Too big to fail Companies: What Lessons for Regulators



Rethinking Regulation for Financial System

Stability in Africa

by

Chibuike U Uche

Alexander von Humboldt Georg Forster Fellow

Institute for Asian and African Studies

Humboldt

University

Berlin

 

and

 

Professor of Banking and Financial Institutions

University of Nigeria

Enugu Campus

NIGERIA

Being paper prepared for presentation at the international conference on Central Banking, Financial Stability and Growth, organised by the Central Bank of Nigeria to commemorate fifty years of central banking in Nigeria

(Abuja: May 3-6, 2009)

Rethinking Regulation for Financial System Stability in Africa

Introduction

The current global financial crisis has brought to the fore the debate on whether there is need to rethink the entire African financial system architecture and regulation. Despite numerous attempts at regional integration and cooperation both at the continental and sub continental levels, there have been very little progress made with respect to the design and regulation of a regional financial system. The current global financial crisis highlights the urgency of the need to develop a regional financial system that will take into consideration the specificities of the region. At the very least, the current crisis has demonstrated that the African financial systems are indeed different not least because of the nature and extent of their immunity from the current crisis. This has been explained thus:

The financial sector of Africa remains shallow and thin, capital markets are illiquid and the system is weakly linked to the global international financial system. The share of stock market capitalization, public debt securities and bank assets in the global totals is equal to 1.81%, 0.31% and 0.15% respectively. Only 17 countries have accessible stock exchanges. Banks are not active in the derivative markets, rely mainly on domestic resource mobilization to support operations, and foreign ownership is rather limited. Indeed, banks in Africa were not exposed to the sub-prime market. As a result of this low level of integration, as well as the residual controls on capital account, Africa has been largely insulated from the severe contagion effects witnessed in the developed and emerging markets.[1]

Although the lack of sophistication of the African financial systems and markets may have helped blur the direct impact of the global financial crisis on the continent, recent developments have shown that the continent has not escaped the indirect impact of this crisis.[2] A more important regulatory concern however is the increasing spread of African multinational banks, mainly from Nigeria and South Africa across the continent. The need to rethink the entire financial architecture of the continent has therefore become imperative at this stage. This is necessary in order to put in place an appropriate regulatory structure that will help promote financial stability and economic growth in the continent.

Given the peculiarities of the financial system of most African countries, addressing their problems will require more than just adopting the global solutions being proposed for the international financial system. Any meaningful solution aimed at enhancing the health of the African financial system must take into consideration the specificities and developments in the African environment. To achieve its aim, the paper is divided into four parts. Part One critiques the origins of the current global financial crisis while Part Two explores the changing financial system landscape of the continent. Part Three makes recommendations that could help enhance financial system regulation and stability while Part Four concludes the paper.

Origins of the Global Financial Crisis

The origins of the current global financial crisis have been linked to failure of regulators to learn from the financial crisis of 1929.[3] Subsequent to that crisis, the American Government enacted the Glass Steagall Act of 1933 (Banking Act of 1933). This essentially separated banking from securities business in order to remove all areas of possible conflict that usually arise when investment banking and commercial banking are combined.[4] This Act also established the Federal Deposit Insurance Corporation to facilitate the insurance of bank deposits. From its inception, the Glass Steagall Act increasingly came under pressure for it to be repealed. The fact that most developed countries never adopted any such separation became one of the rallying points for those wishing that the Act be repealed. Over time also, developments in technology began to fundamentally alter the nature of financial services operations. Technological advancements also helped speed up the process of change in financial system intermediation from being centred on banks to being centred on markets.[5]

The result of all these pressures was the enactment of the Gramm-Leach-Bliley Act (GLBA) of 1999 which effectively repealed the 1933 prohibition of mixing banking and securities businesses in the USA. The GLBA also repealed parts of the Bank Holding Company Act of 1956 which separated commercial banking from the insurance business. The consequence of this Act is that US holding companies are now allowed to offer banking, insurance and securities businesses as was the case before 1933.[6] The origins and forces behind the Gramm-Leach-Bliley Act have been summarized thus:

The 1999 legislation had repealed the Glass-Steagall Act of 1933, a pillar of President Roosevelt’s "New Deal" which was put in place in response to the climate of corruption, financial manipulation and "insider trading" which led to more than 5,000 bank failures in the years following the 1929 Wall Street crash.  Effective control over the entire US financial services industry (including insurance companies, pension funds, securities companies, etc.) had been transferred to a handful of financial conglomerates – which are also the creditors and shareholders of high tech companies, the defence industry, major oil and mining consortia, etc. Moreover, as underwriters of the public debt at federal, state and municipal levels, the financial giants have also reinforced their stranglehold on politicians, as well as their command over the conduct of public policy.[7]

