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ISBASS-1166

A Comparative Study of the Regulatory Framework for Microfinance

Institutions in Ghana and Nigeria

Isaac Quaye, Alfred Sarbah*, Yinping Mu

School of Management & Economics,

University of Electronic Science & Technology of China (UESTC), P. R. China

sarbah@yahoo.com

Abstract

The growth of Microfinance Institutions (MFIs) has been increasing all over the world since

its emergence in Bangladesh in the 1970s. The modu operandi of MFIs are geared towards

the provision of financial assistance to the poor and low income earners for the purpose

building social capital. MFIs are therefore established to serve as poverty alleviation tool in

the world especially in developing countries. In order to prevent MFIs from operating ultra

vires and exploiting their clientele, it is imperative to have an efficient and effective

regulatory and supervisory framework for their operations. It is in the light of this that this

paper theoretically undertakes a comparative study on the existing regulatory frameworks for

MFIs in Ghana and Nigeria. The paper also highlights the rationale for regulating MFIs as

well as levels of regulation. Moreover, the paper presents the regulatory framework for MFIs

for the two countries under study together with some challenges encountered in the

implementation of the regulatory frameworks. The paper concludes with some policy

recommendations to help achieve the goals for which MFIs were instituted.

Keyword: Regulatory Framework, Microfinance Institutions, Ghana, Nigeria.

1. Introduction

Low income earners and the extreme poor need financial services and products that have

eluded them from traditional banks to stabilize consumption and build assets in order to

improve their standard of living. It is against this backdrop that micro financing was initiated

by its schemers to serve as panacea. Microfinance refers to a development tool that grants or

provides financial services and products such as very small loans, savings, micro-leasing,

micro-insurance and money transfer to assist the very or extremely poor in growing or

establishing their businesses. It is mostly used in developing economies where Small and

Medium Scale Enterprises (SMEs) and low income earners do not have access to other

sources of financial assistance (Quaye et al, 2014). In order to prevent microfinance

institutions (MFIs) from operating ultra vires and exploiting their clientele, it is imperative to

have an efficient and effective regulatory and supervisory framework in a country.

Microfinance should be seen as an integral part of a countrys financial system given the

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diversity of financial services to the poor and the institutions that offer these services. The

integration of microfinance into a countrys financial system requires a strategy that takes into

account the overall policy and legal framework, markets and instruments, as well as the state

of development of the microfinance industry (Ledgerwood and White 2006). MFIs should be

regulated under the existing framework in a country. Staschen (2003) stated that

Microfinance services can be provided under a wide range of institutional models, which

are regulated under laws as different as a banking law, a cooperative law, a specific

microfinance law, or any other law defining a lower tier of financial institutions.

Therefore, this paper makes a theoretical comparative study of the existing regulatory

frameworks for MFIs in Ghana and Nigeria by undertaking a review of them. These two

countries have been chosen because they have a wide range of informal, semi-formal and

formal MFIs providing different financial services to the poor, as well as legal systems and

regulatory frameworks which differ in coverage of financial intermediation activities by MFIs.

The remaining of the paper is structured as follows: Sections 2 covers rationale for regulation

and supervision of MFIs. Sections 3 and 4 present levels of regulation and microfinance in

Ghana and its regulatory framework respectively. Microfinance in Nigeria and its regulatory

framework is presented in section 5 whiles discussion of the paper is covered in section 6.

Section 7 presents the conclusion and recommendation of the paper.

2. Rationale for Regulation and Supervision

Regulating and supervising the informal financial sector including MFIs and the entire formal

financial sector have been a major concern to governments, policy makers and other

stakeholders. Many literature cite consumer protection as the main reason for regulation of

the formal financial sector (Gallardo 2001, Meagher 2002, Arun 2005, Ledgerwood, and

White 2006). Moral hazard issues arise because the interests of financial institutions vis--vis

the interests of consumers per se are not necessarily compatible. Individual depositors and

investors may not be in a position to judge the soundness of a financial institution (the issue

of asymmetric information), much less to influence that institutions management. Thus, an

impartial third party such as the state or one of its agencies is required to regulate and control

the soundness of a countrys financial institutions. Since bank failures and problems tend to

be contagious and affect other banks regardless of their soundness, the protection of the whole

banking and payment system becomes an additional objective of regulation and supervision

