Name: Sean Takunda Mutizamhepo

Student number: B201580B

While financial institutions have faced difficulties over the years for a multitude of reasons, the
major cause of serious remains to be directly related to credit risks associated with the products
portfolio of these institutions. Amongst many reasons for the issues that arise form credit risk
include relaxed credit standards for borrowers and counterparties or groups of related
counterparties, poor portfolio management and flawed KYC procedures. Therefore, there is a
need for effective management of credit risk through various procedures and policies that will be
guided by the Basel Committee's five principles of credit risk management. These policies are
establishing an appropriate credit risk environment, operating under a sound credit granting
process, maintaining an appropriate credit administration, measurement and monitoring process,
ensuring adequate control over credit risk and the role of supervisors.

Principle 1 : Establishing an appropriate credit risk environment

Establishing an appropriate credit risk environment means creating such a market environment
through a credit risk strategy. The board of directors of the institution should also be responsible
for the approving and then consistent review (at least annually) of the credit risk strategy and
other credit risk policies of the bank. The board of directors play a critical role of overseeing the
credit granting, credit administration and credit risk management function of the bank. Each
bank should establish a guide with objectives regarding credit facilitation, management of credit
risk within the institution's product portfolio.

Senior management within the institution must also take it upon themselves to implement the
credit risk strategy that has been approved by the board of directors and formulate policies and
procedures for the identification, monitoring and control of credit risk in all of the bank's
activities. These credit policies and procedures should clearly defined and communicated within
the organisation such that they can effectively guide the credit granting process of the bank
within the parameters of the credit risk strategy. These policies should be structured with both
internal factors and external factors put to consideration such as, market position, economic
conditions, market share etc.

The Credit Risk Strategy and policies implemented by senior management should also be in line
with the overall business objectives of lending institutions such as banks wihich is the generation
of revenues. Therefore the credit risk strategy and policies should recognize the objective of
revenue generation through quality credit granting and processes.

Banks should furthermore, identify and manage credit risk inherent in all products and activities,
that is the credit risk of all products inlcluding loans and other credit risk related products such as
interbank transfers, swaps and bonds and new products should be subject to risk management
procedures and controls and approved in advance by the board of directors before being
introduced to the market.

Principle 2 : Operating under a sound credit granting process

Within the policies and proceduers implemented by senior management and the approved credit
risk strategy must include, sound credit granting criteria and parameters and should include a
clear indication of the banks target market and a thorough understanding of the borrower (Know
Your Customer) to be aware of the structure of the credit and the source of repayment. FLPC
came into effect from 1st November 2003. The purpose of FLPC is to render courteous and
speedy services to all the borrowal customers.

Financial Instututions should also establish credit limits for individuals, counterpaties and related
counterparties that aggregate within a comparable manner or credit granting demographic. This
should be done to ensure the mitigtion of default on credit facilitation due to granting of credit to
indiividuals or counterparties that are not within the ability to meet the obligation towards the
lender.

All credit lending should also be made on an arm's length basis, in particular credit lending
directed towards companies and individuals. All credit lending must be done on exception basis,
monitored with particular care and other appropriate steps taken to control and mitigate credit
risk.

Principle 3 : Maintaining An Appropriate Credit Administration, measurement and

Banks should have a system in place for the ongoing administration of their various credit risk-
bearing portfolio. Credit administration is important once a credit service has been granted as it
helps through an administration such that the credit file is kept up to date. The credit
administration of banks is expected to ensure efficiency and effectiveness in monitoring,
documentation, adherence to contractual obligations on the part of the borrower and legal
oversight. The credit file should also contain information on the financial position of the
borrower and constantly updated to match the current financial position. The credit file should
also contain information such as the internal credit rating of the borrowed.

Principle 4 :The Role of Supervisors

Although the board of directors and senior management bear the ultimate responsibility for an
effective system of credit risk management, supervisors should, as part of their ongoing
supervisory activities, assess the system in place at individual banks to identify, measure,
monitor and control credit risk. This should include an assessment of any measurement tools
(such as internal risk ratings and credit risk models) used by the bank. In addition, they should
determine that the board of directors effectively oversees the credit risk management process of
the bank and that management monitors risk positions, and compliance with and appropriateness
of policies.

To evaluate the quality of credit risk management systems, supervisors can take a number of
approaches. A key element in such an evaluation is the determination by supervisors that the
bank is utilising sound asset valuation procedures. Most typically, supervisors, or the external
auditors on whose work they partially rely, conduct a review ofthe quality of a sample of
individual credits. In those instances where the supervisory analysis agrees with the internal
analysis conducted by the bank, a higher degree of dependence can be placed on the use of such
internal reviews for assessing the overall quality of the credit portfolio and the adequacy of
provisions and reserves. Supervisors or external auditors should also assess the quality of a
bank’s own internal validation process where internal risks.

REFERENCES

Bank Lending Principles in Nigeria,Michael C Nwafor Et al(2006), Godfrey Uwoke University

Central Bank Collateral Frameworks: Principles and Policies, Alexandre Chailloux, Simon Gray
and Rebecca McCaughrin, International Monetary Fund.