Egypt: Uncertain time for banking

Banks may have to adopt a policy of caution over the coming months, waiting to see how the dust settles from Egypt’s long-running political turmoil and how the installation of Mohammed Morsi as head of state will affect the economy and their business.

As with other sectors in the economy, uncertainty over the political situation is spilling over into the banking industry. Banks have become cautious as economic growth has stalled, and a rapidly changing political climate has made it difficult to predict future trends with any degree of accuracy. Lending, particularly to smaller businesses, remains tight, with banks having become highly risk-adverse in the past 18 months, at least as far as credit to the private sector is concerned.

With the country’s economy growing at a somewhat subdued rate – GDP expanded by just 1.8-2% for the 12 months ending June 30, according to data issued by the Ministry of Finance in mid-July – there is some pressure for banks to ramp up lending to support stimulus efforts. However, while the newly elected president may have been sworn in and taken over the office of head of state, deep uncertainty lingers over how stable the political environment will remain.

One such concern is the level of public debt held by many of Egypt’s banks. According to some estimates, more than 60% of domestic credit is represented by public debt, meaning that banks are heavily exposed to any fallout from state default or downgrade. The incoming government will have to deal with at least some of the consequences of this higher state borrowing, with up to $4bn of short-term debt – much of it held by local lenders – due by the end of the year, the result of the interim military government selling bonds to fund measures to ease the economic downturn in 2011.

At the end of June, Standard & Poor’s (S&P) ratings agency said in a note that it was reviewing three of Egypt’s largest lenders, warning that these institutions could have their credit standing downgraded. S&P said that it had placed the three banks – Commercial International Bank (CIB), National Bank of Egypt (NBE) and Banque Misr – under credit watch, which could have negative implications as a result of the major sovereign risk they face, due to heightened political tensions.

“We do not believe that the banks would withstand a scenario in which Egypt defaulted on its obligations,” S&P said in a statement issued on June 27, adding that any ongoing ineffectiveness on the part of the government to address economic, fiscal and external challenges would further weaken Egypt’s indicators.

The agency had already voiced its concerns over Cairo’s sovereign risk on June 25, when it placed its “B” long-term foreign and local currency sovereign ratings for Egypt on credit watch with negative implications, again citing political uncertainties, fiscal and external pressures.

The latest S&P announcement came only days after another ratings agency, Fitch, downgraded NBE and its subsidiary the National Bank of Egypt (UK), as well as CIB’s long-term foreign currency issuer default ratings to “B+” from “BB-” with a negative outlook. In the case of NBE, though state-owned, Fitch warned that while authorities would want to provide support to the lender if it should need it, the ability to provide that support is now limited. While stressing that NBE had retained its strong domestic position, accounting for around 25% of all deposits, NBE and CIB are both somewhat constrained by the national sovereign rating and the risk entailed in holding sovereign debt.

In both cases, the agencies linked their concerns over the banks’ creditworthiness to the political situation, with Fitch saying that, “The need to re-run parliamentary elections will, at the very least, delay the emergence of a workable and inclusive governance structure. Such political uncertainty could weaken confidence and heighten near-term economic and financial pressures facing Egypt”.

At present, there is no suggestion that Egypt is moving toward a default, and indeed, there has been some easing of tension since President Morsi took office. As long as a degree of certainty returns to the political sphere, and a Morsi-led administration can both inspire confidence and implement economic reforms, Egypt’s banking sector should be able to weather any short-term difficulties.