The recent analysis of the Domestic Debt Restructuring in Ghana has revealed that the country’s 23 banks will incur substantial losses due to a reduced coupon rate and an extension of the maturity period from five to 15 years.
This report, compiled by Dr. Richmond Atuahene and K B Frimpong, outlines that the banks will collectively lose an additional ¢6.1 billion due to these changes, this is after an initial loss of GHS 10bn in liquidity in 2022 alone.
Prior to the implementation of the Domestic Debt Exchange Programme (DDEP), the 23 banks would have generated a positive cash flow of approximately ¢10.1 billion over the period, based on the original coupon rate of 19.3% per annum. However, the extension of the maturity period and the reduction of the coupon rate will impact heavily on their earnings from investments in Government of Ghana Bonds, resulting in a liquidity gap of approximately 10.3%. If the average customer deposit rate was around 10% per annum, but later declined to a weighted average rate of 9% per annum, this liquidity gap is expected to worsen.
For instance, Bank A with a bond value of ¢9,106,452,000 and an average coupon rate of 19.3% would have had cash flow of ¢1,821,290,000, but with the Domestic Debt Exchange Programme, the effective rate of 9% per annum will cause a drop in cash flow to ¢720,927,000, thus leading to liquidity gap of ¢1,100,363,000.
An earlier report suggests that banks will lose a total of about ¢41.3 billion from the DDEP between 2023 and 2028. The losses can be computed by analysing the Net Present Value of the 23 local banks, and it is projected that the losses could amount to ¢41.315 billion.
This revelation has highlighted the need for the immediate establishment and operationalisation of the Financial Stability Support Fund of ¢15 billion to mitigate and address the expected liquidity challenges for some of the 23 banks that signed onto the Domestic Debt Exchange Programme. It is important to note that the successful implementation of the financial stability fund is critical to the survival of the affected banks.
Furthermore, the report urges the Bank of Ghana to implement the Basel III regulatory framework, which represents a huge step forward in the international regulation of banks. By imposing new liquidity requirements at the micro-prudential level, the framework seeks to reduce excessive maturity mismatches and ensure that banks hold enough liquid assets to survive during a short stress period.
The Domestic Debt Exchange Programme’s impact on Ghana’s 23 banks is a cause for concern, with projected losses amounting to billions of Ghanaian cedis. The establishment and operationalisation of the Financial Stability Support Fund of ¢15 billion, coupled with the full implementation of the Basel III regulatory framework, are necessary steps to ensure the survival of these banks during these challenging times.
Below is the report;
ANALYSIS OF THE DOMESTIC DEBT EXCHANGE PROGRAMME (IMPACT ON LIQUIDITY RISK OF 23 BANKS UNDER IFRS 7 AND IFRS 13)
(DR RICHMOND A. ATUAHENE AND K.B. FRIMPONG FCCA)
1.0 BACKGROUND
Ghana has been in a critical situation with regard to its public debt as the country’s debt to Gross Domestic Product (GDP) has exceeded the dreadful limit of 100% recently after the joint Debt Sustainability Analysis by the Government/IMF and World Bank.
It is the world’s second- most severely indebted developing countries after Sri Lanka. Weak fiscal, higher inflation and persistent Cedi depreciation over extended periods of time led to an unsustainable fiscal situation for Ghana in 2022.
The high level of debt and the related interest rate payments were the major problems that Ghana has been facing. The country has been hit by a massive economic downturn characterised by high interest rates, soaring inflation of about 53.2% in January, 2023, record breaking cedi depreciation and multiple credit downgrades of the economy by international rating agencies.
Ghana has consistently recorded high fiscal deficits which have contributed to the current heavy debt burden and possibly default on its debt. The high deficit has been largely attributed to unproductive borrowing with high interest payments resulting from high borrowing requirements and the sensitivity of the debt portfolio to interest rate and exchange rate shocks. These were exacerbated by revenue inflows that continued to fall short of targets, a reflection of the weak economic environment and an economy vulnerable to external economic shocks.
Furthermore, the expansionary fiscal policy has resulted in a crowding out effect in the domestic lending market. Given the government’s appetite for debt and investors uncertainty, the Government was forced to issue high cost medium to long-term debt. This led to an increase in the stock of debt since 2016.
