Issue No. 607
Economy
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10 - 16 October 2002 Issue No. 607 Economy |
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| Published in Cairo by AL-AHRAM established in 1875 | Recommend this page | ||
Prescription for reform?
Government measures directed at the banking sector have investors in two minds. Al-Ahram Weekly gauges the reaction
The recent measures by the prosecutor general to sequestrate the assets of five businessmen charged with defaulting on LE3.7 billion worth of bank loans elicited varied responses from both financial experts and businessmen. Interviewed by Al-Ahram Weekly, both groups believe the way out of the current banking sector crisis is far-reaching reform of the banks themselves, and the utilisation of mechanisms enabling businesses to function along economically viable terms, as opposed to the criminal prosecution of defaulters.
The recent measures were also seen as a further discouragement amid an already recessive business climate since 11 September 2001.
Those interviewed almost unanimously spoke of the need to distinguish between "fraudulent businessmen" and others currently encountering problems with their businesses. The need for banks to undertake debt-rescheduling along less stringent terms than those offered in the recent initiative announced by the government was also underscored. Concerns were expressed as well about the impact of the latest measures on the banks' readiness to extend credit.
Member of parliament and former deputy CBE governor, Fai'ka El-Rifa'i, said that the recent measures might, in theory, scare away foreign investors, since they raise the spectre of what she called "arbitrary justice" being meted out. She said a distinction needs to be made between two types of defaulters. In one category, there are the businessmen who have borrowed huge sums from banks and subsequently faced equally huge financial difficulties. "Some of them wrote checks against the amounts they borrowed and fled the country because they feared being sent to jail. Settlements can be negotiated with those," she said. As for those proven to be swindlers, El-Rifa'i said, they can be tracked down through the international police.
The banks had taken the initiative late last month to rescedule bad loans within a two-week period. In a televised interview this week, Prime Minister Atef Ebeid said investors' response to this initiative had not been as desired. El-Rifa'i thinks that debt-settling conditions should be eased. Defaulters have been scared away by suspicions that this might be a ploy by the government, she said.
Still, the impact of the defaulted loans on the banking sector remains minimal, El-Rifa'i said, and any negative impact resulting from them will be short-lived. "The loans that have taken flight are less than 10 per cent of total bank loans. This will not shake the banks, otherwise our banking sector would have collapsed given the global slowdown and the regional situation."
The loan-loss provisions the banking sector has been making under the structural adjustments programme since 1991 have served to ensure banks remain strong. "This has, however, come at the expense of profits being withheld from shareholders."
El-Rifa'i suggested that banks take over the management in defaulted businesses so they can remain running and productive.
In the final analysis, financial sector reform "holds the answer to averting similar crises in the future", El-Rifa'i said. A concrete plan for banking sector reform must be undertaken that would include the introduction of specialised departments in public sector banks to evaluate credit risk. Credit departments at these banks have been marred by malpractice. Incomprehensive feasibility studies have resulted in loan sizes that were not congruent with the objectives of the loans. El- Rifa'i criticised what she termed "the personalised manner of functioning" in the banks' credit departments, and "the absence of a criterion against which employees in credit departments can calculate the risk of a certain loan." The resulting dependency on the credit officer's personal judgment and experience is a major drawback.
Meanwhile, El-Rifa'i said inspection and supervision departments in banks need to be strengthened and made independent of "particular affiliations". The training of employees at the CBE's banks' supervision department is also vital.
Some businessmen believe the procedures undertaken recently that are aimed at curbing current corruption in the business envronment were inevitable. "The market must be purged of untrustworthy businessmen to make way for the serious ones," Omar El- Damati, chairman of Domty for dairy products, told Al- Ahram Weekly. He advised more caution on the part of banks in granting loans.
"The question of defaulted loans exists in all economies, but tough measures need to be undertaken here in order to clean up the market," he said.
Since credit mismanagement has been restricted to public sector banks, or those co- owned by the government, a "de-centralisation" of economic management and further liberalisation of the banking sector are required.
