TBATurkish Banking SystemOctober 2005 The Banks Association of Turkey Turkish Banking System Ersin Özince Chairman London, October 2005

TBA Turkish Banking System October 2005

The Banks Association of Turkey

Turkish Banking System

Ersin Özince

Chairman

London, October 2005


OutlineOutline

Economic outlookEconomic outlook• Economic policy frameworkEconomic policy framework

• Main features of the economyMain features of the economy

• Main targets of the economic policyMain targets of the economic policy

• Short term outcomesShort term outcomes

• Expectations for the near futureExpectations for the near future

Turkish banking systemTurkish banking system• Main issues affecting banksMain issues affecting banks

• Operational environmentOperational environment

• Towards stronger banking systemTowards stronger banking system

• Short-term outcomes and selected indicatorsShort-term outcomes and selected indicators

• Expectations for the near futureExpectations for the near future


Economic outlook


Economic Policy FrameworkEconomic Policy Framework

•Turkey is an open economyTurkey is an open economy

•Capital flows are freeCapital flows are free

•No exchange rate restriction, No exchange rate restriction, under floating exchange rate regimeunder floating exchange rate regime

•Signed the Signed the “C“Customs ustoms UUnionnion”” with the EU with the EU in 1995 in 1995

•The EU’s economic criteria The EU’s economic criteria regarded asregarded as the the nominal anchornominal anchor

•Turkey is closer to EU membershipTurkey is closer to EU membership

•The stand-by agreement with the IMF extended untilThe stand-by agreement with the IMF extended until 20082008


Main features of the economyMain features of the economy•Population of 72 millionPopulation of 72 million with with GNP USD 325 billion and income per GNP USD 325 billion and income per capita USD capita USD 44,500,500

•Long term average growth rate is about 5 percentLong term average growth rate is about 5 percent

•Domestic Domestic consumptionconsumption with 70 percent of total demand is the main with 70 percent of total demand is the main force behind the growth force behind the growth

•Services and industry have shares of 58 percent and 30 percent Services and industry have shares of 58 percent and 30 percent

•Unemployment rate is about 1Unemployment rate is about 100 percent percent

•Foreign trade Foreign trade volume volume amounts to 55 percent of GNP. Exports and amounts to 55 percent of GNP. Exports and imports amount to USD imports amount to USD 7070 billion and USD billion and USD 110110 billion billion

•The main trade partner is EU with 50 percent shareThe main trade partner is EU with 50 percent share


Main targets of economic policyMain targets of economic policy

•Setting stable rules and institutions eliminating discretionary Setting stable rules and institutions eliminating discretionary measures for well functioning market economymeasures for well functioning market economy

•Undertaking fiscal responsibility, focusing to reduce debt to GNP Undertaking fiscal responsibility, focusing to reduce debt to GNP ratio through primary surplus ratio through primary surplus

•Channelling sources to private sector, Channelling sources to private sector, sustaining stable growthsustaining stable growth at at annual rate of 5 percent, annual rate of 5 percent, focusing on reducing focusing on reducing inflation inflation and and reachingreaching price stability price stability

•Improving fImproving fiscal transparency and iscal transparency and ensuring ensuring better managementbetter management in in the public sector, ithe public sector, increasing role of private sector and foreign ncreasing role of private sector and foreign capital inflowscapital inflows


Main targets of economic policyMain targets of economic policy

•StrengtheningStrengthening ffinancial sector inancial sector

•Reaching sustainable stability through structural reforms; Reaching sustainable stability through structural reforms; social social security, widening tax base, bankruptcy law, central bank and security, widening tax base, bankruptcy law, central bank and regulatory and supervisory institutions’ autonomyregulatory and supervisory institutions’ autonomy

•Meeting EU main economic criteria by 2008Meeting EU main economic criteria by 2008

•Leading Turkey to become a global playerLeading Turkey to become a global player

