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Expanding Financial Services in Africa: Exploiting new opportunities with a sense of realism

Thorsten Beck's picture

Editor’s Note: This is the second in a series of posts that preview the findings of the forthcoming Financing Africa: Through the Crisis and Beyond regional flagship report, a comprehensive review documenting current and new trends in Africa’s financial sectors and taking into account Africa’s many different experiences. The report was prepared by the African Development Bank, the German International Cooperation (GIZ) and the World Bank. In this post, the authors focus on the challenges and opportunities for expanding access to finance in Africa, a central issue for Africa’s financial sector development.

Traditionally, we have observed low access levels by households and enterprises across the African continent. Sadly, these low access levels persist. Less than one in five households have a formal bank account (Table 1) and, on average, only 23 percent of enterprises have loans or lines of credit, while the corresponding share among enterprises in non-African developing countries is 46 percent (Figure 1).

Is Infrastructure Capital Productive?

From a theoretical and empirical standpoint, the contribution of infrastructure capital to aggregate productivity and output has been extensively researched. Public capital has been modeled as an additional input in Ramsey-type exogenous growth models and in endogenous models as well. On the empirical front, the literature has witnessed a proliferation of research over the last 20 years following Aschauer’s (1989) seminal paper on the effects of public infrastructure capital on US total factor productivity. His finding of excessively high returns to infrastructure, however, has not held up. Subsequent research using a large variety of data and more robust econometric techniques has yielded widely contrasting empirical results. For instance, Bom and Ligthart (2008) find that estimates of the output elasticity of public capital range from -0.175 to +0.917 in a wide set of empirical research for industrial countries.

Financing Africa: Through the Crisis and Beyond

Thorsten Beck's picture

In mid-September, the African Development Bank, the German Federal Ministry for Economic Cooperation and Development and the World Bank will launch Financing Africa: Through the Crisis and Beyond , a comprehensive review documenting current and new trends in Africa’s financial sector and taking into account Africa’s many different experiences. During the coming weeks and leading up to the formal launch of the book in Ethiopia on September 15, we will give a sneak peek of the book’s main findings and recommendations. In this first post, we’ll summarize our main messages.

Bank Competition and Stability: Cross-Country Heterogeneity

Thorsten Beck's picture

In a recent Economist debate, Franklin Allen and I discussed the relationship between competition and stability. In the debate I argued that it is not so much the degree of competition in the banking market but rather bank regulation and supervision that drives bank fragility. In a recent paper with Olivier de Jonghe and Glenn Schepens, we now combine these two areas and test whether the regulatory and supervisory framework influences the competition-stability relationship. And we indeed find several dimensions of the market, regulatory and institutional framework that influences the degree to which competition harms or helps bank fragility.

But let us first review what theory tells us about the competition-stability link, and then examine how this relationship might vary with certain country features.

When Credit is More Than Just Financing: The Case of Trade Credit Contracts

Leora Klapper's picture

As most manufacturers around the world can attest, trade credit is an important source of external financing for firms of all sizes. Suppliers—some of whom may be small or credit constrained—generally offer working capital financing to their buyers, reported as accounts receivables (e.g. McMillan and Woodruff, 1999). Research has also demonstrated that trade credit can act as a substitute for bank credit during periods of monetary tightening or financial crisis (see, for example, Love et al., 2007).

Trade credit, however, is not used for financing purposes alone. Trade credit, it has been argued, is a way for a supplier to engage in price discrimination, giving favored or more powerful clients longer terms (see, for example, Giannetti, Burkart, and Ellingsen, 2011). Furthermore, trade credit may simply be customary in an industry, with this particular custom driven by economic rationales such as allowing buyers time to assess the quality of the supplied goods (Lee and Stowe, 1993).

How a Mere Fingerprint Can Boost Loan Repayment Threefold

Xavier Gine's picture

If I told you that people respond to incentives you’d probably think I’m stating the obvious. But if I told you that a simple intervention raised the repayment rate among risky borrowers by more than threefold, you’d perhaps be more surprised.

