AN INQUIRY INTO THE JAMAICAN FINANCIAL

SYSTEM REGULAORY FRAMEWORK AND ITS IMPACT

ON THE BANKING SECTOR
REGULATORY BODIES AND THEIR LEGAL BASES
In all the major financial centers of the world, there is a common denominator which
buoys there operations, that is, an effective regulatory structure. The thrust of this
research paper is to critique the Jamaican financial system regulatory framework, and
thereby, extrapolate its impact on the banking sector. The overall regulatory structure of
the financial system, the perusal of the legislative instruments guiding the operations of
commercial banks and the impact of such legislation on general banking operations will
be examined in the said order.
The Ministry of Finance and Planning is the principal organ of the government
with constitutional and legal responsibility for the prudential control of the financial
sector in Jamaica. The ministry has oversight on the regulatory process through two chief
bodies, the Central bank-the Bank of Jamaica (BOJ) and the Financial Services
Commission (FSC).
The Jamaica Deposit Insurance Corporation (JDIC), is herein mentioned because
it has been incorporated into the overall regulatory structure as a compensating agent
should a banking crisis emerge. In fact, it was the systemic failure of banks in the 1990s
financial sector meltdown which robbed depositors of their money that lead to the
development of the JDIC. The JDIC covers the institutions which are regulated and
supervised by the Bank of Jamaica. The main features of the corporation include basic
coverage which is $300,000 per depositor, per ownership category in each institution, a

limit which covers over 90% of depositors in insured institutions. The most common
categories of ownership are Individual, Joint, Business and Trust Accounts. Deposits
maintained in different categories of legal ownership are separately insured. 1 Policies of
deposit Insurance may be cancelled if JDIC and BOJ determine that a policyholder is, or
is

about

to

become

insolvent.

The Bank of Jamaica, established by the Bank of Jamaica Act (1960), began operations
in May 1961, terminating the Currency Board System which had been in existence from
1939. The establishment of the Central Bank was in recognition of the need for an
appropriately regulated and supervised financial structure to encourage the development
process of the economy. To achieve the objectives of this establishment, the Bank
supervises the activities of deposit-taking institutions such as commercial banks,
merchant banks and building societies. Further, BOJ supervises money service businesses
such as cambios, remittance companies and bureaux de change. It also provides
regulatory oversight for foreign exchange traders and remittance companies under the
Bank of Jamaica Act.
The Bank now stands at the center of the local financial system and has the
responsibility of promoting and maintaining financial system stability in the economy. In
order to ensure that the level of stability and maintenance is functional, various acts
governing different aspects of financial institutions were implemented such as The
Banking Act, The Financial Institutions Act and The Building Societies Act which
Commercial Banks, Merchant Banks and Building Societies are licensed under
respectively. These provide a standardized legal framework for the operation of the
1

The full roles and responsibilities of the JDCI can be ascertained at www.jdic.com.

licensed deposit- taking intermediaries and provide the statutory principles on which
supervision is conducted. The legal framework is further complemented by supervisory
guidance notes and standards of best practices issued by the bank of Jamaica to ensure
that licensees are not only aware of the risk inherent in banking activities but that these
risks are managed prudently and in accordance with their fiduciary responsibilities to
depositors.
In addition, the BOJ seeks to promote the development of the local financial
markets, and further regulate and support the major clearing and settlement systems
through which financial institutions execute the transfer of funds for a range of financial
transactions. The safety and efficiency of these payment systems are therefore critical
objectives of public policy.
The BOJ has supervisory and licensing authority which is used to control the level
of risks that may occur within the economy through the operations of commercial banks.
The BOJ has subsidiary legislations which assist in the strengthening of the regulatory
approach on specific areas of banking such as, credit classification and provisioning
regulation, capital adequacy regulation, qualifications of auditors regulation and credit
unions regulation. These regulations are conducted by the central bank's banking and
market operations division through on-site inspection and in-house monitoring of their
operations to ensure compliance with the BOJ operational guidelines and adherence to
the money laundering act.
In viewing these regulations in detail we realize that each regulation has its own
function which allows the activities in the economy to be fully functional. Credit
classification and provisioning regulation enforces the measures that are to be utilized in

