Vietnam’s crowded banking sector is popping the champagne after reporting double-digit profits in the first half of the year, but a bubbly credit boom seems poised to pop later in the year.
Pre-tax earnings of the nine listed banks grew by an average 30%, with Vietcombank reaping $232.5 million, VietinBank $212.4 million, BIDV $164.1 million and Military Bank $111.7 million.
The windfall came from a lending surge that may not be sustained through the rest of the year due to credit limits, and profits will in any case be siphoned off to pay off substantial bad debts. Lending surged by 8.9% in the first half, pushing many banks close to the central bank’s credit cap for the entire year.
Vietnam International Bank used 15.7% of its 16% limit in the first six months and VP Bank has only 4% remaining of its cap. Asia Commercial has used up almost 50% of its credit allocation. Banks want the cap raised, citing inflation growth of just 0.11% in July over the previous month as proof that Vietnam’s price stresses of recent years have receded.
But the central bank is keeping a tight rein on the money supply to avoid another debts cycle that could jeopardize the economic growth target of 6.7%. Combined non-performing loans (NPLs) of the seven state-owned banks and 31 partly privatized institutions now exceed US$26.4 billion, double their 2012 level. This was equivalent to 6.8% of total lending at the end of 2016, according to Moody’s, a credit rating agency.
While the scale of these obligations is cause for concern, the International Monetary Fund warned in an assessment last month that a growing share was going to sectors like real estate, finance and personal loans that directly contribute little to the economy.
Real estate investment has grown by an average of 29% annually in real terms over the past decade, while average annual output from the industry has expanded by only 5.2% in the same period.
A big slice of credit also goes to state-owned enterprises, which are themselves weighed down by debts believed to exceed US$40 billion. The government said in March it will stop paying their liabilities, raising the odds that many will default on their bank loans. Public stakes in 137 public agencies will supposedly be sold off by 2020.
State-controlled banks, which account for 50% of total credit and hold 45% of banking assets, have effectively become funding conduits for poorly performing SOEs, leading to an alarming misallocation of credit between the public and private sectors. SOEs accounted for 15% of outstanding bank credit in 2016.
The IMF’s assessment said that state banks often gave loans to SOEs at “unnaturally low rates”, thus depriving private companies of vital financing and putting a constraint on growth. Since 2005,
the share of investment in gross domestic product (GDP) has fallen 10 percentage points.
Banks’ NPLs will continue to weigh down the economy until the government gets serious about reforming the finance industry, which has been sheltered from market competition to such an extent that other potential funding outlets have been shut out.
In 2016, banks accounted for more than 96% of financial sector assets: insurance companies had 3% and securities and fund management companies controlled a further 1%. Their assets amounted to 194% of GDP, which may make them too big to fail.
The central bank’s strategy is to make them even bigger by forcing mergers or takeovers of non-viable players: there have been eight such deals in the past six years and more are expected in 2018. Foreign banks have been promised a key role but are still waiting on the sidelines.
Seven fully-owned foreign banks are trading in Vietnam and 50 others have representative offices – some involving local joint ventures – with a combined US$35.8 billion of assets as of late 2016.
Foreign banks should get an opportunity under the government’s trial five-year NPL Resolutions package, which is due to start next week and aims to establish a secondary debt trading framework. It is unclear whether foreign investors can directly buy NPLs, but public officials say broader ownership rules will be overhauled.
Banks currently offload their NPLs to the Vietnam Asset Management Company, a warehousing agency that began buying debt in 2012 in exchange for a special type of bond that matures in five years.
Crunch time has arrived, however. The first tranches of debt will need to be repurchased from the VAMC in coming months, which will leave a big dent in industry profits until they can be shifted into a secondary market.
Vietinbank is among those that will take a big hit: all of its bumper profits will disappear, leaving the bank with a big deficit.
Adding to the pain, banks will also need to begin setting aside higher capital reserves to meet more stringent risk management requirements under Basel II global financial stability regulations. Given that most are undercapitalized, this will be a challenge.
In a recent survey, 60% of banks forecast better earnings in the second half and 90% expect their 2017 profits to surpass 2016 levels. How long they will get to keep that money on their balance sheets, however, is less clear.