Argentina’s Banco Macro, led by CEO Jorge Horacio Brito, has been eying a purchase of Banco Patagonia.

Argentina’s Banco Macro in May approved a plan to sell 74 million shares in order to raise enough capital to buy Banco Patagonia, which has a market value of approximately $1.97 billion, and which Banco do Brasil currently owns. To what extent is the development indicative of a trend of consolidation in Argentina’s banking sector? How are recent moves by Argentina’s central bank to dismantle some banking regulations affecting the sector’s profitability? How is Argentina’s tax reform, which the country’s Congress approved last December, affecting the financial services industry?

Tom Morante, partner, and Barbara Efraim, law clerk, at Holland & Knight: "The outlook for Argentina’s financial services and banking industries is positive as the economy continues to improve, despite MSCI’s determination that Argentina has not yet achieved ‘emerging’ market status. There has been an uptick in merger and acquisition activity and increased interest in investments from both foreign and domestic entities. Banks increasingly are looking to consolidate as the capital market grows. Two recent events are examples of this optimism: Banco Macro’s offering of 74 million shares, raising $666 million, potentially to fund the acquisition of Banco Patagonia, and Argentina’s $2.75 billion 100-year bond offering. The banking sector’s interest in taking advantage of Argentina’s growing capital markets coincides with the upcoming debate regarding the bill to reform the Capital Markets Law (Proyecto de Reforma de la Ley de Mercado de Capitales). The bill would stimulate growth in capital markets by simplifying regulations and providing guidance on rules to assist regulators. This likely will streamline the issuance of shares, thus encouraging private and public offerings. The reform would also seek to reduce taxation of foreign investment, create tax advantages for acquiring financial assets in Argentina, and ease restrictions on mutual funds. Argentine banks experienced minimal interest or demand for credit and asset management services in the recent past. But capital market expansion is expected to promote growth, as increased bank lending should complement investment opportunities. In addition, Argentina’s central bank regulations are expanding the scope of financing guarantees available to banks, which should further expand the loan market. The Capital Markets Law, central bank regulations, and tax reform contribute to greater borrowing and increased investment. As Argentina’s economy grows, the pace of bank consolidation may increase to accommodate the competitive global banking environment."

Eduardo Amadeo, member of Argentina’s Chamber of Deputies and chairman of its Finance Committee: "Argentina’s banks are facing a very different environment, full of both opportunities and challenges. On the one hand, reforms in the financial system and the improvement in the macroeconomic outlook should result in a rapid expansion of the financial sector, which is currently one of the smallest in the world with deposits of around 15 percent of GDP. The central bank’s commitment to fighting inflation should lead to a prolonged period of positive real rates, attracting Argentine capital that is now sitting abroad. The floating currency should also make dollar saving less attractive, with peso deposit returns more closely following local purchasing power. The use of UVA, an indexed unit of account resembling the Chilean UF is already lengthening lending and generating a mortgage boom. On the other hand, banks could be stressed by disinflation, as the negative real rate they now pay for sight deposits will become less negative. Also, deregulation is already attracting low-cost new players, with at least three digital-only banks launching in the next year. Consolidation of the system could happen. But what is clear is that in this changing environment, it will be the most agile banks, old or new, big or small, that will take advantage of these opportunities."

Santiago Gallo, director for Latin American Financial Institutions at Fitch Ratings: "Since the new government took office, we have seen changes in the financial sector, and we expect more consolidation in the future. With 78 banks and financial companies, and only two banks with a loan market share of more than 10 percent, Argentina’s financial system is one of the most fragmented in the region. Additionally, the very low levels of financial intermediation relative to GDP indicate there is significant growth potential, if the recently introduced orthodox policy framework is preserved. Fitch expects to see more consolidation from both current players looking to gain market share and new international players entering the market. The dismantling of some banking regulations will clearly benefit the system’s profitability, especially the removal of the prohibition on increasing fees. However, the benefits have yet to materialize, while inflation and sluggish loan growth still weigh on profitability. We expect higher profitability as economic growth accelerates and inflation decreases. Additionally, this could mitigate the negative effects of one of the last distorting regulations still in place—compulsory directed lending at negative real interest rates. Argentina’s tax reform mainly reduced income taxes on individuals, while the direct impact on the financial system was limited. However, the recent tax amnesty generated a significant inflow of U.S. dollars into Argentine banks. While it will take time to monetize these inflows, given weak demand for foreign currency loans, they will gradually benefit the development and depth of the local capital markets, while boosting the overall level of financial intermediation."

Valeria Azconegui, vice president and senior analyst at Moody’s Investors Service: "Banco Macro’s ability to sell shares abroad reflects Argentine banks’ improved access to the global capital markets, allowing them to raise more funds than they otherwise would only in Argentina, which has an underdeveloped capital market. An acquisition of Banco Patagonia would give Banco Macro a consolidated deposit market share of 7.6 percent, ranking it second among Argentina’s private banks, just behind Banco Santander Rio. The acquisition also would boost Banco Macro’s branch network and profile in the Buenos Aires region, where it currently does not have a meaningful presence. Market-friendly policy reforms implemented over the past year will bring the country out of an economic recession this year, and will lead to a decline in inflation. Although reforms have garnered pushback from some sectors, we expect they will lead to a 3 percent rise in GDP in 2017—which would be the fastest expansion since late 2000—and a decline in inflation to 20 percent from 40 percent in 2016. This improved scenario will create new business opportunities for banks and financial institutions that will ease their transition into a more competitive, market-driven operating environment, which will help them manage an expected drop in nominal profitability stemming from lower lending rates. Although profitability metrics will decline from currently very high levels in nominal terms, on an inflation-adjusted basis, profitability is likely to improve. In recent years, profitability has been supported by deeply negative real funding costs, but these will continue to slowly rise as inflation tapers, benchmark interest rates decline and competition for deposits increases. Falling market interest rates will reduce interest income and lead to falling returns on banks’ securities holdings. In addition, credit costs are likely to increase in line with delinquencies, though they should remain manageable. To offset these profitability pressures, banks will focus on growing their business volumes and offering more fee-based services. As inflation declines, personnel expenses will stabilize, though improvements to banks’ moderate operating efficiency will be limited."

Fausto Spotorno, director of research at Orlando Ferreres and Asociados in Buenos Aires: "Argentina’s banking sector must change toward a more traditional approach. In the last decade, the sector had a business based upon inflation. Most of the income came from high interest rates on short-term credit and services. Delinquency rates were small. Also, costs were low because financing came from overnight deposits that pay zero or very small interest rates, especially in an environment of high liquidity, a product of expansionary monetary policy. However, the sector was heavily regulated in terms of dividend payments. Players in this sector understand that while inflation is falling, they will need to reduce margins and increase the size and volume of credit operations. That will probably lead to a more consolidated sector in the medium/long term. Also the restrictions on dividend payments have been lifted. So we are expecting growth in this sector, particularly in long-term credit such as mortgages, which can bring bigger volumes of credit. The government also wants to expand this kind of credit, which is why Buenos Aires reduced the taxes linked to mortgages."

The biweekly Financial Services Advisor features Q&A from leaders in the region's financial sector, covering Latin America’s banking and insurance sectors, remittances trends and data, micro lending issues, new technologies in the industry, anti-money laundering regulations and much more. It is available to members of the Dialogue's Corporate Program and others by subscription.