Latvia: Parex Bank Emergency Liquidity Program, 2008

Parex was especially vulnerable to contagion during the GFC, as 40% to 50% of deposits were held by nonresidents, a situation that the EC and IMF characterized as fragile (Bojāre and Romānova 2017; EC 2008a; OECD 2016). In autumn 2008, Parex faced a capital shortfall owing to massive credit losses and market losses in addition to increasing liquidity problems and deposit runs of LVL 240 million (EC 2008a; FCMC 2009a; FCMC 2009b; OECD 2016). Parex’s liquidity indicator fell from 44.2% on August 31, 2008, to 31.4% on November 4, 2008; the regulatory minimum was 30%. Parex’s CAR fell below the regulatory minimum of 8% on October 28, 2008 (EC 2008a; FCMC 2009b).

Parex had two senior syndicated loans maturing in February and June 2009, totaling EUR 775 million. According to the EC, Latvian authorities doubted that Parex would be able to pay back, extend, or replace these loans; these senior creditors were preparing to announce default in the beginning of November 2008, which would have meant that the EUR 775 million would have been due immediately. On November 10, 2008, the government replaced management and acquired a 51% stake from Parex’s two majority shareholders for a token amount of LVL 2 (EC 2008a). After the two majority shareholders failed to meet commitments pursuant to the November 10 takeover, and at the insistence of the IMF, EC, and Sweden’s central bank, Latvian authorities acquired all shares owned by Kargins and Krasovickis on December 3, 2008, thus increasing the government’s participation to 85% (Decker 2024b; FCMC 2009a).

On November 11, 2008, the Latvian Treasury transferred to Parex LVL 200 million in government debt securities, creating a term deposit liability for Parex to the Treasury. Parex could use the securities as collateral at the BOL to back a short-term loan so that the bank would have the necessary liquidity for its operations—mainly to honor nonresident deposit outflows (BOL 2008b; IMF 2009). The BOL contextualized Parex’s importance to Latvian financial stability by noting Parex’s size as the second-largest Latvian bank (BOL 2008b).

However, deposit runs continued even after the announcement of the Treasury deposit, central bank liquidity facility, recapitalization measures, and the full takeover of Parex by the government (EC 2009a; EC 2009b; IMF 2009). Thus, in early 2009, Latvian authorities sought and received approval from the EC to change the interest rate mechanism and maximum allocation of the liquidity facility (EC 2009a). In its decision, the EC noted that the liquidity facility “[served] the purpose of keeping the bank afloat until the long-term restructuring (or liquidation) plan [was] drawn up” (EC 2009a).

The September 2010 restructuring plan envisioned that LVL 218.7 million of Reverta’s liquidity support would be converted to capital. With the amended restructuring plan in August 2012, this amount was reduced to LVL 118.7 million (EC 2012; EC 2014b). In actuality, Reverta converted only LVL 49.5 million of its state term deposits to capital. Because this conversion was lower than the restructuring plan’s allocation, the EC questioned whether Reverta had violated State Aid authorization. The EC ultimately decided that Reverta’s emergency liquidity was limited to the minimum necessary for its resolution (see Key Design Decision No. 3, Legal Authority) (EC 2014b).

Research did not uncover other options considered for Parex’s liquidity problems instead of term deposits placed by Treasury. The capital injections complemented the term deposits with regard to strengthening Parex’s liquidity and solvency (see Key Design Decision No. 2, Part of a Package) (EC 2008a; EC 2009b).

Broad-Based Liquidity Measures

From the end of August until the end of November 2008, the BOL sold EUR 900 million in foreign currency to defend the peg of the lat to the euro, owing to concerns about liquidity and access to outside private capital markets. During this time, BOL’s official reserves fell by 20% to EUR 3.4 billion, one-third of short-term external debt but more than 100% of base money (BOL 2009; IMF 2009). Nonresident deposit runs on Parex played a large role in systemwide outflows. According to the IMF, any change in the nominal exchange rate would have immediately diminished private sector net worth in Latvia, because the majority of deposits and loans were foreign currency denominated (IMF 2009).

