Economic reforms have cleared the path for modern financial practices

The traditionally small banking sector is undergoing an extraordinary burst of growth as economic reforms and the lifting of sanctions are leading households and businesses to modernise their financial practices. Bank deposits and credit have been growing at more than 30% a year, even after adjusting for inflation. And in a breakthrough reform in October 2014, the Central Bank of Myanmar (CBM) announced it would issue limited bank licences to nine foreign banks.

Handwritten record-keeping is being replaced with computers and digital networks, the use of bank accounts is becoming more convenient and better trusted, and bank financing of automobile purchases is booming. But the sector is still far from driving broad economic growth as banking systems do in modern economies. Most types of lending are tightly restricted, and it remains unclear how soon much-needed regulatory reforms will be made.

Turbulent History

Banking in Myanmar has a turbulent history. In its earliest stage during the colonial era, banking was relatively advanced for the region and highly internationalised. But after a socialist military coup, all foreign and domestic banks were nationalised in 1963, and then merged in 1970 into a single state bank. That consolidation was then partly reversed in 1975, when the sector was split again into a central bank and three state banks: Myanma Economic Bank, Myanma Foreign Trade Bank and Myanmar Agricultural Development Bank. A fourth state bank, Myanma Investment and Commercial Bank, was added in 1990.

In 1992 the sector was opened up to private banks, and a flurry of new for-profit banking formations and rapid growth got under way. By 1997 there were 20 for-profit banks in the country, which collectively held about two-thirds of bank deposits. In Myanmar all profit-seeking banks are customarily referred to as “private banks”, although approximately half are owned by the government or military. Likewise, “state banks” customarily refers to the four original state banks, not to the government- or military-owned for-profit banks.

The rapid growth ran into trouble, however, mainly due to the government’s loose fiscal policy, which created chronically high inflation. At the same time, interest rates on bank loans were capped at low levels. Banks therefore preferred inflation-hedged investments in real estate and shunned the productive sectors, which made them vulnerable to real estate market declines. Myanmar banks were set back by the 1997-98 Asian financial crisis, and were then hit even harder after a number of Ponzi schemes, which had promised returns above inflation, collapsed in 2002. The repercussions spread to real estate and banking, culminating in a general run on the banking system.

The government responded to the 2003 crisis with forced consolidations of failing banks and a severe tightening of regulations on lending. Bank lending was strictly limited to loans collateralised by gold, land or buildings – a restriction that remains largely in force today, although it has been slightly liberalised to allow some other commodities to be used as collateral.

Growth has picked up again since 2010 as hire-purchase financing of consumer durables was again allowed and several major conglomerates formed new banks and invested aggressively. Bankers told OBG the biggest share of lending growth has been in hire-purchase financing of personal automobiles.

A key reform in 2013 gave independence to the CBM, which until then had been directly controlled by the Ministry of Finance and Revenue. Fiscal policy and inflation have also improved as the government has reduced its deficits and begun financing them partly with bond issues, reducing its traditional reliance on central bank monetary emissions. The CBM rate has been 10% since 2012, while inflation has averaged around half that rate since 2013. Deposit and loan rates are still capped, with an 8% floor on deposits and a 13% cap on loans.

Catching Up

The volume of bank deposits relative to GDP is rapidly catching up to regional standards. According to an IMF projection published in October 2014, deposits were expected to reach MMK22.2trn ($22.2bn), or 35% of annual GDP by March 2015. That figure is up from MMK11.7trn ($11.7bn) of deposits, or 24.5% of GDP in March 2013, and from just 5% of GDP in 2004-08, according to IMF data. Regional peers such as Laos, Cambodia, Indonesia and the Philippines had deposit-to-GDP ratios in the 40-50% range at the end of 2013, according to the IMF.

“Optimism is clearly on the rise, and this has resulted in increased banking confidence, which can be seen in the dramatic rise in deposits,” Moo Sun, COO of AYA Bank, formerly known as Ayeyarwady Bank, told OBG.

