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 Daily Independent Online.
* Thursday, August 12, 2004.
Higher capital requirement is for competitive banking
Abiodun Akinkunmi
The Central Bank
of Nigeria’s goals are price stability, a high and stable rate of
employment, and sustainable growth in economic output. Increasing the capital
requirements for banks is consistent with all of those goals, even though
it may reduce lending in the short run. The reality is that the Central Bank of Nigeria (CBN)
and Nigerian banks operate in an increasingly integrated world financial
system. Despite restrictions on their use, electronic banking and
international currencies such as the U.S. dollar and the Euro compete
with Naira assets savings and even for use in everyday transactions. If Nigerian banks are not
perceived as “safe”, deposits will flow to other currencies via online banking.
Thus strengthening the banking system and reducing the probability of
bank failure is part of the CBN’s programme to keep the Naira
competitive. More Naira held willingly at reasonable interest rates means
lower inflation and lower borrowing costs rates for business.
When a bank fails, the
government inevitably feels obligated to help depositors who have lost
their savings. The easiest
way to do this is printing paper money. But this is inflationary and
often turns a banking crisis into a currency crisis, as Nigeria found out
in 1980s. As confidence in
Nigerian banks increases, reserve requirements can be lowered again,
although not below those mandated by Basel II standards for risk
management and lending transparency.
The risk of bank failure can
also be reduced by better use of information technology and
implementation of national credit reporting and loan risk assessment
standards, as recommended by the Bank of International Settlements (BIS)
under its Basel II standards.
The CBN should be the first to implement these modern financial
controls via upgrades to its loan reporting and monitoring
technology. However,
Nigerian banks, small and large, should gradually be integrated into a
national credit monitoring system.
Some argue Nigeria has too
many banks. To some extent,
this problem will take care of itself as larger banks acquire small banks
and as some small banks merge.
Meeting higher capital requirements and adopting new information
technology will give some banks, large or small, a competitive edge. Meeting these requirements
quickly will create a safer banking system, albeit with fewer and larger
banks down the road.
International competition means that even large banks must meet
international standards.
Yet another to upgrade
Nigeria’s banking and financial system is that the IMF and World Bank and
soon the ADB will reward early adopters of stronger prudential regulation
with greater access to multilateral loans. Sound financial regulation also encourages private
bond and equity investors.
Improving Nigeria sovereign credit rating could also reduce
borrowing costs for private and public entities, including the cost of
trade credits.
Consumers and small business
may think that tighter regulation will increase the cost of credit. Yet the lack of credit reporting
and loan monitoring is one reason it is almost impossible to get
mortgages and consumer credit in Nigeria. A credit reporting system would also benefit
poor and middle class Nigerians as it would allow those with good credit
ratings to get access to loans now only available to wealthy or
well-connected Nigerians. A
sound banking system and a stable currency will eventually make it
possible for Nigerian banks to issue true credit cards and to expand
their portfolio of consumer loans.
Currency competition and
electronic banking appear to be a threat to the use of the Naira and to
domestic Nigerian banks. But
if the CBN responds by making the Naira and Nigeria’s banks more
competitive, “spontaneous dollarization” and the growth of the
underground dollar economy can be halted. Placing more legal restrictions on the movement of
capital and the use of dollars may slow dollarization, but at great cost as
higher inflation will only continue to weaken both the Naira and the
banking system. When
the inevitable currency crisis comes, it will only reward Nigerians who
illegally use and hold dollars rather than Naira. Since banking and
currency crises only accelerate dollarization and capital, delaying new
capital and credit standards will only mean Nigeria will pay an even
higher price to keep the Naira a viable currency. This is what happened to the
ruble over the past ten years. More than half of all transactions in Russia are
now conducted using dollars and capital flight is a continuing problem.
•Akinkunmi is a financial
econometrician
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