SURVEY OF GHANA'S EVOLVING BANKING SECTOR

UNCLAS SECTION 01 OF 03 ACCRA 001810

SIPDIS

SENSITIVE

MCC FOR ROD NORMAN
TREASURY FOR ALEX SEVERENS

E.O. 12958: N/A
TAGS: KMCA EFIN ECON GH
SUBJECT: SURVEY OF GHANA'S EVOLVING BANKING SECTOR


Summary
--------------

1. (SBU) The Government of Ghana's (GoG) sound macro policies
have led to lower inflation and interest rates, paving the
way for local banks and insurance companies to introduce
innovative new products and vie for the 95 percent of
Ghanaians who do not use the formal financial system. Banks
can no longer survive on high-interest bearing government
securities, and must aggressively compete for the relatively
few low-risk clients for loans and other financial products.
Banks must contend with the Central Bank's recently mandated
higher capital requirements. Econoffs surveyed the most
competitive of Ghana's 18 banks, and also met with insurers
and regulators. While bankers largely express optimism about
Ghana's economy and their own growth opportunities, they are
aware that stronger competition and stiffer regulation will
likely instigate mergers, acquisitions, and failures in the
next few years. End Summary.

Background on the Banking Environment
--------------

2. (SBU) Large government deficits and debt, volatile
inflation, and high interest rates over the last 20 years
limited development of Ghana's financial sector. This
macroeconomic instability has been accompanied and
exacerbated by: (i) government hoarding of the available
credit, (ii) heavy government ownership in financial sector
companies, (iii) inconsistent yet excessive regulation, and
(iv) high (44 percent) reserve requirements. Given these
impediments, it is little wonder that the banking system
serves only five percent of Ghanaian households. However,
there have been signs of improvements in the last year. Post
met recently with banks, insurance companies and government
regulators to discuss how the changing macroeconomic
environment is affecting bank operations, and to gauge
whether stronger competition and new regulatory requirements
could provoke a shakeout in the industry.


3. (SBU) Tighter monetary policy and more prudent fiscal
policies together have forced down inflation and interest
rates. The 91-day Treasury Bill, considered the benchmark
rate in Ghana, fell from a high of 35 percent in 2003 to the
current 17 percent rate. The 12-month inflation rate peaked
at 30 percent in April 2003, and fell to 10.5 percent in
April 2004. Year-on-year inflation increased slightly to
12.4 percent in July 2004 and is expected to stay in the
10-15 percent for the rest of the year.


4. (SBU) A frequent criticism of Ghana's banking sector has
been that banks have no incentive to lend as long as they can
be profitable simply holding T-Bills and rolling them over
every 91 days. Banks respond that the Bank of Ghana (Central
Bank) requires them to hold government securities in order to
fulfill the 35 percent secondary reserve requirement (Note:
the primary reserve requirement is nine percent. End Note).
While true, Ghanaian banks have willingly met these
requirements, since high interest rates on government
domestic debt have resulted in Ghanaian banks having among
the highest return on equity of any banking system in Africa.
(Note: Ghanaian banks also profit from the 10-15 percent
spreads between lending and saving rates, although this
should diminish as banks compete to attract new customers.
End Note)


5. (SBU) With rates edging downwards, margins are shrinking
and banks are being forced into serving their traditional
financial intermediary role to maintain profit levels. At
the same time, the Bank of Ghana has issued new prudential
regulations giving banks until 2005 to increase their
capitalization to 70 billion cedis (about USD 7.8 million).
Combined, these events may force local banks, especially the
marginal performers, to reform, merge or fail.

Impact of Lower Interest Rates on Banking Sector
-------------- ---

6. (SBU) There are 18 banks operating in Ghana, with four of
them holding 64 percent of assets. The Bank of Ghana has
also received several applications to establish new banks.
Most bankers and the Bank of Ghana bank supervisors believe
this number is too high for the market, and expect increased
competition and new capital requirements to force a wave of
mergers or closures in the next few years. The regulators
were noncommittal on whether the GoG would allow bank
failures or intervene in the market.

Focus on SME Lending
--------------

7. (SBU) In response to the changing market, the most
competitive Ghanaian banks -- Ecobank, SG-SSB, Home Finance
Company (HFC) -- are launching innovative products to attract
new customers. Banks are also considering riskier small and
medium size enterprises (SMEs) because established companies
and individuals already have banking relationships. All the
banks Post conferred with emphasized how important it was now
to cater to SME clients. However, Ecobank, HFC and other
medium-sized but aggressive banks are making this sector a
priority. Ecobank is leading the way with over 30 percent of
its USD 80 million portfolio targeted to the SME sector.
Large banks in Ghana insist they are maintaining
profitability through higher fees and increased volume, but
are also being forced to pursue SME clients. Even Standard
Chartered, which traditionally serves blue chip companies, is
eyeing the SME market.


