All over the world, banks and financial institutions are allowed and or encouraged to lend or invest most of the funds deposited with them instead of safe-keeping the full amounts and by their nature, banks are vulnerable to liquidity and solvency problems, among other things.
This is because they transform short-term liquid deposits into medium and longer- term, less liquid loans and investments. Banks and other financial institutions also lend to a variety of borrowers whose risk characteristics are not always readily apparent.
Thus, banks are in the business of assuming and managing risks. If many bank borrowers fail to repay their loans when due, the banks’ debtors including its depositors risk loss.
Since banks rely on customer deposits that can be withdrawn on little or no notice, banks are prone to bank run, where depositors seek to withdraw funds quickly ahead of possibly bank insolvency. Bank run causes disruption to bank and financial sector.
Over the years, banking instability has emerged as a major problem that prompts searching for ways to protect depositors to ensure the viability of banking systems.
ADVENT OF DEPOSIT INSURANCE SCHEME
This brought about the introduction of deposit insurance schemes that guarantees depositors that their funds will be repaid in the event of bank or special taking institution failure.
Deposit insurance is a system that is established to protect depositors against the loss of their insured deposits in the event that a bank or financial institution is unable to meet its obligations to such depositors, according to the International Association of Deposit Insurers (IADI,2014).
Explicit deposit insurance is a measure implemented in many countries such USA, Nigeria and Kenya to protect bank depositors, in full or in part, from losses caused by a bank’s inability to pay its obligations when due.
In an implicit deposit protection scheme, losses arising from the insolvency of banks and specialized deposit taking institutions are borne by the general public or taxpayers, regardless of the income size of individual deposit, or size of the financial institution.
Such implicit deposit protection scheme cannot be seen as fair to general public.
OBJECTIVES OF DEPOSIT INSURANCE SCHEME
Deposit insurance scheme has different objectives of ensuring that in the event of a bank failure, depositors are guaranteed to receive back at least the minimum insured amount of their deposits.
Thus, payments under a deposit insurance scheme are made to depositors when a specified trigger event- such as a bank being put to insolvency.
In this situation, depositors do not have to wait for the winding up of the bank to be completed before being repaid and do not face the uncertainty of receiving back only a fraction of the amount they had deposited.
DESIGNING A DEPOSIT PROTECTION SCHEME
The first step in designing a deposit insurance scheme is to identify the public policy objectives that it is expected to achieve at both medium and long- term and these objectives must be well understood.
Although, in most jurisdictions the determination of such objectives is the responsibility of various governments, in others, the private sector plays a major role in its achievement.
In conjunction with the identification of public policy objectives, policy makers or governments should conduct a detailed situational analysis to guide their decision-making. Among the conditions and factors that should be taken into consideration are: the level of economic activity; current monetary and fiscal policies; the state and structure of the banking system; the legal and regulatory framework; prudential regulation and supervisory system, accounting and disclosure regimes.
However, the ultimate choice of how a deposit insurance scheme to be operated depends on many factors that are unique to each country, its government and financial system.
Deposit insurers are mostly government run or government established agencies, and may or may not be a part of a central bank while some are private entities with government backing. There is no single mandate or set of mandates suitable for all deposit insurance corporations.
The mandate ranges are from Pay box, Pay-box plus, risk minimizer to Lose risk minimizer.
Regardless of the scope of mandate, there is the need for structural and operational issues that must be addressed.
One of such tasks is to determine whether the deposit insurer is to be assigned to existing institution such as the central bank, or whether a separate entity should be established.
Besides, the ability to attract qualified and competent staff could be a bigger challenge for most deposit insurers throughout the world.
According to an IMF working paper, deposit insurers need human resources who have an understanding of banking issues, risk issues, legal issues as well as the role of regulator and supervisors.
Again, the policy makers must address the deposit insurer’s relationship and coordination with the other safety-net participants. A need for close coordination should exist in any institutional setting and information sharing among safety nets should be paramount.
Policy makers should also consider sound and sustainable funding to ensure the survivability of the deposit insurance schemes. Sound funding arrangements are critical to the effectiveness of a deposit insurance system and the maintenance of public confidence in the scheme.
A deposit insurance scheme should also have all available funding mechanisms necessary to ensure the prompt reimbursement of insured depositors and sufficient funds for the deposit insurer to unwind the institution. Inadequate funding can lead to delays in resolving failed banks, to significant increases in costs and a loss of credibility of the deposit insurance scheme.
Funding can be assured in many ways, such as government appropriations, levies or premiums assessed against participating banks, market borrowings or combination thereof.
Depositor confidence depends, in part, on knowing that adequate funds for deposit insurance would always be available to ensure the prompt reimbursement of their claims. It is therefore considered a best practice to build credible ex-ante funding mechanisms which have the financial capacity to ensure that these obligations are met.
