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March 2003

Euro Bank collapse: a tip of the iceberg?

Deremo Maiko

Kenya’s worst bank scam since the collapse of Trust Bank in 2001 threatens to tilt balance further against small banks in the country. Euro Bank’s collapse, with
billions of shillings of parastatal money could at the very least spark off another "flight to safety" and cause a creeping confidence crisis against the regulatory Central Bank of Kenya (CBK), analysts say.

The saving grace this time is that CBK Governor Nahashon Nyagah has been replaced by another central banker Andrew Mulei — who thankfully will work under a completely different political regime. The cyclical banking crisis phenomenon has in the past served to swell the coffers of the big banks, largely
transnational subsidiaries, leaving the rest mainly African and Asian-owned banks on the fringes.

Last year for example, subsidiaries of UK banks Barclays and Standard Chartered and the 35 per cent state-owned Kenya Commercial all reported double-digit deposit increases. By March, Central Bank of Kenya (CBK) monthly Economic Review showed the ten largest banks accounted for 77.5 per cent of the industry’s Sh360.7 billion (About US $46 billion) deposit liabilities, in a country dominated by commercial banks following collapse of the indigenous non-bank institutions in the mid 1980s.

Profit sharing in the industry takes similar pattern, only that Barclays and
Standard take a disproportionately bigger share compared to Kenya Commercial, which is badly managed. There are ten commercial banks, three non-banks, two
mortgage firms and four building societies in the country.

That International Monetary Fund had as far back as 2000 raised the red flag on five other small banks, beside the collapsed Euro Bank, is no comfort at all. They are yet to be closed down as recommended and CBK has in the past admitted it was only giving them time to recapitalise.

Insecurity in the small banks has brought structural asymmetry in the system. This, apart from forcing small banks to pay astronomical deposit interest rates, has made big banks insensitive to customers, levying all manner of penalties and charges on both lending and deposits. Lending rates have stayed up leading to an attempt to control both supply and demand prices through the Central Bank (Amendment) Act 2000 popularly known as the Donde Act.

It is not like Euro Bank was exactly a replica of an ordinary bank in the country: But public perception in the industry is everything. For instance, with parastatal deposits topping Sh1.8 billion (About US $ 24 million) or 67 per cent, it is clear the ill-fated bank was in the business of bilking state money not trading. Its dud assets piled at 260 per cent of their equity fund size. Some 92 per cent of the debts — certainly taken out by politicians and state firms’ heads who had pumped government funds into the dying bank — were non-performing.

More disturbingly, the bank was known as a conduit for money laundering. It was its political connections, though, which kept the bank open. Amongst its
share-holders were well-connected Chairman Julius Muthamia and Kenya Revenue Authority Commissioner General John Munge who has since resigned. Both at various times worked for Trade Bank, which collapsed in a similar manner in the mid ‘90s.

Although CBK is largely autonomous, licensing for banks and closures are done with express authority of the Treasury, which is in the hands of the political
class. The final result is that governors have to wring their hands without raising a finger as banks grossly violate the Central Bank and Banking Acts.

On one hand there should be no reason to worry; Euro Bank in theory accounted for just 0.3 per cent of the system deposits. But looking at the wider picture and
the changed political climate, there are reasons to be wary. Banks in Kenya collapse when power changes hands and the protective veil is withdrawn. The first bank crash session was in 1986, soon after the Kikuyu elite had lost out to the so-called Rift Valley Mafia.

The admittedly poorly capitalised banks came down without CBK trying any salvage measure. One of the owners, who has since died quietly, ran away to the Scandinavia and had most of his property inexplicably sequestered by government.

The next crash related to the peccadilloes of the 1992 elections sucked in politically banks used to haul money off the CBK through devious schemes. This was in 1993. At least six banks mainly associated with Asian businessmen were put in liquidation.

The next one followed the 1997 elections, in 1998. The banks had been stripped clean by politicians and shareholders leaving them on the brink. More disastrous was the bankrupting of the National Bank, a state bank with the furthest reach, putting at the tender mercy of the liquidator before the National Social Security Fund (NSSF) and government injected capital. IMF has since demanded the shell bank be closed without success. Kenya Commercial, had it not been better capitalized, would have been sailing in the same boat.

Every time such an occurrence happens, the common denominator has been loss of parastatal funds. Euro Bank went down after a scandal where Sh256million (US 3.4 ) million of NSSF money disappeared in the institution was exposed. Others to lose out were National Hospital Insurance Fund (Sh493 million) – US$ 6.4million, Kenyatta Hospital (Sh492 million) – US$ 6.5 million, Postal Corporation of Kenya (Sh159 million) – US$ 2.1 million, Kenya Post Office Savings Bank (Sh66 million) – US$ 860000, Kenya Tourism Development Corporation (Sh61 million) – US$ 792000, Kenya Pipeline Company (Sh55 million)- -US$ 714000, Kenya Sugar Board (Sh55 million)- US$ 714000 and Postal Corporation of Kenya Sh53 million (US$ 688000).

Fears are now that owing to the ethnic nature of the Kenyan politics, some of the parastatal heads that threw money into a sure hole might get away with it.
More often than not, they had financed the politicos now singing the song of transparency. At the end of the day, autonomy of the CBK will reassure the banking industry. But small banks will certainly feel the pinch.

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