assessing credit taking security and making provision for the possibility of non-payment.
Credit Unions Regulation allows the operations of the credit union to be under the BOJs
prudential regime, they will cover such things as licensing, capital, reserves and the role
of credit union associations. Qualifications of auditors regulation seeks to create a
framework for ensuring that auditors, who are proposed as statutory auditors of financial
institutions, are independent of the financial institution being audited. Capital Adequacy
Regulation aims to protect depositors and promote the stability and efficiency of the
financial system.
Legislation to regulate the operations of money transfer and remittance agents and
agencies has been passed in parliament. The regulatory regime to be introduced by this
legislation is one of several measures, which Jamaica is required to implement in order to
fulfill its international obligations to combat money laundering and financing of
terrorism.
The financial services commission (FSC), is another of the two major regulatory
bodies. The FSC came into existence on August 2, 2001 enshrined and legitimised in the
Financial Services Commission Act. It has replaced the Office of the Superintendent of
Insurance (OSI) and Unit Trusts and the Securities Commission. The FSC supervises and
regulates non-depository institutions such as insurance companies, securities firm, unit
trusts, private pension funds and mutual funds. The Financial Services Commission Act
2001 allows for the provision of the establishment of a body to be responsible for the
regulation and supervision of financial services that do not involve deposit taking. The
FSC has prudently structured the organization with specialist divisions designed to fulfill
its mandate. The divisions include insurance securities examinations and investigations,

legal, actuarial, corporate services and pensions. These divisions fall under a division
which seeks to effectively bring to fruition a mandate that is geared towards fostering
professionalism within the industries that are regulated by the commission.2
The FSC is charged with ensuring the provision and consistent enforcement of
business laws which includes corporate, bankruptcy, contract, and consumer protection. It
further facilitates good corporate governance; including adoption of sound accounting,
auditing and transparency procedures of world wide acceptance, an appropriate
systematic liquidity arrangement and adequate ways to minimize systematic risk. Also,
the FSC seeks to minimize financial crimes such as fraud, money laundering and
securities fraud. The non-deposit taking institutions are licensed under the FSC Act, the
Securities Act, the Unit Trust Act and the Insurance Act.

www.fscjamaica.org/public info

THE LEGISLATIVE STRUCTURE GUIDING THE OPERATIONS OF

COMMERCIAL BANKS
An effective legislative structure is the foremost requirement for an effective
financial system in the economies of both developed and developing nations. The failure
of the legislative process to engender a sense of probity and transparency within the
economy will result in behaviors such as financial arbitrage-which was one of the
precipitating factors in the Jamaican financial crisis, and outright nepotism. This can lead
to the failure of a number of banks, which will further result in a loss to depositors,
sudden contraction of money supply, failure of the payment system and dislocation of the
real economy. Therefore, financial policy makers are always seeking to amend or
introduce new bills to ensure greater efficiency and a strengthened financial system,
thereby protecting depositors and investors.
Commercial banking constitutes a sizeable proportion of the financial system in
Jamaica, and is an integral component in the overall commerce of the country; therefore,
such a sector needs heavy regulation to prevent disruption in the economy, (that is, it is
helpful in minimizing the impact of the banks, activities on the economy deposits, loans
and investment activities), it also guide against failure and other adverse effects. In
addition it protects the public against loss of depositors interest and also for social goal
which are used to achieve the desired targets of the government.
From the early 1990s to the present, the financial sector in Jamaica has
experienced significant enhancements to the legal framework for the regulation of
licensed deposit taking institutions with the introduction of a new Banking Act that
strictly governs commercial banks, this was brought into effect on the 31st of December
1992.

