Globe Trust - Testing the FIA
Introduction
The problems at Globe Trust and Investment Company Ltd. have
understandably dominated press and national attention over the past several
weeks. Strictly speaking Globe Trust is a not a bank but is an authorised
deposit taking financial institution under the Financial Institutions Act
1995 and comes under the supervision of the Bank of Guyana. The BOG,
following an inspection of the company, had requested it to attend a hearing
to show cause why its operations should not be taken over, or as the Act
says, be taken possession of. The company did not go to the meeting but
rather sought the Court's intervention in the matter raising a number of
technical and constitutional points, the determination of which will help to
resolve some of the issues which new legislation inevitably raises.
For Guyana, this is new territory. Both small and more sophisticated
depositors who have always naively assumed that their money was safe now
face the prospect of substantial unprotected losses. Questions will
inevitably be asked whether the regulator should have acted earlier but
precipitate action could in fact have exacerbated a difficult situation. For
the Bank of Guyana, with its own absence of relevant experience, it was no
doubt a hard decision. Sections of the press and some key political players
had their say, perhaps with a little bit too enthusiasm. We cannot
underestimate the vulnerability of the financial system. The wider public
interest requires extreme caution in reporting or commenting on matters
relating to specific financial institutions. The accounting profession will
have to explain to the public why the danger of failure had not been raised
by the auditors, the directors ought to explain their stewardship while the
government will have to assure the nation that the damage can and is being
contained.
The Fallout
The problem is that once trust and confidence is lost, it will take more
than a little talking to restore the faith. Already - and despite statements
from the highest levels of Government, the BOG, no less an authority than
the IMF itself, and the assurances from some of the financial institutions -
there is considerable unease among depositors, fearing the domino effect in
the absence of any deposit insurance or other form of protection. It would
be wrong for the Guyana Association of Bankers to maintain silence merely
because Globe Trust is not a member of that organisation. The GAB should be
meeting and making arrangements to support each other both privately and
publicly in the event of a run on any of them.
There have been two principal responses to the developments at Globe
Trust. One is the anger demonstrated by President Jagdeo, and the other the
prediction that since Globe Trust is "a relatively small non-bank
licenced depository financial institution with assets of approximately 1% of
the financial system, and that the rest of the system is sound with adequate
capital and liquidity, there would be no significant impact on the soundness
of the financial system".
Self-fulfilling Fears
While the statistics may be true, and immediate concerns about any bank(s)
may be entirely unjustified, the failure of even a small entity such as
Globe Trust has to be considered far more widely than by reference to market
share. Such failures cause losses to depositors and creditors, create
problems for longstanding clients and spill over into other institutions
with considerably more significant impact. Globe Trust was initiated with a
distinct market focus and a number of small savers will have lost 100% of
their savings. There is a saying in business generally but in banking in
particular 'too big to fail', which offers some form of insurance to
uninsured depositors. Unfortunately, small institutions are not seen as
substantial enough players to justify any form of Government intervention.
President Jagdeo has already ruled out a "bailout" but has
committed Government support to small depositors of up to $10,000 and the
press has suggested that these might account for over 50% of the deposit
holders in Globe Trust.
While that will offer some political comfort, it means that there are a
number of other depositors whose monies at best would be frozen for some
considerable time while the assets of the company are being liquidated. This
could have a substantial effect on national consumption as well as the
psychological fear that the financial system- at the same time the
foundation and the mirror of the economy - is in trouble. This can be a
self-fulfilling fear since no bank or other financial institution is
structured to meet large and largely simultaneous demands from the bulk of
its depositors.
Demise Exaggerated
The press reports and the alarm bells that were sounded appeared to have
assumed that the company was as good as dead and talks were either about
bailing out or that the demise of the organisation would have no significant
impact on the financial system, a position taken by no less an authority
than the IMF itself. The options for the regulator are extremely difficult
particularly given the political realities in this country. The regulator is
of course aware of its role as guardian against failures in financial
institutions even as others may want to accuse it of allowing the situation
to have reached crisis stage. Whatever action the Bank of Guyana takes must
have as its objective the reduction of losses to depositors, minimisation of
negative consequences for other financial institutions and the economy, and
the restoration of confidence.
Fortunately the Act allows the Bank of Guyana reasonable time to consider
the state of the company while the political temperature cools off and
letter writers have their say. The FIA sets out the conditions under which
the Bank of Guyana can take possession of a financial institution and its
options during possession. Among the conditions for the taking of possession
are exhaustion of capital, dissipation of assets or earnings as a result of
unsafe banking practices and insufficiency of assets to meet depositors,
creditors and other liabilities.
Regulator's Options
The three options at its disposal are the closure of the operations and
an application to the Court for an order for a compulsory liquidation if it
considers that there is no reasonable prospect for the institution's return
to financial soundness through re-organisation or otherwise; commencement of
re-organisation if it considers that there are reasonable prospects of
restoring the institution to financial soundness. In this case, it must
submit to the Court a plan for approval; and finally, it may terminate the
seizure if it determines that the grounds for the seizure no longer exist.
The extreme remedy of liquidation is not the ultimate decision of the Bank
of Guyana but that of the Court which can only make such a decree upon
petition by the Bank or if it, that is the Court, rejects a re-organisation
plan submitted to it.
When the Bank takes possession of a licenced financial institution, the
Bank or any person it appoints as an administrator has exclusive powers of
management and control including the discontinuation of operations, the
payment of debts, employment, and taking action in its name on matters in
which the financial institution may be a party.
Time to Reflect
The whole saga has brought into sharp focus the authority and operational
capacity of the Bank of Guyana and the Financial Institutions Act which in
the past has been criticised for its strict provisioning requirements. There
were those who felt that the grace period of four years for bringing
provision against doubtful debts in line with the Act was too short and that
the Act must be flexible enough to accommodate any difficulties which
borrowers face. The essence of the FIA is the principle of prudential
banking and the essence of prudential banking is the protection of
depositors' funds. It is not about enabling the financial institution to
report continuous profits or to allow borrowers to repay whenever they can.
The purpose of the FIA is to protect the integrity of the financial
system and to reduce the possibility of the sort of difficulties in which
Globe Trust eventually found itself. No doubt in the wake of these
difficulties there will be some review of the FIA but it is likely that Bank
of Guyana will be much more vigilant in supervising and enforcing compliance
with the Act. Financial business is no easy business and perhaps there is no
greater need than that of good governance. Section 26 of the Act deals with
the qualification of directors and officers and provides the very general
condition that no one can be appointed a director or officer is he is not a
"fit and proper person". One expects that greater attention will
be placed on this requirement to improve the quality of governance in
financial institutions.
There is clearly a need for some form of deposit insurance which is
common in most financial systems. Deposits in GNCB are guaranteed on the
Consolidated Fund and it must be a measure of the country's confidence in
the banking system that depositors do not flock to place their money at the
GNCB. The Globe Trust issue should make depositors more cautious and they
may now have to reconsider whether loyalty is a substitute for discipline.
The law does not allow them access to meetings of the institutions although
it does require the publication of audited financial statements. Perhaps the
governance system should provide for depositors -clearly a major
stakeholder- to have some role in the organisation in which they are the
largest contributor of funds.
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