Africa Finance Forum Blog

Capital requirement, bank competition and stability in Africa- Q&A Session

05.09.2017Jacob Oduor, Principal Research Economist, African Development Bank

This Q&A session highlights key insights of a study co-authored by Dr. Jacob Oduor, economist with African Development Bank. The research shows that increased capital beef-up significantly increases financial instability in Africa (except in big banks) implying that higher capital requirements did not make African banks safer.

1. Why did you choose a topic on the banking sector, precisely on regulation? Is there any subdued risk with African banking system that justifies your research?

The banking sector is important in driving economic growth through intermediation of investment resources. Its effectiveness in achieving this role can however be undermined by one-size-fit-all regulations. In Africa, where financial inclusion is still low, any regulation that increases the cost of financial services may be counterproductive in achieving the broader economic growth objectives. If increased capital requirements can achieve its core objective of financial stability without adversely affecting the cost of financial services, then it is welcome. That tradeoff is important but sometimes difficult to strike.

2. Basel I, Basel II and now Basel III have called for capital build-up over time. In your view, how will the latest reform affect African banks?

Capital build up has the consequence of creating bigger banks. There are two main problems with this. First, emerging evidence show that bigger banks are not necessarily safe. They perceive themselves to be "too big to fail" and therefore engage in more risky investments and are more vulnerable to shocks that smaller banks (Berger and Mester, 1997[1]) and such regulation may just as well increase banking sector instability in Africa. The second and more important consequence for Africa is that capital build-up concentrates the banking industry, reduces competition, has the potential to drive up costs of financial services and stifle financial inclusion. The high initial capital stringency requirements can impose entry barriers for new entrants and this would restrict competition and allow existing banks to accumulate market power (Berger et al; 1993[2]). In a continent where financial inclusion is pathetically low, such regulation may have more negative consequences than benefits.

3. Your research was centered on the impact of regulatory build-up on first financial sector stability and second competition. What did your research reveal?

The results show that increased capital beef-up significantly increases financial instability in Africa (except in big banks) implying that higher capital requirements did not make African banks safer. We also find that increased regulatory capital improves competitive pricing for foreign banks while it makes domestic banks less competitive. This is mainly attributed to the high cost of sourcing and holding extra capital for domestic banks compared to foreign banks who can source cheaper capital from parent companies. The results put to question the effectiveness of higher regulatory capital on stability and competitiveness of the African financial system.

4. Did you find in your literature review similar conclusions?

While other studies including Furlong and Keeley (1989)[3] and Keeley (1990)[4] found stabilizing effects of increased capital requirements, other studies have come to similar conclusions as our study. Boot and Greenbaum (1993)[5] for instance find that capital requirements reduce monitoring incentives, which reduces the quality of banks' portfolios increasing the risk of instability. Hakenes and Schnabel (2010)[6] on the other hand show that tighter capital requirements increases the risk of individual loans and may also increase a bank's probability of default because they relax the competition for loans and thus destabilizing the banking sector.

On increased capital requirements and competition, similar findings as ours were obtained by Bikker & Groeneveld (1998)[7] who assessed competitive structure in the banking industry in the EU and finds that concentration impairs competitiveness. Similar findings were also obtained by and Claessens and Laeven, 2004[8] among others.

5. In your research, you also test your model for reserve causality. What was the idea behind the test and what did the test show?

The potential for reverse causality emanates from the fact that banks that are viewed by the regulators to be less stable are likely to be asked to keep higher capital ratios compared to more stable banks. Instability may therefore be a cause of higher capital requirements for banks as much as higher capital requirements may be a source of instability. The results using instrumental variables approach, confirm the findings that increased capital ratio increases instability in the banking sector.

6. You mentioned that some critics argue that Basel III is too complex and allows banks to use in-house creative models to hold less capital than they should. Can you talk more about some of these techniques and how can regulators address the shortcoming? How will/should this be addressed in the context of the African continent?