On October 24, 2008, the BOL lowered reserve requirements, thereby releasing LVL 200 million in liquidity (BOL 2008a; IMF 2009). The BOL lowered the reserve ratio for bank liabilities with maturities greater than two years from 6% to 5% and for other liabilities from 8% to 7% (BOL 2008a; BOL 2009). The BOL further lowered reserve requirements in November and December 2008, which released an additional LVL 380 million (IMF 2009).

In a January 2009 report, the IMF says that the BOL provided LVL 555 million (3.5% of GDP) in liquidity to the entire banking system to meet deposit runs. Of the total LVL 555 million, LVL 195 million was for an operations facility backed by domestic Treasury bills specifically issued for liquidity support to Parex (IMF 2009). The author interprets the IMF and BOL documentation to mean that the BOL released a total of LVL 1.1 billion in liquidity from August 2008 to January 2009.

Support from the IMF, EU, and European Countries

On December 23, 2008, the IMF announced a 27-month^FNThe SBA was extended to 36 months at the time of the second review (IMF 2013). SBA for 1.5 billion special drawing rights (SDR; EUR 1.7 billion) under its Emergency Financing Mechanism, subject to the Latvian government’s taking full control of Parex (FCMC 2009b; IMF 2009; Reuters 2008). Additional support totaling EUR 7.5 million came from multilateral organizations and other European countries (IMF 2009).

Per the structural performance criteria and benchmarks under the SBA signed on December 23, 2008, Parex’s management had to submit a restructuring plan to the FCMC and EC (IMF 2013). The SBA also called for broader financial sector reform (IMF 2009).

Partial Freeze, Restructuring, and Recapitalization

On December 1, 2008, Latvian authorities granted Parex’s request for a partial freeze on withdrawals and transfers. The FCMC said that this measure was justified considering the run on deposits and other leveraged funds from Parex (FCMC 2008; FCMC 2009b). Withdrawals were capped at LVL 35,000 per month for individuals and for businesses with 10 or fewer employees (AFP 2008; FCMC 2008; Tapinsh 2008). Withdrawals were capped at LVL 350,000 per month for businesses with 11–250 employees (AFP 2008; FCMC 2008; Tapinsh 2008). The partial freeze did not apply to businesses with more than 250 employees (AFP 2008; Tapinsh 2008). While the partial freeze was scheduled to end by mid-2009, authorities prolonged the partial freeze in some form until January 2012 (EC 2010; IMF 2013; Parex 2011). Reverta’s annual reports say that the bad bank began to repay LVL 9.9 million to depositors after the lifting of restrictions on January 2, 2012 (Parex 2012).

According to the State Aid measure approved by the EC, Latvian authorities started capital injections on May 22, 2009, to maintain an 11% CAR requirement (see Decker [2024a]) (EC 2009b; Parex 2011). On August 1, 2010, the LPA split Parex into a good bank, Citadele, and a bad bank, Reverta (Parex 2011).

The restructuring plan approved by the EC in September 2010 outlined a split of Parex into a newly established good bank called Citadele and a remaining bad bank called Reverta (EC 2014a; Parex 2011). Citadele would focus on three core business segments in the Baltics: corporate, retail, and wealth management. Latvian authorities aimed to make Citadele profitable in a sustainable manner by reducing the size of its balance sheet (EC 2010). Reverta would keep all noncore and many nonperforming assets in addition to the senior syndicated loans and legacy subordinated liabilities. Reverta’s goals was to maximizes the recovery of State Aid (Parex 2011). For more on the restructuring of Parex, see Decker (2024b).

Guarantees

On November 14, 2008, creditors of the senior syndicated loans were preparing to announce a default event, which meant that these loans would become due immediately rather than on their maturity dates in February 2009 and June 2009. Latvian authorities negotiated with these creditors to maintain the maturity dates in February and June, provided that the government issued a guarantee for these loans. The government also guaranteed new loans issued to refinance the syndicated loan maturing in February 2009. Latvian authorities told the EC that these guarantees would be cheaper than new borrowings, since the existing senior syndicated loans has pre-crisis interest rates (EC 2008a).

