During the 1980s and early 1990s, many African countries undertook reforms to deepen their financial sectors. Nevertheless, financial sectors in African countries remain among the shallowest in the world. Within Africa, financial depth in the CFA franc zone is even more limited. Why? Dhaneshwar Ghura, Kangni Kpodar and I examine this question.
Financial institutions operate with incomplete information. Entrepreneurs seeking financing have more information about their projects than their banks. Projects that differ in their probability of success are indistinguishable from the viewpoint of a financial institution. Banks have to gather information, or require collateral, to grant loans only to the most promising projects. In this setting, governance, property rights, or creditor information could play a major role.
Looking at a sample of 40 countries between 1992 and 2006, we find that the gap in financial development between the CFA franc zone countries and the rest of Africa can be explained by differences in institutional quality (e.g., availability of credit information, and strength and enforcement of property rights), variables that policy makers can influence.
While financial liberalization and macroeconomic stability are necessary conditions for financial deepening, they are not sufficient.
What can CFA countries do?
They can expand creditor information and strengthen creditor rights. These, however, involve complex processes. The coverage of existing credit bureaus should be extended and include as much information as possible on the repayment profile of customers.
This must be achieved while preserving an appropriate degree of privacy and safeguarding sensitive information.
Strengthening creditor rights would require changes in legislation governing debt collection and collateral. Legislation on debt recovery would depend in turn on efficient property registration and land surveying in both cities and countryside. Finally, reform of the courts is vital for improving enforcement.