The determinants of banking distress / crises: Evidence from Ghana over the period 2015- 2024

By Richmond Akwasi ATUAHENE (Dr)

Abstract

The paper studies the factors associated with the emergence of systemic banking crises in Ghana. The results suggest that crises tend to erupt when the macroeconomic environment is weak, particularly when growth is low and inflation is high.

Also, high real interest rates are clearly associated with systemic banking sector problems, and there is some evidence that vulnerability to balance of payments crises has played a role.

Government arrears to the non-energy sector debt of GHC35 billion and energy sector debt of US$2.3 billion (GHC36 billion) have translated into high non-performing loans that had caused the banking distress or crisis over the past decade.

The findings that the Government and Ministry of Finance must give priority to repaying government arrears that had contributed to NPLs in banks. The Government through Ministry of Finance should ring-fence the existing debt and restructure the debt with definitive repayment structure with payment schedule to enable banks to improve their solvency or CAR. Second, the government must create stable macro-economic environment stable exchange rate, lower inflation, lower interest rate regime and fiscal discipline to ensure a sustainable banking stability.

A strong domestic macroeconomic environment is important for the growth of the banking sector. Essential variables include low and stable inflation, stable and predictable foreign exchange regime, low interest rate, fiscal discipline, stable economic growth, and a sustainable financial stability .

Third, Bank of Ghana must  improve the oversight of the Banking Supervision Department, it should develop the staff capability to assess the universal banking operations, credit risk processes, internal controls and reporting systems of banks and where necessary provide technical assistance. Finally. Universal banks especially the local banks must improve on credit risk management processes and procedures as well as strengthen their loan recovery systems

Ghana’s financial system is dominated by the banking sector. As of December 2024, universal banks account for 75.6 percent of total financial system assets (43 percent of GDP), followed by securities and exchange sector (4.2 percent), the pension sector (15.6 percent) and insurance sector 4.6 percent but while the banking system continues to be the system’s main pillar, growth has moderated in recent years as non-banking institutions are becoming increasingly important.

The banking system comprised of 23 banks, 14 of which (representing almost 60 percent of banking system assets) are at least in part foreign-owned. The total assets of the banking sector had increased from GHC 238.7 billion in 2022 to GHC274.9 billion in 2023 by growth rate 15.2% and increased further to GHC367.8 billion or growth rate of 33.8% at the end-December, 2024. The total deposit in the banking sector has increased from GHC 214.5 billion as at end of December 2023 to GHC276. 2 billion as at end of December,2024. The total advances had grown from GHC77 billion as at end of December, 2023 to GHC 95.7 billion as at end of December, 2024 (Bank of Ghana’s summary of economic and financial data 2022-2024).

Over the period under review, the banking sector made remarkable strides in its development in terms of deposit mobilizations, loans and advances, total assets and profitability in nominal terms. Generally, the financial soundness indicators in nominal terms of the banking industry, measured in terms of earnings, portfolio quality, liquidity, and capital adequacy remained averagely strong but not in real terms due to high inflation that had prevailed in the country over the past decade. However, the Ghanaian banking sector recorded high- non-performing loans to total gross loans over the past decade with 14.7% in 2015, 17.3% in 2016, 21.6% in 2017, 18.2% in 2018, 13.9% in 2019, 14.8% in 2020, 15.1% in 2021, 14.8% in 2022, 20.6% in 2023, 21.8% in 2024 (various BoG reports 2015-2024).

From data it has been   concluded that for an episode of banking distress to be classified as ‘a full- fledged crisis… and of a systemic nature’, that when the ratio of non-performing assets to total assets in the banking system exceeds 10% then that country is in fully-fledged banking crisis (Demirguc-Kunt and Detragiache (1997). The crisis erupted when the macro-economic environment has been weak, when growth was low and inflation very high.

In addition, high real interest were clearly associated with systemic banking sector problems and there were evidence that vulnerability to high non-performing loans played critical role in the country’s banking crisis. In spite of growth of assets over the past decade, other challenges remain to be addressed. Areas needing attention include the following: macro-economic instabilities. high lending rates, low ratio of private sector credit to GDP, low capitalization of some local bank, weak governance structures of local bank, poor business orientation, weak credit risk management practices, insufficient supervision and regulatory forbearances.  Despite progress in extending the range of on-site and off-site supervision, the current level of supervision is still rule-based and requirements under Basel II & III for risk-based supervision are yet to be met.

Ghana’s financial market is increasingly becoming inefficient since the banking sector seems to be struggling to contain the rise in non-performing loans over the 2015 – 2024 period. Empirical literature by Demirguc-Kunt and Detragiache (1997) concluded that for an episode of banking distress to be classified as ‘a full- fledged crisis… and of a systemic nature’, that when the ratio of non-performing assets to total assets in the banking system exceeds 10% then that country is in fully-fledged banking crisis. Ghana has recorded an average non-performing asset ratio of 14.38% over the ten- year period this has affirmed that the Ghanaian banking sector has been in crisis/distress since 2015.

Elevated levels of non-performing loans (NPLs)—loans that had in or close to default—had been a common feature of many banking crises including Ghana. The literature acknowledges that elevated NPLs have impaired bank balance sheets, depressed credit growth, and delayed output recovery. High and rising NPLs ratios have severely limited the ability of banking sector to provide new credit and support the economy. The negative effect of the NPLs on credit to the private sector is observed at both banking system  and individual institution  levels, with local banks that hold large portfolios providing on average fewer loans.

It is therefore not surprising that we saw five indigenous banks in the country which were capital deficient according to the recent release by Dr Addison the Governor of Bank of Ghana which experts attributed to the high levels of their non-performing loans, DDEP and costly nature of GAT scheme which charged 19.1% compounded yearly.

The domestically-owned banks have been further weakened by high non-performing assets, the costly banking sector clean up and the costly nature of implementation of GAT special purpose vehicle which was created to support in recapitalization and have not been able to participate actively in the economic and social transformation agenda. The last straw that broke camel hump has been the Domestic Debt Exchange Program (DDEP) in Ghana negatively impacted local banks by reducing their capital, increasing impairment losses, and making it harder to lend money.

Previous research on the impact of the DDEP on banking institutions in Ghana revealed significant impairment losses, liquidity constraints and solvency risks. The DDEP had weakened the banking sector’s capital and the losses rendered some local banks insolvent. The DDEP led to lower profitability from bond holdings, which made banks more cautious about lending and also made it more difficult for businesses to get loans. The DDEP’s restructuring of domestic debt gave contradictory signals to the market, which harmed investor confidence.  The impact of large domestic debt haircuts to banks holdings of sovereign claims on banks’ capital adequacy and adversely affected their capacity to lend and dampened credit to the private sector and economic activity.