"All of the government's talk about liberalisation and the open economy were just empty words," said a disillusioned stock market expert who preferred to remain anonymous. "The bulk of deposits and loans in the country are centrally managed by the state-owned banks, where the means of control are very loose." He said that the current situation is the expected outcome of the politicisation of the economy. He was critical of the fact that the financial sector, including both banking and insurance activities, remains controlled by the public sector.
In response to a question as to how the latest spate of legal measures against defaulters would affect the economy, the expert said, "The effect of this centralisation of management is already apparent; it has already hurt the economy."
However, Mohamed El-Hennawi, a board member of the Capital Market Authority, believes that the current bank measures against defaulters are justified. He concedes, nevertheless, that they will negatively impact depositors' confidence in the banking sector. In the longer run, though, El-Hennawi said, these are precisely the measures needed to instill investor confidence in the Egyptian economy. "When a mere 35 bank clients put their hands on LE37 billion worth of bad loans, the government had to move," he said.
He said we must differentiate between two kinds of loan takers. "There is the serious investor who acquires a loan and pumps it into real investment, and then is unable to meet his financial obligations because of market conditions. Then, there are what we call 'bank theives' who take the money and buy a house or a car or anything that is not a value-added investment."
El-Hennawi said it was about time Egyptian banks started following the global standards used to evaluate customers credit worthiness.
According to Joseph Iskandar, a financial analyst for Prime Securities, the fear is that the new measures will lead to a restriction in credit facilities in the long run. "This will be a problem, since investors prefer debt financing to equity financing," he said.
In addition, companies taking out loans enjoy a tax shield that brings their expenses down.
Investors buying a company's shares require a rate of return, which covers the discount rate in banks, the inflation rate and the market risk. "Thus the required rate of return will never be less than 20-25 per cent. Interest rates on bank loans currently revolve around 13 per cent," he said.
However, according to Iskandar, "this negative effect will not be seen in the short run as this applies only if the economy is running on full capacity and the demand on investments is high, a situation which is currently non-existent."
Mahmoud Soliman, chairman of the Tenth of Ramadan Business Association and a member of the Federation of Industries, also stresses the distinction between businessmen who have intentionally fled the country with the banks' money and those struck by market conditions. According to Soliman, the exchange rate has fluctuated and sales have dropped drastically in the past two years, causing businesses to flounder. "Under these circumstances, it is unfair that both categories should receive the same treatment," Soliman said.
Meanwhile, the government should investigate possible legal channels to regain the money that has exited the country.
Soliman said the relationship between banks and their clients has been "deeply shaken", which is a bad sign for the investment climate in Egypt. Large investments need a strong banking sector to back them up. In the absence of transparency on both sides, it is very hard to restore good relations, he said.
Egyptian businesses, not only banks, need to be more attuned to undertaking feasibility studies and risk assessment in planning for new projects, Soliman said. Many of them tend to overlook the fundamental requisites before undertaking any venture, such as "the exchange rate, interest rates, as well as obtaining credit guarantees and insurance".
Soliman believes Egyptian businesses need to downsize their costs by upgrading their management and introducing modern technology. "This will help them reduce production costs, introduce smarter solutions to typical problems and become more productive," he said.
Helal Sheta, deputy chairman of the Exporters Division at the Federation of Egyptian Chambers of Commerce, thinks there are a host of reasons behind the surge in the number of defaulting businessmen during the past two months.
"Interest rates remain very high in Egypt, which is a significant factor exacerbating businesses' problems. In some cases interest rates account for 40 to 50 per cent of a businessman's debts. Another factor has been pressures on the exchange rate, during the past two years, which led to an increase in the costs of local products using imported components," he said.
Sheta believes the current problems encountered by businessmen need to be viewed in the context of the impact of the 11 September events on both the local and international markets.
Sheta predicts that the overall economic situation will worsen, since it will become difficult to obtain loans. Because the value of real estate assets has depreciated over the past two years, the collateral offered to banks now account for less than the value of loans incurred by businessmen. Bank employees will be apprehensive to extend loans, even when the guarantees offered against the loans are sufficient.
Reported by staff
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