Amendments to the Basel Accord in 1996 permitted regulators to accept assessments from banks' internal risk-management models in setting capital requirements for the market risk in banks' trading portfolios. Consequently, trading-book models have become increasingly common in banks. These models generally estimate value at risk (VaR). Because of the large number of traded securities, trading-book VaR models inevitably use a large number of simplifying assumptions resulting in different estimates of value at risk. It is therefore not inconceivable that some banks use these internal models to understate their risks in order to maintain less regulatory capital which exposes the whole sector to risks. To remedy such situation, regulators must ensure banks calculate their risk weightings and capital requirements on the basis of a common standardized approach. In-house models could be used to supplement but not substitute standard models. To reduce the ability of banks to hide risky assets there is need for reduced discretion of banks in calculating their risk weightings by narrowing the range of modeling choices for banks and improving public disclosure by banks. There is also need to explore regulation with varying standards based on complexity and risk.

7. In the US, the concept of "too big to fail" has emerged as a hot contentious topic between regulators, policy makers and banks. A debate between breaking up large banks or at the very least the reinstatement of some Glass-Steagall-like legislation and the status quo. You cite the example of Nigeria as evidence that consolidation is not the answer to the banking system stability. Do you see any systemic risk associated with the size of the banks operating in our continent? Have some of them reached that critical level?

While this study did not go into establishing the specific threshold beyond which inefficiency sets in, experience has shown that big banks can fail and there is a threshold size beyond which decreasing marginal returns sets in. Attempting to build resilience through indefinite increase in capital requirements may be counterproductive. In addition, capital buffers on their own without accompanying regulations are at best, inadequate. Regulation must therefore look beyond the size of the banks. Market concentration in the banking industry in Africa is high compared to the developed world and therefore the potential for systemic risk exists, but whether some African banks have reached that threshold is an area for further research. What is clear from our results is that prescriptive blanket regulations on capital buffers has not helped reduce that risk. Dealing with systemic risk should not therefore overemphasize on size, but accompanying regulations to ensure good governance and prudent risk taking irrespective of the size.

8. If capital build-up is not the answer to increase financial sector stability, what types of policy should regulators and policy makers pursue/explore in their quest for a strong, deep and liquid financial sector?

Capital build up is still important in building resilience, but it is not the only way to build resilience, not in all contexts and on its own it is inadequate. Regulators must be able to identify the sources of systemic risks and develop regulatory instruments that are able to deal with different kinds of risks. Internal governance weaknesses is turning out to be a major source of instability in the banking sector in many countries both in Africa and in more developed markets. This kind of risk cannot be cured by increasing capital buffers. Improvements in monitoring and supervision of banks may as well give the same financial stability outcome without jeopardizing financing inclusion objectives.

9. What is your opinion on the emerging rivalry between fintechs and banks and do you see this as an inevitable event to improve efficiency and increase inclusion? From the regulatory stand-point, what if need be, can be improved?

Without a doubt, fintechs have disrupted the business-as-usual way of traditional banks and helped improve financial access and efficiency beyond the boundaries that traditional banks were willing to go. From mobile money payment and transfer services, to savings and credit services through the mobile phone platforms, fintechs have proved to the banks that your can reach the low-income unbanked and still make profits. Banks are increasingly adopting the same approaches to delivery financial services in order to stay in business. However, in some instances, the pace of adoption of new technologies in the financial sector is faster than regulations. A number of regulators have not developed tools and infrastructure including state of the art reporting and analytics infrastructure to support and sufficiently regulate the fintech innovations. In most cases, fintech companies are discouraged by the time and cost of registering and complying with regulations. This is a particular problematic in the financial services sector in Africa where political interests are still intense and where intruders coming to share the profits are not welcome. In addition, regulations should be flexible and fintech companies should not be forced into the same costly regulatory mold as traditional banks, which may stifle innovative capacity of start-ups.

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[1] Berger, A. N. & L. J. Mester. 1997. Inside the black box: What Explains Differences in The Efficiencies of Financial Institutions? Journal of Banking & Finance, Vol. 21, pp. 895-947

[2] Berger A. N., W. Hunter, and S. Timme. 1993. The Efficiency of Financial Institutions: A Review and Preview of Research Past, Present, and Future, Journal of Banking and Finance, Vol.17 pp. 221-249

[3] Furlong, F. T. and M. C. Keeley. 1989. Capital Regulation and Bank Risk-Taking: A Note, Journal of Banking and Finance 13, 883-891.