The enactment of the Gramm-Leach-Bliley Act of 1999 accelerated the transformation of the American financial market from a bank based system of financial intermediation to a market based system. The structural basis for such transition has been explained thus:

Banks retain an important but increasingly different role in financial intermediation. For the larger banking organizations, activities and earnings are now focused more on loan originations and credit risk management services, and less on holding loans on the balance sheet to generate interest income. While some of these developments may be further along in the United States, similar trends are evident throughout the world. In this new system, investors can be very far removed from borrowers, relying on a number of agents to ensure the smooth functioning of the system. With the increased linkages among financial systems, around the world, financial instruments and claims pass through many hands and often wind up far from their origins.[8]

Perhaps because of the sheer size of the American financial system, once the Glass Steagall obstruction was eliminated, it quickly established itself as the champion of the transition from a bank based system of financial intermediation to a credit market based system. Under the new system, the practice of securitization of assets reigned supreme. Problem assets were simply securitized through complex models and transferred to third parties with the aid of Special Purpose Vehicles (SUVs). This effectively removed such assets from the balance sheet of the financial institutions that originated them. This was the very foundation of the US subprime mortgages which is at the centre of the current financial crisis.[9]

A key instrument that has helped promote the various complex financial products that have emerged from securitization is the evaluation provided on such products by rating agencies. This is because the acceptance of such products, until recently, had been based on the ability of such institutions to convince the markets about the viability and profitability of the securitized financial products. This has been mostly achieved through obtaining the endorsement of rating agencies. An apt example of the mechanics and possible structural defects in the ratings process has been documented as follows:

A mortgage trust assembled by a prominent investment bank had a portfolio of second mortgage loans that had essentially no borrower equity and had little or no documentation on more than half the loans. Amazingly, 93 percent of the tranches were rated investment grade by the two main credit rating agencies. As of September, 18 percent of the loans had defaulted wiping out many of the lower-rated tranches.[10]

Thankfully, there is now widespread consensus that the current structure and process of rating is fundamentally flawed and in need of urgent reform.[11]

Another factor that helped fuel the above developments was the inappropriate mechanism for remunerating staff of financial institutions. Arguably guided by neo liberal economic principles, an unhealthy culture of excessive pay and bonuses have developed over time in the industry. These inappropriate incentive structures no doubt played some role in encouraging behavior which contributed to the crisis.[12]

The change from a bank based system of financial intermediation to a market based system also created structural problems for bank regulators. This is because the securities sector has traditionally not been as policed as the banking sector. The emergent scenario encouraged regulatory arbitrage allowing banks to hide their activities using off balance sheet legal entities and complex derivatives.[13] The consequence of the above was that the existing regulation failed to keep pace with the changes in the financial system. The insurance of bank deposits became ineffective as it inadvertently meant open ended support for banks’ securities businesses.

Interestingly, the International Monetary Fund as recently as 2006 had declared the entire concept of securitization a positive development that could strengthen the financial system. According to the IMF:

There is growing recognition that the dispersion of credit risk by banks to a broader and more diverse group of investors, rather than warehousing such risk on their balance sheets, has helped to make the banking and overall financial system more resilient. Over the last decade, new investors have entered the credit markets, including the credit risk transfer markets. These new participants, with differing risk management and investment objectives (including other banks seeking portfolio diversification), help to mitigate and absorb shocks to the financial system, which in the past affected primarily a few systemically important financial intermediaries. The improved resilience may be seen in fewer bank failures and more consistent credit provision. Consequently, the commercial banks, a core segment of the financial system, may be less vulnerable today to credit or economic shocks.[14]

The current global financial crisis has however proved the above optimism to be poorly founded. Complexities in the financial system have helped ensure that such securitised assets, rather than being dispersed to various end investors, ended up in the books of highly leveraged banks and bank like institutions.

Based on the above, it is not surprising that it is the financial systems of the developed countries that have adopted Anglo-American style financial systems which stress the role of markets in corporate finance that have been most affected by the current financial crisis. With technological developments, unrestricted capital flows and increasing globalisation of financial businesses, some of the securitised subprime American loans have ended up in the books of banks in such developed countries.

The financial crisis in these developed countries has however snowballed into a global economic crisis and recession. It is this global recession, rather than the subprime mortgage crisis that has caused damage to the financial system of countries with inconvertible currencies and exchange control restrictions. In other words, financial sector induced recession in some of the world’s biggest economies have led to economic crisis in several developing countries. Specifically, this has resulted in declining commodity prices, investments, credit and exports. The above has consequently created problems for the financial system in such developing countries. Most African countries fall under this category. A review of the African financial architecture and regulation is therefore welcome at this stage. In the first instance, it will enable us address the financial stability issues that have been exposed, directly and indirectly, by the current global financial and economic crisis.

