national_bank ethio

Monetary Policy Conundrum Credit Cap chokes embattled service sector

Since October 2017, the National Bank of Ethiopia (NBE) made a series of monetary policy adjustments such as devaluating the local currency, increasing the interest rate, and introducing a credit ceiling on commercial banks in an attempt to sustain the economic growth achieved in the last decade. However, the policy alterations have had mixed outcomes. Investors, especially those engaged in the service sector, complain about the lack of available credit, which they say worsened after the NBE made the policy changes. On the other hand, the banking industry continues to perform better despite challenges. EBR’s Samson Berhane investigates the different impacts of the monetary policy implemented in recent months.

Six years ago Yoseph Nibrase, a businessman engaged in the construction industry, decided to join the hospitality industry with his partner, with a goal of opening a five star hotel in Addis Ababa, a city that is home to almost five million people.

Yoseph, who is currently building Novotel Addis along Churchill Avenue, was certain that he would succeed in securing ETB500 million to finalize the construction of the 10 storey hotel he started five years ago. However, he has only managed to finalize the structural form of the building. “I waited over a year to get loans from various banks,” Yoseph says. “The construction, which was supposed to be finalized by now, might be extended for the next two years because of financial limitations. It is disappointing.”

The issue isn’t only affecting Yoseph. In just the first half of the current fiscal year, commercial banks (the major financiers of the private sector), endured many challenges. Among the primary difficulties is the credit cap that was levied on them five months ago.

In October 2017, the central bank ordered commercial banks to limit their lending ceiling to 16.5Pct of their previous year’s outstanding loans, on top of directly transferring 30Pct of their foreign currency to exporters. The latter figure was previously only 10Pct. By the time the directive was issued, most commercial banks had already passed the ceiling set by the National Bank of Ethiopia (NBE). This crippled their capacity to extend more loans. Although the central bank partially lifted the credit ceiling in November 2017, which allowed only the manufacturing sector to access loans from banks, investors like Yoseph, who engaged in the service sector and were eager to secure credit from commercial banks, were left behind.

Other complications the commercial banks faced in the first six months of this budget year ranged from the recurrent foreign currency crisis, to the complementary reforms made to constrain the repercussions of the 15Pct devaluation of the birr against the basket of major foreign currencies.

Side by side with the devaluation of the local currency in October 2017, the central bank made the exchange rate adjustment with the target of solving the foreign currency shortage that has haunted the nation for years. The measures were taken in response to the slump in export earnings and a bulging import bill: it reached a point where export earnings could only finance 1.8 months of imports. The Bretton Woods Institutions welcomed the move. During her visit to Ethiopia two months ago, Managing Director of the International Monetary Fund, Christine Lagarde, remarked that the devaluation made export prices in birr cheaper, which attracted more international buyers, while lowering import demand.

“It is [the] right action, and [it is] timely,” Lagarde said, during her meeting with high-level officials.

Economic Implications

Experts, who have seen the impact of the directives, do not share Lagarde’s optimism. “When the government prioritizes various sectors it is done without conducting studies, which are essential to understanding the different dynamics and importance of each economic activity,” argues Alemayehu Geda, professor of economics at Addis Ababa University. “This is shown by the recent credit ceiling, which dwarfed the contribution of the service sector to the national economy.”

Of course, the credit limit is still applicable to the major contributor of the economy—the service sector, which has been growing by 10.3Pct annually and accounts for nearly 40Pct of the country’s gross domestic product (GDP). This includes the booming hospitality industry, which is home to players such as Yoseph; and Anchinesh Tesfaye, who partnered with Carlson Rezidor Hotel Group to open Park Inn by Radisson Addis Ababa Hotel, in the Haya Hule tarea.

Park Inn is a four-star, 160-room  project with an investment capital of no less than half a billion birr. Although Anchinesh managed to complete the structural framework of the hotel, she has yet to realize her vision.

 “The state-owned Development Bank of Ethiopia and Commercial Bank of Ethiopia, and the private banks are not interested in providing us with finance, despite the fact that the hotel industry is one of the major sources of foreign currency,” says Anchinesh, who had planned on the hotel being open by now.

Alemayehu argues that availing credit for such projects means boosting the service sector. “Both in terms of contribution for economic growth and [in terms of] employment, the service sector outweighs manufacturing. So at the very least, attention should be given to selected sub sectors within the service segment”

Indeed, the service and agricultural sectors account for most of the economic gains Ethiopia saw over the last two decades, which averaged 10.8Pct per annum. The latter’s contribution to GDP growth stood at 37Pct in the last fiscal year, according to NBE’s annual report.