The DDEP impairment losses have technically rendered some Ghanaian locally owned banks insolvent and they would require additional capital support from shareholders. Some of the banking institutions had a bigger capacity to absorb losses as they were well capitalized. From the data three government owned banks, GCB; CBG and ADB suffered from severe net present value (NPV losses) of GHS 5.9 billion (USD 0.496billion), GHS 4.1billion (US$ 0.345 billion) respectively whilst NIB was excluded from DDEP implementation. For the private domestic banks, Fidelity Bank suffered the highest NPV losses of GHS 3.4 billion (USD 0.286 billion), followed by Calbank NPV loss of GHS 3.2 billion (USD 0.269 billion), Prudential Bank NPV loss of GHS1.2 (USD 0.101 billion) billion, UMB GHS 0.75 billion (USD 0.063 billion).

In the DDEP program, some of the banks had the capacity to absorb NPV losses because they were well capitalized while some of privately owned domestic banks and government owned banks could resort to the Ghana Financial Stability Fund (GFSF). State-owned banks other than NIB are also facing financial difficulties, not just from the DDEP but also from longer-standing problems in business models and risk management that have allowed the accumulation of high NPLs.

The failure on the part of Bank of Ghana to address legacy problems in the banking sector and to restore the stability and resilience of the financial system had affected negatively on local banks. While some of the weaknesses in the sector were attributable to macroeconomic factors, a trend of poor corporate governance, poor credit risk management practices, that were not above board, regulatory non-compliance, and poor supervision (questionable regulatory forbearances and weak enforcement) had emerged over the years, leading to a significant build-up of vulnerabilities in the sector in the area of high non-performing loans in the banking industry.

The pivotal role of banks in the development process of the economic system, especially in developing economy like Ghana is vital, considering the fact that they play their traditional intermediation roles in addition to being used as vehicles for achieving developmental and social goals. Onodi et al (2016) and LIwellyn (1986), observed that regulation of banks involves a body of specific rules or agreed behavior either imposed by government or other external agencies or self-imposed by explicit or implicit agreement within the industry that control the scope of activities and business operations of financial institutions.

The adoption of universal banking concept since 2003 had imposed serious challenge in the sense that it had engendered the emergence of financial conglomerates and large banking groups that will require the attention of different regulators/supervisory agencies in the system. The implementation of universal banking thus requires effective supervision, deposit insurance as well as the lender of last resort role of the central bank that had not been the case for universal banking concept. Risk segregation had been another challenge posed by universal banking scheme since the “firewalls” between banking, non-banking financial services rendered are to be collapsed, and this calls for regulatory restrictions on risk taking.

Also, the existing prudential guidelines for banks which place greater emphasis on credit risk, asset classification, income and loss recognition requires a comprehensive review to accommodate other risks to which universal banks had been exposed. The nation’s financial services industry has been characterized by an array of legislation on banking, insurance as well as securities businesses. It becomes imperative to amend/repeal the existing enabling laws in the financial services industry so as to harmonize the procedures for licensing of institutions under the new dispensation. This is necessary to ensure that only those firms (and where appropriate, individuals) which meet specified standards of integrity, financial capacity and competence are permitted to operate in the nation’s financial services industry (Bakare, 2011).

In a nut shell the universal banking regime exposed banking business to greater risks that challenged the stability of the financial system. With the strengthening of Bank of Ghana regulatory and supervisory framework in 2017 by the adoption of the Banks and Specialized Deposit-Taking Institutions Act, 2016 (Act 930) that, among others, increased the BoG’s supervisory powers, introduced the registration requirements for financial holding companies, imposed personal liability for principal officers or directors of a financial institution for non-compliance with regulatory requirements and strengthened provisions for dealing with failing institutions; (ii) a new Capital Requirements Directive (CRD), prepared with the aid of IMF technical assistance, that governs the definition and composition of regulatory capital and prescribes capital adequacy standards for credit risk, operational risk and market risk.

A complementary  Bank of Ghana’s Risk Management Directive laid out more detailed requirements regarding institutions’ risk management frameworks; (iii) various directives (e.g. on corporate governance, fit and proper criteria, cyber risks and IT security and voluntary winding-up) and consultative documents (e.g., on mergers and acquisitions and financial holding companies); and (iv) steady improvements in off-site supervision, supported by IMF technical assistance, that have increased the quality of periodic supervisory analyses and have not contributed to more robust (internal) discussions, of quarterly performance reports of supervised institutions (v) Basel II/III supervisory framework, and ensure implementation of IFRS 9 by banks, and these regulatory and supervisory tools have not been able to address the challenges, legacy issues and distress/crisis in the Ghanaian banking sector over past decade.

Theoritical review of the banking institutions to identify potential sources of systemic banking distress/ crises

Banks are financial intermediaries whose liabilities are mainly short-term deposits and whose assets are usually short and long-term loans to businesses and consumers. Banks are susceptible to a range of risks. These include credit risk and others assets turn bad and ceasing to perform, liquidity risk (withdrawals exceed the available funds) and interest rate risk (rising interest rates reduce the value of bonds held by the bank, and force the bank to pay relatively more on its deposits than it receives on its loans. Bank problems could also be triggered or deepened if a bank faces too many liabilities coming due and does not have enough cash (or other assets that can easily turned into cash) to satisfy those liabilities.

This can happen, for example, if many depositors want to withdraw at the same time (depositor run on the bank). It can happen also if the banks borrowers’ want their money and the bank does not have enough cash at hand. The bank can become ill liquid. It is important to note that under banking crisis, ill liquidity and insolvency are two different things. For example, a bank could be solvent but ill liquid that is it can have enough capital but not enough liquidity on its hands. However, many times, insolvency and ill liquidity come hand in hand.

When the value of their assets falls short of the value of their liabilities, banks are insolvent. The value of a bank’s assets may drop because borrowers become unable or unwilling to service their debt (credit risk). Credit risk can be reduced in various ways, such as screening loan applicants, diversifying the loan portfolio by lending to borrowers who are subject to different risk factors, or asking for collateral. Appropriate screening can ensure that projects that are unprofitable ex ante are not financed; but risky projects that are profitable in an ex- ante sense may still fail ex post. In addition, portfolio diversification is unlikely to eliminate default risk, especially for banks that operate in small countries or regions, or that specialize in lending to a particular sector.

Finally, collateral is costly to establish and monitor, and its value is typically subject to fluctuations. Thus, default risk cannot be eliminated without severely curtailing the role of banks as financial intermediaries.  If loan losses exceed a bank’s compulsory and voluntary reserves as well as its equity cushion, then the bank is insolvent. When a significant portion of the banking system experiences loan losses in excess of its capital, a systemic crisis occurs.

