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Cablegate: Banking Reform Continues but Is Narrowly Focused

P 140738Z DEC 09

C O N F I D E N T I A L SECTION 01 OF 02 CAIRO 002292


E.O. 12958: DECL: 12/08/2019

REF: CAIRO 002189

1.(SBU) Key points: --The GOE's second phase banking sector reform program aims to consolidate the gains made during first phase of reforms which ran from 2004-2008, but does not include any plans to further restructure the sector. --The second phase aims to increase access to finance for SMEs, improve risk management in Egyptian banks, and strengthen the Central Bank of Egypt's (CBE) regulation of the sector. --The CBE is not planning to privatize any of the public commercial banks, but instead is focusing on increasing their efficiency by holding their management accountable and improving their workforce and IT infrastructure. ------------------------------------- The First and Second Phases of Reform -------------------------------------

2.(SBU) On 17 November, econoff met with Lobna Helal, head of the Central Bank of Egypt,s Banking Reform Unit to discuss the Central Bank of Egypt,s (CBE) second phase banking sector reform program (2009-2011). The second phase is a fine tuning of first phase reforms to make sure that the major restructuring and significant improvements in asset quality accomplished during the first phase are sustained.

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3.(SBU) The first phase of the CBE,s reforms (2004 to 2008) recapitalized, consolidated, and partly privatized the banking sector. This reduced the number of banks from 62 in 2003 to 39 by increasing minimum capital requirements and merging weak banks with strong ones. The reforms significantly reduced non-performing loans, according a Central Bank documents and USAID officials.

4.(SBU) Financial sector reform, including those in the banking sector, are part of the Nazif government,s broad economic reform program that began in 2004. These reforms have been aimed at liberalizing the economy and opening up to foreign competition in order to attract FDI and significantly increase growth and employment. Since 2005, the USG has worked closely with the GOE on financial sector reform. Based on recommendations from the World Bank, the USG designed a Financial Sector MOU to restructure and privatize the banking sector, develop the mortgage market, and enhance the efficiency of the securities market. Some of the benchmarks for dispersing US assistance were tied to reducing non-performing loans (NPLs), recovering cash on some of the NPLs, and an increase in private sector bank,s share of new loans in the banking system. This US assistance program will end in June 2010. -------------------- Enhancing Regulation --------------------

5.(SBU) The second phase is focused on strengthening bank regulation to improve corporate governance and domestic bank risk assessment and management. Helal commented that foreign banks operating in Egypt have better risk management tools and the CBE wants to close this gap. Central Banks from a number of European Countries are working with the CBE to assist in the implementation of Basel II standards before the end of 2011. ------------------------------------ Improving Access to Finance for SMEs ------------------------------------

6.(SBU) Helal told us that the CBE is trying to improve access to finance for small and medium businesses which the GOE sees as a way to significantly increase employment in Egypt. To this end, the CBE,s credit bureau is working on a moveable collateral asset registry so that the majority of Egyptians who do not own real estate can use other assets, such as their cars or inventory, as collateral for loans to start or expand businesses. Helal also mentioned that the CBE was considering guaranteeing some bank loans to small and medium enterprises. ------------------------------------- Measures not to Include Privatization -------------------------------------

7.(SBU) Helal said the CBE had no intention of privatizing any more banks. She said the current banking structure of roughly 40% public commercial banks, 30% foreign branches, 25% private and joint venture banks and 5% public specialized banks is the right mix for Egypt. The CBE will instead try to improve efficiency in public sector banks by setting profitability and efficiency standards and holding management of the banks responsible for meeting those standards this fiscal year. Helal commented that public sector bank balance sheets are in good enough shape now from the recapitalization and consolidation in the first phase for the banks to realistically be profitable.

8.(SBU) The public sector banks are improving their efficiency in part by creating a better workforce through increased turnover and changing the wage and incentive mechanisms to better motivate employees. Hisham Okasha, the Deputy Chairman of the National Bank of Egypt (NBE), told us that the NBE increased employee training and overhauled its wage and benefits plan, instituting performance based pay and offering insurance policies for the staff. Helal told us that there was high demand for Bank Misr,s early retirement program last year, allowing the Bank's new management to hire new employees that met their standards. The NBE is also improving its IT infrastructure to improve its efficiency. Okasha told us that when he started at the NBE a few years ago, many of the Banks ATMs did not work and fixing them was a simple way to increase services.

9.(SBU) Helal told us that the CBE was still planning to divest its shares in the British Arab Commercial Bank and the United Bank in 2011 through initial public offerings (IPO). The CBE created the United Bank in 2006 by forcibly merging three failing private sector commercial banks and purchased shares in it. ------- Comment -------

10.(C) Helal's comment to us that the CBE has no intention of privatizing the three state-owned commercial banks is not a good sign for potential foreign entrants into the sector or future competition. Despite the first phase reforms, loan-to-GDP ratios remain low by international standards and are falling, state-owned banks control almost half of the banking system, and the sector still lacks competition. Foreign entrants into the banking sector would increase competition which would lower costs, increase the quality of service, and increase participation in the banking sector. A study by the World Bank in 2007 found that foreign banks in Egypt were more active in lending to small and medium enterprises and reached out more to retail clients, two sectors that provide a lot of potential for increased lending. The CBE has not issued a new commercial banking license in almost 20 years, so the only way for foreign banks to enter the market is to purchase an existing bank. Helal's comment gives a very different impression from Central Bank Governor Farouk El Okdah's public statement on 22 November that the state-owned Banque du Cairo is not for sale now because market conditions are not right for privatization (reftel), implying that the GOE might try to privatize it when the global economy recovers from the financial crisis.

11.(C) Creating a moveable asset registry is a good way to allow a larger part of the population access to loans, but without a significant improvement in the legal system that would allow the lender to seize the assets in a timely manner, the registry alone is unlikely to have much of an impact on overall lending. According to the World Bank, legislation regarding collateral is extremely complex and poorly enforced in Egypt. Scobey

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