Restructuring in banking sector, theory and lessons from different countries in the world

FOREIGN TRADE UNIVERSITY
FACULTY OF BANKING & FINANCE
---------***--------

GRADUATION THESIS
RESTRUCTURING IN BANKING SECTOR
THEORY AND LESSONS FROM DIFFERENT
COUNTRIES IN THE WORLD

Class

: CLC2- Banking& Finance
Hanoi, May 2012


TABLES OF CONTENTS
FOREIGN TRADE UNIVERSITY................................................................i
TABLES OF CONTENTS..............................................................................ii
ACKNOWLEDGEMENT.............................................................................iv
..........................................................................................................................iv
LISTS OF ABBREVIATIONS.......................................................................v
LISTS OF TABLES & FIGURES.................................................................vi
INTRODUCTION...........................................................................................1
CHAPTER 1: THEORETICAL BACKGROUND ABOUT
RESTRUCTURING IN BANKING SECTOR.............................................4
1.1. Definition of restructuring in banking sector........................................4
1.1.1. Definition of restructuring in banking sector..................................4
1.1.2. The reasons for bank restructuring..................................................7
1.1.3. Sequence and time of bank restructuring......................................10
1.2. Methods for restructuring banks..........................................................11
1.2.1. General assistance.........................................................................12

1.2.2. Managing bad assets......................................................................17
1.2.3. Ownership changes........................................................................19
1.2.4. Strengthening the regulatory structure..........................................20
1.3. Conditions for a successful restructuring case.....................................21
1.4. Impacts of bank restructuring..............................................................23
1.4.1. Positive impacts.............................................................................23
1.4.2. Negative impacts...........................................................................24
CHAPTER 2: LESSONS FROM BANK RESTRUCTURING OF
DIFFERENT COUNTRIES IN THE WORLD..........................................26
2.1. Bank restructuring in Malaysia 1997...................................................26
2.1.1. Economic and financial background.............................................26
2.1.2. Methods of bank restructuring in Malaysia...................................27
2.1.3. Results...........................................................................................36
2.1.4. Conclusions...................................................................................37
2.2. Bank restructuring in Indonesia 1997..................................................39
2.2.1. Economic and financial background.............................................39
2.2.2. Methods of bank restructuring in Indonesia..................................41
ii


2.2.3. Results...........................................................................................48
2.2.4. Conclusions...................................................................................50
2.3. Bank restructuring in Chile 1980s........................................................53
2.3.1. Economic and financial background.............................................53
2.3.2. Methods of bank restructuring in Chile.........................................54
2.2.3. Results...........................................................................................59
2.2.4. Conclusions...................................................................................61
2. 4. Bank restructuring in Spain 2011........................................................62
2.4.1. Economic and financial background.............................................62
2.4.2. Methods of bank restructuring in Spain........................................63

2.4.3. Conclusions...................................................................................70
2.5. Experiences withdrawn from case studies...........................................71
2.5.1. General assistance.........................................................................71
2.5.2. Managing bad assets......................................................................73
2.5.3. Ownership changes........................................................................73
CHAPTER 3: APPLICATIONS OF INTERNATIONAL EXPERIENCES
TO VIETNAM AND RECOMENDATIONS TO VIETNAM’S
BANKING SYSTEM....................................................................................76
3.1. Overview about banking sector in Vietnam.........................................76
3.1.1. History of banking system in Vietnam..........................................76
3.1.2. Structure of banking sector in Vietnam.........................................77
3.1.3. Characteristics of Banking Sector.................................................79
3.1.4. The need for restructuring.............................................................82
3. 2. Applications of world-wide lessons for Vietnam.................................84
3.2.1. Similarity in Vietnam’s banking system with case studies............84
3.2.2. Applications for world-wide lessons for Vietnam.........................85
3.2.3. Chances and challenges for applications of international
experiences..............................................................................................89
3.3. Solutions for Vietnam’s banking system..........................................91
3. 3.1. Actions government has taken......................................................91
3.3.2. Methods to restructure Vietnam’s banking system........................93
3.4. Recommendations to authorities...........................................................96
CONCLUSION..............................................................................................97
APPENDIX....................................................................................................99
iii


BIBLIOGRAPHY.......................................................................................100

ACKNOWLEDGEMENT

This graduation paper has been completed with the remarkable help of many
people to whom I am grateful. First and foremost, I offer my sincerest gratitude to
my supervisor, Professor Mai Thu Hien, who has supported me throughout my
thesis with her patience and knowledge. She has shared thoughtful suggestions and
valuable comments on every chapter of my work. Her guidance helped me
throughout the research and writing of this thesis. Without her, this thesis could not
have been completed.
My sincere thanks go to my examiners for their time in reading my thesis and
their valuable suggestions. I am also indebted to all my lectures at Faculty of
Banking& Finance for their profound knowledge throughout my four-year course at
Foreign Trade University.
Finally, special thanks to my family for their patience, understanding and
encouragement during the time I do research and write this graduation thesis.
Hanoi, May 2012

iv


LISTS OF ABBREVIATIONS
ACM
ATM
BCA
BNM
CAMEL
CAR
CDRC
CINB
Danaharta
Danamodal
EU

