The decision by authorities to embark on a programme of monetary financing towards the end of 2017 marked somewhat of a turnaround in a difficult year for Algeria’s banks. A competitive dynamic has remained in recent years, with no new entrants, exits, mergers, acquisitions or privatisations of note. In fact, early 2018 saw the government announce that it was backtracking on plans to float one or more of the state-run banks on the local stock exchange (see Capital Markets overview). The state’s insistence on maintaining the “51:49” investment rule, which prohibits foreign investors from holding majority stakes in Algerian businesses, remains a barrier to both the import of capital by existing financial institutions and the entrance of new foreign banks. Efforts to improve financial inclusion are under way; however, attempts to grow the banking sector through the mobilisation of domestic resources have been dampened by Algerians’ strong cultural preference for cash and a certain distrust of financial intermediaries. Still, it is also hoped that the opening of Islamic windows in the main banks will boost penetration (see analysis).
Public Banks
Of the 20 banks operating in Algeria, six state-run banks retain the lion’s share of the market, accounting for nearly 90% of the total AD14.1trn (€102.4bn) in sector assets at the end of 2017. Of these, Banque Extérieure d’Algérie (BEA) was the largest, holding 22.1% of the market with assets of AD3.1trn (€22.5bn), an increase of 21.2% on 2016. Although recent years have seen BEA diversifying its assets, the bank’s bottom line is closely linked with the performance of the hydrocarbons sector, given that it is the bank of Sonatrach, the national oil company. In second place was Banque Nationale d’Algérie (BNA), the first national commercial bank to open in Algeria in 1966, with AD2.8trn (€20.3bn) in assets and 20% of the market. State-run banks also include Banque de l’Agriculture et du Développement Rural (BADR), Crédit Populaire d’Algérie, Caisse Nationale d’Epargne et de Prévoyance (CNEP) and Banque de Développement Local. Given the relatively small size of both the private banks and the limited role played by the capital markets (see Capital Markets chapter), state banks are the primary financiers of investment in the country. They have enjoyed capital injections from the state in recent years, while the authorities’ decision to engage in monetary financing from late 2017 onwards has injected large amounts of liquidity into the system, allowing them to grow their balance sheets steadily through 2018.
Private Banks
Private banks, all of which are foreign-owned, held the remaining 10% of sector assets in 2017. Of these, 10 are wholly owned subsidiaries of international banks, three are branches and one is a joint venture. French-headquartered Société Générale established a fully-owned subsidiary in Algeria in 1999 and has since become the largest private sector bank operating in the country with assets of AD353.3bn (€2.6bn) at end-2017. Gulf Bank Algeria, a subsidiary of the Burgan Bank of Kuwait, has also built up a large presence in the country since it entered the market in 2004. It enjoyed particularly strong growth in 2017, expanding its balance sheet by 35.6% to reach AD256.9bn (€1.9bn) in 2017, and leapfrogging into second place. France’s BNP Paribas registered assets of AD248.9bn (€1.8bn) at the end of 2016, according to its latest annual reports. Other private banks include Bahrain-headquartered Al Baraka, which was established as the first Islamic bank in the country in 1991 as a joint venture with the state-run BADR. This was followed by Al Salam Bank, also Bahrain-based, which entered the market in 2008 to become the second Islamic bank operating in Algeria.
Even though restrictions on private sector banks financing state-owned enterprises (SEOs) were lifted recently, an ongoing reluctance among SEO executives to engage with them means that private banks continue to focus almost exclusively on the private and external sectors. In any case, their relatively small lending capacity restricts the extent to which they can compete with larger public banking institutions for contracts.
There are also restrictions placed on foreign-owned banks that act effectively as barriers to importing capital. Some industry players have pointed to the 51:49 investment rule as one of the things holding back foreign direct investment into the banking sector. Limiting the regulation to only strategic industries, such as the oil and gas, water or electricity sectors, could be a move in the right direction. Furthermore, reducing foreign exchange and capital transfer controls could help attract more foreign investors.