(Gallardo 2001). There are concerns as to whether regulation is really needed in the

microfinance sector, and if needed, what are the different options, rather than emulating the

practices from the formal sector. The arguments for regulation in the microfinance sector

seems to be an appropriate one when we consider the level of uncertainties in which clients

are subjected to such as innovative procedures and high operating costs. Also the financial

failures in the microfinance sector could have a serious impact on the financial system

through affecting the commercial banks (who lends to microfinance institutions) and the

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public confidence. A study on 12 regulated microfinance institutions in Latin America

reported that the benefits of regulation exceeded the cost (Theodore & Loubiere, 2002) and

the benefits include greater access to commercial sources of funds for equity and debt, ability

in providing diversified products, higher standards of control and reporting, and, enhanced

legitimacy in the operations (Arun 2005).

3. Levels of Regulation

Regulatory frameworks can be stipulated on different levels of regulation (Staschen 2003,

Ledgerwood, and White 2006). Primary legislation, in the form of laws or acts of parliament,

define general standards and principles that financial institutions must meet and that remain

relatively stable over time. Secondary legislation, or statutory regulations, that are

promulgated under such laws and acts typically prescribe specific benchmarks and

procedures that need to be adapted more often and are unlikely to require

legislative input. Laws and acts generally have to be passed by Parliament and thus undergo a

time-consuming political decision-making process whereas regulations can be altered more

flexibly through an executive body such as a ministry or a central bank. Regulations are

usually more detailed and can be adapted to changes in the industry, economy, or regulators

and supervisors enhanced understanding of the risk being addressed by the regulatory regime.

In addition, the supervisory authority may introduce guidelines that further specify selected

sections of the laws or statutory regulations. Such guidelines are often defined in circulars;

however, they only show the expectations of the supervisory body, and are not included in the

requirements for compliance. Specific guidelines or circulars allow for the highest degree of

flexibility by providing considerable discretionary power to the supervising authority;

however, they also have a lower degree of legal enforceability. The above discussion is

summarized in figure 1:

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4. Microfinance in Ghana and Its Regulatory Framework

The concept of microfinance is not new in Ghana. Traditionally, people have saved with and

taken small loans from individuals and groups within the context of self-help to start

businesses or farming ventures. According to Ghana Microfinance Policy (GHAMP) issued in

2006, the first Credit Union in Africa was established in Northern Ghana in 1955 by Canadian

Catholic Missionaries. Susu, which is one of the current microfinance methodologies, is

thought to have originated in Nigeria and spread to Ghana in the early twentieth century

(Bank of Ghana 2007). In Ghana, the term microfinance is understood as a sub-sector of the

financial sector, comprising mostly of different financial institutions who use a particular

financial method to reach out to the poor and small businesses (Quaye et al, 2014). Study by

Akinlawon et al (2011) reveals three broad categories of microfinance institutions in Ghana:

(i) Formal suppliers such as savings and loans companies, rural and community banks, as well

as some development and commercial banks; (ii) Semi-formal suppliers such as credit unions,

financial non-governmental organizations (FNGOs), and cooperatives; and (iii) Informal

suppliers such as susu collectors and clubs, rotating and accumulating savings and credit

associations (ROSCAs and ASCAs), traders, moneylenders and other individuals.

The Banking Act of 2004, Act 673, provides the legal basis for regulating the banking sector

by the Bank of Ghana (BOG). Commercial, rural and community banks are regulated by Act

673 which was amended in 2007 (Act 738). Ghana has a tiered range of formal, semi-formal

and informal institutions providing microfinance services to the urban and rural poor and

underserved sectors of the economy (Gallardo 2001). Formal institutions are licensed and

supervised by the Bank of Ghana. Semi-formal institutions are not regulated by the Bank of

Ghana, however they are registered with the Registrar of Cooperatives and Informal

institutions, consisting mainly of the Susu collectors, fall outside the scope of regulation. In

