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Thursday, December 1, 2022

Small banks can thrive

By Le Hoai An (*) - Nguyen Thi Nhu Hao (**)

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Many have asked how small commercial banks can compete with big state-owned banks. Reality in the banking system has shown that the biggest does not always win.

Disadvantages of small banks

State-owned commercial banks are far bigger than their private peers in terms of scale and input cost, so they can maintain high net interest margins.

Interest rates are a good means to screen borrowers. Large banks often keep deposit rates low, so their lending rates are lower than those offered by private lenders. This is why they can choose the clients they want most, especially those with high creditworthiness. They can manage bad debt way better than smaller banks which often set high lending rates.

In the past, to ensure high credit growth, small banks even extended loans to corporate clients in high-risk groups. This led to a banking system crisis in which several private banks were taken over by the central bank at zero dong and many others were restructured for survival.

Credit growth shift

Credit growth is a good indicator of confidence among businesses and consumers in the economy. Between 2000 and 2010, credit soared a staggering 32% a year. However, since 2011, credit growth has slowed to 12-14%. The country’s macroeconomic stability has played a part in credit growth policy.

After a strenuous restructuring process, commercial banks have changed their credit growth strategy and sped up digital transformation to improve the quality of their services, instead of focusing on loan growth.

In the past, lender banks favored big businesses and wealthy individuals which used assets as collateral. At present, small and medium businesses and consumers can have better access to bank loans thanks to the availability of a variety of financial solutions.

Borrowers have diverse funding demands. The fast changing loan portfolios of a major bank are a good example of this trend. Ten years ago, the manufacturing sector accounted for more than 50% of total outstanding loans at the Bank for Foreign Trade of Vietnam (Vietcombank). This percentage dropped to 30% in 2021 while other sectors made up nearly 40%, up from 11%.

The same pattern has happened at other major banks, including the Bank for Investment and Development of Vietnam (BIDV) and the Vietnam Commercial Bank for Industry and Trade (VietinBank).

Diverse needs for loans of different groups of clients have created an opportunity for small banks.

Niche market segments for small banks

Small banks are losing in the competition with bigger banks but they can still survive and growth by concentrating on niche market segments which have emerged in the economic development process over the last 10 years.

Interest rates are not the only decisive factor for customers to choose this or that bank. For these customers, the ultimate goal is to have an optimal financial solution, not merely a low interest rate.

Small banks have been moving towards low-income clients with diverse financial needs. Based on the financial needs of each client, banks offer a suitable financial solution. Niche market segments are small but create a new growth impetus for banks.

The niche market segments chosen by banks vary depending on their financial strength. However, all financial solutions are geared toward increasing their NIM, either by selecting groups of clients that are less sensitive to interest rate fluctuations or by enhancing the current account savings account service by offering favorable conditions, thereby lowering capital mobilization costs.

In light of ever-changing conditions with rising customers’ income and demand, the expansion of the retail lending segment and the digitization of related services are essential factors in the banking sector.

Interest rates are not the sole factor for the competitiveness of banks. Smaller banks have an edge when it comes to providing financial services and promoting digital transformation due to their lower operational scale compared to big state-owned banks.

(*) CFA

(**) HUB

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