Bank Risk Management in Guyana: A Summary1 Michael DaCosta April 2020
The risk management (RM) environment for banks in Guyana resembles closely the situation described in the literature on developing countries. Features in this group, such as inadequate differentiation among risks, zero rating of sovereign loans, and a false sense of comfort derived from high risk-weighted capital ratios, resonate in Guyana. Also common is the influence of macroeconomic factors (fiscal policy, fluctuations in commodity prices and the terms of trade, and a lack of economic diversification) on risk, as well as asymmetries due to inadequate borrower information, and delays and other difficulties in enforcing collateral claims. Other features of the Guyana environment are that (i) the country is only now shifting to Basel II; (ii) liquidity and market risks are not significant, nor is model risk or third party risk; (iii) Value-at-Risk (VaR) is not used commonly in domestic banks, and banks generally do not aggregate risks into a single measure of overall risk appetite; (iv) enterprise risk management (ERM) is conducted only in the foreign banks; and (v) there is little risk transfer activity through hedging. Key risks are credit and operational. This is consistent with the earlier literature on RM in the Caribbean.2 The interconnectedness between banks and the conglomerates in which they are members, and risks associated with climate change, cyber security, and information technology, are also important. In addition, some banks identify political uncertainty as contributing to the risk environment. RM practices in Guyana can be seen as having three layers. First, practices in foreign banks are determined by policies and guidelines from headquarters and those delegated to the local branches. Second, the domestic banks are guided by their own RM policies, which, in some cases, follow those of the central bank. Third, the central bank, as regulator, sets minimum standards for capital and liquidity, conducts on-site inspections, and issues regulations covering risk and governance. The central bank also conducts stress tests on banks’ liquidity, lending, and investment portfolios.
This is a summary of a paper presented in 2019 to the London Institute of Banking & Finance. See Christie-Veitch, C. (2005), Operational Risk Management Practices and the Role of Capital: A Preliminary Assessment of Three Caribbean Countries, 26th Annual Review Seminar, Research Department, Central Bank of Barbados (http://www.centralbank.org.bb/news/article/6598/operational-risk-management-practicesand-the-role-of-capital), and Wood, A. and Kellman, A. (2013) ‘Risk Management Practices by Barbadian Banks’, International Journal of Business and Social Research, Vol. 3, no. 5, (https://thejournalofbusiness.org/index.php/site/article/view/3). 1
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At the foreign banks risk is centralized in the Enterprise Risk Management or similar central function at headquarters. In one case, an Enterprise Risk Committee exercises oversight over RM at the Group level, as well as in subsidiaries. A Group Enterprise RM Unit headed by a Chief Risk Officer (CRO) is responsible for ensuring across the Group compliance with the Board’s RM policies and limits. In addition, the Group audit function helps ensure that RM and other internal processes and controls are adequate, and reports to the Audit Committees of the Group and its subsidiaries. In another case, the RM framework is based on mainly limits established by the foreign bank’s head office, and oversight focuses largely on monitoring those limits. RM practices in domestic banks are guided by internal policies and supervisory guidelines issued by the central bank. Guidelines cover a wide range of topics including RM, AML/CFT (anti-money laundering and countering the financing of terrorism) disclosure, corporate governance, lending and related party transactions, and capital adequacy. Tools and methods of RM used by banks centre mainly on risk limits, gap and maturity analysis, and stress testing. Domestic banks do not articulate or quantify an overall risk appetite, nor is there in annual reports a statement of risk policy. This suggests that there is no approach that addresses overall risk. Instead, key risks are analysed, measured, and managed separately. Responsibility for the oversight of RM lies with boards. Boards approve RM policies and risk limits, set risk appetites, and approve loans above the authorization limits of senior management. Boards also monitor risk by reviewing periodic risk reports. Some boards delegate authority in certain areas to RM Committees, Credit Committees, and Audit Committees. However, RM Committees are not a feature of all banks. In those cases, risk is overseen by the full board, assisted by the Audit Committee, and risk managers report to the CEO. Alternatively, audit and RM may be covered by a single committee, or a Legal or Compliance Committee may support RM, particularly in the area of AML/CFT. In addition, banks may have committees of senior management which have oversight of certain risks, such as asset-liability management. Finally, in some banks RM responsibilities, especially in the area of operational risk, are performed by the internal audit function. These responsibilities include continuous review of internal controls and ensuring compliance with RM procedures, risk limits, and regulatory requirements. Oversight of RM is linked to banks’ governance arrangements. Banks report on governance arrangements in their annual reports. Generally, domestic banks do not report on the frequency of board and committee meetings and the attendance record of board members. The central bank’s supervisory guideline on governance (SG 8) recommends that financial institutions should aim to have a majority of independent directors on their boards, and that the chairperson of the board be an independent director. To provide for renewal, the central bank recommends that the chairperson’s term of office should not