However, Myanmar banks have further to go when it comes to extending credit to the private sector. Bank loans were projected to reach MMK10.3trn ($10.3bn), or 15% of GDP by March 2015, up from MMK5.2trn ($5.2bn), or 10.2% of GDP in March 2013, and from less than 3% of GDP in 2004-08. The Philippines had the next-lowest loans-to-GDP ratio in the ASEAN bloc at 25% as of 2013, while Laos, Cambodia and Indonesia had loans-to-GDP ratios in the 35-50% range.

The four not-for-profit state banks are largely responsible for the low lending volumes, as they collect a large portion of deposits but extend very little credit to businesses or consumers. As of March 2012, the latest data available from the CBM, the four state banks held MMK2.7trn ($2.7bn), or 39% of total banking system deposits, but had made just MMK292bn ($292m), or 9% of total banking system loans. That is an average loan-to-deposit ratio of just 11%.

By contrast, the 19 for-profit banks that were operating as of March 2013 had an average loan-to-deposit ratio of 65%, reflecting their far greater readiness to lend to businesses and consumers. Furthermore, the for-profit banks’ average loan-to-deposit ratio was dragged down by ratios below 50% at some state-owned for-profit banks, while some state-owned banks lend as actively as their privately owned peers.

For-profit banks grew rapidly in FY 2012, increasing deposits by 51% from MMK4.3trn ($4.3bn) in March 2012 to MMK6.5trn ($6.5bn) in March 2013. Their loans increased by 45% from MMK2.9tn ($2.9bn) in March 2012 to MMK4.2tn ($4.2bn) in March 2013.

Private Banks

As a group, privately owned banks are growing quicker than their state-linked peers. Of the 19 for-profit banks operating as of March 2013, the 10 privately owned banks held 61% of for-profit bank assets. Two banks controlled by government-organised associations held 17% of assets, two banks controlled by military holding companies held 15%, three ministry-owned banks held 6% and two city-owned banks held 1%. By 2014 the number of for-profit banks had grown to 23, of which 11 were privately owned, five ministry-owned and three city-owned.

Competition among for-profit banks is intense, with several mid-sized privately owned banks expanding aggressively. The top four banks as of March 2012 all lost market share during FY 2012, according to central bank data. By far the largest, Kanbawza Bank is run by U Aung Ko Win of the Myanmar Billion Group conglomerate. The bank slipped from 34.6% of for-profit bank assets in March 2012 down to 32.6% in March 2013.

Meanwhile, military-owned Myawaddy Bank fell from 14.3% to 11.4%, while Cooperative Bank, owned by a government-formed cooperative and run by U Khin Maung Aye of the KMA Group, slid slightly from 11% to 10.8%. Global Treasure Bank, owned by government-organised livestock and fisheries associations and linked to U Khin Soe of Anawar Hlwam Company, dropped from 7.8% to 6.5%. On the up were three mid-sized private banks linked to major conglomerates.

Myanmar Apex Bank, controlled by U Chit Khaing of Eden Group, rose from 5.4% of for-profit bank assets in March 2012 to 6.9% in March 2013. AYA Bank, run by U Zaw Zaw of Max Myanmar Group, climbed from 4.3% up to 6.2%. Asia Green Development Bank, which was reportedly sold in July 2014 by U Tay Za of Htoo Group to a grandson of former Myanmar socialist military dictator U Ne Win, rose from 4.5% to 4.8%.

Reforms Delayed

As the sector continues to develop, the need to ease tight regulations is becoming increasingly urgent. One of the most limiting restrictions currently in place is the requirement that all loans be collateralised, which especially holds back lending to domestic small businesses. Generally, only large business groups own property or hold long-term leases that can be used as collateral. The total value of property that can be posted as collateral must be at least twice the amount of the loan itself.