Shortly, thereafter it became clear that there were loop-holes, matters not

satisfactorily disposed of and other shortcomings that resulted from changing

circumstances, not only in Jamaica but internationally. Also international developments,
technological advances and international bank failures brought about a new focus.
Consequently, the process was slow but became more thorough, wider in scope and often
required a total re-think on some areas and as a result the Banking Act was amended in
1997, 2002 and 2004.
The amendments and introduction of regulations has resulted in an expanded
regulatory framework with increased powers granted to the Minister of Finance and the
Bank of Jamaica to supervise, direct, and intervene in the operations of financial
institutions. Beyond the obvious of defining what constitutes a bank and by extension
banking business3, the Act stipulates eleven (11) operational areas in which commercial
banks must comply. The eleven areas are:
1. Licensing of Banks
2. Capital and Reserves
3. Restrictions on Banking business
4. Cash Reserves and Liquid Assets
5. Returns and Accounts
6. Regulation and Control of Banks
7. Regulation against Unsafe Practices
8. Supervision and Examination of Banks
9. Winding of Local Banks
10. Amalgamation and Transfers
3

banking business means the business of receiving from the public, on current account or deposit
account, money which is payable on demand by cheque or order and which may be invested by way of
advances to customers or otherwise; and such business of a like nature as the minister may, by order,
prescribe.

11. General
The licensing process is one of the most important areas in the Banking Act as
applicants hoping to receive a license must posses a good business record and experience,
fitness as to character and competence, nature and sufficiency of their financial resources,
soundness and feasibility of their business plans and evidence that there is need in the
country and the specific area for the services to be offered. It is of benefit to the licensing
process, for the law to set out factors which the licensing authority must take into account
when evaluating an application. Such transparency heightens the confidence of the
public in the quality of licensees, as well as alerting potential applicants to the
requirements. The following are some of the requirements and the process of Banking
Act of Jamaica under which a license is considered. All application for a licence must be
made to the Minister of Finance. A licence will not be granted unless the Bank of Jamaica
makes a recommendation to the Minister stating that every person who is a director of the
company or who is to perform management functions or who is a shareholder holding (in
his own right or when counted with the holding of a connected person) 20% or more of
the voting shares of the company is a fit and proper person.
A fit and proper person is a person

.who has not been convicted of an offence involving dishonesty

who is not an undischarged bankrupt

whose employment record does not give the Bank of Jamaica reasonable cause to
believe that the person carried out any act involving dishonesty or any act
involving impropriety in the handling of banking business

who, in the opinion of the Bank of Jamaica, is a person of sound probity, is able to
exercise competence, diligence and sound judgment in fulfilling his responsibilities in
relation to the licensee and whose relationship with the licensee will not threaten the
interest of depositors and for the purposes of this paragraph, the Bank shall have regard to
any evidence that he has
(i) engaged in any business practices appearing to the Bank to be deceitful or oppressive
or otherwise improper which reflect discredit to his method of conducting business;
(ii) contravened any provision of any enactment designed for the protection of the public
against financial loss due to dishonesty, incompetence or malpractice by persons
concerned in the provision of banking, insurance, investment or other financial services,
or in the management of companies or due to bankruptcy.
A license shall not be granted to any company having its head office outside Jamaica
unless such company designates and notifies to the Minister(a) a principal office in Jamaica;
(b) by name one of its officers who is to be the company's authorized agent in Jamaica;
and
(c) by name another of its officers who, in the absence or inability to act of the officer
named under paragraph (b), is to be the company's authorized agent in Jamaica.
The primary purpose of capital in bank or other deposit-taking institution is to provide a
cushion against losses, thereby also maintaining the confidence of the depositors. It is a
cushion against risk, even though risk is a necessary element of financial intermediation.
The Act states that a license should not be granted to bank unless, in the case of a local
bank capital to an amount not less than eighty million dollars has been subscribed; and

