Credit cycles and consolidation in the Bulgarian banking system, 2004-2016

Using quarterly data on a panel of 29 banks over the 2004–2016 period, this paper analyses the determinants of the credit boom-bust cycles in the Bulgarian banking system by dividing the sample into pre- and post-crisis periods. Based on the system-generalized method of moments (GMM) approach, we employ dynamic panel models to account for deviations of real credit growth from its fundamental value– the boom as well as the bust scenarios- in relation to the macroeconomic factors and bank-specific indicators of solvency, profitability and external funding. We measure excess credit growth as the deviation from the long-run equilibrium value based on the pooled mean group estimator (PMG). We also assess the degree of contraction in lending by foreign and domestic banks during the crisis. Our findings indicate that over-reliance on foreign capital flows for funding foreign banks fostered excessive credit growth in the pre-crisis period but also contracted credit more drastically than the domestic banks which were better positioned to sustain lending through steady reliance on domestic deposits. Although some weak banks, of both foreign and domestic origin, registered a surge in non-performing loans, and suffered capital shortage and low profitability, the distress in banking did not generate a full-blown banking crisis. We also find that notwithstanding a series of downgrades, Greek affiliated banks did not differ systematically from other foreign banks in terms of lending patterns but faced significant withdrawals of deposits, and were forced to merge in the aftermath of the crisis. The crisis triggered bank-failures, and a pattern of consolidation in banking, which is likely to continue.