Penetration
Prior to 1990, domestic credit to the private sector was approaching 70% of GDP. However, the civil war period and the central economic role that the state played thereafter saw a collapse in private sector credit, which bottomed out at less than 4% of GDP in 1997. This was followed by a slow but steady recovery to 24.4% of GDP as of the end of 2017, although it was still relatively low by regional standards, with Morocco and Tunisia registering 63.3% and 85.6%, respectively. Indeed, domestic credit to the private sector only accounts for about half of all lending in Algeria.
According to data from the IMF, total credit to the economy had increased from 38.3% of GDP in 2014 to reach 47.4% of GDP as of the end of 2017, although it is projecting little in the way of further credit growth in the coming years against what they expect to be a challenging macroeconomic backdrop.
Performance
Algerian banks remain relatively profitable, despite declines in return on equity (ROE) at both public and private sector banks. State banks typically perform better on this measure, due to their ability to operate with lower levels of capital than their private sector counterparts. Across the sector, ROEs continued to fall in 2017, with public banks seeing figures decline from 19% to 18.7% and private banks from 15.2% to 14.7%. The underlying trend can be explained to a large extent by the increased levels of capital that both have taken on in recent years.
With regard to return on assets (ROA), aggregate profitability has been relatively stable at around 2% over the past decade, measuring exactly 2% in 2017. Here, there are divergent trends between public and private sector banks, however. Private sector banks have historically been more efficient at converting their assets to profits, with ROAs at or above 4.5% during the 2010-12 period, for example. Although this advantage has been fading in recent years as private ROA slipped to 2.6% in 2017. Meanwhile, ROA at public banks improved to a decade-high 1.9% in 2017.
Unsurprisingly, in the face of a challenging economic backdrop, there has been a sustained uptick in non-performing loans (NPLs), from 9.2% in 2014 to 12.3% in 2017. While public banks were working to reduce the burden of legacy bad loans prior to 2014, from 23.6% in 2009 to less than 10% by 2014, they began rising in 2016 to reach 12.9% by 2017. While private banks did not have the same overhang of historical bad loans, they have nonetheless seen their NPL rate double over the past decade, from 3.8% in 2009 to 7.9% in 2017.
Unlike state-run banks, however, private players have managed to reduce the share of bad loans since they spiked in 2015. Speaking to OBG, Rachid Sekak, senior advisor at BRS Consultants, noted that “the spike in NPLs is the result of broad economic weakness, but the construction sector was hit particularly hard”. Although the improved near-term economic outlook may allow for a reduction in NPLs in 2018 and 2019, they are likely to undermine profitability in the longer term with the economy expected to slow again, according to the IMF.
Balance Sheets
Collectively, bank balance sheets are relatively robust, with a capital adequacy ratio (CAR) of 19.6% of risk-weighted assets at the end of 2017, per the IMF. This was up from a low of 16% in 2014, but down from a high of 26.2% in 2009. Public banks continue to operate with lower capital buffers than their private sector peers, but levels in both cases are still relatively high. Capitalisation at private sector banks fell steadily from 35.2% in 2009 to 18.7% in 2017. State banks’ CAR fell from 23.9% in 2009, to a low of 14.9% in 2014, before capital injections from the government helped to prop levels back up to 19.6% in 2017. This marked the first time in recent history that state-owned banks registered higher capital buffers than private players.
Tier-1 CAR across the banking sector bottomed out at 13.3% of risk-weighted assets in 2014, before recovering to 16.3% in 2016 and settling at 15.2% in 2017. Private banks’ Tier-1 CAR dropped steadily from 32.9% in 2009 to 17.9% in 2017, while figures for public banks over the same period remained relatively constant, falling from 15.6% to 14.6%. The decline in Tier-1 capital ratios during 2017 can be explained by the increase in bank asset portfolios through organic credit growth.
There is also evidence that the removal of excess liquidity from the banking system has, over time, seen a reduction in the share of liquid assets on bank balance sheets, as well as with respect to short-term debts. The share of liquid assets fell from 53% of total assets in 2010 to 23.7% in 2017, while the coverage of short-term debts by liquid assets also declined by more than half, from 114.3% to 53.9%, over the same period. These trends are evident across both public and private sector banks, but in both cases have been more pronounced among the state-owned institutions.