Thus, the theory predicts that shocks that adversely affect the economic performance of bank borrowers and whose impact cannot be reduced through risk diversification should be positively correlated with systemic banking crises. Furthermore, for given shocks banking systems that are less capitalised should be more vulnerable. The shocks associated with episodes of banking sector problems highlighted by the literature include cyclical output downturns, terms of trade deteriorations, declines in asset prices such as equity and real estate (Gorton, 1988, Caprio and Klingebiel, 1996, Lindgren et al., 1996, Kaminsky and Reinhart, 1996)

Even in the absence of an increase in nonperforming loans, bank balance sheets can deteriorate if the rate of return on bank assets falls short of the rate that must be paid on liabilities. Perhaps the most common example of this type of problem is an increase in short-term interest rates that forces banks to increase the interest rate paid to depositors. Because the asset side of bank balance sheets usually consists of long-term loans at fixed interest rates, the rate of return on assets cannot be adjusted quickly enough, and banks must suffer reduced profits or bear losses.

All banks within a country are likely to be exposed to some degree of interest rate risk because maturity transformation is one of the typical functions of the banking system; furthermore, high real interest rates are likely to hurt bank balance sheets even if they can be passed on to borrowers, as high lending rates result in a larger fraction of nonperforming loans.

Thus, a large increase in short-term interest rates is likely to be a major source of systemic banking sector problems. In turn, the increase in short-term interest rates may be due to various factors, such as an increase in the rate of inflation, a shift towards more restrictive monetary policy that raises real rates, an increase in international interest rates, the removal of interest rate controls due to financial liberalization.

Another case of rate of return mismatch occurs when banks borrow in foreign currency and lend in domestic currency. In this case, an unexpected depreciation of the domestic currency threatens bank profitability. Many countries have regulations limiting banks’ open foreign currency positions, but sometimes such regulations can be circumvented (Garber, 1996).

Also, banks that raise funds abroad may choose to issue domestic loans denominated in foreign currency, thus eliminating the open position. In this case, foreign exchange risk is shifted onto the borrowers, and an unexpected devaluation would still affect bank profitability negatively through an increase in nonperforming loans. Foreign currency loans were a source of banking problems in Chile in 1981 (Akerlof and Romer, 1993), in Mexico in 1995 (Mishkin, 1996), in the Nordic countries in the early 1990s (Drees and Pazarbasioglu, 1995, Mishkin, 1996), and in Turkey in 1994

When there is a major decline in asset value (high non-performing loans), depositors and other banks’ borrowers often start feeling uneasy and demand their funds thereby deepening the bank’s troubles. A (systemic) banking crisis occurs when many banks in the country are in serious solvency or liquidity problems at the same time-either because there are hit by same external shocks or because failure in one bank or a group of banks spread to the other banks in the system.

More specifically, a systemic banking crisis in a situation when a country’s corporate and financial sectors experience a large number of defaults where financial institutions and corporations face great difficulties repaying contracts on time. As a result, non-performing loans increase sharply and all or most of the aggregate banking system capital is exhausted.

This situation may be accompanied by depressed asset price (such as equity and real estate prices) on the heels of run-ups before the crisis, sharp increases in real interest rates and slow down or reversal in capital flows. Systemic banking crisis could be very damaging as they tend to lead the affected economies into deeper recessions and sharp current reversals. Some banking crises turned out to be contagious, rapidly spreading to other countries with no apparent vulnerabilities.

Among the many causes of banking crises have been unsustainable macroeconomic policies (including large current account deficits and unsustainable public debt), excessive credit booms, high non-performing loans, large capital inflows, and balance sheet fragilities, combined with policy paralysis due to a variety of political and economic constraints. In many banking crises, currency and maturity mismatches were a salient feature, while in others off-balance sheet operations of the banking sector were prominent. Caprio and Klingebiel (1996) first compiled a global database of banking crises.

The latest version of the database, updated to reflect the recent global financial crisis, is available as Laeven and Valencia (2012). It identifies 147 systemic banking crises (of which 13 are borderline events) from 1970 to 2011. It also reports on 218 currency crises (defined as nominal depreciation of the currency vis-à-vis the U.S. dollar of at least 30 percent that is also at least 10 percentage points higher than the rate of depreciation in the year before) and 66 sovereign debt crises (defined by government defaulting on its debt to private creditors) over the same period.

The database has detailed information about the policy responses to resolve crises in different countries. Analyses based on the dataset, such as Cihák and Schaeck (2010) suggest that consistently predicting banking crises is very difficult, but there are some variables (such as those capturing high leverage and rapid credit growth) that indicate increased likelihood of a crisis.

Studies on banking sector crises have also highlighted out the general behaviour of some macroeconomic and financial sector indicators before, during and after a banking crisis. Garcia-Herrero (1997) found that monetary and credit aggregates become more unstable during a crisis, depending on the number of banks affected and their share of total deposits; income velocity usually tends to fall before a banking crisis and increase afterwards though not to previous levels.

When bank deposits are not insured, a deterioration in the quality of a bank’s asset portfolio may trigger a run, as depositors rush to withdraw their funds before the bank declares bankruptcy. Because bank assets are typically illiquid, runs on deposits accelerate the onset of insolvency. In fact, as Diamond and Dybvig (1983) have shown, bank runs may be self-fulfilling, i.e. they may take place simply because depositors believe that other depositors are withdrawing their funds even in the absence of an initial deterioration of the bank’s balance sheet.

The possibility of self-fulfilling runs makes banks especially vulnerable financial institutions. A run on an individual bank should not threaten the banking system as a whole unless partially informed depositors take it as a signal that other banks are also at risk (contagion). In these circumstances, bank runs turn into a banking panic

In countries in which the banking sector is liberalized but bank supervision is weak and legal remedies against fraud are easy to circumvent, banking crises may also be caused by widespread “looting”: bank managers not only may invest in projects that are too risky, but they may invest in projects that are sure failures but from which they can divert money for personal use.

Akerlof and Romer (1993) claim that looting behavior was at the core of the savings and loan crisis in the United States and of the Chilean banking crisis of the late 1970s. Thus, a weak legal system that allows fraud to go unpunished should increase the probability of a banking crisis. Banking sector problems may also follow successful stabilization in countries with a history of high inflation; as shown by English (1996), chronic high inflation tends to be associated with an overblown financial sector, as financial intermediaries profit from the float on payments. When inflation is drastically reduced, banks see one of their main sources of revenue disappear, and generalized banking problems may follow.

Demirguc-Kunt and Detragiache (1997) argue that banking crises tend to erupt when the macroeconomic environment is weak, particularly when growth is low and inflation is high. Ghana’s conditions between 2015 and 2023 showed negative real GDP growth, poor terms of trade, negative real interest rates, high inflation, persistent depreciation of the local currency, negative fiscal deficits, a low private sector credit to GDP ratio and poor loans recovery by some banks.

After reviewing several studies on worldwide episodes of banking distress and banking crisis, Demirguc-Kunt and Detragiache (1997) concluded that for an episode of banking distress to be classified as ‘a full- fledged crisis… and of a systemic nature’, at least one of the following four conditions had to hold: i) the ratio of non-performing assets to total assets in the banking system exceeded 10%. ii) The cost of the rescue operation was at least 2% of GDP. iii) Banking sector problems resulted in large-scale nationalization of banks. iv)  extensive bank runs took place or emergency measures such as deposit freezes, prolonged bank holidays, or generalized deposit guarantees were enacted by the government in response to the crisis. Demirguc-Kunt and Detragiache (1997) argue that banking crises tend to erupt when the macroeconomic environment is weak, particularly when growth is low and inflation is high.

