Africa Finance Forum Blog

Why do African banks lend so little?

06.06.2011Andrianova Svetlana

A recent research project at the University of Leicester funded by the Economic and Social Research Council in the UK sheds new light on the reasons why banks in Africa are excessively liquid.

Our work shows how the failure of credit markets in Africa to function efficiently might combine with institutional failures to inhibit bank lending. Credit markets can malfunction when there is a shortage of information about borrowers, either information about their propensity deliberately to default on a loan (moral hazard) or information about the true return of the investment they intend to undertake and their likely ability to repay (adverse selection). Both of these problems will discourage banks from lending to domestic customers. Rule of law can mitigate these problems. If loan contracts are easier to enforce, then borrowers are less likely to default deliberately, or to choose to engage in investments they know to be highly risky. A legal system that is even-handed, consistent and free from corruption will make it easier for banks to enforce loan contracts.

Our study shows that a certain minimum standard of contract enforcement will ensure that the market does not malfunction, however substantial the underlying moral hazard and adverse selection problems are. Below this minimum standard, the expected liquidation value of defaulted loans is so low as to discourage banks from lending.  The degree to which this happens depends on both the extent of institutional failure and the proportion of borrowers who are bad default risks, either because they are opportunistic or because they have bad projects or bad luck.
We also provide empirical evidence on the magnitude of these effects by analyzing data on default rates and asset structure for individual banks in different African countries. Specifically, we show that there is a threshold standard of regulatory quality that will effectively protect banks from any level of moral hazard or adverse selection. This minimum standard is roughly that of the average country around the world (in the World Bank’s World Governance Indicators) – that is, a country which has quite a high standard for Africa. In countries which fall below this standard – that is, most countries in Africa – an increasing rate of loan defaults is associated with increasing liquidity. In the worst cases, with almost no effective regulation and a high propensity to default, banks will channel most of their deposits into foreign assets.

Our evidence confirms that many banks suffer from a shortage of information about the creditworthiness of many of their customers. As a result, local savings are not channelled into local investment, and the money leaves the local economy.

A companion study of banks operating in the WAEMU over 2000-2005 by Demetriades and Fielding (2011) – a summary of which can be found in Table 1 - reveals that banks which are older, or owned partly by foreign banks, are less sensitive to a high rate of default in the country, and more likely to shift assets abroad or take on government debt when the default rate rises. Younger banks without any foreign or government ownership are more sensitive. One possible ex planation for this difference is that younger local banks have relatively little information about their customers, or have relatively few long-standing relationships that dissuade customers from defaulting when it is convenient to do so. Similar problems arise in banks which do a relatively large amount of business away from the main financial centre in the country. Banks committed to lending to provincial customers are more sensitive to changes in national default rates. This might be because information about customers is more expensive to acquire in the provinces, or because regulatory quality tends to be weaker there. Interestingly, there is no strong association between the sensitivity to loan default and the overall profitability of a bank. Banks which lend less to local households and businesses, and acquire foreign or government assets instead, are not significantly less profitable. The alternatives are typically much more liquid, but their average rate of return is apparently not that much lower than conventional lending. This may be part of the problem.

Table 1. Average effect of a one percentage point increase in the national default rate on a bank's loans-to-assets ratio (in percentage points).

completely domestically owned

completely foreign owned


20 provincial branches

no provincial branches

20 provincial branches

no provincial branches

1 year

-7.5 pct. pts.

-4.7 pct. pts.

-6.4 pct. pts.

-3.6 pct. pts.

10 years

-6.5 pct. pts.

-3.7 pct. pts.

-5.4 pct. pts.

-2.6 pct. pts.

20 years

-5.5 pct. pts.

-2.7 pct. pts.

-4.4 pct. pts.

-1.6 pct. pts.

30 years

-4.4 pct. pts.

-1.6 pct. pts.

-3.3 pct. pts.


40 years

-3.4 pct. pts.


-2.3 pct. pts.


Many new banks have been created in the last twenty years, but this has not led to significantly more competition in the loans market, because the younger banks lack the market information to make much money out of lending locally.

