Imagine putting your money in a financial institution, or a non-bank financial institution, and you hear the bank or non-bank financial institution has collapsed. In most cases, an average person would not like to have anything to do with financial institutions for the rest of his life. This scenario might cause devastating reduction in savings culture in Ghana.
It can be recalled that Ghana has been ravaged with several ponzi schemes for the past three decades. It started with Varcus in the 1980s, Pyram and R5 in 1990, Inward Remittances, to DKM in the 2000s. In all these schemes, small depositors, in their quest to increase their wealth, lose their entire savings, unsophisticated SMEs lose all their funds and have their businesses collapsed; finally, the trust for financial institutions and the integrity of the financial sector are compromised.
Indeed, banking crisis and its resultant loss of confidence is not only peculiar to Ghana. It cuts across continents. For instance, the Thailand triggered Asian financial crisis in the late 90’s had deep cutting effect on Asian economies. Again, in Turkey, the recent massive scale capital flight of foreign currencies was blamed on weaknesses in the banking system and absolute loss of confidence in the domestic financial institutions.
Clarion calls had earlier on been made on the government by civil society groups and the international community for government to provide a safety net to the poor and, to a large extent, protect the financial integrity of the county. It was, therefore, no surprise the excitement and jubilation that followed the passage of the Deposit Protection Law, 2015 in Ghana.
In the quest to restore faith in the financial sector, in the aftermath of the rancour and furore in the micro-finance sector, Ghana’s Parliament passed the Deposit Protection Law. What the law seeks to do is to provide Explicit Deposit Insurance Scheme (EDIS).
Deposit insurance means the government has guaranteed to reimburse depositors in the event of bank failure or protection of small depositors from loss incurred by depositors as results of occurrence of an insured event. It is basically a financial guarantee to protect depositors in the event of a bank failure and also to offer a measure of safety for the entire banking system.
Deposit insurance could either be explicit or implicit. Under implicit deposit insurance, government protection of depositors in the event of bank failure is discretionary. It lacks any formal laws or regulations relating to the compensation of depositors. With implicit deposit insurance, government makes adhoc decision and takes responsibility for financing depositors with any amount it deems fit.
For instance, if the NDC government had heeded to pressure to reimburse clients of DKM, that act would have been an implicit insurance. Implicit insurance are basically based on political expediency. Many researchers suspect that implicit insurance was used as veil to reimburse clients of Bank for Housing and Construction and Cooperative bank in the infamous A-Life scandal.
Explicit insurance connotes a situation where reimbursement of clients of failed financial institutions is based on laws and regulations rather than at the discretion of political authority. Example, if the DKM saga had occurred after the passage of the deposit protection law, then government would have been bound to reimburse depositors up to the required coverage. Obviously Ghana’s deposit protection is an Explicit Deposit Protection. If Ghana had passed the deposit protection law, government would have been compelled by law to reimburse small depositors of DKM, Eden House and Noble House.
Ghana’s Parliament passed Ghana’s Deposit Protection Law, 2015 on July 4th, 2016; 83 years after United States enacted Federal Deposit Insurance in 1933. It will lead to the establishment of Deposit Protection Scheme, Deposit Protection Fund which constitutes the assets of the scheme and, finally, Deposit Protection Corporation to manage the scheme efficiently and effectively.
The scheme is poised to reimburse up to the tune of GH¢6,250 for banks and GH¢1,250 for micro-finance companies. Some countries have increased deposit insurance coverage and others deem it fit to adopt full coverage.
For instance, countries like Germany, Indonesia, Ireland, Malaysia, Australia and New Zealand, in their quest to forestall bank run and financial meltdown have, as a temporary measure, adopted full deposit insurance.
As at the end of 2010, Hong Kong’s Deposit Protection Scheme guaranteed full payment of all customer deposits as a temporary measure. In Britain, compensation ceiling has been moved from GB£35,000 to GB£50,000.
However, some researchers insist that deposit insurance schemes with low coverage or partial coverage may be ineffective in preventing bank run, at least, if the Northern Rock is anything to go by.
The Northern Rock bank was a British bank that was affected by the subprime mortgage crisis. Having failed to find a commercial buyer, the bank was taken into public ownership (nationalised) in 2008 and was later split into two parts (assets and banking) in order to aid the eventual sale of the bank back to the private sector.
