Business / Economy
Credit bubble hits economy
06 Jun 2011 at 06:57hrs | Views
According to FinGaz Business Editor, Munyaradzi Mugowo's publication on Friday (13 May 2011) Zimbabwe's banking sector, dormant in the first 18 months of dollarisation, has snapped back with an insatiable appetite for risk last seen prior to the country's first financial sector clean-up of 2004, triggering fears of a second round of liquidity crunch inside a decade.
Banking experts are beginning to assert a hybrid type of credit bubble is back, but caution the credit boom does not necessarily signal a robust recovery of the banking sector, as credit creation is narrowly restricted to consumer loans and short-term commercial credit of no more than 180 days in tenure.
The excessive money creation may, however, not lead to an asset bubble unless lending expands to mortgages and investment assets.
In spite of this, the credit bubble has already left an enormous burden on businesses and households living on borrowed time, particularly companies faced with working capital challenges.
Financial reports by quoted companies since dollarisation in February 2009 have shown a general increase in credit-fuelled short-term liabilities, as businesses jostled to borrow to recapitalise operations.
But as the banking industry's loan book gradually increases, incidences of individual and sovereign defaults have also increased, aggravating the vulnerability of the financial system already exposed to the risk of loss because of weak institutional safeguards.
A report by the Reserve Bank of Zimbabwe (RBZ) shows that a little over 60 percent of the industry's loan book has been repaid, while around 34 percent may be written off.
The trend marks a possible return of a liquidity crunch and a contagious banking crisis last seen seven years ago.
Bankers Association of Zimbabwe president, John Mushayavanhu, discounted the potential of a liquidity crunch, but admitted the absence of a credit bureau and an effective lender of last resort posed an enormous risk.
But his deputy, George Guvamatanga, Barclays Zimbabwe managing director, believes it is still too early for banks in the country to have unfettered appetite for risk as the industry is still in transition and grappling with numerous institutional dislocations.
"The journey to the full normalisation of the market remains in progress, and while some steps have already been taken, there remains some way to go," Guvamatanga said in a financial report.
"It is my view that the financial services sector will need to take further steps to strengthen risk management practices through the re-establishment of credit bureaus, implementation of robust risk management frameworks like Basel II and active management of banks' risk appetite in line with the expected consequences of major decisions made."
Zimbabwe's currency switch to multiple currencies in February 2009, robbed financial markets of a credit bureau and a lender of last resort, with the latter re-emerging last year with a leaner purse of just US$7 million injected by Treasury.
Although technical work on a credit bureau and the implementation of the Basel II Accord for risk management started last year, progress has been quite sluggish, paralysing lending and prudential credit risk management.
A credit bureau may be a company or system that collects, collates and disseminates information on the credit profile and borrowing history of individual consumers from multifarious sources, including utilities, assigning a credit score to each loan applicant.
Its absence means a business or household can use one balance sheet or payslip to borrow from more than one bank, increasing the risk of defaults and financial sector asset impairments that could lead to systemic bank failure.
Analysts who believe a second round liquidity crunch may be possible, use growing incidences of defaults and asset attachments to back their argument.
In their view, the trend is likely to grow for two reasons.
Firstly, the bulk of wage-based consumer loans are being channelled towards consumption or the acquisition of luxury assets, particularly cheap used Japanese vehicles, which increase the risk of defaults.
Secondly, the attachment of illiquid assets to recover debts may upset banking institutions' liquidity-asset ratios, recently reviewed upwards after the scrapping of the capital adequacy ratio.
According to Guvamatanga, banks should restrain their appetite for risk and focus on operationalising the RBZ's framework for implementing Basel II Accord to strengthen risk management practices.
Developed by the Basel Committee on Banking Supervision comprising the central banks and regulatory authorities of the world's Group of 10 most industrialised countries, the set of banking laws and regulations give primacy to equity as the primary capital of a bank, relegating deposits and other sources of capital to secondary or supplementary capital.
The RBZ officially adopted the Accord in January this year, replacing capital adequacy ratios, which placed emphasis on deposits as a way of securing the strength of individual banks and the whole industry.
The capital adequacy ratio, which was the most important measure of bank strength under the Basel II Accord, refers to the proportion of non-loanable funds set aside from deposits received by a bank.
