1 per cent
The IMF’s forecast for Egypt’s GDP growth this year
12 per cent
Estimated non-performing loan ratio by December 2011
GDP=Gross domestic product. Source: MEED
In late January and early February, when the political turmoil in Egypt was at its height, the country’s banks repeatedly shut their doors to customers amid fears there could be a run on deposits. After a year of strong growth in 2010, their prospects suddenly looked bleak. When they were allowed to reopen on 6 February, restrictions were put in place to limit the amount customers could withdraw.
Three months on and the measures imposed by the Central Bank of Egypt seem to have worked. The sector has emerged from the turbulent period weakened, but intact, with little sign of depositors rushing to remove their money. But with the country still facing substantial economic and political problems, it will be some time before Egypt returns to normal. As with the economy as a whole, banks are now facing up to a period of lower growth and reduced expectations.
“Bank liquidity was strong so they were able to manage customer demands for cash earlier this year,” says Nicolas Hardy, credit analyst at US ratings agency Standard & Poor’s. “All in all, we haven’t seen any major disruption to the banking system. Now the major issue is confidence, the speed with which the economy will recover and what happens next on the political front.
“Banks are likely to be much more cautious in their lending activity …profits will not be the same as in 2009/10”
Nondas Nicolaides, Moody’s
“The economy is much less dynamic. Banks won’t grow fast this year. There will be lower revenue opportunities and lower profits. Growth in the balance sheets will be in line with gross domestic product (GDP) growth at best. In terms of profitability, it will be much less, due to the lack of opportunities and some additional provisions [for non-performing loans].”
Others share that analysis. In mid-April another US credit ratings agency, Moody’s Investors Service, changed its outlook for the entire Egyptian banking sector from stable to negative. Among the reasons it cited for the downgrade were the economic impact of the continued political unrest in the country and the wider region, as well as banks’ high levels of exposure to Egyptian government debt.
With a military council still in charge of the country, it is clear that the aims of the protesters, who filled Cairo’s Tahrir Square in early February, have not yet been fully achieved. There have been regular, if smaller, protests since then and some sporadic incidents of violence. Full political stability is unlikely to return until the military council hands over power to a freely elected civilian government. This is not due to happen for several months, with parliamentary and presidential elections scheduled to be held in September and November.
Until the political situation is resolved, economic uncertainty will continue. The impact on the country’s economy has already been significant, with receipts from the vitally important tourism industry expected to be sharply down, in tandem with foreign direct investment. Domestic economic activity has also been heavily affected, particularly in the first quarter of the year.
In its most recent statement, released on 28 April, the central bank’s Monetary Policy Committee cautioned that “the current political transformation will continue to have ramifications on both consumption, as well as investment decisions, adversely weighing on key sectors within the economy.”
It is not just internal events that are hurting the local economy. Egypt is also suffering from the unrest in neighbouring countries, in particular Libya. Remittances from the many thousands of Egyptians who had been living and working in Libya have all but dried up.
Results for the first quarter of the year have yet to be released by banks, but when they do emerge they are expected to show the initial impact of all these effects.
“The banks are saying the current situation is manageable,” says Nondas Nicolaides, a senior analyst at Moody’s. “The damage is not so significant, so you will not see a huge impact on the results. What will be impacted will be loan growth and their business prospects during 2011. It will not be the same as in 2010.”
The bigger question for banks is what the longer-term impact will be and how quickly the wider economy might recover, which would allow them to make up for the ground lost in the first quarter. So far, the indications for the rest of this year are not positive.
Predictions for GDP growth have been reduced across the board, with the Washington-headquartered International Monetary Fund (IMF) among the most bearish. In its most recent assessment of the economic health of the region, published in late April, it says the unrest will have ‘a substantial economic cost’ for Egypt. The IMF predicts that real GDP will rise by just 1 per cent this year, compared with 5.1 per cent in 2010.
