introduction to financial services 1

THE UGANDA INSTITUTE OF BANKING & FINANCIAL SERVICES

UIBFS

ISO 9001:2008 CERTIFIED

1Introduction to Financial Services


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LEARNING OUTCOMESAfter completion of this study you should be able to:

• Elaborate the history of banking in Uganda and relate that to present institutions in the financial sector

• Explain the structure of Uganda’s financial sector• Discuss the trends in Uganda’s financial sector


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Types of Financial Institutions and their Respective Roles

Uganda Retail Banks

The Structure of Financial Markets

The Credit Reference Bureau

Trends in Financial Services Industry

Personal Financial Services

MODULE COVERAGE


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A Historical perspective of Uganda’s banking sectorThe banking system in Uganda today has been shaped by three

major events. 1. History: When the country obtained her independence in

1962, there were four commercial banks, all international. These banks were often criticized for lending only short-term, for the finance of foreign trade and the provision of working capital, to companies owned by non-African residents.


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Impact of the 1970’s economic breakdownDuring the 1970s and early 1980s, the number of commercial

bank branches and services contracted significantly. This was because of the severe economic breakdown during the time. Whereas Uganda had 290 commercial bank branches in 1970, by 1987 there were only 84, of which 58 branches were operated by government-owned banks.


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2. Impact of new regulation 1993In 1993, the Financial Institutions Act was enacted to replace the weak

1969 Banking act. Specifically it • Set a minimum paid-up capital for local investors to start a bank

specified minimum ratios for core capital and total capital to risk-adjusted assets of 4 percent and 8 percent respectively, along the lines of the Basle accord on capital adequacy.

• Imposed restrictions on insider lending, large credit exposures, and investment in non-bank business or purchase of real estate.

• Limited exposure to a single customer or group of customers with a common interest and aggregate lending to a bank’s own directors, their families and businesses, were both restricted to a maximum of 25 percent of core capital.

• It also gave Bank of Uganda (BoU) a range of options for dealing with financial institutions acting imprudently


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3. The banking crisis of 1998-99During the crisis, four commercial banks were closed on the

basis of imprudent banking practices including the second and fifth largest banks by deposits.

The banking crisis of 1998-1999 was followed by the new Financial Institutions Act of 2002 aimed at reducing the prevalent insider lending and equity concentration, strengthening banks internal management, and strengthening supervision and regulatory roles of the central bank. A crucial component of financial reforms was the restructuring of the Uganda Commercial Bank (UCB) and latter its privatization creating the largest bank by deposit in Uganda today; Stanbic Bank.


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– A moratorium on new commercial bank licenses was declared in 2004

– The moratorium on new banks was lifted in July 2007. During the eighteen (18) months that followed the lifting of the moratorium, several new commercial banks were licensed.

– Between 2008 and 2009, several of the existing banks went on an accelerated branch expansion.

– In November 2010, Bank of Uganda directed that all commercial banks in Uganda, must raise their minimum capital to UGX 10 billion (approximately US$4.34 million) by March 2011 and to UGX 25 billion (approximately US$11 million) by March 2013.


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The financial sector has many players. These include regulators, parent ministries, regulated and unregulated financial service providers, insurance companies and others.

The mainstream financial sector (providers of deposit and loan products to the public) is divided into tiers:

1. Tier I (commercial banks) 2. Tier II (Credit Institutions)3. Tier III (micro deposit taking institutions (MDIs)) 4. Tier IV (NGOs), savings and credit co-operatives, microfinance companies).

Players in Uganda’s Financial Sector


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• Bank for commercial banksAll commercial banks maintain accounts with the BOU. Broadly, these accounts fall into two

categories: Statutory (compulsory) accounts and operating or “clearing” accounts. The statutory accounts have funds that belong to the banks and other regulated financial institutions but are restricted as mandatory/ statutory deposits. The clearing accounts work as normal current accounts.

