‘Financial system strong but small banks pose risks’


Fitch’s BMI notes banking structure heavily fragmented
THE Philippine financial system as a whole is much stronger now than a decade ago but shows pockets of weaknesses among smaller thrift and rural banks, Fitch-owned BMI Research said.

BMI noted that the structure of the banking sector is heavily fragmented and heterogeneous.

“Although the banking and financial system is fairly robust as a whole, we highlight that risks are unevenly spread out across the industry, and there are pockets of credit risks among the smaller thrift and rural banks.”

The think tank pointed out that the larger commercial banks are well poised to weather market volatility, but the smaller rural and thrift banks have a higher exposure to consumer and agricultural loans with a higher tendency to turn sour and leave them more vulnerable to economic shocks and market volatility.

Most of the performance indicators are skewed toward the larger universal and commercial, masking some risks inherent in the other segments of the banking sector, it said.

For instance, the gross non-performing loans NPLs are much higher among thrift and rural banks at 4.9 percent and 11.5 percent, respectively, in June, while provisions were only at 50 percent to 60 percent.

“Moreover, these two segments of the banking sector have a higher exposure to consumer, micro, small, and medium enterprises (MSMEs), and agricultural loans, which have a higher probability of default, making them much more vulnerable to economic and exogenous shocks, as well as market volatility,” it highlighted.

On the other hand, the think tank believes that the banking industry as a whole is doing well despite the usual problems.

“We remain positive on the outlook of the Philippine banking sector as a whole, which is supported by a favorable macroeconomic backdrop, stable asset quality, strong capitalization and liquidity profiles, and prudent monitoring by the Bangko Sentral ng Philipinas (BSP),” BMI said in report released late Friday.

The Philippines’ growth momentum should power strong credit uptake over the coming quarters as both businesses and households assume leverage against a backdrop of profitable opportunities and positive sentiment.

The Philippine economy, at 7 percent as measured by the gross domestic product, was one of the fastest growing economies in Asia in the second quarter of 2016.

“Our constructive view of the banking industry is also supported by strong fundamentals such as a stable and low gross non-performing loans (NPL) ratio, a relatively healthy provision for non-performing assets (NPA), and a sufficient capital adequacy buffer,” it said.

This puts Philippine banks in a good position to weather market volatility and withstand unexpected losses in the event of economic shocks.

This also reduces refinancing risk in the banking system as international wholesale borrowing tends to be difficult to roll over in periods of heightened uncertainty—Brexit, the US presidential elections, and President Rodrigo Duterte’s increasingly unorthodox policies weighing on investor confidence, according to BMI.

BMI see the small pockets of weakness in the banking industry, coupled with increasing competition from foreign banks, will likely give impetus to the current wave of consolidation in the country over the past year.

“We expect the current wave of consolidation to continue as bigger and stronger players in the industry buy out their weaker peers to gain market share in the face of heightened foreign competition,” it said.

This is in line with the goal of greater financial integration in the region under the Association of Southeast Asian Nations (Asean) Banking Integration Framework to create stronger regional banks to support the Asean Economic Community, the think tank noted.

For his part, BSP Deputy Governor Nestor Espenilla Jr. said the closure of the smaller rural banks was a process to ensure a stronger banking system.

“The system is evolving. So what we are seeing is the weaker players have decided to get out of the system or combine with the others. We keep saying, compared with 10 years ago the banking system today—those that remain to service the market—is more stronger than the banking system 10 years ago,” he told reporters on the sidelines of a forum over the weekend.

Espenilla noted the Philippines was able to avoid the current situation in Europe, where there is something wrong with the banking system.

“So what is happening to them? They are unable to grow. Even though the central bank there keeps releasing liquidity, it doesn’t go out because the transmission channel, the financial system, is a problem. So that is the situation that we have avoided right now,” he pointed out.

“We have created a very robust financial system, a very effective transmission mechanism – and that translates to loans,” the BSP official added.

According to the BSP, the number of banks operating in Philippines declined to 618 as of end-June, from 638 a year earlier, as banks continued to consolidate, with the weaker players getting out, particularly the rural banks.


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