Analysts say FX Liquidity Pressure Looms Large in Banks
Godwin Emefiele, CBN Chief

Analysts say FX Liquidity Pressure Looms Large in Banks

Analysts at Afrinvest said that foreign exchange liquidity looms large in the banking sector amidst multiple pressure facing lenders in the recent time.

In a recent report, Moody expressed that Nigerian banks could face foreign exchange scarcity observed in 2016 due to lower accretion of dollar based revenues.

The investment banking firm while reviewing the recent Moody report on lenders noted that funding challenges in the sector could be aggravated.

Analysts say FX Liquidity Pressure Looms Large in Banks
Godwin Emefiele, the CBN Governor

Afrinvest in its economic review said that with elevated external shocks, Nigeria’s economy has been hit hard and the banking system would be impacted.

It recalled that Moody’s ratings agency in a recent report cited risks of dollar funding challenges for banks due to declining oil revenue, weak foreign investment inflows and lower remittances.

While banks are more resilient given current deposit and liquidity levels, Moody indicated that there are vulnerabilities.

This indicates that Nigerian banks could face a resurgence of the foreign currency liquidity pressures witnessed between 2016 and 2017.

It said based on its analysis of the impact of reduced FX deposits by 20% – 35%, banks’ foreign currency funding gap could increase to average of ₦1.7 trillion from ₦354 billion at year-end 2019.

This will be the case if loans are unchanged.

However, Moody noted that rated banks considerably cut down on FX loans after the 2016 crisis as foreign currency loans to foreign currency deposits fell to 106.0% at year-end 2019 from 135.0% in 2016, suggesting reduced risks.

The estimation of dollar shortages is based on the expectation of weaker-for-longer oil prices, with Moody’s assuming $35-$45/bbl. over the next 12 to 18 months.

In a similar commentary on banks, Fitch ratings this week noted that weak oil sector fundamentals would restrict Nigerian banks’ capacity to increase credit in 2020.

The ratings agency estimated that loan growth would decline to 2.5% y/y in 2020 from 14.0% in 2019, but with slight improvement to 4.3% in 2021.

Beyond FX funding pressures, Nigerian banks have been facing harsh regulations that threaten profitability since July 2019.

Most prominent is the minimum loan to deposit ratio (LDR) of 60.0% which was established in mid-2019 and later increased to 65.0%, with non-compliance costing banks 50% of their lending shortfall as interest-free cash reserves with the CBN.

In addition to the LDR policy which already drove higher effective cash reserve ratio (CRR) and increased funding cost, the regulatory CRR was increased to 27.5% from 22.5% during the January 2020 MPC meeting.

Recent reports indicate that CBN’s incessant CRR debits as penalty for LDR non-compliance has amounted to about ₦2.1 trillion since the turn of the year.

Hence, the effective CRR is now estimated at around 60.0%, with cash reserves of ₦10.3 trillion on total Naira deposits of around ₦17 trillion.

This is against the trend in similar emerging and frontier markets where Central Banks have eased liquidity conditions to support the economy amid unprecedented economic risks.

The implication of tighter liquidity conditions would be increased cost of funds for banks, which put together with lower yields in the money – both treasury bills and OMOs – and bonds markets would result in weaker earnings in 2020.

On Friday, at an auction for Importer and Exporters Window, the Central Bank of Nigeria raise bid rate to ₦380 from ₦360, which represents another 5.3% naira devaluation.

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Analysts say FX Liquidity Pressure Looms Large in Banks