Moody’s Investors Service moved Egypt’s sovereign ratings and ceilings back to stable from negative in a report issued last week.
Moody’s ratings reflect the rating agency’s outlook on fundamental credit conditions in the banking sector into the next year, so this new rating action indicates that the sector should be out of trouble for the time being.
“Today’s rating action was primarily motivated by the easing of inflation in Egypt since its peak in August 2008, the government’s efforts to contain fiscal pressures, and the relative resilience displayed by Egypt’s economy and banking system in the face of recent global economic turmoil, said Tristan Cooper, Moody’s head analyst for Middle East Sovereigns.
Egypt’s rating was changed to negative in June 2008 after persistent problems with inflation and high government deficits resulting from the onset of the financial crisis called the integrity of the banking system into question.
“The original negative rating had to do with Egypt’s currency, high inflation, a widening deficit and high dependence on foreign direct investment, Suha Najjar, managing partner and director of research at Pharos Holding, told Daily News Egypt.
“Of course we had high inflation – the world economy was collapsing. These things have improved now, which is why they have returned the rating to stable, she said.
If high inflation was a symptom of the recession, easily cured by the recovery of the economy, the government’s efforts to control the budget deficit were more strategic.
Moody’s cites the fact that the Egyptian government managed to contain the deficit during the most recent fiscal year at the levels of the previous fiscal year despite upward pressure on expenditures as evidence of the soundness of the banking system.
According to Najjar, however, the government’s ability to manage debt is more a result of high interest rates than fiscal savvy.
“The government hasn’t needed to worry about financing deficits; they knew they had the money because interest rates are high and banks are looking for places to put their money, and they’d rather have it with the government, she said.
Crisis and growth
Egypt’s deficit is expected to increase over the coming fiscal year as tax revenues decline and leftover effects of the financial crisis are made manifest, but Moody’s does not expect this to severely impact the government’s debt ratios as long as nominal GDP growth remains healthy.
Minister of Economic Development Othman Mohamed Othman said Tuesday Egypt is expected to see an economic growth rate ranging between 5.3 and 5.5 percent in the 2009/2010 fiscal year.
The country’s economic growth came in at 4.7 percent in fiscal year 2008/09, Othman said, above forecasts of a 4.5 percent growth rate.
Also in Egypt’s favor in the most recent ratings is the fact that the local banking sector has been resilient to the effects of the global economic crisis, a positive indicator for the growth of the sector into the future.
Analysts have cited the country’s moderate level of openness, diversified economy and stable, if underdeveloped banking system, as reasons for its relative immunity from global recession.
“The system is sound because it is still a very conventional sector; it is an under banked environment lacking in credit appetite, Najjar explained.
“The only thing Egypt’s banking system has suffered due to the recession has been a low demand for credit. Because the system is basic, we didn’t have a problem with toxic assets and instruments that other economies had to deal with, she continued.
According to Moody’s, Egyptian banks have remained resilient due to the unsophisticated nature of the banks’ product offering, the banks’ strengthening balance sheets aided by the reforms, their minimal dependence on market funding, ample liquidity and conservative investment policies, moderate credit growth; and strengthening bank supervision, MENA reported.
Looking ahead
Egypt’s banking sector does not exist in a bubble, and the conservative policies that have preserved health in one sector, could serve to stunt the growth of the economy as a whole if continued.
For Najjar, the issue of Egypt’s continued economic growth as a whole is tied up in what the banking system will do next.
“Banks in Egypt have always been conservative, but they’ve become super conservative as a result of the crisis. We need them to inject money into the system to stimulate growth but so far they’re not doing that, she said.
The Central Bank of Egypt’s ongoing program of reforms could be the key to balancing fiscal conservatism with progressive policy.
Recent reforms have bolstered the health of Egypt’s banking sector and helped see it through the financial crisis.
“The stable outlook for the direction of credit conditions in the Egyptian banking system reflects the considerable progress achieved in the Central Bank of Egypt reform program, which has led to sector consolidation. This reform has also helped banks address the issue of the high level of legacy non-performing loans and the ongoing financial and managerial restructuring of state-owned banks, said Constantinos Kypreos, Moody’s vice president-senior analyst, and author of the report.
Currently, the Central Bank’s reform program has entered its second phase, which is focused on enhancing access to finance, enforcing implementation of corporate governance rules in the banking sector, and setting profitability and efficiency benchmarks for the state-owned banks.
According to Najjar, the financing piece of the next phase of reforms is key to the development of the sector and the economy as a whole.
“A lot of money came into the system and we had record growth and deposits. The amount of money in the banking system was the same as in the economy, which was positive, but financing charges are high, she explained.
Reforming Egypt’s state owned banks is also an important part of the agenda. Currently, Moody’s recommends a ratings distinction between public and private banks due to their varying levels of financial soundness.
Egypt’s three state-owned commercial banks, National Bank of Egypt, Banque Misr and Banque Du Caire, currently account for about 43 percent of the sector’s total assets.
While these banks are major players and have high market shares and solid funding franchises, Moody’s says they still display generally weak financial fundamentals as a result of low profitability and low core capitalization.
Reforms are improving the financials, risk management, processes and systems of Egypt’s rated state-owned banks, Moody’s acknowledges, but they caution that eliminating banking system bureaucracy takes time.
Meanwhile, leading private sector banks in Egypt, though smaller in size, are well managed with more sophisticated systems and procedures that allow them to produce better financials.
For this reason, Moody’s predicts a continued differentiation in ratings between private and state-owned banks for the foreseeable future.
Despite its improved outlook, Egypt’s banking sector is not without challenges. In order to continue developing, the industry will have to face several issues, including high lending concentrations, mismatches in the maturity of assets and liabilities and weak financial fundamentals of state-owned banks.
Though the most recent Moody’s Investors Report examines Egypt’s banking sector in great detail, industry insiders know that what the future will bring is never certain.
For her part, Najjar says that the points presented in the report are common knowledge in the industry, and don’t represent a breakthrough success formula for the local banking sector.
