IN the context of this paper, regulation means a body of specific rules or agreed behaviour, either imposed by some government or other external agencies or self-imposed by explicit or implicit agreement within the industry, that limits the activities and business operations of financial institutions. Banks are generally known to hold the bulk of the money supply in an economy. They also create money through the loans and advances they extend to their customers. Banks act as the vehicles of implementing monetary policies and they intermediate between the surplus and deficit units of the economy. As a result of these sensitive activities of gathering of deposits and allocation of credits, banks are vulnerable to liquidity problems and loss of public confidence. It is for these reasons that government usually regulates the banking industry more than any other sector of an economy.
Government regulation of banking practices in Nigeria only commenced with the enactment of the first Banking Ordinance of 1952 following the alarming rate of failure of licensed indigenous banks in the early I 950s. The Banking Ordinance of 1958 was to further regulate the banking industry. The establishment of the Central Bank of Nigeria (CBN) in 1959 and the commencement of bank examination by the Bank Examiners Unit of the Federal Ministry of Finance in 1960 which was later transferred to the CBN in 1966 were all geared towards an effective regulation of banks in Nigeria. The promulgation of the Banking Decree of 1969 and its subsequent amendments climaxed government’s supervisory and regulatory roles over banks in Nigeria.
The coming on stream of the Nigeria Deposit Insurance Corporation (NDIC), was to further strengthen and complement previous government regulatory and supervisory efforts.
The forms of regulation include environmental regulations such as restrictions on credit facilities; legal regulations such as the restrictions on the type of businesses banks can engage in; and moral suasion in which regulation emerges from the general authority of the CBN. A review of the different aspects of regulation of banks in Nigeria is presented below:
Licensing of Banks
Under the provisions of Section I (1) of the Banking Decree, 1969 (as amended), only a company duly incorporated in Nigeria and in possession of a valid licence can carry on the business of banking in Nigeria. Banking licences are obtainable by application from the Minister of Finance and Economic Development through the CBN. It should be noted that the purpose of licensing is not to limit entry and restrict competition, but to ensure adequate capitalisation and sound management.
Capital Adequacy
Banks require capital to absorb operating losses. Lack of adequate capital increases banks’ potential risk of failure. The CBN, having accepted the recommendations of the Basic Committee on the need for common and effective standard of measurement of capital adequacy, issued circular No. BSD/FE/48lVol.61303 of 1990 to banks. According to the 199! Monetary Policy Guidelines, banks shall maintain not less than 7.50 per cent of their risk assets as capital. In addition, at least 50 per cent of a banks’ capital for this purpose shall comprise paid-up capital and reserves.
Furthermore, to strengthen bank capital, every licensed bank is required by the provisions of Section 9 of the Banking Decree 1969, to maintain a reserve fund out of its net profit each year, before declaring dividend and: – to transfer to the reserve fund 12.5 per cent of the net profit if the reserve fund is equal to or more than the paid-up share capital; and – to transfer 25 per cent of the net profit to the reserve fund if the reserve fund is less than the paid-up share capital.
When banks borrow money at short maturities and lend on long term basis, such banks face the risk of not being able to repay depositors’ money when called. The likely effect of such mismatch is an increase in interest rates on short-term liabilities as opposed to those on longer term assets with a consequent reverse yield curve. In computing the required liquidity ratio, deposits with the CBN in respect of violations of aggregate credit ceiling, short-falls of loans to agriculture and small scale enterprises as well as short falls in the revised merchant banks’ assets structure, and cash deposits to meet cash reserve requirements do not qualify for inclusion.
In addition to the liquidity ratio, licensed banks are required to maintain with the CBN, a minimum amount of cash deposits expressed as a ratio of total deposit liabilities, including demand, savings and time deposits. In 1991, all commercial and merchant banks shall observe a minimum cash reserve ratio as now defined of 3 per cent at the end of every month.
Asset Structure of Merchant Banks
Merchant banks are required to hold a minimum of 20.0 per cent of total credit as medium and long-term loans, with maturity of not less than three years. Short-term credit, with maturity not exceeding one year, is stipulated at a maximum of 20.0 per cent.
