As noted in my recent article titled “Poor credit practices leading to high NPLs in Ghana”, I concluded that the primary cause of default for energy-related SOE and BDCs debts is due to the banks irresponsible credit decision.
In this article, I will like to expand on the above-referenced article and demonstrate to you that the passage of the Energy Sector Levies Act (ESLA) and the ESLA bond transaction were bailout mechanisms for Banks in Ghana. To demonstrate that Banks were in substance bailed out, I used the financial soundness indicators recommended by the International Monetary Fund (IMF) to monitor the financial health and soundness of a country’s financial sector and its corporate and household counterparts. The financial soundness indicators are abbreviated as the CAMELS (C: capital adequacy; A: asset quality; M: management quality; E: earnings ability; L: liquidity; S: Sensitivity to market). Due to lack of enough information disclosed in Banks financial statements and absence of full financial statements of some Banks on the internet, my analysis did not address all the core measure of the CAMEL components. The analyses were made based on each Bank’s 2016 financial statements available on the internet.
Due to data limitations, the reader is, therefore, cautioned that this article does not conclude on the financial viability of the banks that currently have significant exposure to the energy sector. What the writer sought to achieve is to draw attention to certain red flags within the CAMEL measures of certain Banks that would be bailed out by the ESLA bond transaction. To arrive at any conclusion, the reader needs to look at each bank in totality, focusing on all elements of each Bank’s fundamentals including all measures of CAMELS components of Capital Adequacy, Asset Quality, Management, Earnings, Liquidity and Sensitivity to Market Risk.
In my subsequent articles, I will compare this Banks bailout with other Bank’s bailouts in the sub-Saharan Africa and in the west. Before I proceed I have two moral questions to ask,
1. Why should Ghanaian taxpayers bail out shareholders in Nigeria, South Africa and the UK?
2. Why are Banks allowed to keep their subsidies i.e. the fact that some banks are currently not allowed to fail because Government will bail them out with taxpayers’ money leading to banks’ bankruptcy costs covered by society (taxpayers) instead of by their shareholders?
How much is the energy sector debts and who are the creditors.
The Energy Sector Debt consists of bank loans and payables due to suppliers and power producers that are being considered for phased refinancing under the Energy Bond Programme. About a third of the total energy sector debt (GH¢2.71 billion) is owed to financial institutions in Ghana and about GH¢2.86 billion is also due to fuel suppliers in respect of feedstock supplied for power generation (natural gas, light crude oil and diesel). The rest of the debt is owed to other entities that are critical to running of the power value chain such as GNGC, GridCo, GNPC and other IPPs who supplied power to the national grid on credit but have not been paid.
What lead to the debt of the energy-sector SOEs and BDCs?
The debts (inclusive of the Energy Sector Debt) owed by the Energy Sector SOEs and BDCs have accumulated over the years due to the following reasons:
Below cost- recovery pricing.
The Government of Ghana (Government) have in the past subsided petroleum products and power in Ghana. For example, BDCs which are private entities licensed to import crude and refined petroleum products into the country for onward sale to the Oil Marketing Companies (OMCs), TOR or Bulk Oil Storage and Transportation Company Limited (BOST) were required to charge below cost to the OMCs. So if prices should be GHS 10 cedis per litre, the Government will ask BDCs to sell to OMC at 8 cedis per litre and then the Government pays BDC GH¢2 cedis to cover the shortfall. Also when BDCs set up letters of credits (LCs) and the cedis depreciates against the dollar, the Government will not allow the BDCs to factor the exchange losses into their pricing and later provides the BDCs concession to cover the exchange loses.
Going forward, it is anticipated that the introduction of price liberalisation within the National Petroleum Authority (NPA) Amendment Bill, 2015 (Fuel price Liberalization)) will improve liquidity and restore funding confidence from various stakeholders (banks, suppliers, etc.) in the sector due to the fact that industry players will not have to depend on the Government of Ghana for any subsidy refund to be able to pay for their trade or operational commitments.
Low collection rates by the energy sector SOEs
Poor rainfall which resulted in subdued hydropower generation and, consequently, an over-reliance on thermal energy electricity production.
