Bank capitalisation and the politics of uncertainty

Source: Bank capitalisation and the politics of uncertainty | Theindependent (Zimbabwe)

DESPITE continued vulnerabilities arising from the macro-economic environment, exacerbated by the outbreak of the Covid-19 pandemic, Zimbabwe’s banking sector has remained adequately capitalised, sound and resilient.

Mutandani Makuyana:Economic analyst

Adequate capitalisation has seen banks buoyant to various stress shocks applied to credit, interest rate and foreign exchange risks.

The latest report by the Reserve Bank of Zimbabwe (RBZ) reflects that as at June 30, 2020, all banking institutions were adequately capitalised, as the banking sector average capital adequacy ratio stood high at 61,72%, well above the 12% benchmark level. Further, all banking institutions were reported to have adequate capital buffers to absorb moderate shocks and militate against inherent risk of insolvency.

The RBZ further reported that as of that date, the banking sector aggregate core capital was ZW$20,99 billion (US$262,37 million) , representing an increase of 180,99%, from ZW$7,47 billion (US$93,37 million) as at December 31, 2019.

The growth in banking sector aggregate capital was largely attributed to growth in retained earnings, buoyed by revaluation gains from foreign exchange denominated assets. This followed movements in the foreign exchange rate due to the introduction of the foreign exchange auction in June 2020. As such, profitability and retained earnings have proved to be a function for buttressing capital.

Capital Adequacy Ratio (CAR) for the Zimbabwe banking sector has trended upwards since 2016, hovering well above the benchmark ratio of 12%. Capital Adequacy Ratio measures the amount of capital a bank retains compared to its risk.

Minimum capital threshold
Cognisant of the prevailing economic challenges as well as negative impact of Covid-19 pandemic outbreak, the RBZ extended the deadline for bank’s compliance with the requirement for meeting the minimum capital levels by one year from December 2020 to December 31, 2021. In addition, banking institutions are also required to continue to assess the adequacy of their economic capital levels against their own risk profiles.

In fact, particular attention should be given to credit risk, operational risk and business risk, which have since been significantly increased by the Covid-19 pandemic outbreak. The dynamic nature of the financial landscape, amid increasing economic uncertainties have prompted monetary authorities to apply US dollar linked minimum capital requirements for banks and other financial entities, in an effort to ensure banks are adequately capitalised at all times.

Outlook
Are Banks poised to withstand the test of time any longer?

While key performance indicators reflect a sound and adequately capitalised banking sector which is key in mitigating inherent risk, does this translate to a solid footing for the banking sector to remain resilient in the outlook?

The operating environment is envisaged to remain challenging and highly uncertain, a situation that makes it difficult for banks to assess their outlook inherent risk. Adaptive public and investor confidence in the financial sector have hit rock bottom, worsened by synergies of signals of uncertainty across other key sectors of the economy.

More importantly, cost-to-income levels for the banking sector have remained high, while the major component of income has shifted from interest income to non-interest income. There remains a high probability of adverse shocks to this profit function, for instance, the somewhat stabilising exchange rate will reduce exchange valuation gains, while economic slowdown will negatively impact on profitability.

The outbreak of Covid-19 and the associated economic challenges further pose a threat for banks to satisfy the reviewed minimum capital requirements by 2021. As a mitigation measure, the Central Bank directed that banking institutions should proactively reinforce their economic capital levels as part of resilience capability management.

Makuyana is an economic and investment analyst and also head of research (Invictus Securities Zimbabwe). — mutsmarks@gmail.com or makuyana@invictus seurities.com. This article appears in Zimbabwe Independent’s 2020 Banks & Banking Survey magazine, whose theme is “Reimagining Banking: Beyond Survival”. This year’s event was sponsored by First Capital Bank.

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