July 2011, Operating Rules and Guidelines for MFIs was disseminated by the Bank of

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Ghana (Bank of Ghana 2011). According to country survey by MF Transparency in 2011, this

was primarily done to integrate the unregulated microfinance sector within its scope of

regulation and supervision. The Bank of Ghana per the guidelines released categorized the

financial intermediaries in microfinance into four tiers and sets out the regulation for each of

the tiers as briefly discussed below (Bank of Ghana 2011):

Tier 1 Activities: These are regulated under the Banking Act 2004 (Act 673), ARB

Apex Bank Regulations, 2006 (LI 1825), the Non-bank Financial Institutions Act, 2008 (Act

774) and respective Notices and Circulars issued by the Bank of Ghana.

Tier 2 Activities: All Tier 2 activities, except credit unions, shall be undertaken by

companies limited by shares. Companies undertaking Tier 2 activities shall include the word

microfinance in their names. Credit unions are regulated by Co-operative Societies Decree,

1968, (NLCD 252). However, a Legislative Instrument under the Non-Bank Financial

Institutions (NBFI) Act, 2008 will soon be passed to regulate their activities.

Tier 3 Activities: All Tier 3 activities shall be undertaken by companies limited

by shares (Money lenders) or companies limited by guarantee (FNGOs). Companies

undertaking money lending activities shall include the words Money lending in their names.

Companies undertaking non-deposit taking microfinance activities shall include the acronym

FNGO in their names.

Tier 4 Activities: They comprise those activities undertaken by individual Susu

collectors, Susu enterprises (with a registered business name), individual money lenders and

money lending enterprises. They may operate in a defined geographical area such as a market

or a suburb. Tier 4 activities may be undertaken by individuals or by enterprises with a

registered business name. All Tier 4 operators shall belong to an umbrella Association such as

the Ghana Cooperative Susu Collectors Association (GCSCA). The registered business name

of susu enterprises shall include the word susu. The registered business names of money

lending enterprises shall include the words money lending.

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5. Microfinance in Nigeria and Its Regulatory Framework

The practice of microfinance in Nigeria is culturally rooted and dates back several centuries.

The traditional microfinance institutions provide access to credit for the rural and urban,

low-income earners. They are mainly of the informal Self-Help Groups (SHGs) or Rotating

Savings and Credit Associations (ROSCAs) types. Other providers of microfinance services

include savings collectors and co-operative societies. The informal financial institutions

generally have limited outreach due primarily to paucity of loanable funds (CBN 2005).

In Nigeria, the formal financial system provides services to about 35% of the economically

active population while the remaining 65% are excluded from access to financial services

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(Iganiga 2008). This 65% are often served by the informal financial sector, through

Non-Governmental Organization (NGO)-microfinance institutions, moneylenders, friends,

relatives, and credit unions. The non-regulation of the activities of some of these institutions

has serious implications for the Central Bank of Nigerias (CBNs) ability to exercise one

aspect of its mandate of promoting monetary stability and a sound financial system (Matthew

and Ilemona 2013).

The first microfinance policy was drafted and launched by the CBN in December of 2005

with support from Promoting Improved Sustainable MSME Financial Services (PRISMS).

The policy became operational in January 2008. According to Moruf, (2013), the policy

microfinance policy, regulation, and supervisory framework for Nigeria is a major land

mark in the history of micro credit delivery service in Nigeria. Prior to the release of this

policy, there was no governmental policy regulating microfinance institutions. One of the

policy thrusts was the emergence of large number of private-sector initiated Micro finance

banks (MFBs) across Nigeria, either through converting existing community banks,

transforming the existing NGO-MFIs or promoting fresh microfinance operators. The basic

concept underlying the emergence of microfinance banks is community oriented. There are

more than 900 microfinance banks operating within Nigeria (Kuruwa et al 2009).

