Regulatory reforms seek to drive development across Algeria's financial sector

Algeria’s banking sector is characterised by low intermediation and penetration rates, although both have increased dramatically in recent years thanks primarily to ample liquidity stemming from abundant hydrocarbons revenues. The sector’s regulator, the Bank of Algeria (BoA), has licensed 20 banks – including six public banks that essentially dominate the sector. There have been no new entrants to the market since 2008.

In light of the rapid decline in hydrocarbons receipts in late 2014, prompting the country’s first current account deficit in over a decade, Algerian authorities have accelerated implementation of planned reforms and announced new measures to empower the banking sector to finance broad-based economic development. These include reorienting banks away from lucrative import financing in favour of increased lending to domestic producers. In 2015 authorities also took important steps to integrate the very large informal economy into the formal financial system. Today Algeria’s banks are eagerly seeking new revenue streams as they adapt to the demands of an evolving macroeconomic climate.

Market Indicators

The BoA listed total banking sector assets at nearly AD12trn (€110.4bn) at year-end 2014, an expansion of 16.3% over the previous year. That growth rate is substantially higher than in past years; assets rose by 6.9% in 2013 and 7.2% in 2012. However, assets grew by only 2.5% to AD12.3trn (€113.2bn) in the first half of 2015 as banks worked to adapt to new external challenges driven by the decline in hydrocarbons revenues.

Bank assets at mid-year included AD825bn (€7.6bn) in government bonds, AD3.68trn (€33.9bn) in outstanding loans to the public sector and AD3.39trn (€31.2bn) to the private sector. According to the BoA, short-term loans comprised 24.3% of the total lending to the economy at mid-year, down from 26.2% a year earlier. Intermediation rates have traditionally been low in Algeria, lagging far behind rates in neighbouring Morocco and Tunisia. But after a 20% expansion in 2013, credit provision leapt by 26% year-on-year (y-oy) in 2014, reaching 51.7% of non-hydrocarbon GDP; a nearly 8 percentage point rise. While not as dramatic, loan growth has stayed strong in 2015, reaching 8.7% in the first half of the year. The recent expansion in credit provision, coupled with concerted efforts by regulators, has helped to reduce Algeria’s non-performing loan (NPL) ratio, which reached as high as 65% in the early 1990s, driven largely by bad loans to insolvent state-run enterprises. According to the IMF, NPLs comprised 10.6% of total outstanding loans in 2013. Of these, a majority were held by state-owned banks, and 72% were provisioned.

At mid-year 2015, bank liabilities included AD4.01trn (€36.9bn) in demand deposits and AD4.31trn (€39.7bn) in fixed-term deposits, representing less than 1% y-o-y growth for demand deposits but a 9.7% rise for fixed-term deposits. Bank deposits in foreign currency rose to the equivalent of AD444bn (€4.08bn) as the BoA allowed the dinar to depreciate to historic lows in the first half of 2015.

Limited access to retail financial services has long been a challenge. According to the World Bank, Algeria had 5.1 bank branches per 100,000 adults at year end-2013, a significantly lower density than Tunisia’s 18.3 or Morocco’s 24.4. With most branches clustered in major cities along the northern coast, coverage is particularly sparse in the country’s vast interior regions. Nonetheless, in 2014 bank account penetration among adults reached 50.5%, up from 33.3% in 2011. Household saving and borrowing remained low, with only 13.8% of adults having saved and only 2.2% having taken a loan at a bank in the past year.

State-Owned Banks

Algeria’s banking sector is dominated by the state. The six state-owned banks hold 86% of the sector’s assets and represent a full three quarters of its national branch network.

The largest of these by assets, the Banque Nationale d’Algérie (BNA), Banque Extérieure d’Algérie (BEA), and Crédit Populaire d’Algérie (CPA), were established in the 1960s as instruments of socialist central planning and assigned to finance specific sectors of the economy. BNA primarily handled agriculture, industry and trade; BEA was charged with managing banking relations with foreign counterparts; and CPA handled craft trades, tourism, pharmaceuticals and others.

Two more state-run banks trace their origins back to a major sector restructuring in 1982: Banque de Développement Local (BDL) and Banque de l’ Agriculture et du Développement Rural (BADR). The latter is today the country’s largest bank in terms of network, with over 300 branches. The Caisse Nationale d’Epargne et de Prévoyance (CNEP), also founded in the 1960s, remains highly specialised in household savings and mortgage products.

Beginning in 1988, liberalisation of the sector freed the state-run banks to diversify their activities across the economy, but reputation and historical ties with particular clients have kept many relationships between state banks and major public sector clients in place. More recent reforms to public bank management rules in 2008, designed to stimulate growth in the private-sector lending, have had mixed success. According to industry sources, a de facto partial segregation exists between the public and private spheres, with private banks providing about three quarters of total lending to the private sector, and state-run enterprises confining their borrowing exclusively to state-run banks since at least 2009, though no regulation obliges them to do so.