[4] Keeley, M. C. 1990. Deposit Insurance, Risk and Market Power in Banking, American Economic Review, Vol. 80(5), pp. 1183-1200

[5] Boot, A.W., and S. Greenbaum. 1993. Bank Regulation, Reputation, and Rents: Theory and Policy Implications. In: Mayer, C., and Vives, X. (eds), Capital Markets andFinancial Intermediation. Cambridge, UK: Cambridge University Press, 292-318.

[6] Hakenes, H. and I. Schnabel. 2010. Capital Regulation, Bank Competition, and Financial Stability, Leibniz University of Hannover, MPI Bonn, and CEPR

[7] Bikker J.A. and J.M. Groeneveld. 1998. Competition and Concentration in the EU Banking Industry Research Series Supervision 8, Netherlands Central Bank, Directorate Supervision

[8] Claessens, Stijn, and Luc Laeven. 2004. What Drives Bank Competition? Some International Evidence. Journal of Money, Credit, and BankingVol. 36, pp. 563-583

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About the Author

Dr. Jacob Oduor is Principal Research Economist at African Development Bank (AfDB). He is a holder of Ph.D in Economics from Bielefeld University, Germany. He is also a holder of MA (Economics) and BA (Economics)- First Class Honours from Kenyatta University, Nairobi, Kenya. Prior to joining AfDB, Dr. Oduor lectured in the School of Economics at Kenyatta University and he worked with the Cooperative Bank of Kenya and the Kenya Institute for Public Policy Research and Analysis (KIPPRA). Dr. Oduor is an accomplished time series econometrician specialized in: time series, cointegration, general macroeconomic theory and policy, monetary policy and growth theory.

 

 

"I've got your back" - the role of mutualitées in the DRC

18.07.2017Jaco Weideman, Research Associate & Renée Hunter, Research Analyst - CENFRI

This post was originally published on the CENFRI website.

The Democratic Republic of the Congo (DRC) is a country with a volatile history and topography that's tough to navigate. It's not the easiest place to live when you consider the risks that you are exposed to on a regular basis. These might include sickness, unemployment, and unexpected expenses, but also more specific and remarkable challenges, such as buffalos trampling your crops. Now consider that insurance is mostly inaccessible. How would you ensure that you and your family cope?

The people of the DRC have come up with an innovative and complex solution that is very well-suited to their specific needs, in the form of mutualitées. While community-based financial groups such as savings and credit associations or burial societies are seen in many countries in Africa, mutualitées are unique in their design. They are set apart from other co-operative groups by their complexity and broad activity span across different financial services and social functions. In many ways, mutualitées fulfil the role of insurers, investment managers, contractors of public works and public service providers. They manage to meet an entire portfolio of financial needs in one product.

Mutualitées started in the cosmopolitan city of Kinshasa. The coming together of different cultures and ethnicities created a need for groups to preserve and celebrate their heritage. Associations were set up and, over time, their goal evolved from cultural preservation to mutual self-help: supporting their kinsmen within an unfamiliar, and sometimes overwhelming, city, far from home. Marriages were celebrated, deaths were mourned, and assistance was given in times of hardship.

Nowadays, mutualitées are complex and organised social groups where the common bond is no longer limited to a shared ancestry, and the benefits are more than financial.

"The advantages (of a mutualitée) are love and mutual support. We give assistance in case of an illness. In a case of a birth we also assist. We provide support in case of bereavement."

Head of a mutualitée, Kinshasa

The members of a mutualitée convene regularly. At those meetings members contribute a certain sum, with which the management team (made up of highly-esteemed individuals) are charged with fulfilling the mutualitée's numerous aims. Examples range from a small mutualitée of young men that clears stagnant water in a certain suburb to combat malaria, to a large mutualitée that lobbies government in order to reunify the two Congos.

From interviews with members of mutualitées, it emerged that their overarching aim is to assist members in times of need. A common way to do this is via risk pooling or pooled savings. In certain cases of misfortune (such as death or illness) or celebration (such as marriage or childbirth), as the interviewee describes above, members are eligible for a pay-out. A specific amount is set for particular events, such as US$300 for a funeral or US$100 for childbirth. Members therefore know exactly what to expect.