In that, as a consequence the country debt stock reflected greater liquidity and refinancing risk. Notably, the level of interest rate during the March 2022 quarter would have been informed by the weakened growth in the domestic economy and increased government demand for financing.
Ghana has become the latest among several smaller emerging markets from Sri Lanka to Zambia to buckle under its debt burden as the economic fallout from Covid-19 pandemic and Russia and Ukraine war fueled by high inflation and rising borrowing costs around the globe. Ghana’s government debt reached ¢575 billion (US$47 billion) at the end of November,2022, while public debt stood at 105% of its Gross Domestic Product. High debt – and debt service – levels coupled with limited access to external finance has meant that the government had a little fiscal space with which to increase expenditures in public investment and poverty reduction programs.
Recent joint Debt Sustainability Analysis by Ghana Government/International Monetary Fund (IMF) demonstrated that Ghana government currently spends 70% to 100% of its revenue servicing its debt and has been struggling to refinance since the beginning of 2022.
The debt restructuring has become necessary as Ghana’s debt has reached an unsustainable level, with the Government at the risk of not meeting its domestic debt obligations of approximately ¢137.3 billion. Starting in December, 2022, the government made important efforts to bring high debt levels to sustainable, by announcing domestic debt exchange, to bring its debt trajectory on a sustainable path.
During the latter part of December, 2022, the government also suspended payments of its external debts, effectively defaulting as the country started restructuring it external debts, as part of the US$ 3 billion bail-out deal with the International Monetary Fund. Ghana’s debt restructurings emerged as a consequence of weak fiscal and debt situations, which became unsustainable soon after external shocks such as Covid-19 pandemic and Russia and Ukraine war hit the country’s economy.
2.0 DOMESTIC DEBT EXCHANGE PROGRAMME
The Ministry of Finance invited on December 5, 2022 holders of 60 old domestic debts to voluntarily exchange ¢137.3 (US$14.3) billion domestic bonds and notes including E.S.L.A and Daakye Bonds, for a package of twelve new eligible domestic bonds. Under the debt swap or exchange announced on December 5, 2022, local holders including domestic banks, Bank of Ghana, Firms and Institutions, Retail and Individuals, insurance companies, foreign investors, Rural and Community Banks and SSNIT were to exchange ¢137.3 billion (US$14.3) worth of 60 eligible domestic bonds for twelve new eligible bonds maturing between 2027 to 2038.
Under the initial offer, for bondholders with bonds maturing in 2023, the government promised four new bonds that were expected to mature in 2027, 2029, 2032 and 2037 with zero (0) coupon rate in 2023, 5% coupon rate in 2024 and 10% coupon rate in 2025, which would continue till the maturity of last bonds in 2037. Initially, the Ministry of Finance stated that debt exchange program would affect local banks, Bank of Ghana, firms and institutions, Foreign investors, insurance companies, pension funds, rural and community banks and SSNIT but excluding retail and individual bondholders.
The debt exchange programme was extended to December 30, 2022 because it could not achieve the 100% voluntary participation. After fierce resistance from Trade Unions about the inclusion of pension funds in the domestic debt exchange programme and for the lack of enough voluntary participation, the government announced the extension of the voluntary participation in the program to 16th January 2023 with following modifications:
Offering accrued and unpaid interest on eligible bonds and a cash tender fee payment to holders of eligible bonds maturing in 2023 (ii) increasing the new bonds offered by adding new instruments to the composition of the new bonds for a total of 12 new domestic bonds, one maturing each year starting January 2027 and ending January 2038. (iii) Modifying the exchange consideration ratios for each new bond. The exchange consideration ratio applicable to Eligible bonds maturing in 2023 will be different other from other eligible bonds; (vi) Setting a non-binding target minimum level of overall participation of 80% of the aggregate principal amount outstanding of eligible bonds and (vii) expanding the types of investors that can participate in the exchange to include individual investor.
On January 16, 2023, the government extended deadline of domestic debt exchange program to January 31, 2023 after another resistance by some creditor group particularly individual investors whom the government promised not to include in the program. The government made some modifications including (i) offering accrued and unpaid interest on eligible bonds and a cash tender fee payment as a carrot to holders of eligible bonds maturing in 2023. (ii) increasing the new bonds offered by adding eight new bonds to the composition of the new bonds, for a total of 12 new bonds, one maturing each year starting in January, 2027 and ending January 2038.