Steep loss in the value of the GHS and a relatively high crude oil price environment
Mismanagement of energy sector SOE leading to lack of financial viability of the Energy Sector SOEs. As at end of 2016 the accumulated losses of the Energy Sector SOEs were in excess of GHS 1.5 billion, which represented more than 22% of their total revenue. The debts owed by the Energy Sector SOEs have accumulated over the years due to following reasons:
The financial performance of VRA has been worsening on year-on-year basis mainly due to below cost recovery pricing, high cost of financing, exchange losses and payment arrears from ECG and the Government of Ghana, especially in respect of subsidies.
ECG has been recording significant losses over the years, attributed to Aggregate Technical, Commercial & Collections (ATC &C) losses depreciation of the GHS, increasing costs of power purchases, and below market tariffs.
TOR has been facing a huge debt overhang for a long time and was not able to purchase crude oil to run its operations, whilst it continues to pay for its fixed cost and some variable cost.
How is the energy sector debts going to be paid
The strategies adopted by the Government to pay the debt of the energy sector SOEs are primarily through these two programs below:
ESLA = The Energy Sector Levies Act (ESLA) was passed in December 2015 and took effect from January 4, 2016. It was amended on 28 March 2017 by the Energy Sector Levies (Amendment) Act, 2017 (Act 899) (the ESLA Amendment). The ESLA, among others, consolidates existing energy sector levies (to promote prudent and efficient utilisation of the levies imposed thereunder) and to facilitate sustainable long-term investments in the energy sector. The levies imposed by the ESLA are derived from the sale of petrol, diesel, marine gas oil, residual fuel oil, liquefied petroleum gas, kerosene, and electricity. The levies are being independently administered outside the Government of Ghana’s consolidated fund for clearly delineated purposes. The Minister of Finance is required to submit an annual report, to the Parliament, on the management of the collected levies. The first report was released in the first quarter of 2017 and presented to Parliament in July 2017.
ESLA collections for 2016 amounted GHS 3.29 billion (equivalent to USD 765 million), in line with budget. The ESLA mechanism is working and a group of banks under VRA Restructuring Phase 1 are being repaid on a quarterly basis. The strategy is to fashion out a full workable solution to all applicable legacy debts in the energy sector.
Issuance of energy Bond, the Government of Ghana sponsored the incorporation of a company as an independent special purpose vehicle (SPV) called E.S.L.A. Plc to issue the Bonds valued at GHS 10 billion to pay off the debts. The bonds are to be financed by the ESLA.
In addition to the above, the Government is implementing several other programs to improve the energy sector:
Section 74 of the Public Financial Management Act, 2016 (Act 921) stipulates that the Ministry of Finance must approve any new Energy Sector SOE borrowing.
In the 2017 mid-year budget review statement, the Government of Ghana stated their intention to introduce a numerical fiscal rule to guide the implementation of fiscal policy. In this regard, an amendment to the Public Financial Management Act, 2016 (Act 921) (the PFMA) to limit the fiscal deficit within a range of 3% to 5% of GDP for any financial year, has been approved by Cabinet and will be brought before Parliament.
Why is the Energy Sector Levies considered as a Bailout of Banks in Ghana?
In my view, the Energy Sector Levies Act (ESLA) is considered as a Bailout of Banks in Ghana due to the following reasons:
Poor credit practices and corporate greed leading to some Banks granting Energy Sector State-owned enterprises (SOEs) credits
Without the Government paying the SOEs debts to the Banks, the Banking industry as whole paid-up capital will significantly reduce thereby affecting the industry capital adequacy ratio.
Some Banks liquidity and capital may worsen and may be out of business
My analysis is based on the Bank of Ghana Banking sector reports, financial statements of Banks with energy sector debts and the Energy Bond prospectus
Poor credit practices and corporate greed leading Banks in granting credits to Energy Sector State-owned enterprises (SOEs)
Despite the poor state and absence of any explicit Government of Ghana guarantees, Banks in Ghana provided credits to Energy Sector State-owned enterprises (SOEs) which included Volta River Authority (VRA), Electricity Company of Ghana Limited (ECG), Ghana Grid Company Limited (GridCo), Tema Oil Refinery Limited (TOR) and Northern Electricity Distribution Company (NEDCo), a subsidiary of VRA).
Some Bankers argue that despite the bankrupt shape of balance sheet of the SOEs, they looked beyond quantitative reasons and provided credits to SOE because of reasons which include:
Current Customer relationship/Cross-sell: The Government is a significant customer to the Banks. Approximately 20% deposits in the Banking sector comes from the Government and its agencies
Implicit Government guarantee and prior relationship: In the past Government has bail-out the SOEs debts
Support the Government: Support Government to buy fuel and gas on an emergency basis otherwise the country would have experienced power shedding in certain period of times
Survival without Government transactions: It is difficult to survive as a Bank in Ghana without public sector transactions
Waiver of single borrower limits: The Government promised to get a letter to Bank of Ghana (the banking regulator) to get a waiver of single borrower limit on Government transactions.
