US embassy cable - 05TEGUCIGALPA8

UNCLAS SECTION 01 OF 02 TEGUCIGALPA 000008 
 
SIPDIS 
 
SENSITIVE 
 
STATE FOR WHA/CEN, WHA/EPSC, AND EB 
STATE PASS AID FOR LAC/CAM 
STATE PASS USTR 
TREASURY FOR DDOUGLASS 
 
E.O. 12958: N/A 
TAGS: EFIN, ECON, PGOV, HO, IMF 
SUBJECT: HONDURAS ECONOMIC REFORM: BANKING COMMISSION REFORM 
LAW IMPROVES BANK CRISIS MANAGEMENT 
 
REF: A) 04 Tegucigalpa 2765 
 
     B) 04 Tegucigalpa 2826 
     C) 03 Tegucigalpa 2062 
     D) 04 Tegucigalpa 232 
 
1. (U) SUMMARY: In September 2004, at IMF insistence, the 
GOH passed four banking reform laws aimed at strengthening 
the nation's financial system.  This is the third in a 
series of four cables that analyze each of these laws, 
assess their impacts on the Honduran financial system, and 
outline challenges of implementation or additional needed 
reforms that remain.  Refs A and B analyzed the reform of 
the deposit insurance agency and the Central Bank; this 
cable focuses on the reform of the National Banking and 
Insurance Commission. 
 
2. (U) The new Banking Commission law makes one major change 
to Honduras' structure for financial supervision: it 
transfers responsibility for resolving and recapitalizing 
failed banks from the deposit insurance agency, FOSEDE, to 
the Banking Commission.  While FOSEDE oversaw the closure of 
one bank and the sale of another in 2002, the cost of these 
actions was high, and there is a strong consensus that the 
Banking Commission is the appropriate entity to handle such 
cases in the future.  The new legal framework should, it is 
hoped, allow some needed consolidation of the banking sector 
to take place, while reducing the costs of unnecessary 
interventions, and keeping low the risk that a bank closure 
or liquidation would spread a panic through the system.  The 
law also makes some minor changes to the structure of the 
Commission's board.  End summary. 
 
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Background: The Need for Reform 
------------------------------- 
 
3. (U) As summarized in ref C, a 2003 joint IMF/World Bank 
"Financial System Stability Assessment" for Honduras 
concluded that the Honduran banking system is "highly 
fragile at a systemic level, impairing sustainable economic 
growth," and outlined several reforms needed to strengthen 
the system.  These reforms were then incorporated into the 
Letter of Intent signed by the GOH and the IMF in February 
2004 (ref D), which required the passage of four financial 
sector reform bills: the Deposit Insurance Law; the Central 
Bank of Honduras Law; the Banking Commission Law; and a new 
Financial Institutions Law. 
 
4. (U) Specific to the Banking Commission, the report found 
that the existing legal and institutional framework for 
managing banking crises was inappropriately designed, too 
costly, and inefficient.  The improvement of this framework 
was one of the four key recommendations of the report. 
Until the recent reforms, resolving and recapitalizing 
distressed banks was the responsibility of the national 
deposit insurance agency, FOSEDE.  During the last bank 
failure in Honduras in May 2002, FOSEDE took over and 
capitalized two small banks, Banco Capital and Banco 
Sogerin, using resources borrowed from the Central Bank. 
The hope was that the injection of capital and some time 
under FOSEDE's administration would reverse the banks' 
deterioration.  While Sogerin was made solvent and 
subsequently sold, Banco Capital was closed and liquidated 
before the end of 2002, casting doubt on the usefulness of 
recapitalizing the bank in the first place. 
 
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Changes in the New Law 
---------------------- 
 
5. (U) The Banking Commission reform law and the FOSEDE 
reform law transfer the responsibility for the restitution 
of troubled banks from FOSEDE to the Banking Commission, as 
recommended by the World Bank/IMF assessment report.  As 
discussed in ref A, this move will both simplify FOSEDE's 
mission and remove a major financial burden, as the 
intervention by FOSEDE on behalf of Banco Capital and Banco 
Sogerin in 2002 drove FOSEDE deeply into debt with the 
Central Bank.  Furthermore, the reform is seen as a 
prudential measure:  it is the GOH hope that transferring 
responsibility for the restitution of troubled banks to the 
Banking Commission will counter the temptation to keep a 
weak bank alive with costly injections of capital in cases 
where the best course is to accept the inevitable and move 
directly to the closure and liquidation of a weak bank. 
 
6. (U) The law also makes various changes to the 
organization of the commission - modest but positive steps 
in the establishment of a modern, independent banking 
commission.  Previously, the Banking Commission had been 
made up of three members and two alternates; the new law 
removes the alternates, since, according to a Banking 
Commission official, they were drawing a salary while doing 
nothing.  The new law also tightens the requirements for who 
may serve on the commission, excluding directors or owners 
of banks or other financial institutions, any holders of non- 
performing loans, or anyone who has been sanctioned or found 
guilty of any financial crimes. 
 
------------------------- 
Profile of Honduran Banks 
------------------------- 
 
7. (U) Over the past several years, as public awareness of 
the weaknesses in the banking system has grown, Hondurans 
have increasingly concentrated their deposits in the largest 
banks.  Deposits in the top five banks operating in Honduras 
(Banco Atlantida, BGA, Banco de Occidente, Ficohsa, and 
Bamer) accounted for 55 percent of deposits in 1999, 66 
percent in 2002, and 69 percent as of September 2004 (see 
table below). 
 
                           Total        Total        Total 
Bank                      Assets        Loans      Deposits 
----                      ------        -----      -------- 
Banco Atlantida          15,592.5      9,085.1      9,807.8 
BGA                      15,281.3      7,945.2      8,282.3 
Banco de Occidente       12,547.8      5,762.1      9,403.2 
Ficohsa                  12,182.3      7,110.1      7,583.3 
Banco Mercantil (Bamer)  10,223.9      6,216.0      6,606.8 
Banco del Pais            9,899.9      5,564.6      6,303.2 
BAC Honduras              6,170.5      2,406.3      1,928.3 
Banco Uno                 2,770.3      1,502.6      1,636.6 
Banco Continental         2,458.1      1,260.9      1,210.8 
Banhcafe                  2,367.4        790.4      1,360.8 
Banco Promerica           2,087.0        876.7      1,039.0 
Ficensa                   2,042.4      1,464.5      1,099.8 
Banco de los Trabajadores 2,022.1      1,451.4        978.5 
Banco de Honduras 
 (Citibank)               1,639.5        591.3      1,001.0 
Lloyds (Cuscatlan)        1,576.8        521.3      1,107.1 
Banco Futuro              1,363.4        688.2        679.8 
 
TOTAL                   100,225.2     53,236.7     60,028.3 
 
All figures in millions of Lempiras, data as of September 
2004. (At that time, USD 1 = 18.43 Lempiras) 
 
Source: National Banking and Insurance Commission. 
 
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A More Stable Framework 
----------------------- 
 
8. (SBU) Comment: There is a widespread consensus among both 
private bankers and government officials that the Honduran 
banking sector, with sixteen different national and regional 
banks operating in a country of just seven million people, 
is overcrowded and ripe for further consolidation.  However, 
the elimination of two very minor banks in 2002 was handled 
in a manner that was both inefficient and costly.  Under the 
new legal framework established by the September laws, the 
hope is that some consolidation can be allowed to take 
place, at a lower cost to the government than was the case 
in 2002, and while minimizing the risk that a bank closure 
or liquidation would spread a panic through the system.  End 
Comment. 
 
Palmer