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Could Financial System Stability Be Under Threat?

Proshare

Monday, January 09, 2017/ 4:22 PM /FDC

Q: Could financial system stability be under threat? If it is, will AMCON be willing and able to re-enact its role as a stabilizer and toxic asset manager?

A: Historically, cross-border risks present the most potent threat to banking system stability in Nigeria. Oil price shocks and the ensuing revenue slumps culminate in economic crises which usually spiral into financial crises as cross-border risks begin to crystallize.

In 2008, the plunge in oil prices led to a belated currency devaluation. Massive outflow of FPI triggered a capital market bust and many banks were hit by stock market margin calls. By 2009, there was a full-blown banking sector crisis and in 2010, the Asset Management Company of Nigeria (AMCON) was set up to acquire toxic assets and salvage the banking system.

June 2014 ushered in a new era of “lower oil prices”. Government revenue has more than halved, the naira has lost over 50% of its value since 2014 while the forex scarcity induced by lower oil receipts has constrained economic activity.

Corporate balance sheets have weakened and the asset quality in the banking system has been impacted negatively. Cost structures have remained largely the same while revenue profiles have dwindled. Fitch Ratings estimates that 45% of Nigerian bank loans are in US$.

Loans to the oil and gas sector were given when oil prices were well above $100pb. Some banks now have to contend with the inability of their debtors to meet their obligations.

The CBNs has prioritized combating inflation before growth stimulation. It has used high interest rates as its primary tool to alter consumer preference towards savings and thus combating spiraling inflation.

The high interest rates – especially Treasury Bills – have further exacerbated the number of Non-Performing Loans (NPLs) in the banking system. According to the CBN, NPLs increased in the first half of 2016 to 11.7% from 5.3% at the end of December 2015 – the CBN’s prudential ceiling is 5.0%. Independent estimates reveal that this may be understated.



Fitch has also raised concerns about weakening capital adequacy ratios for banks. The ratio of regulatory capital to risk weighted assets fell to 15.6% as at June 2016 from 16.1% at December 2015 – a slight decline but still above the regulatory minimum (15% for Tier 1 banks & 10% for Tier 2 banks).



In the event of a crisis, could the Asset Management Company of Nigeria (AMCON) be called upon again to take on more debts and prevent systemic risks? The answer is NO. AMCON simply lacks the resources neither is it pre-disposed towards an asset detoxification exercise. AMCON’s mandate and sunset clause mean it is solely focused on disposing its existing assets at a profit.

Could another Bad Bank – AMCON 2.0 – be set up to carry out another round of toxic asset acquisition? This, according to banking sector sources, would cost the taxpayer between N1.7trn and N2.2trn. Considering this huge cost outlay, it would appear that crisis prevention is far cheaper than crisis resolution. 

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