Arguably more important however is the fact that this also provides us with a unique opportunity to think about the continental regulatory challenges that are bound to emerge given the changing landscape of the African financial system which unlike the global economic crisis is being induced from within the continent.

The Changing Financial System Landscape in Africa

Financial systems generally develop along the lines of economic structures and relationships. Given the colonial past of most African countries, there have historically been little economic linkages among such countries. In fact, most African countries have much more links to the colonial and Western powers than to their neighbouring African states. Based on the above, African countries would have been ideal candidates for infection by the global financial crisis. Thankfully, as has already been mentioned, the financial systems of most African countries are unsophisticated and thus were unable to absorb the subprime financial instruments that facilitated financial system contagion. Damage control in most of these African countries has therefore been restricted to dealing only with the indirect impact of the global financial crisis.

The financial system architecture of Africa has however begun to change from the inside. This is essentially being driven by the gradually increasing intra African trade and regional economic cooperation and integration. All over the continent, regional integration bodies and free trade agreements are coming into place. The 1991 Treaty which established the African Economic Community made explicit the direction of expected financial and economic integration and cooperation in the continent. Specifically, it stated thus:

Member States shall, within a time-table to be determined by the Assembly, harmonize their monetary, financial and payments policies, in order to boost intra-community trade in goods and services, to further the attainment of objectives of the Community and to enhance monetary and financial co-operation among Member States… To this end, Member States shall: (a) Use their national currencies in the settlement of commercial and financial transactions in order to reduce the use of external currencies in such transactions; (b) Establish appropriate mechanisms for setting up multilateral payments systems; (c) Consult regularly among themselves on monetary and financial matters; (d) Promote the creation of national, regional and sub-regional money markets, through the co-ordinated establishment of stock exchanges and harmonising legal texts regulating existing stock exchanges with a view to making them more effective. (e) Cooperate in an effective manner in the fields of insurance and banking… Member States shall ensure the free movement of capital within the Community through the elimination of restrictions on the transfer of capital funds between Member States in accordance with a timetable to be determined by the Council.[15]

Also, the African Union Charter states that “The Union shall have the following financial institutions whose rules and regulations shall be defined in protocols relating thereto:(a) The African Central Bank;(b) The African Monetary Fund;(c) The African Investment Bank.”[16] Across the continent, various sub regional economic groupings are gradually being strengthened.[17] Despite the above, very little has been done with respect to the design and operationalisation of an effective continental financial system regulation structure for the region. Although technical meetings are ritually organised among bankers and central bankers from the various countries of the continent, no effective regional financial operations and regulatory framework has been developed.

While the above status quo had not mattered in the past especially given the not very substantial economic and financial linkages between the various African countries, recent developments now call for a change in direction. Arguably the single most important factor that has promoted intra African capital movement was the establishment of the New Partnership for Africa’s Development (NEPAD) in 2001. The NEPAD scheme was essentially championed by the business community in Africa’s largest economy: South Africa, with the objective of using it as a spearhead to expand South African capital to other parts of the African continent. Given its origins, it is not surprising that NEPAD adopted a neo liberal economic approach that emphasises the supremacy of market forces in economic dealings within the continent.[18]

Partly as a result of the above development, South African banks have either been established or strengthened in several African countries. Absa Bank for example have subsidiary/ associated banks in Mozambique, Tanzania and Angola while Standard Bank has subsidiary/ associated banks in thirteen sub-Saharan African countries. First Rand Bank also has subsidiaries/ associated banks in Botswana, Swaziland and Mozambique. The bank has also been cleared by both the South African and Zambian regulatory authorities to establish a full fledged bank in Zambia.

Private Banks from Nigeria, which is the continent’s most populous country, with no explicit strategic framework, have also been expanding their operations and capital to other parts of the African continent. This has no doubt been boosted by the recent consolidation exercise in the Nigerian banking sector. Access Bank, for instance, has subsidiaries in Cote D’Ivoire, Democratic Republic of Congo, Gambia, Rwanda, Sierra Leone and Zambia while Zenith Bank has subsidiaries in Sierra Leone and Ghana. The magnitude and speed of Nigerian banking investments abroad has made one commentator to enthusiastically assert thus:

Nigerian banks have become major players in the global financial market with many of them establishing subsidiaries and branches outside the country. The race for Nigerian banks to establish subsidiaries and branches abroad is on. The banks are gradually breaking into foreign countries, especially in the Economic Community of West African States, ECOWAS, Southern and Central Africa, Europe and America. As at September 23, ten out of the 24 licensed commercial banks in Nigeria own at least a full-fledged licensed bank in a foreign country. These Nigerian banks are First Bank of Nigeria, FBN, Union Bank of Nigeria, UBN; Bank Intercontinental; Access Bank; Platinum Habbib Bank; Bank PHB and the United Bank for Africa, UBA. Others are Guaranty Trust Bank, GTB; Zenith Bank and Oceanic Bank. The last to make the list is FinBank, formerly First Inland Bank, which announced on September 22, presence in the Gambia through the acquisition of the Arab Gambian Islamic Bank.[19]

A consequence of the above developments is the increasing financial linkages of the African countries. The stark implication of such cross border financial investments is that it is now becoming increasingly easier to transmit financial viruses from one African country to the other. There is thus an urgent need to develop a robust regional framework for the regulation of these multinational African financial institutions. This is even more critical given the wide variations in the economies of some of the various African countries.

There are also other operational challenges that regulators have to deal with. One lesson of colonial banking in Africa is that there are sometimes differences between the expectations of home countries and host countries (and their regulators) from multinational banks.[20] Not surprisingly, a Ghanaian analyst, while commenting on the current influx of Nigerian banks into the country stated thus:

It is important to ask why the Nigerian banks have chosen Ghana and not any other country. Banks, as other businesses from the sub region are free to take advantage of Ghana's liberalized financial sector, but their activities should be regulated for the benefit of the country. The new banks, like any other banks should not just be allowed to be collecting deposits and making huge profits; they should be made to invest in tangible assets and devote a chunk of their profits for social services across the country. The banks must increasingly be looking to lending to small and medium-sized enterprises and farmers if the country is to increase productivity. No doubt, Ghana is an agricultural dependent economy and should welcome banks that are willing to lend to the agriculture sector rather than the import-export business as is the current practice. Public Agenda therefore calls on the bank of Ghana and the Ministry of Finance and Economic Planning to ensure that the entering of more new banks into the Ghanaian economy opens a new chapter for good corporate behaviour in the financial sector.[21]

At another level, the need for the establishment of a robust financial regulation structure for the continent is further enhanced by the divergence in the experience, structure and method of regulation by regulators in home and host countries. This is because such divergence provides a fertile ground for all manner of regulatory arbitrage to take place. The diverse nature of the various African economies further complicates this problem. For example, foreign exchange transactions can be channelled to subsidiaries in African countries where regulation is less strict or developed. There is also avenue for indecent bank managers to engage in illicit activities like money laundering transactions.[22]

Given that the host countries of these African multinational banks are usually smaller and weaker nations economically, than the home countries, it is less likely that financial crisis/ scandals in such countries can be transmitted to the home countries of these financial multinationals. However, if the table is turned the result could be strikingly different. In other words, it is easier for financial crisis / scandals in the home countries of multinational banks to be transmitted to the financial systems of the host countries of such multinational banks.

The implication of the above is that regulators in the home countries of these emergent African multinational banks must now realise that their actions and/ or inactions in local banking regulation may well have consequences for other African countries. While the economies of the home countries of these multinational banks may be able to withstand the consequences of its regulatory gaffes, the economies of tiny host countries may have more difficulties doing so. I will illustrate the seriousness of the above point with the current speculations about the health of the Nigerian banks. In recent times, for instance, the Governor of the Central Bank of Nigeria has been persistent in his insistence that “the nation’s banks are healthy, sound and robust.”[23] The CBN has also specifically come to the defence of Intercontinental Bank Plc, which has recently been riddled with rumours of ill health.[24]

Despite such assurances, indications remain that Nigerian banks may not be as healthy as the CBN would want us to think. If recent press reports are to be believed, PricewaterhouseCoopers in a report to the Federal Ministry of Finance has said as much. According to the Report, some of the banks have already signalled interest in Government intervention or part takeover of their operations. Furthermore, various “industry commentators have reported that banks are struggling with non performing facilities in excess of N300 billion to N400 billion.”[25]

Given the history of the Central Bank of Nigeria in predicting bank failures in the past, it is not surprising to see why these rumours and uncertainties have continued to persist.[26] Also the inability of the CBN to walk its talk and discipline the parties behind such ‘rumours’ may have added fodder to the rumours.[27] Such uncertainties could lead to runs on the operations of the subsidiaries of such banks in other African countries. This will be so irrespective of the fact that most of these companies may be fully registered under the existing company laws of their host countries. The fact that many of these African countries have no explicit deposit insurance scheme in place to help depositors in the event of bank failure will no doubt exacerbate the problem.[28] Equally important is the fact that such crisis could lay the foundation for mistrust between home and host country regulators of these African multinational banks.