FDIC
FRA
FROB
GDP
IBRA
JSCBs
M&A
NPLs
RTC
RTE
RM
SAs
SBV
SOCBs
US
VAS
WB

Asset Management Corporation
Automated Teller Machine
Bank Central Asia
Bank Negara Malaysia
Capital, Assets, Management, Earnings & Liquidity
analysis
Capital Adequacy Ratio
Corporate Debt Restructuring Committee
Continental Illinois National Bank
Pengurusan Danaharta National Berhad
Danamodal National Berhad
European United Nations

Federal Deposit Insurance Corporation
Finance Sector Restructuring Agency
Fund for the Orderly Restructuring of the Banking
Sector
Gross Domestic Products
Indonesian Bank Restructuring Agency
Joint Stock Commercial Banks
Mergers and Acquisitions
Non- Performing Loans
Resolution Trust Corporation
Restricted Tender Exercise
Ringit Malaysia
Special Administrators
State Bank of Vietnam
State-Owned Commercial Bankss
The United States of America
Vietnamese Accounting Standard
World Bank

v


LISTS OF TABLES & FIGURES
FOREIGN TRADE UNIVERSITY................................................................i
TABLES OF CONTENTS..............................................................................ii
ACKNOWLEDGEMENT.............................................................................iv
..........................................................................................................................iv
LISTS OF ABBREVIATIONS.......................................................................v
LISTS OF TABLES & FIGURES.................................................................vi
INTRODUCTION...........................................................................................1

This paper is written using combined methods: descriptive analysis,
statistical analysis and comparative analysis. Data are collected from
various sources such as the text book, financial journals, working
papers or projects of well-known organizations around the world,
research papers of doctors, professors in banking and finance sectors
in famous research institutions and downloads from relevant websites
in the internet.........................................................................................2
The thesis focuses on banking restructure realities in some emerging
countries in the world, including Malaysia, Indonesia, Chile and Spain
because economic and financial background of these countries have
many things in common with Vietnam before restructuring period.
Refer to the time range researched, the writer mainly analyzes the
period of last sixteen years- from 1995 to 2011 for the reason that this
time period is when restructuring plans of these countries happen.......2
Chapter 1 presents the theoretical background of banking restructure
in the world, including definition, reasons to restructure, methods to
restructure, conditions to restructure, impacts of restructure on the
economy and potential risks of restructuring activity...........................2
Chapter 2 studies about cases of restructure in banking system of
some emerging countries in the world, by going through the problems
of their banking system, their restructuring method to the results they
get. From that the writer concludes the valuable lessons about banking
restructure..............................................................................................2
Chapter 3 gives an overview about banking system in Vietnam: its
history, its structure, its recent characteristics and the demand for a
restructure plan. The thesis applies the above world-wide lessons into
Vietnam case, after that it gives the solutions for restructuring in
Vietnam’s banking system and recommendations to authorities...........3
CHAPTER 1: THEORETICAL BACKGROUND ABOUT
RESTRUCTURING IN BANKING SECTOR.............................................4

1.1. Definition of restructuring in banking sector........................................4
vi


1.1.1. Definition of restructuring in banking sector..................................4
Individual bank restructuring...............................................................4
Systemic bank restructuring.................................................................5
Chart 1.1: Definition of bank restructuring.......................................................6
Crisis-led restructuring and voluntary restructuring............................6
1.1.2. The reasons for bank restructuring..................................................7
Chart 1.2: Reasons for bank restructuring.........................................................8
1.1.3. Sequence and time of bank restructuring......................................10
Chart 1.3: Sequence of bank restructuring......................................................10
1.2. Methods for restructuring banks..........................................................11
Table 1.1: Theory about methods of bank restructuring..................................11
1.2.1. General assistance.........................................................................12
Establishment of a restructuring agency............................................12
Bank liquidation.................................................................................12
Prevention of moral hazard problems................................................13
Deposit insurance...............................................................................14
General assistance..............................................................................15
Capital injections................................................................................16
1.2.2. Managing bad assets......................................................................17
Resolving non-performing loans (NPLs)...........................................17
Management and sale of assets..........................................................17
1.2.3. Ownership changes........................................................................19
Mergers & acquisitions of domestic banks........................................19
Foreign takeovers...............................................................................19
Public ownership................................................................................20
1.2.4. Strengthening the regulatory structure..........................................20

