Will Western European parent banks continue to support their Central and Eastern European (CEE) offspring? This issue has been getting a lot of play in the media in recent months and for good reason. Foreign parent banks, via their subsidiaries, hold 60-90% market share (as a % of assets) in CEE countries, and these parent banks are currently facing a mountain of challenges: 1) Their own difficult funding conditions; 2) Expected spike in non-performing loans (NPLs) in Eastern Europe due to deteriorating economic conditions; 3) Deteriorating economic conditions in parent banks’ home markets; 4) Exposure to depreciating CEE currencies due to high levels of foreign currency lending, particularly in Hungary and Romania.

The concern is that in a worst-case scenario, one or more parent banks could pull the plug on support for their Eastern European subsidiaries. In what I view as a very positive sign for the CEE region, groups of foreign banks operating in Hungary, Romania and Serbia have in recent months collectively pledged to support their subsidiaries as needed. While such announcements have not been seen as big news, an examination of this issue through the lens of a prisoners’ dilemma shows why such pledges are of paramount importance.

The general idea is that these parent banks (as well as the CEE economies in which they operate) are likely to be collectively better off if they all continue to support their Eastern European subsidiaries. The problem, however, is they may not be individually incentivized to do so. So the key in preventing a foreign bank retrenchment from the CEE region is promoting policies, such as the pledges mentioned above.

How Is Western European Banks’ Decision To Support Their Eastern Offspring Similar To A Prisoners’ Dilemma?