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US dollar boosts banking confidence

BANKS recently started advising clients they are now opening new nostro accounts to cater for cash deposits and incoming funds from abroad.

Enock Rukarwa

The major reason behind this was to separate local US dollars circulating on the RTGs platform and real foreign currency in the form of cash deposits and incoming wire transfers from abroad.

The separation implies that nostro funds circulating on the RTGs platform cannot be withdrawn as cash in the banking hall.

Local nostro initially started as real US dollars through a monetary policy instrument that has now been diluted. This represents one of the ailments eroding banking confidence with the sector now experiencing a long-lived confidence crisis.

The crisis started on the onset of the recession, with the period 2004 to 2008 being the most devastating time characterised by very high levels of inflation and unemployment.

From the 1980s to the late 1990s, Zimbabwe’s financial sector appeared quite sound in terms of capitalisation levels, even though it was not inclusive in the sense that it largely served prime clients, ignoring small and untried clients.

However, weaknesses in the banking sector involving newly established local banks were encountered during the last quarter of 2003 resulting in four institutions being liquidated and nine institutions placed under curatorship.

Cash shortages, withdrawal limits, consistent long queues and bank failures were the new order of the system that weakened confidence.

Closure and the placement of major banks under curatorship further diluted public confidence in the sector. In all of these cases, public depositors were the ultimate victims, in some cases depositors had their account balances written off without receiving a fraction of their deposits.

Speculative behaviour dominated the sector’s activity to the extent of having bank deposit figures that were unacceptable. This led to the freezing of many deposit accounts which in turn intensified the confidence crisis.

The local currency was devalued to the extent that depositors could not be convinced on the use of banking services. Financial crimes such as money laundering went out of range during the same period.

In February 2009, the government introduced a multicurrency system which immediately arrested inflation and brought recovery in the economy.

The introduction of the policy brought a significant measure of stability to the sector and set the course for restoring public confidence in the sector. The banking sector deposits increased by 32% to US$ 4,02 billion between December 31, 2011 and June 30, 2012.

However, the policy gave birth to a number of additional challenges; narrow liquidity topping the list. Thin liquidity was being driven by the country’s inability to attract lines of credit, the absence of a lender of last resort and an interbank market.

In an effort to address the shortcomings of this policy, the Reserve Bank of Zimbabwe increased its requirements for the capital base of banking institutions.

The building of adequate capital buffers by banks was meant to restore confidence, mop up substantial liquidity circulating outside the banking system and support meaningful re-orientation of the economy onto a sustained growth path.

Deepening crisis
The collapse of the formal productive sectors of the economy led to a growing informal sector that in turn reduced demand for formal bank lending.

In response, banks tried to hedge themselves by shifting asset composition towards short-term low-risk securities (Treasury Bills) and limiting loans to the private sector.

The objective was to maintain liquidity, as it was not possible to achieve real profitability because of highly negative real rates of interest on government securities amidst hyperinflation. However, this protection was threatened by the actions of the RBZ whereby it lengthened maturities of Treasury and RBZ bills and thus exacerbated the negative real interest rates being earned.

Prior dollarisation
Initially, dollarisation had severe negative effects on banking business. Due to the low confidence in the banking sector, the public kept their foreign currency transactions outside the formal banking system.

This led to a sharp decline of bank revenues as the banks’ traditional sources of income such as interest income, Treasury Bills and government bonds, as well as sources of funding or liquidity including inter-bank funding, RBZ liquidity support, customers’ deposits and the use of Treasury Bills as trading assets, were no longer available.

Confidence creation
There is a need for the banking authorities to come up with policies and structures that can help boost transparency of the banking system. If the banking authorities are able to enhance banking structures thereby making them more transparent, confidence can be restored by a substantial margin.

One of the major challenges that have always existed is the principle agent problem. As long customers are not convinced of banking system commitment in serving their emotional needs, trust will remain a pie in the sky.

The kind of relationship that exists between banks and customers is vague in that one leaves their deposits in the custody of another in exchange for a document or certificate.

Trust is what holds the relationship. It is therefore necessary for the banking sector to enhance that relationship by showing enhanced commitment.

There is also a need for regulators to come up with policies that discourage unscrupulous banking practices and develop deterrent punitive measures. Economic headwinds are major fundamentals that diminish banking confidence and pragmatic commitment on these structures is crucial.

Individual expectations about the general economic conditions and other economic indicators are likely to improve if there is realisation that authorities are seriously taking measures to improve economic conditions.

Good expectations
Banks have to make deliberate efforts to make their structures transparent and gain committed customers. For example, banks may explain how charges are accumulated thereby creating knowledge of reasons thereof. If customers understand banking processes and challenges, confidence can be gained easily.

Banks also need to show commitment in service delivery in order to enhance customer confidence. Poor service delivery may mean the bank is struggling to speak to the less informed customers who usually constitute the majority.

Management should ensure that service delivery is in line with the overall strategy of the bank that seeks to improve the image of the organisation.
Rukarwa is a research and investments analyst.

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