Egyptian banks are heavily focused on the domestic market for both their funding needs and in their loan activity. This was a significant advantage during the recent global economic crisis as they had little exposure to the problems that afflicted so many of their international peers. At the moment, however, it means there is little they can do to escape the country’s economic and political uncertainty.
“It was really a strength of the Egyptian banks during the global downturn to be focused on local opportunities,” says Hardy. “They weren’t lending outside the country and weren’t exposed to toxic assets.”
So far, banks appear to have convinced depositors it is safe to keep their money inside the country, although data from the central bank suggests that some locals have been moving their deposits into foreign currency accounts.
“As a whole, the deposit base did not shrink,” says Nancy Fahmy, banking analyst at the local Beltone Financial. “However, the banks saw some movement from local currency deposits to US dollar deposits, so there has been some dollarisation. Switching currencies might harm the banks’ margins.”
Of potentially greater concern are the loan portfolios. These are likely to take a hit as some customers will struggle to repay existing loans in an economy that is barely growing, particularly those exposed to the worst affected sectors, such as tourism and real estate.
The banks already suffer from relatively high levels of non-performing loans (NPLs). Across the sector as a whole, it was about 15 per cent in mid-2010, with most of the problems concentrated in the state-owned banks. Several wrote off a large proportion of their bad debts late last year, according to Moody’s, reducing the overall figure for the sector to about 11 per cent, but the ratio may now start rising again.
“Provisioning costs [for NPLs] will go up,” says Nicolaides. “By December 2011, the NPL ratio might creep up to 12 or 12.5 per cent from around 11 per cent in December 2010, but we also expect banks to agree some sort of rescheduling or restructuring of loans with customers facing temporary liquidity problems.”
It will take time for the impact of this to become apparent as there needs to be several months of missed payments before a loan can be classified as non-performing. But even if they can keep the proportion of NPLs under control, the banks are likely to find fewer opportunities to make new loans to customers.
“Banks are likely to be much more cautious this year in their lending activity and so profits will not be the same as in 2009/10,” says Nicolaides.
The poor economic outlook has led to Egypt’s sovereign rating being cut and concerns over the government’s ability to support the banking system, coupled with the high level of government debt held by the country’s banks, have led to a series of downgrades on banks.
This may dissuade some international investors from holding shares in listed banks, but otherwise it is unlikely to have a major impact on day-to-day operations. Instead domestic economic issues will be the critical factor.
“Maybe foreign investors may not be compelled to invest, but the challenges lie here in the country,” says Fahmy. “The growth, the liquidity – that’s the real challenge, rather than what the credit ratings agencies say.”
All this stands in marked contrast to the largely healthy growth rates that Egyptian banks posted in their financial results for 2010. Bank of Alexandria, which is majority owned by the Italian group Intesa Sanpaolo, posted a 22 per cent year-on-year rise in profits to $113m. The rise would have been even stronger were it not for the changes in the value of the local currency against the dollar. In Egyptian pound terms, the bank saw a rise of 30 per cent year-on-year. Similarly, Commercial International Bank saw its profits increase by 12 per cent over the same period to $433m. Both of these banks and others also reported double-digit rises in the value of their assets and customer deposits.
Even during the banking shutdown at the start of the year, there was some optimism that, in the long run, the prospects for the economy and the banking sector would improve with the removal of the old regime. Hisham Ezz al-Arab, chairman of Commercial International Bank, told MEED at the time that the uprising could ultimately prove positive. “Change is healthy,” he said. “Change keeps an institution fresh and that applies for a country as well. Egypt has changed forever and for the better. Now we want accountable people and accountability brings excellence. But we have to be patient.”
Optimism appears to be in shorter supply these days, but patience will certainly still be needed in the coming months. The underlying strength of the banks enabled them to deal relatively comfortably with the political and economic disruption at the start of the year, but the longer problems persist, the harder it will be for them to bounce back and return to high levels of growth.