When it comes to employment creation, the service sector greatly surpasses manufacturing. There are close to one million paid employees in the manufacturing sector, which is 14Pct of the total paid workers in Ethiopia, according to the Urban Employment Unemployment Survey published by the Central Statistical Agency (CSA) in October 2015. On the other hand, the service sector hires 4.6 million paid workers, accounting for 65Pct of the total. Even sub sectors like hotel and hospitality, in which Yoseph and Anchinesh are engaged, hires 741,396 paid workers, which is much closer to manufacturing.

Although an in-depth, disaggregated analysis of the service sector’s role in economic growth and employment has not been done, experts like Simon Kuznets, an American economist and Nobel laureate, document the positive relationship between economic growth and the service sector. They suggest that since manufacturing is a skill intensive sector which requires highly trained employees not found in developing countries, the service sector becomes more important, absorbing the excess labor with relatively low training. Though India and Bangladesh are the most well-known examples of services-based growth, this is also happening in Sub Saharan African countries like Mozambique and Rwanda.

Even local experts like Zelalem Ejigu, lecturer in Department of Economics at Wellega University and his colleague, point out the contribution of the service sector to the total output growth and employment in their study entitled The Source of Output and Employment Growth in Ethiopia ,(2016). “The growth in GDP and employment in Ethiopia is the result of the growth in the service sector, especially from the employment growth of the non-market service sector and productivity growth of the market service sector,” they noted.

Government officials, however, argue that the service sector is mainly driven by the private sector’s short-term profit maximization attempts, by taking advantage of market failures and government incentive schemes. Even outgoing Prime Minister Hailemariam Desalegn told members of the parliament three month ago: “the expansion of the service sector stands against the country’s long-term development and transformation agenda.”

To shrink the share of service sector in the national economy, the government had implemented different strategies, such as diverting financial resources to the manufacturing sector. As a result, the annual growth rate of the service sector declined from close to 14Pct five years ago to the present 10Pct. The growth rate is expected to decline further, to below 10Pct after 2019/20, according to a report published by the National Planning Commission.

Yet experts argue that under globalization, service sector-led growth can be attained. “Fast growing African countries like Ethiopia can sustain service-led growth as there is enormous space for catching up and convergence,” Zelalem says. “The question is how can the country make use of its service-led growth to transform and sustain its economy?”

Banking Industry Thrives Amidst   Credit Crunch

Despite the limited finance available for the service sector, loan disbursement —and therefore profits—of most private banks have risen astronmically in the first six months of the current fiscal year. Particularly, the aggregate loans disbursed by all private banks reached over ETB160 billion—36Pct higher than in a similar period last year, while their profits showed a 27.6Pct upsurge to ETB4.9 billion.

“It is not surprising that the banks improved their performance in all aspects because the effects of the cap is minimal,” stresses Tiruneh Mitafa, vice governor of NBE, citing that there is enough money circulating in the economy, reaching as much as ETB573.4 billion on July 8, 2017.

Ever since the introduction of a mixed economy almost a quarter of a century ago, the banking industry showed drastic growth in the provision of services, outreach, capital and asset size, resource mobilization, credit disbursement, and automation. Sixteen private banks have been established over the past 22 years (this includes Commercial Bank of Ethiopia), while one is currently under way to become the nation’s 18th commercial bank, along with 35 micro finance institutions. Close to 31 million accounts have been opened, and the percentage of the adult banked population hit 22Pct, despite being 14 percentage points lower than the average seen in sub-Saharan African countries.

Particularly, the number of people who opened accounts in commercial banks reached almost 19.3 million, with deposits of over half a trillion birr,from below ETB30 billion five years ago. This is 50 times higher than the amount registered a decade ago.

Furthermore, the severe drought and ongoing political unrest that has intensified over the past few years have not deterred commercial banks from mobilising more resources; their deposits grew by 37Pct to ETB202 billion over the last financial year. The rate at which deposit mobilization grew in the first six months of this fiscal year was also the same as the pace witnessed across all private banks in the previous years, if not much higher than what was observed recently.

The total deposits of the industry reached ETB226.7 billion as of December 31, 2017, showing a ETB56.6 billion rise compared to the same period last year. This means that in the first half of the budget year, deposits showed a growth rate of 33.2Pct—three percentage points higher than the preceding year. The rate is higher than what has been observed in the industry over the past six years.

“This growth must have been driven by massive branch expansion, economic growth, and inflation,” Abdulmenan Mohammed, a financial expert with 16 years of experience in the UK and Ethiopia, told EBR. “The growth rate is also remarkable considering the political instability in the regions.”

