caleb m fundanga : corporate governance and its impact on financial institutions remarks by dr caleb m fundanga, governor of the bank of zambia, at the institute of directors business luncheon on corporate governance and its impact on financial institutions, lusaka, 27 april 2011. * * * the institute of directors national vice president mrs. sue m. mwaanza the chairman membership and publicity committee, mr. augustine c. seyuba directors and chief executive officers present distinguished invited guests members of the press ladies and gentlemen i am honoured to be here today to share with you some thoughts on corporate governance and its impact on financial institutions. i am certain that corporate governance is not a new topic to all of us in this room. it is obviously of fundamental importance to this audience, given that most of you are company directors. corporate governance is critical to the bank of zambia, in its capacity as supervisor and regulator of the banking system. until fairly recently, corporate governance was not a topic that attracted much public attention. it was a topic reserved for discussion in the board room or in academic environments. however, recent events, such as the enron scandal and other corporate governance failures including events that led to the recent financial crisis, have made corporate governance a major topical issue. the recent events have highlighted the important role that corporate governance plays in a modern financial sector and the economy at large. i am therefore delighted that the institute of directors has chosen this topic for discussion today. perhaps it would be useful to begin by defining what corporate governance means. there is no single, accepted definition of what “ corporate governance ” means. the majority of the definitions employed by corporate practitioners relate corporate governance to “ control ” of the company. in this regard, corporate governance is defined as a set of processes, customs, policies, laws and institutions affecting the way a corporation is directed, administered or controlled. corporate governance influences how the objectives of the company are set and achieved, how risk is monitored and assessed and how performance is optimised. ladies and gentlemen, corporate governance is of key importance to any financial system. in zambia the financial sector is dominated by banks and these remain the main source of finance in the economy. the failure of corporate governance in banks may therefore pose serious consequences for the banking sector and the economy as a whole. it is also important to note that the health of the financial system largely depends on their capacity to identify measure, monitor and control their risks. banks face a wide range of complex risks in their day

, experienced a run and was subsequently closed two days later after a local newspaper reported that a customer of the bank was involved in money laundering. ladies and gentlemen, the importance of the payment system to an economy cannot be over - emphasized. the payment system provides the means by which vast numbers of transactions are made each day. the payment system involves many different components, including systems for settling large, inter - bank and inter - corporate payment transactions, and systems for handling a number of smaller transactions. however, the payment system operators also face a number of risks including operational risks. in particular, they need to ensure that the systems for processing payments, the back - up arrangements, and the internal governance structures are robust. a major operational failure in the payment system has the potential to cause severe disruption to the financial system and wider economy. at its worst, a major payment system failure would bring countless commercial transactions to an abrupt halt, impede the operation of business in virtually all parts of the economy and fundamentally undermine investor and business confidence. it is thus imperative that banks and other financial institutions as well as payment system operator maintain proper systems to enable them to identify, monitor and control risks. sound corporate governance is the foundation for effective risk management. the recent financial crisis has shown that the presence of a well regulated financial sector and properly run corporate entities is key to the prosperity of any economy. in particular, the crisis was caused, in part, by excessive exposure concentration, poor credit policies and inadequate management of credit risk. these risk management failures reflect a breakdown in corporate governance. they reflect poor management of key banking risks, and poor oversight by boards of the mechanisms for managing their banks. in some cases, a lack of independent directors on the boards of banks was also a significant factor in weakening the effectiveness of boards with poor quality financial disclosures and ineffective external audit. bis central bankers ’ speeches in zambia, although the financial sector was not adversely affected by the crisis in a direct fashion, over the period 1995 – 2000, the sector experienced numerous episodes of bank failures that have had adverse effects on the confidence in the financial system. a total of ten banks were closed during this period and a major weakness noted in all the failures were the weak governance structures and practices in the banks. a close examination of the failed banks identified the following weaknesses which were common in most of them ; large credit exposures, lending to connected parties, poor or absence of a credit policy, incompetent management coupled with ineffective boards,