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The African Financial
Development and Inclusion Gaps:
The Dark and the Bright*
Lemma W. Senbet
Executive Director, African Economic Research Consortium
The William E Mayer Chair Professor Finance, University of Maryland
June 2014
BACKGROUND
Background
Africa is Rising
In late 50s into early 60s most African countries were regarded at par or ahead of most developing countries in Asia and Latin America in terms of economic development.
Yet, Africa’s growth performance has long been disappointing, referred to as a tragedy by some commentators.
But changing: Africa growth renaissance
Africa rising!
Africa On the Move
Pre-Crisis Period
In the aggregate, Africa began rising in the wake of the 21st century and had, in fact, experienced, what amounts to growth renaissance
That was before it got caught up in the global crisis.
GDP growth of 5.2% for the three year period (2002-2007) prior to the crisis, outpacing population growth
Inflation was brought under control
Improvement in fiscal discipline
Declining debt burden/increasing capacity for debt service
Increasing foreign investment and remittance flows
Performance not Accidental Payoffs to Reforms
Impressive performance outcomes are payoffs to economic and financial sector reforms – not accidental
Extensive economic and financial sector reforms over the last two decades, including large scale privatization programs, as well as measures to empower private initiative, measures for capital market development
Emergence of stock markets in Sub-Saharan Africa as a particularly interesting feature, including a regional market
Financial Sector Reforms
in Sub-Sahara Africa
Liberalization and/or
Rationalization of
Interest Rates
Restructuring of
Banks
Privatization
of Banks
Liquidation
of Banks
Benin Cameroon Cameroon Benin
Burundi Cote d’Ivoire Cote d’Ivoire Cote d’Ivoire
Congo Ghana Guinea Bissau Guinea
Cote d’Ivoire Kenya Madagascar Niger
The Gambia Madagascar Mauritania Rwanda
Ghana Mali Senegal Senegal
Kenya Mauritania Uganda
Madagascar Nigeria Tanzania
Malawi Senegal
Mauritania Tanzania
Mozambique Uganda
Rwanda Nigeria
Tanzania
Uganda
African Financial Development Gap
Banking depth: The liquid liabilities of financial sectors averaged about 30 percent of GDP for Sub-Saharan Africa
The indicator averaged 50% or more for Latin America, East Asia, South Asia, the Middle East and North Africa
Banking intermediation: Things even worse on this score: the pre-crisis 2007 average private date credit provision scaled by GDP was half the size for other developing countries
But, why do we care about this low level of financial development?
8 8
FD and Selected Indicators Summary Stats: Senbet and co-authors (NBER project)
World (minus Africa) Africa Variable
Mean Standard
Deviation
Mean Standard
Deviation
Liquid liabilities / GDP 64.2% 47.4% 27.5% 17.7%
Private credit / GDP 57.7% 45.3% 17.6% 22.7%
Stock Market Capitalization / GDP 52.1% 60.0% 25.6% 43.8%
Stock Market Value Traded / GDP 34.1% 50.9% 6.5% 20.0%
Ln(Population) 2.44 1.59 2.24 1.33
Ln(Population density) 0.44 1.94 0.09 0.12
Natural resources 0.5 2.41 0.15 0.77
Offshore center 4.4% 20.7% 0.0% 0.0%
Ln(Per capita income) 2.25 1.04 0.38 0.94
Population * GDP per capita 0.48 1.35 0.03 0.07
Real GDP growth rate 4.1% 2.5% 4.8% 2.7%
Inflation rate 5.2% 5.2% 9.3% 15.0%
Current Account balance / GDP 0.2% 8.1% -3.8% 6.7%
KKM index 0.33 0.9 -0.54 0.58
Bank concentration 0.65 0.19 0.81 0.14
Foreign ownership share 27.1% 25.9% 44.4% 24.4%
State ownership share 15.9% 19.7% 13.3% 16.6%
Manufacturing / GDP 16.8% 6.1% 11.0% 7.3%
Secondary/Primary school enrollment 0.81 0.24 0.33 0.18
Roads / Area 1.07 1.65 0.21 0.22
Railroads / Area 0.03 0.03 0 0
Urban population 63.6% 20.7% 36.2% 17.2%
Geographic branch penetration 29.76 80.07 7.97 22.49
Demographic branch penetration 16.51 17.28 2.86 3.64
Why Finance for Africa Financial Development and Economic Growth
A financial system should be judged ultimately on its role in economic development.
