Download here - 2016 WEast Workshop in Prague

No banks without states,
no states without banks
The political economy context of the
banking crises in Austria and Hungary
in 1931
The current presentation is on the third paper of my thesis
PhD thesis plan
Paper #1
The causes of the Hungarian crisis of 1931
Paper #2
The causes of the Austrian crisis of 1931
Paper #3
The political origins of the Hungarian and Austrian
crises in 1931
In the 2007-8 US subprime crisis even those could get a
mortgage loan who had no income, no job and assets
The US subprime crisis
The Austrian and Hungarian crises of 1931 can also be placed in
a political economy context, like the subprime crisis
Parallel
• How was this possible?
– How could so many lenders make so many risky loans without having to put up
sufficient capital to protect them against insolvency?
• Yes, the banks did a lot of bad things
• But they were incentivized to do that by the regulator
• Goal here: show that this time has
been no different
• Austria, Hungary 1931: same thing
happened
Goal: place the Austrian and Hungarian crises in a political
economy framework
Motivation
• „In addition, for several years the government had pressured the Credit‐Anstalt to
aid domestic firms suffering the effects of the Depression, which only added to the
bank's difficulties; its absorption of the Bodenkreditanstalt in 1929 had been
imposed on the reluctant chairman of the Credit‐Anstalt to protect the National
Bank from losses on the rediscounts it had extended the Bodenkreditanstalt.”
(Eichengreen 1992, p265)
• Ausch (1968), Weber (1991), Eigner (1997) – politicians’ involvement in the various
banking crises during the 1920s
• The literature on Austria does address the
political economy context
• The one on Hungary does not
• Goal here: place the matter in a framework
and discuss relevance for 1931 crises
Austria and Hungary also had universal banks – just like
Germany – which emerged in the 19th century
Background
19th century banking
• Universal banks
(lender and
owner) – 5-10 in
Austria, 3-5 in
Hungary
• Close relationships
with industry,
drivers of the late
industrialization of
these countries
(Gerschenkron
1962)
• In addition, they
also have close
relations with their
respective states –
key financiers of
state debt (Kövér
2005)
WWI
• Universal banks
strengthen their
industrial
connections: banks
directly help finance
war industries
(Eichengreen 1992)
• Austria: universal
banks are majority
owners in all
industrial entities
(Teichova and
Cottrell 1983)
• Universal banks
have a role in
financing the war
effort through
lending to the state
(Pogány 2002)
Post-WWI shock
• Pressure to spend
leads to
hyperinflation
• Hyperinflation
weakens industry
and wipes out
banks’ capital
• Banks strengthen
their ownership in
industrial
enterprises: turn
loans into equity
holdings to
preserve value
• Nostrification,
confiscation of
assets in successor
states
Stabilization
• League of Nations
reconstruction
scheme
• Orthodox, liberal
economic tenets
built
• Close surveillance
WWI strengthened universal banks’ connections to industry as
well as towards the state
Background
19th century banking
• Universal banks
(lender and
owner) – 5-10 in
Austria, 3-5 in
Hungary
• Close relationships
with industry,
drivers of the late
industrialization of
these countries
(Gerschenkron
1962)
• In addition, they
also have close
relations with
their respective
states – key
financiers of state
debt (Kövér 2005)
WWI
• Universal banks
strengthen their
industrial
connections: banks
directly help finance
war industries
(Eichengreen 1992)
• Austria: universal
banks are majority
owners in all
industrial entities
(Teichova and
Cottrell 1983)
• Universal banks have
a role in financing the
war effort through
lending to the state
(Pogány 2002)
Post-WWI shock
• Pressure to spend
leads to
hyperinflation
• Hyperinflation
weakens industry
and wipes out
banks’ capital
• Banks strengthen
their ownership in
industrial
enterprises: turn
loans into equity
holdings to
preserve value
• Nostrification,
confiscation of
assets in successor
states
Stabilization
• League of Nations
reconstruction
scheme
• Orthodox, liberal
economic tenets
built
• Close surveillance
The post- WWI shock weakened the universal banks
economically but strengthened their stake in industry
Background
19th century banking
• Universal banks
(lender and
owner) – 5-10 in
Austria, 3-5 in
Hungary
• Close relationships
with industry,
drivers of the late
industrialization of
