International Finance
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African banks successfully managing risk

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Lessons from the global financial crisis of 2008 and the disruptions caused by the pandemic and war have proven crucial for banks in Africa

The month of March 2023 was chaotic for the world financial system. A run on certain banks and the unexpected failures of Silicon Valley Bank and Signature Bank in the US sparked concerns about a worldwide contagion. The banking sector was unprepared for a crisis, having only recently recovered from the devastation caused by the COVID-19 pandemic and the Russia-Ukraine war. Fortunately, quick action from authorities prevented an unprecedentedly large-scale meltdown.

The banking sector in Africa was remarkably unaffected, despite banks in the developed world and the majority of emerging markets gasping for air and bracing for the worst. The reason is easily understood. African banks were forced to operate at the whim of their international counterparts for many years, with the pulse and direction coming from capitals in the West. But the landscape has shifted in recent years, with African banks forging their own course. Disengaging from the practices of Western banks has given African banks the leverage they need to weather storms, even though they are still part of the global financial system.

“African banks are prioritising their strategies on serving the needs of their clients,” Jannie Rossouw, Professor at Wits Business School at the University of the Witwatersrand in South Africa said during an interaction with World Finance.

This essentially indicates that African banks have made conscious efforts to create solutions that satisfy the needs of their customers, as opposed to importing Western bank strategies. This explains why mobile banking is so popular throughout the continent and continues to be one of the most effective means of promoting financial inclusion.

It is clear that African banks no longer tremble when their international counterparts catch a cold. African banks were fervently announcing their 2022 financial results in the midst of widespread concerns about a global financial crisis in March.

Mind-boggling profits were the common denominator, especially for tier one and tier two lenders. The largest banking market on the continent, South Africa, serves as an example. The industry generated $5.5 billion in combined headline earnings in 2022, up 16.1% from the year before. In addition, the industry’s combined return on equity increased to 17.1% in 2022 from 15.9% in 2021.

This also applied to Kenya and Nigeria, two other significant banking markets. Nine listed banks in Nigeria reported combined non-interest incomes of $4.05 billion in 2022, up 26.7% from $3.04 billion in 2021. The nine listed banks in Kenya reported a combined $1.3 billion in profits last year, up 25% from $1 billion in 2021.

Africa’s strong growth

The stellar performance indicates that domestic factors—such as political unpredictability and macroeconomic fluctuations—pose a greater threat to African banks than external shocks.

According to PwC, banks in South Africa were able to produce robust earnings growth despite challenging operating conditions, a volatile macroeconomic environment, and a strained local economy.

“The results of the major banks reflect the intense efforts of management teams to take the pulse of the operating environment and calibrate their actions accordingly,” Francois Prinsloo, PwC Africa Banking and Capital Markets Leader said.

The ability of African banks to weather global crises ultimately comes down to intentional attempts to construct robust resilience mechanisms. Regulators’ unwavering commitment to integrating risk-based regulatory procedures at the centre of industry policing has been the driving force behind this. This has made the business relatively stable, along with banks’ internal growth-oriented plans combined with strong rail guards.

“Banks in Africa are today well capitalised and are subject to a well-developed system of supervision,” Rossouw said.

There are several ways to be determined to develop resilience systems. A period of mergers and acquisitions, and consolidation has led to the emergence of a banking industry that is currently dominated by Pan-African lenders, fiercely competitive domestic banks, and lenders catering to specific market segments in their respective countries, aside from capitalisation and ubiquitous regulators.

The days of multinational corporations monopolising the market and applying policies formulated in the capitals of the West—some of which have no bearing on local demands—are long gone. While Standard Chartered Bank has significantly reduced operations and chosen to concentrate only on important markets and lucrative business categories like corporate banking and serving high-net-worth individuals, multinationals like Barclays Bank have left the continent. In their stead, financial institutions such as Standard Bank, Ecobank, Bank of Africa, Access Bank, and Absa Bank, among others, have successfully developed a Pan-African approach, upending the established order in the majority of markets.

Africa’s capital positions

African banks have also been quite cautious when it comes to risk management protocols. Strong protections in terms of core capital, reserves, and liquidity ratios are the outcome. Tier one ratios in Africa are averaging 15%, which indicates that capital holdings are robust and comparable to the global norm. In addition, it is now critical to ensure the soundness of the credit and asset quality, practise diligent cost control, and pursue a diverse portfolio.

