Banking sector reforms and developments, 2001-2014

It was to address the challenges highlighted above that the Central Bank embarked on a comprehensive banking sector deregulation reform programme under its Financial Sector Strategic Plan (FINSSIP) in 2001. Unlike FINSAP which was undertaken under the auspices of the IMF and World Bank, the recent reforms under FINSSIP during the 2000s were initiated by the Central Bank. The aims of these reforms were to deepen the financial sector and also to increase the competitiveness and efficiency of the banking sector (Acquah, 2006). Details of the key financial liberalisation or deregulation reforms are discussed in chronological order below, while a summary of all the reforms are highlighted in Appendix 2.2.

2002: New Bank of Ghana Act, conferring Operational Independence on BoG

Prior to 2002, the Banking Law (PNDC Law 225) enacted during FINSAP and the operational modalities of the Bank of Ghana suggested that the Central Bank was an appendage of the Ministry of Finance, which made it a conduit for the financing of fiscal deficits. Accordingly, monetary policy was not independently undertaken. In January 2002, however, a new Bank of Ghana Act (Act 612, 2002) was passed. The new Act conferred

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operational independence to the Bank of Ghana and also assigned monetary policy formulation to an independent Monetary Policy Committee (MPC) of the Bank. Central Bank financing of fiscal deficits was also limited to 10% of fiscal revenues in the preceding year. The MPC was inaugurated in September 2002, and meets bi-monthly or quarterly to review economic developments and set the Prime rate. The outcomes of its meetings and monetary policy decisions are communicated to the public through press releases.

2002: Introduction of BoG Policy Rate, the Prime Rate

In line with its new monetary policy setting framework, the Bank of Ghana introduced a new policy rate, the BoG Prime Rate, in September 2002 as an instrument to signal the Bank’s assessment of inflationary pressures and its monetary policy stance. The Prime Rate also serves as the benchmark rate for the setting of interest rates (base rates) by banks in the country. Following the MPC’s periodic review meetings on the assessment of the economy and decisions on the policy rate, adjustments are made by banks to their lending and deposit rates which are also published.

2003: Introduction of Universal Banking to remove restrictions on banking activities

Banking activities were restricted in terms of scope (what business lines banks could engage in) and geography (where banks could operate). The existing law had classified banks into three categories: commercial (retail), merchant (corporate) and development banks. The Bank of Ghana introduced universal banking in 2003 with a view to removing such restrictions on banking activity and integrating the fragmented banking sector. Universal banking was introduced to allow banks to choose the type of banking services they would like to offer in line with their capital, risk appetite and business orientation. This deregulation policy therefore abolished the segmented commercial, merchant and development banking categorisation that existed following the banking reforms in the 1990s to create a uniform playing field for all banks. Universal banking was also intended to embrace mortgage financing, insurance business, among others as enshrined in a new banking law. The Bank of Ghana announced new capital requirements to be complied by banks to receive the universal banking license. All existing banks met this new capital requirement by the deadline date of end of 2006.

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2004: Passage of new Banking Law, expanding the definition of banking activities to embrace universal banking

A new Banking Law, the Banking Act 2004 (Act 673) was passed in 2004 to replace the existing Banking law 1989 (PNDCL 225). Some of the significant changes introduced by the new Banking Act included the expansion of the definition of banking activities to include insurance business, mortgage financing, securities, finance leasing, portfolio management, advisory services such as capital restructuring, mergers and acquisitions, credit reference services and the keeping and administration of securities. This regulatory change was to give credence to the universal banking concept of relaxing bank activity restrictions. The deregulation policy was also intended to enhance scope economies in the financial services industry.

2005: Relaxation of bank entry restrictions with an open licensing policy

As part of the deregulation reforms, the central bank relaxed bank entry restrictions. It accordingly adopted an open but gradual licensing policy which allows the entry of new banks into the industry to enhance market contestability. The entry of such new banks is expected to enhance competition, encourage faster modernization of banking operations and facilitate efficiency of the banking system, to better support the growth and diversification of the financial services industry.

2006: Abolishment of secondary reserve requirements

The Bank of Ghana reduced the secondary reserve requirements of banks from 35% to 15% in July 2005, and further abolished the remaining 15% in August 2006, leaving only primary reserve requirements of 9% held in cash. The high secondary reserve requirement, which was held in government securities, was the legacy of high fiscal deficits and served as a captive market to finance these deficits. The consequence was that it crowded out private sector finance. This deregulation policy of scrapping the secondary reserves is to increase the supply of loanable funds to the private sector, encourage competition in the loans market and help deepen financial intermediation.

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2007: Passage of Credit Reference Act

As a means of managing potential risk-taking behaviour of banks associated with such deregulation reforms in developing countries, the Bank of Ghana sought to strengthen the credit environment through the passage of this law. This Act paved the way for the licensing of credit reference bureaus in the country. Credit referencing is critical due to the problems of adverse selection and moral hazard caused by information asymmetry between banks and borrowers. In Ghana, it was also felt that the absence of this service resulted in the banks over-pricing risks in the economy on account of the high real interest rate spreads. Since the passage of the law, three credit reference bureaus have been licensed by the Bank of Ghana and are operational to provide credit information sharing to ameliorate the problem of information asymmetry and facilitate credit risk assessment.

2007: Currency Redenomination

Another policy implemented by the Bank of Ghana in 2007 was a re-denomination of the national currency (the Cedi). Although not directly a deregulation policy, this policy was to enhance efficiency of the payments system. The legacy of past episodes of high inflation and macroeconomic instability had been the rapid increases in the numerical values of prices of goods and services, which had imposed significant deadweight burden on the economy. This was in the form of high transaction costs at bank tellers/cashiers, high risks involved in carrying loads of currency for transaction purposes, and a strain on the payments system, particularly at the ATMs. The currency re-denomination was implemented in July 2007, with the new currency, the Ghana Cedi (GH¢) equivalent to 10,000 Old Cedis (¢). Banks re- calibrated their ATMs and other banking software to accommodate the change and actively engaged in a comprehensive customer and public education programme. Some services by banks, such as cash collection services, were dispensed off and banks re-engineered some of their operational services.

2008: Increase in minimum capital requirements for banks

To enhance stability of the banking system and support the rapid growth in credits anticipated by the deregulation policies, the Central Bank announced increases in the minimum capital requirements of banks from GHC7 million to GHC 60 million in 2008. For existing banks, there was a deadline of December 2009 for foreign banks to comply and December 2012 for local banks to comply, while all new banks were to meet the new capital requirements before being granted a banking license. Although it was envisaged that the sharp increase in the

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minimum capital would force some form of consolidations, this was not the case as all existing banks met the new capital requirements by their respective deadlines. The capital adequacy ratio (CAR) requirement of banks had also been raised from 6% to 10% in line with international standards and practices.

Besides these key policy reforms, other initiatives and banking laws were passed to support other segments of the financial sector, including venture capital, pensions, home finance, etc. as captured in Appendix 2.

So what were the effects of these reforms on the structure of the banking sector? To what extent did they enhance the growth and development of the sector? These issues are explored in the next section.