The new risk management framework entails that the prescribed minimum equity capital should be composed of paid-up share capital, share premium, audited retained earnings and current year retained earnings verified by external auditors.
These make up what is known as Tier-1 capital.
Banking experts are beginning to assert a hybrid type of credit bubble is back, but caution the credit boom does not necessarily signal a robust recovery of the banking sector, as credit creation is narrowly restricted to consumer loans and short-term commercial credit of no more than 180 days in tenure.
The excessive money creation may, however, not lead to an asset bubble unless lending expands to mortgages and investment assets.
In spite of this, the credit bubble has already left an enormous burden on businesses and households living on borrowed time, particularly companies faced with working capital challenges.
Financial reports by quoted companies since dollarisation in February 2009 have shown a general increase in credit-fuelled short-term liabilities, as businesses jostled to borrow to recapitalise operations.
But as the banking industry's loan book gradually increases, incidences of individual and sovereign defaults have also increased, aggravating the vulnerability of the financial system already exposed to the risk of loss because of weak institutional safeguards.
A report by the Reserve Bank of Zimbabwe (RBZ) shows that a little over 60 percent of the industry's loan book has been repaid, while around 34 percent may be written off.
The trend marks a possible return of a liquidity crunch and a contagious banking crisis last seen seven years ago.
Bankers Association of Zimbabwe president, John Mushayavanhu, discounted the potential of a liquidity crunch, but admitted the absence of a credit bureau and an effective lender of last resort posed an enormous risk.
But his deputy, George Guvamatanga, Barclays Zimbabwe managing director, believes it is still too early for banks in the country to have unfettered appetite for risk as the industry is still in transition and grappling with numerous institutional dislocations.
"The journey to the full normalisation of the market remains in progress, and while some steps have already been taken, there remains some way to go," Guvamatanga said in a financial report.
"It is my view that the financial services sector will need to take further steps to strengthen risk management practices through the re-establishment of credit bureaus, implementation of robust risk management frameworks like Basel II and active management of banks' risk appetite in line with the expected consequences of major decisions made."
Zimbabwe's currency switch to multiple currencies in February 2009, robbed financial markets of a credit bureau and a lender of last resort, with the latter re-emerging last year with a leaner purse of just US$7 million injected by Treasury.
Although technical work on a credit bureau and the implementation of the Basel II Accord for risk management started last year, progress has been quite sluggish, paralysing lending and prudential credit risk management.
A credit bureau may be a company or system that collects, collates and disseminates information on the credit profile and borrowing history of individual consumers from multifarious sources, including utilities, assigning a credit score to each loan applicant.
Its absence means a business or household can use one balance sheet or payslip to borrow from more than one bank, increasing the risk of defaults and financial sector asset impairments that could lead to systemic bank failure.
Analysts who believe a second round liquidity crunch may be possible, use growing incidences of defaults and asset attachments to back their argument.
In their view, the trend is likely to grow for two reasons.
Firstly, the bulk of wage-based consumer loans are being channelled towards consumption or the acquisition of luxury assets, particularly cheap used Japanese vehicles, which increase the risk of defaults.
Secondly, the attachment of illiquid assets to recover debts may upset banking institutions' liquidity-asset ratios, recently reviewed upwards after the scrapping of the capital adequacy ratio.
According to Guvamatanga, banks should restrain their appetite for risk and focus on operationalising the RBZ's framework for implementing Basel II Accord to strengthen risk management practices.
Developed by the Basel Committee on Banking Supervision comprising the central banks and regulatory authorities of the world's Group of 10 most industrialised countries, the set of banking laws and regulations give primacy to equity as the primary capital of a bank, relegating deposits and other sources of capital to secondary or supplementary capital.
The RBZ officially adopted the Accord in January this year, replacing capital adequacy ratios, which placed emphasis on deposits as a way of securing the strength of individual banks and the whole industry.
The capital adequacy ratio, which was the most important measure of bank strength under the Basel II Accord, refers to the proportion of non-loanable funds set aside from deposits received by a bank.
The new risk management framework entails that the prescribed minimum equity capital should be composed of paid-up share capital, share premium, audited retained earnings and current year retained earnings verified by external auditors.
These make up what is known as Tier-1 capital.
Source - FinGaz