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exceed five years. In some cases, these recommendations are not implemented. In two of the three domestic banks, the chair is also the chair (or former chair) of the board of the conglomerate in which the bank is a member. In the case of one bank, the directors associated with the controlling member of the conglomerate represent a majority. This interconnectedness between controlling conglomerate and member bank requires close monitoring by regulators. The major challenge of RM is how to strengthen frameworks and practices to tackle the conventional risks of credit and operations, as well as the new, emerging risks of cyber, IT, and climate change. This suggests a full work programme on RM for bankers and regulators. It will involve ensuring that all banks (and other financial institutions) allocate adequate resources and board time to RM so that it is embedded into the structure, operations, and governance of banks. Under this scheme, management and board RM committees would conduct periodic risk reviews that discuss all risks, including conglomerate, macro-political, cyber, and climate risks. The reviews would be shared with regulators and discussed in annual reports.3 They would also form the basis of action plans that would benefit also from lessons in the RM literature and from relevant practices in CARICOM and other countries. __________________________________________________________ Postscript Following the completion of this paper bank RM in Guyana was complicated by two major shocks. The first relates to political uncertainty. As of mid-April, the results of the presidential election held on March 2, 2020 have not been declared because of a dispute among the political parties about the credibility of the vote count in the country’s most populous region, which includes the capital, Georgetown. There seems now to be a consensus, supported by the private sector, CARICOM, and the country’s large trading partners,4 on the need for a recount, but the timing and modalities are still in dispute. The prospect of a protracted legal battle cannot be ruled out. The second shock has been the economic stagnation and social costs resulting from the Covid-19 virus. The main risks associated with these shocks will likely be credit and operational. Political uncertainty will affect firms that rely on government contracts and delay ongoing or planned projects. Uncertainty combined with the downturn in economic and social activity due to the virus will lead to increased credit risk as business closures and rising unemployment lead to higher default rates. Reduced staffing from virus mitigation efforts and increased exposure of bank data networks as staff connect from home may heighten Currently much of the discussion of RM in annual reports is located in the audit notes to the financial statements. 4 The U.S., The European Union, Canada, and the United Kingdom. 3
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both operational and cyber risks. Aside from credit and operational risks, the market value of CARICOM government securities held by banks may fall in the event that fiscal pressures from the Covid-19 crisis result in debt servicing problems and rescheduling. Measures to address these risks will have to be taken by banks, regulators, and the government. Some banks have announced that they will defer loan principal or interest payments, restructure loans, and provide lines of credit to borrowers affected by the Covid-19 crisis. They may also have to update their contingency or business continuity plans as the crisis evolves. The central bank, as regulator, stands ready to provide liquidity to banks if needed. It has granted banks a three-month moratorium on classifying loans as nonperforming, and waived some requirements for renegotiating loans. In addition, it will be important to monitor closely related transactions and the finances of the conglomerates that have significant shareholdings in the banks. Prompt fiscal policy action by the government will be essential to maintain financial sector stability. The VAT on electricity, water, and domestic travel has been removed temporarily. However, in line with actions already taken in, for example, Jamaica and the Eastern Caribbean Currency Union countries, there is an urgent need for additional resources to be allocated to the health sector, as well as direct financial support to small business and those who have become unemployed as a result of the Covid-19 crisis.5
See IMF (2020) Policy Responses to Covid-19 (https://www.imf.org/en/Topics/imf-and-covid19/PolicyResponses-to-COVID-19). 5