BANKING SUPERVISION IN WAMU COUNTRIES
The West African Monetary Union (UEMOA) comprises eight countries, namely Benin, Burkina, Cote d’lvoire, Mali, Niger, Senegal, Togo, and Guinea-Bissau. These countries form a monetary zone characterized by the use of a common currency, the CFA Franc, issued by a common central bank, the BCEAO; the pooling of international reserves, the free transferabity within the zone, and a unified monetary policy. In order to accelerate the process of economic and financial integration, a Treaty establishing the West African Economic and Monetary Union (UEMOA) was signed in January 1994. The objectives of UEMOA including building a solid foundation for the common currency, enhancing the competitiveness of the member states’ economies through the creation of a competitive and open domestic market and strengthening sectoral policies targeted on the development of support infrastructure and human resources.
The rest of the paper is divided into six parts. Part II reviews the state of the banking system before the implementation of finical reforms in 1986 and its experience with the conduct of monetary policy. The financial reforms undertaken by the central bank. Part IV outlines the new banking supervision framework while Part V highlights the provisions of the Banking Commission. Part VI deals with the areas of and rules for banking supervision and control while Part VII concludes the paper.
II SITUATION OF THE BANKING SYSTEM IN 1986
More than one fourth of the credit institutions were experiencing major difficulties and were in a state of quasi bankruptcy. Almost 30 per cent of credit to the economy were carried out by the distressed banks and their share in total bank deposits was about 23 per cent. The situation was characterized by:
- A substantial deterioration in the banking system portfolio with a high proportion of non-performing loans;
- A serious capital inadequacy and an insufficient level of resources;
- Mojor imbalances in the financial structure and short-term liquidity crunch that translated into difficulties to meet withdrawals from the public and a heavy dependence on the central bank normal refinancing and/or overdrafts facilities.
The shortcomings and weaknesses encountered by the banking system were due mainly to inappropriate credit policies, bad management, poor enforcement of prudential regulations, and government interference. Under these circumstances, a number f credit institutions came under severe pressures which undermined the conduct of monetary policy. A number of reasons explained why the central bank became concerned about the situation. First, the unsound financial institutions posed a threat to the stability of the payment system which has a fundamental role to play in the implementation of monetary policy. It became a frequent occurene that cheques drawn on these banks could not be cleared in the clearing house. second, the unsound banking system had caused disintermediation and adversely affected resource allocation.
In a nutshell, the banking system experienced difficulty in playing its role in the monetary transmission process. The banking system was in distress in the union countries and the central bank had to take some precautionary actions (such as phasing out penalty interest rates on bank overdrafts and accommodation of refinancing rules to facilitate access to rediscount window), in order to enable some anks to meet their liabilities to the public and to prevent the crisis from spreading to the entire financial system. In sum, the central bank assumed its role of ultimate safeguard of the banking system in collaboration with the government of each member country.
III THE FINANCIAL REFORMS
Against the above background, the central bank of the West African States (BCEAO) embarked on financial reforms involving the restructuring of the banking system to restore its soundness and ensure the safety of deposits; and a gradual liberalization of the financial system, moving from direct to indirect instruments of monetary policy, with greater reliance on the market forces. All the parties concerned were involved in the process of restructuring and the measures that were taken may be highlighted as follows:
The credit institutions were directed to take actions aimed at accelerating the recovery of bad loans, improving management, and ensuring an adequate recapitalization, in order to restore solvency and liquidity. Supporting policies for restructuring the enterprises were also put in place. The non-performing loans were transferred to assets recovery institutions (Societes nationales derecouvrement), created to speed-up the collection process.
The national authorities were advised to withdraw gradually from the management of banking institutions, assure the payments of their credit arrears in the banking systems, reorient government deposits towards banks in difficulty, and negotiate external assistance for the weak banks. At the same time, they had to improve and streamline the legal and judiciary framework and procedures in order to facilitate the recovery institutions that were set up in the member states.