STRENGTHENING FINANCIAL SAFETY NETS
The global financial crisis of 2007-2009 heightened the need for countries to strengthen their financial safety nets. It especially brought to light the importance of depositor confidence in the financial system and the key role that a deposit insurance scheme plays in maintaining confidence.
The global financial crisis did not only test the design, mandate and capacity of existing deposit insurance systems, and the need for urgent reforms, but also led to the establishment of several new deposit insurance schemes.
As an immediate response to the global financial crisis of 2007-2009, some countries responded by increasing coverage levels and some guaranteed all deposits for a limited period.
According to the World Bank deposit insurance data, at least five countries established deposit insurance schemes in the crisis year of 2008 alone. The same World Bank data base also showed an increase in the number of countries with explicit deposit insurance schemes increased from 84 countries in 2003 to 112 in 2013, of a total of 189 countries.
According to the International Association of Deposit Insurers (IADI) that number increased further to 125 countries as of 2016. The growth was seen globally across all regions except Africa.
PRE-CONDITIONS FOR DEPOSIT INSURANCE SCHEME
According to World Bank in 2016, there should be five pre-conditions for which deposit insurance scheme must have fulfilled and they include; a stable macroeconomic environment; sound and healthy banking system; strong prudent regulation and supervision; an effective bank resolution framework, and a well- developed legal framework with efficient courts and procedures along with a strong accounting and disclosure regime.
The proper design features of deposit insurance scheme include, among other things, determining the appropriate mandate; right institutional set-up; level and scope of coverage; adequacy of funding and timeless of depositor reimbursement
A properly designed financial system safety net program contributes to the stability of the financial system; otherwise it may create moral hazard.
COMPLIANCE ASSESSMENT OF IADI (2014) CORE PRINCIPLES FOR EFFECTIVE DEPOSIT INSURANCE SYSTEM AGAINST GHANA DEPOSIT PROTECTION ACT 2016 ACT 931 (AMENDMENT ACT 2018) (ACT 968)
An assessment of compliance with the Core Principles is a useful tool for jurisdictions that are implementing, reviewing or actively reforming a deposit insurance system.
The assessment of compliance with the IDAI’s (2014) 16 core principles for effective deposit insurance schemes is very necessary.
The 16 core principles include public policy objective, mandate and power, governance structure, relationships with other safety net participants, and cross border issues.
Others are deposit insurer’s role in contingency planning and crisis management, compulsory membership, coverage limit, sources and uses of funds, and public awareness.
The rest are legal protection, dealing with parties at fault in a bank failure, early detection and timely intervention, failure resolution, reimbursement of depositors and recoveries.
IADI/BCBS (2008) compliance assessment also follows a five grade scale as follows which include; Compliant: -when the essential criteria are met without any significant deficiencies;
Largely compliant- when only minor short comings are observed;
Materially non-compliant- severe short comings which cannot be rectified easily;
Non- compliant- No substantive implementation of the Core principle; and
Not applicable- Not considered given the structural, legal and institutional features of the deposit insurance system/scheme.
However, the Ghana Deposit Protection Corporation Act 2016 Act 931 as amended Act 2018 Act 968 only dealt with the few issues such as public policy, pay box mandate, compulsory membership, coverage limit, sources and uses of funds and reimbursement without dealing with the entire 16 Core principles for effective deposit insurance schemes.
There are considerable regulatory gaps between the core principles for effective deposit insurance schemes as well as regulatory and legal framework of the Ghanaian establishment in this investigation.
However, governance structure, cross- border issues, failure resolutions, early detection and timely intervention and contingency planning and crisis management have been ignored in the country’s legislation.
The critical review showed that there are serious regulatory and legal gaps which meant that Ghanaian deposit set up does not meet the best of international practices which could be considered as materially non-compliant as per Core Principles Assessment Criteria.
Principle 1 on Public Policy
When the public policy of the Ghana Deposit Protection Scheme is assessed according to “Core principles for effective deposit insurance scheme” it is coherent one to one in terms of mandate and powers, deposit reimbursement, authority, compulsory membership, scope and coverage but incoherent with governance structure cross-border, contingency planning and crisis management.
The main public policy objective of a deposit protection scheme is to protect small depositors in the event of bank or specialised deposit taking institution failure, thereby contributing to stability of the Ghanaian financial system.
It is clearly stated in the Sections of the Ghana Deposit Protection Act 2016 Act 931 that deposit protection scheme in Ghana is an explicit deposit insurance, in other words, it is a public policy, formed according to legal system and legal base. Deposit Protection Scheme is an independent authority, having administrative and financial autonomy and its policy is stated one by one in the Act 2016 Act 931. From the assessment the public policy is largely compliant
Principle 2 on the Mandate
Section 9 of the Ghana Deposit Protection Act 2016 Act 931 specified the mandate as Pay Box which is basically collecting premium and also responsible for the reimbursement of insured deposits. From the Core Principle compliance review it could be said to be largely compliant.