in the case of a foreign bank, not less than two hundred and fifty million dollars of the
subscribed capital has been paid up in cash at the time of the application for the license.
Also, a bank to which a license is granted shall not commence business unless, in the case
of a local bank, not less than sixty million dollars of the subscribed capital has been paid
up in cash; or in the case of a foreign bank, not less than sixty million dollars of assigned
capital is held in Jamaica by the bank. In addition the Minister may, by order subject to
affirmative resolution, vary the minimum amounts prescribed in subsection (1), so,
however, that where those amounts are increased any bank affected thereby shall be
permitted a reasonable period of time specified in the order, not being less than twelve
months, within which to comply.
These requirements are important for the simple reason that they provide a viable
framework within which depositors can be protected in the event of a bank collapse.
These stipulations are essentially the minimum requirements and therefore the act goes
on to outline more fundamental requirements, such as restrictions on foreign government
holdings in banks, reserve funds and maximum deposit liabilities.
The stipulation that every local bank should maintain a reserve fund to which at the
end of a financial year, 15% of the net profits of the bank in that year shall be transferred
to a fund until the reserve fund is equal to 50% of the paid up capital of the bank, after
that point only 10% of net profits is required until the reserve fund is equal to the entire
paid up capital of the bank, the same requirements hold for foreign banks. Furthermore,
maximum deposit liabilities stipulates that a bank shall not incur deposit liabilities and
other indebtedness for borrowed money which, together with all interest accrued thereon,
exceed in aggregate twenty-five times the amount of its capital base.

10

A very important part of the legislative structure is the stipulations governing Cash
reserves and Liquid assets. According to the Banking Act, section 28 of the Bank of
Jamaica Act, every bank shall maintain in the form of deposit with the Bank of Jamaica a
cash reserve not less on the average than 5% of its prescribed liabilities. The central bank
penalizes deficiency4 by charging an interest rate on the amount outstanding. Similarly,
according to the Banking Act, subject to section 29 of the Bank of Jamaica Act, every
bank shall so conduct its business as to ensure that its liquid assets 5 are on the average not
less than 15% of its prescribed liabilities.
The Banking Act also speaks to banks Returns and Accounts. This stipulation
mandates the presentation of monthly statements of assets and liabilities by banks. The
main thrust of this requirement is that the central bank requires such timely statements to
ensure that banks are in good financial health, as well as mitigating fraudulent acts. This
aspect of the Act also speaks to the imperative of auditors to report to supervisors on
transactions the affecting banks financial viability. What is remarkable about the thrust
of such items in the legislation is that there is a remarkable overlap in other legislative
stipulations in well established financial centers such as Cayman, the USA, Bermuda, the
Bahamas inter alia.
In keeping with the argument of preventing nepotism, cronyism, financial
arbitrage and other such fraudulent acts, the Banking Act delineates clear boundaries
within which commercial banks must operate. Such boundaries are captured under the
section Regulation against unsafe practices. It is obvious why parameters of this nature
would be included within the act; commercial banking forms the back bone of many
4

deficiency means the amount by which the sum (if any) actually deposited by a bank falls short of the
authorized deposit
5
liquid assets means cash reserves on deposits with the Bank of Jamaica in accordance with section 14,
or, Notes and Coins which are legal tender in Jamaica.

11

economies, with Jamaica being no exception, banking facilitates general commerce

within the economy and therefore it does in fact require a great degree of regulation. This
aspect of the legislation speaks to specific areas of unsafe practices such as:
1. actual or apprehended insolvency
2. bank ceasing to be viable
3. vesting of banks shares, etc in minister
4. effect of vesting order
5. restructing transactions
6. winding up or scheme of arrangement
7. notice compensation
8. determination of compensation
9. application to court
10. revesting of shares and subordinated debt
11. winding up foreign bank
12. obligation of manager to supply information
13. resignation, etc of auditor
A corollary of the abovementioned piece of legislation speaks specifically to the case
of what the Banking Act termed, the Supervision and Examination of banks. The act
once more delineates several priority areas that banks must pay specific attention to.
These areas are:
1. Functions of supervisory department under this act
2. Special audit or examination of bank
3. Supervisory department to have access to books, etc of holding company

