Crane Bank was bankrupt when taken over by BoU: Kasekende

Remarks by Louis Kasekende (PhD) Deputy Governor, Bank of Uganda, at the twenty-year anniversary dinner for the Uganda Securities Exchange (USE), Serena Hotel, Kampala

April 06, 2018

The Board of Directors of the Capital Markets Authority (CMA), Chairman of the Board of the Uganda Securities Exchange (USE), CEO of the USE, All distinguished guests, Ladies and gentlemen,

Good evening.

On behalf of the Governor, I would like to congratulate everyone at the Uganda Securities Exchange (USE) on reaching the 20th anniversary of its operations. We recognise the important contribution which the USE is making to the development of the financial system and the economy in Uganda and wish you every success for the future.

Unfortunately, as you may be aware, it is proving very difficult to attract companies to issue securities on the USE. It would therefore be useful to see more research into the obstacles which deter companies from listing so that we might be able to formulate realistic policy solutions.

This evening, I would like to take this opportunity to survey the recent developments in the macro-economy of Uganda and also to address some of the criticism which has been made recently about the Bank of Uganda (BoU) in its role as bank regulator.

The Uganda Bureau of Statistics released its quarterly GDP estimates for the final quarter of 2017 earlier this week. These estimates indicate that a strong recovery of the economy has been underway since early 2017.

In the last six months of 2017, real GDP grew by 6.9%, compared to the same period in 2016. Furthermore, growth was widespread across the economy, with agriculture, industry and services all recording buoyant growth in the second half of 2017. The economy undoubtedly suffered a downturn in 2016, recording only sluggish growth, but those problems are clearly now behind us.

Read More: Uganda’s economy grew by 6.6% in final quarter of 2017, says Ubos

Last year was also a very good year for Uganda’s exports. In 2017, the US dollar value of merchandise exports grew by 14.3%, the fastest annual growth since 2011. Two thirds of the growth in exports was accounted for by regional trade, principally to the East African Community but also to the Democratic Republic of the Congo.

Read More: Exports grow most in six years thanks to coffee and informal trade

The importance of the EAC and the Common Market for Eastern and Southern Africa to the future of our economy should never be underestimated, and we should be very careful to avoid any policy measures which could jeopardise the access of Ugandan exporters to the regional market. I hope that we will also be able to establish a regional capital market in the EAC, which will expand the pool of capital available to firms in Uganda.

The revival of economic growth has been accompanied by a very strong inflation performance. Annual core inflation was only 1.7% in March 2017 and averaged only 3.6% over the last 12 months. This demonstrates that the argument that the BoU’s commitment to an inflation target holds back real economic growth has no validity. Except in the very short run, there is no trade-off between inflation and real economic growth. In the long run, the latter is determined on the supply side of the economy, not by monetary policy which affects aggregate demand.

The most important contribution which the BoU can make to the economy is to ensure that inflation remains low and stable, so that investors can draw up business plans for the future without having to worry that the viability of their investment projects will be jeopardised by macroeconomic instability and households will not see their hard-earned savings eroded by inflation.

Turning to the financial sector, we have witnessed further modest reductions in bank lending rates in recent months, following the downward trend in the BoU’s policy interest rate. The average bank lending rate for Shilling denominated loans had fallen to 21.1% in February of this year, compared to 23.1% 12 months ago.

The financial soundness of the banking system was strengthened during 2017, with the core capital adequacy ratio for the banking system rising to 20.9% at the end of 2017 from 17.3% at the end of 2016 and the non-performing loan to total loan ratio falling from 10.5% to 5.6% in this period.

The strong growth of commercial banks’ shilling-denominated deposits, by 18% in 2017, indicates that public confidence in the soundness of the banking system remains very solid and has not been impaired by the failure of Crane Bank.

The successful resolution of Crane Bank in January of 2017 was the main reason for the improvement in financial soundness indicators of the banking system. I also want to point out that, despite the weakness of the economy in 2016 that I noted earlier, all the commercial banks in Uganda, with the exception of Crane Bank, remained solvent and were able to comply fully with the statutory capital adequacy ratios. The only bank which suffered financial distress and became insolvent was Crane Bank.

The insolvency of Crane Bank was therefore not caused by any problems in the wider economy; it was caused by its own mismanagement, not least by its extensive insider lending.

Read More: Bank of Uganda takes over troubled Crane Bank, suspends management

Unfortunately, our efforts to further reform the financial sector suffered a setback with the protracted discussions of the pension reform. Reform in the pensions sector would have promoted and deepened financial sector development, because private sector pension firms would have become major investors in domestic securities, which in turn would have expanded the pool of capital available for investment by local firms.

Everyone with a professional involvement in the capital market understands the imperative of an objective evaluation of a company’s financial position. Sadly, this understanding is not widespread in our society, as is evident from some of the commentary in the media regarding the resolution of Crane Bank.

It has been alleged that Crane Bank was sold by the BoU for a fraction of the value of its assets, ignoring the fact that a bank has liabilities, such as deposits, as well as assets. When Crane Bank was resolved by the BoU, the value of its assets was much less than the value of its liabilities. Consequently, Crane Bank had a negative net worth of approximately Shs260 billion; it was insolvent.

The BoU did not sell Crane Bank, because no one would have bought a bank with a negative net worth of this magnitude. Instead the BoU carried out a purchase of assets and assumption of liabilities transaction (P&A) with DFCU.

DFCU assumed most of the liabilities of Crane Bank, including all of its deposits, and acquired assets of equivalent value. The remaining assets and liabilities not transferred to DFCU have been put into the liquidation process.

The claim that there was something suspicious or scandalous about the resolution of Crane Bank betrays a lack of understanding both about the financial realities of banking and of the means through which failed banks are resolved by bank regulators. The P&A transaction used by the BoU is a commonly used bank resolution tool all over the world, and it is fully consistent with the powers and responsibilities accorded to the BoU in the Financial Institutions Act. The resolution of Crane Bank through a P&A with DFCU achieved three valuable benefits for Uganda.

First, it ensured that no Crane Bank depositors lost their money and there was minimum disruption of banking services to Crane Bank customers. Second, it ensured that there was no contagion to the rest of the banking system which might have threatened the stability of the financial system. As I discussed earlier, public confidence in the safety of their deposits in the banking system has not been undermined.

Third, the resolution has minimised the costs borne by taxpayers. Prior to the resolution, the BoU had to lend money to Crane Bank, through its liquidity support facilities, to ensure that the bank did not become illiquid. These loans from the BoU could only be partially repaid from the assets of Crane Bank. The public funds used to keep Crane Bank liquid before its resolution will only be fully recovered when the owners of Crane Bank pay back the insider loans that they took out of the bank.

To conclude, I believe that our economy has made important progress over the last twelve months. Economic growth has rebounded strongly, inflation is firmly under control, export earnings have risen, and the financial soundness of the banking system has been strengthened.

This provides grounds for optimism about the prospects for the economy over the medium term.

Thank you for listening.

Related: Dfcu takes over Crane Bank