Paying The Price

Since the collapse of Communism, capitalism has had an uneven triumph in the republics of Central and Eastern Europe. In the Czech Republic, which became an independent nation in 1993 after Slovakia broke away, not much changed for years, despite partial privatization of state enterprises. State-owned banks, very slow to privatize, doled out credit without much supervision, and old-fashioned state enterprises dominated the wheezing economy. One result: a three-year contraction of GDP from 1997 through 1999.

Reality dawned in 1998, just months after the victory of the centrist Social Democrat party. Jan Mladek, the republic's current Deputy Finance Minister for Privatization, planned to privatize the country's major banks after the Social Democrats took office, but slowly, perhaps keeping one in state hands. Two years later, three of four banks have been sold, and the last one is due to be privatized early next year. Mladek's explanation? "Social Democrat governments privatize only when they need money or something doesn't work. Ours is not an exception."

Things quit working in December 1998, when the top management at Czech Savings (CS), the country's third biggest bank, said it would go broke in 14 days if the state didn't prop it up. The price tag: at least $100 million. The top bankers were fired, and the government decided to sell all its banks, and fast. The new strategy was too late to spare taxpayers more than $5.1 billion in losses for shoring up the banking sector over the past decade.

The red ink resulted from the inexperience of Czech bankers and a misguided semiprivatization in which a percentage of shares in leading banks was distributed to citizens through vouchers. That approach produced a deadly cocktail of limited accountability and poor lending practices. The recent spate of bank sell-offs promises to minimize new losses. "This is the end of crony capitalism," says Pavel Kavanek, CEO of the recently privatized Czechoslovak Commercial Bank (CSOB). "The name of the game now is impartial lending." A majority stake in CSOB was sold to Belgium's KBC Bank in mid-1999 for roughly $1 billion. Last February the government approved the sale of a 52% stake in CS, the bank Mladek originally intended to hold on to, to Austria's Erste Bank for about $500 million.

On the other hand, the government is still holding the bag for Investment and Postal Bank (IPB), which was fully privatized by the time the Social Democrats came to power. It's the kind of privatization that gives sell-offs a bad name. Part of the bank was privatized by the voucher method. Although the state kept a majority stake, that share was subsequently diluted. In 1998 the state unloaded its remaining stake (36.29%) to Nomura, the Japanese investment bank, which resold its shares to a passive Dutch shareholder. At no point did the bank have a strategic investor to oversee its conduct. Depositors panicked last June and took out some $440 million in deposits in just three days. On June 16, two dozen members of the Czech antiterrorist police, wielding submachine guns, took over the bank's downtown headquarters at the government's behest and sent management packing.

Vaclav Klaus, a former free-marketeering Prime Minister, decried the de facto nationalization as a "bank robbery carried out in broad daylight." Three days after sending in the cops, the government turned IPB over to the Belgian-owned CSOB. The new supervisors found a sprawling conglomerate of some 600 interlinked companies involved in almost every kind of questionable financial practice. Of an estimated $4.6 billion in outstanding loans, probably only 20% are recoverable.

At the last of the four big banks to be privatized, Commercial Bank (KB), police are investigating 11 former employees, including board members, on suspicion of mismanagement of assets in a deal that cost the bank $200 million. Criminal charges are being considered in another case that cost the bank more than $60 million. Radovan Vavra, KB's new chairman, is diplomatic about the old management. "There were a number of very good, educated but naive people who didn't know what modern banking is about," he says. But taxpayers who are paying the price are unlikely to be as understanding as Vavra.