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Unpacking banking sector challenges

I DO not need to remind you that our economy is currently experiencing suboptimal growth, a reflection of the multilayered challenges confronting the economy – principally liquidity problems, capitalisation and working capital shortages, recurrent power outages, uncertainty and generalised low business confidence.

Kipson Gundani

The economy has potential to grow by more than 7% annually, but the wheels of economic activity are evidently slowing down. The need to restore productive capacities, infrastructure rehabilitation and improvement, investment in new technologies, diversification of economic growth sources and key institutional and non institutional reforms, lays the foundation necessary for the recovery of the Zimbabwean economy.

One sector hard hit by this economic mayhem is arguably the banking sector.

The financial services sector plays a critical intermediary role of ensuring that funds are transferred from one place to another in line with international best practices and a sound market liquidity position promotes productivity since companies can access long term funding from banks at affordable rates.

This confirms that the financial sector is the bedrock for economic development by virtue of it being a conduit for payment of economic transactions.

Despite a nascent level of profitability and resilience, and a number of good initiatives by the central bank, the banking sector is marred in myriad of challenges that have caused a couple of banks to lose their licenses recently.

Principal of the reasons has been capital erosion due to losses and insider lending, reluctance by existing shareholders to be diluted by new investors wishing to inject capital, recapitalisation initiatives taking long to be concluded, high levels of non-performing loans and lack of critical mass in terms of revenue to cover high operating expenses.

However, the closure of a number of banks in recent months, the latest being AfrAsia Bank, is likely to put the sectors’ reputation at stake.

Given the sensitivity of the banking sector, any form of negativity can cause shivers and panic mainly amongst the banking public.

In his 2015 monetary policy statement, Reserve Bank of Zimbabwe governor John Mangudya described the obtaining situation as the new normal, arguing that Zimbabwe is settling into the new order of economic development that requires spending less in the new normal living within our means.

In my view, the present day results in the banking industry are primarily a mere manifestation of the effects of an underperforming real economy.

Zimbabwe’s underperforming real economy compounds the liquidity constraints in the economy because there is a symbiotic relationship between the real sector and the financial sector.

A largely well performing real sector builds the financial sector in that it places profits and reserves into the financial system and it honours obligations it has with banks. In turn, a well-developed financial sector essentially builds the real economy in that it can underwrite transactions in the productive sector.

Unfortunately in Zimbabwe these two cogs essential to development are not working in sync.

An industrial sector that is working at only 39% of its capacity is failing to generate enough money to cover production costs, and then have a surplus to place with banks. The ripple effect is that banks are starved of deposits and when lines of credit are extended to the private sector it can hardly pay back. This creates non-performing loans which suffocate the financial sector and starve industry of more lines of credit.

Severe credit rationing to the private sector exists because of various weaknesses in individual firms. The poor state of the economy results in very low creditworthiness issues of individual borrowers. Serious information asymmetries exist between lender and borrower, resulting in poor credit decisions by lenders and inability to pay by borrowers.

Secondly, Zimbabwe remains at the bottom of the factors that affect investor confidence. This defeats any attempt to increase FDI. If the image of the country remains bleak a largely illiquid economy will persist. Zimbabwe’s key indicators on corruption, governance, political stability and rule of law are severely unfavorable in comparison to neighbouring economies.

The third issue is that, the country cannot use Monetary Policy to inject more liquidity into the economy since it does not print the currency it is using. No quantitative easing is possible in Zimbabwe.

The lack of lender of last resort inhibits solvent banks from enjoying some latitude even when they run short of liquid assets. The lack of an effective interbank market has forced each bank to act like its own central bank.

This has seen some banks keeping large liquidity reserves which they cannot lend to other banks as a buffer against unexpected large withdrawals. The cash deficit banks have solvency challenges and cannot access liquidity from the sector.

Banks that are in the greatest need for cash further lack pledgeable assets as collateral against any borrowings they may want from third parties.

The fourth concern is that the financial sector in Zimbabwe is in the fortunate position that there are no reserve requirements.

However, this is not giving any advantage at all to the market since the money multiplier effect is not working for various reasons, including due to bad credit – financial sector bad loans and intercompany bad loans. The private sector is delaying paying each other.

The sector is financing its operations by delaying paying suppliers, and this creates a ripple effect on the market and spills into the financial sector causing bad financial sector credit.

The banking sector in Zimbabwe is full of vulnerabilities, particularly on the portfolio quality side. In a sector bedevilled by an unsound average high level of 15, 92% of non-performing loans (NPLs), six of the smallest banks have suffered from even higher levels of NPLs.

The high cost of operations in the banking sector has resulted in their using interest rates not to equilibrate demand from the real economy but to support balance sheet problems, and squeeze in as much profit as possible from borrowers. This has placed a further burden on borrowers whose revenues are bogged down by onerous interest rates which induce non-repayment and ultimately a loss to the banks.

These articles are coordinated by Lovemore Kadenge, president of the Zimbabwe Economics Society. Email kadenge.zes@gmail.com; cell +263 772 382 852
Kipson Gundani is Chief Economist of the Buy Zimbabwe Campaign.

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