The available empirical evidence is that well-functioning financial systems, along with well-designed institutions and regulatory systems, foster economic development (e.g., Levine and
Zervos, 1998). Also, support from African data.
The implication for Africa: Suggests a linkage between financial sector development and poverty alleviation, as well as employment creation.
Stock Markets and Development Multiple Functions as a Channel
Stock Market
Development
Capitalization
Liquidity
Volatility
Global
Integration
Economic Development
Economic Growth
Capital Accumulation
Productivity Growth
Saving Rates
11
A Closer Look at the African Financial
Development Gap*
Measuring the African financial development gap:
Obtain predicted levels of financial development for SSA
countries, based on regression analyses of other low- and
middle-income countries
For the majority of SSA countries, the actual levels of
banking sector development are below predicted levels
Characterizing financial development path based on benchmark
indicators
Project the results on Africa
[Allen, Carletti, Cull, Qian, Senbet, Venzuela (NBER,2012)]
12
Benchmarking Financial Development
FDi = α + β1Populationi Exogenous determinants, based on Beck et al.
+ β2Population Densityi (2008)
+ β3Natural Resourcesi
+β4Offshore Centeri
+β5Per Capita Incomei Plausibly exogenous, Financial development
+β6Population*GDP Per Capitai affects these variables at a lag, Beck et al. (2008)
+β7Real GDP Growth Ratei Macroeconomic variables
+β8Inflation Ratei
+β9Current Account Balance/GDPi
+Β10KKM Indexi Index of institutional development
+ β11Bank Concentration Banking sector structure and ownership variables
+Β12Foreign Ownership Sharei
+Β13State Ownership Sharei
+Β14Manufacturing/GDPi Other variables
+Β15Secondary/Primary enrolment
+ εi
13
Private credit/GDP: Actual vs. predicted values
Explaining the African Financial
Development Gap – contd.
Analyzing determinants of financial
development:
Population density seems to matter more for Africa –
financial development is more sensitive to population
density than elsewhere
Natural resources ‘curse’: Similar in Africa and
elsewhere
Macroeconomic conditions and institutional
environment: Not as important
Good News out of Africa Post-Crisis: Toward Resolution of African
Financial Development Gap
Resilience and diversity of African
economic performance
A surge of stock markets Privatization through stock markets
Financial technology and mobile banking
Rise of Equity Bank in Kenya Integration of informal and formal finance
Regionalization
Globalization
Resilience and Diversity of African
Economic Performance
Overall, African economies have been resilient to the global crisis
The effect of the crisis was, nonetheless, significant
The growth dropped to 2.5% from a three-year pre-crisis average of 6% [Channel for crisis transmission]
However, no bailouts, no large bank failures, no large company failures
Growth has resumed, even accelerating [SSA (2011-12): 5.3/5.2%]
For years, oil and other commodities have been drivers of growth, but currently non-oil producing countries are growing at a similar rate
Seven African countries are among the fastest growing in the world [Ghana, Rwanda, Ethiopia, Moz, Tanzania, Zambia, Gabon; 6.5-14%]
SSA is growing faster than Asia, except China and India
Good News out of Africa Post-Crisis
Stock market phenomenon
Stock exchanges have proliferated in Africa
Two decades ago, just 5 in SSA and 3 in North Africa; now about 29 stock exchanges in Africa
The phenomenal growth was registered particularly in Sub-Saharan Africa, excluding the older markets in South Africa and Egypt
The development in the equity market sector points to Africa’s new commitment to financial sector policy reform
Despite the challenges faced in terms of low capitalization and liquidity, recent performance of African stock markets has been remarkable, both in absolute and risk-adjusted basis
Source: MSCI - Barra
Global stock returns are for
illustrative purposes only and are
not indicative of the
Performance of any particular
investment. Total Returns
in local currency.