Lending Limits
Lending limits, as a percentage of capital and reserves are required to prevent the concentration of risk in a single borrower, a group of related borrowers, or a particular industry. Lending limits also permit banks to have sufficient capital to attain a scale of operations that will enable them to compete effectively and serve a large number of customers.
By the provisions of the Banking (amendment) Decree 1979, Section 13 (commercial banks are restricted to a maximum of 33.3 per cent of paid-up capital as loan or any form of credit facility to anyone person while merchant banks are allowed up to the sum of paid-up capital and statutory reserves as loan or advance to anyone person. Other restrictions on lending are as given in subsections lb to Id of Section 13 of the Banking (amendment) Decrees of 1979.
In addition, an aggregate credit ceiling (for all types of credit) of 13.2 per cent in 1991 is allowed for loans to the private sector by both commercial and merchant banks. The CBN also gives the sectional percentage distribution of commercial and merchant banks’ credit. Table 16. 1 shows this distribution for the 1991 fiscal year. This policy is designed to direct credit to areas of highest rate of social return in the economy which may not necessarily give the highest rate of financial return to the banks.
(i) Banks are to regard allocation targets in a (i) and (ii) as minima and of b as maxima.
(ii) This sub-sector does not include mining, quarrying and construction which were classified under this sector up till 1986.
Disclosure of Insider Interests
Sections 11(1) and 11 A (1) of the Banking Decree 1969 (as amended),
require every director, manager or other officials of a licensed bank to declare any interest, whether direct or not, held in an advance, loan or credit facility to be granted by the bank. Contravention of this provision will make such an official Liable to a fine or an imprisonment, or both. This provision is made to prevent directors and managers from abusing their offices.
Restriction on Activities
By virtue of the provisions of Section 13 (1) of the Banking Decree, 1969 (as amended), banks are not allowed to:
(i) own subsidiary companies not carrying on banking business;
(i) acquire or lease real estate except for the purpose of conducting business or housing of staff; or
(iii) engage in wholesale or retail trade, including the import or export trade
(with exceptions).
With effect from 1988, banks have been allowed to invest up to 10 per cent of their paid-up capita! plus reserves in a sin a and medium-sized company’s equity. However, a bank’s total investment in such enterprises should not exceed 33.3 per cent of the bank’s total paid-up capital and reserves.
Asset Classification and Provision for Bad and Doubtful Debts
Banks shall strictly observe and comply with the prudential guidelines outlined in CBN circular No. BSD/DO/23/Vo of November 7, 1990 which shall be part of the set of criteria for the evaluation of their performance by both the regulatory authorities and the market. For the purpose of calculating capital adequacy of banks, the Central Bank classifies the assets of banks into categories prescribed by the Basic Committee on Banking Regulations. In addition to the restriction of non-payment of dividend by banks that fail to make adequate provision for bad and doubtful debts, banks in Nigeria are now to suspend interest on non-performing assets and preclude the refinancing or capitalisation of interest. This is expected to check and put a stop to a situation where banks declare “paper profits resulting from accrued interest on non-performing assets.
Also, “Statement of Accounting Standard on Accounting by Banks and Non-Bank Financial Institutions (Part 1)” issued by the Nigerian Accounting Standards Board (NASB) in October 1990 became operative as from December 31, 1990. In view of the importance of the banking sector, the Statement seeks to, among other aims, correct inconsistent accounting policies and reporting practices which make comparison of our banks difficult; correct allegedly overstated profits reported by banks; and to sustain public confidence in the banking sector. All licensed banks are mandated to comply with the provisions of the Statement
Level of Interest Rates
Banks are required to observe a maximum spread of 4 percentage points between their average cost of funds (including administrative expenses) and their maximum lending rates. The maximum lending rate should not exceed 21.0 per cent per annum and savings deposit rate should not be less than 13.5 per cent per annum.
The Duties and Powers of Regulatory Authorities
By supervision, I mean the process of monitoring that banking institutions are conducting their business, either in accordance with regulations or more generally, in a prudent manner. It thus implies that supervision by regulatory authorities is to ensure that banks comply with regulations imposed by government or other external agencies or self imposed by the banks themselves.