State banks have long carried the overwhelming majority of the sector’s NPLs, though a number of buyback programmes for bad debt have allowed the BoA to alleviate these burdens on the banks’ balance sheets to a substantial degree in recent years. In 2013, NPLs comprised 11.4% of public banks’ loan volumes, of which 67% were provisioned.

Private Banks

Today the remaining 14% of the banking sector’s assets are in the hands of the 14 private banks, all of which are foreign-owned. French banks Société Générale, BNP Paribas, and Natixis are among the private banks with the deepest presence, along with Al Baraka, Arab Banking Corporation and Gulf Bank. Seven foreign banks maintain liaison offices in Algeria. While barred from conducting commercial transactions, these are permitted to facilitate business by corresponding between local clients and their headquarters.

Liberalisation first opened the door for registration of private banks in the early 1990s, and Algeria’s first private bank, Al Baraka, launched in 1991. Several domestically owned private banks were registered, but all folded in the 2000s. The most notable case was Khalifa Bank, which authorities began liquidating in 2003 after huge sums were discovered to be missing from the bank’s books. In June 2015, the bank’s former owner was sentenced to 18 years in prison, asset forfeiture and an AD1m (€9200) fine. Other Khalifa officials also received lesser sentences. “We had a crisis where we saw six national banks close,” Abderrezak Trabelsi, delegate general of industry group Association of Banks and Financial Institutions (Association des Banques et Établissements Financières, ABEF), told OBG. “After that, a period of stabilisation was necessary to get all the right regulations and mechanisms in place,” he added.

Registration of a new bank requires meeting the minimum capital requirement, set at AD10bn (€92m) since 2008, as well as compliance with the 49:51 foreign ownership cap. No new banks, with either foreign or domestic ownership, have been registered since 2008, as the industry has seen a de facto freeze on new licenses in the wake of the Khalifa affair and the global financial crisis. Today, highly liquid banks from the Gulf countries are reportedly exploring expansion to Algeria, and a number of them have requested banking licenses from the BoA.

In spite of the limited asset size and client base of private sector banks, their performance has been impressive. Private banks’ profits make the Algerian market an attractive one to foreign investors. Despite holding just 14% of the market share, private banks have managed to collect about 30% of the industry’s income in recent years, largely thanks to international trade financing. They have also shown a strong willingness to introduce new products, driving the rapid expansion in recent years of leasing, bancassurance, Islamic financing (see analysis) and other profitable niches. Consumption credit to households was another lucrative income stream until the government froze it in 2009, aiming to reign in import spending and encourage domestic production.

Other Actors

Nine other financial institutions also fall under the BoA’s regulatory purview, including a state-owned mortgage refinancer and investment firm, as well as five leasing companies. Leasing has seen strong growth in the past decade, with Arab Leasing Corporation and Maghreb Leasing Association leading the sector. The most significant player outside the officially recognised banking sector is Algérie Poste, the country’s postal service. Although it is not technically a bank or financial institution under local law, since 2001 Algérie Poste has offered basic checking services to retail clients, and today boasts 12m accounts. A project to develop an officially licensed postal bank was unveiled in 2011 but not implemented. In mid-2015, officials announced the project’s relaunch, with an estimated completion date of early 2017. Given Algérie Poste’s network of some 4000 agencies nationwide, expanded postal banking services have the potential to present strong competition to commercial banks and substantially expand banking penetration.

Reorientation

For the last decade, a steady stream of oil revenues, coupled with traditionally low intermediation rates, have provided Algeria’s financial sector with a liquidity surplus. With ample funds on hand, banks could rely solely on the interbank market for their cash needs, without recourse to the central bank’s rediscount window. But with the sharp decline in oil revenues and foreign reserves in early 2015, and the recent uptick in lending, liquidity in the banking sector contracted by nearly 23% in the first half of the year, according to BoA. While most banks remain well above the required reserve ratio – which the central bank has maintained at 12% since 2013 – the BoA has relaxed its long-standing liquidity absorption efforts and has also reopened the rediscount window in anticipation of the need to refinance several banks before year’s end.

In the near term, this need is likely to be more acute among private banks, many of whom have seen a main source of income – trade financing – contract drastically since 2014 as authorities have sought to reduce the country’s import bills.

The imposition, in 2009, of a requirement for letters of credit for all imports proved highly profitable for Algeria’s private banks. Even when the less lucrative documentary collection was reinstated as an alternative means of payment in 2014, profits on trade financing remained substantial. But later that year, the BoA increased the solvency ratio requirement on banks while halving the allowed ceiling on foreign liabilities from four times to two times the bank’s equity. After Algeria ran its first current account deficit in 15 years in 2014, regulators cut that limit in half yet again in August 2015. Further measures to discourage imports have been proposed in the draft 2016 Finance Law, including a new tax on imported goods and a revision of the corporate tax structure to provide breaks to domestic producers.

ABEF’s Trabelsi told OBG that private banks’ portion of trade financing had reached 60% of the industry total and that estimates indicated a potential drop of 35% in private banks’ profits as trade financing dries up. “There is a clear desire on the part of the public authorities to reduce imports,” he said. “Consequently, the existing configuration in the banking sector has been called into question, which has prompted banks to revise their strategies.”