International investing involves
special risks such as political
instability and currency
fluctuations. Investing in emerging markets
may accentuate these risks. Past performance is
no guarantee of future results.
Global Meltdown and African Markets in Crisis
U.S.
Stocks 4th Qtr -22.22%
1 Year -37.14%
Latin
America
Stocks 4th Qtr -20.36%
1 Year -37.67%
Asia
(w/o Japan)
4th Qtr -18.88%
1 Year -44.74%
Japan
Stocks 4th Qtr -22.30%
1 Year -42.48%
Europe Stocks
4th Qtr -16.95%
1 Year -38.52%
China
Stocks 4th Qtr -10.91%
1 Year -51.12%
Market Performance in Crisis
Selected African countries
Country Mkt.Cap/GDP*
%
Returns
%
Returns
2007 2007 2008
Egypt 109 0.62 -0.55
Ghana 16 0.23 -0.13
Kenya 45 0.04 -0.31
Mauritius 89 1.00 -0.49
Morocco 103 0.34 -0.24
Namibia 10 0.41 -0.04
Nigeria 52 0.63 -0.59
South
Africa 300 0.09 -0.33
Tunesia 15 0.09 -0.03
Malaysia 180 0.27 -0.43
Mexico 45 0.08 -0.39
Performance Draws Media Attention
A Decade Ending December 2009
Africa composite index 14% 8 largest markets
Including SA, Nigeria, Egypt
South Africa 13%
MSCI Emerging Market Index 7%
S & P 500 -3%
Source: US News Money (8/26/10)
Financial Development and Inclusion
Kenya and Emergence of Equity Bank
Kenya’s financial development indicators are among the best in the SSA region.
A laboratory for the study of financial access, as it has witnessed and a general expansion in bank branching strategy and the emergence of Equity Bank.
Equity Bank targets low income clients and traditionally underserved geographic districs
Focusing on a specific country avoids the difficulties of cross-country studies regarding omitted (or poorly measured) country-level factors.
Why Equity Bank?
Equity Bank is a pioneering institution that devised a strategy targeting low income clients and traditionally under-served geographic areas.
It is now the third largest listed company in Kenya by market capitalization.
It does not have any government ownership.
It has 55% of the deposit accounts in Kenya and 112 branches.
Integration of the informal into formal
It has began exporting its business model to other African countries: Uganda (42 branches) and South Sudan (3 branches), and is expanding in Tanzania and Rwanda.
Equity Bank’s Business Model
The business model of the bank is based on affordability and accessibility:
Affordability: To open a bank account only requires an ID and a photo (which can be taken in the branch itself). By contrast, foreign banks, such as Barclays, require a minimum balance of about US$ 222.
Accessibility: Local languages are spoken in its branches. In central Kenya, 30-40% people speak only a minority language.
Data
Combining a new dataset on bank penetration at the district level with household level survey data:
Bank penetration dataset
Based on branch-level information aggregated as a district-level panel on the number of branches by bank.
Covers 45 commercial banks that operated in 65 Kenyan districts in the period between 2006 and 2009.
FinAccess household surveys
Conducted by Financial Sector Deepening Trust Kenya.
4,420 completed interviews in 2006 and 6,598 in 2009.
Data on access to financial services and individual/household characteristics.
