The slowdown in deposit growth to 1 per cent in 2015 from 12 per cent in 2014 and the sharp decline in oil prices as wells as a 14 per cent reduction in the 2016 Saudi government budget are credit negative for Saudi banks, Moody's has said.

It said the lower deposit growth will limit banks’ capacity to lend and refinance existing borrowers and increase borrowing costs, which will reduce asset quality and drive increased provisioning costs for banks.

During 2010-14, a time of high oil prices, Saudi banks had abundant low-cost liquidity. As a result, banks increased their lending at a compound annual growth rate of 13 per cent. Access to non-interest bearing deposits also improved to 51 per cent of total assets from 42 per cent, leading to a decline in banks’ cost of funding to 0.5 per cent in 2014 from 2.1 per cent in 2008, which supported domestic banks’ return on assets of 2 per cent as of June 2015, the rating agency said.

However, persistent low oil prices (Moody's projects the Brent price will average $33 per barrel in 2016 and $38 in 2017) is leading the Saudi government to report material fiscal deficits of 15 per cent in 2015 and a projected 12.7 per cent in 2016, it said.

"We forecast real GDP growth will fall to 2.8 per cent in 2016 from a 5.7 per cent average during 2010-15. Consequently, we expect lower profits and savings from the private sector to flow into the banking system. Indeed, between June and November 2015, private-sector deposits fell by 3 per cent," Moody's said.

It expects banks’ muted deposit growth to moderate their lending expansion, with loan growth in 2016 falling to 5 per cent, the lowest since 2010, from 8 per cent in 2015.

"As a result, we expect the ratio of non-performing loans to gross loans to increase over the next 12 months to 2.5 per cent from 1.4 per cent as of June 2015 and provisioning costs to gradually increase.

"We do not expect Saudi banks’ high capital and reserve buffers to significantly change over the next 12-18 months, and their profitability should remain one of the strongest among G-20 countries. However, prolonged liquidity tightening would amplify the negative effects on asset quality and associated costs, and risk denting these buffers," Moody's said. - TradeArabia News Service