Bad dirty debts – The clean-up continues

(First Published in the Banks & Banking Survey 2016 Magazine)

History has many documented case studies where the pursuit of patriotism and heroism has always brought suffering, regret, and in other cases, triumph. And that analogy can revealingly be used to assess the risk-reward trade-off in the local banking industry. 

After a decade of economic meltdown, dollarisation brought so much optimism and the bankers, holding the keys to credit, became once again the protagonists on whose hands the fate of companies got decided. Considering that only $475 million existed in the whole banking sector at the time of dollarisation and with that having to be shared amongst all the banks, the resultant aggressive lending for survival was inevitable. 

Resultantly, almost every dollar that got deposited was loaned out in its entirety, with the situation being made worse by the absence of reserve ratio as policy makers opted to allow the market to provide as much credit as possible to kick start the economy.  

This excessive risk-taking behavior by the bankers over the years, in part motivated by the desire to ramp up profits to shore up capitalization levels that had been set at staggering levels, explains how the loan-to-deposit ratio has hovered precariously above 90% for the majority of the smaller banks, with the sector average rising to a peak of 84% in 2011. 

And today, even as it stands at 69%, the load to deposit ratio remains quite high when compared to regional peers such as Zambia where it stood at 57% as at 30 June 2016.   In response to the high loan-to-deposit ratio and the excessively exorbitant cost of credit that hovered above 50% annualized during the first three years of dollarisation, monetary aggregates in Zimbabwe  ballooned phenomenally, from a modest $475 million in 2009 to around $5.6 billion at the moment.

A quick glance at Ecuador, which dollarized in 2000, reveals how monetary aggregates increased only 3-fold to $15 billion by 2007, exactly 7 years after its dollarisation. Zimbabwe’s have increased a whopping 11 fold over 7 years!

This huge appetite to lend, in part explained by bankers as being patriotic and being responsive to the calls by policy makers to generously liquefy the credit markets, was not overly misplaced after all. Zimbabwe, having no formal arrangements with the big international lenders and multilateral development financial institutions at the point of dollarisation, had to look to itself to make it work. 

The bankers, with haste, responded to the call and proceeded to provide credit, albeit with reckless abandon. And indeed the majority of the progress that this economy has achieved to this day is attributed to the courage and relentless patriotism of the bankers that, in the absence of lender of last resort functionality at the RBZ, took massive gamble with deposits on their balance sheets and sacrificed liquidity for loans. And indeed the economy responded. GDP growth peaked to around 11% in 2012, thanks to the bankers that traded prudence for patriotism.

Unfortunately this patriotism or excessive risk-taking behavior, whichever descriptions suits best the gesture, has plunged the banking sector and the economy at large into a crisis that may take very long to unwind and amortise. The massive expansion in monetary aggregates in Zimbabwe unfortunately contrasted against prices that started to correct sharply for the domestic economy that had suddenly opened to the world on account of dollarization and near-abolishment of exchange controls. 

The resultant competitive challenges for the domestic market meant that most companies could not compete largely with cheaper imports from SA, spurred in part by the Rand whose depreciation has been a boon for exports into Zimbabwe that has been using the stronger US$. And as expected, a significant portion of these loans issued began to turn bad, itself very bad news for the bankers that had driven loan-to-deposit ratios to the ceiling. 

As the belly of the economy continues to throw up dead companies at a remarkable rate, the mess has, unfortunately but rightfully so, been piling up in bank balance sheets. And cleaning up that mess has not been easy, the very reason why the banking sector has good statistics to its credit of banks that collapsed under the burden of bad dirty debts culminating from a lending binge that has its roots dating back to 2009. 

Interfin, AfrAsia, Royal, Trust and Renaissance and Allied Bank, among others, became the statistics in a very short space of time. And with that, as expected, came the suffering of depositors who lost their wealth and savings. An estimated $200 million from over 54,000 depositors went up in smoke! And many continue to count their losses to this day.

Although natural selection has weeded out the bad boys for now, the sector remains burdened by non-performing loans. Inasmuch as official statistics on non-performing loans report them at around 10.8% as of December 2015, the fact on the ground points otherwise, more so when history of collapsed banks such as Interfin, AfrAsia and Renaissance, among others, revealed shocking levels of non-performing loans that could not be easily reconciled with reported levels of non-performing loans in the market just before their collapse.

At a time where capitalization levels are tight for shareholders that literally had to start afresh in 2009, restructuring problematic loans becomes the next best strategy to manage provisioning levels and write-downs that, in effect, would require more injection of capital to comply with the prudential capital adequacy requirements. 

In light of the deflationary environment that has impacted heavily on the ability of borrowers to service their loans as revenues and margins have been coming down steeply, the bankers are left with little choice but to re-negotiate with their struggling borrowers and restructure loan covenants. And this restructuring of loans in an economy facing declining consumer demand and low confidence can only but post-pone the inevitable.  

Bad debts shall keep piling! Although ZAMCO, a company set up to buy bad debts from banks, has licked part of the mess to the tune of $357 million worth of bad debts to this date, it should not be seen as the ultimate antibiotic to cure the disease. Its funding model, that largely from TBs, cannot be pursued sustainably, moreso at a time there is growing chorus for government to halt spending beyond its means to protect the market from collapsing on itself. 

In any case, sooner there shall be consensus that the big corporates that are failing should indeed be left to die as the economy renews itself in creative destruction mode. And foreclosure will spike.

The banking sector is therefore in for a long and pernicious cleaning process as the economy continues to throw more mess on their balance sheets! And as if that is not been enough trouble, the incoming cash crisis has created new headaches for the bankers, save that this particular problem is one they look up to the regulator to print bond notes for salvation.