ANALYSIS | Betting on the banks in a time of coronavirus

Government has
appealed to the financial sector to adopt a “spirit of solidarity” to
combat the crippling economic effects of the Covid-19 lockdown. An amount of
R800 billion has been bandied about as the total value of South Africa’s
economic stimulus, but most of that figure relies on banks playing ball.

The South
African Reserve Bank (SARB) has gone on an all-out drive to get more credit
into the system by cutting interest rates to record lows and temporarily
relaxing regulations that constrain bank lending from getting out of hand in
normal times.

The regulatory
concessions will, hopefully, lead to an infusion of credit during and after the
shutdown, which erupted in March and has resulted in the closure of businesses and
mass job losses.

The SARB has
estimated that its two main regulatory interventions could lead to R540 billion
in new lending from banks.

Dovetailing
with the SARB’s regulatory concessions is a R200-billion loan guarantee scheme
– the single largest part of Finance Minister Tito Mboweni’s fiscal measures –
that banks can tap into to give out special “Covid-19 loans” to “small”
companies (revenues under R300 million).

For these
loans, banks will charge the prime rate, conventionally three percentage points
more than the SARB’s repo rate. It currently amounts to 7.25{e93887a69cdd95d753f466db084bbc3aa0067124675315461d28d68a72842cc2} and will probably
drop further. Also, repayments on the Covid-19 loans don’t need to start until
six months later.

READ | Donations, loans & pledges: What you need to know about those billions aimed at fighting Covid-19

That’s a lot
of credit. In fact, the R540 billion is more than the total loans banks usually
make in a normal year, according to the National Credit Regulator (NCR) – hence
the call, made by the Prudential Authority (PA) on 6 April, for banks to stop
paying dividends and bonuses, and to rather conserve capital for lending to the
real economy.

It is a
non-binding request, but the powers that be unambiguously expect banks to toe
the line. Major central banks, like the Bank of England, have done the same to
their banking sectors.

“The PA expects that the banks
will conserve capital and will not pay dividends or bonuses to senior
executives,” the regulator said in response to questions from amaBhungane.

The PA was too late.

In the past
two weeks, South Africa’s major banks paid out dividends that are almost equal
to the largest stimulus measure the SARB has devised.

On Monday, 20
April, Absa and Nedbank paid shareholders R5
256 054 210 and R3 489 278 747, respectively. Standard Bank posted cheques
(figuratively) worth roughly R8 746 431 559. That’s about R17.5 billion
leaving the banks.

FirstRand, owner of FNB, already paid
out R8 189 852 481 on 6 April. The group encompasses more than the bank, but
FNB is the bulk of the business.

That’s R26 billion.

Compare that to the larger of the two
main regulatory interventions the SARB has made: cutting the capital
requirements for banks to eliminate so-called Pillar 2A capital. This move is
meant to free up R30 billion. This translates into a theoretical surge in new
lending of R300 billion, the PA has said.

The banks
correctly say their hands were tied regarding the dividends. All of them had
declared their payouts before the national state of disaster was declared. More
importantly, they declared dividends before 6 April, when the PA sent out
G4/2020, the guidance note “requesting” that they stop all dividends
and bonuses.

The Companies
Act prohibits a company from cancelling outright
a dividend that it has declared. It does, however, allow a company to alter the
dividend within a brief period of time (to reduce it or suspend it) if economic
conditions implode to such an extent that the dividend suddenly threatens the
survival of the company. Restaurant group Spur Corporation recently did exactly
that.

Absa and Nedbank were technically
still able to do that when the PA asked them to stop payouts, but they were
quick to point out that the condition of severe financial distress like Spur’s
does not apply. It would have been illegal for them to stop or drop their
dividends.

Bonuses were likewise paid in March,
before the PA asked for them to stop.

“It should be noted that it was
not the expectation of the Prudential Authority for banks to contravene the
Companies Act with regard to the payment of dividends that had already been
declared before the issuance of Guidance Note 4/2020,” the PA told amaBhungane
by email.

Both Absa and Nedbank proffered that
they had asked their lawyers if they were able to stop their dividends and that
the answer was an unambiguous “no”.

“Absa sought legal advice in the
matter, given that Absa had already declared the dividend and potentially faced
legal action from shareholders who had been promised the dividend payment,”
Absa said in response to questions from amaBhungane.

“Legal opinion stated Absa was legally obliged to pay the dividend
as it had been declared and communicated to shareholders (which includes
pensioners, many of whom depend on dividends as a source of income). We had
consulted with the authority, prior and subsequent to the PA advisory note
being issued.”

Nedbank said that its own R3.5-billion
dividend was, in reality, almost insignificant compared to the bank’s existing
equity and liquidity of R98 billion and
R149 billion, respectively.