As a Banker, I understand some of the above reasons but I have pointed out on several occasions, that I am not advocating that Banks should not lend to energy-sector SOEs, however Banks should lend to such entities in a responsible way by following good credit practices and not put the Bank itself at risk, such as exceeding single obligator limit and end up putting innocent civilians in the situation of paying for avoidable levies. My view is that it is largely due to corporate greed that some Banks were lead to giving credits to the SOEs. Such greedy Banks every now and then scream for the Government to bail out the energy sector debts. Their main issue is that it is presenting liquidity problems to them. So why will you lend to an SOE and have liquidity problems and then expect the Government to bail you out.
(ii) The Banking industry capital will be adversely be impact by non-repayment of energy sector debt
As stated on page 207 of the Energy sector Bond prospectus, at the end of August 2017 energy sector SOEs and BDCs owe Banks in Ghana GHS 2.7 billion. As shown below and highlighted in red, the non-payment of the debt will adversely impact the Banking industry (total banking industry) paid up capital significantly and the industry’s ability to absorb any unexpected losses.
By the end of June 2017, the stock of NPLs in the banking industry had risen to GH¢7.96 billion from GH¢6.09 billion in June 2016. This translated into an NPL ratio of 21.2 percent in June 2017 compared with 18.8 percent in June 2016. The energy sector debt of GHS 2.7 billion represents 34% of June 2017 NPL.
NPLs crowd out new lending, eroding both the profitability and solvency of banks. When high NPL levels affect a sufficiently large number of banks, the financial system stops functioning normally, and banks can no longer provide credit to the economy.
Generally, loans and their collateral tend to lose value during protracted debt workouts and related judicial proceedings. Long workout periods also result in uncertainty over the eventual outcome, increasing the discount for any disposal of the NPLs and hence deterring potential sellers from disposing of the asset. As a result, net losses are increased. In this respect, it has been argued that the financial crisis in Ghana may have been prolonged by structural weaknesses within domestic legal and judicial systems. Reformed their legal frameworks can improve NPL resolution. However, as some reforms apply only to new NPLs, it will take time before the full benefit of these new frameworks is seen. Many countries have simplified the insolvency process or introduced complementary instruments such as pre-insolvency procedures and enhanced workout frameworks. In several cases, these reforms were introduced after financial crises involving NPLs. Some Mitigating legal obstacles to NPL resolution include
A new law, introduced in 2014, allowed temporary out-of-court workouts, including mechanisms for SMEs and prepacks for large companies. A 2015 amendment to the insolvency law simplifies and strengthens the rehabilitation processes by putting limits on the automatic stay of creditors. 2016 saw the revision of the bankruptcy procedure, aiming to reduce the time needed for its completion by removing ancillary proceedings. The personal insolvency regime was established in 2010. It was reformed in 2015 to achieve speedier processes.
Ireland’s Personal Insolvency Act of 2012 introduced new procedures, such as (i) a debt settlement arrangement that, if approved by 65% of the creditors, provides for the settlement of unsecured debt over five years; and (ii) an insolvency arrangement for cash-flow insolvent debtors to settle debt if approved by 65% of all creditors. In 2015, a judicial review of creditors’ rejection of a personal insolvency arrangement was introduced; this review may overrule creditors’ objections.
Refer to my article published on September 4, 2017, called “How to confront the Non-Performing Loans Crisis” for further details.
Non-repayment of energy sector debt may lead to some Banks closure.
Which Banks were bailed out?