The rise in deposits greatly varies across banks. Debub Global Bank has reported the highest growth rate of 93.3Pct to ETB872 million, whereas Dashen Bank  showed the lowest at 23.7Pct.

This was surprising and impressive to financial experts. “It is pretty remarkable,” says Abdulmenan.

It is not the first time the latest entrant in the banking industry, Debub Global Bank, registered a significant improvement in deposit mobilisation. At 72Pct, it registered the highest growth rate in deposits over the last fiscal year.“It is attributed to the relentless efforts of our shareholders who helped us mobilize high amounts of resources,” explains Addisu Haba, president of Debub, which recently managed to fulfill the minimum paid up capital requirements of half a billion birr just five years after its establishment.

Debub also managed to repeat its success in availing credit despite the reforms, such the cap, made in October 2017.  The amount of loans and advances disbursed by the bank reached ETB1.6 billion, increasing by 81Pct, the highest amongst all private banks. It is followed by Cooperative Bank of Oromia and Bunna with a growth rate of 65Pct and 60Pct, respectively.

But, in value terms, Awash mobilized the highest amount of loans and deposits over all private banks. Its loan book exhibited a six billion birr rise to ETB26.1 billion as of December 2017, and its deposits increased by ETB8.5 billion to ETB34.4 billion.

By the same token, the aggregate loans and advances disbursed by all commercial banks have also increased by 36Pct, relative to the same period last year, to almost ETB 160 billion in the first half of this fiscal year. It is higher than the rate registered over the past two years.“The growth in loans shows that the industry awaits a promising performance year,” Abdulmenan remarked.

For some, however, the swell in credit is not mirrored in the economy. “If there was enough money in the economy, we could have got the loan we requested a longtime ago,” said an individual who tried to get finance to expand their ETB50 million light manufacturing company but failed to do so. “It has been close to half a year since we requested ETB20 million in credit.”

Andualem Hailu, director of communications and marketing at Awash, disagrees. “I don’t believe there is a shortage of cash in the economy. Rather [the issue] is linked to the capability of banks in utilizing their liquid resources promptly,” he said, mentioning the case of his bank, which recently lent ETB750 million to BGI—one of the largest amounts of credit availed to a single borrower. “Besides a large chunk of mobilized deposits, there are loans collected every day that can easily be availed to new loan seekers.”

Nonetheless, a look at the loan to deposit ratio reveals that the banks used their liquid resources efficiently to generate more income in the first half of the financial year, than in previous periods. It increased to 69Pct as of December 2017, four percentage points higher than the same period last year.

This phenomenon has been observed across a number of banks chiefly due to the seasonality of loan disbursements and collections, according to industry insiders. Particularly, the ratio was between 84.8Pct and 51Pct at Debub Global and Zemen banks, respectively.

Higher deposit mobilization in the past couple of years has supplied the industry with more funds and enabled it to earn large incomes from lending. The industry’s gross profit increased by 27Pct to ETB4.7 billion birr for the year that ended on December 30, 2017. The growth is twice the amount registered a year ago, as indicated by the central bank’s data.

“The swell shows that the shareholders of banks will likely be rewarded with awesome returns by the end of the budget year, provided that the growth in paid-up capital is less than the growth of profit after tax,” Abdulmenan forecasts.

Founded nine years ago, Bunna Bank registered the highest growth rate in profit by 158Pct. It is followed by Debub Global Bank and Cooperative Bank of Oromia (CBO) with 145.4Pct and 123.5Pct, respectively.

Tadesse Chinkel, president of Bunna, described the success of with the high amount of interest income leveraged by the bank in the first half of the current fiscal year. “Our focus on the manufacturing industry in availing liquid resources helped us generate more income despite the adverse effects of the credit cap,” says Tadesse, whose bank managed to collect a gross profit of ETB238 million in just half a year, almost equal to the amount it netted in the last budget year. “We also expect a huge rise in profits and shareholders’ return in the remaining months of the budget year.”

In terms of value, Awash, Dashen, and Bank of Abyssinia are the front-runners, with a provisional profit of ETB771, ETB744 and ETB500 million, respectively, in the first six months of the current fiscal year.  These banks were also in the lead in the last financial year, registering a gross profit of ETB1.4 billion, one billion birr, and ETB794 million respectively.

Still, despite the blossoming figures registered by the banks, how a shortage of finance can be resolved once and for all is still a contentious matter for many. Yoseph, for his part, argues that diverting huge amounts of resources availed for public projects to the private sector, would be very helpful to quickly solve the crunch.“To bring about a sustainable solution, more focus should be given to the private sector, which is more effective and efficient than the public sector,” he concluded.

6th Year . March 16  – April 15 2018 . No.59

Samson Berhane


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