Our banking risk experts provide insight into the events that will impact the emerging markets financial sector in May.
- Refusal to lower interest rates on deposits amid potential drop in prime lending rate will affect interest margins of smaller banks in mainland China
- Rising energy prices and tight fiscal finances in Pakistan are likely to lead to an increase in non-performing loans (NPLs) from the power sector
- New support measures for the banking sector in Europe due to increased cost pressure
- New or strengthened capital controls in Eastern Europe and Central Asia
- More details on the privatization process of the Ecuadorian Banco del Pacífico
- The repercussions of the Russian-Ukrainian conflict will unevenly affect the banking sectors of the Middle East and North Africa
- Operational Liquidity Constraints in the Nigerian Banking Sector
The profitability of smaller banks in Mainland China is expected to be affected by lower interest margins.
Small banks have not yet followed the big banks in lowering their interest rates on deposits. Lower interest rates on deposits from large banks will likely contribute to lower interest rates on bank loans and, therefore, the prime lending rate, which is calculated using both lending rates from banks and the central bank’s policy rate. The fall in the prime lending rate will affect the interest margins of small banks and therefore their profitability; however, this will likely help the loan-to-deposit rate of smaller banks to remain stable.
Credit risk associated with power generation in Pakistan.
Power generation and transmission accounts for about 15% of total lending in Pakistan. Although currently the NPL ratio for the sector remains historically low at 5.1%, it has been rising steadily since 2020. Rising energy prices and the persistence of the budget deficit will potentially delay government subsidy payments to businesses energy. This will in turn limit the ability of energy companies to pay banks as they rely on these subsidy payments to remain liquid; ultimately, this will lead to an increase in the overall bad debt ratio.
Introduction of new support measures for the banking sector in Europe.
New support measures for the banking sector could be introduced after official pandemic-triggered loan moratoriums expire in many countries across Europe at the end of 2021. COVID-19-related borrower support measures have so far prevented a sharp increase in NPLs, although growing cost pressures for borrowers via rising energy costs, food prices and impending interest rate hikes threaten to put a damper on straining debt servicing capacities across Europe, especially for countries like Bulgaria, Hungary, Poland and Romania, which have high shares of distressed loans (stage 2 plus non-performing loans) . In response to potential pressures on asset quality, Poland announced new support measures for mortgage borrowers in late April, including a four-month credit suspension with no interest rate accumulation. Meanwhile, Romania has extended its European Central Bank (ECB) repo line agreement until January 2023 and is reportedly considering introducing a moratorium on loan repayments. We expect new borrower-targeted banking sector support measures or new lending to be introduced by more emerging European authorities – and potentially new moratorium directives from the ECB – in the near term.
Exchange rate fluctuations to encourage temporary exchange controls in Eastern Europe and Central Asia.
The implications of the ongoing war between Russia and Ukraine have had negative effects on surrounding economies linked by direct trade and oil imports. In addition, the lower supply of currencies in Eastern Europe and Central Asia (EECA) markets has increased pressure on local currency markets across the region. Countries like Kyrgyzstan and Kazakhstan have recently tightened exchange controls, in the latter case, exports of large sums of silver and gold in foreign currencies are prohibited. The exchange rate (local currency unit per US dollar) is expected to average 54.07% y/y at the end of 2022 in Eastern Europe and Central Asia from 0.36% y/y l ‘last year. Given the dollarized nature of many banking sectors in Eastern Europe and Central Asia, the ongoing currency depreciations, and the implications for borrowers’ debt servicing and lending forbearance, it is likely that new capital controls will be put in place or that existing controls will be further tightened.
More details on the privatization process of the Ecuadorian Banco del Pacífico.
In January 2021, the president of the Ecuadorian public bank Banco del Pacífico announced a timetable for achieving the sale of the institution. The government took over the bank after the 1999 banking crisis and, due to lack of political support, has failed to privatize it since. However, given the country’s tight fiscal situation, he expects to sell the bank by the end of the year. According to the president of the bank, by the end of May there should be offers for Banco del Pacífico. We expect more details on this later in the month.
The fallout from the Russian-Ukrainian conflict will unevenly affect the banking sectors of the Middle East and North Africa.
Regionally, countries in the Middle East and North Africa, especially Gulf oil exporters, are expected to experience stronger economic growth due to higher global oil and gas prices which will result in an increase in consumption, exports and real fixed investment expenditure. Even if NPLs increase slightly after the removal of forbearance and COVID-19 support measures, this improvement in the economic outlook will maintain the NPL peaks and give new impetus to the authorities to remove the remaining support measures from the COVID-19 era for banks and bank borrowers. Greater downside risk is present in already fragile economies in the Middle East and North Africa, such as oil importers in North Africa, which will see rising food and energy prices widen. current account deficits together with monetary policy tightening in advanced economies increase the risk of net capital outflows, putting downward pressure on local currencies and imposing serious funding problems. Significant downside risk is therefore present for these countries’ NPL forecasts, and a targeted extension of COVID-19-era forbearance measures, such as those already announced for tourism and SME borrowers in Tunisia and in Morocco, is probable.
Operational liquidity strains in the Nigerian banking sector.
The Nigerian banking sector has been experiencing stress on foreign currency operational liquidity since 2015, following the fall in crude oil prices in 2014 and 2020, given the country’s heavy reliance on crude oil exports. Although crude oil prices have improved, production continues to lag due to operational difficulties, hampering export earnings which are much needed to ease foreign exchange shortages. Contradictory central bank policies are adding to declining investor confidence, further exacerbating FX liquidity pressures in the market, raising concerns about banks’ ability to meet their FX obligations. Encouragingly, the Nigerian banking sector shows a modest proportion of foreign liabilities to total funds at 8.9% in December 2019.
This article was published by S&P Global Market Intelligence and not by S&P Global Ratings, which is a separately managed division of S&P Global.