Accordingly to page 205 of the Energy sector Bond prospectus and page 17 investor presentation, the following are the 12 Banks that are to be bailed out by the Government through ESLA bond transactions: Access Bank Ghana Limited, Cal Bank Limited, Ecobank Ghana Limited, First Atlantic Bank Limited, Fidelity Bank Ghana Limited, Guaranty Trust Bank Ghana Limited, Standard Chartered Bank, Stanbic Bank Ghana Limited, Universal Merchant Bank Limited, Unibank Limited, UT Bank Limited (Receiver), Zenith Bank Ghana Limited
Assessing the current risk profile of the bail-out Banks
To demonstrate that Banks were in substance bailed out, I used the financial soundness indicators recommended by the International Monetary Fund (IMF) to monitor the financial health and soundness of a country’s financial sector and its corporate and household counterparts. The financial soundness indicators are abbreviated as CAMELS (C: capital adequacy; A: asset quality; M: management quality; E: earnings ability; L: liquidity; S: Sensitivity to market). Due to lack of enough information disclosed in Banks financial statements and absence of full financial statements of some Banks on the internet, my analysis did not address all the core measures of the CAMEL components. The analyses were made based on each Bank’s 2016 financial statements available on the internet.
Due to data limitation, the reader is, therefore, cautioned that this article does not conclude on the financial viability of the banks that currently have significant exposure to the energy sector. What the writer sought to achieve is to draw attention to certain red flags within the CAMEL measures of certain Banks that would be bailed out by ESLA. To arrive at any conclusion, the reader need to look at each bank in totality, focusing on all elements of Bank’s fundamentals including all measures of CAMELS components of Capital Adequacy, Asset Quality, Management, Earnings, Liquidity and Sensitivity to Market Risk.
The following are the 12 core financial soundness indicators in the IMF guide
Financial Soundness Indicators (FSIs) are statistical measures for monitoring the financial health and soundness of a country’s financial sector and its corporate and household counterparts. The development of these experimental indicators is being coordinated by the International Monetary Fund (IMF), with the support of other international organisations, such as the World Bank, the Bank for International Settlements, the Organisation for Economic Co-operation and Development (OECD), and the European Central Bank (ECB), plus IMF member countries in all geographic areas. The FSIs consist of two sets of indicators: core and encouraged indicators. The core indicators consist of 12 indicators to measure potential vulnerabilities of deposit-taking institutions, which cover capital adequacy, asset quality, earnings and profitability, liquidity, and sensitivity to market risks. The encouraging indicators are collected on a country-by-country basis to assess the soundness of other financial sectors such as other players (other financial corporations), borrowers (households and nonfinancial corporations), and related markets (securities and real estate). Currently, about 96 countries have reported regularly their FSIs to IMF, which maintains the database.
In addition to the financial soundness indicators, the analysis below also considered various Bank of Ghana directives, the Banks and Specialised Deposit-Taking Institutions (SDIs) Act, 2016 (Act 930) and the Basel framework regarding each CAMEL component.
IMF Financial soundness indicator (FSI)
Regulatory capital to risk-weighted assets
Regulatory Tier 1 capital to risk-weighted assets
Nonperforming loans net of provisions to capital
Act 930 guidelines
Capital adequacy as defined by section 29(2) of Act 930 is minimum of 10%
i. the minimum paid-up capital- section 28 of Act 930- GHS 400 million( Effective Monday, September 11, 2017, Banks minimum capital is GH¢400 million and all existing banks have up to December 31, 2018, to meet the new minimum paid-up capital requirement). The paid-up capital is the stated capital plus audited income surplus.
ii. Secondary capital (Subordinated Term Debt- minimum of 5 years tenure) is limited to a maximum of 50 percent of the total of Tier 1 capital
iii. Leverage ratio is mentioned in section 29 (7) of Act 930, the minimum requirement is currently not defined by Bank of Ghana
Capital requirements: Higher Common Equity Tier 1 (CET1) constitutes an increase from 2% to 4.5%.
Basel III introduced two additional capital buffers:
A mandatory "capital conservation buffer", equivalent to 2.5% of risk-weighted assets. Considering the 4.5% CET1 capital ratio required, banks have to hold a total of 7% CET1 capital ratio, from 2019 onwards.
A "discretionary counter-cyclical buffer", allowing national regulators to require up to an additional 2.5% of capital during periods of high credit growth. The level of this buffer ranges between 0% and 2.5% of RWA and must be met by CET1 capital.
The addition of the capital conservation buffer increases the total amount of capital a financial institution must hold to 10.5% of risk-weighted assets, of which 8.5% must be tier 1 capital. Tier 2 capital instruments are harmonized and tier 3 capital is abolished.
Leverage requirements: Banks are theoretically constrained on the number of assets they can have relative to their capital by the 8% capital requirement, meaning they should fund themselves with GHS 8 in capital for every GHS 100 they lend. However, under Basel rules, the capital ratio is not applied to total assets but to risk-weighted assets, a figure that is adjusted to reflect the riskiness of each asset. Banks can as a consequence invest much bigger amounts in assets considered theoretically less risky than in more risky assets.
