Regulating bank lending to states, local councils
Worried by the flagrant contravention of the law which requires banks wishing to lend to states, local governments and their agencies to obtain prior approval of the Finance Minister, the Debt Management Office (DMO) recently issued a strong reminder on the sanctions applicable to the infraction. The DMO, which manages the nation’s domestic and external debts, in a widely publicized advertorial said it has observed that some banks give such facilities without clearance. This reminder is in accordance with provisions of the Act setting up the DMO, and the Fiscal Responsibility Act 2007.
Specifically, Section 24 of the DMO Act provides that “all banks and financial institutions requiring to lend money to the federal, state and local governments or any of their agencies shall obtain the prior approval of the Minister of Finance.” The agency, therefore, requested all banks to henceforth “comply with this requirement.” The Fiscal Responsibility Act, also, aims at transparency and judicious use of funds.
We appreciate the concern of DMO on the flouting of extant laws in respect of bank lending to these two arms of government. The warning is apparently a fallout of the spiralling debt portfolio at these levels of government, which, along with that of the federal government, has shot up the national domestic debt.
We are particularly concerned about the market and liquidity risks associated with massive bank lending to states and local governments without prior notification of the appropriate authorities. A major drawback of such unbridled lending is its huge cost, especially the financial cost. This includes the cost of servicing the debt over the medium to long-term. If not properly handled, the impact of huge debt servicing obligations on the finances of debtor-states and local governments, and their hapless citizens, could be catastrophic.
States and local councils may seek and obtain loans from banks as part of their domestic capital raising options. However, taking of such facilities should subscribe to the principles of prudent and sustainable borrowing, and the effective utilisation of such loans. For instance, every commercial bank lending to a state or local government is required to make 50 percent provision on all such loans. This is in line with the Prudential Guidelines of the Central Bank of Nigeria (CBN). Also, the lending bank should furnish DMO with details of the loans. Such lending should, according to DMO Act, be subject to public disclosure of material facts, which must stipulate the purpose of borrowing and the tenor or duration. Even though the idea of regulation of loans that banks may give to states and local governments by a federal agency questions the principle of federalism in operation in Nigeria, we support the directive of the DMO and urge all banks and financial institutions to comply to check the nation’s rising debt profile.
This directive is in the best interest of the country. Given Nigeria’s huge domestic debt, the need to avoid unsustainable indebtedness requires that any borrowing by the two arms of government and their agencies is closely scrutinized by the Federal Ministry of Finance. This will enable the ministry to factor in affected states’ monthly debt service ratio, which by law should not exceed 40 percent of their allocation from the Federation Account in the preceding 12 months.
Many states already have debt overhang. Without checking borrowing by state governments and ensuring effective utilisation of facilities taken, it will be hard to stop descent to unsustainable indebtedness. Huge debt overhang will stymie the growth of the economy of such states and affect the provision of social services and public infrastructure for the people.
According to figures released by DMO, about 65 percent of Nigeria’s public debt comes from borrowings from commercial banks. The holdings of both the banking sector and the non-bank public to our domestic debt have been on the increase since 2001, according to recent statistics from DMO. At present, our economy does not yet have the capacity to absorb this quantum of domestic debt stock. This is because the bulk of the loans obtained from the banks are not channeled into productive sectors of the economy. Some of the loans are used more for personal political ventures and white elephants. Besides, all hands should also be on deck to ensure that the rules guiding the use of debt instruments such as bonds are strictly adhered to by states seeking to raise funds from the capital market.
Overall, let banks willing to lend to states, local councils and their agencies follow due process in order to check excessive domestic debt profile. Those who ignore this advice can only do so at the peril of the financial health of the concerned states, and the well-being of their citizens.