these countries
(Gerschenkron
1962)
• In addition, they
also have close
relations with
their respective
states – key
financiers of state
debt (Kövér 2005)
WWI
• Universal banks
strengthen their
industrial
connections: banks
directly help finance
war industries
(Eichengreen 1992)
• Austria: universal
banks are majority
owners in all
industrial entities
(Teichova and
Cottrell 1983)
• Universal banks
have a role in
financing the war
effort through
lending to the state
(Pogány 2002)
Post-WWI shock
• Pressure to spend
leads to
hyperinflation
• Hyperinflation
weakens industry
and wipes out
banks’ capital
• Banks strengthen
their ownership in
industrial
enterprises: turn
loans into equity
holdings to
preserve value
• Nostrification,
confiscation of
assets in successor
states
Stabilization
• League of Nations
reconstruction
scheme
• Orthodox, liberal
economic tenets
built
• Close surveillance
The post-stabilization period is the focus of this paper:
universal banks and the state colluded; both had the motivation to reestablish its old clout
Background
19th century banking
• Universal banks
(lender and
owner) – 5-10 in
Austria, 3-5 in
Hungary
• Close relationships
with industry,
drivers of the late
industrialization of
these countries
(Gerschenkron
1962)
• In addition, they
also have close
relations with
their respective
states – key
financiers of state
debt (Kövér 2005)
WWI
• Universal banks
strengthen their
industrial
connections: banks
directly help finance
war industries
(Eichengreen 1992)
• Austria: universal
banks are majority
owners in all
industrial entities
(Teichova and
Cottrell 1983)
• Universal banks
have a role in
financing the war
effort through
lending to the state
(Pogány 2002)
Post-WWI shock
• Pressure to spend
leads to
hyperinflation
• Hyperinflation
weakens industry
and wipes out
banks’ capital
• Banks strengthen
their ownership in
industrial
enterprises: turn
loans into equity
holdings to
preserve value
• Nostrification,
confiscation of
assets in successor
states
Stabilization
• League of Nations
reconstruction
scheme
• Orthodox, liberal
economic tenets
built
• Close surveillance
Authorities consciously relied on the banking system to service
their political objectives
Argument
Economic conditions
Political and social conditions
• Post-stabilization Austria and Hungary
• Political pressure
in the straitjacket of the economic
– Austrian and Hungarian states cease
trilemma
to properly function after WWI
• These conflicting conditions were resolved
– Free capital flows
– Losers
through the help of the banking system
in of WWI, elites and old
– Fixed exchange rate system
(gold
institutions lose their legitimacy
both countries
standard)
– Lost much of their territory,
•
The
state,
which
could
not
spend
and
– Independent monetary policy-making
population at the Peace Treaty and
borrow, incentivized banks to lend inreceived
a way reparations obligations
that addressed the social issues and
kept
– Economic
and political turmoil
• Closely monitored by the League of
the old elite in power
follows, in Hungary communist
Nations and the Bank of England who
takeover in 1919, in Austria constant
• This resulted
in risky banking
impose the first two conditions
on
social unrest
these countries
• This contributed to the banking collapse
of
•
Social
pressure
1931
– Returning, retiring soldiers, widows
• Outcome:
– Unemployment
– No independent monetary policymaking
– Balanced government budgets or in
surplus)
The Calomiris-Haber framework best explains the case
Framework
Gerschenkron,
making up for
the missing
pre-requisites
Eichengreen,
social contract
Calomiris and
Haber, the
Game of Bank
Bargains
• Explains the role of universal banks as drivers of
industrialization in late industrializing countries (Germany,
Austria, Hungary)
• Does not explain close bank-state connections and how this
may lead to weak fundamentals in the banking system
• Explains the institution driving growth after a great turmoil
• Explain the deal between employers, employees and the
state
• Does not explain close bank-state connections and how this
may lead to weak fundamentals in the banking system
• Explains that banking system is shaped by political
institutions
• Explains close bank-state connections and how this may
lead to weak fundamentals in the banking system
The Calomiris-Haber framework explains why banks’ behavior
is not independent of the behavior and objectives of the state
Calomiris-Haber framework
Assets
Equity and
liab.