Aside from encouraging improvements in institutional quality, one way to widen access to bank loans might be through creating or increasing the number of credit information bureaux.

By Svetlana Andrianova, Reader (Associate Professor) in Economics, University of Leicester, United Kingdom,
with Badi H. Baltagi, Distinguished Professor of Economics, Center for Policy Research, Syracuse University, USA, and Professor of Economics, University of Leicester, United Kingdom
Panicos Demetriades, Professor of Financial Economics, University of Leicester, United Kingdom
David Fielding, Professor of Economics, University of Otago, New Zealand

Andrianova, S., B. Baltagi, P.O. Demetriades and D. Fielding. 2011. “Why Do African Banks Lend So Little?”, University of Leicester Working Paper No. 11/19.
Demetriades, P.O. and D. Fielding. 2011. “Information, Institutions and Banking Sector Development in West Africa, Economic Inquiry, Early View  

Planning for the Perfect Storm: Regulation of Commodities Trading in Agricultural Products

23.05.2011Matt Troniak

Today, as fuel prices go up, and food prices increase, we are all well aware of the risk of social unrest and civil strife. The world needs affordable food, for a growing population, in a natural environment that is increasingly volatile due to climate change. Whether we can meet these needs will depend upon how we evaluate and address the agricultural investment risks and returns and how we regulate investment in agriculture.

Investors are well aware of this opportunity. Blackrock Global Funds in marketing its World Agricultural Fund comments: "The agriculture sector has, to an extent, lagged other parts of the commodity markets. However, the demand fundamentals continue to improve and with inventories in some agricultural commodities at historically low levels, we believe agriculture is a compelling long-term investment. We have identified three powerful drivers of agricultural commodity demand. These are; rising population, rising incomes and the growth of biofuels.With inventories in some agricultural commodities at low levels, these demand drivers are likely to put upward pressure on prices."

In addition to the traditional risks in agriculture we now have a large and growing man made risk. This is the risk that results from the "financialization" of food commodities. The free market system combined with international trade and international finance enables wondrous technology and a standard of living beyond compare in some parts of the world enabled by investments attracted by the risk reward trade off. But the dark side of these free markets could be viewed to be financial speculation on food facilitated by un-regulated or loosely regulated markets.

An interesting question that is facing us is whether it is morally and ethically correct to "speculate" on food? Is it correct to allow un-controlled and un-regulated profit seeking to withhold grain supplies in a period of shortage? Is the way we account for profits in the scenario correct when we do not charge the private sectors profit and loss statement with the costs of social unrest, riots, wars and the like? Should we do anything to ensure this profit seeking is moderated and regulated? Do we truly believe that "Greed is Good?", as the character Gordon Geko in the movie Wall Street said. Have we not just seen and experienced the result of poor regulation and oversight on the world economy. Can we afford to take this risk with our food?

Fortunately there are already calls for regulation of financial speculation in commodities and thus food commodities. But the requisite legislation and regulation is far from implementation. There is "a pressing need for new measures of transparency and regulation to deal with speculation on agricultural commodity futures markets," said Jacques Diouf, Director-General of FAO.

In the report World Economic Situation and Prospects 2011 published by the UN it is noted as follows: "The traditional function of the commodity exchanges has been to facilitate price discovery and allow for the transfer of price risk from producers and consumers to other agents that are prepared to assume such risk. But these functions have become impaired by the growing “financialization of commodity trading."

In the article "How Institutional Investors Are Driving Up Food And Energy Prices" by Michael W. Masters and Adam K. White, CFA ed. Institute for Agriculture and Trade Policy, the authors note that: "When Physical Hedgers dominate the commodities futures marketplace, prices accurately reflect the supply and demand realities that physical consumers and producers are experiencing in their businesses. When Speculators become the dominant force, prices can become un-tethered from supply and demand, reaching irrationally exuberant heights."