The two government institutions charged with on-site and off-site supervision of licensed banks in Nigeria are the Central Bank of Nigeria (CBN) and the Nigeria Deposit Insurance corporation (NDIC). While the CBN draws its powers from the Banking Decree 1969, the NDIC is empowered by the provisions of the NDIC Decree No. 22, 1988. These two regulatory authorities carry out their supervisory roles mainly through routine and special examinations of licensed banks by bank examiners. Regulatory bank examiners have as their main functions the appraisal of:
(i) assets, with emphasis on asset quality;
(ii) liabilities, with emphasis on capital adequacy and volatility/structure of deposits;
(iii) management competence;
(iv) internal control, spotlight weaknesses and recommend appropriate measures to prevent the weaknesses;
(v) electronic data processing;
(vi) uniform bank performance report of Capital, Asset Management) Earning and Liquidity (CAMEL) which indicates the position of a particular bank compared with the rest of its peer group as well as determine the level of health of a particular bank in relation to the above variables;
(vii) spread of banks and bank branches to determine whether or not to recommend the issue of more licenses to bank promoters or to allow existing banks to open more branches;
(viii) level of fraudulent practices within and between banks; and (ix) foreign exchange utilisation to ensure that all foreign exchange market regulations are complied with and to evaluate its proper utilisation.
Appointment and Powers of Examiners
The appointment and powers of bank examiners for routine and special examinations are provided in Sections 20 and 21 of the Banking Act of 1969.
Section 20 provides as follows:
There shall be a Chief Bank Examiner who:
shall be an officer of the Central Bank appointed by the bank with power to examine periodically, under condition of secrecy, the books and affairs of each and every licensed bank;
(b) shall have a right of access at all times to the books of accounts and vouchers ofthe bank; and
(c) shall be entitled to require from the officers and directors of the bank, such information and explanation as he thinks necessary for the performance of his duties, and the Chief Bank Examiner shall be given; and shall have access to any accounts, returns or information regarding banks licensed under this Decree that are in the possession ofthe Federal Ministry of Finance.
(2) There may in the same manner be appointed one or more fit persons as Deputy or Assistant Chief Bank Examiner who shall have and may exercise the power of a Chief Bank Examiner under the Decree.
(3) In examining the affairs of any licensed bank in accordance with subsection (1) of this section, it shall be the duty of the Chief Bank Examiner at all times to avoid unreasonable hindrance to the daily business of that bank (and to confine investigation to matters strictly relevant to the examination).
(4) Every licensed bank shall produce to the examiners at such times as the examiners may specify, all books of accounts, documents and oral information which they may require.
(5) (a) If any book, account, document or information is not produced in accordance with subsection (4) of this section; or
(b) is false in any material particular, the licensed bank shall be guilty ofan offence, and shall be liable:
(I) in a case of an offence against paragraph ( a) of this subsection, a fine of N100 in respect of each day in which the offence continues, or in any other case under paragraph (b) thereof, to a fine of N1,000.
(6) The Chief Bank Examiner shall forward a report of his findings to the Governor of the Central Bank.
(7) Nothing in the foregoing provisions or elsewhere under this Decree or any other enactment shall preclude the Central Bank from appointing one or more other officials of the Central Bank as examiners, apart from those mentioned in subsections (1) and (2) of this section, from ascribing to such officials such other designations as it deems fit, and from, directing or requiring all or any of the officials to exercise all or any of the powers of the Chief Bank Examiner under subsection (1) above.
Section 21: Special Examination
(1) The Commissioner may at any time require the governor of the Central Bank to require the Examiner appointed in accordance with Section 20 of this Decree, or one or more other qualified persons whom the governor shall appoint, to make a special examination under conditions of secrecy of the books and affairs of any licensed bank:
(a) Where, after consultation with the Central Bank, the Commissioner has reasons to believe that a licensed bank;
(i) may be carrying on its business in a manner detrimental to the interest of its depositors and other creditors, or
(ii) may have insufficient assets to cover its liabilities to the public, or
(iii) may be contravening the provisions of Decree.
(b) Where application is made:
(i) by shareholders holding not less than one-third of the total number of shares for the time being issued and paid-up, or
(ii) by depositors holding not less than one-half of the gross amount of the Deposits of the bank:
Provided, however, that the applicants under this paragraph submit to the commissioner such evidence as he may consider necessary to just if an examination, and provided also that they furnish adequate security for payment of the costs of the examination.