By George Mountis
During the period 2006 to 2009, thousands of people took out loans denominated in foreign currencies, mostly Swiss francs and Japanese yen. All these borrowers are now up against the wall, financially speaking, chiefly due to the worsening of the exchange rate.
Despite the borrowers steadily servicing their loans for years, the outstanding capital approximates the initial loan disbursement, and in many cases the outstanding capital exceeds the initial disbursement. Today, these loans cannot be converted to euro because doing so would lock in current unrealised exchange rate losses (crystallisation of losses).
Where foreign currency loans are concerned, the cost of borrowing is variable. But not because of fluctuations in the interest rate (which is determined by the reference rate). Rather, the problem relates to fluctuations in the capital itself which the borrower must pay back. The amount of this ‘capital’ is shaped by various extraneous factors, rendering the real cost of the loan ‘non-viable’. It is for these reasons that the granting of loans in foreign currency is a problematic commercial practice. It goes against the principle of responsible lending, which is predicated on the predictability of future obligations. Ever since the scope of the problem became evident, all credit institutions in Cyprus have distanced themselves from such loans, precisely because of the risks involved.
Borrowers, unable to comprehend the complex nature of foreign currency loans, based their decisions on what information was available to them at the time (i.e. from the banks). If banks stick to just furnishing information comparing the interest rate of a loan in euro to that in a foreign currency, inevitably consumers will go along with a bank’s recommendation and will be oblivious to future risks. Banks, therefore, are in a real way obliged, based on EU regulations governing good faith and transparency, to avoid unilaterally seeking to safeguard their own interests alone. Before granting a customer a foreign currency loan, a bank must not only inform the customer of the risks he or she may face in the likely event that the exchange rate worsens, but also to explore a customer’s ability to understand and deal with such risks.
Moreover, the obligation to inform and explain to customers is not restricted to generic observations on foreign currency exposure. It must also extend to other things, such as informing customers on what profile and know-how they need to have to opt for a foreign currency loan, as well as warning them against risks that may arise, citing examples of foreign currency exposure, so that borrowers come to better understand the risks involved.
There is no doubt that a large proportion of consumers who were led to taking out such loans did not receive adequate information as described above and certainly were unable to comprehend the risks. Indeed, had they understood the risks they would have opted for a loan in euro instead. In fact, given the downward trend in reference rates (ECB, Euribor) since late 2008, these borrowers would either way have been paying a low interest, all the more so today.
Yet it is possible to escape from the quicksand of foreign currency loans. Borrowers are ‘entitled’ to retroactive reinstatement in paying down and paying off their loan based on the real capital they received. Already, Greek banks operating in Cyprus have taken steps to reinstate borrowers’ exchange losses under certain conditions. Cypriot banks are expected to do the same, before a large number of borrowers seek legal redress (already there are a number of court rulings retroactively reinstating and converting loans in euro, with the banks absorbing the largest proportion of the exchange losses as well as overcharges, such as interest on late payments etc.)
I therefore advise all borrowers who have taken out a loan in foreign currency to seek guidance from financial and legal consultants.
Dr. George Mountis is Business Development Director of Emergo Wealth, www.emergowealth.net
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