The central bank undertook the consolidation of banks’ overdrafts in its books and some non-performing loans, increased its shares in the weak banks’ capital base, and provided technical loans, increased its shares in the weak banks’ capital base, and provided technical assistance support to the banks. In addition, it took steps to improve the regulatory framework and tighten the prudential rules and banking supervision.
As a result of the restructuring reforms, 27 credit institutions were closed, thus reducing the number from 105 to 78 in 1992. The economic, financial, and social costs were enormous. On the financial front, the consolidation by the BCEAO amounted to CFA.F 622 billion, with a concessional interest rate of 3 percent and a maturity of 15 years, with 3 years of grace. The concessional conditions were applied in order to minimize the cost of this operation to the budget of the member states, as each member state is fully responsible for the repayments of losses incurred in its country. in addition, the central bank participated to the tune of CFA.F 4 billion in recapitalization, as shareholder.
IV THE BANKING SUPERVISION FRAMEWORK
The primary goal of banking supervision is to ensure the soundness of the banking system, the creditworthiness and liquidity of credit institutions in the interest of the depositors and third parties. It must also monitor the systems coverage and risk spreading practices. The new banking supervision, which became effective in all member states of UEMOA as from October 1st, 1990 was based on the following elements: the adoption of a new uniform banking law; the creation of a Union-wide Banking Commission; the strengthening of accounting and prudential rules in order to bring about a better guarantee for the safety of public deposits and a proper financing of the economy; and also to avoid the occurrence of a financial crisis in the whole system, in view of the close links existing among the various banking institutions.
The new banking supervision framework is outlined in some details later in this paper. It contains provisions applicable to banks and other financial institutions and specifies the distribution of responsibilities among the institutions in charge of regulating and controlling banking activities, and also the conditions governing their interventions. The prudential regulations, the accounting, bank reporting, and provisioning rules were tightened up. A new banking accounting plan became compulsory on January 1st, 1996.
Distribution of Responsibility among the Regulatory and Control Bodies
Under the new mechanism, the functions of regulation, control and application of sanctions were still divided among the following four institutions: the Council of Ministers of UEMOA; the Minister of Finance of each member state; the Central Bank (BCEAO); and the Banking Commission.
The UEMAO Council of Ministers retains responsibility for the definition of monetary policy instruments and rules. Its authority in respect of prudential rules was reaffirmed, and in some cases, extended to the provisions which previously fell within the scope of national laws. They notably concern the rules pertaining to liquidity, credit worthiness, risk sharing and stability of the financial institutions. The Council of Ministers of the Union is also competent to determine the minimum capital required for banks in each member state.
The Minister of Finance continues to enjoy the same powers in the following areas: approval of banks and other financial institutions, appointment of provisional administrators or liquidators, suspension of activities of banks and other financial institutions, various dispensations and authorizations for operations relating to composition of shareholders, the legal form of corporate name, and also the credit to staff and managers exceeding a certain amount of their equity capital. However, in order to encourage the emergence of a uniform jurisprudence in the whole Union, certain decisions are required to be taken in conformity with the opinion of the Central Bank and the Banking Commission. The areas affect include approval of banks and other financial institutions, exemptions in favour of foreign managers and administrators, creation of co-operative or mutual banks, change in composition of shareholders and so on. In case of disagreement, the Minister of Finance may submit the issue to the Council of Ministers of the Union. The Minister of Finance was also given new powers concerning, for example, the creation of co-operative or mutual banks.
The Central Bank’s main responsibility in this context include: consideration of applications for approval, power to exert on-site control, determination of equity mode of application of the decisions taken by the Council of Ministers in its area of authority. In addition, the Central Bank assumed new responsibilities in the following areas: accounting procedures applicable to banks and other financial institutions, definition of banking conditions, determination of maximum risks in respect of staff and bank managers and the determination of the amount of the special reserve.
