July 7, 2020//-COVID-19 has disrupted the global economy with the uprooting of supply chains. The decades-long, single-minded focus on optimising supply chains helped the world minimize costs, reduce inventory, and boost asset utilisation.
Today there is an unprecedented uncertainty in how these supply chains will re-emerge, adapt, and or re-create themselves in the midst of the pandemic. The incessant pursuit of globalization of trade (and capital) feels halted by a destabilizing concoction of fear and uncertainty.
Yet the S&P 500, Dow Jones, and Nasdaq continue to tick up (with hiccups here and there) while the US still struggles with economic woes including high unemployment and an increasing cases of COVID-19.
Analysts rely on several theories to explain this – the primary two reasons (on different ends of the spectrum):
- The stock market is a couple months ahead of what is happening on ground (i.e., the rally is investors buying into the theory of a quick recovery).
- There is significant dislocation between ‘Wall Street’ and ‘Main Street’.
Let’s simply say either theory is probably irrelevant for African markets. The pandemic already froze African growth in its footsteps – the World Bank now expects the African continent’s GDP to shrink 1.6% in 2020.
Implications for the banking system across Africa
COVID-19 is a problem for the banking system in 2020. That said, the outlook for African banks in 2020 was already negative (down from stable), according to Moody’s report in December 2019. It had indicated that the global economy was “sluggish with negative business sentiment and trade uncertainty clouding growth prospects” that hurts African banks which generally have high direct and indirect exposure to their respective sovereigns and consequently have their credit profiles linked to such sovereign outlooks.
The negative outlook for growth on the continent is now effectively amplified by COVID-19. Retail bankers quietly fret about the increasing defaults on personal loans combined with increased withdrawals and slowing deposits.
Retail banking is not necessarily the lifeline of African banking. But the personal banking trends captured at banks (albeit not surprisingly differing across countries) are a good indication of the challenges on the ground for locals. The pain felt in locals’ pockets will seemingly translate to commercial slowdown as consumers take home less and spend less.
NPLs can be expected to rise in the near-term with corporate borrowers either defaulting on payment or covenant obligations. Covenants can be relaxed for a short period (and not be too detrimental to the system) but the missed payments have a tripling effect by eliminating available capital from the system that can be supplied to other corporates during these times.
The decrease of available capital in the banking system will hit small and medium-sized enterprises (SMEs) more than larger corporates and state-owned enterprises (SOEs).
In the midst of a pandemic, banks rightfully will support their larger corporate relationships and help to bridge important SOEs through the times.
Thus the existing ‘credit deficit’ for SMEs will expand with limited (and likely reduced) lending to the businesses in the SME category. Microfinance institutions sadly have not filled the liquidity gap and cannot be expected to do so in these times.
Lastly, IFRS 9 create challenges for policymakers and bankers. Regulators have relaxed capital requirements, including the base rate and bank cash reserve ratios, and have increased government bond buying programmes.
But these measures cannot solve a prolonged economic slowdown in Africa, which suggests increased NPLs over time can only be ignored (i.e., deflected or not recorded on balance sheets) for so long.
How to confront these challenges?
Firstly, retail banking will remain a challenge for the banking system. If anything, the story and solution remains the same in 2020 as it was in 2019. More mobile money is key to transforming banking for retail customers.
Regulators and banks can probably work more in tandem to retool and upgrade their infrastructure to accommodate for the quick technological uptake in the industry – we can expect both banking and lending problems and solutions will continue to be more digital in Africa.
The relaxing of Basel III requirements is helpful in the short term for many banks. But the reality of the situation will require liquidity as the pandemic persists and/or the slower the recovery may be over the long term.
Some governments have capital to inject into the banking system but it’s doubtful the continent will pull together the trillions of dollars being spent in the United States (through direct cash to consumers and corporates and indirectly through market purchases).
Some African markets (or regulators) will have to require consolidation in their banking system – sadly this process for consolidation is still a slow one in many African markets.
The quicker short-term solutions may include:
- Local banks selling some NPLs
- Partnering with other capital providers to help bridge banks, thereby creating profitable exits from troubled assets.
For SMEs, access to capital and solutions will depend on greater support from international institutions, such as the IMF, with a higher risk appetite (or perceived risk runway). That said, these institutions can only provide liquidity but cannot fix some of the structural issues that hamper the SME space.
Lending institutions at the SME level remain a challenge with some inefficiencies (or incompleteness) in reporting provided by the industry (both at a lender and borrower level).
The current pandemic and economic crisis is not creating new problems for the African banking system but rather amplifying existing inefficiencies and issues. As the theory goes, pandemics expose our greatest weaknesses and offer an opportunity to address those problems we have ignored in the past. Let’s hope that theory rings true in this instance.