“The payment of a dividend will not have a material impact [on] the
capacity to support clients.”

The banks also defended the
declaration of dividends in the first place, saying there was no indication
that the Covid-19 pandemic would explode the way it did at the time.

Nedbank declared its dividend on 2
March. Standard Bank did so on 5 March, and Absa followed on 11 March. The next
day, 12 March, the World Health Organisation declared Covid-19 a global
pandemic.

“At the time of declaring the
dividend, there were no cases in South Africa, as well as no clarity on the
impact that it may have had,” said Standard Bank.

“Despite the early stages of the virus outbreak, no one knew the extent of
its impact,” said Nedbank.

The SARB’s
interventions could, in theory, significantly increase lending, but it is up to
each bank to balance the new headroom to lend with the inevitable reversal of
the deregulation that the central bank has committed to.

The PA’s estimate of how much lending
power will be summoned up by the R30-billion Pillar 2A capital elimination seems
slightly optimistic.

Standard Bank indicated a less
powerful effect. It told amaBhungane that the measure could free up to R6.7
billion on its side, which would translate into “potentially … R42 billion
of unsecured lending”. If you scale that ratio up R30 billion, it gives
you about R188 billion in lending power, not R300 billion.

The PA made another major intervention
by lowering the so-called liquidity coverage ratio. That’s the amount of money
a bank needs to keep at hand to cover the estimated outflows of cash over the
next 30 days. It is normally 100{e93887a69cdd95d753f466db084bbc3aa0067124675315461d28d68a72842cc2}. Now it is 80{e93887a69cdd95d753f466db084bbc3aa0067124675315461d28d68a72842cc2}.

The PA thinks that could lead
(theoretically) to another R240 billion in lending, which would hopefully go to
the real economy of manufacturers and households, and not the financial economy
of speculation and asset inflation.

The NCR says the banks extended about
R439 billion in credit last year, so the authorities are hoping to squeeze out
the equivalent of an entire year’s normal lending on top of whatever the banks
would lend out under the current abnormal circumstances.

A banking
industry source has pointed out that South Africa’s banks and other
moneylenders, like their counterparts all over the world, will soon face a
tidal wave of Covid-19-related defaults. Payment holidays abound, but those
only help people and businesses that come out of the lockdown with their income
fully restored and the ability to make up for what was lost. Either that or
they will immediately make a massive amount of new debt to pay the old debt.

Everything
from mortgages to small business loans could rapidly transform into toxic
assets. What happens to the microfinance industry, which is not known for
treating defaulters kindly? Government will almost certainly have to intervene
in yet another unheard-of round of stimulus/bailout somewhere down the road.

Data from the
NCR indicates a serious microcredit problem was already brewing before anyone
had heard of Covid-19. In its last quarterly credit consumer report, the NCR’s
data showed a massive spike in past-due short-term debt up to the end of 2019.
It had gone from 8.35{e93887a69cdd95d753f466db084bbc3aa0067124675315461d28d68a72842cc2} in 2017 to 22{e93887a69cdd95d753f466db084bbc3aa0067124675315461d28d68a72842cc2} of the R2.4 billion book of formal
registered purveyors of month-to-month debt.

The main
intervention the PA has thus far made to head off this problem is to relax the
conditions under which a loan has to be considered “distressed”
during the Covid-19 crisis. The point of this was to allow credit providers to
restructure loans with three-month repayment holidays and longer terms, without
any consequences.

Various
permutations of payment holidays are now offered by all the banks and other
credit providers, as well as insurers.

The terms and
apparent generosity of the various holiday schemes differ from bank to bank,
but all have the common feature that they will extend the term over which a
loan is repaid while charging the additional interest and fees for the three
months’ non-payment.

All things
being equal, the banks make more money out of each loan. Standard Bank has
argued in its response to questions that any additional fee and interest income
it may be getting is counteracted by, among other things, the opportunity cost
of having less cash to use for new loans.

“To the extent increased client interest
is realised from an extension granted, this is largely neutralised by the
additional funding, reserving and capital costs the bank incurs. The intention
behind the restructuring support provided to the customer is to assist and
ensure the long-term sustainability of the business despite experiencing
short-term income constraints; it is not driven by a profit motive.

“Through
the extension of the payment holiday, the bank is limited in redeploying those
resources (funding or capital) to the remainder of the customer base and incurs
an opportunity loss from other business that it could have undertaken had it
had access to those resources.”

In the days before Covid-19, South Africa’s financial authorities would
always point to the country’s “sophisticated, deep and liquid”
capital market as its badge of honour – the thing that distinguished us
from lesser emerging economies.

It is the underpinning of the gleaming towers of Sandton which mostly
house financial services firms and their lawyers. This market will now be put
to the test.