FOCUS ON BANKING: Organization of banking supervision activities

The National Bank of Rwanda, as the Central Bank, exercises its mission of bank supervision in pursuance of a host of related provisions targeting banks and other financial institutions. Its competencies in this regard emanate from bank and other financial institutions licensing, inspection, following up on the execution of recommendations and the implementation of disciplinary measures toward unruly banks among other regulatory activities. The last 5 years has seen the Rwandan banking sector experiencing a new wave of awakening. In this installment on ‘Focus on Banking’ Business Times will closely examine how the regulatory framework has been instituted. The Rwandan banking system supervision is performed by a combination of off-site and on-site examinations. Offsite examination consists of analyzing documents submitted by financial institutions in order to scrutinize the coherence of data furnished by the banks and the respect of prudential norms enacted and forming part of the banking sector regulatory system. On-site examination corresponds to the verification within banks that the operational methods, the mechanisms of control in place as well as the adequacy of risk management practices and the financial institutions governance are adhered to by the sector players. In order to facilitate the off-site control, financial institutions are required to submit to the National Bank of Rwanda the documents that are mentioned in the regulation n° 12/2000 of 14/10/2000. Most of these documents are submitted on a monthly , quarterly, weekly or daily basis. Since the year 2006, NBR has been applying a risk based supervision framework to the banking sector players. The risk based supervision framework enables the Central Bank to focus on high risk banks and high risk areas in each bank. This approach involves getting a very good understanding of risks faced by banks and evaluating how banks manage those risks. To materialise the new approach, the Central Bank issued a comprehensive set of risk management guidelines in December 2005. These guidelines deal with the management of credit risk, liquidity risk, exchange rate risk, interest rate risk and operational risks. In the same vein, the Board of Directors and the top management of banks are expected to ensure the existence of adequate policies and processes related to risk management and its implementation at all levels. During the year 2006, the Central Bank introduced a quarterly analysis format summing up the evaluation of a risk based assessment tool-the CAMELS components (Capital – Assets – Management – Earnings – Liability – Sensitivity to Risk) of banks, that is, the main indicators of solvency, liquidity, assets quality, profitability and sensitivity to market risks. Moreover, the Central Bank’s supervision in this regard is supported by the external auditors’ reports to ensure reliability of financial statements submitted by financial institutions. The supervision of the Rwandan banking sector has been on course since 1999 after the enactment of a banking act that seeks to prudently regulate banks and other financial institutions. This was closely followed by NBR’s banking service restructuring which created a section within the department of bank supervision which was exclusively tasked with overseeing microfinance institutions. At the same time, the section in charge of credit bureau and outstanding payments was transferred from the department of money and capital markets to that of bank supervision. Legal and regulatory framework developmentAfter 1994, Rwanda adopted a liberalized economic model that led to a profound reform of the legal and institutional regulation of the country’s financial system environment. The key components centered around the following concerns: introducing a flexible exchange rate regime; the adoption of regulation of the activities of NBR while reinforcing its autonomy and power within the banking sector and particularly within the ambit of bank supervision; the implementation of a legal instrument on risk coverage and loan monitoring; the implementation of a legal framework regulating the organization and functioning of the money market. To reinforce the above stated legal provisions ,the Central Bank has issued several prudential regulations to guide the workings of Rwanda’s banking sector operators. This has covered regulation on the solvency ratio that increased the ratio from 8% to 10% by the regulation no. 07/2003 of the 18th December 2003; regulation on risk coverage and loan monitoring; regulation on the liquidity ratio that has decreased from 100% to 80% of the demand deposits, in order to take into account a permanent portion of deposits. The publication of regulations no 04/99 and n° 05/99 of the 14th October 1999 have made it possible to categorize banking financial institutions and determine the industry accessibility’s legal and financial requirements in order to improve supervision. In the regulation no 05/99 of the 14th October, the Central Bank fixed the minimum share capital required for each category of a licensed financial institution. Therefore, the minimum share capital required for commercial banks has been increased from Rwf.300 millions to Rwf.1.5 billion . Thereafter, in December 2006, this minimum capital has again been increased to Rwf.5 billion in order to reinforce the financial system and adapt it to the current economic context. The regulation no 08/99 of the 14th