Why CBN Banned Use Of Foreign Currency Collaterals For Naira Loans

The Central Bank of Nigeria (CBN) has tightened regulations surrounding loan collaterals, specifically targeting the use of foreign currencies.

This directive, issued through a circular dated April 8, 2024, carries implications for borrowers and lenders across the country.

Acting Director of Banking Supervision, Adetona Adedeji, emphasized the need for adherence to the new policy. “The Central Bank of Nigeria has observed the prevailing situation where customers use Foreign Currency (FCY) as collaterals for Naira loans,” Adedeji stated in the circular.

He continued, “Consequently, the current practice of using foreign currency-denominated collaterals for Naira loans is hereby prohibited, except where the foreign currency collateral is Eurobonds issued by the Federal Government of Nigeria or guarantees of foreign banks, including Standby Letters of Credit.”

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This directive signifies a shift in the banking landscape, with the CBN aiming to streamline collateral practices and possibly mitigate certain risks associated with foreign currency exposure. While the circular allows for some exceptions, it notably tightens the leash on the usage of foreign currencies as loan security.

In response to inquiries about the rationale behind the decision, Adedeji clarified, “The intention behind this directive is to reinforce the stability of the Naira and ensure the integrity of the Nigerian financial system.”

Furthermore, the CBN has set a timeline for compliance, stating, “All loans currently secured with dollar-denominated collaterals other than as mentioned above should be wound down within 90 days.” Failure to comply with this timeline will result in increased risk-weighting for Capital Adequacy Ratio (CAR) computation, alongside other regulatory sanctions.

The Capital Adequacy Ratio (CAR) is a crucial metric used to assess a bank’s financial health by measuring its capital against its risk-weighted assets. By imposing a higher risk weight on loans backed by foreign currency collaterals outside the specified exceptions, the CBN aims to ensure that banks maintain sufficient capital reserves to cover potential losses.

This move by the CBN underscores its commitment to maintaining stability within the Nigerian financial sector while aligning with broader economic objectives. As banks and borrowers navigate these regulatory changes, compliance and adaptability will be key to mitigating any potential disruptions in the lending landscape.