Federal Reserve Bank of St. Louis in an article “What Explains the Growth in Commodity Derivatives? By Parantap Basu and William T. Gavin, ed. Institute for Agriculture and Trade Policy, documents: "During the past decade, many institutional portfolio managers added commodity derivatives as an asset class to their portfolios. This addition was part of a larger shift in portfolio strategy away from traditional equity investment and toward derivatives based on assets such as real estate and commodities. This trading was directly related to the search for higher yields in a low interest rate environment. The growth was both in organized exchanges and over-the counter (OTC) trading, but the gross market value of OTC trading was an order of magnitude greater. This growth is important to note because a critical factor in the recent crisis was counterparty failure in OT C trading of mortgage derivatives."

In this regard we need to consider the issue of investment in agriculture in our deliberations on Making Finance Work for Africa. We should seek to assist governments, producers, and consumers to regulate their Commodities Exchanges and Over the Counter Markets to ensure that they function to enable price discovery, facilitate agricultural trade and financial hedging, and to ensure that "speculation" is driven out of the food commodities market. If we do not do this - we increase the financial, social, political, and economic risks in fragile states and emerging nations alike and we do so at our peril.

The author has worked in the areas of agriculture investment and development including value chain financing for over ten years in Africa and Asia. He is currently involved in researching and implementing, as well as training on, risk mitigation tools to enhance the flow of funding to agriculture production and processing with a focus on Small and Medium Enterprises in agricultural value chains in emerging markets.

Developing an e-payment system in Africa: Issues and Challenges

08.05.2011Blaise Ahouantchede

I. Low banking services in Africa: a constraint on financial services development

The banking rate in Africa is still low, making it hard to overcome the challenge of developing financial services necessary to strengthen African economies. In the eight West African Economic and Monetary Union (WAEMU) states which have eighty-four million people and some one hundred banks, this rate - which is less than 10% - does not allow for the establishment of a solid and sustainable development strategy for a mass financial system.
Several initiatives are however underway to reverse this trend. These include adapting regulations, sensitizing various actors, educating the population on the financial culture, providing adapted and accessible services at reduced costs, and ensuring the security of financial transactions to instill confidence in clients.

II. The role of actors and strategy type

Central banks have an important role to play in improving the banking and financial landscape by adopting proper regulations designed to foster the development of banking and financial activities in Africa. As a result, in the WAEMU zone, the Central Bank of West African States (BCEAO), through Order No. 08/2002/CM/UEMOA, promotes access to banking services and the use of electronic payment systems. Following this directive, WAEMU member states were  also expected to adopt similar laws in line with the directive.
These measures are necessary to sensitize various segments of the society on the use of encrypted means of payment, including e-payment which is playing a prominent role.
GIM-UEMOA”, the e-payment governance and supervisory body within WAEMU, has established an interbank e-payment system in the region by providing world-class technical and operational infrastructure, making it possible to meet cash withdrawal and payment needs through bank cards.
Strategic partnerships have also been established with international issuers to enable GIM-UEMOA member banks to offer valuable services both within and outside the WAEMU zone while respecting BCEAO regulations for operations conducted within WAEMU, in particular, balancing and settling electronic financial transactions conducted in local currency. The establishment of a unified zone regarding the processing and management of interbank operations, a sign of real financial integration, is therefore one of the major achievements in the WAEMU zone.
Banks also promote the development of financial services through an innovative and differentiated approach based on their marketing and sales strategies.

III. E-payment’s contribution to the expansion of banking services and the promotion of financial inclusion

Electronic banking is and will remain an essential element in efforts to expand banking services to the population given that it targets people with or without payment means. The major challenge facing banks is therefore to establish and provide competitive electronic payment systems to the continent’s increasingly demanding population. This will imply controlling investments and operation costs which are relatively high.
The creation of the “GIM-UEMOA” in the WAEMU zone therefore meets a key objective of pooling investments by adopting a sub-regional interoperability strategy for e-payment operations enabling banks to provide local services at reduced costs.
The establishment of these regional champions such as the GIM-UEMOA in West Africa, OMAC in Central Africa, and a soon to be active inter-banking system for ECOWAS, and the need for an interconnection of these systems, should one day enable Africans with payment instruments such as credit cards or other electronic payment facilities to easily conduct financial transactions anywhere in Africa, without thinking about foreign exchange issues.
Africa will therefore become a unified zone, facilitating trade and strongly fostering financial and economic integration.