Loans
Deposits
Cash
Equity
• Maturity
mismatch
• Threat of
expropriation
NO BANKS WITHOUT
STATES AND NO STATES
State steps
in
WITHOUT
BANKS
Gives
• privileges
State is necessary for
(charters)
and to
banking system
sets
properly function
obligations
• But state has its own
and regulates
incentives that can
operations
misguide banking
operations
• Towards banks (managers/equity
holders)
– Government is a regulator
– But it also relies on banks to
finance the state and ensure the
money supply
• Towards debtors
– Government acts as a law
enforcer (enforce credit
contracts)
– But government also relies on
debtors for political support
• Towards depositors
– Government allocates losses
among depositors when there is
a bank failure
– But government also relies on
their political support
Contents
Austria
Hungary
Wrap-up
There were 8 universal banks in 1925; 4 failed by 1931: the
Unionbank, the Verkehrsbank, the BCA and the CA
The structure of the Austrian financial system based on total assets
Verkehrsbank and
Unionbank fail
Merged into Boden-CreditAnstalt
Sparkassen 25%
Boden-Credit-Anstalt fails
Merged into Credit-Anstalt
28%
29%
32%
36%
Credit-Anstalt fails
37%
38%
50%
46%
Other banks
46%
47%
33%
32%
1932
1933
Mortgage banks
Universal 62%
banks*
1925
61%
1926
59%
1927
56%
1928
53%
1929
1930
1931
* CA, BCA, WBV, NEG, Landerbank, Mercurbank, Unionbank, Verkehrsbank
Source: Compass Finanzielles Jahrbuch, various years
Austrian banks were not supervised; hence banks could apply
fraudulent accounting to present themselves profitable
Evidence on Austrian state and banks cooperating
No bank supervision maintains
the illusion of healthy banks
• Banks were not monitored
and Ministry of Finance was a
guarantor of this state of
affairs (Enderle-Burcel 1994)
• Only annual reporting of
financials to the central bank
• Banks can maintain the
illusion of financial stability –
„silent reserves”
– No write-off of nonperforming loans
– Booking interest income
when not received
When banks still fail, state
provides support
• When banks fail, the
survival of their industrial
base is ensured with
authorities’ support
• Authorities are personally
interested in maintaining
banks
• Authorities provide
financial guarantees at the
BCA-CA merger
When banks become too
weak, state intervenes to
boost lending
• When banks weaken, state
boosts industrial lending by
financial supporting stateowned financial institutions
The 4 failed banks presented themselves profitable even
months before their failure and led the public believe that they
had substantial „silent reserves”
Universal banks’ fraudulent accounting practices
Reserves set
aside for
losses and
write-downs Date when
Date of the
in the FY
rumors
merger/failu
before about failure
Name of bank
re
failure
emerge*
% of total
assets
Unionbank Mar-25-1927
0.09% Sep-20-1926
Verkehrsbank Mar-25-1927
0.02% Dec-3-1926
Boden-CreditAnstalt
Dec-31-1929
0.00% Oct-12-1929
May-11May-11Credit-Anstalt
1931
0.00%
1931
No write-offs or
reserve building
prior to failure
Change in
actual
Change in
volume of
Date of last
last dividend
last dividend
dividend
payment vs.
Actual payment vs.
payment Amount of
previous volume of
previous
before last dividend
dividend last dividend
dividend
failure**
payment
payment
payment
payment
Jul-1-1926
Jul-1-1925
AS/share
2.5
0.3
% increase
257%
-40%
AS
2,000,000
1,312,400
% increase
-29%
-40%
Jul-1-1929
7.5
0%
8,250,000
10%
Jul-1-1930
3.4
-15%
7,225,000
-15%
Pay dividends
before before
failure
Source: Compass Finanzielles Jahrbuch, various years
But these 4 banks did not really fail, they and their Konzern all
survived somehow with the active help of the authorities
Evidence on Austrian state and banks cooperating
No bank supervision maintains
the illusion of healthy banks
• Banks were not supervised
and Ministry of Finance was a
guarantor of this state of
affairs (Enderle-Burcel 1994)
• Only annual reporting of
financials to the central bank
• Banks can maintain the
illusion of financial stability –
„silent reserves”
– No write-off of nonperforming loans
– Booking interest income
when not received
When banks still fail, state
provides support
• When banks fail, the
survival of their industrial
base is ensured with
authorities’ support
• Authorities are personally
interested in maintaining
banks
• Authorities provide
financial guarantees at the
BCA-CA merger
When banks become too
weak, state intervenes to
boost lending
• When banks weaken, state
boosts industrial lending by
financial supporting stateowned financial institutions
The mergers were complicit arrangements between the
bankers with the state watching
Transaction structure of the three mergers
Credit-Anstalt (CA) - Boden- Boden-Credit-Anstalt (BCA) - Boden-Credit-Anstalt (BCA) Credit-Anstalt (BCA
Unionbank
Verkehrsbank
Receiving bank
CA
BCA
BCA
Merged bank
BCA
Unionbank
Verkehrsbank
Successor entity
CA
BCA
BCA
Year
1930
1927
1927
- AS 8.75m was the
- AS 55m was the BCA's
- AS 28m was the
Verkehrsbank's equity in
equity in 1928
Unionbank's equity in 1926
1926
- Of this 90%, i.e. AS 49.5m - Of this 90%, i.e. AS 25.2m - Of this 90%, i.e. AS 7.875m
Acknowledged losses
was recognized as a loss
was recognized as a loss
was recognized as a loss
- This was only 14.1% of the - This was only 5.7% of the
- This was only 5.8% of the
Unionbank's total assets in Verkehrsbank's total assets in
BCA's total assets in 1928
1926
1926
Bail-in of shareholders:
Bail-in of shareholders:
Bail-in of shareholders:
- 90% loss ratio
- 90% loss ratio
- 90% loss ratio
Bail-in of depositors and
Bail-in of depositors and
Bail-in of depositors and
Who suffers losses and how
creditors:
creditors:
creditors:
much?