A related area where the CBN has not shown courage in enforcing policies that could help promote banking system transparency and possibly stability is in respect of the issue of introducing a uniform financial year end for banks and discount houses in Nigeria. The general belief is that Nigerian banks manipulate their books in order to get favourable ratings and that such practices are injurious to the health of the financial system. It was in a bid to reduce such practices that the CBN, on May 16, 2008 announced that with effect from December 31, 2008, all banks and discount houses should adopt December 31, 2008 as a common accounting year end. The commencement of this policy was subsequently postponed via another CBN Circular dated July 31, 2008. According to the CBN, this was “as a result of the observed unhealthy trend/ development in the industry whereby some banks were mobilising deposits at very high interest rates that were inconsistent with economic fundamentals which was becoming a threat to market stability.” Another CBN Circular dated August 25, 2008 finally buried the idea because of “the developments in the economy and the misplaced perception that the interest rates trends are linked to the requirement of a common year end.”

This represents an unfortunate turnaround by the CBN which may have been occasioned by pressures from the financial institutions. The validity of the reasons given by the CBN for the policy reversal has been rightly questioned. It has for instance been asserted that:

We consider both excuses given by the CBN Governor as totally unacceptable and crassly untenable. It further goes to confirm our unassailable conviction that the Nigerian banking industry is not only weak, in dire state of distress but also desperately needing surgical operations to survive irrespective of the spurious splendid financial results that these fraudulent banks churn out from time to time (in active collaboration with the CBN) all in order to continually deceive the gullible unsuspecting Nigerians to invest their hard-earned money in the thrash shares of these sinking banks…It is a classic endorsement that the consolidation of the banking industry which the CBN carried out on December 31, 2005 has irredeemably failed if after telling Nigerians that it now has mega-banks; these same banks are still in hot pursuit of deposits at whatever costs not also minding the fact that these same banks had gone to the capital market times without number to mobilize funds. The question now is: what has happened to all the billion of Naira mopped up by Nigerians banks from the capital market from year 2004 to date? (sic) Nigerians need to know.[29]

As intra African banking expands, home country regulators of financial institutions will need to show more courage in the face of the increasingly powerful African banks and interests. This is because most host country regulators will be no match for these increasingly complex African multinational banks. As already mentioned, the increasing intra-continental financial flows and entwinement could create enormous opportunities for operational and regulatory arbitrage. It could also create opportunities for sharp practices that could be exploited by any unscrupulous bank. Designing a financial system regulatory structure to take care of the growing integration of African financial systems has therefore become a matter of necessity. Any such financial regulation structure will also take into cognisance the specificities of the individual country needs and the unhealthy international practices that have resulted in the current global financial crisis.

Financial Regulation in Africa: the Way forward

Given the current entwinement of the global economy, it is difficult to devise a banking stability mechanism for Africa without recourse to the global financial architecture. In order to determine the kind of reforms that are needed in the current financial landscape, it is first important to understand the increasing complexities and interconnectivities between the various segments of the financial system. Recent structural changes in the global system has underscored the need to rethink the traditional wisdom that places special focus on the regulation of banks mainly because of their intermediary function and consequent third party consequences of its operational failures. With intermediation fast loosing grounds as the main source of income for conventional banks and the main source of funds for economic and commercial activities of business concerns, regulation based on the traditional structure of intermediation are bound to yield suboptimal results.

Based on the above, it is not surprising that the demarcations between the services being rendered by the various types of financial institutions are increasingly being blurred. The continued separation of the regulation of banks from that of other financial institutions will thus increasingly become ineffective. There is therefore need for a structural change in the way regulation is conducted and the mechanism for carrying out such regulation.

The first step in this direction would be to change the focus of regulation from the financial institutions to the financial products. This change of approach will also reduce regulatory duplications as products, whether created by banks, insurance or securities companies can be regulated using the same institutional structure. This is even more plausible especially given the fact that although a return to the Glass Steagall Act days may sound theoretically prudent, operationalising it would be practically impossible especially given the extent and nature of entwinement of financial markets across sectors and countries. This change of focus from macro regulation of institutions to micro regulation of their products should therefore be able to address some of the complexities of inter sectoral entwinements in the financial system both regionally and globally.

For product regulation to be effective however, it must begin at conception stage. Luckily, we do not have to reinvent the wheel. A well established product regulatory process is already in place in several industries including pharmaceuticals. Once designed, regulatory approvals must first be sought for such products before the financial institutions can operationalise them. It would then be the duty of the regulators to simulate the various possible consequences both for the financial institution and the entire financial system of such products under various economic scenarios. Although some of these financial products have been designed by brilliant financial engineers, they have been mainly incentivised by corporate goals rather than industry and/ or macroeconomic goals.

