THE GLOBAL ECONOMIC CRISIS AND

THE NIGERIAN FINANCIAL SYSTEM:

THE WAY FORWARD

BY

CHARLES MORDI
DIRECTOR, RESEARCH DEPARTMENT

BEING A PAPER DELIVERED AT THE 14TH SEMINAR FOR FINANCE

CORRESPONDENTS AND BUSINESS EDITORS, AT BENUE HOTELS,
MAKURDI, JULY 16, 2009

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 OUTLINE
1.0 Introduction

2.0 Stylized Facts about the Nigeria

Economy

3.0 Impacts of the Financial crisis on the

Nigerian Financial System

4.0 Nigeria’s Response to Stabilize the Financial

Sector

5.0 Way Forward

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1.0 Introduction
Conceptual Definition of Financial Crisis:
– A situation where financial institutions or assets suddenly
lose a large part of their value.

– Types of Financial Crisis

Banking crises
– Bank run (one Bank)
– Systemic banking crisis (bank run on several banks)
– Credit crunch (insufficient funds for borrowing)

Speculative Bubble and Crashes

– Bubble (present price has higher value than future income)
– Crashes (when there are many sellers and no buyers)

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Introduction……Contd.
International Financial Crisis
Balance of payments or currency crisis
Sovereign Debt default
Sudden stop in capital flows and capital flight.

Wider Economic Crisis. Low/Negative GDP growth

Recession
Depression-prolonged recession

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 Introduction……Contd
Causes of Current Financial Crisis

The genesis of the current financial crisis could be traced to the

default on sub-prime mortgage loans in the United States (US).

In the pre-2007 era, the US government encouraged financial

institutions to lend to individuals that would not have otherwise
qualified for housing loans. These loans were backed by the
federal government.

This resulted in cheap borrowing and an unprecedented boom in

the US housing market.

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 Introduction……Contd
Causes of Current Financial Crisis

By 2005, 1 out of 5 mortgages were sub-prime lending in the US. The rates
for the sub-prime were higher because they had Adjustable Rate Mortgages
(ARMs) that were fixed for two years; thereafter the rates were marked to
the Fed interest rates which rose substantially.

Home loans granted to people with questionable ability to pay back i.e.
people with no income, no job and no assets (NINJA)

Weaknesses in the application of originate-to-distribute model, leading to

compromises in underwriting standards

As interest rates on mortgage loans increased, the prices of houses fell,

consequently the houses were valued less than the mortgage loans, thus
default rate on loans increased.

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 Introduction……Contd
Causes of Current Financial Crisis
The magnitude of the repossession that followed coupled with
the mortgage company’s inability to renegotiate loans led to
the collapse of the government backed mortgages

Owing to the wide spread defaults, house prices began to fall

due to huge foreclosures.

 Banks and financial institutions repackaged these debts with

other high risk debts and sold them to worldwide investors
creating financial instruments called Collateralized Debt
Obligations (CDO)

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 Introduction……Contd
Causes of Current Financial Crisis
 Financial derivatives called Mortgage-Backed Securities
(MBS), which derive their value from mortgage loans spread
the risk to financial institutions and investors around the
world.

 Major Banks and financial institutions borrowed and invested

heavily in MBS and reported losses of approximately US$435
billion as of July 17, 2008.

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 Introduction……Contd
Causes of Current Financial Crisis
 First stage - "liquidity constraints," leading to difficulties in
raising funds in the US.

 Second stage -"credit contraction." this exerted strong

downward pressure on the economy.

 Third stage - financial contagion arising from inter-

linkages of the world financial system-
Economic Recession

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 Introduction……Contd
Effects
The stock markets capitalization recorded unprecedented
losses, as at end-December 2008.

