OREANDA-NEWS. The outlook for the Belarus banking system remains negative, unchanged since June 2009, says Moody's Investors Service in a new report published today. The outlook reflects Moody's expectation of further deterioration of banks' financial fundamentals and the banking sector's low foreign-currency liquidity relative to the high levels of foreign-currency deposits. The negative outlook also takes into account the government's deteriorating capacity to provide systemic support to banks. Whilst Moody's expects economic conditions for Belarus to remain stable, the rating agency notes some downside risks to the country's economic outlook posed by the possibility that growth in Russia could be weaker than currently anticipated given the country's recent escalation of tensions with Ukraine.

Over the 12-18 month outlook period, Moody's expects that Belarusian banks' asset quality will deteriorate as corporate leverage and inventories increase. Against this background, the ongoing slowdown in Russia's economy (Russia accounted for 42% of Belarus's exports in January-November 2013) negatively affects the credit standing of many corporate borrowers. Given banks' dependence on the performance of the Russian economy, the rating agency expects system-wide reported problem loans to increase to 6%-7% of total loans over the next 12-18 months, from 5% at end-November 2013. Furthermore, new lending (forecast to grow by more than 25% in nominal terms) and higher loan-loss provisioning charges will likely weaken the banking system's regulatory capital adequacy ratio (CAR) to around 16% over the outlook horizon (end-September 2013: 19%), albeit still well above the regulatory minimum of 10%.

Moody's forecasts 2.5% GDP growth for Belarus in 2014 (2013: 1.5%). However, given the country's low foreign-exchange reserves relative to its import-financing requirements and its external debt burden, any disruption in external funding or energy subsidies from Russia would cause a significant balance-of-payments shock. The consequently tighter external financing conditions would constrain any government-led stimulus programmes.

Moody's also notes that the funding and liquidity profiles of Belarusian banks are vulnerable to the fragile confidence of retail depositors and volatile exchange rates. In particular, banks lack sufficient liquid foreign-currency assets to cover their large foreign-currency deposits (62% of total deposits). However, the rating agency observes that in the absence of confidence shocks, the system's lack of significant wholesale funding aids stability. Over the outlook period, Moody's expects deposits to grow by around 20%, supported by increases in real wages and money supply as a result of government policies.

Moody's forecasts weakening profitability for Belarusian banks over the next 12-18 months as a result of any shrinkage of net interest margins coupled with increases in cost of credit and operating costs. More expensive funding will also suppress net interest margins, while asset quality erosion will increase loan-loss charges. The ratings agency also expects banks' efficiency metrics to fall during the outlook period as costs are inflated by rising real wages.

In addition, the government's capacity to provide systemic support will deteriorate over the next 12-18 months. Moody's notes that diminishing reserves will constrain its ability to provide liquidity support in foreign currency, while local-currency support in the form of less stringent monetary policy could increase inflationary pressures.