The third extension of deadline for domestic debt exchange program from January 31, 2023 to February 7, 2023 for voluntary participation and also as the final deadline for institutions and individuals to sign up to the domestic debt exchange programme. The government has made offer which includes the exchange of new bonds with a maximum maturity of 5 years instead of original 15 years and a 10% coupon rate to individual bondholders below the age of 59 years to encourage them to participate in the domestic debt exchange program. Additionally, all retirees including those retiring in 2023 will be offered bonds with a maximum maturity of 5 years instead of 15 years and a 15% coupon rate per annum.
According to the Ministry of Finance announced the settlement had been made in line with terms and conditions stipulated in the 2nd Amended and Restated Debt Exchange Memorandum dated February 3, 2023. On the settlement date on February 21, 2023, issued 16 series of new eligible bonds were accepted by government.
Subsequent extensions of dates and payment maturities meant that the remaining stock was reduced from GHC137.3 billion to GHC130 billion. However, the eligible bonds as per memorandum meant an exclusion of pension funds and bonds that were subject to swap mechanisms for monetary and exchange rate policy operations. This then brought the eligible bonds tendering to GHC 97.75 billion. Out of the total eligible bonds for tendering, GHC 87.76 billion (US$ 7.1 billion) was successfully tendered-accounting for about 85% of outstanding eligible amounts and meeting the target 80% as expressed in the memorandum of the exchange. Nevertheless, the GHC 87.76 billion (64%) that were successfully tendered represent only 60% of the original outstanding debt stock of GHC137.3 billion. The strategy employed by the GOG to achieve full participation for the GDX was aggressive. Although there was some financial sector consultation on expanding the range of instrument‐offering prior to crafting the exchange, the debt transaction offer was unilateral with a ‘take‐it‐or‐leave‐it’ approach. The move to restructure the domestic debt resulted in exchanged GHC 87.8 billion (US$ 7.1 billion) of bonds and notes that paid average coupon rate of 19.3% with new eligible bonds and notes returning as little as weighted coupon rate of 9% with extension up to 2038 thus have resulted in losses for banking institutions in Ghana. With voluntary participation of only 64% (GHC 87.8 billion), not underpinned by strong fiscal consolidation, it will not necessary to reverse the adverse fiscal dynamics and reduce the debt overhang that has plagued Ghana for the four years and it will be difficult to achieve Debt to GDP ratio of 55% in 2028
3.0 RESEARCH METHODOLOGY AND METHODS
This study being historical, and explanatory utilized secondary sources of information to describe the research phenomena. The research is a qualitative study which is based on secondary data that are collected by individual(s) other that the investigator and for purposes other than the investigator and for purposes other than the current needs of the researcher (Harris, 2001)[1]. Qualitative data are normally transient, understood only within context and associated with an interpretive methodology that usually results in findings with high degree of validity (Collis & Hussey, 2014)[2]. The process is economical because it saves time and cost that would otherwise be spent collecting data (Zikmund, 2010)[3]. The study adopted the documentary and content analysis research methods; therefore, it was mainly qualitative in nature.
The data for the analysis is gathered from journal articles, Data from Ministry of Finance and Economic Planning Annual Debt Reports 2014-2022[4]; IMF Country reports on Ghana 2016-2022; Various Banks Annual report 2021; CSD website, other magazines and internet materials as well as facsimile. The works were selected based on their reliability and validity in relation to the topic under investigation. Furthermore, secondary data, secondary generally have a pre-established degree of validity and reliability which need not be re-examined by the researcher who is re-issuing such data (Bishop, 2016)[5].
Data collected from various sources enabled the researcher in comprehending the details of the research problem historical perspective. The data will be analyzed using the total NPV of Bond values of 23 domestic banks, from Ghana’s debt exchange program to determine the estimated liquidity losses to 23 local banks. The IFRS 7 and IFRS 13 defined a fair value hierarchy which gave the highest priority to quoted bond prices in active markets for identical assets and liabilities (level 1inputs) and while the lowest priority for fair value inputs that consist of bank’s own data and unobservable inputs (which is the level 3). The bibliographical references and internet provide a complete list of the series of sources upon which the study was based. However, our research is limited among others because it focuses only on Domestic banks.
