Western banks, burdened by the twin problem of the global financial crisis and a weak economic environment, face the prospect of a financial new world order that will force them to adapt new strategies in order to strive and even survive. One of the most likely, significant trends of tomorrow’s banking landscape is the emergence of a bloc of countries, consisting of South America, Africa, Asia and Middle East (SAAAME), which is set to a dominate trade and investment in the foreseeable future.
The likely rise of the SAAAME axis as a self-sufficient and dominant bloc will pose an additional challenge to Western banks as they struggle to remain relevant in tomorrow’s banking reality.
As the leading international professional services firm, PricewaterhouseCoopers has conducted an in-depth review of what will shape the banking industry in the next decade, drawing on its extensive experience of working with banks around the world. Previously, this series of articles has discussed the main drivers behind the dramatic change of the financial sector, such as the slowdown in economic growth in the west, regulatory reform and the impact of the financial crisis.
One of the major conclusions of PwC’s research is that there will be an inevitable shift from the west to emerging markets that make up the SAAAME bloc. At the same time, banks from emerging markets will be progressively able to enter the west freely and do so aggressively, while western banks are locked out of the major emerging growth markets
There are several indicators that are illustrative of the growing importance of the SAAAME bloc. The recent global financial crisis had a smaller effect on emerging economies than on many developed economies. China in 2009 experienced gross domestic product (GDP) growth of 8.7 percent, while India’s GDP growth stood at 5.7 percent. The E7 economies (China, India, Brazil, Mexico, Russia, Indonesia, Turkey) are set to grow at over 3 times the rate of the G7 (Canada, France, Germany, Italy, Japan, United Kingdom, United States) economies through to 2050 and by this time E7 GDP will be around 70 percent larger than that in the G7, according to data from the International Monetary Fund and PwC.
The SAAAME countries don’t need to look to the US or Europe anymore for capital, consumers, manufacturing, labor and natural resources such as oil. Although traditional trade flows will remain, trade between emerging nations is growing at a significantly faster pace. This will lead to a continued and inexorable shift of power to the SAAAME countries, both in terms of capital and decision making.
Another import factor is that we will continue to see a decline in the use of the US dollar as the world’s reserve currency as emerging markets grow in independence and China’s influence continues to flourish. Sovereign wealth funds also play a key role as they are becoming an increasingly large source of liquidity in a capital constrained world. Many of the largest SWF’s originate from emerging economies and are being used to drive their development.
In line with the growing importance of emerging nations, and the SAAAME bloc in particular, with regards to trade and investments, it is expected that that emerging markets will play an increasingly central role in the banking sector.
The most obvious example is China where the local banks have and are still growing at such a pace that 3 of the 10 largest lenders in the world by market cap are Chinese. A case in point is the Agricultural bank of China which recently completed the world’s largest initial public offering (IPO). Other signs also point to China’s pre-eminence, like the decision of banking giant HSBC to relocate its chief executive officer (CEO) from London to Hong Kong in a move that reflects the growing importance of the company’s Asia business.
Two other countries, India and Brazil, also boast large populations and are growing faster than their western counterparts. India’s banking system is still relatively and around 75 percent is in government hands, with the State Bank of India controlling about 25 percent of the market. The Brazilian banking sector has also experienced steep growth and has recently been awarded improved ratings from leading credit agencies.
In the west, banks with a great European banking presence tend to have a lower price earnings ratio, suggesting the market rewards those companies with a more global business reach. Meanwhile, European and UK mergers and acquisitions (M&A) have declined, compared with increased activity in the Asia Pacific region. The impact of the financial crisis in China, India and Nigeria was minor compared to UK, US and Germany.
An additional challenge for foreign banks wanting to expand in emerging markets is that entry and growth within countries such as India and China remains highly restricted. There are significant regulatory barriers to the entry and operation of foreign banks in the East.
In China, for example, foreign ownership of banks wishing to conduct Yuan-denominated retail business must not exceed 25 percent. This is a clear impediment to the entry and expansion of foreign interests in China. The process for licensing new branches is slow and is seen to favor domestic banks with the best locations. Since the financial crisis there has been a proliferation of new regulations restricting the operations of foreign banks, including measures on derivatives, risk management, asset management, loan-to-deposit ratios and establishing core banking systems in China.
South Korea is another example of how the entry of foreign banks is constrained by limits on their expansion, tight controls on foreign asset ownership, unattractive capitalization requirements for overseas investors and regulations concerning the level of financial support (via short term loans) that can be obtained from overseas. In India, the central bank exerts tight control over the expansion of foreign banks networks as local subsidiaries set up by foreign banks are not able to open banks freely.
The rise of the SAAAME is inevitable and western banks will find it harder to retain their dominant global position as economies in this bloc continue to expand rapidly and favor the local banks slowly resulting into a new world order of banking.
Ron McMillan is the Deputy Chairman and Head of Assurance for PricewaterhouseCoopers, Middle East Region and Graham Hayward is the Middle East Region Financial Services Leader at PwC. This article was written exclusively for Daily News Egypt.