IV. Future challenges

New Information and Communications Technologies are enabling major players such as banks to provide high value-adding banking and financial services to their clients, based on payment methods such as bank cards, the Internet and mobile phones.
With a fairly high penetration rate of about 50% in Africa, mobile phones will, within the next years, undoubtedly become a payment method that will revolutionize the continent’s financial and banking landscape. The bank will be electronically connected and it will be close to its clients. This will also enable banks to innovate and earn new commissions from financial services, thereby increasing their net banking revenue. This is a great challenge for all stakeholders such as central banks, regional champions such as GIM-UEMOA, Banks, financial institutions, microfinance institutions, etc.

Blaise Ahouantchede, GIM-UEMOA’s Director General since 2003, has more than fifteen years of experience in finance, banking and project management. A polytechnic engineer and a holder of an MBA from Paris Dauphine, he also has two graduate degrees in information systems and in business and project management from Paris XII, France.
Before becoming the director-general  of GIM-UEMOA, he was, for more than eight years, a banking and finance project manager with ‘Crédit Agricole du Sud et au Crédit Agricole Indosuez’ in France, where he was in-charge of retail services and back-office operations, financial products research, as well as mergers and acquisitions operations.  He was also project director at the deposits and consignment office in France responsible for bank projects and payment methods.

The macroeconomic impact of Basel III on African economies

25.04.2011Pietro Calice

Africa escaped the recent global financial crisis relatively unscathed. While the region could not avoid the spillover effects of the ensuing global economic downturn, its banking sector proved generally resilient. This was mainly due to the structural reforms implemented over the past decade, including strengthening the relevant regulatory and supervisory systems, within a sounder and more flexible macroeconomic management framework.

Against this background, countries in the region need to advance their financial sector reform agenda. While financial deepening and access to financial services remain the main policy objectives, sustainable and inclusive economic growth rests ultimately on financial stability. In this context, the recent global regulatory response to the financial crisis, in particular the Basel Committee on Banking Supervision’s reform package known as Basel III offers a valuable opportunity to reexamine Africa’s financial sector reform agenda.

Basel III introduces a comprehensive set of measures which complements the Basel II and Basel I frameworks, with the aim to improve the resilience of banking systems. The cornerstone of Basel III is higher and better quality capital, mostly common equity, with improved absorption features, complemented by newly introduced liquidity requirements.

Africa is making important efforts to move to Basel II and might benefit from implementing Basel III. In spelling out a strategy to move to new standards however, it is important to assess the implications of regulatory reforms on economic performance, particularly of higher capital requirements, given their potential impact on macroeconomic outcomes. The existence of a “bank capital channel” through which changes in bank capital regulation have macroeconomic effects is well documented in the literature.

In a paper coauthored with Giovanni Caggiano from the University of Padua, we estimate the long-run impact of tightened capital ratios on African economies. Adopting a methodology used in similar studies, we quantify the gross benefits in terms of gains in African GDP resulting from a reduced probability of future banking crises. Based on existing data on the historical frequency of systemic banking crisis and associated output losses in Africa, we map higher capital ratios into reductions in the probability of crisis using a multi-variate logit model for a panel of 19 countries over the period 1980-2008. We then estimate the long-run economic costs of higher capital requirements on output assuming that an increased cost of funding is passed on fully to final customers through higher spreads. We employ two panel data for 22 countries over the period 2001-2008. In the first model, we analyze the long-run relationship between capital requirements and lending spreads. In the second model, we examine the long-term relationship between lending spreads and GDP. We finally combine the calculations so derived to quantify the net effect of higher capital requirements on the output of African economies.

