Mobilization of Savings through Increased Monetization of African .ppt
Document Sample
Mobilization of Savings through
Increased Monetization of
African Economies
by
Jean K. Thisen
ESPD – UNECA
1
Contents
I. Introduction: An Overview
II. Financial Intermediaries and Degree of
Monetization in Africa
III. Increasing Monetization through Bank
Credit Creation
IV Applications to the Poor: Micro-Finance
V. Framework of Monetization and Savings Link
VI. Monetary, Fiscal and Exchange Rate
Policy
VII Conclusion
2
I. Introduction: An Overview
SSA Africa’s savings rates vary widely
between countries, but remain comparatively
low averaging around 15 per cent of GDP
during the 1990s. This is not commensurable
with the investment needs of 25 per cent of
GDP required to reduce the poverty by 2015
One way to increase the new opportunities
and incentives for poor households and
business firms to save a greater part of their
income for the future in the forms of financial
assets is to increase the monetization of the
African economies through bank credit.
3
II. Financial Intermediation and Degree of
Monetization
Banking institutions. The African banking
intermediary is weak and underdeveloped
and is characterized as “shallow, narrow,
and undiversified.” (Ayeerty, 1994) Table 1
in Annex I and figure 1 show that the
average ratio of M2 to GDP has remained
constantly at the rate of 27.3 per cent for
Africa as a whole, against 40 per cent for
East Asia, 50 per cent for South Asia, 67 per
cent for Latin America, 87 per cent for
Europe and 91 per cent for North America.
4
Table 1: Comparison of the Level of Savings and (Percent)
Monetization
1980 1990 2000 2002
Region S/Y M2/Y S/Y M2/Y S/Y M2/Y S/Y M2/
Y
Sub- 20.8 30.8 14.1 32.9 13.9 35.3 15.9 37.9
Saharan
Africa
East 30.8 28.8 34.1 59.2 33.0 122.3 37.9 129.8
Asia
South
Asia 15.8 31.8 19.4 37.9 21.8 49.3 25.8 55.8
Latin 20.0 19.2 18.9 15.8 17.4 27.6 18.9 34.7
America
Middle 37.8 34.4 23.4 55.6 28.5 54.4 34.7 58.7
East
Source: World Bank: CD ROM 2003: World Economic Indicators 5
Low deposits may also be due to low rate of returns
on savings with financial institutions. The average
rate of returns or the average deposit rates offered by
financial institutions range between 12 and 18 per
cent while the average rate of return on commercial
banks time deposits was 6-8 per cent. The financial
institutions are also to blame that they did not create
savings culture in the continent commensurable with
its huge investment needs. Traditional culture of
large extended family reduces the incentive of
households to save. Likewise the huge capital flight
that occurred after CFA devaluation has severely
curtailed the saving deposits in the financial
institutions. The financial systems with slow speed
of business transactions and a low level of
intermediations will not be able to attract substantial
savings into institutions so as to allow them to
provide substantial loans to the private sector.
6
FIGURE 1:
Comparison of the Level of Savings and Monetization
(Percent)
8
7
6 Series5
Series4
5
Series3
4
Series2
3 Series1
2
1
0 20 40 60 80 100 120 140
Series 1: Sub-Saharan Africa (Bleu); Series 2: East Asia
(Red); Series 3:South A sia (Yellow); Series 4:
Latin America (Green); and Series 5: Middle East (Black).
7
The financial services to low income households and
entrepreneurs in the remote urban and rural areas
may be the most effective way to increase
monetization and savings and reduce poverty and
achieve broad-based economic growth. Yet in Africa
fewer than 2 per cent of low income producers have
access to financial services from the moneylenders.
Therefore, financial intermediaries need to adopt
new paradigms and take on new and aggressive roles
in building financial infrastructure that serves the
majority of people and enable the poor to share
economic growth. For example, if 10 per cent of all
low income entrepreneurs are to be served by
financial institutions by the year 2005 and 30 per cent
by the year 2025, the total amount of portfolios in
micro-loans will need to increase from US$2,5 billion
to about m, US$12.5 billion by 2005 and about US$90
billion by 2025, servicing about 180 million of low
income entrepreneurs. 8
The financial services to low income households and
entrepreneurs in the remote urban and rural areas
may be the most effective way to increase
monetization and savings and reduce poverty and
achieve broad-based economic growth. Yet in Africa
fewer than 2 per cent of low income producers have
access to financial services from the moneylenders.
