- We have developed three hypothetical scenarios based on enquiries from investors to assess how Tunisia (not rated) could finance its twin deficit, and the potential effects on the country's banking system.
- If the Tunisian government were to strike a deal with the IMF, secure other bilateral support, and implement reforms, we expect a progressive return to financial sustainability.
- In the most extreme scenario of a sovereign default, we estimate the cost for the banking system at $4.1 billion-$7.6 billion depending on certain assumptions--equivalent to 8.0%-14.8% of the IMF's forecast for 2023 nominal GDP.
Tunisian banks are still navigating major uncertainty and significant macroeconomic pressure 12 years after the revolution. With a potential IMF deal looming, S&P Global Ratings has analyzed the current situation and considered the potential financial and economic implications for the banking sector under three hypothetical scenarios, from low stress to severe stress. Under the latter, we stress tested the resilience of the banking system to a potential sovereign default.
The COVID-19 pandemic and prevailing political uncertainty have weighed on Tunisia's economic activity in recent years. According to the IMF, the country's economic growth is expected to reach 1.6% in 2023, while its fiscal and external deficits will likely total a cumulative 13% of GDP. The country faces major hurdles to raise external funding and internal divides have reportedly caused delays in mobilizing the necessary resources. The Tunisian authorities and the IMF are in talks to agree a program that entails important reforms.
In this context, banks' exposure to the state remains significant at 12.9% of total assets--83% of total equity on Aug. 31, 2022 (including direct lending to the public administration)--up from 5.1% at year-end 2010. Although this is lower than that seen in some peer banking systems, it represents a major source of risk given the lack of visibility on how the country will finance its twin deficit.
Overall, our calculations show that a Tunisian sovereign default might cost the banking system $4.1 billion-$7.6 billion, or 8.0%-14.8% of forecast nominal GDP at year-end 2023. Our calculations exclude the potential effects of a sharp depreciation of the Tunisian dinar (TND), which might add to these costs.
Our Three Hypothetical Scenarios for Tunisia
We have analyzed three hypothetical scenarios to assess their potential effects on Tunisian banks:
- Low stress: We assume the country strikes a deal with the IMF by the end of first-quarter 2023, and successfully implements the pre-agreed reforms. Under this scenario, the country would also mobilize sufficient bilateral help (from Gulf Cooperation Council countries, among others) to finance its deficits.
- Moderate stress: We assume the country strikes a deal with the IMF but reform implementation remains shaky, resulting in lower mobilized financing than required.
- Severe stress: We assume the country is unable to agree an IMF program and its incapacity to mobilize external resources leads to sovereign defaults on both local and foreign currency debt.
For each scenario, we then tried to predict the potential implications for Tunisia's macroeconomic environment and banking system.
Low stress: A progressive return to financial sustainability
Under the first scenario, we would expect reform implementation likely to gradually increase confidence and revive private sector investments. The economy should progressively recover and the country's public and external finances should return to a sustainable path. The IMF expects Tunisia's debt to GDP will reach 89.2% at year-end 2023, which represents a significant burden. Moreover, total debt service for 2023 is expected to reach TND21.1 billion, or 13.2% of GDP, including 3.3% of GDP in interest and 9.9% in principal repayments (using the 2023 IMF GDP estimate).
We would expect the banking system to be better placed to start implementing central-bank-directed reforms, such as the transition to International Financial Reporting Standards, increased capital requirements, and the write-off of old nonperforming loans (NPLs). We also forecast improved confidence to support lending and profitability but moderate deterioration of asset quality indicators due to lower disposable income and higher cost of debt. Cost of risk should remain high, but on a declining trend compared to 130 basis points (bps)-150 bps over 2020-2021. We see two main sources of risk for this scenario:
- External risk: For example, due to a stronger-than-expected slowdown in Europe, or higher-than-expected commodities prices.
- Internal risk: For example, due to returning political instability or major opposition from stakeholders on reform implementation.
Moderate stress: A choppy ride for banks
In the second scenario, we would expect the lack of reform implementation would prevent the country from mobilizing all necessary resources to finance its budget. According to Tunisia's budget law, the country needs to mobilize TND14.8 billion in external debt in 2023. If it doesn't implement reforms, bilateral and multilateral support would likely decline and Tunisia would likely be obliged to cut spending. Given the government's structure and the dominance of public wages--accounting for 42% of total spending, according to the 2023 budget--it would likely aggressively cut subsidies (16% of spending), further reduce investments (9%), and accumulate arrears.