Domestic private banks 2006 2009 Change % Change
CharterHouse Bank Ltd. 10 10 0 0
National Industrial Credit Bank Ltd. 16 16 0 0
Commercial Bank of Africa Ltd. 19 20 1 5
Equity Bank 44 112 68 155
Co-operative Bank of Kenya Ltd. 52 83 31 60
Sub-Total 247 450 203 82
Foreign banks 2006 2009 Change % Change
K-Rep Bank Ltd. 22 30 8 36
Standard Chartered Bank Kenya Ltd. 31 35 4 13
Barclays Bank of Kenya Ltd. 62 119 57 92
Sub-Total 150 258 108 72
Government and government-influenced banks 2006 2009 Change % Change
Consolidated Bank of Kenya Ltd. 12 13 1 8
CFC Stanbic Bank Ltd. 16 35 19 119
National Bank of Kenya Ltd. 33 43 10 30
Kenya Commercial Bank Ltd. 117 169 52 44
Sub-Total 179 262 83 46
Total 576 970 394 68
Bank
Branch
Expansion
Bank Expansion Strategies
Stylized Facts
See Figures:
All bank groups exhibited substantial branch expansion between 2006 and 2009
All groups showed higher penetration in urban, highly populated, and educated districts
Domestic private banks had greater presence in under developed districts, and foreign banks had the least presence in those districts
Domestic privates are lead by Equity Bank – playing vital role in fostering banking services in under developed districts
Now formal analysis
Branch Expansion: Urban
districts
0
50
100
150
200
Foreign banks Govt banks Local private banks
Urban Districts
2006 2009
Branch Expansion: Low
Population Density Districts
0
50
100
150
200
250
300
Foreign banks Govt. banks Local private banks
Low Population Density Districts
2006 2009
Branch Expansion: High Minority
Language Districts
0
50
100
150
200
250
300
Foreign banks Govt. banks Local private banks
High Minority Language Districts
2006 2009
Methodology
Bank Expansion Strategies: Regression Analysis
Branchesdt = α + μt + βXd + εdt
Use of Bank Accounts: Probit Model
Pr(Bankedidt = 1) = F(α + μd + βEquitydt + γBranchesdt + φzidt)
Access to Credit: Ordered Probit Model
The dependent variable takes the value:
0 = the individual does not have a bank account/loan,
1 = the individual has a bank account,
2 = the individual has a loan from a bank.
Key Findings
All kinds of banks, including Equity Bank, had greater
branch penetration in urban and English speaking
districts.
But Equity Bank differs in at least two dimensions:
The coefficients associated with rural, arid, and semi-
arid are insignificant but negative for other banks
The positive coefficient on the 2009 year dummy
(bank expansion) is 1/10 to 1/5 that for Equity Bank
The sensitivity to population density is lower for Equity
Bank.
Overall,Equity experienced significant bank expansion,
particularly in under developed and rural areas.
Key Findings
The presence of Equity Bank in a specific district is
strongly and positively related to the probability of
having a bank account
The effect is beyond the presence of other banks
The presence of all bank categories has a positive impact,
but with a hierarchial increase in bank access:
Domestic privates (4%), government (3%), foreign
(2%); with foreign banks targeting high income
segment
Access increases with the number of branches in a
district
Caveats
Over half of savings accounts in one bank
Concerns about banking system stability
Concentration of bank accounts likely to pose
challenges to the deposit insurance system
Jury is still out on sustainability of Equity
strategy. Also Replicability?
Equity Bank expanding into other African
countries: the bright and the dark for Kenya and
others
African Finance: Key Reform Measures
Reforming financial regulation
Capital regulation – best practices
Regulating shadow banking
Building capacity for risk oversight and management
Fostering market depth and functionality
Fostering banking competition
Promoting market-based privatizations
Promoting integration of the informal and formal finance
Mitigating information gap and building African financial
market database
Mitigating political capture of financial regulators
African Economic Research
Consortium
AERC
The African Economic Research
Consortium(AERC), established in 1988,
is a public not-for-profit organization
devoted to the advancement of economic
policy research and training in sub-
Saharan Africa.
AERC is governed by U.S and Kenya
laws.