- None: depositors and
- None: depositors and
- Guaranteed by the
creditors did not incur any
creditors did not incur any
authorities
losses
losses
Source: Compass Finanzielles Jahrbuch, various years
The state provided implicit and explicit guarantees to the
universal banks when they were in trouble
State support to universal banks
• Close relationships between bankers and politicians
• Large banks do not fail: they are absorbed by other large banks and
government is involved in these arrangements where no past losses
are written off
– Unionbank and Verkehrsbank into the Boden-Credit-Anstalt in 1927
– Boden-Credit-Anstalt into the Credit-Anstalt in 1929
Richard Reisch,
President of the
Austrian National
Bank
• Boden-Credit-Anstalt collapse: Reisch ignores years of egregious lending and insolvency
– Reisch was the governor of the ANB, former Minister of Finance, former board member of
the Boden-Credit-Anstalt, likely eligible for the pension plan of the bank (Eigner 1997)
– Absorbing bank, Credit-Anstalt receives guarantees from government for all its deposits
– Credit-Anstalt also receives loans from ANB through the cross-credit-scheme
Source: Bank of England Archives, Ausch (1968, Weber (1991, Eigner (1997)
By 1930, when the universal banks had become too weak, the
state used its own resources to step up industrial lending
Evidence on Austrian state and banks cooperating
No bank supervision maintains
the illusion of healthy banks
• Banks were not supervised
and Ministry of Finance was a
guarantor of this state of
affairs (Enderle-Burcel 1994)
• Only annual reporting of
financials to the central bank
• Banks can maintain the
illusion of financial stability –
„silent reserves”
– No write-off of nonperforming loans
– Booking interest income
when not received
When banks still fail, state
provides support
• When banks fail, the
survival of their industrial
base is ensured with
authorities’ support
• Authorities are personally
interested in maintaining
banks
• Authorities provide
financial guarantees at the
BCA-CA merger
When banks become too
weak, state intervenes to
boost lending
• When banks weaken, state
boosts industrial lending by
financial supporting stateowned financial institutions
The importance of Other Banks and Mortgage Banks – several
of them state-owned – started increasing from 1930
The structure of the Austrian financial system based on total assets
Sparkassen 25%
28%
29%
32%
36%
37%
38%
Other banks
46%
47%
Some of them
state -owned
Mortgage banks
Universal 62%
banks*
1925
61%
1926
59%
1927
56%
1928
53%
1929
50%
1930
46%
1931
33%
32%
1932
1933
* CA, BCA, WBV, NEG, Landerbank, Mercurbank, Unionbank, Verkehrsbank
Source: Compass Finanzielles Jahrbuch, various years
The state also provided guarantees to Mortgage and Other
Banks so that they can increase their lending to industry
Government support to increase industrial lending
Mortgage Banks’ and Other Banks’ equity and liabilities, annual change
Mortgage Banks’ and Other Banks’ assets, annual change
400
300
200
116
100
160
272
200
0
-100
-200
1926 1927 1928 1929 1930 1931 1932 1933
Darlehen
Equity and reserves
1926 1927 1928 1929 1930 1931 1932 1933
Domestic currency
depositors
Domestic currency creditors
Darlehen
Short-term lending
Cash
Inter-bank lending
Other liabilities
Investments
Other assets
Source: Compass Finanzielles Jahrbuch, various years
Contents
Austria
Hungary
Wrap-up
Issue banks had over 60% of the total assets of the Hungarian
banking system and Sparkassen were the second largest player
The structure of the Hungarian banking system by total assets
Non-Budapest
savings banks
(Sparkassen)
Non-Budapest
banks
Budapest other
banks
Budapest issue
banks
1926
1927
1928
1929
1930
1931
1932
1933
Source: Nagy Magyar Compass, various years
The state focused issue banks’ attention fully on agricultural
lending through the CMI and state-guarantees
State intervention into banking in Hungary
1925-1929
Post-stabilization state support to boost
agricultural lending
1930
State steps up support from 1930
to boost agricultural lending
Issue
banks
State incentivized the establishment of a Central
Mortgage Institute
• State worked together with issue banks on
the establishment of the CMI
• CMI could issue debentures abroad which
could finance agricultural lending
• State provided money for the CMI and
requested the cooperation of the largest issue
banks
State provided guarantees to issue
banks
• From 1930, when the
opportunity for foreign issues
evaporated, the state started
providing guarantees to issue
banks to boost their lending
• Guaranteed financing could only
be spent in agriculture
Sparkassen
HNB provided financing to sparkassen
• Sparkassen’s largest financing resource was
the rediscount provided by the HNB
• Sparkassen have historically been agricultural
lenders and maintaing them served the goal
of financing agriculture
The state was anxious to boost lending and from 1930 incentivized the
financial sector to lend through state-guaranteed loans
The annual change in the financing sources of issue banks (m pengős)
Deposits
ST creditors
Other liab.
