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In Uganda, greater financial inclusion is the key to unlocking rapid growth

Rachel K. Sebudde's picture
Only 16% of the adult population keep their savings at formal deposit taking institutions, including banks, micro finance institutions and savings and credit institutions. Sarah Farhat/World Bank.

Ugandan’s access to financial services has improved dramatically in recent years. More than half of Uganda’s adult population now has access to an account at a formal financial institution. This is almost twice as many as in 2009. The entry and fast penetration of mobile money is the main reason for the increase, having allowed 8 million Ugandans to conduct financial transactions.

This positive development is only one piece of the puzzle, given that a very small proportion of individuals, households, and firms are able to utilize the formal financial system. Only 16% of the adult population keep their savings at formal deposit taking institutions, including banks, micro finance institutions and savings and credit institutions. Up to 60% of adult Ugandans still keep their savings at home and in the form of assets such as animals. Moreover, a much larger share of the population, reaching more than 65%, are unable to access formal financial institutions for credit. This proportion of the population relies on informal sources of finance or their own, their families’, or their friends’. As a result, a significant proportion of the population is unable to increase productivity through investments in better equipment, and too many Ugandans continue to rely on subsistence activities, particularly in the agricultural sector. At a time when the country is aspiring to achieve middle-income status, this is not good news.

The Ugandan economy has slowed down to an average rate of growth of 4.5% in recent years, which is almost half of the rate of growth Uganda recorded during the high growth periods of 1990s and early 2000s. The near term growth projection of about 6% is close to half that required for Uganda to attain middle income status by 2020, and it is subject to a number of uncertainties. The ambitious public investment program meant to stimulate the economy and remove the country’s long standing deficiencies in physical infrastructure, has not yet catalyzed acceleration of private investments. And one cannot help but to draw a parallel between the slow growth of investments and the limited functionality of the financial system.

Across the world, well-functioning financial systems enable financial institutions to provide affordable credit and other financial services to more people. This, in turn, stimulates the growth of existing businesses, and encourages the emergence of new ones. At the household level, it enables individuals and families to better balance their spending and savings, to invest in their children’s education and access good health care, and to accumulate physical and other assets to guard against shocks, such as the drought we have recently experienced. Together or individually, all of these issues play a significant role in the achievement of higher levels of economic growth and shared prosperity.

A major challenge for Uganda’s firms and households is the high cost of financial services. Interest rates typically range between 22 and 25%, and depending on the duration of the loan, consumers can end up paying more than twice the value of the original amount. A more robust credit information system to enable lenders assess borrowers quickly and easily, would be a key element to lower the cost of credit. Another challenges is the low levels of public confidence in formal financial institutions, largely due to historical experiences related to a series of crises and upheavals in the financial system. As a result, many Ugandans prefer to keep their savings in the form of cash stored at home or in the form of livestock, gold or other similar assets. These issues were the focus of the World Bank’s eighth Uganda Economic Update, entitled “Step by step – Let’s solve the finance puzzle to accelerate growth and shared prosperity”.

The update argues that factors constraining the financial system to support growth and shared prosperity are multifaceted. The overarching objective must be to comprehensively strengthen the financial system, particularly as inclusion involves institutions other than the standard deposit taking institutions, financial service users comprising of individuals, households and firms, and durations of finance ranging from short to long term finance. Building public confidence in the financial system to raise savings; adopting more cost effective modes of providing credit; and strengthening comprehensive and up-to-date regulatory and supervision frameworks, are the most important areas. These are key ingredients towards achieving the much needed growth acceleration and shared prosperity.

Uganda has come a long way in putting together the pieces of this financial puzzle. But it will be important that the government maintains and expands the commitment to increasing the level of financial inclusion, if Uganda is to achieve its aspirations of increased growth and shared prosperity. In this regard, the recently developed National Financial Inclusion Strategy, which, if implemented well, could be a significant step towards ensuring that more Ugandans can access a broader range of affordable, high-quality financial services.

In-depth discussion of these issues can be found in the World Bank’s eighth Uganda Economic Update.