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Keeping Tanzania’s banks competitive – The role of the new capital adequacy requirements

2016-11-29 12:46:42

By Paul Kibuuka

IN line with Basel III, it’s now two and a half years since the 3-year moratorium period given to commercial banks in Tanzania by the central bank – the Bank of Tanzania – to comply with the new increase in capital adequacy requirements from TZS 5 billion (approximately US$2.27 million) to TZS 15 billion (US$6.81 million) ended in March 2015.

As at 31 March 2015, 30 out of 34 commercial banks had complied with the requirements – according to a Letter of Intent of the government of Tanzania and addressed to the International Monetary Fund (IMF) and posted on the IMF website.  

The basis for the capital increase from the central bank’s perspective is that the higher a bank’s capital level is, the better the chances to withstand financial and real shocks and thus enhance banking sector stability.

This is a key lesson that Tanzanians can learn from the 2008/09 global financial crisis. A most resonate example is how well Barclays Bank Plc was able to secure multi-billion dollar capital injections from  overseas investors just before the waves of the crisis reached its shores, thereby surviving the crisis without the need for bailouts from the UK government.

Higher levels of capital are also required to help commercial banks hedge against the range of risks that they run today, taking into consideration the conditions and requirements necessitated by Tanzania’s adoption of the International Financial Reporting Standards (IFRSs), the International Accounting Standards (IASs) and the International Standards of Auditing (ISAs) in July 2004; as well as, the broad spectrum of products and services that Tanzanian banking encompasses.

The Financial Sector Deepening Trust (FSDT), established in Dar es Salaam by five government donors, is working in partnership with the Bank of Tanzania (BoT) to provide greater access for more Tanzanians to engage within the Tanzanian financial system; for instance, through extending affordable banking products and services to help satisfy their many business and economic needs.

Undoubtedly, this requires investment in infrastructure, systems, people and capital to achieve. A further basis, therefore, is that with more capital, commercial banks in Tanzania will find it easier to undertake these investments and; together with other interventions of the BoT, increased access to the financial system and reduced lending rates will be attained - as competition amongst banks intensifies and financial inclusion becomes a reality.

Furthermore, from the angle of the East African Community (EAC) Common Market, the hastening of the build-up of bank capital is expected to augment the ability of Tanzanian commercial banks to compete against other banks in the EAC regional bloc which allows free movement of goods, labour, services, and capital as part of the Common Market that entered into force on 1 July 2010.

According to a 2010 Report by the Bank for International Settlements (BIS) entitled "An Assessment of the Long-Term Economic Impact of Stronger Capital and Liquidity Requirements", a bank’s capital serves as a yardstick for determining its lending ability. In this sense, stronger capital bases will make it possible for Tanzanian banks to vie favourably for big corporate and investment financing deals in the regional bloc.

But just how affordable has this increase in capital requirements been for Tanzania’s commercial banks?

Auspiciously, most commercial banks in Tanzania had already either raised additional share capital or built up significant reserves of retained earnings. As a result, by 31 March 2015, most commercial banks were able to reach the high bar set for the minimum capital level by merely capitalizing part or all of their reserves. Nevertheless, in some instances, commercial banks have required supplementary capital injections.

Besides, as noted in this article, the BoT granted a 3-year moratorium period to allow time for commercial banks to raise new funds. This was a very good move for the reason that three of Tanzania’s local banks, namely Maendeleo Bank Plc, Mkombozi Commercial Bank Plc, and Mwalimu Commercial Bank Plc were able to float shares on the Dar es Salaam Stock Exchange (DSE) as an alternative to raising the required funds entirely from their shareholder base. Indeed, the move has also helped to expand the DSE by providing more investment options for Tanzanians.

Although it was widely anticipated that commercial banks that struggled to meet the new capital level of TZS 15 billion would be encouraged to merge their operations, no mergers of such banks have taken place in Tanzania.

Be that as it may, since commercial banks with deep pockets would also be doing some really huge deals in respect of which losses tend to be equally huge, increasing capital requirements alone cannot ensure the safety and soundness of the Tanzanian financial system; although it is crucial to good financial regulation, specifically because funds are available to absorb all manner of losses, no matter how unforeseen.

Thus, in order to ensure a safe and sound financial system which is free from bankruptcies or nonperforming loans (NPLs), commercial banks in Tanzania must rely on proper and prudential practices and ensure that sufficient funds are on hand to meet depositor and borrower demands.

At the present, the number of commercial banks in Tanzania increased to 41 as of June 2016; and with higher capital bases, one would reasonably assume that the funding needs of the country’s steadily growing private sector are being adequately met.

The reality, however, is that the dire shortage of long-term financing options is still a big hurdle for the private sector.

Perhaps, the best solution to overcoming this hurdle would be for the government of Tanzania and the Tanzania Bankers Association to step up efforts in encouraging Tanzanians to save for the long-term so that commercial banks would have more funds to give out loans over a longer period without distressing over liquidity shortages.

Commercial banks could also increase the rate of return on long-term deposits.

From a tax policy perspective, the government of Tanzania could undertake some positive reforms with the aim of promoting the banking and financial industry and of sustaining, for the Tanzanian economy, the benefits of increasing the capital adequacy requirements.

These reforms include, but are not limited to; firstly, exempting interest on long-term deposits from tax because this will boost long-term savings.

Secondly, in respect of instruments for exchange of property, amending the Stamps Act to introduce a flat Stamp Duty rate of at least TZS 100,000 and this will lower the cost of borrowing and encourage Tanzanians to borrow more.

Thirdly, reform is needed to further reduce (or scrap altogether) VAT on housing so as to bring down the cost of mortgage services offered by banks and; in so doing, evolve a sustainable Tanzanian housing finance system.

Fourthly, there’s need to amend section 27 of the VAT Act 2014 to exempt proceeds on sale of a debtor’s property from VAT. Bearing in mind that such sales are done to recover NPLs and so are fundamental to banking, this exemption will help maximize proceeds on recovery of NPLs - and consequently cut the overall cost of borrowing.

On their part, private sector borrowers must strive to adhere to best corporate governance practices as this could reduce a commercial bank’s viewpoint on the potential risk of a particular borrower, hopefully leading to lower interest rates.

With enhanced capital levels as prescribed by the BoT, commercial banks should be able to develop and introduce more innovative products and services powered by customized technology that will take Tanzanian banking to the future and bring it (more) closer to the public.

Moreover, although attaining “perfection” is impossible, there’s always room for improving the current regulatory and supervisory environment, including the Banking and Financial Institutions (Capital Adequacy) Regulations 2014. It’s good that the BoT is open to consultation and discussion on important regulatory and supervisory issues.

Paul Kibuuka is the managing partner of Isidora & Company Advocates. Email: Twitter: @isidoralaw

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