– London 31.3%
– New York 33.84%
– Frankfurt 40.4%
– Sydney 41.3%
– Tokyo 42.1%
– Paris 42.7%
– Hong Kong 48.3%
– Singapore 49.2%
– Mumbai 51.9%
– Shanghai 65.2%
– Nigeria 45.2%

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2.0 Stylized Facts about the
Nigeria Economy

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 Stylized Facts about the Nigeria
Economy
Economic growth averaged 6.3 per cent between 2006 and
2008, projected to fall in 2009

Inflation rate fell from 8.5 per cent in 2006 to 6.6 per cent
in 2007, it however increased to 15.1 in 2008 due to
worldwide high food and energy prices

Reduced Foreign exchange inflow due to drop in the price

and volume of crude oil sold

Economy dependent on a crude oil as a major source of

foreign exchange
– Crude oil accounts for
about 90% foreign exchange earned
65% of government revenue
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 Stylized Facts about the Nigeria
Economy
Import dependent

A Emerging financial sector

– 2 domestic banks among the top 500 banks in the world

Susceptible to oil shocks

– International crude prices

Low non-oil exports

Decrease in volume of oil exports mainly due to restiveness at

the Niger Delta

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 Stylized Facts about the Nigeria
Economy
Poor and dilapidating infrastructure

Low level of financial sector integration into the

global economy

Central Bank of Nigeria remain the major source of

FX in the official market

Wide margin between lending and saving rates

Exchange rate Depreciation

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 Overview of the Nigeria Economy Cont.
Macro-Economic Indicators
Indicator 2006 2007 2008
GDP Growth Rate (%)
6.0 6.5 6.4
Inflation Rate (%)
8.5 6.6 15.1
M2 Growth Rate (%)
30.6 44.2 58.0
Current Account Balance
18.5 11.8 17.5
FDI
13.9 5.6 5.8
External Reserves
(US$ billion)
42.3 51.3 53.0
Exchange Rate End-Period 128.2 117.9 132.5
3.5 3.6 3.7
External Debt (US$ billion)

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3.0 Impact of the Crisis on the
Financial Sector of the
Nigerian Economy

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Nigeria Financial Market Comprises:
Financial Sector Regulators
– The Central Bank of Nigeria
– The Nigerian Deposit Insurance Corporation (NDIC)
– The Security and Exchange Commission (SEC)
– The National Pension Commission (PENCOM)
– The National insurance Commission (NAICOM)
– The Federal Mortgage bank
Deposit Money Banks
Discount Houses
Microfinance Banks
Finance Companies
Bureaux de change
Nigeria Stock Exchange (NSE)
Primary Mortgage Institutions
Development Finance Institutions
Insurance Companies

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Impact of the Crisis on the Financial Sector of
the Nigerian Economy

The Capital Market

Capital market downturn caused by foreign investors’

divestment and panic sales by local investors

Stock market crash of All-Share Index (ASI) and Market

Capitalization (MC) by 67.2 and 61.7 per cent, respectively,
between April 2008 and March 2009

Reduced capitalization of companies predisposing them to

takeovers

Weak source of financing to listed companies

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 Banking Sector
Limited foreign trade finances for banks drying-up of credit lines for
some banks

Liquidity & Credit crunch in the domestic economy

Tightness in the balance sheet of banks and counter party risks vis-à-vis
external reserves

Higher provision for loss by banks could reduce profitability and lending.

Increase unemployment rate as a result of low profit

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 Banking Sector
Exchange rate exposure
Counterparty exposure
Interest rate spread on the increase
– Prime lending
– 16.08% end 2008
– 18.95% Feb 2009

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 Money Market
Increase in Interest Rate
– As funds dry up, Liquidity squeeze sets in, the financial market, interest rates
resets higher in the money market:

– Higher interest on deposits as investors move from the stock

market
– Higher lending rates to cover risk in economic downturn

Increased demand pressure in the foreign exchange market

Depreciation of the Foreign Exchange rate

– Exchange rate depreciated from N117 to N135 per US dollar as at end of Dec 2008

