Microsoft Word econ 2004 16. doc

particular sector of the economy) banks. This second group of banks is 
undercapitalised, and has low-quality loan portfolios and limited bank 
management skills. These problems are aggravated by (i) the absence of adequate 
legal instruments (bankruptcy procedures, assets sequestering, etc.) to protect the 
integrity of the banks’ assets, (ii) the way banking activity is taxed, and (iii) 
restrictions on the wage rates of bank staff (in state-owned banks) imposed by the 
Central Bank in 1999. 
The government taxes banks’ profits and wage bills, but does not allow banks to 
deduct off-setting provisions from their tax liabilities. Profit tax in Uzbekistan is 
assessed by the authorities and often bears no relation to actual profit; many 
enterprises are thus overtaxed, even accounting for the cuts in the rate of profit tax 
(Economic Intelligence Unit, 2003). 

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The wage restriction problem particularly affected the relatively advanced state-
owned banks with better-qualified personnel, such as the National bank and the 
Asakabank. A good proportion of qualified staff were forced to leave in the search 
of better-paid opportunities; either in the private sector, or even in other countries.
In 2000, the Government of Uzbekistan, under the pressure of international 
financial institutions, particularly IMF initiated a policy of unification of the 
multiple exchange rate regime. This lead to a significant depreciation of the 
national currency (132% in 2000, 112% in 2001 and 34% in 2002). For large 
banks (particularly NBU) that provided foreign-currency loans this automatically 
resulted in deterioration of loan portfolio quality as many of their borrowers found 
themselves in difficulties to re-pay at the new exchange rates. Officials of those 
banks usually denied the resultant significant portfolio deterioration since a vast 
majority of those loans are in turn state-guaranteed. In principle, banks do not have 
to provision against government-guaranteed loans, but debt service arrears could 
nonetheless cause liquidity problems, particularly since current practice has been 
to capitalise accrued interest, thereby protecting the balance sheet but hurting 
operating incomes. Accrued interest in NBU’s balance sheet, for example, grew 
from USD 79 million in 1999 to USD 133 million in 2001.
The government was typically reluctant to re-pay under the guarantee and pushed 
their own banks to restructure and rollover such loans. Under the pressure of 

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auditors, some of the banks in Uzbekistan published their auditor’s report 
according to international accounting standards were forced to reconsider their 
provisioning policy against government-guaranteed loans in the event of exchange 
rate unification. Together with growing provisions on classified assets in the 
remaining non-guaranteed portfolio, this has substantially affected large banks 
profitability, with a return on equity in NBU 6 percent in 2001 and –20% in 2002. 
According to NBUs own estimate, non-performing loans (including those under 
government guarantees) might reach around 15 percent of the total loans, if 
currency unification is fully implemented. 
Since 1999, domestic banks have begun to build up a portfolio of private sector 
loans, granted on strictly commercial criteria, benefiting in this respect from the 
institutional support provided under international financial institutions (IFI) credit 
lines. However, market-based finance remains largely underdeveloped and banks 
serve only a limited role in the intermediation of domestic savings. The IFI small 
and medium business (SME) lines are the most important source of funding for 
credit to smaller domestic enterprises, although the government recently set up a 
special budget fund to finance subsidised lending to SMEs (EBRD, 2003a). 

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