On December 16, 2008, the FCMC increased the coverage limit of the already-existing deposit insurance scheme (EC 2008b; Parliament of Latvia 1998; Parliament of Latvia 2008c). Ultimately, the guarantee did not apply to Parex owing to falling short of EC commitments (EC 2008b). Latvian authorities nevertheless assert that all guaranteed deposits were paid out.

In March 2010, Parex signed an investment agreement with the European Investment Bank (EIB) for a credit line up to EUR 100 million to finance small and medium-sized enterprises. The EIB required a government guarantee for the credit line as long as Citadele remained below investment grade (EC 2010; Treasury 2011). After the split, this credit line was transferred to Citadele (EC 2010).

Latvian Legal Authority

Chapter 6 of the existing Law on Budget and Financial Management (Budget and Finance Law) allowed the finance minister to authorize the Treasury to make term deposits in banks within the framework of money management (EC 2008a; Parliament of Latvia 2008a, arts. 33–34). The parliament made changes to the Law on Budget and Financial Management; some parts were effective November 26, 2008, and other parts were effective January 1, 2009. These changes allowed the finance minister to authorize the Treasury to place securities or deposits for additional reasons, in accordance with a decision from the Cabinet of Ministers (Parliament of Latvia 2008d, art. 34(1)). These additional reasons were listed in Article 8(1):

• Reduce general economic risks;
• Provide the missing financing for long-term investments and structural reforms;
• Avoid socioeconomic crisis or reduce its impact;
• Ensure the availability of financial resources in case of emergency. (Parliament of Latvia 2008d, art. 8.1)

The latest version of the law removed one of the additional four reasons that the Treasury could make term deposits: to provide the missing financing for long-term investments and structural reforms (Parliament of Latvia 2009, art. 8(1)).

The Cabinet of Ministers indeed authorized the finance minister to make additional term deposits in Parex (Cabinet of Ministers 2008).

EC Law

As a member of the EU, Latvia must comply with the prohibition on monetary financing contained in Article 123(1) of the Treaty on the Functioning of the European Union (TFEU)^FNThe TFEU, itself based on the Treaty of Maastricht of 1992, is one of the EU’s two foundational treaties (the other being the Treaty on European Union). It sets out in detail the principles and objectives of the EU and the scope and functional responsibilities of EU institutions (the Treaty on European Union in contrast defines the EU’s purpose and lays out its institutions and form). As a technicality, before the Lisbon Treaty came into effect in 2009, TFEU Article 123 was Article 101 of the Treaty Establishing the European Community, but the content was unchanged when the Lisbon Treaty relocated the article., which reads (emphasis added):

TFEU Article 123 prohibits the extension of liquidity to insolvent firms (at least without a state guarantee), as such is considered a public undertaking (in other words, one that should be supported with state resources). The monetary financing prohibition—including its application to emergency liquidity—is EU-level law, and thus applies even to those nations that are Member States of the EU but not members of the Eurosystem. For more on the application of the monetary financing prohibition to emergency liquidity assistance, see (Arnold 2025).

Article 88 of the European Commission (EC) Treaty obligates member states to obtain EC approval of State Aid (EC 2002).

On November 24, 2008, the EC decided Latvia’s aid measures were compatible with the common market; the EC did not raise objections (see Figure 2). The EC evaluated Latvia’s intervention according to Article 87 of the EC Treaty. The EC said the liquidity facility was an appropriate measure to revive interbank lending. The EC also noted that no market investor was willing to provide emergency liquidity at the time, given Parex’s predicament (EC 2008a).

On February 11, 2009, the EC approved Latvian authorities’ proposed changes to the liquidity facility’s maximum allocation and interest rate mechanism. The EC noted that Parex still faced liquidity problems and that the initial interest rate was too high to keep the bank afloat (see Key Design Decision No. 8, Rates and Fees) (EC 2009a).