1.3. Conditions for a successful restructuring case.....................................21
1.4. Impacts of bank restructuring..............................................................23
1.4.1. Positive impacts.............................................................................23
Job creation........................................................................................23
Impacts on lending behavior of commercial banks............................23
Impacts on consumers........................................................................24
1.4.2. Negative impacts...........................................................................24
Impacts on employment.....................................................................24
CHAPTER 2: LESSONS FROM BANK RESTRUCTURING OF
DIFFERENT COUNTRIES IN THE WORLD..........................................26
2.1. Bank restructuring in Malaysia 1997...................................................26
vii


2.1.1. Economic and financial background.............................................26
Chart 2.1: Net Non-Performing Loans in banking sector- Malaysia...............27
2.1.2. Methods of bank restructuring in Malaysia...................................27
Capital Adequacy and Loan Activity.................................................27
Establishment and operation of restructuring agencies......................28
Table 2.1: Malaysia restructuring agencies.....................................................29
July 1998............................................................................................29
By the Government............................................................................29
June 20, 1998......................................................................................29
By Ministry of Finance......................................................................29
August 10, 1998..................................................................................29
BY Bank Negada Malaysia................................................................29
Solve 47 cases with total debt amount of 43.98 billion.....................29
Number of banks reduced from 69 to 30 banks in 10 groups............29
Amount of NPLs increased from RM 19.73 billion 1998 to RM 45.5
billion 1999.........................................................................................29

Average recovery rate is about 50-60%..............................................29
Amount of capital injection declined from RM 6.4 billion to RM 5.3
billion by the end of 1999...................................................................29
All of these amount was repaid in 2003.............................................29
Corporate Debt Restructuring Committee (CDRC)....................29
Danaharta....................................................................................31
Chart 2.2: Danaharta- Asset management and disposition..............................31
Requirements for NPLs to be acquired by Danaharta........................33
Process of acquiring NPLs by Danaharta...........................................33
Restricted tender.................................................................................34
Open tender........................................................................................34
Danamodal..................................................................................34
Danamodal Nasional Berhad (Danamodal) was incorporated on
August 10, 1998 as a wholly-owned subsidiary of Bank Negara
Malaysia. By the statement on the establishment of the Special
Purpose Vehicle (SPV) to recapitalize and consolidate the banking
sector on July 13, 1998, Bank Negara Malaysia announced the
details of the establishment of the SPV to spearhead the
recapitalization and restructuring of domestic banking institutions.
The SPV was incorporated and known as Danamodal and
commenced its operations in September 1998. Danamodal was
formed as a limited liability corporation.....................................34
2.1.3. Results...........................................................................................36
2.1.4. Conclusions...................................................................................37
viii


2.2. Bank restructuring in Indonesia 1997..................................................39
2.2.1. Economic and financial background.............................................39
2.2.2. Methods of bank restructuring in Indonesia..................................41

Initial responses..................................................................................41
Initial bank restructuring plan............................................................41
Official restructuring methods............................................................42
Establishment of Restructuring Agency.............................................43
Operations of IBRA...........................................................................43
Rehabilitation and recapitalization.....................................................44
Table 2.2: Classification of Indonesian Banks................................................45
Chart 2.3: Bank recapitalization scheme in Indonesia....................................46
Figure 2.1: Summary of bank restructure in Indonesia 1999..........................48
2.2.3. Results...........................................................................................48
Figure 2.2: Summary of Bank Industry highlights 1999.................................49
Figure 2.3: Real cost of Restructuring in Indonesia........................................50
2.2.4. Conclusions...................................................................................50
2.3. Bank restructuring in Chile 1980s........................................................53
2.3.1. Economic and financial background.............................................53
Figure 2.4: Chile’s Credit Boom 1980s...........................................................53
2.3.2. Methods of bank restructuring in Chile.........................................54
Restructuring plan..............................................................................54
Restructuring methods........................................................................55
Table 2.3: Restructuring methods in Chile......................................................55
Restructuring methods........................................................................55
Industry entry requirements...............................................................55
Lending limit......................................................................................55
Related lending...................................................................................55
Loan classification..............................................................................55
Effective supervision..........................................................................55
Capital adequacy................................................................................55
Self-correcting safeguards..................................................................55
Limited guarantee for deposits...........................................................55
Disclosure requirements.....................................................................55

Corporate Governance........................................................................55
Full adoption of a risk-based supervisory model...............................55
An update of loan classification and provisioning system.................55
Compliance of local accounting rules with international standards...55
ix