The review of the limited assessment was not surprising, largely because of the Ghana Deposit Protection Scheme’s narrow mandate of the Pay Box and the fact that the administration of the GDPC has just been established as an independent entity. The mandate is said to be compliant.
Principle 3 on Governance
It states that the deposit insurer should be operationally independent, well governed, transparent, accountable and insulated from external influence. When governance structure of the Deposit Protection Corporation is examined, it is seen to be neither transparent and nor accountable and not operationally independent.
Besides, Deposit Protection Corporation Act 2016 Act 931 have the Governor of Bank of Ghana or his/her representative not below the rank of Deputy Governor as a Chairperson of the Board of GDPC; A representative from Ministry of Finance not below the rank of Director; One representative from groups of banks, nominated by representative association.
This external interference is said to be from the government through the Ministry of Finance, Central Bank’s Governor as Board Chairman of GDPC and industry interferences that could compromise the operational independence. The assessment is to be materially non-compliant with the Core Principle 3.
Principle 4 deals with relationship with other safety net participants
The assessment of the Deposit Protection Act 2016 Act 931 (its Amendment Act 2018 Act 968) Section 38 (1 &2) deals comprehensively with relationship with other safety net participants in Ghana.
The assessment is to be compliant.
Principle 5 deals with Cross border issue
There are material presence of foreign banks operating in the Ghanaian banking space but the Deposit Protection Act 2016 Act 931 (Amendment Act 2108, Act 968) failed to recognise and address with the cross -border issues.
Given the dominance of foreign banks, cross-border contagion is an important risk. The compliance assessment is said to materially non-compliant.
The Ghana Deposit Protection Corporation should enter into bilateral agreements with Nigerian and South African counterparts covering the deposits of the local branches of foreign banks to determine which deposit insurance scheme will be responsible for reimbursement, public awareness and the determining of the levies and contributions to be made by the relevant banks. The assessment could be said to be Not applicable
Principle 6 deals with deposit insurer’s role in contingency planning and crisis management
The Ghana Deposit Protection Act 2016 Act 931 failed to deal with the contingency planning issues and crisis management. When assessed according to Core Principles for effective deposit insurance scheme, Ghana Deposit Protection Corporation hasn’t made any regulation for the role of deposit insurance in emergency planning and crisis management. The Core Principles on the above issue was Not applicable.
Principle 7 on Membership
When assessing Core Principle 7, the Deposit Protection Act 2016 Act 931 has made mandatory for banks and specialized deposit taking institutions. Requiring compulsory membership in the deposit insurance system for financial institutions increase the size of the insurance pool and prevent low-risk institutions from selecting out of the system.
This step also encourages solvent and well-managed banks to help official monitor and police high-flying institutions. The Act 2016 Act 931 has dealt very well with membership. According to the Core Principles, the membership is said to be compliant.
Principle 8 – Coverage
Policymakers should define clearly the level and scope of deposit coverage and this should be limited, credible and cover the large majority of depositors, but leave a substantial amount of deposits exposed to market discipline.
Deposit insurance coverage should be consistent with the deposit insurance system’s public policy objectives and related design features.
Principle 9 – Sources and Uses of Funds
When assessing the Core principle 9, the Ghana Deposit Protection Corporation have readily available funds and all funding mechanisms necessary to ensure prompt reimbursement of depositors’ claims, including assured liquidity funding arrangements.
Funding for the deposit insurance system is provided on an ex ante basis. Funding arrangements are clearly defined and established in Deposit Protection Scheme Act 2016 Act 931.
The Government and Bank of Ghana has provided seed capital of Euro 13 million and the 23 participating banks have provided initial capital of GH¢ 9.2 million (GHC 400,000 X 23). The assessment compliance could be said to be compliant.
Principle 10 deals with Public Awareness
The principle 10 highlights the need to develop awareness program to enhance the effectiveness of a deposit insurance scheme including pre and post establishment periods, but in the pre- establishment period of the Act 2016 Act 931 and the establishment of the Ghana Deposit Protection Corporation, public awareness has not featured very much.
During the pre-establishment-phase, the project coordinator, Ministry of Finance and Bank of Ghana did not provide comprehensive information on the scheme to stakeholders in the rural and local communities. Few public consultations with key stakeholders were held in Accra.
In addition to enhancing public awareness, public consultation process would have enhanced consensus building mechanism. However, there has been some work with the Public awareness but enough had not been done especially with rural and village folks. According to IADI Core Principles for effective deposit insurance system, the assessment could be said to be Largely compliant.
Principle 11 – Legal Protection
When assessing Core principle 11, the Ghana Deposit Protection Act 2016 Act 931 has made legal protection for individuals working both currently and formerly for the deposit insurer in the discharge of its mandate.
