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Shareholder Interests and Market Regulation: The Case for a Systemic Risk Council in Nigeria (II)

By A. Eze Nwagbaraji
Systematic Risks

It is common to equate     dislocations and attempts at addressing dislocations in the financial sector, especially among banks as attempts at addressing systemic risks. This is a limited view. To properly understand the importance of systemic risk in Nigeria, it is necessary to look to the market and investors.Nigerian banks and financial service providers have never been able to adequately address the capital needs of businesses in the country.

Majority of Nigerian businesses source funds through various alternate funding mechanisms and over the past 10 years, several of the businesses have over looked the banks and gone directly to equity markets.The current attempts by the CBN and the NDIC at addressing the inadequacies found in the banking sector are not necessarily addressing market wide systemic risks, but attempts at proper regulation of banking institutions. The numerous arguments advanced by regulators that failure of some banks in Nigeria will lead to market collapse are “enhanced” market noise.

They represent an elitist and flawed understanding of the breadth of the Nigerian markets.Banks are important participants in financial intermediations in Nigeria. However, it is necessary to look at the reach of the banking sector in the overall market place for capital and funding.

Governor of CBN, Sanusi
Governor of CBN, Sanusi

Otherwise, the case for understanding market systemic risks will be an exercise in preserving institutions that some regulators see as too big to fail. Addressing the problem of systemic risks is not positioning government regulators as pickers of winners and losers in the market.Market systemic risk is a chain of failures, involving various markets, institutional, and individual investors, suffering market wide losses.

It is the crumbling of the entire market. For the investor and market participant, market systemic risk is the risk that portfolio diversification can not protect against because it affects a broad range of securities.In markets with significant banking penetration, i.e. markets where banks are largest financiers of businesses and economic activities, the failure of large numbers of the banks could deprive such society’s businesses capital and increase the cost of capital. Decrease in the availability of capital or increase in its costs are some of the most serious consequences of systemic failures.Compared to the emerging economies of Brazil, Russia, India, and China, banking penetration levels in Nigeria is low.

These countries have higher banking penetration levels and commercial banks in these countries play more roles in economic development than Nigerian banks. Nigerians have multiple channels of accessing capital. Direct remittances of foreign currencies by Nigerians resident outside the country for example, play major roles in the provision of capital in the country.These remittances by Nigerians resident overseas represent the most viable sources of home ownership in various parts of the country. They provide the formation funds for most Nigeria’s small scale businesses, building of new homes, payment of tuitions and fees in academic institutions, and funds for acquisition of equities in some of the publicly traded companies in Nigeria.

While a chain of bank failures remains an important argument of a market systemic risk, disinter-mediation, the inability of the Nigerian banking sector to effectively penetrate the markets as the most serious sources of funding, and the prevalence of other sources for funds by numerous Nigerian businesses, have made bank failures less critical.The Nigerian Stock Exchange, the ease with which companies can come to the market through exchange listings, and the ability of the SEC to properly regulate companies that are listed in the exchanges, are important to any examination of market systemic risk in Nigeria.

A loss of confidence in the ability of the NSE and the SEC to properly regulate listed companies can erupt into loss of confidence in the entire financial sector (by association) and cascade into a wide loss of confidence in the entire market which can lead into systemic failure that subsumes the banking sector also.The effectiveness of regulators such as the CBN to properly understand the complex workings of institutions under their control, knowledge of the global structure of banking, the retention of investor trusts, etc. are also factors that could trigger market wide systemic risks in Nigeria.

The sub prime mortgage crisis in the United States dramatically illustrated the complex nature of financial markets across various sovereign markets. An implosion in the US mortgage market sent market shivers across the world over the past 12 months. The current confusion engulfing the Nigerian financial sector, precipitated by a less than articulate conduct of the CBN to confront banks under its supervision, further illustrates the need for proper regulatory measures in the markets. The damage to investors’ confidence and psychic will take considerable time to ameliorate.

Systemic Risk Regulator

There is a grand swell in international calls for articulating how best to check mate the effects of local markets on the conduct of international commerce. The continued emergence of China, Brazil, and India as major countries in global business and finance accelerates these calls. Efficient regulation of local markets is the strongest signal that sovereignties can put forward to the international community that local markets are prepared to be part of the global chain of commerce, hence the importance of a systemic risk regulator and a systemic risk council.

The call for a Systemic Risk Regulator is a call for the establishment of a neutral entity responsible for monitoring the Nigerian financial system and markets for system wide risks. This is not a call for an enhanced institutional regulation or a substitution for the work performed by the CBN and the NDIC for banks, the SEC for companies listed on the exchanges or those that come to the market to source funds, but a government establishment, specifically designed as a hedge against risks, headed by a Regulator, with a Council of Systemic Risks Oversight Board.

The Systemic Risk Regulator’s mandate must include defending shareholders and investors interests and the Regulator should have power and access to information across all our financial markets and should be able to call to national attention, lapses within existing regulatory agencies, institutional lapses capable of derailing the markets, and the authority pndtw-10 to seek immediate remedies and corrections.

These include monitoring institutional compliance with capital ratio levels, liquidity requirements, enterprise wide unwholesome business activities (fraud), etc.As the markets’ early warning system, the Systemic Risk Regulator should have an oversight council that it reports its findings to. Such council should comprise of institutions and segments of the market, existing regulatory agencies, and industry specific regulators.A Systemic Risk Council or Board with the power to identify emerging market risks should have the power to swiftly address such problems by minimizing regulatory arbitrage.

The Council or Board have the added advantage of a multi-disciplinary group of market experts with responsibilities that extends beyond expertise in financial markets or a single institution.The two types of systemic risks that need a regulator’s intervention are the risk of sudden and near term systemic freeze or cascading market failures, and the longer term risk that will intentionally favour large systemically important institutions over smaller competitors. Smaller and more nimble companies are the back bones of innovations in the market and drivers of market efficiencies.

A market systemic risk regulator must be guided that attempts at protecting the market against near term seizures do not result in a long term systemic imbalances that are anti-innovation. His regulation go beyond traditional oversight, regulation, market transparency and enforcement provided by primary institutional regulators. It includes macro prudential regulations designed to identify and minimize those risks wherever they exist. It is only through effective understanding of structural imbalances in the market that systemic risk factors can be checkmated.

A Nigerian Systemic Risk Regulator and Systemic Risk Oversight Council have the potential of expanding the various institutional market avenues in the country. The inability of the banking sector to penetrate the Nigerian financial markets with sufficient resources necessary for private sector led business and economic expansions for example, can he best addressed by a regulator.

The Economic & Financial Crimes Commission (EFCC) and the National Agency for  Food and Drug Administration and Control (NAFDAC) and the relative successes these agencies have recorded in the markets are prime examples of the ability of a competent commission to carry out its directed mandate.


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