Lessons from the global financial crisis of 2008 and the disruptions caused by the pandemic and war have proven crucial for banks in Africa. One important lesson that distinguishes businesses in the West is the hazard that non-performing loans (NPLs) pose. Even if banks in the West are still dabbling in riskier assets, lending in Africa is done very cautiously.

According to a McKinsey report, the average loan-to-asset ratio in Africa is less than 70%, and the loan-to-deposit ratio is below 80%. This suggests that, even in times of high inflation, African banks keep their money in less risky investments like government securities. Although it demonstrates moderation, banks have benefited by seeing a stabilisation of profitability. Compared to their global counterparts, banks in Africa exhibit a certain level of conservatism due to their elevated operational awareness of the constant threat of crisis, especially from external sources.

Africa has taken a very creative approach, but it has limitations. For example, African banks would be dancing with fire if they dabbled in cryptocurrency, even though the collapsed Signature Bank had $10 billion in crypto deposits by January 2021 and the crypto industry was one of its top clients.

According to Rossouw, “African banks have benefited from being conservative because it has shielded them against contagion.”

Africa fighting cyberattacks

African banks are also aware of the necessity of investing in innovations, digitalisation, and technology in order to become resilient. It appears that cyberattacks are becoming easier to launch against the continent.

According to a report by the Singapore-based cybersecurity company Group-IB, banks, financial services, and telecommunications companies in 12 African countries lost an astounding $11 million as a result of 30 attacks between 2018 and 2022. In order to prevent attacks and increase operational effectiveness, banks have been compelled by the constant threat of cyber security to invest in strong core banking systems.

Additionally, this has made it easier to combat the persistent threat of internal fraud. Although these systems have been essential for safeguarding the back office, innovations and digitalisation have completely changed the banking industry in an effort to improve customer satisfaction and growth.

The implementation of digital transformation in domains such as online, mobile, and internet banking, along with advancements like robotics, artificial intelligence, and the Internet of Things (IoF), has yielded significant advantages. First on the list is the development that has been crucial in narrowing the financial inclusion gap: expanding banking channels to increase reach and customer penetration. Just 23% of adults on the continent had access to formal financial services ten years ago; today, over two-thirds of them do.

Moreover, innovations and digital transformation have helped to speed up customer service. Regarding this, most banks can now confidently state that more than 80% of transactions are carried out via digital channels. The ripple effect has resulted in lower brick-and-mortar costs and higher efficiency through the elimination of manual processes.

“We are reinforcing our digital uptake by creating e-commerce links. The use of cash is significantly reducing as people make digital payments and that for us is the biggest take-off,” James Mwangi, CEO of East Africa Regional Bank Equity Group said.

Granted, the industry in Africa has become relatively immune to global contagion due to proactive measures taken by regulators and internal strategies employed by banks. However, this does not imply that there are no risks in the industry. The industry is growing more concerned about domestic disruptors that are overcoming deteriorating political and macroeconomic fundamentals both now and in the future. For example, political unrest is rapidly expanding throughout West Africa, and widespread disruption of banking operations is one of the effects.

In addition to political risks, macroeconomic variables are now common sources of danger. These include, among other things, increasing debt loads, weakening currencies, rising interest rates, and rising inflation. These risks remain minefields for banks, with the potential to affect overall stability as well as growth and profitability.

“Banking is always a risky business and risk is not where you expect it. Domestic disruptions are ever-present dangers,” Rossouw added.

The African banking sector is still united in its support of sustainable finance and environmental, social, and governance (ESG) issues, despite conscious efforts to free itself from the grasp of its Western counterparts. Africa has the lowest pollution levels worldwide.

However, the brunt of climate change is being felt on the continent. Banks across the continent are therefore under pressure to include ESG considerations in their operations, risk management, and investment choices. This has also meant adopting socially responsible lending practices and sustainable finance, such as supporting small and medium-sized enterprises that have a positive social impact and financing renewable energy projects.

This effectively puts pressure on banks to stop lending to ‘dirty’ industries like fossil fuels, which have historically been big clients with excellent returns. For example, Nedbank of South Africa has declared that it will phase out its exposure to fossil fuels by 2045 and will no longer directly finance new oil and gas exploration or thermal coal mines by 2025.

Even though African banks are now capable of surviving any kind of crisis, they still need to remain vigilant. A financial earthquake is always a distinct possibility due to the fluidity that characterises the banking sector not only on the continent but worldwide. The epicentre is now the only factor determining the extent of devastation for banks across the continent.

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