Malawi—like many other Sub-Saharan African countries—suffers from limited access to formal credit, especially in rural areas. Part of the problem is that the typical microfinance loan is not well suited for agriculture. For example, lenders cannot schedule frequent repayments because farmers receive cash flows only after the harvest, several months after the loan is taken. Similarly, all farmers need cash at the same time to purchase inputs, so allowing some farmers to borrow only after others have repaid their loans would mean that some farmers would end up receiving credit when they do not need it.

Which Households Use Banks? And Does Bank Privatization Make a Difference?

Thorsten Beck's picture

Access to banking services is viewed as a key determinant of economic well-being for households, especially in low-income countries. Savings and credit products make it easier for households to align income and expenditure patterns across time, to insure themselves against income and expenditure shocks, as well as to undertake investments in human or physical capital. Up to now, however, there is little cross-country evidence which documents how the use of financial services differs across households and, in particular, how cross-country variation in the structure of the financial sector affects the types of households which are banked. In a recent paper with Martin Brown, we use survey data from 28 transition economies and Turkey to:

  1. document the use of formal banking services (bank accounts, bank cards and mortgages) across these 29 countries in 2006 and 2010,
  2. relate this use to an array of household characteristics,
  3. gauge the relationship between changes in bank ownership and the financial infrastructure (deposit insurance and creditor protection) over time within a country and changes in the use of banking services, and
  4. assess how cross-country variation in bank ownership structures, deposit insurance and creditor protection affect the composition of the banked population.
     

Unexploited Gains from International Diversification: Patterns of Portfolio Holdings around the World

Sergio Schmukler's picture

The increase in global financial integration over the last twenty years has been remarkable, and U.S. institutional investors have been significant participants in this growth. Given standard economic theory, one would expect to see greater international diversification accompanying the expansion of global investment opportunities. To date, however, evidence on how investors actually allocate their portfolios around the world and what determines it is still limited.

In a joint paper with Roberto Rigobon, we aim to fill the gap in the literature by constructing a unique micro dataset of asset-level portfolios for a group of important institutional investors, namely US mutual funds with international investments. To shed light on the drivers of globalization and investment across countries, we explore the structure of mutual fund families. We make within-family comparisons of the behavior of “specialized funds,” which can invest only in certain countries or regions, and “global funds,” which can invest anywhere in the world and thus have access to a larger set of instruments (more firms from more countries).

Reducing the Infant Mortality of African Exports: The role of information spillovers and network effects

Leonardo Iacovone's picture

Helping African exporters survive in international markets should be a high-priority item on the agenda of development agencies. African exports suffer from high “infant mortality” compared to other regions of the world: Figure 1 shows that the life expectancy of export spells originating from sub-Saharan Africa is about two years (half the level for East Asia and the Pacific), with a median—not shown—around one year. That is, half of the continent’s exporters don’t make it past the first year. Such “hit-and-runs” on international markets cannot establish networks, relationships, and credibility.

Figure 1: Average Spell Survival, by exporting region

Source: Author's calculations, from COMTRADE data

Optimal Financial Structures for Development? Some New Results

Asli Demirgüç-Kunt's picture

One of the interesting debates in the finance and development literature is on financial structures: does the mix of institutions and markets that make up the financial system have any impact on the development process? Last week we hosted an interesting conference on the topic at the World Bank (click here for the agenda and papers). Those of you who have been following this literature will know this is not the first time this topic has been discussed – we held a conference on financial structures over ten years ago.

What do financial structures look like? How do they evolve with economic development? What are the determinants and impact of financial structures? Years ago Ross Levine and I, along with many others, tried to answer these questions and saw clear patterns in the data. One stylized fact: Financial systems become more complex as countries become richer with both banks and markets getting larger, more active, and more efficient. But comparatively speaking, the structure becomes more market-based in higher-income countries. We also saw that countries did not get to B from A in a single, identical path. You didn’t have any market-based financial structures in the lowest-income countries, but as soon as you got to lower-middle income, financial structures became very diverse: Costa Rica was bank-based, whereas Jamaica was much more market-based; Jordan was bank-based, Turkey was market-based etc. etc. So countries were all over the place and the correlation between GDP per capita and financial structure was less than 30 percent.

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