a senior banker put it: «Banks are known to fail because of liquidity not capital.» Although Greek banks do not face this prospect, they are bound to rely more and more on wholesale funding to finance their asset growth, namely loans. This means they may have to borrow up to 14 percent of their current assets in 2008. Whereas the interbank market appears to be functioning better, with the 3-month reference interest rate Euribor falling to 4.57 percent on Friday, compared to 4.95 percent around mid-December, the markets for medium-to-long term borrowing, such as the asset-backed securities, do not. So, in addition to the inherent macroeconomic and political risks of their expansion strategy abroad, Greek banks will have to face another risk this year. Their growing wholesale funding needs at a time of the credit crisis have made it more expensive and more difficult to access. Since no one knows how credit markets for medium-to-long-term funding will be later on, it is safe to say the cost of Greek banks’ wholesale funding will be higher than last year. If wholesale markets do not normalize later on, this holds the risk of hitting the earnings of local banks which fund a greater portion of their loan growth via expensive term deposits or/and other expensive forms of wholesale debt. For the first time since their growth began, local banks will be forced to devise a more sophisticated strategy to deal with the situation and better manage their asset-liability gap.