They must be protected from liability arising from actions, claims, lawsuits or other proceedings for their decisions, actions or omissions taken in good faith in the normal course of their duties. Legal protection is clearly defined in Section 49 of Deposit Protection Scheme Act 2016 Act 931 for protection from liability and indemnification. The assessment compliance showed that it is Compliant.
Core Principles 12, 13, 14 and 15
The Ghana Deposit Protection Act 2016 Act 931 (its Amendment Act 2019 Act 968) hasn’t made any regulations for the under-listed principles largely because of its narrow Pay Box mandate: Principle 12 – Dealing with Parties at Fault in a Bank Failure; Principle 13 – Early Detection and Timely Intervention; Principle 14 – Failure Resolutions; and Principle 15 – Recoveries. From Principles 12 to 15 could be said to Not- applicable as the Act 2016 Act 931 failed to address these important issues.
Principle 16 – Reimbursing Depositors
The Section 19 of Deposit Protection Scheme Act 2016 Act 931 on the payment of compensation to depositor is clear and unequivocal trigger for insured depositor reimbursement as Per 16 of Core Principles for effective deposit insurance scheme.
The assessment compliance could be said to be compliant.
The overall results of limited assessment of Core principles and Ghana Deposit Protection Act 2016 Act 931 was not largely compliant due to the Ghana’s Deposit Protection Scheme narrow mandate, weak legal framework and also the fact that the administration of the Scheme was undergoing transitional arrangement to fully independent entity.
The Nigeria, Kenya and Tanzania have complied with most of Core Principles for effective deposit insurance system. IADI Core Principles assessment of the Uganda deposit protect fund showed that they were materially compliant with the public policy objectives, mandate and power, relationship with other safety net participants, but were not materially compliant with cross border issues, governance, and contingency planning and crisis management policies and procedures.
When Ghana’s deposit insurer in Ghanaian banking system is assessed according the Core Principles for effective deposit insurance scheme, it is possible to say that insurer meets some principles one to one, for some principles are basically coherent, but there is a need for more detailed regulations, there is no regulation for some principles yet. There are also no regulations on cross border issues, contingency planning and crisis management, early detection and timely intervention.
However, regulation on governance structure and public awareness need to be strengthened further. According to Core Principles, regulated for a global effective deposit insurance scheme, it is possible to state that deposit insurance application of Ghanaian banking system has a basic legal regulation, but it should be adapted to some developing regulations with progresses.
More detailed and concrete regulations especially in regulated principles such as conscious of broader mandate and power, failure resolution, cross-border issues, early detection and timely intervention, dealing with parties at defaulting bank and recoveries will increase effectiveness of Ghana’s deposit insurance scheme.
The overall assessment of the Ghana Deposit Protection Act 2016 Act 931 (Its Amendment Act 2018 Act 968) against the Core Principles could be said to be materially non-compliant which needs to be addressed by policy makers.
The results of the assessment were surprised largely because of weak legislation, the Pay Box mandate and the fact that the administration of the Deposit Protection Fund has just been established. Regulations in developing dynamic environment, where the depth of financial market increases, should be constantly examined and in practice function of laws in theory should be observed.
To address the legal and regulatory gaps it would require legislative amendments to the existing Ghana Deposit Protection Act 2016 Act 931 as well as evolutionary approach as was done in Kenya, Zimbabwe, Tanzania and Uganda. Ghana must be committed fully to implement the IADI Core Principles to enhance effectiveness of deposit insurance system and practices in the country.
The Way Forward
While banks and specialized deposit taking institutions are important to the Ghanaian economy, they are vulnerable to illiquidity and insolvency.
For these reasons, the government has chosen to implement a financial safety net to deal with these contingencies.
A system of deposit protection that guards the holders of small deposits when their banks or specialized deposit taking institutions fail has since November 2019 become part of this safety net in Ghana.
The recent banking crisis emphasized the fact that a deposit protection scheme can play an important role in reducing the likelihood of bank runs and maintaining financial stability by working in tandem with the other elements of the financial sector safety net. Furthermore, a well-designed deposit protection scheme can strengthen the financial stability system, however, there are also number of pitfalls (particularly legal weaknesses in the Ghana Deposit Protection Act 2016 Act 931, serious non-compliance with some of the IADI/BIS Core principles for effective deposit insurance system, lack of pre-establishment phase consultation with some stakeholders and the current cumbersome and slow judicial process in Ghana would definitely inhibit the operations of the scheme.
Ghana should have ensured that the necessary preconditions were in place. For example, before the introduction of the deposit protection scheme, the project coordinator and the government should familiarize with some stakeholders especially the rural and village folks about the concept of deposit protection scheme and how it works, as well as the effectiveness of deposit insurance system in promoting financial stability country-wide.