With regard to the UEMOA Banking Commission, its creation was based on willingness to delegate to a common structure, the power to exert control and apply disciplinary sanctions, in order to ensure an efficient supervision of banking activity. It performs the duties of the former National Commissions which were in charge of controlling banks, as well as the new duties acquired. The main provisions pertaining to the organization, duties and intervention rules of this institution are defined in the Agreement establishing it. The structure is designed to retain an independent decision-making capacity for the institution. Some autonomy from political pressure and budgetary independence were considered necessary to perform adequate banking supervision and hence the Commission’s inspectors are employees of the Central Bank.
THE CONVENTION ESTABLISHING THE UEMOA BANKING COMMISSION
Organization and Functioning
The Banking Commission is an organ of the West African Monetary Union which is directly placed under the authority of the Council of Ministers. Its composition is designed to meet two basic objectives namely; (a) ensure the autonomy and credibility of the Commission; and (b) encourage a close collaboration between the member states of the Union.
It is presided over by the Governor of the Central Bank and comprises eight official members appointed by each state participating in the management of the Central Bank, and eight members appointed intuiti personae members have Ministers, upon proposal of the Governor. The Intuiti personae members have a three year term, renewable twice and must not have any interest or link with a bank or a credit institution. All members of the Commission are bound by professional secrecy. The Commission meets often as necessary, and at least twice a year, on the initiative of its Chairman or upon the request of one-third of its members. The Central Bank provides secretariat of the Commission and supports its working expenses.
The banking commission has responsibility for the control of banks and financial institutions, and enjoys in that respect powers to apply administrative and disciplinary sanctions for any violation of the banking law.
The banking commission may conduct on-site examination of banks and financial institutions, or demand the conduct of such an exercise by external auditors. It can extend these controls to related companies whenever necessary. For the performance of this duty, the commission enjoys the right to request any information and of extended investigation powers by virtue of which the principle of professional secrecy cannot be applied to limits its freedom of banking supervision. The commission must inform the minister of finance and other competent judicial authorities, of the violations observed during its investigations of banks and related institutions.
Whenever the banking commission observes that a bank or a financial institution has failed to abide by the rules of good behaviour govering the profession, compromised its financial equilibrium or conducted an inappropriate management, or did not any longer satisfy the required conditions for its licensing, it may, after having advised the minister of finance of the country concerned, address to the bank or the financial instiution, either a warning or an order to take, within a prescribed period, the measures considered appropriate by the commission.
With the exception of cases relating to withdrawals of licence, the commission can impose disciplinary sanctions against a bank or a financial institution which has committed a violation of the banking law immediately after informing the Minister of Finance of the state concerned which include warning, reprimand, suspension or interdiction to execute certain operations and any other restriction in the exercise of the profession, and suspension or compulsory retirement of liable manager. For the withdrawal of license, the decision becomes enforceable only after notification by the Minister of Finance who enjoys a suspensive right to other decision.
The other functions of the Banking Commission include the right to propose to the Minister of Finance, the appointment of a provisional administrator or liquidator for a bank or a financial institution and to approve the auditors of the banks and financial institutions. Furthermore, the decisions granting approval to banks and financial institutions, derogations in favour of foreign managers, and authorization to purchase or transfer stocks of a bank or a financial institutions are usually submitted for the approval of the banking commission when the amount of the operation exceeds the limits determined by the banking law. Besides, the approval of the banking commission may also be requested in the cases specified by the banking law.
VI THE AREAS OF SUPERVISION
In the banking field, monetary authorities pursue two main objectives: the promotion of a sound and efficient financial intermediation and the safety of deposits. In order to achieve these interrelated objectives, the banking supervision authorities place particular emphasis on the conditions governing the exercise of the banking profession by imposing stringent rules on credit establishments, such as the requirement to obtain an approval (licence) before undertaking banking activities and the maintenance of accounting and prudential standards.
In UEMOA countries, the eligibility criteria to obtain the status of a bank or a financial institution have been enhanced as far as procedures and approval cirteral are concerned. An applicant for licence is required to submit information relating to the corporate name; the legal status of the establishment; the minimum required capital which is fixed at CFA.F 1 billion for the banks in all member states; and CFA.F 300 billion in Cote d’Ivoire and Senegal, and CFA.F 100 million in the other countries, for non-bank financial institutions; the adequacy of the resource vis-à-vis the objectives of the institutions which is being created; the quality of shareholders the probity and experience of the managers, and an activity programme proving the viability of the enterprise.