4.0 OVERVIEW OF THE IFRS 7 AND IFRS 13 ON THE LIQUIDITY RISK OF 23 BANKS
IFRS 7 requires an entity to disclose information that enables users of its financial statements to evaluate the significance of financial instruments for its financial position and performance. IFRS 7 requires an entity to provide both qualitative and quantitative information to users of its financial statements in order to enable them to evaluate not only the nature but also the extent of risks relating to those instruments to which it is exposed at the reporting data The disclosures required by IFRS 7 should allow an accurate assessment of the nature and extent of the risks and the impact that the financial instruments have on the performance of the bank.
These disclosures apply are summarized as follows in Balance sheet disclosures:
- Categories of financial assets and financial liabilities
- Defaults and breaches
- Financial assets and financial liabilities designated as at fair value through profit and loss
- Financial instruments with multiple embedded derivatives
- Credit loss expense account
- Derecognition
- Guarantee instruments
These disclosures therefore relate to the risks arising from financial instruments and how they are managed, including:
Credit risk. In the event that one of the parties involved fails to meet its obligations, resulting in a financial loss for the other. Disclosures are required in relation to the maximum amount of exposure, the description and quality of the collateral and the quality of the assets involved.
Liquidity risk. Liquidity risk is the risk that an entity will not be able to meet the obligations arising from its financial liabilities. Disclosures are required in relation to the maturity analysis of financial liabilities and the risk management approach. Liquidity risk is the possibility that a bank may suffer an adverse shock to its liquidity position. Shocks to a bank’s liquidity position can affect credit supply because of the banks’ central role in liquidity provision. Through balance sheet constraints, shocks in one line of business can cause a contraction of credit in another line of business, and this channel can operate both across balance-sheets and across borders. Liquidity pressures faced by a bank’s customers can thus be transmitted to the bank’s balance sheet through this “drawdown” channel, and displace new lending.
Market risk. Market risk is the potential for adverse changes in the fair value or future cash flows of a financial instrument arising from changes in market prices. Disclosures are required in relation to the entity’s level of exposure to each of the market risks, namely foreign exchange risk, interest rate risk and price risk. The objective of IFRS 13 is to set out a single definition of fair value and to require entities to provide disclosures regarding fair value in their financial statements for all assets and liabilities (financial and non-financial) measured at fair value. IFRSs, the term “Fair Value” is commonly referred to the current market value (i.e., an exit price from the perspective of a market participant that holds the asset or owns the liability) when available, and it comprises an estimated value when the current value is not always directly observable because the market for an asset or a liability becomes illiquid. IFRS 13 provides an accurate definition of Fair Value and specific disclosure requirements for its application across IFRSs. To increase consistency and comparability in Fair Value measurements, and IFRSs embrace a Fair Value hierarchy based on a three-tiered valuation process. Specifically, three levels of Fair Value measurement are devised: Level 1 is applied when the current price in a liquid market for the same instrument can be attained (i.e., Mark to Market),
Level 2 represents the current price in a liquid market for a similar instrument, which must be applied to assess the Fair Value of the instrument to be valued (i.e., Mark to Matrix) and finally Level 3 applies valuation model. Mark to Model). Due to the deterioration of price transparency during the domestic debt exchange program, many government bonds and note positions that were previously valued at Fair Value using Level 2 inputs unavoidably have to be measured using Level 3 inputs. In this respect, the opponents of Fair Value measurement criticize its credibility, especially in the case of valuations based on models that are influenced by outlooks and estimates coming from management.
The level 3 were used for government bonds and notes were considered to be illiquid and were hardest to value. During the domestic debt exchange, the government bonds and notes were not tradable and made them difficult to give a reliable and accurate market price. More importantly, the notes to banks’ financial statements reveal that bonds, which were at the heart of the domestic debt exchange, are rarely Level 1-related assets, which were at the heart of the domestic debt exchange, are rarely Level 1 assets. At the beginning of the domestic debt restructuring, banks typically reported them as Level 2 or assets. At the beginning of the crisis, banks typically reported them as Level 2 or Level 3 assets, and many moved them to Level 3 early in the crisis. For instance,
Level 3 assets, and many moved them to Level 3 early in the domestic debt exchange. As government bonds and notes were restructured and reached Level 3 and made the bonds and notes illiquid and untradeable. All assets including government bonds and notes and financial liabilities are designated as at Fair value through losses expense account and profit and loss account. IFRS 13 “Fair Value Measurement”, published in May 2011 and applicable from 1 January 2013 with early adoption permitted, has a framework to be applied to all fair value measurements and disclosures (which are required or permitted by other IFRSs). The scope of IFRS 13 is wider than that of IFRS 7 as it includes non- financial assets and liabilities measured at fair value. The definition of fair value is “the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date”.