8. (SBU) SME lending involves more rigorous client
interaction and more detailed investigation of the quality of
business proposals. SG-SSB, a bank in which French company
Societe Generale recently bought a controlling share, told
Post that it can take three weeks to process a loan from a
new SME client, demonstrating how much time and effort is
needed. Across the industry, the number of staff and their
required skills will also need to expand, and banks will also
have to update software platforms and even move branch
locations to serve SMEs. The extra effort will increase
operating expenses and reduce profitability in the short
term. However, in the long run, banks that successfully
develop these clients without increasing their level of
non-performing loans (NPLs) should maintain a competitive
advantage over the less adaptive banks.


9. (SBU) Ghana's banks are still recovering from the massive
devaluation of the cedi in 2000/2001, causing many companies
to default on their loans. The NPL rate peaked in 2001 at 28
percent and has fallen only to about 20 percent (2003 data).
Defaults are generally higher when interest rates are high.
As rates become more affordable, a riskier clientele will
enter the system, but these clients will also have less
trouble servicing their debts. So, the quality of bank
portfolios should improve in a stable, lower-interest rate
environment.

Concerns Over Currency Risk
--------------

10. (SBU) A growing concern among bankers is the growth of
dollar-denominated loans. Over the last few years,
businesses seeking lower interest rates have increasingly
sought to borrow in dollars. This violates the banking adage
that you should borrow in the currency in which you do
business. Similar circumstances developed in the late 1990s,
which contributed to the high NPL rate following the cedi
depreciation in 2000. Ghana remains extremely vulnerable to
external shocks and commodity price shifts, which could in
turn affect the exchange rate. Although several bankers
voiced concerns about the increased currency risks, they also
acknowledged their limited ability to reject requests for
dollar loans due to their fear of losing valuable clients to
competitor banks.

Government Involvement in Financial Sector
--------------

11. (SBU) Bankers were unanimous in their optimism that the
GoG will maintain macroeconomic stability. All cautioned
that the single-digit inflation projection for 2004 is
unlikely, but emphasized that consistent and stable inflation
is a more important goal in the short to medium term. They
broadly criticized the GoG's ownership position in the
financial sector, especially in parastatals Social Security
National Trust (SSNIT) and Ghana Commercial Bank (GCB).
SSNIT is one of the biggest drags on the financial sector.
It holds 15 percent of total financial sector assets, yet is
poorly run and politically influenced. GoG commitment to
overhauling SSNIT management would improve overall asset
quality in the country.


12. (SBU) Although GCB is the largest bank in Ghana, holding
24 percent of total banking sector assets and 18 percent of
all assets in the financial system, it is the least
innovative in the sector. Until recently, the GoG has been
reluctant to privatize its ownership share in GCB, and too
often uses GCB to fund questionable government programs,
including petroleum subsidies. Recently, the GoG has
considered seriously floating GCB shares on the Ghana Stock
Exchange, which would dilute the GoG's ownership percentage,
and, hopefully, reinvigorate the bank.

Ghana's Insurance Industry is Perking up
--------------

13. (SBU) The insurance sector is growing in Ghana, but has
been hindered by the poor reputation and quality of the
government-owned State Insurance Company (SIC). SIC's market
share has steadily declined (from about 90 to 45 percent) as
the number and quality of private insurers has increased.
The GoG has drafted a new insurance bill that will end SIC's
monopoly on providing insurance to state employees.
Inflation is the biggest enemy of the insurance business, so
if the macroeconomic environment remains predictable and less
volatile, the sector should continue to grow. This would be
good news for Ghana's economy, since insurance companies are
often the largest sources of domestic investment.

Constraints on Growth
--------------

14. (SBU) Lower rates alone are not a cure all for Ghana's
financial sector. Savings rates in Ghana are low, so there
is a small deposit base. The GoG's Long-Term Savings Bill --
currently before Parliament -- aims to remedy this by
providing incentives for savers. The credit culture in Ghana
is weak, with many inexperienced borrowers who simply do not
intend to repay their loans. There is also a history of
borrowers abandoning bad loans at one bank, only to open a
new account at a different bank where again the loans go
unpaid. The Ghanaian bankers association is working to
establish a credit reference bureau so that new clients can
be checked.

Comment
--------------

15. (SBU) In Ghana, macroeconomic stability is slowly working
its way through the economy and is beginning to impact the
financial system. Vast improvements in asset quality and
private sector growth (through greater access to investment
capital) will not come over night, but the trend is positive.
Individual banks are already beginning to feel, or at least
worry about, lower profits from debts assets and increased
competition for good loan clients. If the downward trends in
inflation and interest rates continue over the next two to
three years, Ghana could experience a wave of mergers,
buy-outs and possibly bank failures. End Comment.
YATES