Egypt’s revolution of 2011 may be over, but the lingering fallout has continued to force the banking sector’s regulator, the Central Bank of Egypt (CBE), to maintain a proactive stance in addressing potential weaknesses – something it has done with success over the past few years. Faced with a rapidly deteriorating economic scenario, it moved quickly to safeguard banks by implementing a range of temporary measures, including shutting their doors for a week and putting in place withdrawal limits of LE50,000 ($7100). Having succeeded in preventing a bank run, it thereafter focused on monitoring foreign exchange transactions, and during 2012 and 2013 it put in place a number of limits on outbound transfers as a means to protect the Egyptian pound.
The last year has seen a degree of stabilisation return: after falling tourism revenue and a decline in foreign direct investment, the Egyptian pound depreciated by 15.9% in 2013, but this precipitous drop was halted by significant inflows of Gulf aid in June 2013. “In its efforts to reduce the current account deficit, the government must rationalise subsidies, improve the tax and collection system, increase productivity and deregulate the banking sector,” Nevine Loutfy, managing director, CEO and acting chairman of Abu Dhabi Islamic Bank, which saw total assets of LE17bn ($2.41bn) in Q2 2014, told OBG.
The subsequent improvement in investor sentiment has restored confidence in the currency to such an extent that in January 2014 the CBE felt it was time to relax its control on foreign currency transfers to allow individuals to make a one-time transfer of up to $100,000. This measure, which applies to the 2014 fiscal year, has been welcomed by the sector for its facilitation of bank dealing and customer needs. It also heralds a return to normalcy for the sector after two years of extraordinary measures. Furthermore, with the prospect of a sustained period of stability under Egypt’s new government now looking like a real possibility, it is likely that the CBE will at last be in a position to reduce its focus on short-term measures and return to the longer-term process of major sector reform.
Despite recent political and economic upheavals, the financial soundness indicators of Egypt’s banking sector remain robust. As of March 2014, according to CBE data, the aggregate capital adequacy ratio for the sector stood at 13.7%, comfortably in excess of the 10% minimum that the CBE asked banks to maintain from December 2012, and well in advance of the 8% required by the Basel Committee. At the same time, non-performing loans, declined from 10.5% in 2011 to 9.3%, although this still represents an elevated level compared to some regional peers. At the same time, the loans-to-deposits ratio of 41.5% suggested a comfortable credit position with plenty of room for expansion.
The sector’s ability to have successfully emerged from this difficult period with such sound fundamentals is testament to the regulator’s long-term strategy of banking sector reform. Having undergone a hiatus in the post-revolutionary period, the CBE is now widely expected to resume this agenda.
The process began in September 2004 and was carried out in two broad phases, overseen by the CBE’s banking reform unit. The first stage, or regulatory restructuring, concentrated on creating a stable and sustainable banking sector better suited to serving the needs of the wider economy.
To meet these objectives, the CBE undertook a number of measures, including increasing minimum capital requirements, setting higher capital adequacy ratios, introducing reforms aimed at improving asset quality and establishing a more conservative provisioning regime for the sector.
The CBE also initiated a process of restructuring in the leading commercial state-owned banks: the National Bank of Egypt, Banque Misr and Banque du Caire. The development saw the introduction of new management and departments, and extensive reform of banking practices to comply with international best practice. This tranche of reform was declared satisfactorily completed in 2008.
Starting in July 2009 the CBE turned its attention to a second phase of regulatory reform. The aims of this effort were three-fold, the first of which was to follow up on the restructuring of the state-owned banks, this time with a view to enhancing efficiency in terms of financial intermediation, IT, risk management and human resources. The second objective is to prepare and implement a programme for the financial and administrative restructuring of a number of specialised state-owned banks (the Principal Bank for Development and Agricultural Credit, the Egyptian Arab Land Bank, and the Industrial Development & Workers Bank of Egypt). Finally, the CBE aims to apply Basel II standards to the sector. This final plank of reforms is intended to enhance the management of risk and capital by Egypt’s banks.
Ensuring compliance with the precepts of Basel is a crucial objective for outward-looking banking sectors across the region. The 2009 inking of a protocol agreement between the CBE, the European Central Bank and seven European central banks was indicative of the importance with which the regulator viewed the issue. The agreement established a three-year technical assistance programme that ran alongside the CBE’s implementation strategy, which envisioned a gradual introduction of Basel protocol in four phases: improving the technical skills of the CBE’s core team and devising a strategy for Basel II implementation; coordinating with the banking sector through discussion papers as to the most appropriate methods of Basel application in Egypt; and fine-tuning the Basel II supervisory regulations.
As the CBE went about its implementation process, the guiding framework of Basel was itself undergoing serious change. By 2011 the Basel Committee on Banking Supervision had agreed on a new standard – Basel III – that responded to perceived deficiencies in financial regulation to set new capital, liquidity and leverage requirements, to be applied by 2019. In response, the CBE elected to consider the Basel III precepts while making the arrangements for the application of Basel II, “in order to facilitate their future adoption in the Egyptian banking sector”.
The CBE’s decision at the end of 2012 to set a 10% capital adequacy ratio was made within the framework of its Basel implementation process. The other major requirement made of banks was that they submit their data to the CBE both in the traditional format in terms of capital adequacy and according to the new regulations formulated by the CBE to comply with Basel reporting criteria. This dual-reporting process remains in place as of 2014, while the CBE assesses the accuracy of the reporting system and any issues arising from the data it receives.
The turbulence of the past three years has undoubtedly slowed the CBE’s implementation of its localised Basel rules, and the sector is currently awaiting detailed instructions on the second pillar of Basel’s requirements concerning concentration, liquidity, and interest rate risks in banking portfolios. The final implementation of the Basel III regulations will thus remain at the centre of Egypt’s banking reform process for some time to come.
The sector received an indication of the CBE’s other regulatory priorities for the short term during the People and Banks Conference held in Cairo in June 2014. Having expressed his satisfaction at the banking sector’s financial soundness, Gamal Negm, the deputy governor of the CBE, said banks would be well served to move towards greater financial inclusion by increasing their range of retail services for individual customers. Negm also highlighted the need to extend inclusion efforts by achieving greater geographic reach through small bank branches and online banking services and by raising financial protection measures for existing consumers. He also suggested that banks should diversify their portfolios away from a reliance on Treasury bills.
The most significant regulatory or legislative change to affect the sector over the last year has come from a quarter beyond the CBE’s control. In November 2013 the Cabinet passed a new maximum wage law, to be applied to all employees in the administrative body of the state, local government servants, and employees in the various economic, national and general authorities. After a period of negotiation with interested parties, by the summer of 2014 the maximum monthly wage for these groups was set at LE42,000 ($5964).
While this decision is in keeping with the 2014 constitution’s demand to establish a “maximum wage for all state actors”, the law is likely to have negative consequences for the sector due to the prominent role played by public sector banks. Management of these institutions, which has played a crucial role in sector reforms since 2004, will find it difficult to resist offers from the private sector. This, in turn, could hamper the CBE’s ongoing efforts at institutional reform.