Wide supply and Demand gaps

High outflows and low inflows of foreign exchange into the economy

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 Exchange Rate (2001-2008)
1
End-Period Exchange Rate (2001-2009 )
N146/$

/$
150.0 21
N1
(US$/N) Rate

140.0
130.0
120.0
110.0
100.0
2001

2003

2005
2002

2004

2006

2007

2008

2009 May
Years

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 Bond Market
Increased preference to use bonds for fund
raising

Increase patronage in fixed income

securities by investors

Higher rates on bonds

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4.0 Nigeria’s Response to
Stabilize the Financial Sector

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Responses by the Monetary Authority
Reduce MPR by 50.0 basis points from 10.25 to 9.75 per cent
and later to 8.0 per cent

Reduce CRR from 4.0 to 2.0 per cent and liquidity ratio from
40.0 to 30.0 per cent currently 25 per cent

Expanded discount window facility from overnight to 360

days, interest rate not exceeding 500 basis point above the
MPR

Buying and selling of securities through the two-way quote by

the CBN
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Responses by the Monetary Authority
Aggressive mop up suspended as monetary authority embraced relaxed
monetary policy.

Adoption of a +or -3 per cent band for exchange rate movement

Reduced banks’ foreign exchange net open position from 20.0 to 10.0 per
and later to 1.0 per cent of shareholders’ funds

Reintroduction of the Retail Dutch Auction System (RDAS)

CBN suspended daily inter-bank foreign exchange market to ward off

speculative attacks on the domestic currency

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Responses the Security and Exchange
Rate Commission.
Five market makers to provide continuous liquidity and stabilize stock
prices,

Strict enforcement of listing requirements with zero tolerance for

infractions

Downward movement of share prices pegged at 1%, upward movement

remains at before it was restored to 5% either way

Recapitalizations of security companies

Reduction in transaction fees

De-listed moribund companies; & released rules on share buy-back with

limit of 15.0%
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Responses by the Federal Government
A Presidential Advisory Team on capital market was set up to
reverse the declining fortunes of the Nigerian capital market

2009 Budget Review:

– Oil price benchmark reduced from US$59.00 to US$45.00 per barrel
– Allocation to state governments reviewed
– Projects prioritized

Economic Management Team mandated to come up with

measures to curb the contagion effect of the global financial
meltdown on the domestic economy

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5.0 The Way Forward

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 The Way Forward

Priority areas for domestic financial

institutions
– Ensure access to liquidity
– Recapitalizing weak but viable institutions
Assessment of the quality of assets and robustness of the funding,
Funding may be from government and private sources
Establishment of viable business plan and risk management process
– Help to reduce uncertainty and public skepticism
– Resolving failed institutions
Orderly closure or mergers
– Identifying and dealing with distressed assets
Establishment of a standardized methodology for the valuation of
illiquid securitized credit instruments
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 Way Forward
Tightening of regulation and supervision
– Keep vigilance on early warning signals through vigorous examinations
– Encourage banks to strengthen and reduce bank specific contingency plans
– Greater coordination between the regulatory and supervisory agencies
– Appropriate corrective actions

Collective action required to reduce overall risk in the banking

system.
– Greater domestic cooperation between regulators
– Greater international cooperation required to avoid the exacerbating cross-
border strains

Need for financial institutions to embrace transparency on

activities and products
– Full and transparent disclosure of impairment in bank’s balance sheet

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 Way Forward
Adoption of the International Financial Reporting
Standards (IFRS)

Review of all relevant laws relating to the financial

sector to strengthen regulatory capacity

Greater emphasis on e-FASS as a tool for banks’

returns analysis for speedy identification of early
warning signals
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 Way Forward Cont.

Capacity Building for Financial System staff professionalism

(Knowledge, skills)

Greater emphasis on enforcement of Code of Corporate

Governance

Introduction of Asset Management Companies (bad banks)

– To clean out the balance sheet of financial institutions

Restoring confidence based on clarity, consistency and

reliability of policy responses

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I Thank You
All For
Listening!

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