The activities forbidden to credit establishments include trade, industrial, farming ordinary (or non-banking) service provision activities, while the permissible operations are subject to certain restrictions.
Respect of accounting rules
The adoption of the banking accounting plan by credit establishments became compulsory as from January 1st, the plan focuses on the fields of evaluation, posting and presentation of financial information; the updating and reliability of data provided to the monetary and supervisory authorities and the acquisition of modern management and technical tools.
The development and implementation of the plan has been achieved as a result of the close co-operation between all the parties concerned, (namely, the banks, the administration, and the accounting and supervision specialist) and the training sessions organized for all the categories of users. Prior to the implementation of the plan, a directive of the central bank laid down a set of accounting principles which the credit establishment must comply with in order to ensure a minimum quality of the information provided to supervisory authorities.
The regulatory provisions relating to the operations of credit establishments embrace: (a) the observance by the banks and financial institutions of a ratio between the various components of their resources and applications of funds or the compliance with ceilings and minimum levels imposed on the amount of their applications of funds; and (b) the management rules which the banks and financial establishments must follow so as to guarantee their liquidity, creditworthiness, risk spreading and the equilibrium of their financial structure.
Banks are not allowed to hold, directly or indirectly, in the same enterprise, other than a bank, a financial establishment or a property development company, shares exceeding 25 per cent of the capital of the enterprise or 15 per cent of their equity capital. The banks and financial establishments are also not allowed to grant to individuals involved in their management, administration, control or functioning, credits (including in the form of a guarantee) representing more than 20 per cent of their equity capital. Moreover, banks and financial institutions must inform the Banking Commission of any credit granted to a manager, shareholder or individual participating in their management, control or functioning whose amount reaches at least 5 per cent of their equity capital.
The total amount of non-operating fixed assets and acquisitions in property development companies which banks and financial institutions may hold is limited to a maximum of 15 per cent of their equity capital. The fixed assets necessary for the operations of banks and financial institutions, for the lodging of their staff and the functioning of their social services are excluded from the scope of application of this provision. Besides, the buildings devolved upon a bank or a financial institution, as a realization of real estate guarantees from a defaulting customer, are not taken into account, provided however, that the buildings become available within a maximum period of two years. However, the banking commission is entitled, on the authority of the council of ministers of the union, to grant an extension of this period, on a case by case basis.
In addition to the various limitations on acquisitions in companies and non operating fixed assets which the must respect banks must finance all their fixed assets with their equity capital. In this respect, the total value of fixed assets and acquisitions must not exceed 100 per cent of the banks’ equity capital.
Rules of Management
These include rules relating to risk coverage, resource use, risk concentration, liquidity control and portfolio structuring. The rule pertaining to risk coverage is defined in relation with a minimum ratio which must be respected and which is referred to as “equity capital/risks asset ratio”. The numerator is the amount of equity capital of the bank or the financial institution while the denominator, is the risk weighted assets. The minimum percentage which must be respected is temporarily fixed at 4 per cent, taking into account the change in the basis of calculation. It will be progressively raised to make it comparable to the international standard of 8 per cent with the passage of time as the banking situation improves.
With a view to avoiding an excessive use of sight and short-term resources in medium or long-term applications, a regulatory provision has been introduced in order to compel banks and financial institutions to finance part of their fixed assets and their other medium and long term applications with stable resources. Accordingly, the minimum ratio for the coverage of medium-and long-term applications with longer-term resources is fixed at 75 per cent. As a matter of fact, a use by 25 per cent of short term resources in medium and long-term applications is generally tolerated. This prescription must be respected at all times.
