The looting and arson that erupted in South Africa in July, following the arrest of the former president Jacob Zuma, resulted in the destruction of retail outlets, manufacturing facilities and infrastructure, and has claimed more than 330 lives.
The unrest also affected hundreds of bank branches; 5% of the national ATM infrastructure was damaged, according to S&P Global. “The violence has had a massive impact on banks’ operating environment,” says Mahin Dissanayake, senior credit analyst at Fitch Ratings.
South African banks derive 40–45% of their operating revenues from non-funded income, such as ATM transactions, according to S&P Global. “These transactional fees have supported banks’ profitability, particularly during economic downturn, when lending has been limited,” says Samira Mensah, senior credit analyst at S&P Global. “But these bread-and-butter revenues have been undermined because of the damage to physical infrastructure.”
South Africa’s economy contracted 7% in 2020 owing to Covid-19, forcing banks to set aside sizable loan-loss provisions. As the country emerges from the worst of the pandemic, banks had been expecting to significantly ease provisions. But with unrest forecast to shave around 0.7% off headline gross domestic product (GDP) growth in 2021, “banks may be forced to set aside further provisions for the businesses worst affected by the violence,” Mr Dissanayake says.
The banking sector's non-performing loans (NPL) ratio increased to 5.2% at the end of 2020 as Covid-19 hampered borrows’ repayment capacity. Debt relief to customers — which covered about 20% of gross loans last year across the four largest banks — limited the increase in bad loans and cushioned the impact of the pandemic on asset quality. However, as debt relief measures are unwound, Fitch Ratings forecasts the NPL ratio will increase further to 6.5% at end 2021. “Risks for banks are rising,” Ms Mensah adds.
Public debt risks
Jason Tuvey, senior emerging markets economist at Capital Economics, argues the impact of the unrest on the public finances could be the most significant outcome. “There is now an increasing likelihood that the authorities will scale back their fiscal consolidation plans, which could leave the public debt ratio on a worrying upwards trajectory,” he says.
The government had set out a strident fiscal consolidation plan for next three years centred around a public sector wage freeze. The aim is to bring the budget deficit down from 7.5% of GDP to 4.5% in the current fiscal year, with further cuts next year in an effort to achieve a surplus in 2024/2025.
Banks bread-and-butter revenues have been undermined because of the damage to physical infrastructure
“South Africa’s public finances are extremely fragile, and it wouldn’t take much to put the debt ratio onto an unsustainable path,” Mr Tuvey says.
A series of institutional and structural impediments continue to weigh on economic growth, including unreliable electricity supply; weak investment expenditure; an inflexible, heavily unionised labour market; and sizable contingent liabilities at weak state-owned enterprises.
“All these factors hold back economic activity and make it more likely that banks will suffer as credit conditions tighten, and that bad loans will increase,” Mr Tuvey says. “The risk of further unrest only adds to these concerns.”
The fallout from the unrest only highlights the need for South African banks to step up their digital transformation drives and move away from a cash economy, Ms Mensah adds.
“The vast majority of the population relies on cash, and this is proving difficult to change,” she says. “But the development of more digital banking solutions will not only help large banks reduce costs, but also risks to their physical infrastructure.”
