European Banks Feel Effects of Crimea Crisis, With Austria Bearing Brunt

After the Cold War ended in the early 1990s, Viennese banks pushed aggressively into the newly open markets of Eastern Europe, as if rebuilding the old Hapsburg Empire one A.T.M. at a time.

The banks of Vienna were not the only Western lenders seeking to stake out the former Soviet bloc, of course. But the Austrians, for reasons of geography and history, bet big on Eastern Europe and Russia.

Now, as regional tensions with Russia rise, Austrian banks risk being caught in the financial and geopolitical crossfire.

The way things play out for Austria could have implications for the broader European Union, whose members since the outbreak of the Crimean crisis have urged caution in imposing sanctions. The worst case is that European banks would lose their subsidiaries in Russia amid escalating tit-for-tat reprisals or that it would become impossible to do business there.

Whatever happens, analysts expect any Western banks with a presence in Russia — including American ones like Citigroup and JPMorgan Chase — to have their profits squeezed in a market that until recently had been quite lucrative.

All told, the European banks are vulnerable to Russia for about $194 billion, according to Deutsche Bank, compared with about $37 billion for American banks. The financial links to Russia help explain why Europeans have been reluctant to impose sanctions.

For Europe as a whole, there is also a danger that the crisis will ricochet back in ways that are impossible to predict.

“We keep a close eye on potential indirect effects, as they might have a more substantial impact than direct exposures to these countries,” said Andreas Dombret, a member of the executive board of the Bundesbank, the German central bank.

For Austria, the effects are direct — and already being felt. Two of the country’s biggest banks — Raiffeisen Bank International and Bank Austria, a unit of the Italian lender UniCredit — have large Ukrainian and Russian operations. While other European banks are also present in Russia, notably the French bank Société Générale, Austria’s exposure — nearly $17 billion — is the largest in relation to the overall size of its banking system, at 1.4 percent of assets.

The exposure would be even larger if the Erste Group, Austria’s biggest bank by assets ahead of Bank Austria and Raiffeisen, had not left Ukraine last year. It was part of an exodus from Ukraine and Russia by foreign investors discouraged by corruption and poor economic growth in those countries.

Well before Russia annexed the Crimean peninsula, Raiffeisen and Bank Austria were plagued by a surge in bad loans and sinking profitability throughout Eastern Europe. Nearly a third of Raiffeisen’s approximately 1.2 billion euros worth of loans in Ukraine are classified as being in default or in arrears.

A spokesman for Raiffeisen declined to comment ahead of the release on Thursday of fourth-quarter financial results. The bank, whose shares have fallen 29 percent since Jan. 23, has scheduled a news conference in Vienna on Thursday at which Karl Sevelda, the chief executive, is likely to face intense questioning about Russia and Ukraine.

The Crimea crisis is the latest setback for the ambitions of Austrian banks to establish themselves in territory once ruled from Vienna by the Hapsburgs. Until the dynasty’s demise after World War I, its reach extended into modern-day Ukraine and included much of Eastern Europe, including territory now part of Hungary, Poland and Romania.

The well-equipped pet

For lenders like Raiffeisen, founded in 1862 when the Hapsburgs still ruled, expansion to the east transformed a sleepy midsize bank in a country of 8.2 million people into a regional powerhouse.

But, in a familiar pattern, the banks dispensed credit too lavishly. In some countries, lending grew by 50 percent a year. Many of the loans were in foreign currencies. Such loans offered lower interest rates, but borrowers who were earning their pay in Hungarian forint or Ukrainian hryvnia had trouble paying their debts when their local currencies plunged in value.

The perils of the Austrian strategy became apparent in 2008 at the start of the financial crisis. Only emergency intervention by the International Monetary Fund and the European Union prevented panic among foreign investors.

“It made sense to expand into Eastern Europe,” said Eleni Papoula, an analyst at Berenberg Bank. “But the strategy did not work out the way they expected.”

Since 2008, the Austrian government has been forced to provide 14 billion euros, or $19 billion, in capital or other direct aid to the country’s banks, including €2.5 billion to Raiffeisen. The aid was equal to about 5 percent of gross domestic product, far lower than in countries like Ireland or Greece, but at the high end among noncrisis countries in the euro zone.

“The risk was enormous,” said Werner Kogler, a member of the Austrian Parliament and deputy leader of the opposition Green Party. The banks, he said, “always knew if something went wrong the taxpayers would pick up the tab in the end.” He added: “We’re paying now.”

The crisis in Ukraine has already had consequences for taxpayers. This month, Austrian regulators blocked plans by Raiffeisen to repay its state aid because the bank might need the money to cope with losses from the region.

The turmoil in Ukraine comes as the Austrian government already faces a huge bill, and rising public outrage, because of problems at another lender, Hypo Alpe Adria. The publicly owned bank was once part of the political fiefdom of the late right-wing leader Jörg Haider. While the bank does not have big operations in Russia or Ukraine, it made billions in dubious loans to other Eastern European countries like Croatia.

Austrian authorities are in the process of dissolving Hypo Alpe Adria, creating a so-called bad bank to try to minimize losses from damaged assets. But the bill keeps rising. On Friday, Hypo Alpe Adria, based in Klagenfurt, capital of the province once led by Mr. Haider, said it would need an additional €1.4 billion in emergency capital on top of the €4.8 billion it had already received.

Similarly, Raiffeisen’s loans to Russia total €10.2 billion, compared with €13.5 billion for the French bank Société Générale, which is a much larger institution, according to data compiled by Morgan Stanley.

UniCredit, the Italian bank that owns Bank Austria, has lent €12.4 billion to Russia. This month, UniCredit reported a €15 billion loss for the fourth quarter of 2013, pegging some of it to the diminished value of its holdings in Eastern Europe.

A spokesman for UniCredit declined to comment or make executives available for interviews.

Austrian banks are unlikely to abandon Eastern Europe. Raiffeisen has reassured customers in Ukraine that its 800 branches there continue to operate normally, except for one in Kiev that was damaged by fire during the civil unrest.

But a retrenchment is under way. And the true scale of the risk to Austrian banks from Russia could be worse than expected, analysts say. The financial links between Austria and Ukraine and Russia are often murky and there is little data on who the bank customers are and how trustworthy they may be. That makes it difficult to predict the impact of further sanctions.

“We need much more detailed data to really understand very precisely who is going to be at risk and what kind of risk,” said Silvia Merler, an affiliate fellow at Bruegel, a research organization in Brussels. “There may be a lot of indirect effects through linkages we don’t know about.”