For example, assuming an 8% capital requirement, if the risk weight of sovereign bonds is 1% and the risk weight of corporate loans is 100%, how much of each asset could a bank hold for 100 GHS of capital?
100 GHS / 1% / 8% = 125,000 GHS in sovereign bonds
100 GHS / 100% / 8% = 1,250 GHS in corporate loans
In the example above, a bank seeking to maximize its return on capital would hold only sovereign bonds; sovereign bonds may pay less interest but that doesn’t matter if you can hold 100x more of them for the same capital. In order to address this issue, Basel III plans introduced a leverage cap that limits the total quantity of assets that a bank can hold relative to its capital. The leverage cap does not take into account risk weights and is, therefore, simpler to understand and harder to manipulate. In technical terms, the leverage ratio is defined as the capital measure (the numerator) divided by the exposure measure (the denominator), with this ratio expressed as a percentage: Leverage ratio = Capital measure/exposure measure.
According to Basel III, the capital measure for the leverage ratio is the Tier 1 capital of the risk-based capital framework. The exposure measure for the leverage ratio is the sum of the following exposures: (a) on-balance sheet exposures; (b) derivative exposures; (c) securities financing transaction (SFT) exposures; and (d) off-balance sheet (OBS) items.
The ratio is expected to be capped at 3%, meaning that for every cedis of capital it is funded with, a bank can lend up to GHS 33.3. It should be noted that in July 2013, the US Federal Reserve Bank announced that the minimum Basel III leverage ratio would be 6% for 8 SIFI banks and 5% for their bank holding companies. The leverage ratio was credited with helping Canada’s banks weather the 2008 financial crisis.
Analysis of the Bailout Banks capital adequacy ratio
The analyses below are based on each Bank’s 2016 financial statements.
*** GT Bank and Standard Chartered off-balance sheet balances are not disclosed because their full financial statements are not available on the internet.
Consequences for breaches of capital measures
An undercapitalized Bank may lose it license to operate as a Bank in the following sequence of events:
1. Section 105(2b) of Act 930 - The undercapitalized Bank will be required to submit capital restoration plans within 45 days to BoG's requesting it.
a) The Bank has 180 days from submission to conclude the capital and liquidity restoration process -
b) BoG will further impose restriction on growth of assets or liabilities, in other words, the Bank may not be able to lend or accept deposit from the public (Section 105 (5a)(5b)(5c) of Act 930
2. Significantly undercapitalised banks- A "significantly under capitalised bank, specialised deposit taking institution, or financial holding company" means a bank, specialised deposit-taking institution, or financial holding company which does not hold at least fifty percent of any of the capital requirements prescribed in sections 28 to 31. Section 106 (1a) (1b)- If the problem persists after the first attempt BoG will provide a 90-day window for a new plan and a further 180 days to correct
3. Sections 107-122 of Act 930- Third, where the initial 2 attempts fail, BoG will place the institution into official administration
4. Lastly, section 123 of Act 930 provides BoG with the right to revoke the license of the Bank when BoG believe the Bank will be insolvent within 60 days.
IMF Financial soundness indicator (FSI)
Nonperforming loans to total gross loans: Percentage of gross non-performing loans (“substandard to loss”) to total credit/advances portfolio (gross)
Sectoral distribution of loans to total loans: The numerators and denominator for this measure are, respectively, lending to each of the institutional sectors and gross loans
Analysis of the Bailout Banks credit risk and concentration risk
The analyses below is based on each Bank’s 2016 financial statements.
Asset quality measures
Asset quality measures included:
Provision coverage ratio (Loss Reserve / Non-Performing Loans Ratio). It is a measure that indicates the extent to which the bank has provided against NPL. Ideal ratio is 100%.
Loan Loss Reserve / Loans Ratio: Loan loss reserves as a percentage of gross loan
Specific provision to NPL/Implied loss given default: specific impairments divided by total NPLs
Concentration risk measures
Consequences for breaches of credit risk and concentration risk measures
There are no regulatory limits for credit risk and industry concentration risk
Earning and profitability
IMF Financial soundness indicator (FSI)
Return on assets (net income to average total assets) - The return on assets is calculated by dividing net income by the average value of total assets over the same period. As a minimum, the denominator can be calculated by taking the average of the beginning- and end-period positions (for example, at the beginning and at the end of each year)
Return on equity (net income to average capital [equity]) - Return on equity is calculated by dividing net income (gross income less gross expenses) by the average value of capital over the same period. At a minimum, the denominator can be calculated by taking the average of the beginning- and end-period positions (for example, at the beginning and the end of each year). The ratio needs to be interpreted in combination with FSIs on capital adequacy because a high ratio could indicate high profitability and/or low capitalisation, and a low ratio could indicate low profitability and/or high capitalisation.
