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CHAPTER ONE

INTRODUCTION

1.1 BACKGROUND TO THE STUDY

“The Nigerian banking system today is fragile and marginal. Our vision is a banking system that is part of the global change, and which is strong, competitive and reliable. It is a banking system which depositors can trust, and investors can rely upon. Evolving such a banking system is a collective responsibility of all agents in the Nigeria economy. Everyone has a role to play”, Soludo, 2014.

The above presentation by Soludo clearly shows the state of the Nigerian banking system before the recapitalization and consolidation exercise of 2004. Banking reforms have been an on going phenomenon around the world right from the 1980’s, but it is more intensified in recent time because of the impact of globalization which is precipitated by continuous integration of the world market and economies.

Banking reforms involve several elements that are unique to each country base on historical, economic and institutional imperative. (Uchendu, 2015) as cited in (Adegbaju and Olokoyo 2014) maintained that in Nigeria, the reforms in banking sector precede against the backdrop of banking crisis due to highly undercapitalization deposit taking banks; weakness in the regulatory and supervisory framework; weak management practices, and the tolerance of deficiencies in the corporate governance behavior of banks. Therefore banking sector reforms and recapitalization have resulted from deliberate policy response to correct perceived or impending banking sector crises and subsequent failure.

The Nigerian banking sector has experienced a boom-and bust cycle in the past 20-25 years. After the implementation of the structural adjustment program (SAP) in 1986, and the deregulation of the financial sector, new banks proliferated, mainly driven by attractive arbitrage opportunities in the foreign exchange market. But prior to deregulated period, financial intermediation never took off and even declined in 1980’s and 1990’s. The banking sector was highly oligopolistic with remarkable features of market concentration and leadership. The sector was characterized by small sized banks with high overheads, low capital base averaging less than $10 million (Ten million dollars); heavy reliance on government patronage and loss-making. Nigeria’s banking sector was still characterized by a high degree of fragmentation and low level of financial intermediation up to 2004.

Traditionally, the role of banks whether in a developed or developing economy, consists of financial intermediation, provision of an efficient payments system and serving as conduct for the implementation of monetary policies. So, it is incontrovertible that the banking system is the engine of growth in any economy given its function of financial intermediation. Through this function, banks facilitate capital formation, lubricate the production engine turbines and promote economic growth. it has postulated that if these function are efficiently carried out, the economy would be able to mobilize meaningful level of savings and channel these funds in an efficient  and effective manner to ensure that no viable project is frustrated due to lack of funds. However, banks ability to engender economic growth and development depend on the health, soundness and stability of the system.

The need for a strong, reliable and viable banking system is underscored by the fact that the industry is one of the few sectors in which the share holders fund is only a small proportion of the liabilities of the enterprise. It is therefore, not surprising that the banking industry is one of the most regulated sectors in any economy. so, in view of the importance of the banking sector in economic development and the imperfections of the market mechanism to mobilize and allocate financial resources to socially desirable economic activities of any nation, governments all over the world, do regulate them more than any sector in an economy.

The Nigerian banking system has undergone remarkable change over the years, in terms of the number of institutions, ownership structure, as depth and breadth of operations. These changes as noted earlier have been influenced largely by challenges posted by deregulation of the financial sector, globalization of operations, technological innovations and adoption of supervisory and prudential requirements that conform to international standards. As at end-June, 2004, there were 89 deposit money banks operating in the country, comprising institutions of various sizes and degrees of soundness. Structurally, the sector is highly concentrated, as the ten largest banks account for about 50 percent of the industry’s total assets/liabilities. Most banks in Nigeria have a capitalization of less than $10million 

(Ten million dollars). Even the largest bank in Nigeria has a capital base of about US $ 240 million (Two Hundred and Forty million dollars)  compared to US $67 billion and US $526 million for the second largest bank in Singapore and for the smallest bank in Malaysia respectively (Soludo 2004). Notably, in Malaysia, banks were required to raise their capital base from about $70 million to $526 million in one year, in 1998 a merger in France resulted in a new bank with a capital base of US $688 billion, while the merger of two banks in Germany in the same year created the second largest bank in Germany with a capital base of US $541 billion, Consolidation and recapitalization is going on in South Africa. Amalgamated Banks of South Africa (ABSA) has asset base larger than all of Nigerian commercial banks put together. (Soludo 2014). The small size of most of our banks, each with expensive headquarters, separate investment in software and hardware, heavy fixed costs and operating expenses, and with bunching of branches in few commercial centre lead to very high average cost for the industry. This in turn has implications for the cost of intermediation, the spread between deposit and lending rates, and puts undue pressure on banks to engage in sharp practices as means of survival.

Irrespective of the cause, however, bank recapitalization and consolidation is implemented to strengthen the banking system, embrace globalization, improve healthy competition, exploit economies of scale, adopt advanced technologies, raise efficiency and improve profitability and performance. Ultimately, the goal is to strengthen the intermediation role of banks and to ensure that they are able to perform their developmental role of enhancing economic growth, which subsequently leads to improved overall performance of the banking sector and the economy in general  It is on this background that the Central Bank of Nigeria (CBN) in the maiden address of its current Governor Prof. Charles Soludo, outline the first phase of its banking sector reforms designed to ensure a diversified, strong reliable industry.