If such a financial product regulation system were in place, it would have been difficult for the various subprime financial products to have gained regulatory approval in the first place. While such products may make economic sense, especially from the perspective of the financial institutions that designed and operationalised them, their unhealthy nature immediately becomes apparent when one tries to rationalise their entire macroeconomic or industry effect. For the avoidance of doubt, I am not advocating an end to institutional regulation. Rather, I am of the view that placing more emphasis on micro regulation will help enhance the effectiveness of regulation.

The proposed change of focus from macro to micro regulation will also require a rethink of the structure of the regulatory bodies themselves. The structural changes in the financial system have made it necessary for us to rethink the practice of establishing multiple regulatory agencies each with the mandate of focusing on a specific sector of the financial system. Collapsing the various regulatory agencies into one body will no doubt be a more efficient way of policing the financial industry. It will also yield economies of scale and economies of scope benefits. An obvious consequence of the above recommendation will be the need to separate the banking regulation function from the central banking function. Aside from the fact that the structural changes in the financial system have made such combinations ineffective, the peculiar situation of central banks in developing countries also add fodder to the need for change. Specifically, it is widely accepted that most central banks in such countries because of various historical, political and economic factors have been largely unable to establish their independence from Government in the conduct of their business.[30] The consequence of the above is that such central banks have inadvertently aided their various governments in implementing inflationary policies in their various economies. This directly runs contrary to their main objective of promoting macroeconomic stability.

Given that inflation is injurious to the health of financial institutions, one cannot reasonably expect such central banks to be effective in regulating financial institutions that are forced to operate in the partly central bank induced high inflation environment. The central banks must therefore be encouraged to focus on their core objective of promoting macroeconomic stability. After all, the root of all banking crisis is the inability of banks to earn enough returns on their operating assets to cover their liability position. Macroeconomic instability and high inflation negatively affects economic development and growth thus making it difficult for banks to achieve their base objective of earning enough returns on their assets during such periods. Ensuring macroeconomic stability is therefore the most precious gift any central bank can offer to the banking system.

Another contentious issue that has been brought to the fore by the current financial crisis is whether banks should be allowed to become too big to fail? The most important factor that has fuelled this debate is the usual bailout of financial institutions with taxpayers’ money. Thus far, the most important factor in determining which financial institution gets bailed out is size. The conventional argument is that some financial institutions, because of their sheer size and depth of entwinement with the national or global financial system, are too big to fail. Put in another way, their failure could have catastrophic consequences for the entire financial system or the economy.

Given that selective bailouts based on any parameter whatsoever, including size are inherently contentious, the logical question to ask is: should companies be allowed to become too big to the extent that its size becomes an incentive to bail it out in the event of distress? To properly address this problem, it is important to note that for a long time, size has, albeit erroneously, been linked to stability of the financial system in some countries. With the current global financial crisis, regulators are now by far wiser. At the very least, they should now appreciate the fact that there are other factors, aside from size, that facilitate financial system stability. In fact size and the expectation that the company would be bailed out, in the event of crisis could become an incentive for financial recklessness by managers. In my view therefore, there is need for the regulatory authorities to put a legal bar on the extent any financial institution can grow. Such a restriction will be even more important in developing economies where foreign, laundered or rent capital can easily be used to establish monopoly situations and the legal/ institutional structures set up to combat monopolies are either non existent or non operational. In such countries, no one institution should be allowed to carry more than a single digit percentage point of the specific industry asset.

Conclusion

Given the international dimensions and complexities of the current economic and financial crisis, the international community, under various auspices have been working on numerous proposals aimed at curtailing and reversing the effects of the crisis. Measures that are currently being voiced out, some of which will no doubt be adopted, include: reforming the capital adequacy requirements in order to make them counter cyclical; increasing market transparency in order to reduce the incidence of insider trading; the use of additional loan loss reserve provisioning as a counter cyclical tool to prevent the boom from getting out of hand; reform of the rating agency system in order to make rating agencies more accountable, and; intensification of bank liquidity regulation and supervision.[31]

In finalising the above structures, African countries are unlikely to have any major input, if history is anything to rely on. Such countries will however be allowed to free ride and implement the international decisions. Despite the above, the central banks and other regulatory institutions in Africa still have a major role to play in order to help improve the health of the financial institutions in the continent. A starting point will be for African central banks to focus on their core objective of promoting macroeconomic stability. It is only by effectively doing this that the true potentials of the African economies can be unleashed. Stable macroeconomic conditions are no doubt one of the key ingredients necessary for enhancing the investment opportunities in most African countries. It is only when such investment opportunities are enhanced that banks can refocus their attention from risky short term speculative activities like share trading (casino banking) to longer term investments in the productive economy.

