Picture: MICHAEL ETTERSHANK
Picture: MICHAEL ETTERSHANK

LAST week’s 50 basis point interest rate increase provided some rare good news for the banking sector. Share prices reacted accordingly, with a 10% jump in the banks index on Thursday and Friday. That means they have recovered more than half of the dramatic losses they made in December after President Jacob Zuma fired Nhlanhla Nene as finance minister.

Despite an economy that is in the worst state it has been in since 1994, our banks are in remarkably good shape. Credit loss ratios for the big four averaged less than 1% of advances last year and were, as of six months ago, still trending downwards. Those are the best figures we’ve seen from the banks since the financial crisis.

Banking is a game of guessing the future. You never know if someone will default on a loan at the time you make it. The art of banking is to know when to increase your willingness to take risk. You want to be aggressive in grabbing market share if you think the economy is cruising into an upswing, but batten down the hatches if you think the opposite.

The lesson from the state of our banks is that they have been preparing for torrid times. That has been the stance pretty much since 2008, when the financial crisis slammed the brakes on what had been a lending splurge, particularly in the home loan market. The year after that was the worst of most of our bankers’ careers, with billions of rand recorded in losses. Even the one glimmer of excitement, unsecured lending, went into reverse at the end of 2012, when that market overheated. As a result, our banks are braced for the worst.

The hike in interest rates is good news because bank-lending margins will grow. Banks get free funding from lazy balances sitting in current accounts and earning no interest. A hike in rates increases the returns earned from assets without a comparable increase in the cost of banks’ funding.

Normally there is a sting in the tail caused by an increase in consumer distress from higher interest rates, but because the banks have been so risk averse, they are relatively immune to consumer stress. So, the rate hike means an instant fillip for profitability.

The one area of nervousness is commodity-linked corporate stress. Generally, the banks’ exposures to companies are in a good state thanks to cash-rich balance sheets. Given their own fears about the economy, firms have been holding on to cash instead of returning it to shareholders or investing for growth. Their fears are well-founded. The industrial sector, which should be stimulated by the weak rand, is actually shrinking, having been in recession for most of last year. Their strong balance sheets, however, make the sector a good credit risk.

The problem sector, though, is mining, with prices of almost all commodities at decade lows. So far, Lonmin is the only big company that has been forced into a desperate capital raise by its bankers, but it is easy to fear there will be more as the miners are slowly drained of cash. A related problem is lending in the rest of Africa, much of it to mining and oil developments, which are also going through very tough times. All of our banks have had to take on extra provisions just for their African exposures, although these are a relatively small part of their overall balance sheets.

Of course, while the banks are in good shape, it is within an exceptionally weak economy. That means that while the banks are ready for the fight, it’s still going to be tough. And the looking glass does not provide much comfort. Global economic growth is anaemic and there are no signs that it will change. That will keep commodity prices at depressed levels, which ultimately keeps the brakes on our own economy. Every confidence indicator — consumer, business, building, mining, manufacturing, new vehicle sales — is at depressed levels. The policy environment has been far from supportive, with Mr Zuma’s Nene decision having led to a permanent increase in the perception of South African risk globally.

The likely downgrade of the government’s credit rating to junk will directly affect the banks’ ability to raise capital internationally, which will hurt profits. Unemployment will continue to grow as companies cut back on production in the face of weak prices and fears over the future. Even those who are employed are seeing real incomes declining, with wage growth now lower than inflation.

National income per capita is falling for the first time since 1994, apart from brief falls during the 1998 and 2009 recessions. Until the employment trend turns, and wage growth with it, there is no way the banks can consider increasing their risk appetites.

History teaches us that eventually cycles turn. Corporate and consumer activity will recover. For now, there is no saying when that will happen. The banks’ conservative stance indicates that they can’t see any light on the horizon. The rest of us should take heed and batten down the hatches too.