12

4. Powers of inspection
5. Protection of auditors
Under the two aforementioned sections of the act, very important issues were
discussed. Considering that a banks operation is dependent on loans, advances,
guarantees and other financial assistance from government agencies and other
undertakings, it is important that with such levels of risks, default and otherwise, the
banks capital base should not be less than the amount stipulated by the Act. It is also
important to note that not only is the asset base important, but also that, any transactions
or a series of transactions that involves the sale of all or part of the shares or subordinated
debt of the bank to one or more buyers; this argument extends even to the case where,
such transactions involves the amalgamation of banks.
A very important question therefore becomes pertinent, should a bank decide on
winding up on its assets, what or who is given priority, in the case of a local bank or a
foreign bank. The Act speaks to these areas, and thereby provides depositors with some
degree of comfort knowing that in the unfortunate event of a meltdown, their savings will
not be totally lost. The priority areas as stipulated in the act, requires firstly, that charges
taxes, assessments or impositions whether imposed or made by the government or by any
public authority under the provisions of any law and having become due and payable
within twelve months next before the date of the winding up order. Further, the wages
and salaries of the officers and employees of the Jamaican branch of the bank that
accrued during the six months immediately preceding the relevant date; And, money
received by the Jamaican branch from the public on current account, deposit or other
similar account, where all these stipulations are in relations to foreign banks. Therefore

13

government based liabilities and employees compensation are given top priority under
the Banking Act should a commercial bank decide on winding up operations.
Specifically under the supervision and examination of banks section, it is
mandated that at least once in each year examine the BOJ examines in such manner as it
thinks necessary the affairs or business of every bank carrying on business in Jamaica or
elsewhere for the purpose of being satisfied that the provisions of the Banking Act is
being complied with and that the bank is in sound financial position, and report to the
minister the results of the examination. It should be noted that when an auditor has been
appointed, then such an individual has the responsibility to examine whether the banks
procedures are adequate for the protection of the banks depositors and shareholders. The
act also stipulates that Auditors must have access to all books, records and documents in
the possession or control of any director, manager, officer or employee of any bank, also
it is required that any director, manager, officer, auditor, former auditor of any bank to
furnish such information or to produce such books, records or documents as are in his
possession or control, that relate to the operations of the bank and may be reasonably
required for the performance of those duties.
There are restrictions on the amount which an institution can invest in fixed
assets, which must not exceed the amount of its capital base. This figure can in fact be
too generous and in addition, institutions with low earning capacity should not be
permitted to invest as high this in fixed assets. With specific exemptions, institutions are
generally prohibited from holding real estate. One exception concerns land and premises
used for the conducting its business

14

EVALUATION OF THE IMPACT OF LEGISLATION ON GENERAL BANKING

OPERATIONS
Regulations play a very vital role in a banks success or failure. Each one of these
regulations affects one or more aspects of banking operations which plays a vital role in a
countrys economic policies. Here they act as vehicles through which currencies and
credit flow into a nations stream of commerce and financial system. A banks operations
and activities depend on the economic polices of the country, ranging from access to
central bank funding to being subject to regulatory mandates for sound operating
standards.
A banks earnings may be derived from leveraging capital, hence banks tend to be
highly leveraged and operated with relatively low capitalization. Operating in this manner
heightens the need for banks to adroitly manage and control operating risks (such as
credit and market risks). Banks also have to be adept at managing liquidity since they
usually rely on confidence or reputation sensitive funding sources such as deposits,
capital market, and inter bank borrowings, as primary funding sources. Through this
scope, the operations of the commercial can be summarized as:

to accept time deposits and demand deposits, as well as deposits to current and
other accounts

to render and take credits to carry out operations with payment documents and
securities (cheque , bills of exchange, shares, bonds, etc.)

to issue financial pledges, guarantees, and other security obligations

15

to receive customers' valuables for safe-keeping and to rent safe deposit boxes
of the bank vaults to customers for the safe-keeping of valuables and
documents

to render services and consultations on issues of banking activities, finances,

and other issues

with permission of the Bank of Jamaica, to carry out operations in foreign

currency, and to conduct other operations consistent with the activities of
credit institutions.

