Nigeria’s 2009 Financial Crisis – Understanding the Systemic and Unsystemic Risks


Thursday, May 15, 2014 7.19 AM / FDC


The 2009 financial crisis, which coincided with the global asset bubble, was one which weakened the solvency and liquidity of Nigerian banks, and significantly undermined investor-confidence. The crisis affected approximately 40% of the total banking sys-tem. The financial cost of the intervention was in excess of N5trn excluding the significant erosion of shareholder value. The root causes were both systemic and unsystemic.


In terms of unsystemic events, the failure in the corporate governance of banks and weak ethical standards amongst top management of banks were the two main issues; these fueled high-level corrupt practices. The systemic events had to do with macroeconomic instability caused by large, sudden cash inflows (government funds which mirror oil prices) which led to rapid credit growth and loans. These funds where then channeled into unproductive segments of the economy creating a bubble in the capital market and leaving the system extremely vulnerable to external shocks. Also, weaknesses in the business environment resulting from poor infrastructure, weak legal processes, and un-reliable credit ratings all added to the banks’ inability to recover liabilities. These led to wide-spread abuse by lenders.


When AMCON intervened it successfully acquired over 10,000 NPLs worth N3.5 trillion (US$20 billion) and restructured about N862billion (or 50%) of the acquired NPL portfolio. Prior to AM-CON’s formation in 2010, the NPL ratio in the Nigerian banking industry was in excess of 35%. As at December 31, 2011 the NPL ratio had fallen to 5%, allowing banks to place greater focus on lending. In addition, AMCON injected fresh capital into eight Nigerian banks, five of which have entered into successful mergers.


The remaining three - Mainstreet Bank, Enterprise Bank and Key-stone Bank – continue to be owned by AMCON as part of a process of restructuring these banks for sale to interested financial institutions. In addressing these issues 5 bank CEOs were also removed from their positions and N432.22billion was recovered from loan defaulters in cash and property at a recovery rate of over 100% of the purchase price. In other words, the unsystemic risks of high-level corrupt practices were cut off. As a result AMCON is now considered an essential part of the institutional frame-work for preventing and developing early responses to isolated pockets of risks that could easily become contagious or viral.


However, toxic assets are also a function of cyclical downturns, exogenous shocks and technological changes. In addition, policy changes such as import prohibition and increased levies also heighten the risk of a crisis. The threat of a buildup in toxic asset is not only a function of human behavior but that of economic events. One example of an economic event that could produce a build of toxic assets is the recent GDP rebasing exercise carried out by the NBS. It revealed that banking penetration is lower than was originally thought. Banking penetration currently stands at 21% this is significantly below that of its SSA counterparts (Kenya loan/GDP 38%). The drive to close this gap will eventually lead to a rise in the national savings ratio and capital formation from its current level of 4.9% of GDP. The movement in these variables is expected to increase the level of asset creation by banks and other financial intermediaries overtime, thereby raising the risk of another NPL build-up. The economy’s inability to absorb large injections of funds (one of the root causes of the 2009 crisis) would necessitate the need for a stabilizer, such as AMCON relevant to prevent another build up of toxic assets.



While the IMF acknowledges AMCON’s success, it is concerned that if it stays fully active in waiting for the next build up of toxic asset it will run the risk of moral hazard and fiscal risks, and it is on this basis that it recommends a dormant versus active institution. Hence they are of the opinion that maintaining the corporation in its current form will be counterproductive.


The challenge with this approach is that it relegates AMCON to be a reactive, rather than proactive institution. We are of the view that given the vital role played by the banking sector in the economy, alternative measures must be put in place to safeguard this sector. For proper crisis prevention an active AMCON will be a bet-ter option as it will be able to isolate pockets of toxic assets which are capable of destabilizing the economy.


We further believe that the benefit of retaining an active institution outweighs the risks highlighted by the IMF. The first issue of moral hazard typically arises when the cost of an alternative resolution option is low to the bank. In such a case, recklessness and deviant behavior is promoted. However, in AMCON’s case, these toxic assets have been purchased at a steep discount from the banks (N2.2trn worth of NPLs was bought at N1trn by AMCON). It would be irrational for any banker or operator to want to sell its assets to the corporation except as a last resort. In addition, the stigma of being an AMCON client in the domestic and international business community is both a fiscal and social burden. This would also affect the bank’s credit rating. The reduction of NPLs from 35% in 2009 to 5% in 2012 is evidence of this deterrent, as are the instances of banks trying to repurchase there assets and col-lateral from AMCON. The Loan Deposit Ratios (LDRs) and Capital Adequacy Ratios (CAR) are now in a much better state.


The second issue raised was fiscal costs. The concern here is that most bad banks become investment companies and profitable over a period because their toxic assets were purchased at steep discounted prices, while the “good banks” fund the costs of the exercise. However, in the Nigerian case banks pay 0.5% of their total assets annually as a levy into an AMCON sinking fund. The financial burdens of the treasury and taxpayers are minimized by the banks agreeing to pay this levy for 10 years. The main fiscal burden therefore is not financial risk but rather opportunity cost of the government revenue deployed for distress resolution or avoidance, which could otherwise have been used for infrastructure, welfare projects or other investments.


The banking sector is a critical segment of any economy, as the major source of liquidity for the economic engine. A crisis in the payment system of the economy can be damaging for the economy, given the large-scale disruption in transactions and a col-lapse in output. In view of previous downturn in the economy, proper institutions are to be put in place to ensure the stability of this sector and checkmate potential threats. AMCON has recorded significant accomplishments in its role as a major stabilizer in the market recovery process.


However, threats to the financial sector still exist in the form of systematic risks and this necessitates the need for the furtherance of the AMCON’s activities. An institution, which will be active in isolating pockets of risks in the interest of the macro economy, is needed. Thus, to render dormant an institution meant to ensure the stability of the banking sector may turn out to be an expensive choice. The recent recommendation by the IMF attests to the fact that such an institution is needed, to manage the financial system in the interest of the macro economy. However, such an institution should be allowed to perform an active role as supposed to a dormant one. This will ensure the sustenance of a stable financial system necessary for the Nigerian economy to thrive.


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