Preparation and implementation of Basel II.......................................55
Regulatory changes.....................................................................56
Lending limit......................................................................................56
Related lending...................................................................................56
Supervisory developments..........................................................58
2.2.3. Results...........................................................................................59
Cost of resolving crisis.......................................................................59
Results................................................................................................60
2.2.4. Conclusions...................................................................................61
2. 4. Bank restructuring in Spain 2011........................................................62
2.4.1. Economic and financial background.............................................62
Economic crisis..................................................................................62
Chart 2.4: Non-performing Loans (% credit portfolio)...................................62
The sovereign debt crisis....................................................................63
The need for restructuring..................................................................63
2.4.2. Methods of bank restructuring in Spain........................................63
Table 2.5: Methods of bank restructuring in Spain........................................63
Issuing Royal Decree Law.................................................................64
Table 2.6: Laws issued in Spain......................................................................64
Support to the voluntary merger of viable institutions.......................64
Promotion of crisis resolution at non-viable institutions...................64
Transparency and stress tests..............................................................65
Balance sheet write-downs.................................................................66

Consolidation.....................................................................................66
Reduction in capacity.........................................................................67
Chart 2.5: Number of branches of banking system in Spain...........................67
(Source: BBVA- Bank Restructuring in Spain)..................................67
New corporate model for savings banks............................................67
Improved governance.........................................................................68
Increase in solvency requirements.....................................................68
Recapitalization..................................................................................69
Table 2.7: Sources of funds for commercial and Savings banks.....................69
Issuing instruments to qualify new core capital ratio.........................69
Foreign subsidiary will seek funds by their parents...........................69
15% banks in this group raise funds through investment in stock
market..................................................................................................69
1% intends to merge...........................................................................69
8% submit recapitalization plans (smaller than 5 years) to the central
bank to ask for aid funds.....................................................................69
x


2.4.3. Conclusions...................................................................................70
2.5. Experiences withdrawn from case studies...........................................71
2.5.1. General assistance.........................................................................71
Recapitalization..................................................................................71
Deposit Insurance...............................................................................72
Centralization.....................................................................................72
2.5.2. Managing bad assets......................................................................73
Resolution of NPLs............................................................................73
2.5.3. Ownership changes........................................................................73
Dealing with unviable banks..............................................................73
Governance Changes..........................................................................74

Restructuring of supervisory authorities............................................74
Regulatory changes............................................................................75
CHAPTER 3: APPLICATIONS OF INTERNATIONAL EXPERIENCES
TO VIETNAM AND RECOMENDATIONS TO VIETNAM’S
BANKING SYSTEM....................................................................................76
3.1. Overview about banking sector in Vietnam.........................................76
Figure : Growth of credit, deposit and GDP during 2000- 2010 period..........76
3.1.1. History of banking system in Vietnam..........................................76
3.1.2. Structure of banking sector in Vietnam.........................................77
Figure: Vietnam’s banking sector 2011...........................................................77
Figure 3.1: Vietnam Banking Sector Loans by Institution Type.....................78
3.1.3. Characteristics of Banking Sector.................................................79
Chart: Asset growth and ATM & Post growth.................................................80
Strengthening Bank Capitalization.....................................................81
3.1.4. The need for restructuring.............................................................82
Chart: NPL ratio in Vietnam’s banking sector 2002-2011..............................82
Figure 3.2: Business indicators- Vietnam Banking Sector 2010.....................83
3. 2. Applications of world-wide lessons for Vietnam.................................84
3.2.1. Similarity in Vietnam’s banking system with case studies............84
3.2.2. Applications for world-wide lessons for Vietnam.........................85
3.2.3. Chances and challenges for applications of international
experiences..............................................................................................89
Chances..............................................................................................89
Challenges..........................................................................................90
3.3. Solutions for Vietnam’s banking system..........................................91
xi


3. 3.1. Actions government has taken......................................................91
Announce eight banking tasks in 2011...............................................91

Propose three plans to restructure the banking system......................92
Classification of credit institutions.....................................................93
3.3.2. Methods to restructure Vietnam’s banking system........................93
Package 1: General methods..............................................................93
Package 2: Management of bad assets...............................................94
Package 3: Change in ownership.......................................................94
Package 4: Strengthening regulatory structure...................................95
3.4. Recommendations to authorities...........................................................96
CONCLUSION..............................................................................................97
APPENDIX....................................................................................................99
BIBLIOGRAPHY.......................................................................................100

xii


INTRODUCTION
1. Rationale of the study
In the scenery of an unstable world economy with potential risks such as high
consumer goods prices, reducing economic growth rate, worsening public debt
crisis and high inflation pressure, Vietnam’s economy has to face with lots of
challenges. Facing all these difficulties, the State Bank of Vietnam (SBV) and all
other authorities try to carry out the Resolution No 11/NQ-CP dated February 24 th
2011 of the Government and conclusions in National Meeting 3- Period XI to curve
inflation, stabilize macro-economy, maintain economic growth rate to increase the
quality, efficiency and competition in the economy.
In 2012, the government prioritizes to focus on three plans of restructuring in
public sector investment, restructuring in state-owned enterprises and restructuring
in financial institutions, especially commercial bank restructuring. On December 6 th
2011, the SBV officially announced the first merger among three commercial banks,
including Sai Gon Commercial bank, Tin Nghia Commercial Bank and First

