Iran’s commercial lenders are in a rut. They are facing challenges that could damage the entire banking system. They are being called profiteers. Various centers of power, namely the government and the central bank, are pressuring them and for the most part lenders are incapable of meeting the demands. But what are the challenges they face these days?
In order to make profit and compensate for the losses they have incurred due to poor government policy, they started running non-banking businesses. They have also decreased their lending and reduced their banking activities. Unfortunately there are those who say banks do not exist to make profits.
Many would agree that, providing financial services is one of the most basic functions of banks. In other words, lenders collect financial resources from depositors and offer them to customers as loans. For years, however, Iranian banks have not done that. Instead, they have started running businesses for the sake of higher profits.
According to a report published this week by ISNA, in a symposium held in December and attended by CEOs of commercial banks, Economy Minister Ali Tayebnia said making profit is an essential part of the banking business, but urged the lenders to respect their “obligations to customers” by helping boost the manufacturing sector.
The conflicting demand from the lenders and their status in the economy has recently received widespread attention from top banking executives. In a key economic conference held two weeks earlier in Tehran, Central Bank of Iran Governor Valiollah Seif said banks are contending with six main obstacles which hinder banks in providing better financial services.
According to the governor, the main obstacles include the increased amounts of non-performing loans (NPLs), compulsory loans, government’s debt to the banking system, lenders’ debt to the CBI, state-own companies’ participatory bonds – bonds used for project financing -- and illegal activities of credit institutions which have failed to conform to CBI standards.
Toxic Debt
The main hurdle faced by commercial lenders is the hefty amount of toxic debt on their balance sheets which threatens the solvency of many of the largest Iranian banks.
Total NPLs rose 16.2 percent to 940 trillion rials (nearly $35 billion at official exchange rate) by November 21, 2014, compared to last fiscal year, ending March 20, 2014
Also, the banking system’s long term debt to assets ratio is at 14.7 percent for the first eight months of the fiscal year, showing a 60 basis point increase from the previous fiscal year, ISNA reported.
Nearly one third of the overall 2.85 quadrillion rials ($100 billion) of outstanding loans are non-performing. Banks can doubtlessly offer better financial services once again if and when these debts are sorted out.
Compulsory Loans
During the previous administration commercial lenders were forced by the government to give low interest loans – called “compulsory loans” -- to finance loss making projects. The cheap loans were offered to businesses which were not economically justified, critics say, leaving them with losses. Now, the CBI governor is setting new guidelines for lenders so that they give loans to eligible applicants.
Banks were obliged to give more than 360 trillion rials in compulsory loans ($13 billion), during the current fiscal year. But only 15 percent of the amount was provided in the first six months of the current fiscal year, according to CBI statistics.
By forcing state-owned banks to lend with an interest rate below their deposit rates, the government inadvertently drove up the interest rates banks can offer to the private sector, as banks would have to raise the interest rate on private financing to cover some of the losses incurred from compulsory loans, Seif said.
Government Debt
The government’s soaring debt to the banking system has taken a toll on the lending power of the banks, creating a domino effect that ultimately reduces the financial system’s power in supporting manufacturing.
Government debt reached 1.28 quadrillion rials ($47 billion at official exchange rates) by September 22, 2014, showing a 16.2 percent rise from March.
The government is planning to reduce its liabilities in the long run. How effective these measures are, remains to be seen.
Rising Debt
In the first eight months of the year, total debt of the banking system to the CBI stood at 681 trillion rials ($25.2 billion). The debt has noticeably affected monetary base and is one of the most important reasons why banks have been unable to provide financial services.
Not only is bank debt to the central bank high but it is also on the rise. The figure went up 14.4 percent in the first half of the year. Most of the rise came from commercial lenders which had their liabilities to the CBI surge by a whopping 170 percent to 129 trillion rials, from a previous 47 trillion rials. But, most of the debt to the CBI came from specialized banks – lenders specializing in financing certain industries – which owe the bank 552 trillion rials, though their debt remained stable, growing only 0.9 percent.
Unauthorized Institutions
Unauthorized credit institutions, operating independently and not under the CBI’s supervision, have commonly deviated from the regulations of the regulator and disrupted the money market. Credit institutions which failed to conform to standard interest rates and offered rates higher than norms partly account for lenders’ inability to provide financial services by whisking away deposits that would otherwise end up in bank vaults.
According to the CBI, by the end of the first six months of the fiscal year, the aggregate amount of deposits entrusted with only six credit institutions was nearly 940 trillion rials ($34 billion) which is roughly equal to 15 percent of the country’s overall money supply of six quadrillion rials.
The affairs of illegal credit institutions however are being seriously pursued by the CBI, according to Seif. The central bank now intends to sort out the affairs surrounding “14 unauthorized credit institutions” by the end of the year (March 20) and if these efforts fail “there will be no choice but to close them down.”
On the sidelines of an economic conference held in Tehran this month, Hamid Tehranfar, vice governor for banking supervision affairs, also said that the CEOs of eight credit institutions were dismissed and will never be able to hold other banking positions anywhere within the banking system.
Participatory Bonds
The last factor hindering banks’ ability in providing financial services, according to Seif, are participatory bonds issued by state-owned companies. The issuing of these bonds by state owned companies inflates their debt to banks. In the first seven months of the year, due to the participatory bonds which the ministries and their affiliated companies have sold, they now owe 163 trillion rials ($5.9 billion) to the banking system.
The banking system has a long list of challenges and crisis to deal with in the foreseeable future. Not all issues can be addressed at once. In fact, dealing with some will have adverse effects elsewhere. But without solving all the problems, commercial lenders will remain incapacitated and a burden unto themselves and the economy will continue to suffer from anemic financing, though that is just one of the factors suffocating the economy.
