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Johannesburg - Ratings agency Moody's upgraded the outlook for South Africa's banking system on Thursday from negative to stable, saying a rebound from recession and low inflation will give the sector a boost.
"After going through its first recession in 17 years, the South African economy is recovering and expected to grow by around 3% in 2010," Moody's said.
"Reduced interest rates and benign inflation of 3.5% in August 2010 are expected to help reduce debt-servicing costs and boost consumer affordability."
South Africa's economy returned to growth in the third quarter of 2009 following a recession.
The recovery has been accompanied by a steady fall in inflation this year, with a rate of 3.2%.
The central bank has responded by cutting interest rates to 6% to spur the economy's still-tepid recovery.
Moody's said the country's banking sector is also boosted by a "solid overall balance sheet."
It said that as of July banks held liquid assets totalling R99bn above the minimum required by industry regulations, meaning they had a buffer to absorb liquidity pressures and did not require government support.
"Improved operating conditions are already having a positive impact on the banking sector's performance. The rate of early arrears has been decreasing and non-performing loans have flattened out since year-end 2009," explained Constantinos Kypreos, a Moody's Vice-President, Senior Analyst and author of the Banking System Outlook on South Africa report.
The report also highlights challenges for the sector.
The pace of economic recovery will remain subdued and asset quality and profitability indicators are not expected to return to pre-crisis levels in the near term, it said.
The sustained high, though reduced, credit risks faced by the banking system are exacerbated by high consumer indebtedness, challenges in the government-mandated "debt counselling" process, and by the banks' willingness to underwrite mortgage loans with high loan-to-value ratios, it said.
"The system is also faced with structural funding challenges, through its dependence on wholesale/professional deposits. This leads to high deposit concentrations, short-maturity liabilities leading to large mismatches in the maturity profile of assets and liabilities, and higher funding costs," Kypreos added.
Moody's expects that SA's banks will find it difficult to meet the proposed new liquidity standards under Basel III in their current form.
Existing exchange controls and restrictions, however, ensure that rand liquidity remains "trapped" within the domestic financial system, and has provided a level of protection during the recent financial crisis.