• Banks’ Lender of last resortCommercial banks in temporary cash shortages borrow from the Central Bank if they cannot

borrow from other banks/ financial institutions. Interest rate administration• As an instrument for monetary policy, BoU influences the interest rates through the rates it

charges other banks. Presently, BoU also prescribes the minimum bank rates for inter-bank lending to influence the overall borrowing level through influencing loan pricing (interest rates). A higher rate discourages borrowing and reduces overall money supply in the economy to reduce or contain inflation. A lower rate encourages more borrowing and has a reverse effect.

Roles of Bank of Uganda


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• Currency issuing authorityThe Central Bank is the sole currency issuing authority in the country

• Government’s BankTreasury funds are kept in the Central Bank.

• Custody of the National foreign currency reservesThe Central Bank is charged with ensuring that foreign exchange reserves are kept

at acceptable levels.• Credit and liquidity control; Through Bank Rate policy, Open market operations, Variable reserve

requirements, Collateral margin requirements etc., the BOU indirectly controls the amount of money in circulation and the level of credits advanced by banks



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• Financial markets developmentBoU is championing a number of programs and projects aimed at developing the

Ugandan financial markets further. Working with other stakeholders, BOU spearheads the Financial Markets Development Committee (FMDC). The key focus areas presently are the Credit Reference Bureau, Financial Literacy, Agricultural Finance, Standards and benchmarking.

• Supervision of banksUsing standard performance and stability indicators, the BoU regularly inspects and

supervises the activities of commercial banks. In supervising banks, Credit Institutions and MDIs, BoU uses robust, risk-based regulation guidelines. Supervision is meant to ensure that the banking/ financial sector is overall healthy, sound and stable. Institutional health and performance are key broad areas of concentration

Clearing House facilities for Commercial banks:• The BoU is where inter-bank cheques get paid and thus inter-bank debts are settled.



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Commercial Bank- DefinitionThe Financial Institutions Act of 2004 classifies a commercial bank as an

institution which meets the following criteria;a. Acceptance of call, demand, savings and time deposits withdrawable by

cheque or otherwise;b. Provision of overdrafts and short to medium term loans;c. Provision of foreign exchange facilities;d. Acceptance and discounting of bills of exchange;e. Provision of financial and investment advice;f. Participation in inter-bank clearing systems;g. Gives guarantees, bonds or other forms of collateral, and accepts and

places third party drafts and promissory notes connected with operations in which they take part.

Roles of Commercial Banks


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• Accepting deposits- This is perhaps the most important function of a commercial bank. Commercial banks receive and accept deposits from those who can save.

• Fixed deposit: a type of deposit which fetch much more rate of interest and are drawn after the expiry of a specified period.

• Current or demand deposits: deposits which carry a very low rate of interest or no interest and allow withdrawal at any time.

• Savings bank deposit: deposits which are aimed at encouraging saving among the people and bear a higher rate of interest than the current deposits but less than fixed deposits.

• Advancing of Loans- Advancing loans is another important function of commercial banks. The size of a bank’s loan portfolio usually depends on the bank's strength in receiving deposits.

• When a customer is allowed to draw more money from his account than he has in it, the bank creates an overdraft.

The Primary functions of commercial Banks


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Banks make payments of monies on the basis of standing instructions made by customers.

• Banks collect dividend and interest on securities as per standing instructions of the customers.

• Banks facilitate the transfer of funds from one bank to another or from one branch to another.

• Banks collect cheques, bills and promissory notes.• A bank can act as an executor or trustee when it facilitates the

administration of a will.• Safe custody of valuable and important documents against theft and fire

because banks provide locker facilities.• Reference (act as a referee) in respect of financial standing of the customer.• Issuance of personal and commercial letters of credit.

The secondary functions of commercial Banks


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1. Long term lending (project finance)Loans of 5 to 10 years can be made, usually for start-up or expansion of

commercially oriented projects. 2. Medium term lendingMedium term lending usually ranges from loans of 2 to 4 years. 3. Working capital lendingThese are Short term loans of 6 to 24 months for normal working capital. 4. Equity investmentsDevelopment banks make equity investments (buy shares) in select client

companies. 5. Helping clients with refinement of project concepts, and implementationContribution to good corporate governance in client companiesDevelopment banks sometimes do this through their representation on client

company boards.