The total amount of risk assets which a single bank or financial institution is permitted to invest in is limited to 100 per cent of its equity capital. Moreover, the total amount of risks assets reaching individually 25 per cent of the equity capital of a bank or a financial institution, is limited to a multiple of ten of the equity capital of a bank or a financial institution, is limited to 100 per cent of its equity capital. Moreover, the total amount of risks assets reaching individually 25 per cent of the equity capital of a bank or a financial institution, is limited to a multiple of ten of the equity capital of the establishment concerned. In addition, in order to enhance risk control, each establishing must report to BCEAO, for the centralization of risks, any credit outstanding for a single customer up to or exceeding CFA.F 10 million in Cote d’Ivoire and Senegal and CFA F 5 million in the other member states of the Union. Furthermore, in the framework of the prudential mechanism, the establishment must submit every six months, a statement indicating their 50 most important liabilities (the limit being CFA F 1 million). A rating agreement must be requested with the central bank for any credit granted to a single beneficiary and which raises the global amount of its outstanding credit to over CFA.F 300 million for Cote d’Ivoire, 200 million for Senegal and 100 million in the other states.
The regulation pertaining to liquidity takes the form of a ratio between short-term liquid and rediscountable assets (numerator), and short-term debt or liabilities with a maximum tenor of three months (denominator). This ratio must be respected by the banks at all times. This ratio which is temporarily fixed at 60 per cent will be progressively raised to reach 100 per cent in the long run, in the light of changing, circumstances.
Banks and financing, credit sale and leasing establishments are required to comply with a ratio designed to measure the quality of their portfolio structure. This ratio is established between the credit outstanding based on the rating agreements granted by the central bank to the reporting bank, as the numerator and the total amount of gross credit supported by the concerned establishment as the denominator. To ensure a good quality of the credit granted by the dispensing establishments, it has a period of three years, as from January 1st 1992 (40 per cent in the first year, 50 per cent in the second, and 60 per cent in the third).
Supervision of banking activity
The supervision of individual credit establishments in terms off-site monitoring and the monitoring of restructuring programmes are undertaken by the Central Bank and the Banking Commission.
Off-site control is exercised on the basis of the various accounting or statistical documents which are periodically submitted to supervisory authorities by the establishments under control. They involve prescribed monthly and quarterly returns for the banks and other financial institutions respectively. Off-site control essentially consists in checking whether the applicable regulatory provisions have been respected by credit establishments by analyzing their financial structure and profitability.
On-site control, which is mainly conducted by the Banking Commission is undertaken to ensure compliance with the regulatory provisions and the accuracy of the information contained in the periodic returns submitted by the banks and other credit institutions. It also enables the authorities to monitor more closely, the organization of the establishment, the quality of its managements and its financial situation, monitoring and supervision of credit establishments are conducted according to a certain periodicity, and also in case where the examination of their accounting situations reveals vulnerability elements (non-respect of prescribed ratios, degradation in quality of their assets portfolio, late transmission of documents etc.). Besides, specific examinations may be requested, in order to ascertain the degree of compliance or lack of it with respect to certain regulatory provisions.
The restructuring programme have been fruitful. Resources provided by the member states, external partners, the central bank, the shareholders, and actions for loan recovery had helped to repay some depositors. So far, non-performing loans had been rcovered to the time of CFA.F 100 billion, and frozen deposits that had been paid off amounted to CAF. F 90 billion. The amount of credit carried by banks in liquidation decreased from CFA.F 586 billion in 1986 to CFA.F 114 billion in 1995, representing 6 percent of the total bank credit. Their deposits fell from CFA.F 290 billion to CFA.F 111 billion(5 percent of total deposits) during the same period. As of end march 1997, the banking system in UEMOA countries is composed of 80 relatively sound credit institutions.
Thr implementation of the new banking supervisory mechanism has largely contributed to the restoration of the credit worthiness and liquidity, and also the improvement in the management of the fianacial system. The recovery efforts are reflected in the general downward trend of the structural deficit of the banks, notably through the reorganization of the portfolio of the banks and their recapitalization by shareholders to enhance their equity capital base in compliance with the prudential guidelines.