Moody’s: In Africa and the Middle East, domestic banking constraints intensify liquidity risks as global markets tighten

Significant constraints on banks’ capacity and willingness to absorb potential increases in government financing needs in the event of a shock are intensifying government liquidity risks in Angola (B3 stable), Bahrain (B2 stable), Ghana (B3 stable), Kenya (B2 stable) and Lebanon (Caa1 stable) Moody’s Investors Service said in a report today.

The report, “Sovereigns — Africa and Middle East, Domestic banking constraints intensify liquidity risks as global markets tighten”, is available on Moody’s subscribers can access the report using the link at the end of this press release. The research is an update to the markets and does not constitute a rating action.

The report assesses Middle East and African governments’ capacity to fund their borrowing needs from domestic banks looking at banks’ capacity and willingness to meet government borrowing needs. It also considers relevant changes in the regulatory environment that can influence banks’ capacity and willingness. The report is focused on the countries where Moody’s rates both the sovereign and banks.

“When governments’ access to external markets is constrained and more costly, their capacity to finance borrowing needs from domestic banks is a key driver of their liquidity risk,” said Lucie Villa, a Moody’s Vice President — Senior Credit Officer and author of the report.

“In Angola, Bahrain, Ghana, Kenya and Lebanon, governments combine at least two of the following constraints: government borrowing needs are large relative to the size of their banking systems, banks’ exposures to government debt are already high, deposit inflows are low relative to fiscal deficits.”

The capacity of a banking system to absorb governments’ borrowing needs is driven by the system’s size, the scale of the government’s gross borrowing requirement and the size and consistency of banks’ own funding that can be invested in government securities.

Banks’ willingness to provide finance is influenced by a range of qualitative factors. These can include policy credibility, or the risk-reward trade-off in lending to the private sector versus the government.

In Egypt, Nigeria and the Democratic Republic of the Congo, Moody’s has identified pockets of vulnerabilities but expects governments to rely on domestic banks to cover their financing needs. Some constraints are apparent either because the banking system is very small or already largely invested in government securities, but these factors are mitigated by limited government financing needs or the system’s high deposit growth.

There is scope for increased domestic bank financing of governments’ needs in Mauritius and South Africa. Both countries have more developed financial sectors than the other countries covered by this report. Aside from substantial banking systems, non-bank financial institutions including insurance and pension funds provide stable and long-term funding to the government.