The banking sector in Uruguay is not typical of an emerging market. Although small in size and with limited bank penetration, its stability – a trait it shares with the country's political landscape – has for years attracted large volumes of deposits from beyond its borders, making Uruguay one of the world’s most liquid banking markets.
“Uruguay is a country where there is more liquidity than investment,” says Jose Manuel de la Cruz, country manager for BBVA Uruguay. “We’re probably one of the few countries in the world where there is no liquidity tension; banks have liquidity surpluses.”
Mixed picture
Liquidity is indeed sought after right now in global markets, but its availability within Uruguayan banks does not mean that all is well within the country's financial sector. Banks have traditionally been using such funds to lend to other banks outside of the country, but in the current low interest rate environment, interbank lending has not been particularly lucrative. Banks’ bottom lines have been affected by this.
Only five out of the country’s 11 private sector banks – Itaú Uruguay, Discount Bank, Santander, Citibank and Banco de la Nación Argentina – closed 2011 in profit. The two public sector lenders – Banco de la Republica O del Uruguay (BROU) and Banco Hipotecario – also made a profit last year, with a combined total of 7.83bn pesos ($385.25m). BROU and Hipotecario showed pre-tax profits of $292.76m and $92.49m, respectively. Uruguay’s 11 private sector banks closed the year with an aggregate loss of $220,000.
“Banks’ low profitability is influenced by the low international interest rates on loans to international markets,” says Fernando Calloia, president of BROU. “Banks lend to foreign markets for about 50% of their assets; if international rates don’t give good returns to these assets, this affects banks’ profitability.” State banks, which are run along different lines, are not affected by such external influences.
Further, because of the very short-term nature of the foreign currency deposits, international loans must be extended to highly rated institutions, with most of the funds being directed towards loans to US and European banks. The European sovereign risk crisis has started to change counterparty risk profiles, says Gerardo Licandro, head of economic research at Uruguay’s central bank. As the ratings of some banks in those regions have deteriorated, Uruguayan lenders may have had to revise the appeal of those financial institutions.
The decrease of interest rates since 2007 reduced the profitability of Uruguayan banks, [which] compensated this with an increase of domestic loans; loans to households, and enterprises [can be] very profitable
However, the financial service superintendent at Uruguay’s central bank, Jorge Ottavianelli, insists that because the largest banks in the country are part of international groups, most of the liquidity has been channelled back to the banks' headquarters anyway, since the interbank rate, Libor, started to decline during the financial crisis. “Since 2007, Uruguayan banks' loans to foreign banks [have] been [used to] concentrate deposits at headquarters,” he says. “This could be explained by several factors: first, the lower interest rate since 2007; and second, increased counterparty risk and liquidity needs. In this environment it makes sense to get money from inside the [same banking group].”
Domestic quirks
Besides external factors, the profitability of Uruguay's banks is affected by local peculiarities, such as the high cost of staff, which bankers say contributes to the low efficiency ratio of the country's banking sector, which has cost-to-income ratios as high as 80%, or even 90%.
“Efficiency is low in Uruguay because the country is highly unionised,” says Mr de la Cruz at BBVA Uruguay. “The direct [staff] costs and benefits have a higher weight over income than in other countries. This is an important peculiarity of Uruguay.”
BBVA Uruguay closed the year with a loss, but in its case, says Mr de la Cruz, it was due to the integration of Credit Uruguay, bought in 2010 from France’s Crédit Agricole. “[Credit Uruguay] had bad efficiency ratios; during 2011, we [started] to rationalise it,” he says. “We had a loss of $36m due to [the cost of] this rationalisation and in 2012 we expect a profit of $25m.”
Santander Uruguay’s president, Jorge Jourdan, is optimistic about the improvements in the interbank loans business and believes that rates will grow this year, as displayed in the first few weeks of 2012. The bank expects that the three-month Libor will on average be 0.56%, against a 0.33% in 2011. This is, however, still far below the 5.3% of 2007, and this has caused Mr Jourdan and his peers to focus on other sources of income.
The local market
Uruguay’s banking sector is small, with total bank assets of about $28bn. And it is highly concentrated too. State-owned BROU has a market share by assets of about 43%, while its profits accounted for more than three-quarters of the total $392m in banking profits in the country last year. The bank serves the public administration and its employees in a country where the state employs about 30% of the working population. BROU can deduct interest on loans directly from clients’ salaries, which allows the bank to provide more competitive interest rates. Private sector banks say that because of this, BROU’s rates can be 10 basis points lower than those of its competitors.
Having a de facto public sector monopoly has been a clear advantage for the bank, which, as well as achieving record profits last year, also grew its assets by a larger margin than the average rate among private banks. BROU closed 2011 with $11.9bn in assets, a figure 17.5% larger than in 2010, while private sector banks’ assets grew on average 13.3%, closing last year with a total of $15.6bn.
On the private sector front, Santander, BBVA and Itaú are the top three lenders, holding between them about two-thirds of the banking assets. In fourth place is Nuevo Banco Comercial, which was acquired by Canada's Scotiabank last year, followed by Citi and HSBC.
The low profitability from interbank lending has brought greater attention to the need to develop the local banking market. As Uruguay’s economy grows at a steady rate, so does the proportion of its population with access to banking services. Gross domestic product (GDP) grew by 6.4% in 2011 and is expected to grow between 3.5% and 4.5% this year – lower than the previous year but in line with forecasts for the rest of Latin American. Further, Uruguay’s unemployment rate as of November 2011 was at the historical low of 5.5%.
“The decrease of interest rates since 2007 reduced the profitability of Uruguayan banks, [which] compensated this with an increase of domestic loans; loans to households, and enterprises [can be] very profitable,” says Mr Ottavianelli.
As a result of these promising economic indicators, the volume of business in Uruguayan pesos is growing at a much higher rate than operations denominated in foreign currencies. According to the country's central bank, in the final quarter of 2011, the two amounts grew by 15.5% and 3.7%, respectively. On an annual basis, operations in the local currency expanded by 23% since the end of 2010, while the international currency business grew only by 16%. Local currency operations are, however, still significantly smaller, at about half of the $22.3bn total of foreign currency operations.
Growth promise
“In the past, there was basically no local credit; now it’s starting to grow as banks reposition their portfolios and there is more focus on mortgages and consumer loans,” says Mr Licandro at Uruguay's central bank.
A growing economy coupled with a very low penetration of banking products – loans to the private sector make up only about 20% of Uruguay's GDP – means that much can be done to reach a wider number of clients. The government is also naturally keen to pursue financial inclusion across the country.
BROU’s Mr Calloia says: “The government is pushing to improve the level of bancarisation: credit cards, e-payments and others – this will be its focus in 2012. We’re thinking about investing about $60m in 2012 and about 50% will go towards improving alternative banking channels.”
Sharpening alternative payments channels and electronic services to reach a wider network of clients will, no doubt, also help to bring operational costs down, for both public and private sector banks. And it will all contribute to a healthier bottom line for the sector.