The type of regulation system found in Jamaica can be classified as mixed, as it

exhibits both strictness as well as leniency, however it does place more emphasis on
leniency. Hence, its impact is sometimes skewed. This is due to the fact that some
regulation standards are set too low (causing them to be subject to manipulation) while
on the other hand, some are set too high (rendering them unable to be amended if change
is necessary).
In addition to their responsibilities for depositor protection and monetary stability,
bank regulatory agencies are responsible for promoting an efficient, competitive banking
environment and preventing monopolization of individual banking markets. This
therefore speaks to the sectors ability to compete and its efficiency. Today the
performance and competitiveness of the banking industry is viewed as a critical element
in fostering a healthy and dynamic economy. Furthermore, as banks compete more
directly with non -bank institutions and as new financial instruments and markets are
created, many questions are being raised about what parts of the financial industry require
close supervision and how this oversight can be implemented without stifling innovation

16

or burdening the regulated institutions. The traditional focus of competitive analysis has
been the application of laws to bank expansion. Organizations generally must have prior
approval of the appropriate regulatory agencies before expanding their banking
operations through mergers or acquisitions, and this expansion must comply with
particular standards. Bank regulators also have the authority to prevent director and
management interlocks where a position of ownership has not been established.
Competition and efficiency in banking are also affected by many other factors including:
- chartering policies, branching laws two ways of expansion, limitations on the scope of
activities banks can undertake, and the overall cost of complying with other banking
regulations. Ironically, some restrictions originally adopted to promote safe and sound
banking can adversely affect banking competition. Chartering and branching restrictions,
for example, were implemented to ensure sound banks and stable banking markets, but
these provisions can inhibit entry and thereby reduce competitive pressures on existing
institutions. Similarly, restrictions on permissible banking activities, while undertaken to
control bank risk taking and limit conflicts of interest, can reduce the competitive
interplay in financial markets. In addition, such restrictions could leave banks less able to
pursue profitable opportunities and adapt to ongoing trends in the financial marketplace.
Consequently, a major task for bank regulators and bankers is to create a system of
regulation that permits active competition in financial markets, while also protecting
depositors and maintaining monetary stability.
Growth and innovation are also a fundamental block of any banks survival. In
terms of asset growth these regulations can either effect an increase or decrease in total
assets. Here an increase could be realized through facilitating an invitation to investors by

17

means of high interest rates. However, some banks can not manage to make profit due to
lack of returns on their asset investment. Commercial banks are now worrying about
new competition that has now joined in the industry such as other investment companies
that are giving much higher returns on investment. Thus, there is a decline in commercial
banks asset due to withdrawal of funds to be placed in these competing financial
institutions. If regulators intervene - by toughening capital and other requirements or by
enforcing existing ones more strictly- they may succeed in lowering the probability of
bank failure. Their actions however could lead to a credit crunch. This arises from the
fact that banks typically respond to a higher capital-asset requirement by reducing their
assets, that is, by cutting back loans. Capital-asset requirements are the key-element of
banking regulations. They specify how much capital a bank must hold in relation to its
(usually risk-weighed) assets. However, due to the increase in saving institutions and a
fall in asset growth, banks are now asking the regulatory bodies intervene by implement
an interest rate ceiling on investment institutions which could be used to level the playing
field for all banks. The banking sector is now trying to draw asset growth through being
innovative and introducing different saving schemes and partner plans. (the impact of the
regulations here can be deemed as lenient). Still there is another side due to the fact that
the requirement of the regulations can also increase or decrease the asset through interest
rates which are sometimes determined by the level of reserves the commercial banks are
required to have by the central bank. If the required reserve ratio is high then the interest
rate will be high causing a reduction in asset growth. If the reverse is true, that us there is
a low requirement then interest rates will be low thus increasing asset growth. The two

18

entities that are most affected by the regulation of a high or low reserve ratio requirement
in which affect asset growth are

reduction in business and consumer loan demand,

reduction in loan supply

Regulations, for the most part, therefore prove to be advantageous as they seek to:

Help in checkmating the manipulation of banks by public agents

Help in minimizing the impact of bank activities on the economy

Protect the public against loss

An effective legislative structure is the foremost prerequisite for the development of a

viable and profitable financial structure.

http://www.fscjamaica.org/TheSentinel/Volume1Issue2/index1.htm
http://www.boj.org.jm/supervised_cambios.php
http://www.boj.org.jm/supervised_remittance.php
http://www.boj.org.jm/financial_system_overview.php

19