The Tribune

• Not covered for major credit union, bank collapse

• Fund urges insurance more than double to $120m

• ‘High priority’ as cooperatives show ‘some distress’

By NEIL HARTNELL

Tribune Business Editor

nhartnell@tribunemedia.net

Bahamian depositors have inadequate protection against “the failure of the largest credit union or any medium-sized bank”, the IMF is warning, as it urged that coverage more than double in percentage terms to $120m.

The International Monetary Fund (IMF), in a report on the measures The Bahamas should implement to prevent and respond to financial institution collapse, described strengthening the Deposit Insurance Corporation - the entity that fully insures deposits up to a maximum $50,000 in the event of bank or credit union failure - as “a high priority task despite the current financial system soundness”.

Pointing out that the Corporation’s fund, from which payouts would be made, is “low”, the IMF argued in a paper released yesterday that “reforms are needed in a variety of areas” including its governance through an increase in the number of external directors compared to Central Bank, Ministry of Finance and other public sector insiders. It also identified the Bahamian cooperatives sector as an area of “some distress” and financial weakness.

The Washington D.C.-based Fund added that the Deposit Insurance Corporation’s 20-day payout target was more than double the international goal of seven days, and even this objective is “hampered by a lack of deposit data”. It recommended that the Corporation’s fund be expanded, and built up, from 2 percent of insured deposits to “4.7 percent or $120m” within the next five years to give the majority of Bahamian depositors adequate protection and peace of mind.

John Rolle, the Central Bank’s governor, told Tribune Business yesterday that the regulator had “made good progress” in addressing the issues identified by the IMF mission to The Bahamas, which visited this nation twice in November 2021 and the same month in 2022. While he acknowledged that “a lot more work needs to be done”, the Fund’s advice and recommendations have laid out “a good road map” that the Central Bank is now moving to execute (see Page 1B report).

The Deposit Insurance Corporation, which insures only resident deposits and excludes those made in foreign currency from coverage, is financed by the premiums paid by 11 member banks and seven credit unions which are equivalent to 0.05 percent of the average sum of deposits insured. Its protection fund, at end-2021, was valued at $73.644m and, growing at an average rate of 10 percent per annum, will take some years to reach the IMF’s target.

“Funding of the Deposit Insurance Fund (DIF) is provided through premiums paid by members and interest earned from investments. Member banks, including credit unions, pay premiums on a biannual basis (at end-March and end-September) into a single fund,” the IMF report said.

“The fund level is low and would cover the failure of only the three smallest credit unions and the four smallest banks. It would not be able to cover the failure of the largest credit union or any of the medium-sized banks in the Bahamian financial system.” That means Bahamian depositors would be exposed if any of the Canadian-owned banks, or the Bahamian-owned institutions listed on BISX, were to suffer a failure or collapse.

To remedy the situation, and ensure most Bahamians are protected against unexpected financial shocks, the IMF said: “The Deposit Insurance Corporation has reviewed the target fund ratio. Based on the Deposit Insurance Corporation’s expected loss calculations, the target fund should be increased from 2 percent of insured deposits to 4.7 percent or $120m.

“This fund will be fully constituted as an ex-ante fund and will fully cover deposits in 13 of the 18 member financial institutions. The fund will be financed through premium assessments on member institutions, with the target fund being reached in five years.

“The proposed target fund is appropriate and puts the Deposit Insurance Corporation on a sound financial basis,” the Fund added. “The target fund will be reviewed every three years. The Deposit Insurance Corporation could complement this methodology by assessing the amount to be paid out in each institution and applying an estimated default risk for each institution based on historical data, supervisory assessments and stress tests.

“This check would ensure that the fund will have the minimum level necessary to cover insured deposits in the bulk of the system.” Data provided in the IMF’s report, which is dated August 2023, shows that $2.331bn out of a total $8.313bn in total deposits held by the Deposit Insurance Corporation’s 11 bank members was covered by insurance at end-June 2022. That is equivalent to 28.1 percent, or just over $1 out of every $4, dollars deposited with these 11 banks.

As for the seven credit unions, some $336.5m or 80.9 percent of their combined $416.2m deposits were insured at end-June 2022. However, when combined with the banking sector, the latter’s heavier weighting meant that some $2.668bn or 30.6 percent out of $8.729bn in total deposits held by the combined institutions were covered or insured at that date.

The IMF, meanwhile, also recommended that the Deposit Insurance Corporation have “a dedicated, pre-arranged back-up funding requirement” to ensure it does not suffer a liquidity crisis in the event of a systemic financial sector crisis and contagion.

“Typically, such back-up funding is provided by the Ministry of Finance,” the IMF added. “However, the provision of such funding must be extremely fast. In this context, the Central Bank might appropriately provide the funding within the context of a formal agreement under which all credits to the Deposit Insurance Corporation are indemnified by the Ministry of Finance. Any use of this emergency funding facility should be repaid from asset recoveries or levies on members.”

Justifying the effort to strengthen the Deposit Insurance Corporation, the Fund said: “Despite the current financial system soundness, strengthening the deposit insurance system is a high priority task. First, unexpected shocks are always possible and the Deposit Insurance Corporation needs to be prepared for such unexpected eventualities. Second, some smaller financial institutions are reporting weaker financial conditions and some distress.

“The cooperative sector, for example, has a relatively high level of non-performing loans, is subject to lighter supervision and regulation than for banks, and the applicable resolution regime is very limited in scope and is undergoing reform. Full implementation of the Deposit Insurance Corporation system (together with strengthening supervision and resolution arrangements) will enhance financial stability and limit the risks of destabilising depositor expectations.

“Reforms are needed in a variety of areas,” the Fund continued. “The governance of the Deposit Insurance Corporation should be strengthened under current proposals to appoint additional external directors, and thereby increase the size of the board and reduce the dominance of ex-officio officers. Procedures for implementing a sound deposit insurance scheme are also needed.

“The Deposit Insurance Corporation needs to obtain depositor data in a timely manner and in the appropriate format. Information arrangements should be strengthened to ensure that the Deposit Insurance Corporation is informed well in advance about institutions that are likely to fail. The Deposit Insurance Corporation should then use that information to ensure they can respond promptly and accurately to the requirements of a failure.

“While coverage levels are broadly appropriate, deposit protection should be extended to US dollar-denominated deposits as a policy objective as the resolution law is revised. There is also scope for strengthening the funding arrangements, including the increasing the target fund ratio and establishing a back-up emergency liquidity facility. Procedures are also needed to guide the reimbursement process, starting from collection of deposit data to identifying amounts to be paid out, and to transferring needed funds to the payout agent.”