No one at Israel's largest banks, Bank Hapoalim and Bank Leumi, was surprised by their credit downgrade yesterday. The state of the economy and its footprint in their financial results left little room to wonder what international ratings agencies would do.
The first indications were evident in June and July when the banks had trouble raising resources on international markets. Bank of Israel rode to the rescue by easing liquidity requirements on foreign currency deposits, but not before the banks opted not to max out credit lines in order to avoid impossible prices or even refusals. "Credit lines are like intelligence, no one admits not having enough," said a senior Israeli banker.
When the banks discovered that foreign analysts were afraid to come to Israel and would only travel as far as Cyprus to review their operations, they knew this was another expression of how the Israeli economy and its banking sector are seen by the world. The credit downgrade was considered inevitable.
The slip from an A rating (strong) to a BBB rating (adequate) on the banks' ability to meet commitments may sound like semantics, but it has material impact on their ability to raise resources from foreign banks and to issue bonds to international institutional investors. Bank Hapoalim and Bank Leumi have multi-year bond-issue plans slated to provide for their foreign currency needs, in addition to the foreign resident deposits.
As the credit rating declines, foreign institutions demand higher interest for the credit and resources they provide on a sliding scale as credit lines are utilized. The higher fund-raising costs are rolled over onto clients, creating a vicious cycle: clients whose financial stability has worsened cause the banks to make higher provisions for doubtful debt, harming bank profits. Credit ratings are lowered, causing fund-raising costs to rise and the higher interest paid by clients further worsens the clients' financial situation.
The banks say the present S&P downgrade is just the formal decision, and the practical steps were already taken a few months ago when fund-raising got more expensive. The unanswered question is if the downgrade has been entirely incorporated or if it will now be fully expressed. Even the banks' well-oiled PR machines didn't try to claim yesterday that this is a good sign.
Ratings agencies generally don't give companies higher ratings than that of the country in which they operate. Therefore the reduction of the rating on the banks that control two-thirds of the local banking sector, is also not a good sign for Israel's sovereign credit rating. This also has gloomy ramifications as the Finance Ministry will have to raise far more expensive funds abroad.
International banking giant Citibank announced formally yesterday that it is postponing plans to launch retail banking activities in Israel. It will close the Herzliya branch it had opened and lay off its 21 employees.
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