Turnabout sweeps through banking sector
Brian Benza | Friday November 7, 2014 14:00
The volte-face, which has gradually developed over the past three years, also looks set to reverse the role of the central bank in open market operations from liquidity absorption to provision.
Before 2010, the banking sector had been characterised by excess liquidity, super normal profits and low deposits rates, making savings unattractive.
But in the last three years, a mixture of regulatory changes, macroeconomic development and a mismatch between deposits and credit growth saw the banking sector experience an unprecedented structural shift. Analysts have agreed that the industry had reached a turning point.
Bank of Botswana figures show that excess Liquidity, which refers to excess cash that banks hold above regulatory requirements, had dropped sharply from 2006 when excess liquid assets made up 45 percent of bank assets to just six percent by the end of 2013.
Due to monetary policy interventions, the amount of Bank of Botswana certificates (BoBCs) issuance has dropped dramatically from the peak of P17.5 billion in 2008 to P5.5 billion at the end of 2013.
As a result, the central bank’s annual interest expense has fallen from P2.13 billion to P369 over the same period. On the other hand, banks’ profitability has dropped sharply, with the post tax return on equity falling from 55 percent in 2006 to 25 percent in 2013. Adding to the sector change about is an emerging shortage of deposits with some banks almost fully lent resulting in the loan to deposit ratio rising from 47 percent in 2007 to 82 percent percent in 2013.
According to economic analysts at Consultancy firm Econsult, the sweeping changes in the banking sector will come as a boon for savers as deposits rates are likely to rise as banks compete for deposits.
“Some banks are finding that their ability to lend is being constrained by the avail- ability of deposits. Banks are competing to bring in deposits, which is pushing up deposit interest rates. There is some evidence that this in turn is having an effect on bank lending, with banks becoming more selective in granting credit, and increasing the cost. If the trend of declining liquidity continues, various changes can be expected. As is already happening, interest rates may rise independently of any change in monetary policy rates,” said the analysts in a third quarter economic review report.
Due to excess liquidity in the market prior to 2011, interest rate paid to depositors has been low, as banks did not have to work hard to bring in deposits. Also contributing to the low interest rates regime has been the gradual reduction in the benchmark bank rate from 15.5 percent in 2008 to the current 7.5 percent.
According to the report, liquidity in the market has dried up due to a mismatch between deposits and credit growth with banks’ lending rising faster than the growth rate of deposits every year from 2008 to 2013. After rising sharply between 2006 and 2009, leading to a major expansion of banks balance sheets, deposits have since 2009 contracted, falling from 52% of Gross Domestic Product (GDP) in 2009 to only 39% in 2013.
While deposits have been drying up, credit on the other hand has constantly been raising rom 27% to 32% of GDP over the same period. To restore liquidity in the market, analysts believe that the central bank will have to abandon its past role of mopping up liquidity through various open market operations and become a provider of liquidity. According to the analysts, the central bank may consider reducing the current high primary reserve requirements (PRR), which is akin to a tight monetary policy stance, in order to free up some funds for the banks to lend out. The central bank increased the PRR, which are non interest bearing funds required to be kept at the central bank, in 2011 to 10 percent as it sought to mop up excess liquidity.
“The BoB’s role at the margin would change from absorbing liquidity to providing liquidity to the banking system.
It may be time to reduce the PRR to make it consistent with the general, more accommodating, monetary policy stance.
“Other measures may be necessary to encourage more deposit inflows into the banking system as a whole, rather than just competition between banks to reshuffle existing deposits. This could include encouraging deposits from non-residents, or stimulating the transfer of resident deposits from foreign currency accounts (FCAs) – which account for around 15% of total deposits - to pula accounts,” stated the report.
While the changes in the banking sector might result in negative repercussions such as a rise in the cost of credit, analysts concur that in many respects, this reflects the end of the era of an economy driven by mineral-led surpluses, to a more normalised economy.