Analysis of the Bailout Banks earnings and profitability
The analyses below is based on each Bank’s 2016 financial statements.
There is the bias towards return on equity (ROE), defined as profits divided by the capital of the bank. If banks have to increase their capital and hence issue more shares, it follows that banks will display a lower return on equity, everything else being equal, even though the profit remains the same. This is therefore a debatable measure of profitability and performance.
As return on equity is the indicator most commonly chosen to determine bank performance and the management compensation pool, banks try to maximise this indicator. They can increase their ROE either through increasing profits, or more easily through increasing leverage and therefore fragility. It can therefore be argued that the focus on ROE incentivises banks to minimise their capital and to object to higher capital requirements.
IMF Financial soundness indicator (FSI)
Liquid assets to total assets (liquid asset ratio) - This FSI is calculated by using the core measure of liquid assets as the numerator and total assets as the denominator.
Liquid assets to short-term liabilities - This FSI is calculated by taking the core measure of liquid assets as the numerator and the short-term liabilities as the denominator.
Liquid assets are those assets that are readily available to an entity to meet a demand for cash. While it may be possible to raise funds through borrowing, conditions in the market may not always be favorable, and experience has shown the necessity for deposit takers to maintain a prudent level of liquid assets. For a financial asset to be classified as a liquid asset, the holder must have the reasonable certainty that it can be converted into cash with speed and without significant loss under normal business conditions.
Act 930 and Bank of Ghana directive
Section 36 of Act 930 specifies that the Bank of Ghana shall prescribe one or more liquidity requirements for banks, specialised deposit-taking institutions and financial holding companies
The two liquidity measures below are defined by Bank of Ghana in its guidelines :
Liquid assets/Volatile funds
Liquid assets =Cash + Cash Reserve Ratio balances with BOG + Balances with banks + Bills purchased/discounted up to 1 year + Investments up to one year + Swap funds (sell/ buy) up to one year + Tradable Government notes and Bonds.
Volatile Liabilities: [demand deposits, District Assembly Common Funds (DACF), All Governments Instruments which could be called at short notice] etc.
The limit is ≥ 100% or 1
Net Volatile funding:
This is (Volatile funds-liquid assets) divided long term investments.
It measures the reliance on volatile funds to finance long term investments. Positive ratio indicates that volatile funds have been channeled into long term investments or non-liquid assets. A positive ratio indicates that long term investments have been financed by funds with longer maturities.
Banks are also required to disclose statutory liquidity breaches and non-compliance with other prudential requirements
Traditional banking involves so-called ‘liquidity and maturity transformation’: borrowing money over the short term through liquid instruments and using it to purchase long-term illiquid instruments. For example, a bank could borrow money for three months in the capital markets and use it to fund 30 year mortgages to its customers.
However, there is a danger that the bank may struggle to renew its short-term borrowing and have to repay it before it can get the money back from its long-term investment. This is called the liquidity risk. In return, banks earn a liquidity premium from the difference between long- and short-term interest rates, which gets bigger (and more profitable for the bank) as the mismatch in maturities increases.
In the years preceding the crisis, some banks pushed the liquidity and maturity transformation to an extreme, borrowing sometimes over a week to purchase long-term illiquid assets, which significantly increased the risk. As a result several banks found themselves facing a liquidity crisis in 2008 and after.
In order to curb this risk, the Basel committee decided to introduce two ratios on bank liquidity to ensure that banks keep a minimum cushion of liquidity.
The first, called Liquidity Coverage Requirement, aims at ensuring that banks have enough funding resources available over the next 30 days: it requires banks to have enough liquid assets to cover 30 days of expected net liquidity outflows (cash withdrawals from clients).
The second liquidity ratio, called Net Stable Funding Ratio, aims to ensure that banks have enough funding resources over the next 12 months to cover for the expected funding needs over the same period.