The greatest challenge for financial regulators in the African continent however would be to develop a robust framework for the regulation of cross country financial flows and institutional cooperation in the continent. Unless this is done, one can safely predict that in the future, a major source of financial industry bilateral and multilateral conflict in the continent would be the current rapid expansion of African multinational banks, mainly from Nigeria and South Africa, into other African countries. The effective regulation of these emerging African multinational banks is the only way one can realise the dream Intercontinental Bank outcome of “happy customer, happy bank [and happy country]” from this welcome growth in intra-continental financial relations in Africa.

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Public Agenda (Accra) News (Various Issues)

Punch Newspaper (Various)

Rude, C. (2008), The Global Financial Crisis: What Needs to be Done, Friedrich Ebert Stiftung Dialogue on Globalisation Briefing Papers 12 (November).

Standard Bank Annual Report (Various Years)

ThisDay Newspaper (Various)

Uche C, (1997a), Bank of England Vs The IBRD: Did the Nigerian Colony Deserve a Central Bank?, Explorations in Economic History, Volume 34, Issue 2, pp.220-241.

Uche, C (1997b), Does Nigeria Need an Independent Central Bank? African Review of Money Finance and Banking, Supplementary Issue to Savings and Development, Volume 21, pp.141-158.

Uche, C (2001a), The Adoption of Universal Banking in Nigeria, Butterworth’s journal of International Banking and Financial Law, Volume 16, Number 9, pp.421-428.

Uche, C (2001b), The Politics of Monetary Sector Cooperation Among the Economic Community of West African States Members, World Bank Policy Research Working Paper Number 2647 (Washington DC, World Bank, July)

Vanguard Newspaper (Various)

Velde, D (2008), The Global Financial Crisis and Developing Countries: Which Countries are at Risk and What can be Done? Overseas Development Institute Background Note (October)

Williams, M (2009), The Global Financial Crisis-Can we Withstand the Shock?, Address by the Governor of the Central Bank of Barbados at the Luncheon Meeting of the Barbados Chamber of Commerce ((25 February).

World Bank (2008), Global Financial Crisis and Implications for Developing Countries, Document Issued after the G 20 Finance Ministers’ Meeting held in Sao Paulo Brazil (November 8)

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[1] African Development Bank et al, Briefing Note 1 (2008, p.2). See also Velde (2008), Williams (2009) and Heliso (2009).

[2] According to a World Bank Report issued at the end of the November 2008 G 20 Ministers Meeting in Brazil: “[m]any developing countries are moving into a new danger zone, with heightened risk to exports, investment, credit, banking systems, budgets, the balance of payments, and the most vulnerable. With this latest financial crisis, growth is slowing and is likely to weaken even more sharply. Developing country exports to developed countries are falling, capital is being withdrawn from emerging markets and short-term credit is drying up. This could trigger a fall in production and investment by the productive sector. Sharply tighter credit conditions and weaker growth are likely to cut into government revenues and governments’ ability to invest to meet education, health and gender goals” (p.1). See also Communiqué of Meeting of African Ministers of Finance (November 12, 2008, p.1).

[3] See Editorial (2008, p.64)

[4] “[R]esistance to the integration of commercial and merchant banking systems in many countries stems from deep concerns for conflict of interest. It has, indeed been argued that conflicts of interest might occur if banks were both major lenders to companies and also underwriters and possibly major shareholders of corporate securities. The risk is that banks might fraudulently mislead potential investors on the securities underwritten on behalf of companies to which they are creditors or could lend preferentially to those companies in which they have equity or underwriting stakes” (CBN Annual Report, 1998). See also Uche (2001a).

[5] “The financial intermediation industry is essentially based on the production of information. The ongoing information revolution, which is based on the digital production and processing of financial data, has dramatically reduced information costs. We consider it self evident that this technology shock has structural effects on the financial markets. This structural shift is to a great extent related to the roles of direct financial markets and indirect financial intermediaries in transmitting households’ saving into firms’ investments. Empirically, this process can be seen e.g. in the form of financial disintermediation and in the global spread of the so called Anglo-American type of financial systems, which stresses the role of markets in corporate finance” (Mannonen, 2001, p.1).

[6] See Barth el al (2000, p. 1).

[7] Chossudovsky (2008a).

[8] Hoenig, 2008.

[9] “The very complexity of the mathematics used to measure and manage risk, moreover, made it increasingly difficult for top management and boards to assess and exercise judgement over the risks being taken. Mathematical sophistication ended up not containing risk, but providing false assurance that other prima facie indicators of increasing risk (e.g. rapid credit extension and balance sheet growth) could be safely ignored” (Financial Services Authority, 2009, pp.22). See also Lin (2008, p.3).