The banking distress or crisis situation was also assessed in the light of the magnitudes of the ratio of non-performing assets/total assets, and the cost of the rescue operation as a percentage of GDP. This paper identifies factors that contribute to banking crises, such as high non-performing loans, high inflation, slow GDP growth, and high real interest rates. It also suggests that a high share of credit to the private sector and vulnerability to capital outflows may increase the likelihood of a crisis.

Methodology

The systematic literature reviews on non-performing loans and macro-economic, and banks specific and industry factors of the Ghanaian banking sector over the period 2015-2024 were conducted using a range of related literatures and additional sources from Bank of Ghana, IMF country reports such as academic research and textbooks. To do a literature review and draw a judgment (Taswan et al., 2023).

The banking crisis variables

A key element in our study is the construction of the banking crisis dummy variable. To do it, we have identified and dated episodes of banking sector distress during the period 1980-97 using primarily six recent studies: Ash Demirguc-Kunt and Enrica Detragiache (1997) Caprio and Klingebiel (1996), Drees and Pazarbasioglu (1995), Kaminsky and Reinhart (1996), Lindgren et al. (1996), and Sheng (1995). Taken together, these studies form a comprehensive survey of banking sector fragility around the world; from our perspective, it was important to distinguish between fragility in general and crises in particular, and between localized crises and systemic crises. To this end, we established—somewhat arbitrarily—that for an episode of distress to be classified as a full-fledged crisis in our panel at least one of the following four conditions had to hold:

1. The ratio of non-performing assets to total assets in the banking system exceeded 10 percent;
2. The cost of the rescue operation was at least 2 percent of GDP;
3. Banking sector problems resulted in a large-scale nationalization of banks;
4. Extensive bank runs took place or the government in response to the crisis enacted emergency measures such as deposit freezes, prolonged bank holidays, or generalized deposit guarantees

Discussions and findings of the banking sector crisis or distress in Ghana over the past decade

A detailed review conducted by Salman & Financial Consult (2024) has recently unearthed a number of weaknesses that existed in the banking sector, some dating back to 2015 to 2024 clearly showed that the country’s the ratio of nonperforming assets to total assets in the banking system exceeded 10 percent over the past decade.  Among other things, the sector was plagued with macro-economic instabilities, high non-performing ratios, solvency challenges, poor corporate governance practices, weak credit risk management practices, liquidity challenges, and regulatory and supervisory failures.

The country has experienced low GDP growth, excessively high real interest rates, and persistent depreciation of local currency and high inflation that significantly increased the likelihood of systemic problems in the banking sector.  A weak macroeconomic environment, however, is not the sole factor behind systemic banking sector problems but other factors like government arrears due road contractors and energy sector over the past decade

Furthermore, the banking sector clean up in 2018, the formation of the GAT to support four local banks and DDEP in 2022 and 2023 had also contributed to the dismal performance of the private domestic and state- owned banks. The above legacy issues had threatened both the resilience and stability of the banking sector. Ghanaian banking crisis by referring to the study by Demirguc and Detragiache (1997) we assessed the extent of the banking sector problems. Non-performing assets in the banking sector in 2015-2024 were estimated averagely 14. .29% of banking sector assets for the period 2015-2024 which is above the globally accept levels of 10%.

First, the Ghanaian banking sector has recorded high- non-performing loans to total gross loans over the past decade with 14.7% in 2015, 17.3% in2016, 21.6% in 2017, 18.2% in 2018, 13.9% in 2019, 14.8% in 2020, 15.1% in 2021, 14.8% in 2022, 20.6% in 2023, 21.8% in 2024 (Various Bank of Ghana reports 2015-2024). Empirical literature on distress and banking crisis, by Demirguc-Kunt and Detragiache (1997) concluded that for an episode of banking distress to be classified as ‘a full- fledged crisis… and of a systemic nature’, when the ratio of non-performing assets to total assets in the banking system exceeded 10%. The Ghanaian banking sector has averagely recorded 14.29   % over the period under review exceeding the 10% globally accepted practices that making the banking sector as ‘a fully- fledged crisis or distress.

Furthermore, the high non-performing loans had threatened the solvency of the local banks. The solvency of most banks was threatened by poor asset quality, leading to significant impairments of capital. Studies conducted by Atuahene (2024) opined that the non-performing assets of the banking industry showed that as of April 2015 to 2024, some banks had impaired capital leading to capital erosion below the required regulatory levels. Consequently, such banks lacked sufficient capital to support the risks inherent in their asset base, and had no capital buffers to withstand further losses that could arise from external shocks.

Elevated levels of non-performing loans (NPLs)—loans that are in or close to default—are a common feature of many banking crises.  The literature acknowledges that elevated NPLs impair bank balance sheets, depress credit growth, and delay output recovery (Aiyar et al., 2015; Kalemli-Ozcan, Laeven, and Moreno, 2015, IMF 2016). Weaknesses in loan origination and credit risk management have exposed banks to elevated credit risks, as also illustrated by elevated NPL ratio of 21.8% as at the end of December, 2024.

Most of the Ghanaian banks especially the private domestic banks including the state -owned banks have been saddled with non-performing loans (NPLs) over the past decade, meaning that they were not able to recover loans they have provided to their customers who have undertaken government contracts over the years. This affected the ability of banks do not generate income to operate their businesses. It also led to losses which eroded their capital base further.

According to Bank of Ghana annual reports 2015-2024) showed that the non-performing loan ratio stood at 14% at the end December, 2015 but increased to 16.20% at the December, 2022 but deteriorated to 20.6% at the end December2023 but deteriorated significantly to 21.8% as the end December 2024. Non-performing loans (NPLs) have increased significantly since 2014, mainly due to poor supervision and governance, aggressive lending and weak credit risk management, loose credit underwriting policies, high exposure to both energy and non-energy sectors and lax credit controls. The situation has worsened with the prolonged economic downturn pushing highly leveraged borrowers into financial difficulties and leading to a large number of defaults.

A high volume of NPLs had caused a significant drag on a bank’s performance in the form of:• reduction in net interest income;• increase in impairments costs; • additional capital requirement for high-risk weighted assets; • lower ratings and increased cost of funding, adversely affecting equity valuations;• reduced risk appetite for new lending; and • additional management time and servicing costs to resolve the problem. Deterioration in the quality of financial assets have severely weaken the soundness of financial institutions (e.g., by raising questions about their solvency) and distract them from their primary function as financial intermediaries.

According to IMF country report noted that in 2017 additional arrears of GHC 1,048 million were accumulated in 2016, bringing the total arrears recognized under the program to GHC 3.2 billion, all of which had to be cleared in 2017 but according to IMF country report (24/30/2024) arrears due to non-energy sector stood at GHC35 billion or 5.8% of GDP and energy sector debt stood at US$ 2.3 billion which had all translated into the higher non-performing assets in the banking sector.