The disclosure requirements are intended to provide users of financial statements with information about the valuation techniques and inputs used to develop fair value measurements and how fair value measurements using significant unobservable inputs impacted performance for the period. IFRS 13 requires extensive disclosures about fair value measurements. New items of significance include:
· Qualitative disclosure requirements for recurring and non-recurring fair value measurements categorized within Level 2 and Level 3 of the fair value hierarchy that include a description of the valuation technique(s) and the inputs used in the fair value measurement.
· Quantitative and qualitative disclosures based on the three-level fair value hierarchy are extended to cover non-financial assets when they are measured at fair value.
6.0. DDEP ON THE BANKING SECTOR LIQUIDITY RISK- (LIQUIDITY GAP ANALYSIS)
LIQUIDITY GAP ANALYSIS; – (MATURITY MISMATCHES)
| Nominal Inflows without DDEP (A) | 000 | Nominal Inflows with DDEP (B) | |||||
| Imaginary Banks | Coupon Inflow | Principal Inflow | Total Inflow | Liquidity Gap (A-B) | Coupon Inflow | Principal Inflow | Total Inflow |
| A | 1,051,150 | 5,255,752 | 6,306,902 | 635,070 | 416,080 | 5,255,752 | 5,671,832 |
| B | 1,821,290 | 9,106,452 | 10,927,742 | 1,100,363 | 720,927 | 9,106,452 | 9,827,379 |
| C | 192,654 | 963,270 | 1,155,924 | 116,395 | 76,259 | 963,270 | 1,039,529 |
| D | 1,166,416 | 5,832,079 | 6,998,495 | 704,710 | 461,706 | 5,832,079 | 6,293,785 |
| E | 1,288,768 | 6,443,840 | 7,732,608 | 778,631 | 510,137 | 6,443,840 | 6,953,977 |
| F | 209,851 | 1,049,254 | 1,259,105 | 126,785 | 83,066 | 1,049,254 | 1,132,320 |
| G | 989,363 | 4,946,815 | 5,936,178 | 597,740 | 391,623 | 4,946,815 | 5,338,438 |
| H | 306,547 | 1,532,737 | 1,839,284 | 185,206 | 121,342 | 1,532,737 | 1,654,078 |
| I | 185,916 | 929,581 | 1,115,497 | 112,324 | 73,592 | 929,581 | 1,003,173 |
| J | 708,256 | 3,541,278 | 4,249,534 | 427,904 | 280,351 | 3,541,278 | 3,821,629 |
| K | 441,821 | 2,209,104 | 2,650,925 | 266,933 | 174,887 | 2,209,104 | 2,383,991 |
| L | 242,797 | 1,213,986 | 1,456,783 | 146,690 | 96,107 | 1,213,986 | 1,310,093 |
| M | 232,995 | 1,164,974 | 1,397,969 | 140,768 | 92,227 | 1,164,974 | 1,257,201 |
| N | 223,765 | 1,118,825 | 1,342,590 | 135,191 | 88,574 | 1,118,825 | 1,207,399 |
| O | 382,546 | 1,912,730 | 2,295,276 | 231,122 | 151,424 | 1,912,730 | 2,064,154 |
| P | 276,791 | 1,383,955 | 1,660,746 | 167,228 | 109,563 | 1,383,955 | 1,493,518 |
| Q | 185,738 | 928,690 | 1,114,428 | 112,217 | 73,521 | 928,690 | 1,002,211 |
| R,S,T, U,V,W | 213,336 | 1,066,678 | 1,280,014 | 128,890 | 84,445 | 1,066,678 | 1,151,124 |
| Total | 10,120,000 | 50,600,000 | 60,720,000 | 6,114,167 | 4,005,833 | 50,600,000 | 54,605,833 |
7.0. RESEARCH FINDINGS AND ITS IMPLICATIONS ON THE BANKING SECTOR AND REAL ECONOMY
This paper assesses an important liquidity gap in the areas of IFRS 7 and IFRS13 as we show that funding liquidity risk of 23 banks can be measured using publicly available information at Banks Annual Reports and CSD website. This also allows us to assess the interactions of market liquidity and funding liquidity risk in an empirical way, adding to previous theoretical finding supporting downward spirals between both. First, we define funding liquidity and funding liquidity risk as measuring without a definition is difficult if not impossible. Funding liquidity is defined as the ability to settle obligations immediately when due. Consequently, a bank is illiquid if it is unable to settle obligations on time.
