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Putting the Banks into Credit Limits

By Adv. Amos Hacmun

Quoted in the article "Overdraft Bypass", published in Financial Consuming magazine, Globes
November 2005

An order, issued by the Israeli Supervisor of Banks, which will enter into force on January 1, 2006, forbids deviations from the credit limit in bank accounts, current accounts and debitor accounts. Large parts of the Israeli public see this order as a decree which would hurt the banks’ clients and give them a “hard-time”. Nevertheless, we should take under consideration, that this order would also put the banks back in track. We should look at this process as a national mission which could safeguard the strength of the whole Israeli banking system.

According to the supervisor’s order, deviations from the credit limit without the client’s knowledge and approval, will only be possible in exceptional cases. The client will know what his credit limit is and will be obligated to approval it in writing and in advance. According to the Supervisor of banks, Mr. Yoav Lehman, the main problem in the current situation “…is the structured uncertainty of the client, whose account is within an exceptional deviation. The client does not know the credit limit practically available to him and therefore does not know for sure whether the bank would fulfill different obligations, presented in his account, such as checks or authorizations to charge an account.”.

The supervisor’s word can bring us to the conclusion that the setting of a new credit limit would add to the certainty. That way, the clients, instead of “praying” and hoping for mercy from the bank will know in advance whether or not the bank would honour the checks which they draw. In the supervisor’s opinion, this certainty would even help reduce the problem of withdrawal of uncovered checks and might finally make the enforcement of the Uncovered Checks Law possible. Media analysis say, that in the future, the banks will enlarge the credit limits and put the account balances back in the credit limit.

Ceasing the constant pressure of the banks on clients with “chronic” deviation from their credit limit, might itself be a positive goal. Many times we see customers which the bank allowed to deviate for years from the credit limit, and this had became a routine in their relationship with the bank. This routine continues until a new branch manager was appointed, the bank’s policy had been changed or even a rumor (unnecessarily true) in connection with the client’s situation had been spread. In those cases, many times the bank changed the rules of the game in one moment, relying on the claimed deviation from the credit limit. The client was suddenly blown away by the closing of the credit many times with destructive consequences.
 
With all due respect to the uncertainty for the clients, however, it seems that another uncertainty is even more dangerous – one of the whole banking system. According to unofficial publications, the estimated scope of the deviations from credit limits in the Israeli banking system is about 50 billion NIS. Just for proportion, the equity capital of the five biggest banking groups in Israel (Hapoalim, Leumi, Discount, Hamizrachi and the First International), all together, adds up to about 47 billion NIS. We can assume, that the equity capital of the whole banking system is, more or less, equal to the total credit given by it in deviation from the credit limit or as the banks regard it, credit that justifies a risk premium embodied by the banks in an exceptional interest. This is a disturbing figure, since beyond the normal credit risks taken as a part of the normal business course, the banks face a new situation in which the exceptional credit, which is defined as a credit at risk which is not given according to structured criteria, has reached the level of the banks’ equity capital. Therefore, the banks cannot continue to close their eyes and rely on the assumption that most of the exceptional credit they give is “good” credit which the clients would have been given anyway. It seems that this is the real phenomenon which the Supervisor of Banks asks to end. The new order will force the banks to confront the problem of exceptional credit and make them deal with it the same way they handle other credits: with an economic credit analysis, by taking the right credit considerations and clear and organized documentation of the data.

No loud objections were noticed from the banks’ side, even though the meaning of the new order might lead to a reduction of the banks’ income from exceptional interest, which was currently evaluated in about 2 billion NIS per year. This relative calm implies that the banks also absorbed the dangerous size of the phenomenon, which requires an intensive treatment. The banks also understand that there is no point in a frontal confrontation with the supervisor, but that it is better to find new ways to compensate themselves for the expected loss of income as a result of the process. It also seems, that the banks know, that the decision stands for more than the will to create certainty among clients or to reduce the phenomenon of withdrawal of uncovered checks.

There is a deep aspect in the supervisor’s order which concerns the stability of the Israeli banking system and its long term strength, an aspect, which reaches beyond the clients’ everyday life. It seems that the main duty of the banking supervision, to safeguard the stability of the banking system, is carried out with refreshing wisdom this time. The “wrap” of the decision and the explanations, which have been spoken out and understood well in the Israeli media deserves a chapeau.

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This article and the information above may not be taken as a legal advice whatorever. The writer disclaims responsibility towards the reader and users of this website.

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