In July 2014, the EC issued a decision on whether Latvia violated State Aid authorization since its approved restructuring plan (for details, see Decker [2024b]). The EC initially questioned whether Reverta had violated State Aid authorization since the bad bank’s outstanding liquidity support was higher than the envisioned allotment in the restructuring plan. The EC noted two considerations. First, Reverta had a lower asset quality than expected in addition to slower than expected recovery of collateral and litigation with debtors. Second, Reverta’s loss of its banking license in 2011 meant that the bad bank did not need to convert further liquidity support into capital. Considering the difficulty in asset recovery and the unconverted liquidity support, the EC concluded that Reverta’s emergency liquidity was limited to the minimum necessary for its resolution (EC 2014b).

Parex’s finance department collaborated with the Latvian Treasury on the administration of the state-provided term deposits (Parex 2010).

Under the Ministry of Finance, the Treasury was responsible for making payments from the state to accounts in banks, called State Treasury budget accounts (Parliament of Latvia 2008a, arts. 23, 33; Parliament of Latvia 2009, arts. 23, 33). The minister of finance could use this mechanism to place deposits in Parex (Parliament of Latvia 2008a, art. 34; Parliament of Latvia 2009, art. 34).

To receive State Aid, Parex had to comply with certain behavioral restrictions (see Key Design Decision No. 12, Other Conditions). The FCMC monitored Parex’s compliance with these behavioral restrictions and notified the EC if the bank breached them (EC 2008a).

According to an EC decision on September 15, 2010, independent trustees would oversee the restructuring plan implementation and compliance with certain behavioral restrictions imposed by Latvian authorities (see Decker [2024b]). The trustees would prepare detailed, regular reports for the Latvian authorities to send to the EC. The trustees would be independent of the government and the bank, pre- and post-split; the trustees would have no conflicts of interest. The EC had the discretion to approve or reject the proposed trustees (EC 2010).

In early November 2008, Prime Minister Ivars Godmanis spoke to the press and presented a binary choice: either take control of Parex or allow it to enter bankruptcy. He said that the government had to protect Parex because of its size and importance in the Latvian banking system as a whole (AFP 2008; Lannin 2008). The governor of the BOL, Ilmars Rimsevics, said: “This was an attempt by the Latvian government to step in earlier rather than later” (Anderson 2008). The Ministry of Finance promised to publicly publish parts of the 77-page takeover agreement that did not contain confidential information (FCMC 2009b; Petrova 2008). Research has not uncovered any portion of the takeover agreement.

On November 14, 2008, the BOL issued a press release three days after the Treasury and BOL first supported Parex’s liquidity (BOL 2008b; EC 2008a). The BOL announced that Latvian authorities were providing a short-term loan against collateral to Parex, given the disfunction and lack of trust in the interbank market. The press release did not disclose the amount, rate, term, or administration of the liquidity facility; the press release did not mention the Treasury’s role in administering the facility (BOL 2008b).

On December 29, 2008, the Latvian Journal published an announcement from the Ministry of Finance about an additional term deposit, approved by the Cabinet of Ministers (Latvian Journal 2008). The Latvian Journal is the official gazette of the Republic of Latvia (Latvian Journal n.d.). This announcement disclosed the amount and purpose of the loan: EUR 287 million “intended for the purchase of euro-denominated government debt securities . . . [to ensure] the bank’s ability to fulfill its obligations to depositors and other customers on time” (Latvian Journal 2008).

The Treasury’s annual reports for 2008, 2009, and 2010 contained mentions of liquidity support to Parex and partial information on the term deposits (Treasury 2009; Treasury 2010; Treasury 2013). Parex, Citadele, and Reverta annual reports contain more comprehensive information on specific instances of term deposits, including currency, maturity, interest rate, amortized cost in LVL, and whether a recipient institution paid back the loan to the Treasury (Citadele 2013; Parex 2010; Parex 2011).

To provide liquidity in November 2008, the Treasury deposited Treasury securities with Parex that the bank could use as collateral to borrow cash from the BOL; the transaction resulted in a term deposit liability for Parex to the Treasury (EC 2008a). According to the Treasury’s annual report for 2008, the government issued LVL 476.1 million in securities to ensure the liquidity of Parex, which significantly increased government debt (Treasury 2009). Research finds no indication that this mechanism changed with the emergency liquidity granted in 2009 and 2010.

