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African financial sector in times of Global Crisis – What lessons have we learned?

29.10.2010Thomas Losse-Müller

The global financial crisis posed new challenges for policy makers in Africa and around the world. Its scale and complexity lacked precedents that could have guided decision making and the evaluation of potential risks for the region.

On the whole, African banks stayed the course through stormy weather. Most financial sectors were in the middle of a pronounced growth phase when the financial crisis took hold of international financial markets. This expansion peaked as late as the third quarter of 2008, well into the unfolding global crisis. But even during the crisis, average growth in credit to the private sector stayed above 10% per year and is picking-up again. Bank portfolio quality held up nicely, with a couple of important exceptions concentrated in a few countries. Stock markets fell drastically when international investors withdrew from most African markets, but they recovered most losses since then, as domestic and foreign investors are coming back forcefully. So, what happened? Why did the crisis spare African banks? What can we learn about the vulnerabilities of banks and capital markets?

Much of the explanation goes back to lucky historical circumstances. The crisis came at a good time for Africa. Then and now, bank’s balance sheets are underleveraged, capitalization is high and banks have ample liquidity. There is too little, and not too much bank activity in Africa. Limited integration with global financial markets reduced exposure to toxic assets and failing international banks. Governments and banks had only started to enter global capital markets for foreign funding and were not exposed to the risks that come with mismatches between foreign currency borrowing and local currency earnings. This meant that currency devaluations did not have the devastating effects that triggered most financial crisis contagion in the Asian and Latin American crisis of past decades. And, maybe most surprisingly, banks didn’t have much risk exposure to commodity price volatility for the simple reason that African banks do not do much business with commodity producers. These international firms revert to domestic financial markets only for smaller working capital and local currency cash-flow requirements.

But, thinking about the future, all of this is likely to change. Banks will grow and leverage their capital more, put liquidity to work, fund themselves on international markets, integrate with global financial markets and compete with international banks for the big commodity business.

In preparation for this future, we need to draw the right lessons from the crisis. The nature of these lessons might be much more domestic than global. One important domestic lesson is that future financial sector growth needs to be built on strong risk management and good regulatory capacity. The biggest increase in non-performing loans in the past two years were not a result of the global crisis, but of home-grown factors like the collapse of margin loans in Nigeria or fiscal risks in Ghana. The other important lesson of the last two years is that domestic markets proved their potential to fund African development. When global investors withdrew from Africa, governments and firms could reliably turn to domestic financial markets to raise funding in a big way. Domestic resource mobilization - not external funding - should be the base for financing Africa.

Thomas Losse-Mueller joined the World Bank in 2004 where he works as a financial sector specialist focusing on Africa. He has worked on financial and private sector development projects in a variety of African and Eastern European countries, including Nigeria, Kenya, South Africa, Ethiopia, Sierra Leone, Turkey and Serbia. From 2008 to 2010 he led work on behalf of the German Government in supporting the establishment of the Partnership for Making Finance Work for Africa. Prior to joining the World Bank he worked in risk management for Deutsche Bank in London.  He holds degrees in economics from the School of Oriental and African Studies and the University of Cologne.


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