Justifiably, 2017 was a year that can be summarised in three words: uncertain, changing and challenging.
Looking at the East African region in the last year, economic conditions deteriorated largely in Kenya and South Sudan, with the rest of the countries closing the year with a not so favourable story to tell.
Geopolitical instability remained a major threat to the region’s near-term economic growth. A prolonged electioneering period in Kenya brought a slowdown in expansion across the East African region. We, however, see some recovery coming through during the first half of 2018. The full effect of the law capping interest rate in Kenya marked by a slow business environment on account of the general election negatively hit businesses and the economy at large. The rate cap subdued private investment owing to the drop in lending rates. As such, overall credit growth to the private sector reached its lowest levels in mid-2017.
In South Sudan, hyper-inflation impacted on business but we remain optimistic that the political situation will take a turn for the better, creating a conducive operating environment. It is worth noting that the Rwanda elections passed uneventfully, which was a positive indicator for business and investment in the region.
Unsurprisingly then, most business executives would report that conditions for the financial services industry have worsened over the past 12 months, a fact that is clearly borne out in the industry’s financial performance this year.
But the shockwaves have not solely been external. Financial institutions have also been looking inward, implementing changes to their core operations – from shortening transaction times to integrating sustainable innovation into their product offerings – re-evaluating the entire system itself.
Undoubtedly, the current circumstances are all quite challenging. This year will unleash its own set of challenges, with a series of expected regulatory changes beckoning.
Financial industry outlook
Two things will define the financial services sector this year – a new regulatory environment and increased investments in the financial technology (fintech) space. The global financial system has gotten into a new regime – the International Financial Reporting Standards 9 (IFRS9) – which took effect on January 1, 2018.
Under the IFRS 9, the most fundamental change is recognition of credit risk losses. Previously, financial institutions recognise a loan’s risk at the point of default but now they will be expected to recognise this risk at the beginning and during the entire loan’s life cycle and make the necessary provisions. This could have an impact on profitability and capital provisions. We do not anticipate a shrinkage in credit or any major shock to our business as this is something we have over the years been preparing for and making the necessary adjustments. KCB is adequately capitalised to fit in under the new guidelines.
We also expect to see the industry move deeper into the financial technology space. The future lies in leveraging technology to drive efficiencies in our operations in order to serve our customers better with relevant products that meet their expectations.
Since the introduction of the caps, credit to the government has increased significantly with growth in credit to the government averaging about 15% compared to the 2.3% to the private sector.
We are glad that the regulator has indicated a willingness to reassess the interest cap position. We are optimistic that all actors will reconsider the caps in the best interest of our customers when the time comes to relook at the regulatory environment.
Indeed, it has been a difficult year financially, with headwinds in all of our markets. However, it was also a year when we decided to substantially transform for the future.
Our take is that banking is much more than a current flow business; banks transform short-term actions into long-term value for stakeholders. Banks need to manage for the long-term game, through the cycles, even as they adapt in the short term through test-and-learn experimentation.
Given the technological and market changes roiling the industry, the coming two to three years may well bring even greater disruption to banking. To play the long-term game, each organisation needs to determine which developments to prepare for and how, based on its particular assets, profit pool, business model and operating model.
Anxiety about these massive shifts in the financial services sector may lead many bank management teams and boards to focus overwhelmingly on the short game, especially the next quarter’s performance. Yet in many ways, I am convinced that the underlying business remains a long-term game.
With IFRS 9, opportunities are stemming for financial institutions in terms of improved governance in accounting. It is key that as a sector, we ensure a smooth transition for customers during this period.
Waiting indefinitely to see how these themes unfold is not a viable option. Instead, banking will benefit by committing to an explicit set of investments that prepare their organisations to seize the opportunities that unfold.
Joshua Oigara is the CEO and MD of Kenya-based financial services holding company KCB Group.