A banking crisis is nothing new in Finland following turbulent times in the late 1980s and early 1990s and many believe that this means that Finland is better placed to weather the current financial storm than its European neighbours.
Finland’s market transformation
During the 1980s the rules regarding inward investment and the outward flow of capital from Finland to other investment jurisdictions were liberalised, making it easier to invest in and borrow from abroad. The restrictions concerning foreign ownership of assets in Finland were abolished in the early 1990s. Nowadays Finland is an EU member with an open, free market economy with almost no barriers to foreign ownership and investments.
The development of the legislative and regulatory framework governing state and private financial institutions have significant similarities with many of the problems faced and responses proposed by many other
jurisdictions in the current global financial turmoil.
Black Monday to the Finnish bank crisis
As with the other major indices around the world, Black Monday in October 1987 wreaked havoc in the Finnish stock market. The Helsinki Stock Exchange index (then the HEX, now called the OMX) fell by a record 10 percent in one day, resulting in serious liquidity issues both for listed and non-listed companies. The single most serious situation was faced by Kansa, an S&P AA rated Finnish insurance company, which had guaranteed US-originated municipal bond programmes up to a value of $2.2bn via US insurance and finance group Clarendon. The funds were invested in shares and high yield or “junk” bonds. Clarendon’s subsidiary Atlantic Capital was the largest investor in the junk bond market created by Michael Milken, a name very well known at the time. The money invested in junk bonds was in turn used to finance, among other transactions, takeovers by corporate raiders. Finnish banks were at risk through stand-by letters of credit issued as collateral for Kansa’s reinsurance liabilities. When the scheme ran into serious trouble the risk was finally run-down without losses through a bail-out operation and the takeover of Clarendon by Kansa. By Finnish standards, both the level of risk and the size of the rescue operation required to negate it was unprecedented.
While Black Monday was a significant event for the Finnish economy, the crisis that gripped Finnish banks from 1991 onwards could be said to have been a longer and much more painful event. The crisis arose as a result of several factors which were particular to that period of history. The failure by the Finnish government to impose a proper regulatory framework after the deregulation of banking and financial markets meant that many banks did not have proper internal controls or risk management procedures. Indeed some banks circumvented applicable solvency and capital adequacy requirements by adopting artificial re-evaluation of reserves. The international economic downturn affected Finland’s export markets, and in particular the collapse of the Soviet Union, a major trading partner, had serious consequences for the vast majority of Finnish companies that export their goods and services (even today over 80 percent of Finnish goods are produced for export). When combined with high personal and corporate borrowings in Finland at the start of the 1990s, the result was that Finnish companies could not service their debt, unemployment, a crashed real estate market, speculation against the Finnmark, a high level of corporate and personal bankruptcies and ultimately banks finding themselves in trouble.
So how did the Finnish state respond to the banking crisis given that there was no institutional framework in place at that time which was equipped to deal with such issues? Well, the Finnish government responded with a series of measures that will sound very familiar to many readers given recent events around the financial world.
The Finnish central bank took the lead in organising the takeover of Skop Bank, which was the central institution of a sizeable and long-established savings bank group. Another temporary measure was the injection by the Finnish government of approximately €8bn into the banking sector which the relevant banks had paid back by the end of the decade. Another measure echoing the current day was the special crisis support package provided to the savings bank sector in the form of share capital, loan notes and guarantees. Hence, the state became a direct or indirect shareholder in some of the rescued banks.
Another pragmatic step was the incorporation of a state-owned asset management company (Arsenal Ltd) which had the task of managing all bad assets of the rescued banks. The financing of Arsenal Ltd was guaranteed by the government and allowed the Finnish government to deal with bad assets in a controlled manner. By way of example, a portfolio of property owned by the company was sold off and then leased back to the company in order to limit damage to the market.
Having emerged from its domestic banking crisis, Finland had also diversified its traditional industry focuses. While its forestry and metal industries remain strong today, it became a leading player in the telecoms and IT sectors. The phenomenal growth of Nokia during the 1990s led to a generation of executives and engineers being trained in both advanced technologies and business skills leading to a boom in these sectors – which remain strong to the present day. These new sectors were affected by the bursting of the dot.com bubble in 2000, but through the ‘V-shaped’ recovery in 2002 and 2003, the companies that survived the difficult period emerged from it stronger, more experienced and more competitive.
Finland’s economy today
In comparison with the major economies, Finland remains in a stable condition; there is a feeling that Finland is likely to escape the worst of the current turbulence, albeit not entirely. The solvency of all the Finnish banks exceeds the statutory requirement of eight percent and the Finnish corporate world is not unduly over-leveraged. With a renewed sense of caution and internal risk procedures being significantly tightened following the crisis of the 1990s, Finnish banks do not have the exposure to those instruments which have caused such issues for their European and US counterparts.
Perhaps most importantly, most of the factors present at the start of the 1990s are not present in Finland today: a proper regulatory environment has been in place for around 15 years – the Finnish Financial Supervision Authority was established in 1993, in the aftermath of the banking crisis; the economy is not as reliant on individual countries as export partners and the Russian market is both more affluent and less significant in terms of its relative importance as an export destination; and Finnish companies operate across a greater range of sectors.
However, Finland is not out of the (ubiquitous) woods yet. It cannot be ignored that Finland remains heavily reliant on its export markets continuing to place orders in sufficient numbers and the extent to which its export markets withstand the current financial turbulence will have a strong bearing on Finland’s own economic prosperity. To an extent Finland may be punished for global problems not of its own making. It can only try to soften the effects by adopting measures to encourage domestic demand and to prevent the credit market from freezing. However, in a small export driven country, any efforts to maintain domestic demand and to ensure the availability of domestic financing will only go so far in alleviating the situation. Falling asset prices and diminishing market demand for companies also create significant risks. It may be that Finland goes into and comes out of recession some time behind the major economies to which it exports. In addition, as a member of the eurozone since January 2002, the performance of the euro across the continent is an extra factor not present in the early 1990s. It should also be noted that while corporate borrowing has decreased since the banking crisis, household borrowing has significantly increased. Finally, the OMX in Helsinki has dropped by approximately 34 percent from mid-August to mid-November, which further illustrates the impact of the current crisis on the Finnish market.
That said, Finland would appear to be in a lot better financial shape to face a recession today than it was two decades ago. A statement to which Finland’s Finance Minister, Jyrki Katainen would be most likely to subscribe. In the Financial Times 2008 rankings of European Finance Ministers, Mr Katainen was rated as the first and best in Europe. The ranking was based on economic, political and stability tests with Mr Katainen being named as the star of a financially stable country. Let’s hope Mr Katainen is able to maintain his, and Finland’s, reputation for the foreseeable future.
Kalevi Tervanen is Head of Procopé & Hornborg’s Transactions and Financing Group. For more information tel: +358 456 575 758; email: kalevi.tervanen@procope.fi; www.procope.com
