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By JACK EWING
FRANKFURT — In March 2009 about 40 bankers and government officials crowded into a classroom at an economic institute in Vienna to talk about how they might save Eastern Europe from financial Armageddon.
In the months that followed they forged a pact that became known as the Vienna Initiative, which is widely credited with preventing a bank run and economic catastrophe in new members of the European Union like Hungary and Romania.
Now some officials and economists are beginning to ask whether it’s time for those bankers and officials to hold a reunion. The sovereign debt crisis in the euro area, as well as a looming recession, is spilling into countries like Poland that do not belong to the currency union but are heavily dependent on Western Europe for trade and capital. Once again, the banking system is threatened.
The source of stress is different this time, emanating from within Europe rather than from the United States. But there are some alarming similarities, including a continued dependence by East European businesses and consumers on loans denominated in euros or Swiss francs. These loans can become ruinously expensive for borrowers when their local currencies lose value, as has been the case in Poland and Hungary, among others.
“I am very worried about what is going on around our region,” said Erik Berglof, chief economist of the European Bank for Reconstruction and Development and one of the leaders of the Vienna Initiative.
While the circumstances are different today, Mr. Berglof said, there is again a need for coordination among banks, central bankers, regulators and government policy makers.
In 2009, the fear was that the West European banks that dominated in Eastern Europe — including Société Générale in France, UniCredit in Italy and several Austrian institutions — faced intense market pressure to take money out of the region. If one bank bolted for the exit, the thinking went, a panic might ensue. All the banks would abandon their subsidiaries rather than risk being the last ones out.
As part of the Vienna Initiative, 15 banks got together with officials from the International Monetary Fund, the E.B.R.D. and the European Union and promised to continue investing in their East European subsidiaries. The E.U. reciprocated by committing more than €50 billion, or $70 billion, in loans and other aid to the region, while the I.M.F. and E.B.R.D. pledged additional billions to the stricken countries as well as local subsidiaries of banks like UniCredit. Many East European countries suffered steep recessions in 2009, but the initiative probably averted a deeper catastrophe.
This time around, the fear is not so much that bankers will dash for the lifeboats, but rather that problems in their home offices could compel them to starve their units in Eastern Europe of capital, creating a credit crunch and an economic downturn.
Bankers say that won’t happen, and that fears for the region are overblown. “I do not see a great value” in a second Vienna Initiative, said Herbert Stepic, chief executive of Raiffeisen Bank International, a bank based in Vienna that is among the most active institutions in Eastern Europe.
The bank “will keep its affiliates in the form we have them now,” said Mr. Stepic, who was a key figure in organizing the first Vienna Initiative. “We don’t see any danger that we have to deleverage in one or the other country.”
But many of the foreign banks with the biggest presence in Eastern Europe are under severe stress at home, notably Greek institutions like Alpha Bank and Piraeus Bank. They were among the first to expand into neighboring countries like Albania and Bulgaria after the fall of communism, but now are suffering severe collateral damage from their country’s debt load and plummeting economy.
Other banks face pressure from regulators to reduce risk and raise their capital reserves, making it harder for them to invest in their foreign operations. These include UniCredit, a major presence in Poland and many other countries in the region, and Société Générale, which is particularly active in the Czech Republic and Romania.
UniCredit will need to raise more than €6 billion to comply with demands by European political leaders that banks increase their reserves, while Société Générale will need to raise more than €3 billion, according to estimates by analysts at Nomura.
Austrian banks, which exploited their historical ties to the former Austro-Hungarian empire after the fall of the Berlin Wall, are also under pressure.
Erste Group, a bank in Vienna that is another of the big players in Eastern Europe, shocked markets in October with a €1.5 billion quarterly loss and the disclosure that it had a €5.2 billion portfolio of risky derivatives known as credit-default swaps, a form of insurance on government or corporate bonds. The bank has sold most of the swaps, at a loss of €205 million this year.
The loss at Erste Bank illustrated how Eastern Europe, once a beacon of growth, has become a more difficult market for banks. The rate of bad loans in many countries is double or triple the level in Western Europe, accounting for more than 10 percent of total credit in countries like Romania, Bulgaria and Hungary, according to I.M.F. data.
Just like in the United States, large numbers of bad loans are poisonous for economic growth, depressing consumer and business spending and amplifying the risks of a larger credit crunch. “Banks with highly impaired loan portfolios are likely to engage less in new lending,” the I.M.F. warned in September.
One reason there are so many bad loans is that consumers and businesses in most East European countries still borrow heavily in foreign currencies. That is an old problem, one that played a huge role in the first phase of the financial crisis and provoked a need for the Vienna Initiative in the first place.
“High levels of foreign currency lending may have systemic consequences for the countries concerned as well as potential for cross-border contagion,” the European Systemic Risk Board said in October. The warning was the first issued by the newly formed panel overseen by Jean-Claude Trichet, then president of the European Central Bank, an indication of the level of concern among top policy makers.
Despite efforts by the E.B.R.D. to encourage lending in local currencies, loans in francs or euros remain seductive for many East Europeans. Subdued inflation in Switzerland and the euro zone mean that loans denominated in francs or euros carry much lower interest rates than credit in Hungarian forints or Polish zloty.
Another reason for the continued popularity of foreign currency loans is that most East European countries do not have large local capital markets where banks can raise funds to lend on to their customers. By going abroad, banks have access to a much larger pool of capital.
But when the local currencies lose value relative to the euro or franc, borrowers find themselves faced with much higher monthly payments. That is exactly what happened in 2008 and is happening again now. In Hungary, where more than 60 percent of existing loans are in foreign currencies, the government of Prime Minister Viktor Orban is forcing banks to allow borrowers to pay off their franc debts in forints at a discount to the market exchange rate.
Banks say such policies will ultimately hurt Hungary, by discouraging banks from lending and investing. “We do not expect in the next couple of years to have a very profitable business in Hungary, to say the least,” Andreas Treichl, the chief executive of Erste Group, said during a conference call with analysts last week.
He and other bank executives say they remain optimistic about the long-term potential of Eastern Europe, which continues to have faster economic growth than Western Europe.
Mr. Stepic of Raiffeisen said, “We are among the ones that made the transformation from former communist regime countries into free economic zones possible. This is what we will continue to do.”
But Mr. Berglof, the E.B.R.D. economist, said it was hard to imagine that West European banks would be able to continue to support their East European units as energetically as they had in the past.
In the worst case, governments might need to take over distressed local subsidiaries, reversing two decades of post-communist privatization. “At the end,” Mr. Berglof said, “it raises the issue of what is the future of cross-border banking in Europe.”
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