Retail lending in emerging economies across the globe has been booming, writes Scott Bugie in a Standard & Poor’s report*.
In developing countries around the world, retail lending has been zooming ahead, driving a banking sector boom since the beginning of the decade.
The so-called BRIC countries – Brazil, Russia, India and China – saw loans to individuals for housing, car purchases and other consumer spending more than triple from 2001 to 2005, from $145bn to an estimated $477bn. This amount remains small, however, compared with retail lending in mature economies, where loans to individuals in Germany alone totalled approximately $1700bn in 2005.
The speed of the expansion and enormous potential in emerging markets are remarkable. BRIC retail lending soared at almost 40% weighted average annual growth in the four years to 2005. Extrapolate that rate over the next four years starting January 2006, and BRIC retail loans would grow to $1800bn by year-end 2009. Standard and Poor’s (S&P) believes that such growth is not hypothetical but a real possibility that is making domestic and international financial services groups salivate at the business prospects. Our base scenario is for loans to individuals in the BRIC countries to grow 20%-30% a year in the medium term.
Truly global trend
Looking beyond the BRIC countries, S&P sees that the trend is truly global: double-digit growth (in real terms) characterises retail lending in the banking sectors of central and eastern Europe, the Middle East, Latin America, and south-east Asia.
It is important to place the high growth rates in emerging-market retail lending in the context of low household borrowing, relative to that of developed economies. Retail loans constitute a minority of total bank lending in developing markets and, in aggregate, a small part of the domestic economy. There is a stark contrast between the size of retail loan markets in mature economies and emerging markets. In Germany and the US, for example, mortgage and consumer loans constitute 62% and 99% of gross domestic product (GDP), respectively. In the BRIC countries plus Turkey and Mexico, total loans to households range from 4% to 14% of GDP (see chart).
The absolute amount of retail borrowing is smaller in emerging markets not only due to the economic development gap with mature markets, but also because retail banking itself is undeveloped. Even greater is the difference in mortgage borrowing: mortgage debt per capita in the US is $32,000, while in neighbouring Mexico, for instance, it is about $130.
Several factors support the continued expansion of household borrowing in developing countries. First, interest rates generally are lower now than in the past, reducing the cost of borrowing. Second, many developing economies have pent-up demand for housing and consumer goods that is being increasingly satisfied by the greater availability of credit at more affordable prices – clearly the case in Russia and central and eastern Europe. Third, the globalisation of the financial services sector has led to the spread of retail banking products and has promoted an increased willingness to borrow. Fourth, the base effect is at work in most developing countries, where only a minority of people uses banking products. The steady increase in the percentage of the banked population in many countries, fuelled by economic growth and continued growth in banking networks, will generate much new business.
Positive expectations
Clearly, the boom is predicated on continued economic expansion and improvements to the legal environment and banking infrastructure in developing countries. The medium-term trends in these areas are broadly positive in most emerging markets, supporting S&P’s expectation that retail lending will continue to steam ahead.
Retail lending growth could be even faster in emerging markets, if not for several constraints on the development of housing loans. In many developing countries, long-term funding remains difficult to procure due to high inflation, economic volatility and the often high credit risk of borrowers. Moreover, housing loans in many countries are in dollars, as opposed to local currency, to allow banks to secure longer term funding and provide loans in a more stable currency – a practice that often introduces risky mismatches in currency and maturity to bank balance sheets. Another obstacle is the immature legal infrastructure regarding real estate ownership and creditors’ rights in most countries.
In the long term, however, the greatest growth potential is to be found in housing loans rather than consumer finance. In emerging markets with relatively supportive legal frameworks and stable macroeconomic environments, housing lending should prosper in coming years due to huge underlying demand.
* This is an extract from ‘Full Steam Ahead for Retail Lending in Emerging Markets’ by Scott Bugie, Standard & Poor’s