Therefore, financial intermediaries need to adopt
new paradigms and take on new and aggressive roles
in building financial infrastructure that serves the
majority of people and enable the poor to share
economic growth.
9
For example, if 10 per cent of all low income
entrepreneurs are to be served by financial
institutions by the year 2005 and 30 per cent
by the year 2025, the total amount of
portfolios in micro-loans will need to
increase from US$2,5 billion to about m,
US$12.5 billion by 2005 and about US$90
billion by 2025, servicing about 180 million
of low income entrepreneurs. The main
challenges of this increase in lending levels
will be in expanding the capacity and
resources of those retail intermediaries
committed to providing financial services to
low income entrepreneurs.[1]
10
The underdevelopment of African Banks is rooted
in historical failure of indigenous privately owned
banks to emerge in most African countries.
Commercial banks were initially created in colonies
to finance the export of the raw material proceeds
(cotton, coffee, tea, cocoa, etc) back to Metropolis.
The legacy of colonialism has largely developed the
current state of financial infrastructure in Africa. In
post-independence period, many governments tried
to remedy to this situation by nationalizing the
commercial banks. (Like the case in Tanzania,
Guinea, Ethiopia, etc.). The State owned a majority
stake in more than half of the banks in Africa. But
the State did rather liit the credit allocation to the
private sector for sectoral development.
11
12
Usually, some governments are not ideal credit
instruments. State banks were not interested in
granting credit neither to the poor urban classes nor
to the rural sectors, as these were not more often
able to provide collateral guarantee. Small
stakeholders continued to be served by the
informal sector or the non-government
organizations (NGOs). Central Banks could
increase lending by the banks by reducing the
statutory reserve requirements. But their
independence to do so is scrutinized by the
government.
13
Small stakeholders continued to be served by the informal
sector or the non-government organizations (NGOs). Central
Banks could increase lending by the banks by reducing the
statutory reserve requirements. But their independence to do
so is scrutinized by the government. Deposit
mobilization is one of the most effective means for
intermediaries to mobilize resources. Savings
mobilization makes financial institutions
accountable to local shareholders. Thus all financial
intermediaries should be encouraged to build
savings mobilization arrangements for their clients,
either by providing these services directly or by
making arrangements with non-governmental
institutions (NGOs). Banking regulations need to
be adapted to encourage those micro-financing
institutions with the capacities to legally mobilize
savings from clients or the general public.
14
Financial markets with the aim to attracting more
private financial resources to complement public
funds have emerged. Hence, in addition to the
banking systems, a number of initiatives were
undertaken to assist the African countries enhance
their capacity in financial intermediation and
development of bonds, stock, and money markets.
15
III. Increasing Monetization through Bank Credit
Creation
The establishment and extension of banking systems
can create new opportunities and incentives for
households and firms to save part of their income for
the future. The extension of a bank network can have
an effecting attracting new money into system. It is
not a level playing field when industry in developing
countries operates at lower cost, not because of
cheaper labour, but because it can get access to
finance, the lifeblood of the economy, at low (2-3%)
interest rates
16
College economics textbooks provide descriptions of money
creation by the banking system via the "money multiplier"
mechanism, and even of "fractional reserve deposit expansion.”
It states unequivocally that the commercial banks create more
than 90 per cent of M2 or M3. Credit that can be accessed by
credit card, overdraft check or bank loan represents nothing
more than a bank's promise to pay.
Exactly this can be done for African bankers by increasing
savings mobilization through increased monetization; that is,
through creation of bank credit that increases deposits for
households and business community while respecting the anti-
inflation rules. - Money must chest the production of goods and
services - that is, the volume of money credits created and put in
circulation should correspond to the volume of goods and
services in the economy or the velocity of money should be
stable or declining.
17
Africa did not lack industrial capacity, fertile
farmland, or skilled, industrious, and willing
workers, residing in both the city and countryside.
Already, extensive systems of reasonably efficient
transport and communications are in place in some
countries. There remained plenty of development
work to be done in Africa. The one thing that
industry and commerce lacked was a sufficient
supply of money. Bankers, who were the only source
of new money credit, deliberately refused loans to
industry, commerce, and agriculture.
