Wake-up call for banking sector
It is generally accepted that South African banks are well capitalised in terms of the Basel III requirements, which have to be phased in from 2013, but less well known is the fact that they will have to improve their liquidity dramatically.
This could have a profound effect on the local financial sector, with negative impacts such as higher banking fees and slowed economic growth.
At the annual banking summit held in Johannesburg this week Cas Coovadia, managing director of the Banking Association of South Africa, said the liquidity requirement of Basel III was a concern.
Basel III is a global set of rules for banks to adopt in calculating their capital and liquidity requirements. Liquidity refers to a bank’s ability to meet its liabilities when they fall due. Under Basel III banks will have to have enough cash on hand to meet their cash requirements for 30 days at a time.
Catherine Stretton, financial services partner at Deloitte, said effectively banks would have to double their liquid assets at their own cost—an estimated R1billion a year. “The only way to recoup the costs would be to re-price loans—it will definitely increase the cost of lending,” she said.
PricewaterhouseCoopers’s Irwin Lim Ah Tock said that retails savings would be chased by banks if liquidity was scarce. That, he predicted, would increase bank costs, leading the economy to stall and development growth to slow.
A Deloitte impact assessment of emerging markets found potential effects to be increased pricing of new or existing customer assets, with cost implications for consumers; lower bank profitability; lower credit extension reduced dividend payments because of distribution restrictions, and reduced shareholder value because of limited balance sheet growth. Lim Ah Tock said it was estimated that the South African financial services sector had current long-term liquidity levels of between 40% and 60% - a far cry from the required 100%, although most other G20 countries were in the same boat.
The low level in South Africa was attributable to the low rate of saving. “We tend to spend more than we save,” he said. Also, the nature of a bank was to take short-term deposits and plough them into long-term assets, so cash was not readily available and “you naturally end up with a low ratio”.
Although the current pool of liquidity was small, he believed it was sufficient to work with and to settle liabilities.
Lim Ah Tock said that addressing structural issues was critical to achieving South African compliance and that a number of economic levers could be pulled to unlock liquidity.
Deposit insurance could be one such lever. In its 2010 annual report Nedbank said South Africa was not aligned with many other jurisdictions in terms of deposit insurance schemes.
Moneyweb reported this week that the national treasury was considering putting out a proposal for a deposit insurance scheme that would make banks pay to insure clients’ deposits.
Stretton said long-term liquidity did not exist in the market and it remained to be seen whether it could be accessed from the savings market. But even if South Africans began to save more it would still not be enough.
The next step, she said, would be to access institutional assets such as pension fund money. New changes in pension fund regulations allowed these to be invested in a broader array of options. “You are taking the systemic risk out of the banks and exposing pensioner investments to more risk.”
Coovadia said the capital requirements of Basel III presented no problems. The regulations required a minimum of 8% capital, while South Africa’s was currently 10%, according to Lim Ah Tock.
Last year the treasury appointed a structural funding and liquidity task team to assess the issue and make recommendations.
Ismail Momoniat, deputy director general of the treasury’s tax and financial sector policy, could not say when the task team would present its recommendations. He said it was too soon to discuss solutions on the liquidity front, as several issues related to Basel III had yet to be sorted out and much uncertainly remained.
Basel III which will be phased in from 2013 and fully implemented by 2019, aims to create more resilient banks and banking systems.
Basel III has a two-fold liquidity requirement. Its short-term liquidity ratio requirement, the liquidity coverage ratio (LCR), stipulates that banks must have liquid assets (cash or assets easily converted to cash) to meet cash outflows during 30 days of stress. Banks are required to have more liquid assets than cash outflows, which results in the LCR exceeding 100%.
The second liquidity requirement, the net stable funding ratio (NSFR), requires long-term assets to be funded with longer-term liabilities. Longer-term liabilities are typically associated with increased funding costs. This could negatively affect banks’ profitability unless the additional costs are passed on to the consumer. This means the NSFR ratio will also exceed 100%.
Both the LCR and the NSFR will be subject to an observation period and will include a review clause to address any unintended consequences.
“There will have to be quite significant changes in banking structures,” Momoniat said. “But it’s a work in progress and it depends what happens internationally.”
A macroeconomic study by the Basel committee suggests the impact will be minimal. “The regulatory fraternity seems to think it is a move in the right direction,” he said, adding that there were two sides to the story and, if hit with a crisis in future, South African banks would be grateful for the regulations. Momoniat said financial institutions had to focus on issues of capital, leverage and liquidity, all with key sequencing and implementation dates.
The treasury is yet to start compiling a policy document for Basel III, but expects to publish it early next year.