We find positive net benefits from regulatory capital tightening. Starting from different levels of capitalization of the banking sector reflecting different initial conditions, net benefits for Africa are however found to be lower than those estimated for advanced economies. This is due to both lower expected gross benefits and costs for African economies, suggesting that with an already strongly capitalized banking system the marginal benefit of higher capital may be relatively moderate.

Our findings would suggest that heightened capital requirements under Basel III are not a priority for Africa. Therefore, as African countries advance their financial sector reform agenda, they might want to emphasize other areas which are equally critical to financial stability. These might include, among others: i) improving timely disclosure of high quality information, including comprehensive and internationally accepted accounting principles; ii) promoting the adoption of a sound corporate governance framework in order to achieve and maintain public trust and confidence in the banking system; iii) increasing compliance with the Basel Core Principles for Effective Banking Supervision, particularly with those requirements with which many countries are materially non-compliant, namely the independence of the supervisor and its capacity to enforce regulation and take corrective measures; iv) strengthening the relevant legal and institutional framework, introducing a crisis management system and resolution process, including a carefully designed deposit insurance system.

As a caveat, it is important considering that our results are subject to substantial uncertainties. Data and model limitations as well as the difficulty of mapping capital ratios in reductions of the probability of banking crisis are factors which inevitably affect our results. Moreover, we have omitted several elements from our analysis which may be important. Specifically, our assessment would benefit from considering the impact of higher capital requirements on African GDP volatility. Another dimension which would enrich our assessment is the expected impact on African macroeconomic performance from tightened capital rules in the rest of the world. With this in mind, our study provides a broad overview of the long-term economic impact of higher capital requirements on African economies.

Pietro Calice is a Principal Investment Officer at the African Development Bank.

The Voice of Africa in the Renaissance of Global Agricultural Finance Policies

11.04.2011Robin Hofmeister

“The African Union is delighted to support this pan-African initiative on agricultural finance and to raise the African voice within the G20 – let’s keep this fire and momentum burning.”

Boaz B. Keizire, CAADP Advisor, Africa Union Commission, Addis Ababa, Ethiopia

Why do we need to Refocus on Agricultural Finance?

The global food price crisis and the African Union, NEPAD and G20 focus on food security have moved agricultural finance on top of the African and international development agendas. Agricultural production needs to increase by 70 percent by 2050 to feed the world, while climate change and urbanisation will heavily reduce the area of cultivable land. One key to this problem lies in the agricultural production of the African continent. Not only is a massive increase in the production and productivity of African agriculture needed to feed the large and growing population in African countries, but the increasingly industrialised and urbanised African countries and rapidly rising food consumption, especially in the Middle East and Asia, offer a huge market and export potential. Agriculture is and will be a major building block in the economic success and the achievement of the MDGs in most of Africa.

Facilitating access to finance to fund the growth of African agriculture is one of the greatest challenges for stakeholders with an interest in both financial and agricultural sector development, on the continent. Agriculture, in most parts of the world, has traditionally been a difficult sector for lenders and investors. It is often exposed to high systemic risks, both in terms of the environment (e.g. drought, flood, disease etc) and markets (e.g. price volatility, trade policy barriers, dumping, transport and logistical challenges etc).

In order to tackle these challenges, African governments, G20 members, private institutions and development partners are teaming up to enhance finance for food and agricultural development. Internationally, there are two major parties which bring forward this issue, namely: the G20 Subgroup on Agricultural Finance and the Africa-wide Task Force on Agricultural Finance, initiated by the partnership for ‘Making Finance Work for Africa’ (MFW4A). Currently, African players take a lead role within this international process. The major tasks ahead are: To establish clear guidelines for Africa, to feed these results into the global G20 policy paper on agricultural finance and to implement these outcomes in Africa and beyond.