[10] Ibid.

[11] Securities and Exchange Commission Chairman Mary Schapiro recently pointed out that “rating agency performance in the area of mortgage-backed securities backed by residential subprime loans, and the collateralized debt obligations linked to such securities has shaken investor confidence to its core.” It was also noted that there is a conflict of interest when the fee for the rating agency is paid by the issuer of the debt instead of the investor who is relying on the rating. This issued-paid model accounts for 98% of the ratings (Cornelius, 2009).

[12] “High levels of remuneration in banks, and in particular high bonuses paid both to top executives

and to traders involved in trading activities which subsequently generated large losses, have been

the subject of intense public focus as the financial crisis has developed… The long-term issue concerns the way in which the structure of remuneration can create incentives for inappropriate risk taking. It is on this issue that the FSA and financial regulators across the world are now focused. In the past neither the FSA nor bank regulators in other countries played significant attention to remuneration structures. And within firms, little attention was paid to the implications of incentive structures for risk taking, as against the implications for firm competitiveness in the labour market and for firm profitability. In retrospect this lack of focus, by both firms and regulators, was a mistake. There is a strong prima facie case that inappropriate incentive structures played a role in encouraging behaviour which contributed to the financial crisis” (Financial Services Authority, 2009, pp.78-80).

[13] Rude (2008, p.4).

[14] International Monetary Fund (2006, 51)

[15] Articles 44 and 45

[16] Article 19. Recently, Nigerian signed a Memorandum of Understanding with the African Union to host the proposed African Central bank. The Bank is expected to commence operations in 2021 (ThisDay, April 27, 2009).

[17] “Current African integration arrangements can be divided into two broad groups: those that fit into the Lagos Plan of Action (LPA) adopted in April 1980, and those that were either in existence or came about outside the LPA ….The Lagos Plan was promoted by the ECA and launched in a special initiative by the OAU. It envisaged three regional arrangements aimed at the creation of separate but convergent and over-arching integration arrangements in three sub-Saharan sub-regions. West Africa would be served by the Economic Community of West African States (ECOWAS) which pre-dated the Lagos Plan. A Preferential Trade Area (PTA) was established in 1981 to cover the countries of East and Southern Africa, which was eventually replaced in 1993 by the Common Market for Eastern and Southern Africa (COMESA). For Central Africa the treaty of the Economic Community of Central African States (ECCAS) was approved in 1983…. Together with the Arab Maghreb Union (AMU) in North Africa, these arrangements were expected to lead to an all-African common market by the year 2025. The Lagos Plan was followed up in 1991 by the Abuja Treaty, re-affirming the commitment of the OAU’s Heads of State to an integrated African economy…. In April 2001, African Heads of State launched the African Union at Sirte to replace the OAU” (Mathews, 2003, Chapter 6). See also Uche (2001b).

[18] See Ezeoha and Uche (2004).

[19] Newswatch Magazine, October 7, 2008.

[20] See Austin and Uche (2007).

[21] See Public Agenda (Accra) News, January 16, 2006.

[22] According to the Economist: “Though banking standards have certainly risen a lot in recent years, they still lag behind those of America and the European Union, particularly in terms of transparency. In April, United Bank for Africa, one of the country’s biggest, fell foul of American regulators who served the bank with a $15m fine for ignoring anti-money-laundering regulations despite several warnings” (August 21, 2008).

[23] See, for instance, Daily Champion, March 18, 2009

[24] See for instance Punch Newspaper (March 17, 2009).

[25] Quoted in Vanguard Newspaper, February 25, 2009. Also, according to the Economist: “[t]he top seven Nigerian banks, with a combined market value of almost $40 billion, are overvalued by as much as 56%, according to a report published in May [2008] by JPMorgan…. Part of the problem is that banks have used their own money to push up their stock prices by engaging in risky lending to corporations and individuals who invest in the banks’ own shares” (August 21, 2008).

[26] See Ogowewo and Uche (2006).

[27] Words, unmatched by action by the CBN on such matters are not new. See, for instance, the circulars issued by the CBN on the subject matter dated April 12, 2006 and October 21, 2008.

[28] Only six African countries currently have explicit deposit insurance schemes in place. These are: Kenya (1988), Nigeria (1988/1989), Tanzania (1994), Uganda (1994), Algeria (1997) and Zimbabwe (2003) (Demirguc-Kunt et al (2005).

[29] See Fortunes and Class, November 16, 2008.

[30] See for instance Uche (1997a and 1997b).

[31] See, for instance, Financial Services Authority (2009).

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