Some mutualitées also assist members through individual savings and credit. The management will guard members' savings for them or, in exceptional cases, based on a member's merit, will provide them with a loan. Moreover, many mutualitées grow their funds by investing in assets. For instance, there's a student mutualitée that invests in fridges from which cold drinks are sold and another buys cars to run a taxi service.

There are also mutualitées that builds infrastructure and conduct activities to generate positive externalities. Examples range from mutualitées funding road improvements, to mutualitées that organise after-school activities for children, such as soccer tournaments.

Thus mutualitees therefore fulfil an important social as well as financial assistance role.

"Firstly, I am proud because I am in an association with my brothers. I lost my son and I did not have enough financial means and the President of the association assisted me with $200 for the coffin."

Staff member of a mutualitée, Kinshasa

So what does this mean for policymakers and regulators?

Given the early stages of retail financial market development in the DRC, where financial access barriers are wide-spread and only the top end of the market is served in the formal financial sector, the mutualitée provides a uniquely tailored, local solution to many. This creates a policy imperative to acknowledge and protect the role that the mutualitée plays in serving those outside the reach of the formal financial sector. It also poses the question of whether formalisation of these financial services is desirable and, if so, what would this formalisation look like. The implementation of the 2015 Insurance Act, which states that all providers of insurance, including mutual associations, are subject to new and stringent requirements relating to market entry and minimum capital criteria, may be the first warning light for the future of mutualitées. If strictly enforced, this would place most in jeopardy.

Should mutualitées come under threat, it will mean not only the loss of a broad-reaching financial services, but also a valuable social support network. So, whilst some will merely lament the cancellation of a local kids' soccer tournament, a greater hardship will come for those that have nowhere to turn when they need money for a hospital bill or worse, a funeral.

We encountered the phenomenon of mutualitées during our in-country research work for the Making Access Possible (MAP) study. MAP draws insights from both qualitative and quantitative, demand and supply-side research, with inputs from stakeholders in both the public and private sector. This feeds into a financial inclusion roadmap. The diagnostic for MAP DRC is forthcoming and will be released soon.

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About the Authors

Jaco Weideman is a research associate at Cenfri and has been part of the team since November 2014. Since joining the team, Jaco has been involved in several projects in Mozambique and South Africa. Jaco has been part of the team conducing MAP diagnostics in Mozambique, Madagascar and DRC, responsible for FinScope data analysis, and segmentation to identifying potential target groups for financial services providers in the country. Renée Hunter is a research analyst working within i2i's Client Insights team. Her research to date has mostly focused on client centricity and data protection. Before joining i2i, Renée worked as a junior researcher at Cenfri, and before that as a junior business developer for Divitel - an independent video systems integrator.

To the Future and Back: Financial Inclusion in the Arab World

17.07.2017Nadine Chehade, Financial Inclusion Specialist, CGAP

This post was originally published on the CGAP website.

Imagine it is 2030 and nearly everyone in the Arab world has access to financial services. Over the past two decades, legal reforms have expanded the financial market for existing and new financial service providers, spurring greater specialization and competition. People can make small payments (whether P2P, P2B, B2B, P2G, or G2P) in seconds - rendering the half-a-day trip to pay a utility bill a story from the past. Deposit amounts within the formal financial system, whether at full-fledged banks, payments banks or microfinance banks, have increased two- to five-fold. Fueled by this additional liquidity, formal lending to the private sector and to individuals has had a multiplier effect, contributing to GDP growth to an extent that has actually reduced inequalities. More private-public partnerships are soon expected to provide near-universal insurance coverage to all.

Now back to reality. In 2017, the picture is starkly different. Analysis of the available Findex data, as shown in a joint Arab Monetary Fund-CGAP report on financial inclusion measurement in the Arab world, points to a large unmet demand for financial services. Our analysis shows that 70 percent of adults in the region (168 million people) lack access to a basic account, and this figure reaches close to 80 percent in the region's developing countries. Significantly, our analysis also shows that many of the unbanked are active economic citizens, as evidenced by the fact that 92 million people report borrowing informally. Taken together, these figures suggest that financial service providers have an opportunity to address a huge unmet demand across the Arab world, including in countries with relatively more active financial markets.