Guarantees
LT creditors
Equity
800
600
400
200
0
-200
-400
-600
-800
1927
1928
1929
1930
1931
1932
1933
Source: Nagy Magyar Compass, various years
State-guaranteed loans all had to be distributed in agriculture and
since other sources for new lending largely disappeared, in 1930 all
of the new lending went to agriculture
The annual change in the financing sources of issue banks (m pengős)
Agricultural
lending
80% stateguaranteed
Other
lending
Cash
800
600
400
200
0
-200
-400
-600
1927
1928
1929
1930
1931
1932
1933
Source: Nagy Magyar Compass, various years
Sparkassen, traditional agricultural lenders, were supported by
the Hungarian National Bank
State intervention into banking in Hungary
1925-1929
Post-stabilization state support to boost
agricultural lending
1930
State steps up support from 1930
to boost agricultural lending
Issue
banks
State incentivized the establishment of a Central
Mortgage Institute
• State worked together with issue banks on
the establishment of the CMI
• CMI could issue debentures abroad which
could finance agricultural lending
• State provided money for the CMI and
requested the cooperation of the largest issue
banks
State provided guarantees to issue
banks
• From 1930, when the
opportunity for foreign issues
evaporated, the state started
providing guarantees to issue
banks to boost their lending
• Guaranteed financing could only
be spent in agriculture
Sparkassen
HNB provided financing to sparkassen
• Sparkassen’s largest financing resource was
the rediscount provided by the HNB
• Sparkassen have historically been agricultural
lenders and maintaing them served the goal
of financing agriculture
Sparkassen were heavily financed by the central bank in pursuit
of ensuring lending to agriculture
Sparkassen’s financing
Equity
Rediscount
from other
sources
11%
Rediscount
from the
central bank
32%
18%
31%
24%
26%
24%
21%
23%
45%
Deposits
1927
1928
1929
1930
1931
Source: Nagy Magyar Compass, various years and HNA
As a result, the Hungarian central bank’s rediscount was much
higher than that of the Austrian
Rediscount to total assets in Austria and Hungary
Austria
14.0%14.0%
11.2%
10.7%
Hungary
Hungary
without
Sparkassen
10.7%
7.6%
6.1%
5.1%
2.6%
1926
4.7%
4.8%
3.4%
2.4%
1927
1928
6.2%
4.9%
3.3%
1929
2.6%
2.1%
1930
1931
Source: Nagy Magyar Compass, various years
As a result of all these incentives set by the authorities, the
banking system’s exposure to agriculture increased to high levels
Agricultural lending to total lending at Budapest issue banks
30% through
debentures
30% through
guarantees
46%
68%
68%
69%
73%
1930
1931
1932
1933
56%
28%
16%
1926
1927
1928
1929
Source: Nagy Magyar Compass, various years
Contents
Austria
Hungary
Wrap-up
The incentives set by the state increased the exposure of the
banking system to a sector which crashed in 1930
Shared interest of the political class and bankers
Austria
• If industry is
maintained, main
constituencies are
happy
• No political instability
• Politicians can hold
on to power
• If industry is
maintained, bankers
can keep their
empire
Hungary
• If agriculture is
supported, main
constituencies are
happy
• No political instability
• Politicians can hold
on to power
• Agricultural lending
gave a new market to
a lot of issue banks
and sustained
Sparkassen
1926 1927 1928 1929 1930 1931 1932 1933
Source: For Hungary: Eckstein 1956, Statisztikai Szemle; for Austria: Österreichs Volkseinkommen 1913 bis 1963, WIFO, 1965; Monatsberichte, WIFO, 1927-1931
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