Commercial Bank.
Restructuring in banking sector is carried out when the banking system does
not work effectively with many signs of banking crisis. In the case of Vietnam, it
shows a large number of credit institutions and a rapid credit growth rate whereas
they have low soundness ratios, too high interest rate and inflation rate and a limited
sources of fund. The above action to merge three Vietnam’s commercial banks is a
necessary action and it is one of the first actions in the restructuring plan to reduce
the number of weak banks, protect the rights of depositors and strengthen banking
system and the financial system in general.
That raised the question of how to restructure the banking system in Vietnam.
We all know that there are many countries which used to restructure their banking
system in the world and these cases can be good lessons for Vietnam on its way to
restructure the financial system. Considering the above reasons, the topic
“Restructuring in banking sector, theory and lessons from different countries
in the world” is chosen for my graduation thesis with the aim to take a deeper look


on the problem of restructure in banking sector by studying cases around the world
and withdrawing valuable lessons of bank restructure for the case of Vietnam.

2. Objectives of the study
Based on making a complete understanding about problem of restructuring in
banking system both in theory and in practice, by presenting theory about bank
restructuring, then analyzing international case studies of bank restructuring in
different countries around the world in order to withdraw valuable lessons for
Vietnam, the purpose of this thesis is to make recommendations for Vietnam
banking system in bank restructuring process.

3. Methodology
This paper is written using combined methods: descriptive analysis, statistical

analysis and comparative analysis. Data are collected from various sources such as
the text book, financial journals, working papers or projects of well-known
organizations around the world, research papers of doctors, professors in banking
and finance sectors in famous research institutions and downloads from relevant
websites in the internet.

4. Scope of the study
The thesis focuses on banking restructure realities in some emerging countries
in the world, including Malaysia, Indonesia, Chile and Spain because economic and
financial background of these countries have many things in common with Vietnam
before restructuring period. Refer to the time range researched, the writer mainly
analyzes the period of last sixteen years- from 1995 to 2011 for the reason that this
time period is when restructuring plans of these countries happen.

5. Structure of the study
Chapter 1 presents the theoretical background of banking restructure in the
world, including definition, reasons to restructure, methods to restructure,
conditions to restructure, impacts of restructure on the economy and potential risks
of restructuring activity.
Chapter 2 studies about cases of restructure in banking system of some
emerging countries in the world, by going through the problems of their banking

2


system, their restructuring method to the results they get. From that the writer
concludes the valuable lessons about banking restructure.
Chapter 3 gives an overview about banking system in Vietnam: its history, its
structure, its recent characteristics and the demand for a restructure plan. The thesis
applies the above world-wide lessons into Vietnam case, after that it gives the

solutions for restructuring in Vietnam’s banking system and recommendations to
authorities.

3


CHAPTER 1: THEORETICAL BACKGROUND ABOUT
RESTRUCTURING IN BANKING SECTOR

1.1. Definition of restructuring in banking sector
1.1.1. Definition of restructuring in banking sector.
So far bank restructuring has been mentioned in a large number of books,
publications and research papers. When people refer to restructuring in banking
sector, they often talk about two common types of restructuring: “individual bank
restructuring” and “systemic bank restructuring”.
Individual bank restructuring
According to Dziobek and Pazarbas (1998), individual bank restructuring are
the measures aiming to improve individual bank performance, which is to restore
solvency and profitability, improve the bank’s capacity to provide financial
intermediation between savers and borrowers, and restore public confidence.
Therefore, individual bank restructuring includes: restructuring in financial
activities, restructuring in operations and restructuring in regulations which help a
banks correct its weaknesses and increase its efficiency and effectiveness.
Additionally, they explain more about financial restructuring that: financial
restructuring tries to restore solvency (net worth) by improving banks’ balance
sheets. A bank can improve its balance sheet by raising additional capital (e.g.,
receiving cash from existing or new owners or from the government), by reducing
liabilities (e.g., writing down the value of certain debts), or by boosting the value of
assets (e.g., raising the recovery value of problem loans and collateral). Financial
measures contain: bonds (e.g., exchanged for bad loans), new equity (e.g., bought

by government), depositor-based instruments and owner management market
incentives.
Meanwhile, operational restructuring affects profitability. Measures can
include renewed attention to business strategy, improved management and
accounting systems, and better credit assessment and approval techniques.
Operating costs may be cut by eliminating branches and staff. To add to the banking
system’s capacity for intermediation, restructuring usually means improving

