Choosing Topics for the Autoethnography

UNIT 3 SOURCES OF INSTABILITY IN THE BANKING SECTOR

the economy. For instance an economy experiencing sluggish growth or in recession poses formidable challenges to all economic agents, causing business opportunities to shrink. Under such circumstances, it is critical that bankers take actions which will not affect the health of the banking system adversely or further destabilize the economy.

Generally, it is easier to achieve sound banking system under a stable macroeconomic environment than an unstable one. On the other hand, an unsound banking system could trigger off macroeconomic instability, hence the symbiotic relationship between the banking system and macroeconomic environment.

3.2 Asymmetric Information

It is a fact that information asymmetry results in mismatching of financial contracts, precipitating runs on banks. As we all know, depositors have little information about the soundness of banks and the safety of their deposits. Thus any misinformation, as was experienced in the country recently, can cause panic withdrawals, creating runs on the banks with potentials of contagion and loss of credit confidence. Similarly, poor loan selection due to information asymmetry leading to funding of unviable projects could lead to having very high volume of non-performing loans.

3.3 Weak Management

One of the major internal factors that have contributed to the observed weakness in some financial institutions is poor management. This is often reflected in poor asset quality, insider abuse, inadequate internal controls, and fraud, including unethical and unprofessional conduct, squabbles and high staff turnover rate.

Weak risk-control systems have been a major factor in the emergence of a number of crises, leading to a variety of balance sheet differences including large and undetected mismatches on the balance sheet or poor asset quality, leading to large unrealizable losses.

3.4 Inappropriate Corporate Governance Structures

Corporate governance refers to the extent to which companies are run in an open and honest manner. Thus, effective corporate governance practice incorporates transparency, openness, accurate reporting and compliance with statutory regulations, among others. Historical antecedents indicate that financial crisis is a direct consequence of lack of good corporate governance in banks. In particular, the need to implement good corporate governance in the banking sector became more apparent after the Asian financial crisis.

3.5 Inadequate or Poor Regulatory and Supervisory Capacity

Inadequate or poor regulatory and supervisory capacity can contribute to instability in the financial system. Consequently, regulatory and supervisory capacity must be adequate for effective monitoring of the system. Regulatory Supervisors must exhibit a high level of integrity, competence and be equipped with modern facilities, in order to meet the challenges of contemporary banking practices.

4.0 CONCLUSION

There are exogenous and endogenous that can precipitate instability in the banking system. These include macroeconomic shocks emanating from the negative effects of financial liberalization,

globalization and rapid technological changes (exogenous factors) and the endogenous factors that include inappropriate corporate governance and inadequate regulatory and supervisory capacity among others.

5.0 SUMMARY

We have in this unit explained what macroeconomic environment represented, discussed asymmetric information. We have also discussed corporate governance structures, while effort had been made to educate students on how weak management affects banking instability as well as what inadequate or poor regulatory/supervisory capacity means.

In this next unit, we shall examine the role of regulatory authorities aimed at stabilizing the financial system.

6.0 TUTOR-MARKED ASSIGNMENT Write short notes on the following:

 Macroeconomic Environment

 Asymmetric Information

 Weak Management

 Inappropriate Corporate Governance Structures

 Inadequate or Poor Regulatory and Supervisory Capacity

Suggested answers

1. The macroeconomic environment represents a combination of factors that impact on the banking system which could be either favourable or adverse to the system. When the impact is adverse, banks tend to embark on protective strategies, which may not augur well for both the banking system and the economy.

2. Information asymmetry results in mismatching of financial contracts, precipitating runs on banks.

As we all know, depositors have little information about the soundness of banks and the safety of their deposits. Thus any misinformation, as was experienced in the country recently, can cause panic withdrawals, creating runs on the banks with potentials of contagion and loss of credit confidence. Similarly, poor loan selection due to information asymmetry leading to funding of unviable projects could lead to having very high volume of non-performing loans.

3. One of the major internal factors that have contributed to the observed weakness in some financial institutions is poor management. This is often reflected in poor asset quality, insider abuse, inadequate internal controls, and fraud, including unethical and unprofessional conduct, squabbles and high staff turnover rate.

Weak risk-control systems have been a major factor in the emergence of a number of crises, leading to a variety of balance sheet differences including large and undetected mismatches on the balance sheet or poor asset quality, leading to large unrealizable losses.

4. Corporate governance refers to the extent to which companies are run in an open and honest manner. Thus, effective corporate governance practice incorporates transparency, openness, accurate reporting and compliance with statutory regulations, among others. Historical antecedents indicate that financial crisis is a direct consequence of lack of good corporate

governance in banks. In particular, the need to implement good corporate governance in the banking sector became more apparent after the Asian financial crisis.

5. Inadequate or poor regulatory and supervisory capacity can contribute to instability in the financial system. Consequently, regulatory and supervisory capacity must be adequate for effective monitoring of the system. Regulatory Supervisors must exhibit a high level of integrity, competence and be equipped with modern facilities, in order to meet the challenges of contemporary banking practices.

7.0 REFERENCES/FURTHER READINGS

Nwakoby, C.I.N. (2004), Banking Practice and Operations in Nigeria (Principles, Issues and Practice), Enugu-Nigeria:Ojiemeka Associates in Association with New Generation Books.

Okafor, F. O. (2011) Fifty Years of Banking Sector Reforms in Nigeria (1960-2010): -Past Lessons: Future Imperative, First Bank of Nigeria Research Chair Report, Banking and Finance, Nnamdi Azikwe University, Awka, Enugu: Ezu Books Limited.

Spong, K. (2000), Banking Regulation: Its Purposes, Implementation and Effects (5^th ed), USA:

Division of Supervision and Risk Management, Federal Reserve Bank of Kansas City.

UNIT 4 REGULATORY AUTHORITIES EFFORTS AT STABILIZING THE