In February 2009, the EC approved the maximum allocation of the liquidity facility at LVL 1.5 billion (EC 2009a). See Figure 3 for usage of the liquidity facility by year.

On November 11, 2008, the Treasury made a term deposit of LVL 200 million with an interest rate of 20.27%. The rate was calculated from the following: one-year RIGIBID^FNThe BOL introduced two money market indexes on January 12, 1998: RIGIBID (Riga Interbank Bid Rate) and RIGIBOR (Riga Interbank Offered Rate) (BOL 1999). The indexes were based on the interbank bid and offer rates submitted by banks most active in money markets, including Parex (BOL 1999). rate at the time of the liquidity extension, plus a risk premium—determined as the five-year median credit default swap (CDS) value of quoted banks with the same rating category as Parex—plus 75 basis points (bps) (EC 2008a).

In early December 2008, Latvian authorities revised the interest rate mechanism because the high fees could have eroded Parex’s capital and would have been counter to the purpose of the liquidity facility: keep Parex afloat until its restructuring and/or liquidation. The interest rates were based on the funding cost of the state plus a margin for the credit risk of Parex. For lat-denominated term deposits, Latvian authorities used the annual yield of the most recently issued domestic Treasury bills for the funding cost of the state. The credit risk margin comprised a risk premium of 0.9%: a risk premium of 0.4% (five-year median CDS spread of A-rated banks for the reference period) plus an add-on fee of 0.5% (EC 2009a). Throughout the liquidity facility, these ranged from 11.4% to 12.3% (EC 2008a; Treasury 2010). For euro-denominated term deposits, the funding cost of the state was the sum of: the credit spread over euro-denominated swap mid-yield rate as priced at the time of the latest issue of Eurobonds for Latvia—equaling 1.2% at the time—and the swap mid-yield rate for the European Monetary Union benchmark five-year bonds on the day preceding the provision of funding. Throughout the liquidity facility, these ranged from 4.7% to 5.9% (see Figure 5) (EC 2009a; Parex 2010; Parex 2011).

Per the restructuring plan that outlined the split into good and bad banks on August 1, 2010, Citadele and Reverta would pay state funding costs plus a 50-bp add-on fee. In April 2011, Latvian authorities imposed an incentive fee on the good bank, Citadele, so that the bank would refinance itself on the markets: the interest rate would be increased by up to 15 bps each quarter (EC 2010).

Throughout the remainder of the liquidity facility, the rates ranged from 4.66% to 4.68% for term deposits in euros (Cabinet of Ministers 2008; EC 2008a; Latvian Journal 2008; Parex 2010; Parex 2011).

As of January 1, 2011, Citadele’s interest rate for the state term deposits was lowered from 10.0% per annum to 5.0% per annum (Citadele 2011).

Duration of Deposits before the Split

The duration of the term deposits ranged from three months to seven years—maturities lengthening with successive term deposits (see Figure 5) (Parex 2010; Parex 2011). According to the Treasury’s annual report for 2008, authorities chose three-month maturities for many of the term deposits to align with the Latvian Central Government Debt Management Strategy. Under normal financial market conditions, the Treasury would have issued longer-term deposits. However, in consideration of the partial refinancing of securities under the IMF program, the Treasury said it wanted to reduce one-year and three-year maturity profiles (Treasury 2009).

Sources: EC 2008a; FCMC 2009a; Parex 2010; Parex 2011; Latvian Journal 2008.

Restructuring of Term Deposits

When Parex was split into bad and good banks on August 1, 2010, Reverta and Citadele, respectively, 16 term deposits were in effect for EUR 635 million (LVL 446 million). Eight of those 16 deposits went to Citadele, four of which worth LVL 12 million were already terminated. The remaining four term deposits were converted into equity for a recapitalization of LVL 103 million (EC 2010; Treasury 2011).

Reverta converted LVL 49.5 million of its term deposits to capital as of December 2011 after which point no further conversions took place (EC 2012). On December 29, 2011, all of Reverta’s outstanding term deposits were converted to debt securities (Parex 2012; Reverta 2013). These debt securities remained with Reverta when the bad bank went into liquidation in November 2017. Given that Reverta had EUR 365.3 million in issued debt securities and EUR 9.8 million in assets as of December 2017, the outstanding liquidity support would not be recovered (Reverta 2018).