Given this definition, it can be said that funding liquidity risk is driven by the possibility that, over a specific horizon, the bank will become unable to settle obligations when due. Funding liquidity is defined as the ability to settle obligations immediately when due. Consequently, a bank is illiquid if it is unable to settle obligations on time. Given this definition, it can be said that funding liquidity risk is driven by the possibility that, over a specific horizon, the bank will become unable to settle obligations when due. Funding liquidity is essentially a zero-one concept, i.e. a bank can either settle obligations, or it cannot. Funding liquidity risk, on the other hand, can take on infinitely many values reflecting the magnitude of risk.
Moreover, funding liquidity is a point-in-time concept, while funding liquidity risk is forward-looking. As long as the bank is not in an absorbing state, both liquidity and illiquidity are possible. The likelihood of either depends on the time horizon considered and on the nature of the funding position of the bank. In this respect, concerns about the future ability to settle obligations or to raise cash at short notice, i.e. future funding liquidity, will impact on current funding liquidity risk. Given that Ghana’s banking system held large amounts of government debt (37.0 per cent of the domestic debt stock), the expectation was that a collapse in confidence in Government of Ghana solvency could lead to liquidity challenges, large‐scale deposit runs and a credit crunch.
From the above data analysis using the Net Present Value of the banking holding of the government bonds and noted valued approximately ¢50.6 billion, there is evidence that domestic debt exchange would weaken the banking system’s liquidity in the country as the maturities are extended from five years to 15 years and coupon rates are lowered from original weighted coupon rate of 19.3% to a weighted average coupon rate of 9%, as banks will need to hold on to their government exposures for an extended period with reduced coupon rate, thus creating liquidity mismatch limiting the banks’ ability that could affect the lending to the real economy as a result of estimated losses in the domestic debt exchange program.
From the data analysis, the domestic debt exchange program could lead to decline in liquidity in the banking system. This because banks that hold short –term debt that had been restructured into long term debt which may face difficulty in meeting their short-term funding requirements. This could lead to a liquidity squeeze in the banking system, which can a significant negative impact on banks’ ability to meet the needs of their customers. From our data analysis using NPV of banking holding of government securities, banks will suffer large economic losses when they exchange their existing debt for new bonds with lower coupons and longer tenors.
As per IFRS 7 and IFRS 13 the credit losses for the entire banking sector could be about GHC6.1 billion that must be credited expense account that can impact negatively on profitability of the sector, however individual banks would be affected the credit losses. The domestic debt exchange could have a negative impact on the profitability as a result of credit losses incurred during the DDEP. In addition, it could reduce the banks’ liquidity which could lead in the cost of funds for banks, which could further reduce future profitability. The data analysis clearly shows the domestic debt exchange could lead serious decline in liquidity in the banking system. The central event of the domestic debt exchange could be liquidity squeeze at some of the banking institutions operating in Ghana as banks that hold the short term debt have restructured into long term debt with reduced coupon rate that may face difficulty in meeting their short-term funding requirements.
