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Challenges for banks ahead

By Thuy Le

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Many banks might have recorded positive profit growth in 2022. But challenges are awaiting them this year given negative factors such as high interest rates and bad debt.

Rising interest rates

On January 5, 2023, VietinBank said it was looking to obtain VND19.45 trillion in pre-tax profit in 2022, up 15.4% from 2021. At its general meeting early last year, the bank only provided a profit estimate with a rise of 15% in its 2022 pre-tax profit, and it might be adjusted as approved by State agencies.

In other words, not until the end of the financial year did VietinBank officially announce the specific number for its 2022 profit plan. This suggests the profit target set by this bank must have been achieved. Despite the influence of several unfavorable factors as the monetary policy began to be tightened again, banks still recorded positive profit growth in 2022 and are among the best profit-generating sectors in the economy.

However, challenges are expected to get even more dire in 2023. The sharp deposit rate hikes in the final months of last year began exerting their impact on the surge in the cost of capital more clearly this year, bringing banks’ profit margins under excessive pressure to shrink further.

Compared to other economies, Vietnam is one of the few countries that managed to keep macroeconomic uncertainties and the negative impacts from the international financial market in check last year. Whereas central banks worldwide soon tightened their monetary policies and kept raising their interest rates right from the beginning of 2022. Not until September did the State Bank of Vietnam (SBV) start to hike interest rates and wrap up the year with such rates only lifted twice, one percentage point each time.

However, despite the policy of adjusting interest rates moderately, the race between banks when coming to raise interest rates to lure clients became more cut-throat, especially from the late third quarter to the first half of the fourth quarter. The deposit rates on offer constantly hit new highs, as liquidity at certain banks plunged as depositor confidence was eroded by the SCB incident. Meanwhile, access to capital in the interbank market got choked off as well, as a result of the major lenders with ample liquidity taking their risk control to a higher level.

Consequently, while the interest rates on savings of less than six months mainly picked up by only two percentage points, the addition was up to 3-4 percentage points for the longer terms—six months and longer in 2022, marking the fastest and strongest growth in recent years. Though some banks reached a consensus on bringing down their deposit rates to 9.5% late last year in response to the appeal of the Vietnam Banks’ Association, the story of interest rates will remain in the spotlight this year.

It is noteworthy that the recent deposit rate hikes have yet to be factored into the 2022 capital costs of banks. Many lenders have already stepped up their capital mobilization via medium- and long-term deposits in the previous years, as well as via the issuance of bonds. This year, the medium- and long-term capital they formerly enticed reaches its maturity and gets re-deposited under the new deposit rate bracket, which is now much higher than before. Banks will see the cost of capital more clearly reflected with a faster growth rate.

In the opposite direction, lowering lending rates is once again determined as one of the central tasks of the banking industry in the coming period. During the conference to review 2022 and discuss the tasks and solutions for banking operations in 2023, the Prime Minister once again asked the central bank to call for credit institutions to minimize their operating costs to reduce loan interest rates further.

Bad debt and slow growth

Apart from the challenge of narrowing interest margins, the rapid growth in interest rates entails the risk of bad debt rising in the banking system.

Firstly, with higher interest rates, the business community will have to bear greater financial costs. Those enterprises with inefficient operations can hardly afford the newly adjusted lending rates, meaning they will run into more problems with a high possibility of debt default.

Secondly, soaring interest rates may also lead to the potential for a recession, as many analysts have pointed out. In an economy where growth gets stagnant, business activities will certainly get adversely affected, which will bring about a more negative impact on the debt repayment ability of enterprises, especially those whose debts have been restructured due to the Covid-19 pandemic in the past two years. The possibility of debts restructured due to Covid-19 becoming irrecoverable has been a prominent topic of discussion lately.

The banking industry gets even more motivated to tighten and control lending more strictly, making credit growth no longer easy. In addition, with monetary tightening still prevailing, the central bank will likely keep inhibiting credit growth more than it did in the past.

Thus, not just influenced by the operator’s orientation, banks may need to keep credit in check, especially since their resources will probably get divided for bad debt settlement if loans gradually become riskier. On the customer side, exorbitant interest rates discourage them from borrowing capital to expand their investment, production, and business activities. These will likely make the size of banks grow more slowly than in recent years.

The demand for growth may also be hindered by the higher standards, ratios, and safety factors at the request of the central bank, as they require banks to enlarge their capital in the coming years constantly. This is yet another big challenge for quite a few banks this year, in which the stock market is no longer appealing.

In the project for restructuring the system of credit institutions associated with bad debt settlement in 2021-2025, the first goal is once again the pilot application of Basel II in the advanced mode at those banks that have completed the deployment of this accord in the standard mode. Another goal to strive for is banks’ capital adequacy ratio (CAR) to be at least 10-11% by 2023. Besides, the SBV groups banks by charter capital, with the first group comprising those with a minimum of VND15 trillion, the second group made up of small- and medium-sized banks having at least VND5 trillion, and the third group gathering the remaining lenders. Such grouping is one of the reasons for the central bank to allocate annual credit growth targets; thus, building up one’s capital will continue to be challenging, as mentioned above.

Meanwhile, the association with insurance, consulting, and bond issuance, which have contributed significantly to banks’ profits in recent years, will also be subject to stricter control, affecting how banks perform and grow in 2023. Last but not least, the investment in corporate bonds that were once a major source of profit may also turn into potential risk, causing damages to those banks holding a considerable volume of bonds or getting deeply involved in distributing this type of debt security to their depositors.

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