4


supervision and prudential regulation. Sometimes other measures, such as providing
deposit insurance and a lender of last resort, are also needed.
Finally, structural measures include following methods: Central bank as sole
restructuring agency, central bank liquidity support , loan workout units (public- or
bank-based), closure of insolvent banks, merger of insolvent banks, privatization
(where applicable), enterprise restructuring to improve creditors and twinning with
foreign banks.
Systemic bank restructuring
If individual restructuring involves in the reform actions of an individual bank
only, systemic bank restructuring (or we call it “bank restructuring” in short)
contains a series of measures that need to be coordinated in order to maintain the
national payments system and access to credit while correcting problems in the
financial system that caused or contributed to the crisis.
In the pure sense of term, bank restructuring has been defined by Waxman
(1998) as: “Systemic bank restructuring is the package of institutional and
regulatory programs used to resolve failed banks and return the banking sector to
sustainable health when there is widespread evidence of banking failures that affect
more than 20 percent of a banking system's total deposits”.
For more detail, he specifies that “Systemic bank restructuring” is a long term

process, including a series of measures that progress in stages from emergency
measures to restore confidence in the banking system (such as deposit guarantees,
strengthened prudential regulation, adoption of internationally accepted accounting
and auditing standards, and enhanced compliance programs) through the creation of
new government entities or other measures for resolving failed institutions and
disposing of their assets. To define the term more clearly, systemic bank
restructuring also includes both macroeconomic diagnoses of the multiple
underlying causes for the systemic problems as well as microeconomic efforts to
improve banking supervision, correct weaknesses in the legal, accounting and
regulatory framework, and rehabilitate or resolve individual insolvent banks within
the context of the overall legal and judicial structure.

5


All things considered, we can understand about systemic bank restructuring
with three main points. “Bank restructuring” includes restructuring in financial
activities, restructuring in operating activities and restructuring in regulations.
Financial restructuring which tries to make better financial statements includes
increase in bank’s capital (support from government or shareholders), resolve bad
debts (write-off or collect bad debts). Restructuring in operating activities contains
measures to increase bank’s profit such as improve business strategy or
management capacity, cut down labor force, find the most suitable business model
(banks can join in M&A activities), etc. With restructuring in regulations,
government and the central bank not only strengthen supervision but also issue
updated regulatory documents, laws system, accounting and auditing standard to
comply with international standards and factual situation in its country.
Chart 1.1: Definition of bank restructuring

(Source: Author)

Crisis-led restructuring and voluntary restructuring
In normal cases, a restructuring plan often originates from a systemic bank
crisis. A systemic crisis is identified by its threats to the stability of the banking
system, which adversely affect the payments system and, in consequence, the real
economy through reductions in credit flows, or the destruction of asset values. For
examples: the U.S. savings and loan crisis of the 1980s, the Mexican crises of the
early 1980s and mid 1990s, the Norwegian and Swedish crises of the early 1990s,
or the East Asian crisis in 1997. They all lead to a bank restructuring process, which
we call in this case as “crisis-led restructuring”.
In treatment of a systemic banking crisis, policies aim at: protecting the
payment system; limiting the loss of depositor confidence; developing and

6


implementing a strategy to restore solvency to the banking system; and preventing
further macroeconomic deterioration. A variety of tools have been used to achieve
these objectives, which include emergency liquidity support, mechanisms for
strengthening creditor confidence and bank strengthening and resolution techniques.
While they have proven to be effective under some conditions, they are also subject
to limitations. That is the reason why there are bank restructuring cases that are not
really successful or there are still many problems in the banking system after the
time of restructuring. That leads to the action of “voluntary restructuring” when
there are no clear sign of banking crisis but the country still carry out a bank
restructure plan to correct its weaknesses and improve its banking system.
The necessity for restructuring in banking system can be clearly seen when
looking at the past examples. Analysts might say that they could have predicted the
final collapse of a particular banking system because of its underlying systemic
problems. However, no one realizes the importance of restructuring method until
they were in the middle of a banking crisis. Therefore each country must regularly

evaluate the effectiveness of it financial system to know exactly when it needs a
restructuring plan so that it can reduce the bad consequences of the banking crisis to
the minimum level.