NPLs had weakened a local bank’s balance sheet, making it harder to lend money. The high NPLs have reduced the amount of credit available to businesses and consumers, and slowed down economic growth.  NPLs had caused cash flow problems for banks because they are no longer earning income from those loans. The high NPLs had increased the cost of borrowing for businesses and consumers. Finally, after reviewing several studies on worldwide episodes of banking distress and banking crisis, Demirguc-Kunt and Detragiache (1997) concluded that for an episode of banking distress to be classified as ‘a full-fledged crisis… and of a systemic nature’, as the ratio of non-performing assets to total assets in the banking system exceeded 10%.

From the review of the non-performing assets to the total assets ratio averagely 14.38% over the period between 2015 -2024 the Ghanaian banking sector could be described as in full-fledged crisis. Over the same period, however, the rise in NPLs outpaced nominal credit growth and the NPL ratio increased to 24.1 percent at end-June 2024 (18.8 percent at end-June 2023) but declined marginally to 21.8% at end-December, 2024. While NPLs are heterogeneously distributed across banks, the underlying trends reflect the 2022 economic downturn, the impact of exchange rate volatility, and protracted government arrears to both the non-energy and energy sectors.

The high NPLs could delay recovery from banking crises. The large share of loans classified as ‘loss’ in system-wide NPLs points to banks’ inability to effectively recover distressed loans—partly due to weaknesses in the legislative and institutional framework for insolvency and creditor rights. From the above analysis one could deduced that the banking sector is in fully fledged crisis and of a systemic nature (Demirguc-Kunt &Detriagiache, 1997).  Literature shows that a rapid build-up of NPLs is one of the basic causes of banking crises (Amin et al, 2019; Ashraf and Butt 2019; Khan et al 2020)

Second, macro-economic instabilities in terms of persistent currency depreciation and high inflation had impacted negatively on banking business over the past decade

For the past decade Ghana’s economy has been characterized by large budget deficits, inflation, higher interest rates, depreciation of the local currency and low economic growth. The primary effects of the negative macroeconomic environment included: negative economic expectations and reduced demand for long-term financing given the lack of and uncertainty surrounding growth opportunities; relatively low level of overall savings and investment and the short time horizon of savers and investors; and increased default of businesses and individuals due to economic hardships.

High inflation and rapid currency depreciation over the years had impacted negatively on banks’ capital over the past decade. The Bank of Ghana announced a new minimum capital requirement in 2017. This was necessary to align banks’ capital base more closely with macroeconomic realities. High inflation and rapid currency depreciation over the years (cumulative depreciation of the cedi by 51.8 per cent between end-December 2013 and end-April 2018) meant that in dollar terms, the 2007 and 2013 minimum capital requirements of GHS60 million (USD 61.8 million at end-December 2007) and GHS120 million (USD56.4 million at the time) had depreciated in value to USD13.6 million and USD 27.2 million respectively, as at end-April 2018. The Bank of Ghana issued a Minimum Capital Requirement Directive in September 2017, increasing the minimum capital requirement for all banks to GHS400 million from GH¢120 million.

At end – December, 2020, the minimum capital of GHC 400 million was equivalent of (USD 69.4 million). Using the Cedis to the Dollar exchange rate of GHS/USD 5.5 in 2019; GHS/USD 5.8 in 2020; GHS/USD 6.0 in 2021; GHS/USD 8.6 in 2022; and GHS/USD 11.9 in 2023, showed rapid depreciation of the local currency to the dollar (BoG 2023). By the -of end -December, 2021 the GHC400 million was equivalent to USD66.4 million.

By the end of December 2022, the equivalent stood at USD46.5 million and by the end of December 2023 the Cedi capital of GHC400 million was just equivalent to US$ 33.9 million and by 31/12/2024 the Cedi capital of GHC400 million was only equivalent to US$ 25.4 million. Capital inadequacy and high non-performing Loans had threatened the resilience and stability of the banking sector over the period 2019-2022.

While at the industry level capital adequacy remains relatively adequate and above the minimum requirements, pockets of capital inadequacy remain below the minimum requirements in a number of banks, exposing the industry to vulnerabilities. The key drivers of the capital inadequacy are high non-performing loans, energy debt and government non-payment arrears to road contractors.

The persistent energy debt has impacted negatively on non-performing loans in the banking sector. A large proportion of the energy sector’s debt is owed to the banks. High interest rates and risk premium and asset repricing amid economic slowdowns and political uncertainty (e.g., from elections) trigger market dislocations, with cross- border spillovers and an adverse macro-financial feedback loop affecting weak banks and NBFIs The problems of poor loan quality by the local banks were compounded by macro-economic instabilities in the country over the past decade.

Periods of high inflation occurred the country. During the 2022, inflation reached 54% but has declined to 23.8% in December, 2024. With interest rates liberalized, nominal lending rates have been high, with real rates fluctuating between positive and negative levels, often in an unpredictable manner, because of volatility of inflation (Collier, 1993). Macro- economic instability would have had two important consequences on the loan quality of the banks including local banks.

First, high inflation increases the volatility of business profits because of its unpredictability and because it normally entails a high degree of variability in rates of increases of price of the particular goods and services which make up the overall price index. The second consequence of high inflation in Ghana is that it makes credit appraisal more difficult for the banks, because the viability of potential borrowers depends upon unpredictable developments in the overall rate of inflation, its individual components, exchange rates and interest rates.

Third, Ghana’s high public debt and its subsequent domestic debt restructuring impacted on non-performing loans in the banking sector. We also consider pre-crisis government-debt-to-GDP ratio. Higher public debt may be associated with higher NPLs and longer NPL stabilization and resolution time, for two reasons. First, high public debt reduces the government’s fiscal space, limiting its ability it to cushion the fallout from the banking crisis fiscally. Second, high public debt may induce a sovereign-bank nexus where banks increase their domestic sovereign bond purchases due to government pressure or in a gamble for resurrection, thereby crowding out new credit to the private sector (Acharya et al. 2018; Ari, 2017)

Fourth, implementation of the Bank of Ghana’s banking sector road-map in 2017-2018 met additional challenges in subsequent years that has contributed in no small way to current crisis.  Onsite inspections conducted by the Bank of Ghana in late 2017 and early 2018 highlighted further under-provisioning in some institutions, and in turn triggered the appointment of an official administrator at UniBank (one of Ghana’s largest banks). By early July, it had become clear that prudential reports for UniBank were largely inaccurate and that the bank was, in fact, insolvent. Given the absence of credible rehabilitation prospects, the BoG decided to resolve the bank in August 2018, together with four other smaller troubled banks.

