Fitch Ratings today said that global economic conditions are likely to be characterised by weaker growth and higher inflation for the remainder of the year. However, years of very benign economic conditions have generally enabled Asian banks to strengthen their balance sheets in terms of loans quality and capitalisation, which should hold them in good stead for the more challenging economic environment as the US and some European economies slow.

"Despite the knock-on effects of global developments, the economic environment in Asia would unlikely deteriorate to an extent that would materially affect bank credit quality," said Ambreesh Srivastava, senior director, financial institutions, at Fitch's Global Banking Conference in Mumbai today.

Indian banks, for instance, would find themselves in a more challenging operating environment this year, with NPL ratios likely to rise from their historic lows. At the same time, most banks' loss absorption capabilities have also improved; thus on balance, the outlook on their ratings remains mostly Stable.

Likewise, Korean banks and the larger Australian banks have continued to perform well throughout the credit crisis. "Loans growth for Korean banks has been strong over the past couple of years, supported by their currently very good asset quality and adequate capitalisation, which should put them in a sound position to withstand a more difficult economic environment," said Peter Tebbutt, senior director, financial institutions.

Despite the somewhat assuring picture, some concerns remain. Wholesale funding costs have increased significantly for the larger Australian banks, while smaller Australian financial institutions have been impacted to a greater extent, with a number now funding mainly through retail deposits.

In China, while banks enjoyed a stellar 2007, they will face a more difficult environment ahead as borrowers begin to feel the strain from the government's tightened monetary stance, the weakening global economy, and rising input and operating costs from 12-year high domestic inflation.

Senior director Charlene Chu from Fitch's FI team in Beijing cited real estate exposure as a particular area of concern. "Although we have yet to see a material deterioration in real estate-related lending, the fact that some property developers are encountering funding difficulties and that transaction volumes and average selling prices are declining in some cities warrants careful attention," she said.

Similarly in Japan, although the major banks have not been as badly affected by the subprime crisis as some US and European banks, they have taken close to $10 billion of losses which negatively impacted their earnings, with some additional losses from structured investments still expected. "On top of these external factors, the recovery in Japan's domestic economy and property market has stalled, posing a difficult environment for banks, with low interest rates, few growth opportunities and a likely rise in bad debts," observed Reiko Toritani, senior director with Fitch's FI team in Japan.

Also speaking at the conference was senior director Kenneth Ritz from the FI team in New York, who highlighted that financial institutions in the US must navigate through an extremely challenging environment and that the Outlook for both US banks and securities firms remains Negative.

He indicated that financial results at many banks will exhibit increasing stress from fundamental credit quality deterioration. However, with investors clearly willing to invest in banks with solid core franchises and bankers willing to take the appropriate steps to preserve and fortify their capital positions, most US banks are reasonably well positioned to manage though this period of severe credit stress.

For US securities firms, Ritz mentioned that the earnings prospects are dim and that capital raising efforts has stemmed further negative rating actions thus far. He also noted that liquidity and access to liquidity is of paramount importance and a key ratings driver for these companies.

Turning to Europe, Krishnan Ramadurai, managing director with the FI team in London, remarked that although banks have already reported a significant percentage of their expected losses on subprime exposures, the deleveraging process currently underway in European banks is likely to act as a drag on profitability and asset quality, and may require some banks to strengthen capital ratios.

Fitch also believes that banking systems in the UK, Ireland, Germany and Iceland have greatest potential to suffer stress over the next 12-18 months.