At first glance, it might be hard to believe that a full 70 percent of people in the region lack access to a bank account. But the trends are identical when analyzing the supply-side figures from the International Monetary Fund's Financial Access Survey. No matter how you look at it, whether by surveying people in the streets or by aggregating data from financial service providers, the conclusion is the same: The Arab world lags behind other regions in access to formal financial services.

Source: Findex 2011 and 2014 data, except for bars in purple, computed based on the Findex data.

Note: Findex reports an average of 14% for "Middle East developing countries," including Egypt, Iraq, Jordan, Lebanon, Palestine, and Yemen. Other figures for the Arab world are calculated as averages weighted by the population aged 15+. GCC countries include Bahrain, Kuwait, Oman, Qatar, Saudi Arabia, and United Arab Emirates. The Arab world includes all AMF member countries, namely GCC countries and Algeria, Comoros, Djibouti, Egypt, Iraq, Jordan, Lebanon, Libya, Mauritania, Morocco, Palestine, Somalia, Sudan, Syria, Tunisia, and Yemen.

Source: Findex 2011 and 2014 data, except for Morocco (estimated by applying to the 2011 Findex data the growth rate reported by Bank Al Maghrib on the number of accounts as collected from financial service providers).

Note: Only 2011 data are presented for countries where no data for 2014 are available (Comoros, Djibouti, Morocco, Oman, Qatar, Syria).

The good news is that we are getting closer to the future I described above. The Arab world has seen tangible progress in financial inclusion over the past few years, including changes to legal and regulatory frameworks, which have historically been (and still often are) the region's main obstacles to financial inclusion. Many of the changes from 2011 to 2015 focused on microcredit, but several countries made it possible for non-bank financial institutions to offer credit services and to market insurance products on behalf of insurance companies for the first time (e.g., Tunisia law-decree n°117, Palestine regulation n°132, Egypt microfinance law n°141, and Jordan microfinance companies regulation n°5). More recently, revamped banking laws have authorized payments companies licensed and supervised by a central bank to issue transactional accounts (e.g., Morocco's 2015 banking law n°12.103 and Tunisia's 2016 banking law n°48). Upcoming executive regulations in Morocco and Tunisia are expected to make a big difference in processing small payments for the unbanked and banked alike. Jordan now allows both refugees and nationals to open e-wallets, after taking the bold bet of mandating interoperability among mobile payment service providers from the first day of operations (unlike in many other countries, where interoperability may take years). Qatar, which like many GCC countries hosts large numbers of migrant workers, made remittances through mobile easy and cheap, improving the lives of thousands throughout the region and beyond.

As a number of countries put financial inclusion strategies into place, the region is also benefiting from increased knowledge sharing. The Arab Monetary Fund's Financial Inclusion Task Force is one example where knowledge exchange among regional central banks happens. In collaboration with several partners, the task force is making more and more tools available on topics ranging from demand-side surveys and financial consumer protection to de-risking.

Of course, much more remains to be done on all fronts to meet the Arab world's large unmet demand for financial services. Access to small savings, arguably the most important financial service for low-income people, requires more enabling legal frameworks (e.g., tiered licensing of service providers and tiered customer due diligence) so that specialized providers can emerge and become sustainable. The exceptions are perhaps countries like Morocco or Tunisia, where active postal networks play a key role in offering basic services, or Yemen, where a sound microfinance banking law is already in place. Gender-disaggregated data on financial inclusion in the region is not yet available, although it would allow for more targeted policies to nudge social norms on broader women's legal and economic rights. Lastly, even where regulation and infrastructure are in place, financial inclusion stakeholders have yet to witness success stories and market gaps being truly addressed.

Hopes are nonetheless high, and arguably the biggest change to take place over the past five years is encouraging: the shift in discourse among policymakers, who now acknowledge financial exclusion realities. The emerging consensus is that there is an untapped market and a huge opportunity to bring adapted financial services to those who need them, for the benefit of all. To advance financial inclusion, we need fact-based policies, implemented and championed by a critical mass of policy-makers who are eager to improve their countries' financial systems. Now that a number of institutions are joining forces to make this happen, today's opportunities may very well become tomorrow's realities.