1.1.2. The reasons for bank restructuring
It can be seen that one of the first signs of banking crisis is the degree of
concentration in the banking industry. For instance, in some emerging market
economies, the five largest banks used to account for over two-thirds of bank assets,
then they were all in the middle of a crisis which led to a major process of bank
restructuring. The second notable sign is the fast bank credit expansion. In many
cases, the crisis was followed by many years of bank credit expansion in excess of
GDP growth. The fact has shown that in Scandinavia, for an example, the bank
credit/GDP ratio remained high, and an effective bank restructuring policies has
successfully brought that ratio back to earlier levels. Therefore, when doing
research about restructuring in banking sector, identifying when a banking system
needs restructuring is really important, basing on that we can find the solutions or
methods for appropriate restructure process. Changes in microeconomic,

7


macroeconomic variables, system-rated problems and level of non-performing loans
(NPLs) all imply reasons for restructuring.
Chart 1.2: Reasons for bank restructuring

(Source: Author)
First of all, manifestation in microeconomic factors is the reason for bank
restructuring. Examples of the poor banking practices are: inadequate capital,
failures of loan policy, inadequate assessment of credit risks, an insufficiently
diversified loan book and lending to connected enterprises. Another significant

example is “Principal- Agent” problem, for instance, when loan officers are
rewarded on the basis of the volume of loans extended without much attention
about the quality of those loans. Besides, overstaffing is always a long-lasting
problem, particularly in state-owned banks which do not want to adopt new
technology to reduce a large number of employees. This restrictive labor practice
makes the banks face a lot of difficulties in their operations.
The second cause to bank restructuring is the changes in macroeconomic
variables, namely: cyclical downturns, exchange rate depreciation, declines in asset
prices, etc. In that case, banks should plan to cope with these volatilities and to take
sufficient precautions against macroeconomic crisis. Nevertheless, macroeconomic
shocks of an unprecedented magnitude can strain even those banks that have taken
proper precautions. Examples include the oil shocks in the 1970s, despite many
measures to prevent the debt crisis, Latin America region still experience the loss of
confidence after the crisis.

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The third cause is system-related problems that state-owned bank is a popular
example. A banking sector with a large amount of state-owned banks can distort the
banking industry, both in the extension of loans and in the collection of deposits
because some state banks enjoying special privileges may also distort competition
and limit banks’ diversification possibilities. Besides, an inadequate legal
framework may limit the effectiveness of the banking system. An underdeveloped
securities market, especially the absence of a market for long-term securities, means
that all long-term lending has to be done by the banks. An inadequate regulatory or
supervisory regime has often been a major source of trouble.
The next cause is fast changes in the environment. Banking crises may result
from rapid changes in the environment in which banks operate. For instance, a rapid
privatization of the commercial banks in Mexico in the early 1990s, with financial

liberalization measures and a sudden reduction of the borrowing requirements of the
public sector, all these factors constituted a completely new regime for banks. These
“regime changes” make the system vulnerable, however, it does not necessarily
push banking system into a crisis.
Bad banking practice is one of the most important causes to banking crisis,
such as the moral-hazard risks and regulatory forbearance. This can be transparent
or disguised. Transparent moral-hazard risk, for example, was an open relaxation of
normal regulatory standards, when a number of major money centre banks whose
loans to heavily indebted countries exceeded their capital in the early 1980s.
Disguised moral-hazard risk might refer to an official collusion with the banks to
conceal the magnitude of the problem. Disguised regulatory forbearance will lead to
a potential risk that any future action of assurances, even when they are true, may
not gain the public’s belief anymore.
Final cause to banking crisis might be the uncontrollable amount of nonperforming loans (NPLs). A disturbing lesson from the Asian financial crisis is that,
the more NPLs increase, the more economic conditions deteriorate. In fact, it is
worried that many private sector analysts believe that NPLs are still understated in
many countries, for example in Vietnam where NPLs ratio according to Vietnamese
Accounting Standard (VAS) is much lower than NPLs computed by international

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accounting standard. All these factors contributed to a banking crisis and a
restructuring plan is really necessary.

1.1.3. Sequence and time of bank restructuring
Lindgren (1999) make a brief summary of three common steps in a restructure
period as follows:
Chart 1.3: Sequence of bank restructuring

(Source: “Financial Crisis and Restructuring: Lessons from Asia, Lindgren,
1999)
At the same time, Claessens (2001) also differentiates between three stages
of systemic restructuring. The first phase occurs while the financial crisis is
unfolding and is termed the short-term containment phase. Government policies in
this phase are by and large aimed at restoring overall public confidence to minimize
repercussions of the loss of confidence in the financial system on the real sector.
The second phase comprises financial, and to some extent, operational restructuring
of financial institutions and corporations. The final phase encompasses structural
reforms, including changes in the legal and regulatory frameworks, privatization of
any nationalized financial institutions and corporations, etc.

