The government’s greater reliance on commercial banks for its funding needs is something to watch, though it is not an immediate source of concern for the SA Reserve Bank, which has the tools to act should the situation warrant it, deputy governor Kuben Naidoo said.
In the wake of SA losing its last investment-grade rating in 2020, the proportion of government bonds held by foreign investors has dropped, leaving local lenders to pick up the slack. An economy that shrunk by the most in a century due to Covid-19 and associated lockdowns in 2020 also depressed demand for credit, leaving bank deposits looking for a home, which they found in bonds that are offering attractive yields.
Local banks now hold just over 20% of government bonds, up from under 17% at the end 2019. Holdings by foreign investors are down to 30.1%, from 37.1% in December 2019, according to data from the Treasury. At the height of optimism sparked by President Cyril Ramaphosa’s election in 2018, the foreigners upped their portion to around 43%.
The changed makeup raises concerns that local banks will be exposed to losses and weakening balance sheets if the government, which saw a widening of its budget deficit to a record due to Covid-19, comes under financial stress. A so-called doom-loop can also erode the value of banks’ equity if there is a sharp increase in interest rates, which would normally reduce the value of bonds.
“It’s not something you want to see go on forever,” Naidoo said at a webinar hosted by asset manager Ninety One on Wednesday, noting the “crowding out effect” of using private deposits to fund the government and exposing lenders to a sovereign default that may then turn into a banking crisis.
The Bank would like to see a growing economy that encourages companies to borrow while causing a decline in the government’s need for cash.
If the situation hasn’t changed in 18 to 24 months, “we have the ability to limit banks’ ability and willingness to lend to the government”, said Naidoo, who also heads the Prudential Authority, which regulates financial services companies.
That would include the use of macro prudential tools such as placing higher risk weightings for government bonds in banks’ balance sheets, which would then require them to hold additional capital against the assets.
Naidoo praised the banking sector for supporting the economy during the worst period of the pandemic-induced lockdowns, saying that about one in eight loans — equivalent to about R700bn — had been subject to some form of support from banks, either through restructuring or payment holidays.
Banks came under criticism, not least from Ramaphosa, over the apparent failure of the loan guarantee scheme, which paid out under R20bn to distressed firms despite being a supposed centrepiece of the government’s R500bn stimulus package. Banks argued that they had provided so much relief by the time the scheme became operational that there was no demand for additional loans.
In comments that came a day after data that showed SA’s unemployment rate climbed to a record 34.4%, Naidoo reiterated the Bank’s commitment to supporting the economy through interest rates, which would stay accommodative for at least a year or two. He stressed this didn’t mean the Bank wouldn’t raise the repo rate, which has been at 3.5% since July 2020.
“Our official neutral rate is somewhere around 7%” and “even the most dovish” member of the monetary policy committee put it at close to 6%, meaning that policy could be described as accommodative even if policymakers were to hike rates in response to an economic recovery and faster price increases.
“We will be fairly slow and gradual in raising interest rates,” he said, contrasting SA with other countries where inflation was not as well contained.
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