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About the Author

Nadine Chehade is CGAP's representative in the Arab world. She works to deepen CGAP's engagement in the region, collaborating with various partners, including regulators and policy-makers, donors and investors, and national and regional associations. She covers matters related to policy, research, and donor coordination, with the overarching goal of advancing financial inclusion. Nadine joined CGAP in 2012, bringing ten years of experience in investment banking, management consulting, and microfinance. Prior to that, she worked as Planet Rating's Business Development Manager and MENA Director. Nadine holds an MBA from ESSEC in France. She is fluent in Arabic, English, French, and conversational in Spanish.

Unlocking infrastructure potential in Africa: The role of sovereign wealth funds

29.06.2017Seedwell Hove, Senior Macroeconomist, Quantum Global Research Lab

This post was originally published on the Quantum Global Group website.

Sovereign wealth funds (SWFs) are increasingly becoming major sources of finance in many countries. Commonly established from balance of payments surpluses, foreign currency reserves and fiscal surpluses, global SWF assets under management have grown rapidly in recent years, topping US$7.2 trillion in 2015, more than double the asset base in 2008. African countries have joined the international trend in establishing SWF in recent years, with assets under management now over US$159 billion (6.4 percent of Africa's GDP). The rapid growth of SWFs in Africa has been catalysed by high commodity prices from the early 2000s till 2014, coupled with the recent discoveries of oil, gas and solid minerals in countries like Ghana, Kenya and Tanzania. Despite the plunge in commodity prices since 2014, SWFs continue to increase both in number and in assets under management.

At the same time, Africa has huge infrastructure gaps which are constraining growth. The World Bank estimates that about US$93 billion is required annually to meet the continent's infrastructure needs, but only half of that amount is currently being met. Booming population growth and increasing life expectancy across the continent is pushing up demand for utilities such as water, power, roads and telecommunications, which few countries are providing in sufficient quantities. About 19 percent of roads in Sub-Saharan Africa are paved, compared with 27 percent in Latin America and 43 percent in South Asia. Some 57 percent of the population in Africa lack access to electricity and about 30 countries face regular baseload power shortages, resulting in the payment of high premiums for emergency power. The proportion of people with access to improved water sources is 68 percent in SSA compared with 94 percent in East Asia and 95 percent in Latin America. Inadequate infrastructure is raising the cost of doing business, hindering trade integration and constraining growth. The poor state of infrastructure is estimated to reduce growth by two percentage points every year and cut business productivity by as much as 40 percent. Africa's firms lose five percent of their sales due to power outages and this figure rises to 20 percent for firms in the informal sector.

Accelerating Africa's growth hinges on closing the infrastructure gap, yet mobilizing finance for infrastructure development remains a daunting challenge.

The scope for financing infrastructure from traditional sources such as public revenues, banks and debt markets is limited, especially after the global financial crisis. Thus Africa needs new sources of finance for infrastructure, and sovereign wealth funds can contribute significantly in financing infrastructure.

SWFs are well positioned to finance infrastructure, for several reasons. First, they have a long-term investment horizon, and can provide long-term capital which is necessary for infrastructure financing. Second, they usually have limited or sometimes no explicit liabilities (since they are usually drawn from the fiscus), in contrast to other institutional investors such as pension funds. Third, infrastructure provides reasonably higher and inflation-protected yields, coupled with lower correlation to other financial assets, which implies lower risk. Fourth, once constructed, infrastructure assets are less vulnerable to economic downturns compared with other assets which are pro cyclical. Given Africa's demographics and infrastructure financing gaps, channeling SWF resources towards infrastructure is a positive step towards building above-ground assets for future generations.