In addition, the government might take measures to preserve foreign currency reserves, implement strict import restrictions, or even consider some capital controls on nonresident deposits, which accounted for 12.9% of total deposits at Aug. 31, 2022. On a positive note, most of these deposits are held by Tunisian citizens living abroad or companies with economic interests and ties in Tunisia. Absent external support, the government might also increase its recourse to the local market to mobilize resources from banks or other cash-rich public sector enterprises. This could increase pressure on banks' funding, however, since some of these public sector companies are among the top depositors. At Feb. 9, 2023, the total refinancing of the banking system from the Central Bank of Tunisia (BCT) reached TND14.5 billion, or almost 10% of banks' total reported assets at Aug. 31, 2022. If banks' exposure to government debt were to increase, so would the sector's vulnerability to sovereign stress.
Under the moderate stress scenario, we would also expect the Tunisian dinar to depreciate against major currencies and a steep increase in inflation. This would likely prompt a stronger reaction from the BCT and put further pressure on corporates and retail clients' repayment capacity. Overall, the stock of NPLs would likely continue to expand, while credit losses could significantly erode profitability, adding further pressure to banks' already strained capitalization.
Severe stress: A significant bill
In the third scenario, the lack of support would likely lead to major balance-of-payments, fiscal, and currency instability. It might also lead the country to default on its financial obligations. We would expect this to be accompanied by a significant depreciation of the Tunisian dinar and a major spike in inflation. As a result, banks would likely incur significant losses and need to be recapitalized.
We have estimated recapitalization needs based on the following hypothetical sub-scenarios:
- Severe stress 1: We assume a 40% haircut on government exposures and a 5% haircut on the lending book.
- Severe stress 2: We assume additional pressure, with a 70% haircut on government exposures and 10% write down on the lending book.
Given the high starting point for Tunisian banks' NPLs, estimated at about 16% of total loans at year-end 2022, we capped our assumption of the potential write-down of the lending book at 10%.
Based on our calculations, the cost to the banking system would be an estimated $4.1 billion-$7.6 billion, which is equivalent to 56%-103% of the system's total equity, or 8.0%-14.8% of 2023 nominal GDP (see table). However, our scenarios do not account for the consequences of a significant depreciation of the Tunisian dinar because the BCT does not report the banking system exposures by currency. We also do not account for a default and write down of the exposure to the BCT in our scenarios because the BCT is already contributing TND14.5 billion to the refinancing profiles of Tunisian banks, which we consider sufficient to cover banks' asset exposure.
|Asset Write-Down Assumptions|
|Severe stress 1||Severe stress 2|
|Government debt (%)||40||70|
|Private sector lending book (%)||5||10|
|Asset write-down amount (mil. TND)||12,755||23,607|
|Asset write-down amount (mil. $)||4,115||7,615|
|Asset write-down / Total Equity (%)||56||103|
|Asset write-down / GDP (2023 IMF figure; %)||8.0||14.8|
|TND--Tunisian dinar. Source: S&P Global Ratings' calculations|
Our base case for Tunisian banks is between the low and moderate stress scenarios detailed above. We do not exclude, in our base case, the government securing a deal with the IMF, implementing reforms, and mobilizing additional resources. At the same time, downside risks are significant and could materialize in the next 12 months.
- Banking Industry Country Risk Assessment: Tunisia, Sept. 9, 2022
- Two Tunisian Banks Downgraded To 'CCC' On Challenging Operating Environment; Outlook Negative, May 30, 2022
- How Much Would A Sovereign Default Cost Tunisia's Banks? May 10, 2021
- Will COVID-19 Trigger The Long Awaited Consolidation Of The Tunisian Banking System?, May 6, 2020
This report does not constitute a rating action.
|Primary Credit Analyst:||Mohamed Damak, Dubai + 97143727153;|
|Secondary Contact:||Regina Argenio, Milan + 39 0272111208;|
|Additional Contact:||Financial Institutions EMEA;|
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