Basel Norms
In its May 2018 Article IV consultation, the IMF rated Algeria’s bank regulation and supervision regime as “satisfactory”. Since 2014 Algeria has been operating in compliance with the first pillar of Basel II regulations and is on course to implement elements from Basel III with respect to the CAR and some liquidity requirements. Nonetheless, the country still has some distance to travel towards full implementation of Basel III standards and a macro-prudential regime in-line with international best practices. In particular, the IMF recommended better surveillance of macro-financial linkages in the public sector, more frequent stress tests, the introduction of a countercyclical capital buffer and macro-prudential measures such as loan-to-value limits. The IMF also suggested that authorities develop crisis management processes for the sector and a clear bank resolution framework. More broadly, the IMF also advocates strengthening creditors’ rights, simplified bankruptcy procedures, improved procedures to tackle NPLs and the phasing out of interest rate subsidies.
Central Bank Policy
In October 2017 a key policy change allowed Bank of Algeria, the country’s central bank, to directly finance government borrowing for a period of five years (see Economy chapter). This move reduced the acute funding pressures facing banks and allowed for a modest re-acceleration in credit growth through the early months of 2018. According to BRS Consultants’ Sekak, “It is business as usual in the banking sector, but this stability has been brought about somewhat artificially by virtue of the government’s programme of monetary financing. This injected a lot of liquidity into the system, but it is difficult to say what will happen when these temporary measures end.”
In addition, Le Conseil de la Monnaie et du Crédit, (CMC), a central bank committee, agreed in November 2018 to double the minimum capital holdings required of banks and other financial institutions, in order to increase the system’s solidity, profitability and resiliency to external shocks. Going forward, banks will be mandated to keep AD20bn (€145.2m), while other financial entities will work with a threshold of AD6.5bn (€47.2m).
Credit & Loans
Credit growth remained relatively robust in early 2017, according to the IMF, increasing from AD7.9bn (€57.4m) to AD8.5bn (€61.7m) in the first half of 2017. This was mostly due to an influx of liquidity to banks caused by the government’s disbursement of the hydrocarbons fund, central bank refinancing and the halving of reserve requirements from 8% to 4%. As the year progressed, however, liquidity began to dry up, interbank interest rates rose and credit growth slowed, prompting the government to implement its monetary financing programme. This action restored significant liquidity to the banking system from November 2017 onwards, although it did not immediately prompt an acceleration in credit growth. In January 2018 the Bank of Algeria took action to minimise the impact of its monetary financing on lending and inflation by restoring the reserve ratio to 8%, among other measures. Nonetheless, headline credit growth has remained relatively robust, rising by 5.6%, from AD8.9trn (€64.6bn) to AD9.4trn (€68.2bn) in the first six months of 2018.
Lending to the public and private spheres has largely moved in tandem, and by the end of the first half of 2018 the figure was almost evenly split: AD4.64trn (€33.69bn) to the public sector (including local government) and AD4.77trn (€34.63bn) to the private sector, representing year-on-year increases of 10.7% and 10.4%, respectively. A large part of private credit growth is accounted for by household mortgages. Recent years have seen an increase in state-subsidised mortgages, which support a greater share of the population owning homes and help explain the rapid lending growth in this segment. While all commercial banks offer mortgages, the segment is dominated by CNEP. Mortgage interest rates are capped by the central bank at 7.5%. Speaking to OBG, Nadir Idir, CEO of Arab Banking Corporation, highlighted the segment’s growth potential, noting that “consumer credit is still a relatively new phenomenon, but it is a niche market that is expected to develop quickly over the medium term”.