Project Financing

While broader macroeconomic concerns are one of the chief motivations behind the tighter regulations, there is also a push by policymakers to encourage banks to focus on new and more productive lines of business such as small and medium-sized enterprise (SME) financing. While SMEs comprise some 95% of Algerian firms, they have traditionally had difficulties obtaining financing, whether from state-owned banks oriented toward serving state enterprises, or from private banks who view them as overly risky and often impose high collateral requirements. In 2013, banks required some collateral on 79% of loans issued to firms.

The World Bank’s “Doing Business 2016” report ranked Algeria 174 out of 185 countries surveyed on the “getting credit” score, primarily due to a lack of available credit information. Banks must enhance “their capacities to accompany the creation and development of SMEs”, BoA governor Mohammed Laksaci stated in September 2015, though new incentives that would encourage them to make this shift have yet to be revealed. According to Trabelsi, serving SMEs effectively will demand that banks adapt to longer repayment schedules and expand their branch networks to improve clients’ access to services.

This transition is one that many industry operators have anticipated and are working to navigate smoothly. The slowdown in trade financing has surely impacted business, but on the positive side, there is a strong and growing demand for project financing. In the pharmaceutical sector, for example, firms are being asked to first produce if they want to import products, so their investments in new plants are one opportunity for Algerian banks to play a role.

Consumer Credit

Authorities took steps in 2015 to reinstate consumer credit, but it is not likely to represent the windfall it once did for Algeria’s banks. In 2009, the government froze all consumer lending except mortgages in an effort to reign in ballooning import expenditures and household debt, in the process eliminating a revenue stream that had brought banks some AD100bn (€920m) annually. The return of consumer credit, first announced in 2014, will be limited to domestically produced goods according to regulations published in May 2015.

The relaunch of consumer lending did not immediately follow, however. This was delayed to give the BoA sufficient time to revise its business and household credit registry, of Central Credit Registry (Centrale des Risques des Entreprises et Ménages, CREM). The refurbished CREM expands and streamlines lenders’ access to credit information, facilitating both household lending and closing the information gap that has hindered SME financing. BoA governor Laksaci declared the registry operational in September 2015, and after some early technical issues, senior officials confirmed that banks were prepared to restart consumer lending as soon as the Ministry of Commerce finalised the list of products eligible for credit.

Fiscal Conformity

The widespread use of cash has long fed a large informal economy in Algeria, limiting both the government’s tax base and banks’ ability to put savings to productive use through lending. The former minister of parliamentary relations, Mahi Khelil, disclosed in December 2014 that informal actors owed the state some AD5trn (€46bn) in outstanding back taxes. The BoA estimates the amount of cash circulating in the informal sector at roughly AD1trn (€9.2bn).

Aiming to capture some of these funds to compensate for decreased hydrocarbons receipts, the government unveiled several measures in 2015 to encourage informal operators to integrate their activities into the formal sector. In July 2015 the Supplementary Finance Law introduced a “voluntary fiscal conformity” programme whereby individuals could deposit revenues from unrecognised economic activities into a commercial bank account, paying a flat tax of 7% and avoiding legal retribution. Finance minister Abderrahmane Benkhelfa called the programme “a measure of economic and financial inclusion that aims to open the doors to all actors”, while noting that penalties would be levelled against informal operators who fail to declare their funds by no later than December 2016.

These measures to reign in the informal sector follow on similar attempts in the MENA region, notably neighbouring Morocco’s successful 2014 fiscal amnesty programme, which introduced some €1bn into that country’s banking sector. But most of Morocco’s receipts came from abroad, a situation that appears unlikely to be replicated in the Algerian case. The BoA’s managed float currency exchange regime maintains the dinar’s value up to 50% higher than informal sector rates of exchange, and international transfers into most domestic accounts are typically converted into Algerian dinars. Consequently, many Algerians holding funds abroad will likely prefer not to repatriate them and suffer a perceived devaluation, limiting the pool of potential participants to those holding informal earnings domestically.

In addition, public confidence in Algeria’s banking system is still recovering from the Khalifa Bank collapse, in which tens of thousands of clients lost their savings. Finally, according to the local press, the new cashless payment requirements may be encouraging once-legitimate transactions to move off-books, contrary to the measure’s intention.

Outlook

To compensate for lost trade financing revenues, banks will seek to squeeze more profits from traditional services and develop new products such as Islamic finance and leasing. The stable configuration and steady growth in assets and profits that have characterised Algeria’s banking sector since 2008 have ended as policymakers seek to retool the sector to empower development across the broader economy.

Income from import financing will decline further in 2016, and demand for imports will remain high while domestic production capacity slowly ramps up. Not all players are certain to weather the transition, though regulators may decide to license new entrants as a means of increasing competition and pressure for innovation, particularly upon the more conservative state-owned banks.

Recent measures to inject liquidity into the banking sector and state coffers by undercutting the informal sector are likely to meet with only partial success, as informal operators continue to remain wary of participation in formal financial institutions. However, the recent government efforts to address this problem signal a commitment by the authorities to solve this pressing economic issue.