•Stronger institutions and rules for market economyStronger institutions and rules for market economy


Short-term outcomesShort-term outcomes

•Quick recovery in growth led by private sectorQuick recovery in growth led by private sector

•Strong fiscal adjustment, sharp decline in inflationStrong fiscal adjustment, sharp decline in inflation

•Less pressure from the Government on the financial marketsLess pressure from the Government on the financial markets due to due to decline in gıvernment deficitdecline in gıvernment deficit

•Stability sustained in money and capital markets; Stability sustained in money and capital markets; a substantial a substantial fall fall in the cost of borrowing and real interest ratesin the cost of borrowing and real interest rates

•StrongStrong TL demand and strengthened financial institutions TL demand and strengthened financial institutions


Short-term outcomesShort-term outcomes

•Rapid growth in CB reserves and improvement in fx positionRapid growth in CB reserves and improvement in fx position

•Jump in lending to private sector and consumer loansJump in lending to private sector and consumer loans

•Expanding Expanding volume of foreign tradevolume of foreign trade

•Widening current account deficitWidening current account deficit

•Foreign investors’ interest on TL assets as well as the banking Foreign investors’ interest on TL assets as well as the banking sector sector

•Acceleration in privatisationAcceleration in privatisation

•Strengthening rating outlooks from B- to BB-Strengthening rating outlooks from B- to BB-


Expectations for the near futureExpectations for the near future

Should current program successfully implemented, Should current program successfully implemented, macroeconomic aggregates macroeconomic aggregates are are likely to approach to likely to approach to Maastricht criteria in a few years. Maastricht criteria in a few years.

Thus, Thus, an atmosphere for an atmosphere for well functioning of market well functioning of market economy economy is is likely likely to be further improved.to be further improved.


According to the Government programme public sector deficit targeted to receed to 3% of GDP by 2008

95 . . . . '00 . . . . '05 . . '08

0-1-2-3-4-5-6-7-8-9

-10-11-12-13-14-15-16-17-18-19-20

Turkey EU-15


Inflation is down 4 percent in 2008

Inflation

95 . . . . '00 . . . . '05 '080

25

50

75

100

Turkey EU-15


Government debt is likely to meet EU level in 2008

95 . . . . '00 . . . . '05 . . '08

40

50

60

70

80

90

100

110

120

Turkey EU-15


Turkish Banking System


Main issues affecting banksMain issues affecting banks•Since 2002, banks Since 2002, banks have been operating in a considerably less risky have been operating in a considerably less risky atmosphereatmosphere

•Decline in inflation and strong demand for TL stimulated the Decline in inflation and strong demand for TL stimulated the competition and restructuring the balance sheetcompetition and restructuring the balance sheet

•Governments pressures on financial markets lessenedGovernments pressures on financial markets lessened

•Regulation likely to meet the international standarts, notably to EU Regulation likely to meet the international standarts, notably to EU directivesdirectives

•Supervision strengthened Supervision strengthened

•Better expectations and vital activity stimulated consumer businessBetter expectations and vital activity stimulated consumer business

•Foreign investors’ interest intensifiedForeign investors’ interest intensified

•Basel II road map was announcedBasel II road map was announced


Operational environmentOperational environment•Banks subject to Banking Act in their universal activities and to Banks subject to Banking Act in their universal activities and to Capital Market Act in capital market activitiesCapital Market Act in capital market activities

•Banking Regulation and Supervisory Board is an autonomous Banking Regulation and Supervisory Board is an autonomous authority of the banking sector since 2000. authority of the banking sector since 2000.