As a result, small and medium-sized enterprises (SMEs) that need credit to grow typically pay exorbitant interest rates to borrow from informal loan sharks. As of December 2014 the only permitted loans to small businesses lacking collateral were very small microfinance loans and state loans to small farmers, and a limited volume of subsidised SME loans made by the Small & Medium Industrial Development Bank, a for-profit bank owned by the Ministry of Industry.

The SME loans are offered at 8.5% interest, well below the usual 13% rate on commercial loans. But as of May 2014 only MMK10bn ($10m) of such loans had been made, and the government was planning to finance only another MMK10bn through 2015, according to a report in Myanmar Business Today.

Banks have lobbied for years to be allowed to lend to businesses based on cash flows, but authorities have been reluctant. The collateral rules also effectively prohibit bank financing of most residential home purchases, as apartments and condominiums cannot be used as collateral, and private houses can only be used as collateral if the borrower already owns the house.

Banks operating in the country face other onerous restrictions. Most loans are limited to one-year terms, which discourages bank lending for project finance. Hire-purchase financing periods are limited to 70% of loan-to-value and three-year terms, serious limitations for automotive financing. Banks must keep at least 20% of assets in liquid assets, plus in practice a buffer to be sure the minimum is not breached, which reduces the average spread banks earn over deposits.

Joe Barker-Bennett, a consultant at Tun Foundation Bank, told OBG, “It is all about bringing people into the banking system, getting people away from loan sharks, and developing a stronger banking system. Banks in Myanmar have been wrapped up in cotton wool. The central bank now needs to let us grow up.”

The government submitted a draft law in 2013 that could lead to significant modernisation of regulations, but as of December 2014 the parliament’s banking committee was still wrangling over details. The submitted draft would loosen rules but would also strengthen the central bank’s discretionary authority, which the committee has resisted. U Aung Thaung, whose family owns United Amara Bank, heads the committee. The adoption of the law would not immediately resolve all of the crucial regulatory issues, as details would be addressed in regulations issued after by the CBM.

Foreign Entry

One reason the law was delayed was that attention turned in 2014 to the CBM’s decision to award banking licences to foreign banks. Although the move was backed by President U Thein Sein, it was strongly resisted by domestic bank owners. The compromise reached involved giving the foreign banks tightly restricted licences that essentially limit them to servicing the foreign currency accounts of foreign investors. The licences, awarded to nine regional banks in October 2014, were expected to be formally issued in 2015. The CBM has said the licences will limit foreign banks to a single branch each, prohibit them from serving individuals or locally owned companies, and prohibit them from making loans in the local currency.

While the new foreign-owned banks will be allowed to lend to foreign firms in foreign currency, the strict regulatory environment and unclear judicial climate are likely to limit such lending in practice. For example, it is unclear whether a foreign-owned bank would be able to legally enforce a claim on property. Foreign companies operating in Myanmar have traditionally sought debt financing from their home country’s banks or from banks in Singapore, using the parent company to borrow funds and then lend them on to or invest them as equity in the Myanmar subsidiary.

The awarding of licences to foreign banks sets them up for an ongoing lobbying battle with domestic banking groups, as foreign banks are expected to seek to expand their market access while domestic banks strongly resist. For their part, the government and members of parliament are weighing their interest in nurturing domestic banking groups against their desire for a better capitalised banking sector that would more actively drive economic growth. A possible compromise being discussed by the parliament’s banking committee would allow foreign banks to buy stakes in or form joint ventures with local banks (see analysis).

Even without locally licensed foreign banks, it is possible for some bigger Myanmar companies to attract loans from foreign banks. In September 2014 a foreign-owned company investing in mobile telecommunications towers, Pan Asia Majestic Eagle, announced what it described as the first non-recourse, cross-border financing in Myanmar. In a deal arranged in Singapore, the company said it had received $85m of financing from five international banks.

