In early 2016 the Central Bank of Egypt (CBE) introduced new regulations that established maximum loan limits for corporate borrowers and imposed affordability criteria for new retail borrowers.
The new regulations mark a significant macro-prudential advance – international ratings agency Moody’s stated in January 2016 that their overall effect would be credit positive because they will contain the credit risk in banks’ rapidly expanding retail portfolios as well as reduce banks’ asset quality vulnerability that arises from large single corporate customer concentrations – although some of the rules will require burdensome portfolio and asset adjustments by the banks themselves.
Corporate Diversity
Of all the new measures, those relating to corporate lending are the most straightforward, both in concept and in terms of implementation. In early 2016 the CBE introduced new regulations that reduced the upper limit of loans to a single client from 20% of banks’ Tier-1 capital to 15%, and established a three-year grace period for lenders to comply with the requirement.
The move is a direct response to the high degree of credit concentration in the sector, in line with a broader regional trend. The financial stability units of central banks across the Middle East have been studying the problem of borrower concentration risk in recent years, particularly in hydrocarbons-driven Gulf economies, where lending to government-related entities accounts for a significant amount of assets on banks’ balance sheets.
The lending options in Egypt’s economy are more plentiful, with the large number of domestic and foreign corporations present indicating less dependence on government revenues for expansion. However, a 2016 working paper on financial stability published by the IMF nonetheless included the country in its list of oil-importing states that are rendered vulnerable by high levels of credit concentration in sectors that tend to be particularly sensitive to the economic cycle.
Retail Squeeze
The CBE has also turned its attention to the retail lending segment, obliging banks to keep the total premiums on consumer loans below 35% of the total monthly income of customers, after deductions and taxes. In the case of mortgage loans, banks are, however, still entitled to use the 40% cap established by the mortgage legislation of 2001.
These measures have been given a cooler reception by banks, many of which view the regulations as a major hurdle to their plans for retail expansion. A meeting in April 2016 between the CBE and bank chairmen and their respective heads of the risk, retail and small and medium-sized enterprise (SME) operations highlighted some of the concerns regarding the new regulations.
Chief among them was the question of net income and whether banks include work incentives (or bonuses) and dividends in their calculations of premium ratios on consumer loans. The CBE subsequently ruled that these can only be included in calculations when the client can prove that the benefits are received on an annual basis, which will be a difficult task for most private sector borrowers.
There was also uncertainty on how the rules would apply to banking products that have hitherto not required salary guarantees in the form of payslips. In response, the regulator said that banks can utilise the nation’s credit bureau, I-Score, to obtain an estimation of the customer’s income in the absence of documentation of their monthly net salary.
Altered Approach
The CBE’s rules have been welcomed as credit positive by Moody’s as they will “contain credit risks in banks’ growing retail portfolios”. However, they have caused lenders to alter their approach when it comes to retaining retail business which exceeds the repayment criteria. The most straightforward solution is to increase the loan duration for some customers in order to keep the premium at a level below the 35% bar, although pushing out large numbers of three-year consumer loans to four or five years also brings its own challenges in terms of increased risk and decreased earnings.
Sme Lending
In addition to reducing the dependence on blue-chip corporates and more strictly regulating retail lending, SME credit has also been a focal point for the regulator. From late 2015 the central bank made a more decisive move towards meeting its long-standing ambition to boost SME lending, starting in December with its creation of a new set of criteria by which to define smaller businesses (see analysis). In January 2016 the regulator unveiled new SME lending rules: according to the new framework, banks must limit interest rates on loans to SMEs that have revenues of between LE1m (equivalent to $53,000 as of December 2016) and LE20m ($1.06m) to 5% and increase the share of SME loans in their total loan portfolios to a minimum of 20% over the next four years.
As well as the challenge of finding suitable businesses to lend to, the new requirements pose other difficulties. Interest rate limits can be burdensome, and the 5% limit will challenge profitability at a time when banks can secure far more attractive rates on other parts of the balance sheet, including the government’s large Treasury bill programme. However, the CBE has allowed banks to finance qualifying SME loans from their non-interest bearing regulatory reserves, thereby allowing them to activate previously unproductive assets to boost their margins. Banks are also allowed to structure their facilities to SMEs falling outside the LE1m ($53,000) to LE20 ($1.06m) revenue range in their own way, which assist them in meeting their SME loan targets. Nevertheless, major rating agencies have voiced concerns that Egypt’s new SME lending quota is driven more by a wider economic ambition rather than a prudential one, and therefore runs the risk of eroding banks’ asset quality. Certainly, reaching this target will be an easier task for some lenders than for others. “Our loan portfolio was already 14% SME when the new regulation was announced, although the central bank has more recently excluded fully covered loans from this figure, which brings the figure down to about 13%,” Mohamed Ozalp, managing director and CEO of Blom Bank Egypt, told OBG. “But we have four years to get to 20%, which we think is reasonable and achievable.”
Existing Platforms
Indeed, many of the largest private commercial banks have SME lending platforms. Crédit Agricole Egypt, for example, has operated a dedicated SME division since 2006, and between 2011 and 2014 had increased its SME portfolio by a factor of six to LE3bn ($159m).
Much of the sector is reasonably well positioned to meet the CBE’s new target, but with the entire industry chasing a limited number of bankable SMEs, competition is likely to grow increasingly intense.
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