African Agricultural Finance

Initiated by the Partnership MFW4A, African governments, private institutions and development partners have gathered to form a comprehensive, Africa-wide Task Force on Agricultural Finance. The Task Force is closely linked to the African Union Commission and NEPAD Planning and Coordinating Agency (NPCA), as drivers of the CAADP agenda, as well as to AfDB and AFRACA - the African Rural and Agricultural Credit Association. Development and private partners such as the World Bank, AFD, UNCDF, FAO, IFAD, USAID, German Development Cooperation, FinMark Trust, AGRA and Stanbic Bank are supporting the Task Force. The Central Bank of Uganda (BoU) hosted the first technical meeting of the Task Force in Kampala at the end of March. At this meeting local private sector institutions, such as aBi Trust and Centenary Bank, as well as public sector representatives, joined the international partners. The technical discussions focused on laying the technical foundation for an Africa-wide policy paper on agricultural finance.

Based on these outcomes, an international conference will be held in Kampala, in June 2011, bringing together more than 250 high-level representatives of Africa’s financial and agricultural sectors. The targeted results are: Clear guidelines on policies and practices geared to supporting substantial increases in investment in African agricultural sectors. These guidelines will be endorsed through the Kampala Declaration for Agricultural Finance Policies in Africa and synthesized in one major African agricultural finance policy paper.

Moving beyond Kampala it is expected that these guidelines will jointly be incorporated by the AUC and NPCA as part of the CAADP investment plans, used by the G20 and taken up by African governments and development partners on the continent.

The African Union Commission and NEPAD

So far half of the African Union member states have signed the CAADP Compact, nineteen CAADP national agriculture and food security investment plans have been developed and the first ones are in the process of implementation.

In order to keep the momentum of this new development in the history of African Agriculture and to strengthen the implementation at country level, the mobilization of private sector financing and public-private partnerships, in addition to resources coming from public resources, multilateral and bilateral agencies as well as international foundations, is needed.

Agricultural Finance within the G20

Parallel to this African initiative, agricultural finance enjoys a top position within the G20 development agenda and there is substantial room for collaboration. Financial inclusion spearheads the G20 Seoul Development Action Plan and France, as current G20 chair, is focusing on food security. Agricultural finance is thus on the G20 development agenda, as well. Germany chairs the G20 Subgroup on Agricultural Finance, with the goal of defining key policy guidelines, leading up to the French G20 summit in Cannes, in November 2011. Germany has expressed particular interest in collaborating with the Africa-wide Task Force on Agricultural Finance

The African Voice within the G20

The Africa-wide Task Force on Agricultural Finance has established a clear linkage to the G20 Subgroup on Agricultural SME Finance. G20 representatives will be present at the MFW4A Conference in June and the Kampala Declaration will be a major input for the G20 policy paper on Agricultural Finance. Susanne Dorasil, representing the German chair of the G20 stream on agricultural finance says: “We welcome the African initiative on Agricultural finance and we will work together with our African partners to make sure that the Kampala results will be adequately reflected in the G20 policy paper”. Through this collaboration, the Task Force has gained the power to reach out beyond Africa and to represent the voice of Africa within the international discussion on agricultural finance.

Robin Hofmeister works for GIZ’s programmes “Promoting Financial Sector Dialogue in Africa: "Making Finance Work for Africa" and “Sustainable Economic Development in Nigeria”. Within the former program he is leading the research activities and the policy dialogue in the field of agricultural finance. Robin has been studying at the Universities of Münster and Stellenbosch, where he received his MSc in Business Management.

The article was co-authored by Achim Deuchert. He works at the GIZ headquarter in Germany as an advisor to the German Development Ministry (BMZ), and has formerly worked within the GIZ team to support MFW4A. He is involved in bringing together the strands of agricultural finance within MFW4A and the G20 subgroup on SME finance.


What do renowned economists, financial sector practitioners, academics, and activists think about current issues of financial sector development in Africa? Find out on the blog - and share your point of view with us!


Capital requirement, bank competition and stability in...Jacob Oduor, Principal Research Economist, African Development Bank
"I've got your back" - the role of mutualitées in the DRCJaco Weideman, Research Associate & Renée Hunter, Research Analyst - CENFRI
To the Future and Back: Financial Inclusion in the Arab...Nadine Chehade, Financial Inclusion Specialist, CGAP