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The East African : Mar 23rd 2015
The EastAfrican 42 BUSINESS MARCH 21-27,2015 EA banks need to invest in deposit insu≥ance to secu≥e custome≥s’ cash COMMENTARY MACHARIA KIHURO “If customers suspect that their bank’s going-concern status is at risk, they vote with their feet.” A frica Rising is the new buzzword in the global business arena. Nevertheless, even with such a promising future, we are told that 75 per cent of sub-Saharan African adults do not have a bank account. Financial inclusion in Africa remains a hard nut to crack although mobile banking seems to have picked up at an unprecedented rate. Many factors are to blame for the slow spread of banks in Africa. One of the issues is deposit insurance. Are African banks investing enough in deposit insurance? The banking business is about people and relationships. Indeed, a bank’s major stock-intrade remains the customers’ trust in the brand. Banking involves mobilising customers’ deposits and doing business with these funds. In this business, the customer is the king. For an individual to toil and then entrust their savings to you, you must demonstrate impeccable reliability over time. If customers suspect that their bank’s going-concern status is at risk, they vote with their feet! This may culminate in a run on the bank. This is so serious that at times it leads to the collapse of an entire banking system. Central banks are usually careful to avoid such failure. The protection of customers is critical. Do you know if your deposits or savings in a commercial bank are fully or partly insured? This is referred to as the depositors’ insurance. Globally, nations have estab- lished deposit insurance to ensure financial stability. Deposit insurance is simply protec- tion provided by a government agency to depositors of a bank or deposit-taking institution. It assures the depositors of compensation in case a bank collapses. Deposit insurance started in the US after the Great Depression, the longest lasting economic downturn in the US. The on-switch went on after the infamous stockmarket crash of October 1929. By 1930, the first wave of banking crises hit the economy. Large groups of depositors panicked and lost confidence in their banks. The result: Mass wi thdrawals. As expected, banks ran amok liquidating loans to complement the dwindling cash reserves. By 1933, the Great De- pression was at its worst. An estimated 15 million Americans became jobless and nearly half of the country’s banks went under. President Franklin Roosevelt came to the aid of the banks. Initially, he announced a four-day bank holiday for the government to push through legislation in Congress to resuscitate the economy. One piece of legislation involved creation of the Federal Deposit Insurance Corporation (FDIC) to protect depositors’ accounts and the Securities and Exchange Commission (SEC) to regulate the stockmarket. The FDIC pioneered the concept of deposit insurance globally. According to the Associa- tion of International Deposit Insurers (AIDI), an organisation of 71 insurance organisations based in Basel, Switzerland, in 2014, there were 113 countries with deposit insur- ance, up from 12 in 1974. But 41 countries are preparing to adopt the system. In the US, the FDIC insurance limit is now permanent at $250,000 per depositor. That is a huge limit and few depositors will have such account balances at a given point in time. China, in November 2014, pro- posed that every depositor be insured to the tune of 500,000 yuan ($81,300). The majority of Chinese depositors hold far less and the central bank estimated that 99 per cent of depositors were within the cover. In 1994, the European parlia- ment passed a law requiring all member states to have a deposit insurance for at least 90 per cent of the deposited amount with a minimum cap of least 20,000 euros ($212,434) per depositor. But, like in the US, the 2008 global financial crisis saw the figure readjusted to at least 50,000 euros ($53,108) per depositor. But Ireland tipped the balance in September 2008, when it increased its deposit insurance to an unlimited amount. Most of the other EU countries increased their limits too. Germany, France, Finland and Belgium have pushed their insurance limits to 100,000 euros ($106,217). In Africa, deposit insurance schemes are gaining currency. Recently, the International Monetary Fund advised South Africa to consider introducing deposit insurance after the country’s largest unsecured lender‚ African Bank‚ collapsed last year. In Kenya, for some time, a cus- tomer was sure of a payment of not less than Ksh100,000 For an individual to toil and then entrust their savings to you, you must demonstrate impeccable reliability over time.” ($1,086) in case of failure of a member institution of the Kenya Deposit Inurance Corporation. According to the Central Bank of Kenya, this limit covers over 90 per cent of the total number of depositor’s accounts in Kenya. But other data from the CBK indicates that these protected funds in absolute figures only cover 10 per cent of industry’s total deposits. That means in case a bank collapses, many deposits will be lost. As an improvement to the ex- isting position, the CBK has said that banks will be contributing to the insurance fund based on a flat rate. They will also contribute a percentage of their total deposit liabilities based on a risk-adjusted contribution methodology stipulated by the Kenya Deposit Insurance Corporation. The flat rate is equal to 0.15 per cent of deposits held by a member institution with a minimum of Ksh300,000 ($3,258). Such deposit insurance is al- ready in place in Kenya, Uganda and Tanzania. Rwanda is also considering in- troducing deposit insurance and arrangements are said to be at an advanced stage. In Tanzania, depositors in failed banks or financial institutions are assured of a coverage limit of Tsh1,500,000 ($516) per depositor. In Uganda, the Deposit In- surance Scheme became operational in 1997. The depositors are sure of at least Ush5 million ($2,000) in case of a bank’s failure. But there is school of thought that believes that deposit insurance encourages laxity, makes depositors less careful, and likely to invest in obviously risky institutions. Second, in some instances and jurisdictions, the pro- cedures of compensation can take such a long time that depositors suffer in the process. Nevertheless, all said and done, for financial systems to be sound and to encourage depositors to develop trust in our banking institutions, gov- ernments must seek to cultivate confidence. And deposit insurance is a key component of secure financial systems. Weak c≥edit cont≥ols in SME segment blamed fo≥ high default ≥ate TURN FROM PAGE 41 increase in bad loan provisions, which rose from Ush7 billion ($2.3 million) in 2012 to roughly Ush146 billion ($47.6 million) in 2013, according to the bank’s statement of comprehensive income for 2013. During the same period, credit default costs surged from Ush7 billion ($2.3 million) to Ush47.7 billion ($16 million). The poor performance regis- tered by SME borrowers has also affected major rivals like Stanbic Bank. Sources at the South Africancontrolled lender claim weak credit controls applied to the SME segment led to delays in detection of failing loans, with some distressed loans taking longer than three months to isolate during 2012. Tackling the trend In an attempt to tackle the trend, Stanchart has shifted its focus towards bridging knowledge gaps experienced in the past; establishing a credit monitoring system that tracks borrowers’ cashflows and flags sudden changes in transaction patterns and identifies hidden commercial risks among clients. “The bank is adopting more ef- fective ways of understanding SME clients and monitoring their transactions. The deployment of a robust surveillance system will assist us in detecting sudden changes in clients’ accounts, which will be referred to the risk management division for swift remedy,” said Mr Manjang. Even though Standard Chartered Uganda’s 2014 results are yet to be released, analysts are predicting positive growth rates in interest incomes and loan recoveries but are pessimistic about movements in default expenses, mainly because of challenges faced by retail borrowers struggling to make ends meet under weak economic conditions. While data on SME lending re- mains scanty, big banks appear determined to gain a foothold in this sector. “The sector has a lot of untapped potential that suits the bank’s long term growth agenda,” said a source at Stanbic Uganda. The use of strict credit-control tools has benefitted more experienced lenders in the SME segment, industry sources say. “One of the locallyowned banks applies strict collateral requirements on SMEs, which include taking an inventory of small assets like chairs, tables and electronics and this in turn, has reduced its credit default rates in that segment,” said Phillip Sendawula, a finance manager at Diamond Trust Bank Uganda Ltd.
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