The Bank of Ghana has also approved a Purchase and Assumption Agreement between Consolidated Bank and the Receiver for the five banks. Under the Agreement, Consolidated Bank has acquired all deposits and other specified liabilities, and good assets of the five banks. To finance the gap between the liabilities and good assets assumed by Consolidated Bank, the Government has issued a bond of up to GH¢ 5.76 billion.

A state-owned bridge bank, Consolidated Bank Ghana, was created to receive good assets and liabilities of the resolved banks, with the government (again) covering the gap between assets and liabilities by providing the bridge bank with special resolution bonds. In January 2019, two more banks were closed via similar operations, supported by another tranche of resolution bonds. The Government plans to privatize the bridge in the medium term. This situation warranted the financial sector clean-up in 2018-2019, estimated to have cost the country GHS 25 billion (USD 4.76 billion) or 7.1 of the GDP. The cost of the banking sector was estimated to have cost GHS21billion or 6.8% of the GDP.

However, according IMF country report on banking sector clean cost GHC 10.3 billion in 2018 or 3.4% of the GDP whilst the cost stood at GHC1.5 billion or 0.4% of the GDP.  Detailed analysis showed that financial sector costs GHC10.3 billion made up of the resolution of UT Bank and Capital Bank GHC 2.2 billion whilst the resolution of UniBank, Royal Bank and three others stood at GHC7.6 billion.

The equity injection of bridge bank (CBG) stood at GHC .5 million in 2018. In 2019 the resolution Premium Bank and Heritage Bank cost GHC1.5 billion or 0.4% of GDP. However, there is a huge financial gap between the IMF figure of GHC 12.3 billion and MOF figure of GHC 21 billion in the banking clean up exercise in 2018 and 2019 thus leaving difference of GHC 8.7 billion.  One issue that has been devilled the country’s banking sector crisis had been the discrepancies in the cost of sector clean up in 2017 – 2019.

According to Ministry of Finance Document GH-MOF-FSD-315018-CS-INDV) dated 22/09/2022, the Government of Ghana spent GHȻ18.99 billion (5.49% of GDP) to fund the repayment of the deposits of affected depositors’ including the establishment of a bridge bank (Consolidated Bank Ghana Limited) whilst according to IMF Country Report No. (19/97/2019) the government spent GHC15.75 billion in the banking sector cleaning up in 2017-2019 (5% of GDP).

However, President Akuffo Addo’s in delivering his final ‘State of the Nation’ address to the 7th Parliament, he said “an amount of GH¢21 billion (7.1% of GDP) was used to fund the cleaning up exercise. These are painful lessons we all have to imbibe” The Bank of Ghana embarked on a banking sector clean-up, recapitalization, and other regulatory reforms from mid-2017 to end-December 2018 in line with its mandate to promote the safety, soundness, and stability of the financial system to support economic growth.

There are major inconsistencies in amount of funds supposed to have used up in the banking sector clean up exercises in 2017 and 2018. Apart from the huge sums of money used in the banking sector cleaning up exercises there still remained unpaid funds to GN Bank’s customers. The recent clean-up of the banking sector has been described by World Bank 8^th Economic Up-date (2024) as expensive exercises.

Fifth, the GAT (SPV) has become albatross on the three domestic banks that participate in the scheme because of how the capital was structured. MOF created Ghana Amalgamated Trust (SPV) in support of raising capital for 4 local banks in 2017 (UMB; PRUDENTIAL BANK; ADB AND BISIC.OMINIBANK).

However, later Bisic/Ominibank exited from the GAT Scheme. During 2017, the BoG conducted an analysis of banks and specialized deposit institutions that warranted prompt intervention to protect depositors and enable the sector to contribute to financial sector development and inclusion. Banks and SDIs’ internal controls and risk management practices had not kept pace with the industry’s growth and changing risks. The banking sector was faced with many challenges. Bank of Ghana inherited a financial system which was under a considerable state of distress, with banks that were not meeting the capital adequacy requirement and others whose capital was eroded with high non-performing loans.

Some of these banks were insolvent and ill-liquid, others were solvent but ill-liquid. This state of affairs was largely a result of poor corporate governance, false financial reporting, and insider dealings. (BOG 2018). This situation warranted the financial sector clean-up in 2018-2019, estimated to have cost the country GHS 21 billion (USD 4.76 billion) or 7.1 of the GDP. In addition, the Ministry of Finance   created a special purpose vehicle (SPV) named Ghana Amalgamated Trust to support 4 local banks with funds at a compounded rate of 19.1%. It is primarily set up to raise funds to recapitalize selected Ghanaian banks that needed assistance to meet the new minimum capital requirements of the Bank of Ghana and to help transform these banks to become more competitive in the industry.

Moreover, a small number of banks, including a large state-owned bank, continue to faces shortfalls as the operationalization of Ghana Amalgamated Trust (GAT), the government’s special purpose vehicle that is seeking to mobilize private sector funds to support indigenous banks. Ongoing recapitalizations of several locally-owned banks via Ghana Amalgamated Trust, a special purpose vehicle established by the Ministry of Finance in January 2018 to provide equity support to indigenous institutions, are expected to further increase government ownership in the banking sector.

GAT has committed funds from pension funds and other investors, through a bond program, with proceeds of up to GHS2.0 billion (USD 0.363 billion) to be used for equity investment in the eligible Ghanaian banks, as determined by the investors. The bonds issued to the Pension Funds will be listed on the Ghana Fixed Income Market (GFIM) for liquidity purposes.

The following banks are the beneficiaries of the GAT program: Agricultural Development Bank (ADB), National Investment Bank (NIB), OmniBank Ghana Limited / Bank Sahel Sahara Ghana (OmniBank / BSIC), Universal Merchant Bank (UMB) and Prudential Bank. The high cost of funds to the local banks at 19.1% compounded rate of interest seemed to stifle the banking business

Identified Gap in GAT Issues

1. Analysis of the 2023 financial statements for three banks, Prudential Bank, UMB and Agriculture Development Bank clearly showed that these banks are all financial distressed. The cost of capital provided seemed to be unreasonably too high at 19.1% at compound rate on year to year compared to the Post DDEP Government bonds with the coupon rate of 9%. A funding strategy is being put in place for the outstanding bank. For example, the bank that secured GHS 243 million (USD 44.181 million) at a compounded interest rate of 19.1% excluding the management fees. The compounded interest rate of 19.1% on GHS 243 million year on year basis by end the of December, 2020 to end- December, 2023 had translated into outstanding unpaid Tier 2 capital of GHS490 million (USD 41.24million) to further increase to GHS531million (USD 37.210 million) by 30/6/2024. The outstanding unpaid capital for the banks had negatively impacted on their banking businesses. Existing shareholders may lose their banks if they are unable to buy GAT out from the scheme. OMNI/BSIC has exited from the GAT scheme since
2. Private Pension Fund through GAT holds majority shares in Prudential Bank, UMB and ADB dealing domestic systemically banks could increase risk in the financial sector. Failure or collapse of any bank could have serious and negative effects on peoples’ pensions. The size, interconnectedness and complexity of three domestic banks are critical component of the Ghanaian banking sector.
3. In a highly interconnected system, as agents typically fail to take account of the effects of their actions on others, the potential for systemic risk rises. Analysis of the GAT interconnectedness between the banking and pension sectors in the financial system is essential to understand the relations between them and the possible transmission channels for the risks generated in each sector. The failure of the GAT scheme could negatively impact both the banking and pension sectors as well as individual Tier 2 pension schemes. However, at times of crisis, it may also contribute to propagating stress through the system.