Financial Technology
Algerian banks are still relatively unsophisticated in their use of digital tools. Even where such services, like bank cards and online payments, have been introduced, people have been slow to adopt them into their habits. Nonetheless, this is an area in which the government has been trying to spur development. Recent legal changes required that all businesses install a remote e-payment terminal by December 31, 2018, with non-compliance incurring a AD50,000 (€363) fine. Internet payment has been possible for a narrow range of public and private sector goods and services since late 2016, but after 18 months of rapid growth, the number of transactions appeared to have plateaued by the middle of 2018 (see analysis).
Inclusion
While many Algerians remain outside the formal banking sector, major progress has been made in recent years: according to the World Bank, the share of the adult population with an account at a financial institution increased from one-third in 2011 to one-half in 2014. Despite further progress in recent years, the authorities still see financial inclusion as a big challenge, not least due to the large amount of cash that still circulates outside of the banking system (see analysis). According to BRS Consultants’ Sekak, about one-third of the money supply is outside the banking sector, circulating or saved as cash.
Small and medium-sized enterprises (SMEs) predominate among Algerian firms, forming the backbone of the private sector; however, SMEs often struggle to access financing. In the World Bank’s “Doing Business 2018” report, Algeria ranked 134th out of 190 countries for getting credit, marking an improvement of 43 places on its 2017. Since its establishment in 2004 the SME Credit Guarantee Fund (Fonds de Garantie des Crédits aux Petites et Moyennes Entreprises, FGAR) has acted to guarantee SME loans issued by the banks. In total, it had backed AD69bn (€500.1m) in loans as of September 2018, supporting 2289 projects and nearly 70,000 jobs. Some 400 SMEs are expected to receive FGAR guaranteed loans during 2018, up one-third on 2017 levels.
Islamic Finance
The authorities’ reluctance to be seen as empowering political Islam, particularly through the provision of a dedicated legal framework, has hindered growth in sharia-compliant finance. “There is still a need to explain that it isn’t confessional finance but real competitive financial tools. The fact that Islamic finance flourishes under other juridical regimes, for instance in Europe, proves this”, Nasser Hideur, general manager at Al Salam Bank, told OBG. Despite this, the market currently hosts two specialist banks – Al Baraka and Al Salam Bank – and most of the country’s largest institutions already operate Islamic windows. “There is potential in this segment as the market already exists,” Mohammed Tifour, general manager at Fransabank, told OBG. “However, banks have been purposely moving slowly, because the regulations need to be made clear before they can really engage with this segment.”
The CMC moved towards providing greater policy clarity in November 2018 by finalising an order for “participatory finance” instruments, outlining procedural, accounting and management requirements and gain approval from the central bank.
Leasing
Long favoured for its compatibility with Islam, leasing has become a viable alternative to Islamic financial products. The segment accounted for 1% of all financial services in 2017, with GDP contribution of AD47bn (€341.2m). There are 76 specialists operating in the country and seven banks also provide such products, though just two providers, Maghreb Leasing Algérie and Arab Leasing Corporation (ALC), dominate the segment. “One of the most attractive features of leasing in Algeria is that since 2007 there has been a tax incentive in the form of accelerated depreciation: two years compared to four or five in the case of a medium-term bank loan,” Abdelhakim Djebarni, director-general of ALC, told OBG.
“Leasing had a tough year in 2017 following the prohibition of the import of the type of vehicles financed by leasing. Following the relaxation of import restrictions at the end of 2017, however, the prospects for 2018 are much better,” Djebarni added.
Outlook
Monetary financing has eased pressure on banks by addressing liquidity shortages. Coupled with the rise in the oil prices through 2018, this measure has also improved the near-term outlook for the economy, investment and credit while stemming the rise in NPLs. These trends should support sector profitability in 2018 through to early 2019. However, if as expected, the government tapers monetary financing and begins to rein in the budget deficit from the second half of 2019 onwards, this could reverse the fortunes of the banks. Meanwhile, forecasts of slower growth after 2019 could also weigh on the finance sector and eventually propel the authorities to revisit the 51:49 investment restriction, making the market more attractive for new international entrants. Either way, clarifying the legal regime for Islamic financing should allow the sharia-compliant segment to play a greater role in future.
Read More from OBG