These banks could lose the confidence of customers and counterparties, leading to losses of cash through withdrawals of deposits, cutoffs of short-term lending, and other channels. Domestic debt restructuring can lead to a decline in liquidity in the banking system. This is because banks that hold the short-term debt that is being restructured may face difficulty in meeting their short-term funding requirements. This can lead to a liquidity squeeze in the banking system, which can have a negative impact on banks’ ability to meet the needs of their customers. Domestic debt restructuring can also have a negative impact on the growth of the banking sector. Banks that are facing a liquidity squeeze may be less willing to extend credit to their customers, which can slow down economic growth. In addition, the decline in liquidity may lead to a reduction in private sector credit which can further slow- down growth. The domestic debt exchange could bring about significant strains on liquidity for banks and their customers. To the extent that (i) the domestic debt restructuring and resulting strains were not anticipated by banks and (ii) the shocks to liquidity (drawdowns, withdrawal of wholesale funding) were primarily determined by the actions of actors outside the bank, we can assume these shocks to be exogenous to the bank’s endogenous liquidity management operation.
The domestic debt exchange programme could often trigger by liquidity events coinciding with abrupt changes in sentiment. Liquidity risk events in banking markets is apt to affect many market participants at the same time. The withdrawal of short-term lenders may be effected through higher interest rates, but as often through non-price rationing, such as increases in “haircuts” on collateral, refusal to accept some collateral, or simple refusal to lend. The onset of domestic debt exchange is often described as a liquidity crunch, but could as easily be described as a sudden spike in risk aversion, expressed in part as aversion to some types of privately created liquidity. It is often marked by a run or run-like behavior, in which short-term lenders suddenly converge on a borrower. Inadequate liquidity” may not be the best way to describe the phenomena we currently see. The anomalies and conflicts we’ve described indicate a larger underlying dis-function. Each anomaly is hard to trace back to a specific regulatory change. Not only have there been major regulatory changes, but the monetary policy response to the crisis, the crisis itself, the continuation of pre-crisis trends, and the banking industry’s adaptation to these also influence market functioning. But taken as a whole, they indicate a general decline in market responsiveness. Liquidity currently seems ample, but perhaps only because market participants don’t urgently need it right now. The market appears persistently less able to withstand large shocks. Disruptive shocks are likely in the years to come, especially sudden changes in the original coupon rates of 19.3% to weighted rate of 9% and extension maturity period extended from 5 years to 15 years. From the data analysis from the government bonds and notes under the IFRS 13 will move to Mark to Matrix has to be applied to assess the Fair Value of the instrument to be valued (i.e., Mark to Matrix) and finally Level 3 applies valuation model. The restructured government bonds under the Market to Matrix model will become untradeable as a result of its illiquidity.
From the liquidity gap analysis from original coupon rate of 19.3% per annum the twenty- three banks would have generated positive cash flow of GHC10,120,000,000 over the period but with the implementation of domestic debt exchange program with extension of maturity period from 5 years to 15 years starting coupon rate for 5% in 2023 and 2024 and with staggering coupon rate of 9% from 2025 to 2038 the generated negative cash-flows would drop to GHC 4,005,833,000 thus leading to liquidity gap of GHC6,114,167,000. This liquidity gap is a result of the drop in the average bond rate of 19.3% to weighted average rate of 9% per annum thus leading to nominal negative liquidity gap of 10.3%. The liquidity gap is expected to get worse if the average customer deposit rate was around 10% per annum but later declined to weighted average rate of 9% per annum.
For example, Bank A with the bond value of GHC 9,I06,452,000 with average coupon rate of 19.3% would have had cash flow of GHC1,821,290,000 but with Domestic debt exchange program with effective rate of 9% per annum there will be drop in cash flow of only GHC 720, 927,000 thus leading liquidity gap of GHC1,100,363,000. Banks C, E, I, N, P, and Q may experience mild liquidity shortages from the above data analysis whilst Banks A, B, D, E, and G could face serious liquidity crisis over the period. From data analyzed for liquidity gap analysis banks, R, S, T, U,V and W are the banks that would not experience any significant liquidity losses as a result of the domestic debt exchange program.
As per IFRS 7 and IFRS 13 all credit losses must be charged to expense account that could impact negatively of profit and loss of the 23 local banks. The real challenges in the estimated liquidity losses would resurface in shortage funds to repay customers’ deposits, lending to private sector, higher cost funds for the banks as the of cost of mobilization of deposits would go up thus resulting interest rate hikes to businesses and households, typical to crises, increasing the cost of funding as a result the estimated losses of the banking sector.
