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agreement. However, this average ratio understated<sup>the true extent to which banks were</sup> undercapitalized because while the Basle agreement defines<sup>assets to exclude non-performing</sup> assets, in Bulgaria the asset definition included<sup>the-n. And in Bulgaria, as will be discussed later,</sup> banks held a larg' proportion of non-performing assets. Ratio of capital to risk assets varied<sup>among</sup> banks. In general and excluding the NBB,<sup>the largest banks in terms of assets had the lowest ratio</sup> (see Table 2). The two largest banks, SSB and<sup>BFTB, had a ratio of 1 and 3 percent, respectively.</sup> While on average SCBs and CCBs had a ratio<sup>of 5 and 2 percent respectively, five out of the eight</sup> SCBs--which accounted for 80 percent of SCBs' assets--had a ratio below 5 percent; and the largest five CCBs in terms of assets had a ratio<sup>of less than 0.9 percent.</sup> Table 2: Financial System's Indicators,<sup>as of 1990 1/</sup>

|Nu<br>..............................................<br>Banks Pl<br>Bu|mber cf:<br>Ca<br> <br>.....<br>aces Branches to<br>siness<br>|G<br>pital Pr<br>.........<br> Asset<br>Ratio|ross<br>ofits<br>................<br>(<br>o|Operative Wa<br>Expenses Sa<br>.<br>As Percentage<br>f TotalAsse|ges and<br>laries<br>......................<br>......<br>ts)|
|---|---|---|---|---|---|
|Nationat lBnk<br>of Bulgaria,<br>NBB<br>1<br>|1<br>0<br> <br>|12.0X<br>|1.22X<br>|0.10X<br>|0.05X<br>|
|State and Savings Bank, SS8<br>1<br>|3915<br>242<br> <br>|1.1X<br>|1.03X<br>|0.18X<br> <br>|0.10X<br>|
|Bulgarian Foreign Trade Bank, BTFB<br>1|2<br>0<br> <br>|2.8X<br>|3.51X<br>|<br>0.06X<br> <br>|0.92X<br>|
|Specialized<br>Coamrcial Banks, SCS<br>8<br> <br>|51<br>0<br> <br>|5.4X<br>|1.22K|<br>0.03X|0.01X|
|Common Commercial**Banks,**CCB<br>59|160<br>114|2.3X||||
|Of which:||||||
|Largest 5 2/<br>8.5K<br>|5.0K<br>0.0<br> <br>|0.9%<br>|n.a.|n.e.|n.a.|
|Smallest 5 2/<br>8.5K|3.1K<br>0.0K|10.9K|n.a.|n.a.|n.a.|

Source: National Bank of Bulgaria,<sup>Monetary Survey; National Banks of Bulgaria, Banks'</sup> Supervision Department; and B*nks.

Notes: (1) Asset data is su' sect<sup>to measurement errors (see Annex 1), however, in this table it is</sup> only used for cowparative purposes.<sup>Assets are defined to include outstanding balances in the</sup> clearing system. Asset information is for end-1989. (2) Indicates the proportion concentrated by the largest (smllest) five banks. Largest (and smallest) five banks are defined In terms of assets.

(vi) Profitability. Banks' reported profits, although<sup>very high by international standards,</sup> failed to accurately measure bank profitability for<sup>two reasons. First, recorded profits (see Table 2)</sup> were accrued, thus including interest income<sup>that has not been actually paid. Second, banks were</sup> not forced to make provisions on loans in arrears<sup>and in moratorium. Had banks had to make</sup> provisions on these loans, their profits would<sup>had been smaller. Bulgarian banks held these loans</sup> without being forced to provision. This was even<sup>though regulation on bank provisiuning was in</sup> place since 1987. Until 1991, banks were not<sup>forced to comply with such regulations nor to</sup> classify their loans according to performance.

(vii) Ownership. Bank ownership in Bulgaria was<sup>characterized by conflict of interest which</sup> raises certain problems. MEB was the major<sup>shareholder</sup> of SCBs and CCBs. Other important shareholders were the BFTB and public sector enterprises. NBB<sup>ownership of banks posed a</sup>