The Liquidity Coverage Ratio (LCR)- Mathematically it is expressed as follows: Stock of high quality liquid assets/ Net cash outflows over a 30-day time period= > 100
The Net Stable Funding Ratio (NSFR) - It is calculated as Available amount of stable funding/ required amount of stable funding > 100%. The NSFR is a structural or long-term ratio designed to be applied by banks under normal or business-as-usual market conditions, where maturity transformation is limited to the extent that a bank funds itself using short-term and / or less stable funding
Analysis of the Bail out Banks liquidity risk
The analyses below is based on each Bank’s 2016 financial statements.
*** GT Bank and Standard Chartered contractual maturity of financial assets and liabilities are not disclosed because their full financial statements is not available on the internet.
*** GT Bank and Standard Chartered off-balance sheet are not disclosed because their full financial statements is not available on the internet, hence their leverage ratio is overstated by the off-balance sheet
Consequences for breaches of capital measures
Section 39 of Act 930 specifies that a bank or specialised deposit-taking institution that fails to comply with the liquidity requirements is liable to pay to the Bank of Ghana an administrative penalty of one thousand penalty units
As analyzed above,
The Bank industry shareholders fund stand the risk of reduction by 25% if the Government did not enact the Energy Sector Levies Act. The consequence of such reduction in shareholders’ funds may lead the industry to breach the capital adequacy ratio and liquidity ratio.
Some Banks that lend to SOE and BDC are in bad shape when it comes to capital and leverage risk, liquidity risk and credit risk to the extent that if the Government did not enact the Energy Sector Levies Act, some of those Banks stand the risk of failure.
In my view, it is a moral hazard for innocent Ghanaian tax payers to continue to bail out Banks for their bad credit practices and greedy corporate actions. My recommendation to avert some of the reckless actions of the Banks include:
Implement Basel III capital adequacy ratio. This may require inclusion of countercyclical capital buffer (0%-2.5% and capital conservation buffer (2.5%) into the current minimum capital adequacy ratio. Hence increase the capital requirement from 10% to 15 % of risk weighted assets.
Set the leverage ratio to a flexible cap of 5% in normal times and 3% during crisis, and make it a mandatory measure from 2018
Introduce the two liquidity ratios measures of Basel III measure from 2018 ( LCR and NSFR)
Require mandatory disclosure of Return on Assets, calculated as profit divided by average total assets, as a measure of profitability. This would encourage banks not to focus so much on Return on Equity, which creates issues from society’s point of view.
Operationalize the Ghana Depository Protection Act, 2016 (Act 931). The Act is essentially an insurance scheme where depositors may receive up to GHS6, 250 in compensation for deposits with banks and GHS1, 250 for depositors with other specialised deposit taking institutions. By operationalizing Act 931, Banks in bad shape should be allowed to fail.
Bank of Ghana should exercise its rights under Act930 and prescribe guidance on corporate governance and restrictions on dividend payments tied to non-performing loans (NPLs) so as to constrain capital, restrictions on cross border lending/risk participations and levels of lending to Group related banks. Such rights are provided under Act 930 as follows:
Section 56 of Act 930- The Bank of Ghana may prescribe rules regarding any matter of corporate governance of a bank, including matters relating to (a) the scope and nature of the duties of directors of a bank, (b) the requirements for audit and other specific committees of the Board; (c) the responsibilities of key management personnel; (d) risk management; (e) internal audit; and (f) internal controls and compliance.
Section 30 of Act 930 states that the Bank of Ghana may require a bank, specialised deposit taking institution or financial holding company to maintain additional capital that the Bank of Ghana considers appropriate to address concentration of risks in the bank, specialised deposit-taking institution or financial holding company, or in the financial system.
Banks with NPLs above a set threshold (for example, 10 percent) should be subject to a more intensive oversight regime to ensure that they conservatively recognize and proactively address asset quality problems.
Implement Section 78 of Act 930 which requires Banks to prepare accounts and financial statements in the form and provide details in accordance with a) internationally-accepted accounting standards; and b) rules or standards based on the Basel Core Principles as prescribed by the Bank of Ghana. In view of the requirements of section 78 of Act 930, BoG should require all Banks to follow the follow the following Basel principles
Basel Committee on Banking Supervision (BCBS) publication 75 called “Principles for the Management of Credit Risk”.
BCBS 239 : Principles for effective risk data aggregation and risk reporting
BCBS 350 : Guidance on credit risk and accounting for expected credit losses.
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