October 1999 gives key details guiding financial institutions’ service in respect of internal control. These elements take into account the nature and volume of activities of each financial institutions as well as the risk they are facing. As far as the external control is concerned, two regulations have been issued regarding external auditors. One is pertaining to banks and large financial institutions (regulation no 07/99 of the 14th October 1999) and the one other is for micro-finance institutions (regulation no 02/2004 of the 1st May 2004). In order to ensure that supervised institutions are properly managed, the Central Bank issued additional regulations regarding any change of operations from initial licensing requirements (regulation no 10/2000 of the 14th September 2000). Therefore, any change within the management of a particular bank there is need to seek authorization from the Central Bank. This also applies to changes touching on the share capital of a bank. This need for approval applies even when it comes to authorizing branch managers’ appointments. In order to improve the bank mortgage guaranty framework, the Central Bank issued to banks, on 29th April 2004, a notice describing modalities for property valuation as well as qualification and professional experience required for the registered property valuers. Prudential standards complianceThe National Bank of Rwanda prudential regulatory standards aim at attaining mainly the following objectives; ensuring the security of the people’s deposits by closely monitoring the banks’ solvency and prudential management ;ensuring the banking sector’s financial stability and functioning methodologies and; protecting the financial sector’s image by sanctioning unacceptable practices. As at 31st December 2007, the compliance with prudential standards can be summarized as follows: Share CapitalThe regulatory level of commercial bank’s share capital went up from Rwf.100million to Rwf.300 Million jumping to Rwf.1.5 billion and settling at Rwf. 5 billion for years 1995, 1999 and 2006. During the year 2007, all banks complied with the minimum share capital requirement of Rwf.5 billion ,except two banks that were expected to have met this requirement during the first quarter of the year 2008. Fixed assets ratioThis standard aims at ensuring that the bank fixed assets are financed by the equity capital. According to the regulation no 05/2000, net fixed assets, intangible assets and equity interests net of provisions for amortization cannot exceed 75% of a bank or any other financial institution’s equity capital. Thus, fixed assets should totally be financed by the equity capital. Fixed assets, acquired assets from delinquent clients’ mortgage collaterals and the medium and long term use of funds more than 2 years have to be totally covered by the equity capital and other long term resources. In general, in 2007, all banks met this requirement, except one bank. Liquidity ratioThe liquidity ratio, which is extracted by dividing short term liabilities from short term assets, had not been met, as at 31st December 2005, by the two largest banks though these were the most liquid in the industry. This anomaly led to a deeply revised liquidity ratio analysis. The 2006 revision of the regulation consisted in admitting a weighting of 80% instead of 100% of demand deposits and other resources due from clients in order to take into account the permanent aspect of a demand deposit’s proportion. Consequently, as at 31st December 2007, all banks had complied with this requirement. Net foreign exchange positionBanks are required to meet a limit of 20% of the share capital and reserves of the bank to be placed in hard currencies. As at 31st December 2007,this requirement was met by all banks. Diversification of risksDuring the year 2007, banks were heavily exposed to large borrowers. The banking system’s solvency has been below the normal set ratio of 10% for the period from 2001 to 2003. This situation is explained by the negative returns made by two commercial banks during this period. Since 2004, the situation has improved significantly and the solvency ratio went over the minimum required ratio of 10%. Monitoring of unruly banksThe Rwandan financial sector restructuring has been on course since 2005 after the amendment and privatisation of two banks (BCR and BACAR) in 2004. During the year 2006, Central Bank efforts were focused on BCDI that was undercapitalised after failing to adhere to set standards. In order to turn around this bank, the Central Bank placed it under statutory management on 6th May 2005 and a temporary controller was appointed in September 2005. On 1st October 2005, a restructuring plan had been agreed upon with BCDI shareholders. This plan provided for an upshot in the bank’s share capital to Rwf.2.5 Billion. Measures were also instituted to sort out corporate governance challenges as well as issues which touched on insider loans by the past management. The problem of non -performing loans was solved by reorganizing loan collection within this bank. The mandate of the temporary controller expired in February 2006. However, considering the poor performance of BCDI at that time his mandate was renewed and he was appointed as a detached supervisor to this bank in order to closely follow up on the evolution of the bank‘s recovery plans. A new investor, Ecobank, came in the shareholding of BCDI allowing the compliance with all the requirement of the banking systems such as the solvency ratio. Ends