Microfinance banks were established because of the failure of the existing microfinance

institutions to adequately address the financing needs of the poor and low income groups

(Moruf 2013). The CBN further justified its licensing of microfinance banks with the lack of

institutional capacity and weak capital base of existing community banks, existence of huge

un-served market and need for increased savings opportunity (CBN, 2005). In 2012, CNB

released a Revised Regulatory and Supervisory Guidelines for MFBs in Nigeria based on

the implementation of the first policy and experience acquired thereof. Therefore, the

revised policy was aimed at promoting innovative, rapid and balanced growth of the industry,

leveraging on global best practice in microfinance banking (CBN, 2012). MFBs have been

put into three categories according to their licensing requirements by the CNB as stipulated in

the revised policy (CBN 2012):

Category 1: Unit Microfinance Bank

A Unit Microfinance Bank is authorized to operate in one location. It shall be required to have

a minimum paid-up capital of N20 million (twenty million Naira) and is prohibited from

having branches and/or cash centres.

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Category 2: State Microfinance Bank

A State Microfinance Bank is authorized to operate in one State or the Federal Capital

Territory (FCT). It shall be required to have a minimum paid-up capital of N100 million (one

hundred million Naira) and is allowed to open branches within the same State or the FCT,

subject to prior written approval of the CBN for each new branch or cash centre.

Category 3: National Microfinance Bank

A National Microfinance Bank is authorized to operate in more than one State including the

FCT. It shall be required to have a minimum paid-up capital of N2 billion (two billion Naira),

and is allowed to open branches in all States of the Federation and the FCT, subject to prior

written approval of the CBN for each new branch or cash centre. Table 2 highlights the types

of MFBs and the regulatory framework under which they operate.

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6. Discussion

Regulating and supervising the microfinance sector as well as the entire financial sector is

very imperative in promoting sound and satisfactory atmosphere amongst the players in the

sector. The policy framework should form an integral part of a countrys financial system.

Moreover, the ultimate goal of such framework must be geared towards attaining the purpose

for which microfinance institutions were established as poverty alleviation tool for poor and

low income earners. Therefore, policy makers and authorized institutions must not couch the

regulatory and supervisory framework to make or misconstrue MFIs as profit-making entities.

It is evidential that Ghana and Nigeria have different regulatory and supervisory systems for

MFIs.

In Ghana, commercial banks have received wider coverage than microfinance institutions in

terms of regulation and supervision by Bank of Ghana. Consequently, Bank of Ghana has

delegated a number of apex associations to help enforce and deepen the regulation and

supervisory functions for MFIs: ARB Apex Bank, Ghana Co-operative Credit Unions

Association (CUA), Ghana Co-operative Susu Collectors Association (GCSCA), Association

of Financial NGOs (ASSFIN) and Ghana Co-operatives Council (GCC). In spite of the good

strides made by Bank of Ghana in regulating the MFI sector through the various apex

associations, there still exists a weaker regulatory framework as compared to the formal sector.

There is improper coordination and ineffectiveness in the modus operandi of the apex

associations due to absence of well-designed guidelines. Additionally, apex associations lack

trainers and monitoring units to effectively carry out their mandate. Investment in the

microfinance sector is stifled as a result of lack of strong regulatory policy and framework.

The repercussion of this situation is stunted growth in the microfinance sector and the

financial sector in general.

Contrary to the regulatory framework for MFIs in Ghana, Nigeria has one regulatory policy

governing and regulating the entire microfinance sector. According to CBN (2005),

microfinance is about providing financial services to the poor who are traditionally not served

by the conventional financial institutions. CBN (2005) further distinguishes microfinance

from formal financial products by three features: smallness of loans and savings, absence or

reduced emphasis on collateral, and simplicity of operations. Provide diversified, affordable

and dependable financial services to the active poor, in a timely and competitive manner, that

would enable them to undertake and develop long-term, sustainable entrepreneurial activities

as one of the goals of establishing MFBs makes them to be regarded as community and social

oriented institutions. However, the operations of MFBs recently are geared towards being

profit-making institutions. Acha (2012) revealed that microfinance banks charge between

30% - 100% interest on loans while they pay 4.5% to 6% on savings. This was confirmed by

Lloyd and Robbins (2014) as they posit that the unregulated interest rate charged by

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microfinance banks and allied institutions as high as 30% and above on a relatively short term

basis, some on a reducing balance and majority on a flat interest rate, constitute a clog in the

wheel of economic growth and development. The economically active poor and the low

income households in most cases are denied access to financial services due to the high

interest rate, short tenure ship, and the conditionality in terms of collateral security. This

contravenes the goals for establishing MFBs as well as the objectives of the regulatory policy.

