The African Business Review May-Jun 2014 | Page 11

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any central banks around the world have provided
several policy prescriptions to tackle the effects of the
recent global financial crisis. Many of these policy
responses have been directed at satisfying the domestic mandate
of maintaining price stability. The emerging literature has pointed
out that the suspicions of remarkable increase in the central bank
balance sheets would lead to higher inflation at the consumer level
have so far proven unfounded. This may be due to the fact that
some of the countries have not fully recovered from the crisis or
well-anchored inflation expectations have mediated the effects.
However, it has been argued that an extended period of too easy
monetary policy is manifesting itself in excessive risk taking,
bubbles in certain asset classes and price pressures can ultimately
lead to higher inflation. Therefore, the possible effects of financial
crisis on the dynamics of inflation have occupied the attention of
many economists, central bankers, policy makers and practitioners.

Banking crisis points to a situation where bank runs and
widespread failures induce banks to suspend the convertibility of
their liabilities, or which compels the government to intervene
in the banking system on a large scale (IMF, 1998). In Africa,
banking crises have become increasingly common (Goldstein and
Turner, 1996) and more than 120 countries in the world have
experienced banking crises (Laeven and Valencia, 2010). Large
scale banking sector crises has raised wide spread concern as it
disrupts the flow of credit to households and enterprises, reducing
investment and consumption and possibly forcing viable firms
into bankruptcy (Demirgüç- Kunt et al., 1998).

Once banking crises start, it spreads to other sectors in the
economy. If problems in one bank are made public, depositors
get scared and withdraw their money from the bank. This may
cause the bank to fail, which generates bigger headlines, and
scares even more depositors, who then withdraw their funds and
more banks stand a chance of failing which eventually leads to
massive run on the banks. Also, the crises are often preceded by
prolonged periods of high credit growth which is often associated
with large imbalances in the balance sheets of the private sector,
such as maturity mismatches or exchange rate risk, this ultimately
translates into credit risk for the banking sector (Laeven and
Valencia, 2010).

Moreover, banking crises affect output, investment,
employment and key monetary indicators in an economy and
thus complicates the conduct of monetary policy because it
destabilizes money demand, money multipliers and diminishes
the effectiveness of monetary instruments in an economy (GarciaHerrero, 1997). Despite the fact that this type of crises may lead
to substantial drag on aggregate economic activities and can
thwart the effort of executing an effective monetary policy, a
well-managed crisis will stabilize bank panics which will lead to
a healthy banking system generally (Kama, 2010). In recent years,
the general presence of a “banking system safety net” in the form
of bailout cost has typically prevented these modern crises from
turning into the kinds of banking panics observed historically.
Moreover, a comparison of the size and complexity of the financial
systems