Stable lira and bonfire of red tape help Turkish banks

Alamy via Reuters

• Fitch lifts ratings for 18 banks
• Financial stability risks diminish
• ‘Macro-prudential’ rules scrapped

Turkish banks are under less operational pressure thanks to a more stable lira, simpler rules and policymakers’ swing back towards economic orthodoxy, Fitch said on Wednesday. 

Analysts at the credit rating agency warned that rising funding costs would compress lenders’ net interest margins, however.

Fitch has raised its long-term foreign-currency issuer default ratings for 18 Turkish banks this year, following a similar upgrade for the country itself.

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The changes reflect the lower likelihood that the government will intervene in the banking sector, as well as diminishing risks around near-term financial stability and government debts to foreign lenders, according to Lindsey Liddell, a Fitch Ratings managing director.

She told a webinar that risks for the banks had eased following Turkey’s return to more conventional monetary policies.

For many years President Recep Tayyip Erdoğan claimed that high interest rates were the cause, not the cure, for price rises. The central bank reduced rates to 8.5 percent in February 2023, from 19 percent in 2021. These accelerated a long-term decline in the lira and sent inflation soaring.

After his re-election in May 2023, Erdoğan changed strategy and the central bank raised the benchmark rate to a 22-year peak of 50 percent. Annual inflation nevertheless hit a 19-month high of 75 percent in May.

• Turkish lira expected to weaken further in 2024 
• Turkey’s bounced cheques, loan and card defaults soar
• Sustained rate hikes fail to reverse lira slump

Another positive development for banks has been the simplification of so-called macro-prudential rules. The central bank had introduced more than 200 banking regulations as part of its efforts to support the lira while interest rates were so low, but has now scrapped many of these.

The actions have “helped ease operating environment pressures for the banks”, said Liddell. “We’ve seen that in the form of increased exchange rate stability, a reduction in dollarisation, albeit that still remains high.”

According to Fitch estimates, around 39 percent of bank deposits are held in foreign currencies. A further 13 percent are in FX-protected accounts, which pay holders additional interest if the lira declines against major foreign currencies.

Turkey’s biggest banks by assets include state-owned trio Ziraat Bankası, VakifBank and Halk Bank, plus privately run rivals Türkiye İş Bankası, Yapı Kredi and Garanti Bankası (which is majority-owned by Spain’s BBVA).

Pressure on margins and loans

Rising funding costs will put pressure on Turkish net interest margins, Fitch said, with banks paying higher interest rates on lira-denominated savings accounts.

Loan growth will also ebb, said Ahmet Kilinc, a Fitch director, because borrowing is more expensive after the sustained interest rate increases that have also steadied the lira.

Turkey’s lira is down 82 percent versus the dollar over the past five years but has been relatively stable in recent months, falling by only 3.4 percent since March 1.

This has led banks to increase their combined foreign currency lending by $20 billion since the start of 2024, Kilinc said. In response, the central bank imposed a limit on such loans in May.

Fee income will boost banks’ profitability, but trading income will decline this year, according to Kilinc.

Loan defaults are expected to rise because of higher repayment costs. This is likely to be most pronounced in unsecured personal loans, he said. 

Non-performing, or Stage 3, loans make up about 1.5 percent of banks’ total loans. Stage 2 loans – in which borrowers are in difficulties but have yet to default – are about 7-8 percent.

“High interest rates, a weaker GDP outlook, significant foreign currency lending and exposure to single name [borrowers] and some risky sectors such as construction and real estate pose risks to asset quality,” Kilinc said.

“We expect profitability to remain reasonable, but also sensitive to the macroeconomic outlook and the regulatory environment.” 

Kilinc described most banks’ capital buffers and provisioning levels as “adequate”.