Profit maximization objective of most MFBs is inherent in their overall setup as community

banks (profit oriented institutions) which met the CNB requirements were converted into

MFBs by the implementation of the regulatory policy in 2005.

According to an introductory speech offered by the deputy governor, Financial Sector

Stability, CBN, at the opening ceremony of the maiden Microfinance Certification Training

Programme of key operators of microfinance banks on May 24, 2010, one of the reasons for

MFBs poor performance is due to loss of focus and ambitious attempts by MFBs to operate as

universal banks (Williams, 2012). The choice of the words Microfinance Banks in the

regulatory policy issued in 2005 by CBN serves as an impetus for some operators of MFBs to

conduct their operations as universal banks; thereby embracing profit maximization as their

primary objective rather than being pro-poor and social oriented institutions. Other factors

mentioned by the deputy governor included poor understanding of the provisions of the

guidelines of the microfinance policy and the regulatory framework, lack of proper orientation

on how to deliver microfinance services and absence of appropriate internal capacity building

strategy.

7. Conclusion / Recommendation

The rationale for microfinance regulation is to create a sanitized atmosphere for players in the

microfinance industry while not promoting retrogressive growth of the sector by enforcing

undue requirements. The central banks of Ghana and Nigeria have promulgated regulatory

policies and guidelines to streamline the operations of the microfinance sector in their

respective countries but not without challenges. In order to restore confidence in the

microfinance sector as well as boost the growth of the sector in both countries in achieving

the dual goals of sustainability and social impact, the following recommendations are made

by the authors:

The activities of credit unions in Ghana form integral part of the microfinance sector.

That notwithstanding, they are regulated by an outmoded decree Co-operative Societies

Decree, 1968, (NLCD 252). 90% of the provisions on the law covers marketing, farmers,

consumers and other cooperatives but not Credit Unions and there is lack of prudent laws or

performance standards for Credit Unions. The law did not consider the new trends of business,

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which have come about as a result of changes in technology, diverse nature of individuals,

changes in the mode of business transactions and the need for specialization in dealings and

the supervision of particular business. According the Operating Rules and Guidelines for

MFIs issued by the Bank of Ghana in 2011, it stated that a Legislative Instrument under the

Non-Bank Financial Institutions (NBFI) Act, 2008 will soon be passed to regulate the

activities of credit unions. However, this is yet to see the light of day almost 4 years after the

issuance of the guidelines. Therefore, it is recommended that the Credit Union Bill should be

passed as soon as possible for Credit Unions to be more competitive and be able to sustain

themselves in the long-term in order to serve the poor better.

MFBs Orientation Programme (MOP) should regularly be organized by CBN for

operators of MFBs. The essence of MOP is to continuously orientate the mangers and staff of

MFBs to fully comprehend the operational limits and objectives of microfinance banks. MOP

should highlight on the need for MFBs to be cognizant of the fact they must operate as social

and pro-poor institutions whiles financial sustainability becomes their secondary motive. In

effect, MOP should irrevocably communicate to MFBs that they cannot conduct their

activities as commercial or universal banks.

Both countries require a holistic approach in addressing the challenges confronting their

microfinance sectors. There should be better coordination among the various stakeholders in

microfinance through a consultative process. The stakeholders consultative process may be

costly and time consuming but it is very critical in the development and achievement of a

robust regulatory framework in the long term. Governments should spearhead the

achievement of such strong regulatory framework through improving social infrastructure and

creating enabling environment for more private investment in the microfinance sector. The

central banks should not neglect their oversight supervision over the various apex associations

delegated to supervise and monitor the operations of MFIs. Clear, well-designed and

unambiguous guidelines should be issued to apex institutions in order to ensure proper

coordination between them and MFIs as well as the central banks. These apex associations

should be adequately resourced especially with well-trained facilitators as well as effective

monitoring and evaluation unit in order to carry out their supervision functions very

effectively and efficiently.

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