Reverta and Citadele could repay their term deposits earlier if the banks themselves or their assets were sold (EC 2010).

Citadele Fully Repaid Liquidity Support

On February 14, 2012, Citadele repaid the last term deposit of State Aid, 10 months ahead of schedule (Citadele 2013; Treasury 2013). In total, Citadele repaid the full amount of term deposits it had owed since the split, EUR 203.7 million, and EUR 14.7 million in interest—interest accruing since the split of the bank in August 2010 until March 2012. Citadele also paid the Treasury an additional LVL 3.5 million as “additional compensation for the use of State Aid in line with the commitments given to the EC” (Citadele 2013).

Reverta Still Owes Liquidity Support

In early 2012, all term deposits in Reverta were converted to dematerialized, closed-issue bonds; term deposits by the Treasury were discontinued (Treasury 2013). Public reports from the Treasury indicate that Reverta repaid interest from 2014 to December 29, 2017 (see Figure 6) (Reverta 2023; Treasury 2015; Treasury 2016; Treasury 2017; Treasury 2018).

The liquidation of Reverta began on July 1, 2017. Later, on November 14, 2017, the LPA created a new subsidiary and limited liability company, REAP, for the sole purpose of managing Reverta’s assets and claim rights. Thus, Reverta decreased its total debt to the state by EUR 19.3 million (Reverta 2018). Also in November 2017, the Cabinet of Ministers decided not to assess late interest payments by Reverta (Reverta 2023).

Sources: Parex 2011; Parex 2012; Reverta 2013; Reverta 2014; Reverta 2015; Reverta 2016; Reverta 2017b; Reverta 2019; Reverta 2022.

As of December 31, 2022, Reverta still owed EUR 359.4 million to the Treasury, backed by total assets of EUR 1.7 million (Reverta 2023).

In November 2008, the Treasury deposited Treasury securities with Parex that the bank could use as collateral to borrow cash from the BOL; the transaction resulted in a term deposit liability for Parex to the Treasury (EC 2008a). Available documentation does not explicitly confirm that this mechanism persisted with the emergency liquidity granted in 2009 and 2010.^FNReverta’s annual report for 2022 suggests that the Ministry of Finance also received collateral in the form of commercial paper, but other documentation does not confirm this (Reverta 2023).

Parex also pledged part of its loan portfolio—standard loans and a small amount of supervised loans (0.006% of total pledged loans)—as collateral for its term deposits from the Treasury (EC 2009a; Parex 2010; Parex 2011). In Latvia, standard loans were repaid without delay, whereas supervised loans could delay repayment up to 30 days (EC 2009a). See Figure 7 for assets pledged from year to year.

Figure 7: Total Assets Pledged by Parex, Reverta, and Citadele as Collateral for Liquidity Support (LVL millions)
Sources: Citadele 2011; Citadele 2012; Parex 2010; Parex 2011; Reverta 2013; Reverta 2014.

Research did not uncover any impact by the liquidity facility on monetary policy transmission.

Latvian authorities placed behavioral constraints on Parex to avoid undue distortions of competition for EC compliance with a view to State Aid. The FCMC monitored Parex’s compliance with these restrictions and would take necessary action in the event of noncompliance. The FCMC would also notify the EC. See Figure 8 for behavioral restrictions at the start of the liquidity facility and the partial nationalization of Parex (EC 2008a).

Figure 8: Initial Behavioral Restrictions on Parex
Source: EC 2008a.

Per the amended investment agreement on December 3, 2008, the behavioral restraints on Parex remained essentially the same except for one change to match the behavioral constraints imposed on banks under the Latvian guarantee scheme (EC 2008b; EC 2009a). In effect, Latvian authorities no longer placed balance sheet restrictions on Parex’s loan portfolios (EC 2009a). After the split, the good and bad banks had respective behavioral restrictions; for further details, see Decker (2024b).