•No discretionary regulation for foreign banks operating in TurkeyNo discretionary regulation for foreign banks operating in Turkey

•Regulatory capital for establishment of a bank is currently about Regulatory capital for establishment of a bank is currently about USD 15 millionUSD 15 million

•Financial sector is small and has low degree of deepening Financial sector is small and has low degree of deepening

•Despite gradual improvement, deposits have very short term Despite gradual improvement, deposits have very short term maturitymaturity


•Traditionally banks occupy majorityTraditionally banks occupy majority, 95 %, 95 % of financial of financial sectorsector

•Financial services subject to various heavy tax burdensFinancial services subject to various heavy tax burdens increasing intermediation cost dramatically, although increasing intermediation cost dramatically, although some positive steps taken recently some positive steps taken recently

•The share of fx or fx denominated items in the balance The share of fx or fx denominated items in the balance sheet still high albeit shrinking recentlysheet still high albeit shrinking recently

•High techonology utilization on servicesHigh techonology utilization on services


Towards stronger banking systemTowards stronger banking system•An independent regulatory and supervisory body was founded

•Weak banks Weak banks were were eliminated, remaining banks were recapeliminated, remaining banks were recapitiitilizedlized

and restructuredand restructured

•Regulation changed in line with the international standards; Regulation changed in line with the international standards;

RReporting, auditing and transparency improvedeporting, auditing and transparency improved

PrudentiPrudentialal regulations on related party loans, fx position regulations on related party loans, fx position and equity participations, provisioning tightened and equity participations, provisioning tightened

Supervision incorporated market riskSupervision incorporated market risk

•BBanking anking AAct ct is on the pipe-lineis on the pipe-line

Banking Law No. 5387(adopted by the Parliament )


General Legal Grounds

• Enhanced legal structure for changing and developing banking activities and risks

• Dynamic structure for bank supervision and auditing activities

• Harmonization of the Banking Law with EU directives, international principles and standards


Scope of the Banking Law• deposit banks

• contribution banks

• development and investment banks

• financial holding companies

• Title of special finance institutions is changed as contribution banks, • The scope of the Banking Law is enlarged to cover financial holding companies, Banks

Association of Turkey, Turkish Association of Contribution Banks, Banking Regulation and Supervision Agency (BRSA), Saving Deposits Insurance Fund (SDIF) and their activities,

• Provisions related to supervision and audit of support services institutions and valuation and rating institutions by BRSA are brought .


Definitions

• In harmony with international banking terminology the definitions in the Law are redefined, the new definitions added


Permissions for establishment and operation

- fields of banking activities are classified in line with the EU directive

- the principles and procedures that are applicable for permission applications and granting permissions are determined extensively as a part of prudential supervision

- the conditions sought for the bank founders are harmonized with EU directives and BIS principles

- principle is brought to give legal reasons for refusal of applications for authorization

- the paid-up capital requirement is increased to min. TRY 30 million for credit institutions, TRY 20 million for development and investment banks.


Corporate governance

• In parallel to international principles, the provisions related to corporate governance principles are set out


Supervision and Audit

• integrity of on-site supervision and audit activities

• independent audit, internal audit, internal control and risk management in line with the international practices

• principles of on-site supervision and audit to be determined by Banking Regulation and Supervision Agency (BRSA)

• all activities including IT systems subject to audit process

• risk-based approach in bank supervision

• audit performed in a consolidated and coordinated manner


Protective Provisions

• All the limitations and standard ratios shall be considered on a consolidated basis

• Shareholders equity shall not be less than the paid-in capital.

• In case the limits and standard ratios set in the Law are reached or exceeded, the relevant bank shall promptly inform the BRSA

• Provision related to the minimum liquidity regulation to be set by BRSA is brought

• Loan definition is broadened (bails, avals, receivables incurred from reverse repurchasing transactions, financial leasing receivables)


Legal Obligations

• Banking secrecy

• Customer rights

• Ethical principles


Limits

• Limits on loans to a real person or legal entity or a risk group are fully harmonized with the EU directives

• Banks are prevented to transfer their funds to close the budget deficits of their funds and foundations

• Provisions dealing with donation limits and hidden transfer

of earnings are added


Deposit Insurance

In conformity to the practices in the EU;

the deposit banks are required,

• to take out insurance cover only for the part of the deposits held with them subject to insurance.