Implication of the Law
The implication of the law is that, if a micro-finance company fails, clients that qualify for reimbursement will be reimbursed up to the tune of GH¢1,250. That means that, if a client has savings to the tune of GH¢1000, or less, with a micro-finance company, that client will be reimbursed fully. But, where the funds with that micro-finance company is more than GH¢1,250, then he will be reimbursed up to the tune of GH¢1,250 irrespective of the amount saved with the micro-finance company.
The procedure is the same with banks. If a bank fails, clients that qualify for reimbursement will be reimbursed up to the tune of GH¢6,250. That means that, if a client has savings to the tune of GH¢6000, or less, with a bank, that client will be reimbursed fully; but, where the funds with that bank is more than GH¢6,250, then he will be reimbursed up to the tune of GH¢6,250.
Deposit insurance is a guarantee by the government that, in the event a bank or micro-finance company collapses; the government will reimburse depositors up to a particular coverage.
Indeed, there has been renewed interest all over the world for the establishment of explicit deposit insurance, hence, from the humble beginning of 12 countries in 1974, International Association of Deposit Insurers states about 113 jurisdictions had instituted deposit insurance as at 31st January 2014, an increase of almost tenfold; and other 40 jurisdictions are studying or considering the implementation of deposit insurance.
The recent fad for deposit insurance could be attributable to activities of trade blocks. For instance, in 1994, Deposit Insurance was incorporated into the newly created single banking market of the European Union, in addition, OECD countries have currently put deposit protection on its top agenda.
The United States enacted the Federal Deposit Insurance in 1933 in the midst of the banking crisis, making the USA the first country to start deposit insurance.
Justification for Deposit Insurance scheme in Ghana
Financial institutions accept money from clients in the form of savings and fixed deposit they, in turn, give out to businesses, government and other deficit individuals as loans, overdraft and other investment in assets. Whilst financial assets from clients are in the form of short term loans, their liability becomes long term. The implication of the analysis is that banks may have severe challenges when all asset holders appear at the premises of financial institutions for their funds, perhaps due to panic or rumour. Thus, in order for savers to be assured of the security of their funds, there is the need for safety net in the form of deposit insurance scheme. For instance,according to the Bank of Ghana’s Financial Stability Report 2016, total deposit funded 62.6 percent of total assets as at the end of March 2016. The question we should ask is, what happens if clients request all these funds?
Importance of Deposit Protection Law
Protection of the Poor
One important function of the bail is that it will protect small depositors from bankruptcy should financial institution they do business with fail. It is expected that assurance can boost the confidence level of small depositors and increase savings to a large extent. Savings culture in Ghana to a large extent is very low, perhaps because of nasty experiences of small depositors in the past; and recent wave of micro-finance collapse has exacerbated the problem. Deposit insurance can reinstate poor depositors in an unfortunate event, like what happened recently in Sunyani. With such assurance more Ghanaians will be willing to save with financial institutions.
Deposit insurance schemes promote prudential regulation on the financial system. This is because it brings two regulators together: National Insurance Commission and the Bank of Ghana. These two regulators will ensure the sustenance of the Deposit Insurance since both have risk management strategies. Combined efforts of the two regulators may restore sanity and trust in the industry. In other words, it encourages risk monitoring by interest groups.
Deposit insurance scheme may lead to the deepening of the financial sector and create enabling environment for competition and competitive banking. Since financial institutions are supposed to be covered under the scheme, the choice will be for depositors to use their discretion in deciding where to put their funds. It creates buyers’ market and banks will be compelled to be innovative under such circumstances to keep and maintain customers.
The fact that there is deposit insurance does not preclude the government from using implicit insurance to bail out troubled financial institutions, though deposit insurance scheme has delayed, notwithstanding the fact that the 1992 constitution frowns on retrospective law, nevertheless, government can decide to bail out troubled micro-finance companies and reimburse clients of DKM, Shine, Eden House, Noble House, etc., through implicit deposit insurance system.
It is also worrisome and disturbing that deposit protection is aimed at protecting the poor and the vulnerable but neglecting the rich in society.
YAW OHEMENG KYEI: Commodity broker and researcher@Lynch-Buffett Company Limited/Finance and Management Consultant@Likert Business Solution (Former lecturer of Presbyterian University College, Tema Campus) email@example.com