Asset allocation of African SWFs is largely determined by their mandates, which include economic stabilization, intergenerational savings accumulation, buffers against economic shocks, wealth diversification and economic development (e.g. infrastructure and industrial development). In addition, economic outlook, fiscal situation, market trends, investment beliefs, regulations, risk appetite and liability considerations also influence investment decisions of SWFs. Our analysis suggests that allocating about 20 percent of the current African sovereign wealth funds could cover Africa's annual infrastructure financing gap atleast for a year, assuming no inefficiencies. Allocating about 15 percent of African SWFs could close the energy financing gap while the water and sanitation financing gap could be covered by an allocation of 8.4 percent of Africa sovereign wealth funds. For a sample of countries which have established SWF, there is positive correlation between SWF assets and access to electricity, suggesting that SWF can make a difference in infrastructure development.

There are many opportunities for investing in Africa's infrastructure. Africa has abundant natural resources (10 percent of world reserves of oil, 40 percent of gold, 80-90 percent of chromium and the platinum group of minerals and agriculture resources which provide opportunities for infrastructure investments in resources and industrial beneficiation sectors. The continent is also undergoing rapid urbanization, with relatively young labour force and growing middle class which provide opportunities in real estate, telecommunications, energy and water and sanitation sectors. Africa's population will more than double to about 2.4 billion by 2050, representing growing future demand for infrastructure. Estimates suggest that demand for energy in Africa will grow at 6 percent per year to 3 100 terawatt hours (TWh), while transport volumes will increase by 6-8 times the current amount by 2040. Returns on investments in Africa have been considered to be higher than in other developing regions, which could be the case for infrastructure investments, considering existing infrastructure funding gaps, especially in energy, transport and water and sanitation. While opportunities for infrastructure investments in Africa are immense, there are also some risks to consider. For instance, political risks (e.g. arising from change of governments), currency fluctuations, commodity price fluctuations, financing risks and lack of high quality data to measure and manage risks.

SWF can certainly play an important role in financing infrastructure development in Africa. For this to be possible, African SWFs need to have clear objectives and ensure that their investment strategies are consistent with their set mandates. SWF can make efforts to allocate a sizeable portion of assets towards infrastructure investments or create a sub-entity with a specified mandate towards infrastructure investment, as exemplified by Ghana, Nigeria and Angola. African governments can also promote infrastructure investment by demonstrating commitment to investor protection in terms of property rights, stable legal systems, zero tolerance on corruption and upholding of legitimate projects after political transitions. This is important specially to attract other SWFs outside Africa or private investors. Institutional investors often raise concerns of liquidity and risks in infrastructure investments. As such, there is need to design financial instruments which are liquid and credit enhanced, with investment grade ratings to incentivise SWF to invest their huge resources in infrastructure. Improving infrastructure project preparation and packaging could also be helpful in attracting SWF into infrastructure investments. It is also important to address data gaps to help improve the measurement and management of risks in infrastructure investments and unlock more funding into infrastructure in Africa.

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About the Author

Seedwell Hove  is currently Senior Economist at Quantum Global Research Lab, a research center specialized in the delivery of bottom-up econometric models of African economies and macro-economic policy analysis  that support the development of innovative economic policy and sustainable investments. Seedwell and the Research Lab's global office are based in Zurich, Switzerland. Prior to joining this position, he worked at the World Bank between 2012 and 2015, and before this assignment, he taught Economics for nearly 2 years at the University of Capetown. Early in his career, Seedwell worked as treasury dealer at Infrastructure Development Bank (formerly Zimbabwe Development Bank) and then at Reserve Bank of Zimbabwe. Relatively to his academic background, Seedwell Hove holds a Ph.D. in Economics from Cape Town University and a Master's degree from the University of Zimbabwe.

Growth and financial inclusion: Where is Tanzania today?

29.06.2017Bella Bird, Country Director, The World Bank

This post was originally published on the World Bank blogs website.

Two Tanzanian entrepreneurs: Hadiya and Mzuzi. Hadiya has built a successful micro-business taking advantage of mobile money services, including money transfers and savings products that are low cost and safe, as well as short term micro-loans. But Mzuzi, the owner of a small, 10-person enterprise, is facing a financial crisis despite huge personal drive and inventiveness because of his inability to access credit to expand.

The stories of these two entrepreneurs embody the experiences of real-life Tanzanians seeking opportunities for themselves and their families. Their need for financial products and services opens the second section of the 9th Edition of the Tanzania Economic Update series which, in addition to providing the World Bank's regular overview of the economy, puts a special focus on an issue of strategic significance to the country.