• to pay saving deposits insurance premiums over the sum insured as above


Measures against systemic risk

• In case of determination of a systemic risk danger as a result of joint evaluation by the Fund (SDIF), the Treasury Undersecretariat and the Central Bank under coordination by the BRSA, the Council of Ministers is authorized to identify, take and impose extraordinary measures and actions


Exclusion from the banking system

• BRSA has administrative and financial autonomy so as to ensure exclusion from the banking system of the institutions which fail


Short-term outcomesShort-term outcomes•Strengthened confidence in the banking sector and rating outlooks

•Banks gradually adopting to changing environment; disinflationBanks gradually adopting to changing environment; disinflation and recoveryand recovery are likely are likely support the sectorsupport the sector

•Full quarantFull quarantee ee on deposits limitedon deposits limited

•Improvement in asset quality; NPLImprovement in asset quality; NPLss’ contained and highly ’ contained and highly provisionedprovisioned

•Regulatory capital requirements met, economic and working Regulatory capital requirements met, economic and working capital capital began to rise began to rise

•Earnings less dependent on windfall and inflationary gain from the Governmet securities as interest margin and income from fees and commission increased

•Improving return on equity Improving return on equity is is likely to encourage capital growthlikely to encourage capital growth


Short-term outcomesShort-term outcomes•Higher lending tendency to private sector

•Risks arising from Risks arising from fx and interest rates lowered but maturity gap fx and interest rates lowered but maturity gap is is still importantstill important

•Foreioreiggn banks’ share increasingn banks’ share increasing

•Concentration riseConcentration rise

•Risk management improvedRisk management improved

•Foreign borrowing accelerated

•Banks’ market capitalisation jumped


Reduced pressure on financial sector; demand from non-banks investors, notably from foreign investors

2002 2003 2004 2005*As % GNPDomestic debt 55 54 52 52Domestic debt/M2YRF 106 118 110 104Deposit banks G-securities 14 27 27 27Non-banks residents G-securities 11 14 15 13Foreign investors G-securities

* As of August

1 1 3 5


Upward trend in TL deposits and loans, notably to households

27.12.02 26.12.03 31.12.04 02.09.05As % of GNPDeposits 52 45 46 48TL deposits 22 23 26 29Loans/deposits 38 43 52 59Loans 20 20 24 28 Consumer loans 1 4 4 5 Credit cards 1 4 4 3


Substantial change in the structure of financial assets; share of TL monetary assets and equities up

Financial assetsAs % of GNP 2002 2003 2004 2005 II

Monetary assets 50 43 43 44

TL 23 24 25 28

Fx 26 19 18 16

Securities (private sector) 21 27 31 31

Equity 21 27 31 31

Securities (public sector) 55 55 53 53

Bonds 41 47 45 45

Treasury bills 14 7 7 7

Investment funds 2 4 4 4

Total 127 128 131 132


Total assets grew rapidly in USD terms but remained almost the same as % of GNP

Total assets

99 '00 '01 '02 '03 '04 '05 J0

50

100

150

200

250

300USD billion

0

20

40

60

80

%

Total assets As % of GNP


Dramatic decline in number of banks

Number of banks

80 85 90 95 99 '00 '01 '02 '03 '04 '05 J05

10152025303540455055606570758085

Total Private dep banks


Number of branches began to rise in private banks

Number of branches

80 85 90 95 99 '00 '01 '02 '03 '04 '05 J5000

5500

6000

6500

7000

7500

8000


A steady increase in number of employees, notably in private banks

Number of employees

80 85 90 95 99 '00 '01 '02 '03 '04 '05 J100

120

140

160

180

200thousands


Asset size getting larger

Bank total asset size

USD billion/number 99 '01 '02 '03 04 05 J40+ 1 130-40 1 220-30 1 1 1 2 2 210-20 1 5 5 4 4 25-10 6 2 1 1 4 51-5 19 10 12 13 11 100,5-1 11 4 5 3 1 2- 0,5 43 28 26 26 25 24Total 82 50 50 50 48 48