Reaching The Unbanked

When looking at how to expand the banking system’s penetration, bankers divide the unbanked into two distinct groups. The first group is people and businesses who could be profitably brought into standard banking relationships, but who presently avoid banks for a variety of reasons. This includes small businesses that borrow from loan sharks, workers and others who use an informal remittance network known as hundi, and individuals and businesses who prefer to keep most of their operating cash or spending money in safes, because cash is required for virtually all transactions, and trips to the bank to deposit or retrieve cash are inconvenient. Many of these people already use banks but only for savings deposits. With the required reforms and development of internationally widely used technologies such as bank cards and electronic payments, this segment of society could expand its use of banks dramatically.

As of March 2013 there were only 159 deposit accounts per 1000 people in Myanmar, compared to 1173 deposit accounts per 1000 people in Thailand at the end of 2013, according to the IMF. Myanmar has one of the lowest rates of bank lending penetration of any country in the world, with just 1.3 loans per 1000 people as of March 2013, compared to 299 bank loans per 1000 people in Thailand at the end of 2013. The very small number of loans reflects the regulatory restrictions that make large business groups almost the only eligible borrowers in the country.

Daw Khin Mu Mu Myint, the chief business officer at Yoma Bank, told OBG, “People here are still bringing cash to every transaction. If we can move those cash flows into the banking system, there is a huge population of SMEs that we could be financing and helping to grow their businesses.”

The second group of unbanked are people and businesses that, by traditional standards, would be considered unbankable because they live in poor, rural areas where there would not be enough bank clients to justify opening a bank branch. Local banks, entrepreneurs, international development banks and the government are looking at various ways to reach these people without so-called brick-and-mortar investment.

Mobile

Several groups are also working on plans to introduce telephone banking. In Myanmar such services are planned to be offered by or in participation with banks, as the central bank is not expected to allow mobile phone operators to act in place of banks like in Africa. “The telecoms sector will play a massive role in the development of the banking sector in Myanmar. Services such as mobile banking offer the chance to leapfrog many hurdles,” Hal G Bosher, special advisor to the chairman and CEO of Yoma Bank, told OBG.

The most advanced project is myKyat, a mobile money network expected to launch in 2015. Using accounts hosted by First Private Bank, a small private bank, myKyat will work through a network of agents who accept or dispense cash and deliver it to a customer’s myKyat account. The agent system will be familiar due to the already dense network of informal money agents involved in the hundi remittance network. Further development of programmes like this, however, will likely be hampered by still unreliable telecoms infrastructure.

US Pressure

Although most international sanctions on Myanmar were lifted or suspended in 2012, the US government continues to apply limited sanctions as a means of pressuring the Myanmar government to improve human rights and push ahead with political reforms. These limited sanctions matter most to the banking sector, due to the crucial roles played by US institutions in the global financial system. The US has targeted banks with politically influential owners who are deemed close to military leaders. Two private banks, AYA Bank and Asia Green Development Bank, remain under sanctions, but they were issued special licences in 2013 that allow US companies to conduct most transactions with them. As the White House explained at the time, the point of issuing such licences is that they can be quickly revoked if reforms falter.

The sector’s vulnerability to any deterioration in relations with the US was highlighted in October 2014 when new sanctions were imposed on U Aung Thaung ahead of a visit to Myanmar by US President Barack Obama. The White House accused U Aung Thaung of “intentionally undermining” ongoing reforms in a move that was widely interpreted as a warning to Myanmar’s leaders to stop a recent wave of attacks on Muslims by Buddhist extremists. Although the bank owned by U Aung Thaung’s family, United Amara Bank, was not sanctioned, it reportedly lost a significant portion of deposits.

Outlook

Growth is likely to decelerate somewhat from its recent pace as Myanmar’s banking penetration catches up with levels of neighbours such as Laos and Cambodia. If regulatory reforms continue to be delayed, foreign banks remain shut of serving domestic clients, and foreign investors are still barred from investing in domestic banks, growth could begin to slow significantly. But so long as the needed reforms are adopted and the government avoids triggering any re-imposition of sanctions, Myanmar’s banking sector should remain on track to expand rapidly as the economy grows and banking penetration deepens. The space for catch-up growth, especially in lending, is still vast.