Fifth, poor corporate governance practices still prevail in the banking sector despites bank of Ghana’s corporate governance and fit and proper persons directives in 2018 and 2019 respectively

Poor corporate governance was one of the major causes of Ghana’s banking

crises. Many researchers such as Aboagye and Otieku (2010) and Nathan and Ribiere (2007) asserts that poor corporate governance plays a role in causing distress and destabilization of a country’s banking system during crises. Wheelock (1998) in his research, asserts that boards of banks that were affected by bank crises and their senior managerial team shown certain deficiencies such as inexperience, poor judgment and lack of integrity.

Graham and Homer (1988) had also asserted earlier that about 60% of banking crises were caused by poor decisions by the boards of director usually springing from lack of experience and from uninformed decisions. Jayaraman et al (2010) attributes the deficiencies in the knowledge of the boards of some banks to the internal culture of the bank where essential information is not promptly provided to them.

In the banking sector, proper governance is vital for improvement of company performance, attraction of investors’ and numerous more benefits. Whistle blowing and business ethics which can be encouraged through moral corporate governance, would undoubtedly lead to reduction in fraud in money deposit banks. Unfortunately, a substantial number of Ghanaian banks especially the state -owned banks lack moral corporate governance practices. The corporate governance directive in 2018 for banks has not sufficiently minimize bank distress.

But do banks adhere to this? Most of the banks do not actually adhere to corporate governance practice and there is need for them to see this as a serious challenge facing the sector. To function more effectively and efficiently banks should embrace the corporate governance issue as soon as possible. Corporate governance practices in some local banks do not comply with both Bank of Ghana’s corporate governance and fit and proper persons directives.

Sixth, IMF Country Report No. 24/334/2024 posited that the recapitalization of banks is progressing, but credit risks have increased; (High and Rising NPLs)

Banking sector’s overall capital adequacy indicators have improved between December 2023 and June 2024. About two-thirds of banks are now compliant with prudential capital adequacy standards without reliefs based on higher profits and capital injections—including from the Ghana Financial Stability Fund (GFSF) (GHS 4.9 billion) and private stakeholders.

Over the same period, however, the rise in NPLs outpaced nominal credit growth and the NPL ratio increased to 24.1 percent at end-June 2024 (18.8 percent at end-June 2023) but improved marginally to 21.8% at the end of December,2024. While NPLs are heterogeneously distributed across banks, the underlying trends reflect the 2022 economic downturn, the impact of exchange rate volatility, and non-payment of arrears due to the energy and non-energy sectors. The high non-performing assets could derail the recapitalization program of local banks.

Fitch Rating has recently upgraded its outlook for the Ghanaian banking sector, citing improved solvency and more stable operating environment but remained silent on the high non-performing assets which could threaten solvency and stability. On stable environment, Ghana has been battling high inflation than nearby countries as well as persistent depreciation of the local currency against the major trading currencies which could be described as harsh and unfriendly business environment.

Seventh, insolvency of five banks had been the caused for concern for the banking sector.

A few banks faced solvency challenges – meaning that they had more liabilities than assets with which to operate their businesses. This posed a significant risk to depositors’ funds which were being held by these banks, and indeed, to the financial system as a whole, as banks are part of the wider financial system. The level of capital of most banks was inadequate to maintain their businesses, let alone provide a cushion against any unforeseen problems they could face.

The low capital base of many banks also meant that they could not fund many big transactions in the economy without breaching regulatory limits. According to IMF Country Report No. 24/334/2024 reported that between November 2023 and August 2024, the GFSF has supported 11 financial institutions with GHS4.9 billion in recapitalization bonds in four state-interest and private indigenous banks, GHS0.3 billion in three state-interest and one private indigenous insurance companies, and GHS0.2 billion in long-term secured debt to four private CMOs

Eighth, the Government and Ministry of Finance must work towards strengthening BoG’s balance sheet.

The MoF and the BoG are working on an MoU to plan for gradual recapitalization of the central bank to help it recover from the impact of the domestic debt restructuring. This will be done while respecting the fiscal commitments and debt targets under the program. Options to ensure consistency with the Fund-supported program parameters include recapitalization via budgetary or asset transfers, suspension of profit transfers, and/or use of any buffers that could be generated in program implementation. To strengthen the recovery of its net equity over time.

Ninth, The Ministry of Finance and Bank of Ghana must take steps to address the recurring financial problems at the state-owned banks.

State-owned banks other than NIB and ADB are also facing financial difficulties, not just from the DDE but also from longer-standing problems in business models, corporate governance practices and risk management that have allowed the accumulation of high NPLs. The government and MoF conduct a diagnostic review of such challenges—covering business models, governance, risk management, and legal framework—and devise a strategy to reform this sector (end-April 2025).

In the meantime, the strong measures adopted to address NIB’s challenges will serve as a guide to strengthen other key public banks. Along with the GFSF’s substantial capital injection in ADB, the BoG will launch a special review of that bank’s operations to inform the design and implementation of a restructuring strategy by end-May 2025. The findings of this review will also inform the reform strategy for state-owned banks. The BoG has announced its intention to divest its share ownership in ADB (IMF Country Report No. 24/334/2024)

Tenth, supervisory failure has taken the form of forbearance in the case of National Investment Bank—an adjustment in the interpretation of rules to accommodate problem banks or failure to act in a timely manner to prevent or address unsound banking.

Supervisors did not have the ability to act independently, because of inadequate organizational structure or direct political interference. Where the political will to enforce regulations and supervisory standards is missing, supervision is unlikely to succeed in keeping the banking system sound.   Supervisor has been subject to regulatory capture, a process in which the supervisor identifies more closely with the banking industry than with the public interest, and may see his role as protecting rather than disciplining, the banking industry.

The case in question of suspension of Taptap send regulatory breaches in inward remittance space where one Bank (CBG) was publicly sanctioned under Section 3 (1) of Foreign Exchange Act 2006 Act 723 whilst three other global banks were sanctioned but the names of three banks were withheld from the public. Furthermore, supervisory accountability may be lacking, particularly when supervision is part of a bureaucracy in which responsibility for taking tough decisions is not clearly allocated. In addition, political interference may prevent intervention in a bank like National Investment Bank.

A common reaction to the emergence of banking distress is for Bank of Ghana adopted a “wait-and-see” attitude for more than five years, hoping that the difficulties are temporary, that no serious threat to the financial system is posed, and that any problems will either resolve themselves or remain submerged until after someone else takes office.