The Role of Development Banks


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• Microfinance companies and NGOs Tier 4 microfinance companies are not regulated and offer

small/ micro loans to their customers, usually the poor/ low income people who are economically active. MDI or micro deposit taking institutions are microfinance institutions which are authorized to receive deposits. MDIs are regulated by Bank of Uganda.

• Savings and credit co-operatives (SACCOs)SACCOs are formal cooperative societies that are engaged in

providing savings and loan facilities to their members. In Uganda, SACCOs are regulated by the Commissioner for Co-operatives -Ministry of Trade and Industry

The Role of other financial Institutions


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• Credit Institutions and MDIsThese are regulated by BOU and are licensed to take savings, lend and

engage in a limited range of other financial activities (CIs can do a bit more than MDIs, for instance forex operations).

• Leasing CompaniesThese are involved in lease financing of productive assets. The user

(lessee) keeps paying periodic rentals to the owner (lessor), and usually acquires ownership of the assets at the end of the lease period, for a token price.

• Multi-national Long term InvestorsThese are multinational organizations doing mainly large, long term

loan and equity investments. They do funding mainly to large start-up and expanding projects. Examples are KfW, DEG, IFC, FMO etc.

The Role of other financial Institutions


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Insurance companies are regulated by the Uganda Insurance Commission. Insurance companies offer to bear the risks of certain eventualities for their clients in return for insurance premium payments by the clients.

There are the two basic principles on which insurance companies work.

1. Pooling of Risks: An insurance company has to have a large enough number of clients (critical mass) insuring similar risks to create for them a class of insurance. This is based on the expectation that the larger the number of clients insuring against a particular risk, the smaller will be the proportion of total premium paid out as compensation to policy-holders of that category. This enables the insurance company to fulfill the claims and still make a profit.

The Role of Insurance Companies


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2. Insurability of Risks: The eventualities which have a high likelihood of occurring are, in general not insurable. This is because insurance companies have to do business profitably and sustainably.

Insurance Companies as Fund sourcesBy careful risk selection and management, insurance companies

usually retain substantial surpluses every year (some poorly managed ones don’t!!) They usually invest in bonds, Treasury Bills, fixed deposits and, selectively, in the equity of good companies. In most of the cases, these funds are then available to the banks to intermediate. Thus, insurance companies are sources of funds for investment.

The Role of Insurance Companies


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1. Rotating savings and credit associations (ROSCAs) 2. Deposit collectors3. Savings clubs.

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What are the characteristics of participants in the informal sector?

The Informal sector


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4. Reciprocal lendingHouseholds or individuals lend to each other whenever one is in need and

the other is in position to lend.

5. Accumulating savings and credit associations (ASCAs)Periodic joint savings like the ROSCA, but the savings accumulate rather

than being liquidated at each meeting. Members may borrow from the fund at an agreed interest rate. Usually, the fund is periodically divided up among the members together with any interest earned.

6. Money lendersMoney lenders lend money to people on character or security basis. The

loans usually have very high interest rates and stringent repayment requirements

The Informal sector


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The informal sector

7. Supplier creditSome small businesses and

households get credit in kind from their suppliers who usually know them well. Hawkers, cotton farmers and small scale retailers are examples


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The informal sector

8. Informal insurance schemes

A loose association of neighbours pooling their meagre funds to buy collectively owned necessities or just to keep the money for eventualities like funerals, celebrations, sickness, theft, fire, death etc.


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Mobile Money

These are financial services offered by Mobile Network operators. The main products include payments, money transfers and mobile phone banking which is jointly offered with financial institutions. Mobile money is a non traditional financial service offered by a non financial institution.

introduction to financial services 1

Documents

financial services1

financial institutions

banking act

banking crisis

new financial institutions

history of banking

banking system

structure of financial