8.0 CONCLUSION
Ghana’s domestic debt exchange episode could have an adverse impact on the banking sector of country for several reasons. First, the asset side of banks’ balance sheets may have to take a direct hit from the loss of value of the restructured assets, such as Government bonds. Second, on the liability side, banks can experience liquidity squeeze, deposit run and the interruption of interbank credit lines, all impacting negatively on the banking sector liquidity. This can negatively affect their ability to mobilize resources at a time of stress.
Further, a weakened Ghanaian banking sector could impair financial intermediation leading to a hesitance of banking institutions to provide funds to individuals and SME businesses. This would then threaten future economic growth and development. Indeed, the present economic challenges may compromise the ability of individuals and businesses to pay their loans. This has consequential effects on banks liquidity, for example, as the liabilities of these agents’ form assets of banking institutions.
A default from the household and corporate sector on its debt given the current economic challenges could impair the balance sheets of financial institutions which can then lead to a weakening of the sovereign balance sheet given that the value of the implicit guarantee increases as the value of bank assets drop. That is, it becomes more likely that the government would have to bailout the financial sector as the value of the financial sector’s assets drop.
A debt restructuring must therefore be carefully thought through in the current economic circumstances and also given that the value of domestic debt has already been reduced in value due to inflation. Debt exchange could hurt domestic banks holding the other public bonds, thereby reduction of liquidity, hampering credit, investment, and output in the economy
9.0 POLICY RECOMMENDATION.
a. The Ministry of Finance and Bank of Ghana must ensure that Financial Stability Support Fund of GHC 15 billion is established and operationalized as soon as possible to mitigate and address the expected liquidity challenges for some of 23 banks that signed on the Domestic Debt Exchange Program. The fund was expected to provide liquidity support for the local banks that participated fully in the Domestic Debt Exchange Programme. This would ensure maximum effectiveness to safeguard the stability of banking system and the protection of customers’ deposits. On more positive note, the establishment of the Bank of Ghana’s Financial Stability Support Fund may not materialize as no bank may access the fund as result of excess post DDEP liquidity and information asymmetry in the banking system.
According to Grigorian, Alleyne and Guerson (2012) the establishment of Jamaican Financial Sector Support Fund of US$ 1.2 billion to support banks and other institutions that participated in the Jamaica Domestic Debt Exchange was not utilized to support the stability of financial sector because there was no need for Financial Stability Support Fund. Ceteris paribus or all things be equal, Bank of Ghana could use the same fund for capital support looking the magnitude of capital losses to the Ghanaian owned banks who will be required to recapitalize after DDEP capital losses.
b. Bank of Ghana must ensure that the Basel III regulatory framework implemented which represents a huge step forward in the inter-national regulation of banks. At the micro-prudential level, new liquidity requirements are going to be gradually imposed, reducing excessive maturity mismatches and ensuring that banks hold enough liquid assets to survive during a short stress period. At a different level, the Basel Committee has also issued proposals for the regulation of systemically important financial institutions in Ghana (SIFIs), focusing on the imposition of additional capital requirements on these institutions.
Our results suggest that there may be a missing element in the new regulatory framework: the systemic component of liquidity risk. The new liquidity risk regulation will ensure that, at the micro-prudential level, institutions are less exposed to liquidity risk. In addition, more demanding capital requirements are certainly going to reduce risk-taking incentives for SIFIs in general. However, there is some consensus that capital requirements are not the most adequate regulatory tool to deal with liquidity risk. Against this background, our results suggest that it may be desirable to impose also tighter liquidity requirements on these large systemic institutions, not only at the global level, but also at the domestic level. One way to potentially avoid this moral hazard problem is to require banking institutions to hold more liquid assets, allowing them to get through a crisis without the help of a central bank.
After the financial crisis of 2007-2008, the group of international banking officials and financial regulators that make up the Basel Committee on Banking Supervision recommended such as liquidity requirements. The Basel III Accord included two new liquidity requirements for banks. The first, the Liquidity Coverage Ratio (LCR), requires banking institutions to maintain a buffer of highly liquid assets equal to some portion of their total assets. The second, the Net Stable Funding Ratio (NSFR), requires that institutions hold some amount of liabilities that can reliably be converted into liquidity during a crisis, reducing their exposure to liquidity risk. Bank of Ghana must be ready to implement the Liquidity Coverage Ratio and Net Stable Funding Ratio to strengthen liquidity requirement for the 23 local banks.
Norvareports