This can occur where supervisory systems are not sufficiently independent or are underfunded and lack qualified staff; consequently, authorities are wary of taking potentially controversial decisions. Forbearance, delay, or cover-up may be abetted by ambiguous assignment of responsibility and a lack of accountability. It can also occur in well-developed systems where authorities have become more concerned about their reputation for overseeing a system with no visible difficulties than about resolving banking problems. Deposit insurance may further exacerbate the problem by removing pressure from depositors as a potential spur to action.

Lastly, Bank of Ghana is the main regulator of the Ghanaian banking system. It has been tasked with the prescribed laws, regulations, rules and directives to regulate and supervise the banking sector. The build -up of the vulnerabilities that had led to unprecedented high non-performing assets in the banking sector over the past decade. Regulatory lapses on the part of Bank of Ghana’s inability to deal decisively with high non-performing assets ratio that had persisted in the banking industry over the past decade.

Non-compliance and poor supervision with regards to loan provisioning and treatment and weak enforcement of the policies of the Central Bank had resulted in high performing assets ratios over the past decade.  Bank of Ghana’s failure to prevent the banking sector financial train wreck of 2015-2024 was because the regulator adopted a light touch approach to the regulation and treatment of high non-performing assets ratios that had prevailed the banking sector for the past decade. Regulations had failed by being too lax, too intrusive, poorly designed, or inadequately implemented.

Where regulations are insufficiently strict or comprehensive, the solution is clear. Correcting a situation of regulatory capture, which occurs when regulators or legislators are balancing interest, is likely to be difficult, but here too the prescription is clear. On the other hand, banking regulations may also be too intrusive, raising the cost of compliance and reducing bank efficiency and the scope for innovation. Bank behavior is often dictated by regulations that are more quasi-fiscal than prudential. Uneven supervision and inadequate enforcement also played a significant role in exacerbating the problems associated with the high non-performing loan in the banking sector over the past decade. Regulators were ineffective in foreseeing and supervising the massive changes in the industry or in eliminating the pervasive corporate governance failures.

Conclusion

The assessment of the health of the banking sector had identified the following gaps, macro-economic instabilities on banks’ capital, capital inadequacy and high non-performing Loans; energy debt; non- payment of contractors’ arrears by the Government and on the banking sector, and regulatory lapses. This reveals that the sector needs to adjust to the rapid economic shocks which continues to reduce the size and quality of capital that is needed to absorb any continued unexpected losses.

The financial market conditions need to improve to allow for liquidity in the fixed-income and related bond markets.  The effectiveness of the various components of the financial infrastructure will depend largely on the speed at which the institutions are recapitalize, real profit level increasing to allow them to invest in systems specifically in the foreign exchange market and its operations.

The assessment found that Bank of Ghana’s financial soundness indicators do not provide an adequate picture of the soundness of the banking system due to weaknesses in banks’ financial accounts because of understatement of non-performing loan ratio in the banking sector. Furthermore, since term deposits are benchmarked to treasury-bill (T-bill) rates, high borrowing by government on treasury bills market has affected banks’ funding costs (crowding out of the private sector)), thus contributed to high lending rates, and erode capacity to service debts.

The study also found that stability risks had heightened considerably, with high non-performing loans (NPLs) and undercapitalized banks and SDIs. The non-banking sector also faced several constraints, including a scarcity of long-term finance, poor capitalization, weak corporate governance practices, poor credit risk management, limited access to financial services, and high intermediation costs. The vulnerabilities in the banking sector largely reflect pervasive state involvement and deficiencies in risk management, supervision, and the insolvency regime.

The overall effect of the Central Bank’s action in April 2024 in increasing the cash reserve ratio and policy rate is likely to worsen the already challenging situation faced by banks and non-bank financial institutions in Ghana. This could reduce the amount of money that banks have available to lend to customers, which may lead to a reduction in credit availability, particularly for businesses and individuals who are already struggling due to the economic impact of the debt restructuring program. To maintain stability of banking sector, higher authorities Ministry of Finance and Bank of Ghana must establish more effective monitoring process to reduce the ratio of non-performing loans in Ghanaian banking industry.

Policy Recommendations

1. The Government and Ministry of Finance must give priority to repaying government arrears that have contributed to NPLs in banks. The Government through Ministry of Finance should ring-fence the existing debt and restructure the debt with definitive repayment structure with payment schedule to enable banks to improve their solvency or CAR.
2. To ensure that minimum capital requirements are not eroded by inflation, they could be indexed to the exchange rate or reviewed annually. Bank of Ghana must introduce index-linked capital in which bank capital is related to a specific price index usually the Consumer Price index (CPI). This feature provides protection to banks by shielding them from changes in the underlying index. Index –linked capital should be linked to the Ghana’s inflation index.

• To improve the oversight of the Banking Supervision Department, it should develop the staff capability to assess the universal banking operations, credit risk processes, internal controls and reporting systems of banks and where necessary provide technical assistance.

3. The Government of Ghana, Bank of Ghana (BoG), and Ghana Amalgamated Trust (GAT) should consider restructuring the outstanding Tier 2 capital of GHS 431 million (USD 3.6 billion) on the banks’ balance sheets in a manner like the treatment given to GoG bonds during the Domestic Debt Exchange Programme (DDEP). This restructuring could involve a reduction in the coupon rate on the Tier 2 capital, much like how the domestic bonds’ coupon rate was reduced from 19.1% to 9.1% under the DDEP. The Ministry of Finance and GAT should urgently off-load their shares in the 3 Ghanaian banks to settle those pension funds that participated in the scheme.
4. The government should address the persistent fiscal weaknesses that have created vulnerabilities in the banking sector, particularly rising NPLs over the past decade. To ensure safeguarding financial system stability the government must repay all outstanding legacy debts related NPLs and resolve problem banks or ring fence the existing arrears.
5. The government must create stable macro-economic environment stable exchange rate, lower inflation, lower interest rate regime and fiscal discipline to ensure a sustainable banking stability. A strong domestic macroeconomic environment is important for the growth of the banking sector. Essential variables include low and stable inflation, stable and predictable foreign exchange regime, low interest rate, fiscal discipline, stable economic growth, and a sustainable financial stability. The need to improve macroeconomic stabilization measures, especially fiscal stabilization, is quite clear. However, weaknesses in the fundamental structure of the economy have also affected the outcome of financial sector reform. The pursuit of a sustainable and stable macroeconomic environment anchored in enduring policy initiatives is required for a robust financial sector that fosters national development and economic growth. High budget deficits led to increasing interest rates on government debt reorienting credit away from the private sector to the government. The underlying real economy also showed structural weaknesses which made it vulnerable to instability, and poor agricultural sector and trade performance. In addition to stabilization, macroeconomic policy must go further to address some of the structural imbalances. This would improve real sector performance enhancing the prospects for firms and increasing the number of bank-financed projects.

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The writer is a Corporate Governance/ Banking Consultant