Covid-19 impact on the banking sector
From B8 stress as a result of lending to households with volatile income and no assets, and some may be unable to maintain solvency.
Institutions at risk include those with hardcurrency, short-term funding or interbank liabilities, or those with high concentrations in sectors particularly affected by the Covid-19 shock.
Such problems make a “credit crunch” likely, with sharp reductions in new lending and hoarding of liquidity and capital. This will mean that the banking sector will add to already recessionary forces in sub-Saharan African economies.
If MFIs are under stress, this credit crunch will affect small and medium-sized enterprises (SME s) and microbusinesses badly — reducing low-income households’ ability to maintain livelihoods including in the informal sector.
Policy measures to address this have included reducing capital ratios and interest rates, which may help to balance financial stability and finance for growth — although their effectiveness will also be subject to banks’ risk appetite.
In addition, should recovery not be rapid, there is a risk of “zombie” banks and firms.
This means that they are effectively bankrupt, but the insolvency is not crystallised because of policy forbearance.
In other crises (such as Japan’s “Great Recession” in the 1990s), such problems suppressed a robust recovery for decades.
Finally, in a worst-case economic scenario, the economic recession in the region could be deeper or more exceptionally prolonged than expected, and possibly result in a systematic collapse in many of the country’s banking systems.
Three ways to support Africa’s banking system
This outlook has serious negative implications for the livelihoods of low-income households — especially as they will feel other effects of the shock such as reduced remittances and trade.
In the short-term, international finance institutions (IFIs) need to support SME s and microbusinesses directly or through financing via banks and MFIs.
In the longer-term, finance to support recovery — also known as “patient capital” — will be key to replace lost bank lending. This is especially the case in agriculture, manufacturing and trade where employment and informal occupations are concentrated. However, it is important to support only viable businesses and not propup “zombie” businesses or finance institutions as this can delay recovery.
For households suffering immediate distress such as food insecurity, social protection programmes are needed rather than financial inventions, including direct cash transfers and health and welfare programmes.
Finally, the crisis has brought to the fore the possibilities of the digital economy. Africa already leads the world on telecom infrastructure and uptake and innovation in the digital economy.
This offers efficiency and productivity gains for African economies. Today it presents a chance to continue to build the economy in the post Covid-19 environment and even for Africa to aspire to become a global hub for innovation. IFIs need to support and deepen such innovation in the digital economy, including in supply chains, consumer services and trade. — odi.org