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Can the banks grow dividends?

Bank shareholders are unlikely to see much growth in dividends over the short term, with the Reserve Bank (RBA) forecasting lower economic growth and rising unemployment, both significant headwinds for the banks.

The Commonwealth Bank’s (ASX: CBA) chairman David Turner takes the opposite view, and says the outlook for 2014 may be a little stronger, with signs that business confidence may be picking up, and the bank’s own customer feedback being more positive.

But the RBA clearly disagrees. The central bank has revised down its estimates of growth in 2014, forecasting that the economy will continue to grow at sub-trend rates of about 2.5%, before picking up in 2015. The RBA forecasts that unemployment is likely to drift higher for a year or so, and any improvement in consumer confidence is likely to be short lived as a result. That spells bad news for the banks, and their shareholders.

In further bad news, UBS analysts have calculated that the big four banks’ earnings would have dropped by 0.2%, if it wasn’t for lower provisions for bad debts. Those provisions are generally lower when unemployment is low, but rise when unemployment rises, as loses rise from those people who can’t afford to repay their loans. The lower provisions have helped the banks report growing earnings and allowed them to increase their dividends. But investors and shareholders who are expecting continued growth in dividends are likely to be in for a shock.

Westpac Banking Corporation (ASX: WBC) chairman Lindsay Maxsted says the job has got much harder for the banks to grow profits and dividends, and banks would mainly have to rely on a pick-up in credit growth to drive revenues. That could come, with interest rates at record lows and the housing and construction sectors improving. We may well see the major banks, including ANZ Bank (ASX: ANZ), CBA, National Australia Bank ()ASX: NAB) and Westpac, with higher earnings next year.

Without that growth though, the banks will be doing it tough to increase their dividends.

Foolish takeaway

The banks have had a great run for a long period of time – and many investors are expecting the good times to continue. That could be a mistake, and those investors buying the banks at their lofty prices now could see significant losses of capital – wiping out any positive news from the juicy, fully franked dividends the banks currently pay out.

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Motley Fool writer/analyst Mike King doesn’t own shares in any companies mentioned. You can follow Mike on Twitter @TMFKinga

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