“The key elements of the 13 point reform programme include:

Minimum capital base of N25 billion with a deadline of 31st December 2005

Consolidation of banking institutions through mergers and acquisitions.

Phased withdrawal of public sector funds from banks, beginning from July 2004

Adoption of a risk-focused and rule-base regulatory framework

Zero tolerance for weak corporate governance, misconduct and lack of transparency.

Accelerated completion of Electronic Financial Analysis Surveillance System (e-FASS).

The establishment of an Asset Management Company.

Promotion of the enforcement of dormant laws,

Closer collaboration with the EFCC and the establishment of the financial intelligent unit. As cited in Adeyemi (2016). Two of the above reform elements which have since generated so much concern and reactions from various stakeholders are.

Requirement that the minimum capitalization of banks should be N25 billion with full compliance by 31st December 2005 and 

Consolidation of banking institutions through mergers and Acquisitions. The first is a companion to the second and both reform agenda work in tandem. 

This paper is motivated by the need to look into the Central Bank of Nigeria’s recent reform strategy that employed certain performance in order to conform with that of the international community.

1.2 HISTORY OF BANK RECAPITALIZATION IN NIGERIA

Recapitalization of banks is not a new phenomenon. Right from 1958 after the first banking ordinance in 1952 the colonial government then raised the capital requirement for banking especially the foreign commercial bank from 200,000 pounds to 400,000 pounds. Ever since then, issue of bank recapitalization has been a continuous occurrence not only in Nigeria but generally around the world.

Recapitalization in Nigeria comes with every amendment to the existing banking laws. In 1969, capitalization for banks was 1.5 million naira for foreign banks and N600,000 for indigenous commercial banks. As from 1988, there had been further increase in the capital base. In February 1988, the capital base for commercial banks was N5 million. In 1989, there was a further increase to 20million.

In recognition of the fact that well-capitalization banks would strengthen the banking system for effective monetary management, the monetary authority increased the minimum paid-up capital of commercial banks in February 1990 to N50million. Distressed banks whose capital fell below existing requirement were expected to comply by 31st March, 1997 or face liquidation. Twenty six of such banks were liquidated in January 1998. Minimum paid up capital of commercial banks was raised to the level of N500million with effect from 1st January, 1997, and by December 1998, all existing banks were to recapitalize.

The CBN brought into force the risk-weighted measure of capital adequacy recommended by the Basle committee of the Bank for international settlements in 1990. Before then, capital adequacy was measured by the ratio of adjusted capital to total loans and advances outstanding. The CBN in 1990 introduced a set of prudential guidelines for licensed banks, which were complementary to both the capital adequacy requirement and statement of standard Accounting practices. The prudential guidelines, among others, spelt out the criteria to be employed by banks for classifying non-performing loans. In 2001, when the universal banking was adopted in principle, the capital base was jerk up to N2billion for new banks. But in July 2004, the new governor of the CBN announced the need for banks to increase their capital base to N25 billion all banks are expected to comply by December 2005. 

1.3  STATEMENT OF PROBLEM

Globally, activities of banks reflect their unique role as the engine of growth in any economy. The importance of the financial sector of an economy which comprises banks and non-banks financial intermediaries, the regulatory framework and the ever increasing financial products, in stimulating economics. Prior to the recapitalization of banks, the state of the Nigerian banking sector was very weak. According to Soludo (2014), “The Nigerian banking system today is fragile and marginal. The system faces enormous challenges which, if not addressed urgently could snowball into a crisis in the near future. He identified the problems of the banks, especially those seen as feeble, as persistent illiquidity, unprofitable operations and having a poor assets base”.

Assessment  of banks as at end-March, 2004, the CBN ratings of all the banks, classified, 62 as sound/satisfactory, 14 as marginal and 11 as unsound, while 2 of the banks did not render any returns during the period. A further analysis of the returns of the marginal and unsound-banks reveals that the industry nonperforming assets account for 19.5%. Many banks appear to have abandoned their essential intermediation role of household savings mobilization and inculcating banking habit at the house hold and micro enterprise levels. The indifference of banks towards small savers, particularly at the grass roots levels has not only compounded the problems of low domestic savings and high banking lending rates in the Country, it has also reduced access to relatively cheap and stable funds that could provide a reliable source of credit to the productive sectors at affordable rates of interest. The banking system prior recapitalization promoted tendencies towards a rather sticky behavior of deposit rates, particularly at the retail level, such that, while banks lending rates remain high and positive in real terms most deposit rates especially those on savings, are low and negative. In addition, savings mobilization at the grassroots level has been discouraged by the unrealistic requirements by many banks, for opening accounts with them.

The questions to be addressed are therefore:

1) What are the impacts of bank recapitalization on bank development in Nigeria overtime?

2) What is the trend of bank development/performance in Nigeria overtime?

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