Large banks increase their market share

Concentration80 90 '00 05 J

First five*Asset 63 54 48 61Deposits 69 59 51 65Loans 71 57 42 54First ten*Asset 82 75 69 84Deposits 88 85 72 89Loans 90 78 71 78* according to asset size


Structure of the banking system

Market structureJune 2005 Banks Emloyment Brances Assets Loans Deposits

% share % share % share

Deposit banks 35 125.416 6.034 96,5 94,1 100 State owned 3 39.080 2.039 32,5 19,9 39,5 Private 19 79.870 3.786 60,1 69,3 57,1 Fund 1 401 1 0,5 0 0 Foreign 12 6.065 208 3,4 4,8 3,4Non-deposit taking banks 13 4.471 19 3,5 5,9 0

Total 48 129.887 6.053 100 100 100


Higher share of loans in the total assets

'99 '00 '01 '02 '03 '04 '05 J0%

20%

40%

60%

80%

100%

Liquid a Securities Loans Permanent a Others

Breakdown of assets


Breakdown of loans (%)

2002 2004

Exports 19 14Working 16 19Consumers 5 13 Housing 1 3 Automobile 1 4Credit cards 9 14Investment 8 6Others 41 27Total 100 100


Rising shares of TL deposits and equity in liabilities

Breakdown of liabilities

'99 '00 '01 '02 '03 '04 '05 J0%

20%

40%

60%

80%

100%

TL dep. Fx dep. Non-deposits funds

Shareholders equity Others


Increase in TL assets in total assets and..

TL, fx assets in total assets

'99 '00 '01 '02 '03 '04 '05 J0%

20%

40%

60%

80%

100%

TL Fx


...TL sources in total liabilities

TL, fx liabilities in total liabilities

'99 '00 '01 '02 '03 '04 '05 J0%

20%

40%

60%

80%

100%

TL Fx


Rather stable fx position; met the requirements

Fx position* (Fx assets-fx liabilities)

* excluding fx indexed assets and liabilities

88 90 95 '00 '01 '02 '03 '04 '05 June

0

5

-5

-10

-15

-20

USD Billion

Sector Including fx indexed


Stronger capital; thanks to the restructuring program and economic recovery

Shareholders' equity

'99 '03 '04 05 J

0

10

20

30

40USD billion

0

5

10

15

20%

Shareholders' equity As % of t assets State-owned Private


Working capital improved rapidly

Free capital*

* Shareholders' equity+current year net income-permanent assets

99 '00 '01 '02 '03 '04 '05 J

0

5

10

15

20

-5

USD billion

Sector State-owned Private


More radical reporting for NPLs, higher provisions and strong demand for loans

NPLs

92 93 94 95 96 97 98 99 '00 '01 '02 '03 '04 '05 J0

1

2

3

4

5

6

7USD billions

0

1

2

3

4

5

6%

Before provisions After provisions As % of total assets (net)


Permanent assets share in total assets coming down

Permanent assets*As % of total assets

* Fixed assets+equity participations+subsidiaries+NPLs

'99 '00 '01 '02 '03 '04 '05 J0

2

4

6

8

10

12

14

16%



Recovery in profitability

Return on assets (%)

Figures in 2001-2004 are according to inflation accounting

'99 '00 '01 '02 '03 '04 '05 J

0

2

4

6

-2

-4

-6

-8



From losses to sustained profitability; likely to encourage investors

Return on equity (%)