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Therefore, regardless of which methods to use, a restructure process often
encompasses three steps, from first actions to response to the crisis, stabilization
packages, to recovery methods.
With regard to the time period for a restructuring plan, it varies from some
years to some decades for a restructuring process. If the financial and economic
situation has enough conditions for a successful bank restructuring plan, then the
process will end shortly some years after its implementation. However, there are, in
fact, many cases that it takes a long time to restructure a banking system and to
receive goods outcomes.

1.2. Methods for restructuring banks
In the past, many different methods of bank restructuring were applied,
which can be classified into four main groups: Management of bad assets methods
are for the purpose of financial restructuring, change in ownership and general
assistance methods are with regard to operational restructuring; strengthening

regulatory framework methods are for the purpose of implementing regulatory
restructuring.

Restructuring methods

Table 1.1: Theory about methods of bank restructuring
Establishment of Restructuring agency
Bank liquidation
Prevention of moral hazards
Deposit insurance
General assistance
Capital injections
Resolving NPLs
Management and sale of assets
Domestic M&A
Foreign takeovers
Public ownership (privatization)

1. General assistance

2. Management of bad
assets
3. Changes in ownership

4. Strengthening regulatory structures

(Source: Author)

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1.2.1. General assistance
Establishment of a restructuring agency
While bank restructuring seeks to achieve many goals: preventing bank runs,
avoiding a credit crunch, improving the efficiency of the financial intermediation
process and attracting new equity into the banking industry, the diversity of possible
approaches to restructure may lead to uncoordinated actions. To prevent this, some
countries have established an agency or committee specifically in charge of
coordinating restructuring actions. For example, Thailand’s government is advised
by the Financial Restructuring Advisory Committee, which includes officials from
the central bank and finance ministry as well as some outsiders. However,
coordination of these measures is even more important in a developing country.
Joseph Stiglitz, Senior Vice President and Chief Economist of the World Bank, has
explained: “Restructuring the banking system is even more difficult in many
developing countries, for several reasons. Firstly, there is less technical, legal, and
institutional capacity for tasks like asset resolution. Secondly, the fraction of the
banking system with bad assets and insolvencies is often far larger; there are fewer
healthy banks to take over the weak banks. Thirdly, the banking systems may be
more complex, with a mixture of state and private banks. The state banks may carry
with them an implicit guarantee for depositors. A government announcement that it
will not guarantee the private banks can easily generate a run on the private banks,
especially if the government shuts down some banks but leaves doubts about the
health of some of the remaining banks”. Therefore, the very first measure in bank
restructure plan is to establish an agency or a committee to coordinate restructuring
actions.
Bank liquidation
Bank liquidation or closures of banks is another method of bank restructure. In
any industry, individual firms should be allowed to fail if their operations are too
weak because maintaining overcapacity creates a more difficult environment for the
stronger firms. That rationale is also true for banking system. However, a large

number of countries never let any bank go bankrupt. In fact, rescues and mergers
are more common than closure of the bank.

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The reason for this tolerance is that bankruptcy often damage confidence from
public, which provokes a bank run. An example is the Argentine experience of early
1995, when 18% of deposits were withdrawn in three months, as Hawkins and
Turner (1999) mentioned other reasons in his book: “the systemic threat to the
financial system, the disruption of credit relations between a bank and specific
borrowers, and the danger of a ‘credit crunch’”. The systemic threat is that a bank’s
failure may affect other healthy banks and financial markets as well as the payments
system (provoke a chain reaction of non-payment by other participants), and affect
interbank loans and bank deposit market. A “credit crunch” is illustrated by a
marked widening in interest rate spreads as well as a reduction in the availability of
credit. To sum up, bank liquidation method should be used with great care in order
to prevent unwanted consequences.
Prevention of moral hazard problems
Moral hazard between shareholders and managers
In the process of bank restructure, measure to prevent moral hazard risk is an
important task. This risk should be avoided firstly by publishing frequent and
accurate balance sheet information. Because the financial accounts of banks are
difficult to read and the risk of misleading reporting is greater than in industrial
companies, hiring a credit rating agency or an auditing firm to make assure a true
and fair balance sheet may be a good choice. Besides, restructure in human
resources of banks is another way to reduce the moral hazard risk. However,
managers can be replaced only if there are enough capable and honest people to put
in place of departed managers. One tip to choose new managers is mentioned by De
Juan (1998). He distinguishes between what he calls “war generals” and “peace

generals” and he suggests that: initially, on short-term contracts, appointing tough
managers skilled in restructuring companies to close subsidiaries, shrink operations
and cut costs, and later appointing more conventional bankers to operate the banks.
Moral hazard of depositors
Problem of depositors is due to behaviors of local and foreign depositors.
Depositors are protected in large banks but they tend to put their money in small
bank because of high risk- high return principal. That action is very risky, which

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