Objectives
37
1
Encourage its
application in the
policy context
3
2
Promote the retention
of such capacity
Enhance the capacity
of locally based
researchers to conduct
policy-relevant economic
inquiry
38
*Thematic research
Research
*Collaborative research
*Technical workshops
*Collaborative Masters Programme
(CMAP)
*Collaborative Masters in Applied &
Agric. Economics (CMAAE)
Graduate
Training
*Collaborative PhD Programme
(CPP)
The AERC Capacity Building
Framework
AERC
Research Monitoring and Support
Biannual research workshops
Biannual plenary conferences
Peer review: a network of African researchers
External review: a network of resource people drawn from around the globe
Technical workshops and individual technical sessions
Financial support for various stages of research development: New proposals, WIP, Final Report
AERC
Collaborative Training Programs
Collaborative Masters Program (CMAP) 20 participating universities (9A and 11B)
A send their students to B
Ag Econ and Applied Econ (CMAE)
Collaborative Ph.D Program (CPP) Participants: Cape Town, Dar, Ibadan, Nairobi, Benin,
Wits, Younde II, Cocody
Joint facility for electives
Thesis workshops at AERC biannuals
Academic boards and Role of AERC
AERC Research and Training
Network Coverage
Uganda
Kenya
Ethiopia
Tanzania
Zambia
Namibia
South
Africa
Botswana
Zimbabwe
Mozambique
Swaziland
Lesotho
Malawi
Nigeria
Cameroon Ghana
Côte
d’Ivoire
Guinea
Sierra
Leone
Mauritius
Liberia
Sudan Chad
DR Congo
Rwanda
Burundi
Gabon
Congo
Madagascar
Mali Senegal
Burkina
Faso
Research
Policy
Feedback on
Policy
relevance
Dissemination
of
Research
findings
Senior Policy Seminars &
National Policy Workshops
Research Meets Policy
AERC is an African Success Story
Over 2500 researchers supported
About 1000 thematic research projects
Over 2000 masters graduates and 400 Ph.Ds
Many who have gone through AERC programs are now at high places in leading African policy institutions, universities, and other institutions (e.g., numerous governors of central banks, successive chief economists of the African Development Bank)
AERC poised for the next level of excellence
Accomplishments (cont)
Individual Capacity Building
Supported over 3,400 researchers
Supported over 2,600 masters graduates
Working in government ministries, central banks, national policy research institutes, universities, international organizations, etc
Supported over 400 through the PhD Programme
Nearly all retained in Africa
Majority (71%) have become faculty members in universities.
Over 1,200 Senior African policy makers are in AERC’s high-level policy network
45
Accomplishments
Policy Relevant Research
Supported close to 1000 thematic research projects involving researchers from 35 countries in Africa.
The AERC website now has about 500 publications and working papers:
AERC Research Papers
Policy briefs,
Framework papers,
Country case studies
46
Payoff to Capacity Building AERC Alumni as Senior Policy Makers
AERC Alumni - currently senior policy makers at:
Ministries of Finance/Treasury, Economy and Planning Commissions of Cameroon, Côte d’Ivoire, Ghana, Kenya, Mozambique, Nigeria, South Africa, Tanzania and Uganda
Central Banks of Ghana, Lesotho, Kenya, Ghana, Namibia, Nigeria, Rwanda, Tanzania, Uganda, Zambia, Zimbabwe
United Nations Economic Commission for Africa (UNECA)
Central African Economic and Monetary Community (CEMAC)
East African Community (EAC)
47
Payoff to Capacity Building AERC Alumni Policy Makers
Some examples of AERC Alumni Policy makers: Njuguna Ndungu, Governor, Central Bank of Kenya
Ernesto Gove, Governor, Central Bank of Mozambique
Benno Ndulu, Governor, Central Bank of Tanzania
Pedro Couto, Deputy Minister of Finance, Mozambique
Louis Kasekende, Deputy Governor, Bank of Uganda
Kupukile Mlambo, Deputy Governor, Reserve Bank of Zimbabwe
Cyril Chami, Member of Parliament and former Minister of Commerce and Industry, Tanzania
Arsene Balihuta, Ambassador and Permanent Representative of Uganda to the UN in Switzerland
Maxwell M. Mkwezalamba, former Commissioner, AU
Ernest Aryeetey, Vice-Chancellor, University of Ghana
John Ddumba Ssentamu, Vice Chancellor, Makerere University
48
49
AERC Positioning for the Future: Key Pillars
Privatization
Africanization
Globalization Technology
Integration
*Public-private
research
agenda
*Cuts across all
pillars
*Technology Integration
*Data repository
*African govts
*AERC alumni
*African perspectives
*Research &
Training
Programmes
*Institutional
linkages
*Best global practices