Figures in 2002-2004 are according to inflation accounting

'99 '00 '01 '02 '03 '04 '05 J

0

20

40

60

-20

-40

-60

-80

-100

-120

%



Sustained improvement in efficiency

Selected efficiency ratios, sector

2002 2003 2004 2005 June

Net interest margin/total assets %2.75 %3.90 %4.87 %4.38Expenses/total assets %4.56 %4.27 %3.59 %3.42Retun on banking activities -%1.81 -%0.36 %1.27 %0.96

Expenses/Income (ecluding divident) %65.35 %53.36 %48.70 %50.34Expenses/Income (including divident) %63.23 %52.45 %47.55 %49.02

Return on assets (before tax) %1.65 %3.22 %2.97 %3.56Return on assets (after tax) %1.11 %2.25 %2.11 %2.50

Return on shareholders' equity (before tax) %13.66 %22.65 %19.81 %25.58Return on shareholders' equity (after tax) %9.17 %15.79 %14.05 %17.96

* 2005 June simply annualized


Selected ratiosSector

02 03 04 05 JCapital adequacyShare holders' equityAs % of risk weighted assets 24 31 29 26As % of total assets 12 14 15 14Free capital 2 6 8 7As % of total assets

Asset quality (%)Securities portfolio 41 43 40 39Loans/total assets 27 28 34 37Non performing loans (ap)/total loans 6.6 1.4 0.7 0.6Provisions for NPL 64 89 88 88Permanent assets/total assets 10 8 7 7

Liqudity (%)Liquid assets/total assets 34 39 37 38Liquid assets/short term liabilities 75 81 84 80


Positive developments in the banking system positively reacted by the investors

Market capitilization of financial institutions (shares are traded ISE, (USD million)

5,000

10,000

15,000

20,000

25,000

30,000

35,000

40,000

45,000

01 02 03 04 05 June


Rapidly growing numbers of credit and debit cards

Selected inditacorsThousands 2002 2003 2004

ATMs 12 13 14POS machines 496 662 912Credit cards (1000) 16 20 27Debit cards (1000) 35 40 43


ExpectExpectations for theations for the near future near future

•Larger and deeper financial markets

•Lengthening the maturities

•Higher lending to private sector

•Sufficient earnings to feed capital

•Decline in margin with widening business activity

•Positive atmosphere for foreign investors

•Intense competition on behalf of depositors and borrowers

•Improvement in transparency and accounting rules for better financial system


Total Assets

80 85 90 95 '00 '01 '02 '03 '040

50

100

150

200

250USD billion

0

20

40

60

80

100%

Total assets As per. of GNP


Substantial growth during the last years

Selected figures of deposit banks

USD 80 00 05 II

Shareholders' equity per bank 16 101 873

Assets over branch 2.854 18.963 40.427

Assets over employees 136 898 2.044


Still low degree of banking on the basis of inhabitants

Selected figures of deposit banks

(for inhabitants) 80 00 05 II

Number of banks (for 1000 inha) 1.111 1.105 2.051

Number of branches 7.471 8.636 11.899

Number of employees 356 409 602

Assets (USD) 382 2.196 3.397


Approaching the emerging markets average, substantially low compared to developed

countries

Selected financial indicators(2003, as % of GDP)

World avg. EU Emerging Turkeymarkets

Bank assets* 112 173 78 72Capital markets 230 233 84 86 Shares 86 74 47 29 Bills and bonds 144 159 37 57 State 56 60 23 57 Private 88 99 15 0Total 342 405 162 158

Source: Global Financial Stability Report, Spt 2004


High growth potantial compared to EU-15

EU 15 and Turkey; selected indicators As % of GDP, 2003

EU-15* TurkeyBanking system Assets 281 73Deposits 98 47Loans 128 20Housing loans 40 1Total consumer loans 8 4

Income per capita (euro) 24.324 2.999Assets per capita (euro) 68.361 2.010

Capital markets Equities 74 29 Bonds and bills 159 57* Average

Documents

TBATurkish Banking SystemOctober 2005 The Banks Association of Turkey Turkish Banking System Ersin Özince Chairman London, October 2005