South African banks starting to open the taps – but there’s a catch

South Africa’s banks are beginning to loosen their lending criteria, with private sector credit extension growing quicker than expected as inflation comes down and confidence grows in the country’s economic prospects. 

The growth in credit extension may also result from banks anticipating interest rate cuts towards the end of the year, reducing the financial pressure on households and businesses. 

However, the growth in lending is heavily skewed towards companies as they have proved far more resilient to rising costs and debt repayments than households. 

Earlier this year, S&P Ratings noted that lending from South African banks was likely to slow as non-performing loans rose. 

Banks typically benefit from rising interest rates as they collect more interest from their previously issued loans, boosting their profit margin. 

Interest rates in South Africa have risen sharply in recent years, with the Reserve Bank hiking rates by 475 basis points since November 2021. 

This impact is compounded by the fact that interest rates offered on savings accounts do not rise as fast as the interest charged on loans. 

However, as interest rates remain elevated for longer, this effect wears off as clients begin to face pressure and cannot pay off their loans. 

To prevent this effect from having too much of an impact on their businesses, banks have responded by swiftly tightening their lending criteria and cutting back on lending. 

This appears to be coming to an end as private sector credit extension growth accelerated to 4.3% in June, ahead of expectations for 4% growth. 

The improvement was driven by corporate credit, which expanded by 5.1%. This is up from 4.3%, revised down from 5.0% in May. 

Within corporate credit, vehicle asset finance surged to 16.7%, the fastest pace since April 2014, compared to 9.9% in May. 

General loans and advances moderated to 6.3% from 7.1%, while mortgage advances edged up slightly to 3.3% from 3.2%. 

On the other hand, household credit growth slowed to 3.3% in June – the weakest past since March 2021. 

Unsecured lending and overdrafts were particularly hard hit, while credit cards continued to boom, growing by 10.7% year-on-year. 

FNB said this indicates increased usage of credit cards for basic necessities and fuel consumption as consumers look to maintain their lifestyles amid rising prices. 

Year-to-date growth averaged 3.7%, half the rate of 7.4% in the same period of 2023. While corporate credit has shown resilience in the last few months, household credit growth has continued to weaken.

This reflects the impact of high borrowing costs and tighter lending standards. This divergence suggests a strain on household finances and could dampen overall spending activity in the near term.

Lending will be boosted by interest rate cuts, which are expected to begin at the Monetary Policy Committee’s (MPC) next meeting in September. 

At its last meeting, the MPC left rates unchanged, keeping them at 15-year highs. This is despite the Reserve Bank forecasting inflation will hit the midpoint of its 3% to 6% target range next year. 

Old Mutual Wealth investment strategist Izak Odendaal said if they skate to where the puck is going, they can start cutting already. Two of the six MPC members favoured a cut and are skating in that direction.

One concern that most likely prevented the other four members from voting to cut interest rates is a potential divergence between South Africa and major economies, particularly the US. 

Cutting rates before central banks in these economies can result in rand weakness as capital will flow to countries with higher risk-adjusted returns. 

This may place upward pressure on inflation as it will make it more expensive for South Africa to import goods, particularly oil. 

However, at its latest meeting, the Federal Reserve sent a clear signal that it is looking to cut interest rates at its next meeting, which will also be in September. 

This will give the MPC more room to cut interest rates in South Africa.  When the Federal Reserve starts to reduce interest rates decisively, the Reserve Bank will likely act quickly in following suit or may preempt this move if local inflation drops enough.

“The prospect of lower US interest rates is positive for local financial markets and supports the case for the South African Reserve Bank to start lowering its policy rate at its next meeting,” Odendaal said. 

Lower interest rates will ease pressure on consumers, increase their ability to take on credit, and banks’ willingness to extend credit.