Africa Finance Forum
The global financial and economic crisis exerted a serious macroeconomic impact on the economies of sub-Saharan Africa (SSA); average real GDP growth in 2009 fell by more than 4 percentage points compared to the annual average in the five preceding years. Nevertheless, the banking systems in most countries of SSA weathered the crisis without major damage. Unlike many of the advanced countries and some of the emerging markets, SSA avoided a systemic banking crisis. Banking systems in SSA remained both solvent and liquid. Many commentators have attributed this to the lack of integration of SSA banking systems into global financial markets; a somewhat incongruous conclusion given that international banks dominate the banking systems in many SSA economies.
Less attention has been paid to the strength of prudential regulation in SSA and the contribution which this made to maintaining banking system stability on the continent. It is now recognised that weaknesses in prudential regulation in the advanced countries contributed to the financial crisis. Regulators in advanced countries employed “light touch” regulation in which most of the emphasis was placed on capital adequacy requirements which proved vulnerable to “gaming” by banks, enabling them to ramp up leverage and operate with very little equity capital. In several important respects, SSA bank regulators imposed stricter prudential regulation than did their counterparts in advanced countries. I will use the bank regulations in Uganda to illustrate these points but Uganda is not unique in SSA and its regulatory framework is qualitatively similar to that of many other SSA countries.
Many SSA countries impose higher statutory minimum capital requirements than do advanced economies; for example Uganda imposes minimum tier 1 and total capital to risk weighted asset ratios of 8 percent and 12 percent respectively, compared to the Basel minimum of 4 percent and 8 percent respectively which was the standard in advanced economies. In addition, SSA regulations impose much stricter standards in respect of the quality of tier 1 capital; for example, banks in Uganda must deduct all intangible assets when computing tier 1 capital, hence there is little scope for meeting the tier 1 capital requirement other than with paid up equity capital and retained earnings.
In contrast to bank regulations in the advanced countries, SSA countries did not put excessive emphasis on (an arguably flawed) capital adequacy requirement. Although capital adequacy requirements play an important role in bank regulation in SSA, they are complemented by other prudential regulations, in particular restrictions on the composition of banks’ asset portfolios and their business activities which are designed to curb risk taking. Uganda imposes restrictions on large loan concentrations, on the trading activities of banks (such as trading equities) and on foreign exchange exposures. Uganda bank regulations also restrict dividend distributions when a bank’s capital is impaired or close to being impaired. Loan loss provisioning requirements are stricter, with less scope for deducting collateral values (which are often difficult to realise) from the value of non performing loans which must be provisioned for and a requirement for a general provision irrespective of the performing status of the loan. Uganda also imposes a minimum liquidity requirement.
Stricter prudential regulations did not prevent dynamic growth in SSA banking systems in the 2000s, a period in which several SSA countries experienced credit booms. In the five years from 2004 to 2009, bank credit to the private sector in Uganda expanded in real terms at an average annual rate of 20 percent. However stricter prudential regulations did help to ensure that the rapid credit growth did not lead to financial fragility in the banking system and they also ensured that banks business activities remained focused on supplying traditional banking products, such as loans to the private sector, which are the priority for the development of SSA economies, rather than proprietary trading activities.
The Basel Committee on Banking Supervision has drawn up proposals for strengthening bank regulations at the global level which in some respects move the global minimum standards towards the standards already in force in SSA. Minimum tier 1 capital requirements will be raised, banks will not be allowed to count intangible assets towards tier 1 capital (to raise the quality of capital), a capital conservation buffer, a countercyclical capital buffer and a liquidity requirement will be introduced. In the United States, restrictions are being re-imposed on banks’ proprietary trading activities. Bank regulations in SSA are not perfect and will need to be upgraded in the years ahead to meet evolving challenges to financial stability, but it is fair to conclude that the stricter approach taken by bank regulators in SSA, compared to their counterparts in advanced economies, contributed to the resilience of the banking system in the face of the worst global financial crisis in more than half a century. African bank regulators got the basics right.
Dr. Louis A. Kasekende is the Deputy Governor of the Bank of Uganda. He began his five-year term in this position in January 2010. From May 2006 to 2009, he served at the offices of the African Development Bank (AfDB), in Tunis, Tunisia, as Chief Economist.