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How weak oversight ruined 12 banks in 1990s

BUSINESS
By Wainaina Wambu | June 1st 2021

At the height of the banking crisis in the 1990s, at least a dozen commercial banks and financial institutions were shut.

The Government would further freeze the issuance of any new banking licences in a reaction to the instability of the sector.

This was the era of high graft and ‘political banks’, where the institutions fraudulently lent to firms belonging or connected to politicians, who were sometimes also shareholders.

Hear no evil, speak no evil seemed to be the slogan of the era from the late 1980s through to the new millennium, including by the Central Bank of Kenya (CBK). This might perhaps explain why scores of banks collapsed and countless lives were ruined.

“If there was a medal for the public institution which, over the last few years, has done the greatest damage to the public good in this country, it would easily go to the Central Bank of Kenya,” said a terse editorial by The Standard on April 21, 1993 headlined, ‘The banking crisis: CBK stands accused’.

The closure of the banks may have also been a ‘sacrifice’ to impress the International Monetary Fund (IMF) and The World Bank that Kenya was committed to economic reforms, hoping that aid taps would reopen.

Observers noted that certain banks’ failure in the 90s followed a visit by World Bank and IMF officials who got assurances from the government that none of the ‘political banks’ still had overdrafts with the CBK.

Kenya Deposit Insurance Corporation Chief Executive Muhamud Ahmed Muhamud.

“Not returning to the 1990s” has become the rallying call for the current top officials running Kenya’s financial sector. “We’re saying zero bank failures in our country,” said Kenya Deposit Insurance Corporation (KDIC) Chief Executive Mohamud Ahmed Mohamud in a previous interview with the Financial Standard, recalling the tragic period for the banking sector.

He said they are playing a vigilant role in early preparedness and crisis management including this year’s planned introduction of a risk-based profile of individual banks.

The rot extended to the new millennium with the collapse of Euro Bank, Charterhouse and in recent years, Chase and Imperial banks. On an April morning in 1993, the government shocked the industry by appointing the Deposit Protection Fund (now KDIC) to take over 12 “weak” banks and financial firms.

The 12 institutions included Nairobi Finance Corporation, International Finance, United Trustees Finance, Lake Credit Finance, Allied Credit Finance and Middle African Finance.

The others were Diner’s Finance (linked to Trade Bank founder Alnoor Kassam), Trade Finance and Inter-African Credit Finance. Apart from Lake Credit which was based in Kisumu, the rest were headquartered in Nairobi. Around this time, Trade Bank, one of the country’s most ambitious banks, had also collapsed.

“It is notified for general public information that this institution has been placed under liquidation in accordance with Section 325 of the Banking Act. It is therefore closed from business until further notice,” read a notice signed by the Deposit Protection Fund’s G.K Kinyua that was placed on the doors of the institutions.

It was believed CBK knew the financial state of most of the institutions for years but never acted. “For reasons which no one there appears willing to say publicly, the Bank Supervision Department would appear to have been rendered helpless against these banks,” said The Standard in the editorial that accused CBK of dereliction of national duty.

“There is simply no way the Central Bank as the principal regulator of all financial institutions in the country can absolve itself of responsibility for what is going on in the financial and banking sector.

“Along with the Treasury, they issued the licences, they knew who controls these banks and how they had powers under the Banking Act to do virtually whatever they needed to arrest such matters before they got out of control,” the editorial added.

Fresh fears

The banking crisis triggered the bad memories of the first cycle of bank failures that occurred between 1984 and 1986. This was after the collapse of the Rural-Urban Credit Finance belonging to the late Andrew Ngumba, a former Nairobi mayor. 

Following the collapse of Euro Bank in 2003, then CBK Director of Banking Supervision John Murugu defended CBK in a press interview. The collapse of bank, which sank with Sh1.8 billion of mostly parastatals’ money, led to fresh fears of a new banking crisis tipped to be part of a five-year cycle coming after general elections.

It was revealed that the Banking Fraud Unit had been compromised, with members being given financial favours.

“Given the fact this bank often engaged in some not-so-above-the-counter practices, it was paramount for Euro Bank to have some members of the BFID converted into protectors.” “Little wonder then that although almost everyone in town knew that Euro Bank was insolvent, the CBK turned a blind eye,” wrote The Standard.

Mr Murugu cited several factors that led to bank failures in Kenya which “are quite common all over the world.”

These included under capitalisation, trading losses, non-performing assets, economic environment and public confidence. He, however, noted that gross mismanagement was a key factor. “In Kenya, gross mismanagement and insider dealings have been a major problem in some banks in the recent past. However, we have put in place controls and legislation to ensure this unbecoming behaviour does not endanger our industry,” the director said.

“Top on this is that we now rigorously vet directors and senior management of banking institutions prior to allowing them control and management.”

He further noted that the problem was more prominent in public sector banks, which accounted for 55 per cent of non-performing loans. Mandera MP Billow Kerrow then noted that CBK could have done more and blamed weak corporate governance for the Euro Bank collapse.

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