The broad story of Tanzania's growth and poverty reduction over the past decade is now well known: With strong and consistent growth rates of 6%-7%, Tanzania has performed very well by regional standards. But while the poverty level in Tanzania has declined significantly, roughly 12 million Tanzanians still live on less than Sh1,300 (58 US cents) per day, with many others living just above the poverty line and at risk of falling back into extreme poverty in the event of an economic shock.

A key challenge for Tanzania's economy is the estimated 800,000 young women and men who enter the job market annually with only limited opportunities to find a productive job.

Maintaining and accelerating growth requires the right policies. Tanzania's impressive growth to date has been driven by the decisions of the past. Future growth will be driven by the decisions of today's leaders. The Government of Tanzania is clear that it is focused on achieving an annual 10% rate of growth by 2020 but, to build on the current momentum, it needs to pay attention to three key areas. These are the subject of this latest economic update.

Firstly, the government should maintain its prudent macroeconomic policy management. Secondly, there should be effective management of public investment. Thirdly, Tanzania needs to unlock the growth potential of the private sector. There is no alternative to private sector-led growth to reach the levels of investment, employment and poverty reduction that will fulfil the aspirations of the Tanzanian people.

As Tanzania enjoyed a decade of stable growth, the country also made very impressive progress towards creating an efficient, low-cost mobile money infrastructure. This helped to extend financial inclusion for the benefit of many. However, the much larger formal financial system, which is critical for the growth of the business sector, continues to lag behind. Additional steps are therefore needed to further improve the mobilization of savings, whilst providing access to affordable credit to the real economy. Interest rates remain high and access to credit very restricted, resulting in a lower ratio of credit to the private sector relative to Tanzania's GDP, compared to regional and global comparators.

Three directions are suggested to secure the prospects of citizens like Hadiya and Mzuzi and many more like them.

Firstly, undertake measures to expand access to those still not participating in financial services: almost one out of three adults lacks access to financial services, with women and citizens in rural areas still strongly disadvantaged. A complete and swift roll out of an efficient and inclusive National ID system, coupled with the shift towards electronic payments for government-related transactions, including for social transfers such as TASAF, could facilitate the expansion and deepening of financial inclusion.

Secondly, deepening inclusion by broadening the use of more advanced financial products and services could help Tanzania move towards a more formalized, transparent, and dynamic economy. This can be achieved through measures that foster competition between banks and other financial service providers.

Last but not least, Tanzanians' access to affordable long-term credit needs to be improved. Reducing the pressure of public borrowing would reduce the disincentives for lending to the private sector, which would in turn improve the availability of long-term credit.

Tanzania holds great potential for accelerating its growth for the benefit of all citizens. Taking measures to bring money within reach of enterprising citizens will help to harness their latent talent, energy and drive. This will not only contribute to growth of the economy, but widen opportunities for men and women, the Hadiyas and Mzuzi's, to benefit and play their part.

With these needs in mind, Tanzania is among the 25 priority countries within the World Bank Group's Universal Financial Access 2020 initiative, whose goal is to enable access to transaction accounts as a first step toward broader financial inclusion.

We hope that this Ninth Edition of the Tanzania Economic Update will contribute to the debate.

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About the Author

Bella Bird became the Country Director for Tanzania, Burundi, Malawi and Somalia in July 2015. She is based in Dar es Salaam, Tanzania. Prior to taking up this role, Bella was the World Bank Country Director for Sudan, South Sudan and Somalia, based in Nairobi, Kenya from 2011 to 2015. Before joining the Bank in 2011, Bella served in various leadership positions in the UK Department for International Development (DFID). From 2009 - 2011, she was Head of Governance Policy in DFID. She provided leadership to a number of international policy processes at the OECD, as well as leading policy development on governance and fragile states policy within DFID. Bella also previously served in the roles of Head of DFID Nepal and of DFID Vietnam. Prior to these positions, she spent seven years with DFID as an adviser on poverty and social issues in Kenya, Tanzania and Uganda. She played a leadership role for the UK government and internationally on policies to promote state-building and peace building, championing aid effectiveness and south-south collaboration.

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