Financial sector reform (2016-2019): The impact on Latvian banks

Abstract

The purpose of this research is to get the first results on the impact of the recent financial sector reform started in 2016 by the Latvian FCMC (Financial and Capital Market Commission) and the Latvian government on the performance of two traditional Latvian banking groups: resident and non-resident banks. The main objective is to find out how the outflow of non-resident deposits caused by the reform has affected both banking groups’ main performance indicators: the capital adequacy ratio (CAR) and return on equity (ROE). The methodology of the research involves obtaining ROE and CAR parameters in the whole Latvian banking sector before and during the recent financial sector reform and analyzing these parameter dynamics and differences, particularly for resident and non-resident banks. The results obtained clearly demonstrate that the recent reform of the Latvian financial sector has affected resident and non-resident bank performance in Latvia very differently. The outflow of non-resident deposits during the reform implementation has made a minimal impact on the performance of resident banks, but significantly affected non-resident banks, triggering a decline in their total assets, total deposits, and profitability. The results obtained show some “recovery” of non-resident bank performance at the second stage of reform (after 2017), which could demonstrate the reorientation of their business models agreed with the FCMC. However, there is a need for further research to be sure that this process will be sustainable. Keywords: Latvian banking sector, financial sector reform, non-resident deposits, AML/CTPF, non-resident banks.