18
Several African countries approved the Micro-finance
Development Strategy to expand financial services to the poor
and low-income households and their micro-enterprises.
Despite the high level of the domestic banking penetration,
the banks in Africa find it difficult to render full banking
services to the remote areas of urban and rural sectors The
range of micro-financial services, which enable cash flow
smoothening for poor, should be wide enough to cater for
short, medium and long-term needs, and they must be
delivered in ways, which are: convenient, appropriate and
accessible, safe and affordable. Providing poor people with
effective financial services helps them deal with vulnerability
and thereby helps reduce poverty. The relationship between
poverty and access to financial services is driven by complex
livelihood imperatives and is not simple.
19
“Banking with the Poor”[1] is an attempt to
explore, demonstrate and publicize the scope for
increase access to credit for the poor on a sound
commercial basis through increased monetization
of African economies. Banks need to study how to
target their credit to the poor, how to reduce the
transaction costs on the very small loans to the
poor, how to find substitutes for collateral on such
loans, and whether the poor can pay market rate of
interest to enable loan schemes to recover their
costs.
[1] G.B. Thapa, Jennifer Chalmers,K.W. Taylor and
John Conroy [1992], Banking with the Poor ,
http://www.bwtp.org/publications/pub/bwtp.html.
20
In Europe and Asian countries, the banking sector
has led in providing both short-term and long-term
credit to the private sector for growth and poverty
alleviation
Some Success Stories from History:
the Saracen Empire forbade interest on money
1,000 years ago to its poor population and at that
time its wealth outshone even Saxon Europe;
Mandarin China issued its own money, interest and
debt free, and historians and collectors of art today
consider those centuries to be China's time of
greatest wealth, culture, and peace;
Germany financed its entire government and war
operation from 1935 to 1945 without gold and
without debt,
21
American colonies issued debt-free and
interest-free money as colonial script in the
1700's and their wealth soon rivaled that of
England, provoking restrictions from
Parliament, which in turn led to the
Revolutionary War. The basic cause of the
revolt of the American colonies against the
British Government was the fact that the
colonists were creating their own money
and enjoying comparative prosperity
compared with conditions in Britain.
American Banks printed 400 million dollars
worth of interest and debt free Greenbacks
in 1863 to successfully finance the Civil
War, only after being asked to pay 24% to
36% interest by the banks. 22
V. Framework of Monetization and Savings
Link
A simple model is used to find out the effect of
monetization on savings applying the following
simultaneous equations:
(1) S/Y = ao + a1M2/Y a1 > 0
(2a) M2/Y = bo + b1Y + b2r or b1>0 b2>0
(2b) M2/Y = co + c1Y + c2 Π Π>0
(3) Y = C + If + (X – M)
23
– Table 2
Adj SD F- N
R2. Test
Savings = -1.43 + 0.33 M2/Y 0.026 75. 13.9 316
S/Y (-.46) (3..7)* 8
Monetization = 29.1 + 0.22 Y + 0.26 R 0.262 98. 57.4 320
M2/Y (29.2)* (9.8)* (3.0)* 1
Monetization = 30.8 + 0.22Y - 0.09 Π 0.257 0.34 320
M2/Y (27.4) (9.6) (-4.3)
Data Source: WDI CD
ROM, 2004.
*t significant at 5 24
per cent
VI. Monetary, Fiscal, and Exchange
Rate Policy
(a) Monetary Policy. In several African countries,
there is a limited room for an independent
monetary policy to expand money supply for
development purposes, particularly in the currency
zone countries (i.e. CFA zone). The credit policy
was primarily designed to maintaining an
appropriate level of foreign reserves. The main
policy instruments used were: National and bank-
by-bank credit targets; a ceiling on access to central
bank financing to maintain aggregate demand at all
level consistent with balance of payments and
domestic growth objectives; a rediscount rate; the
inter-bank money markets, and a liquidity ratio.
25
Other monetary policy instruments for the poor:
1. Government Issuing Debt Free Credit
2. Nationalizing private Banks to create “People
Banks” so that poor people will share bank
profits:
3. Islamic Banking: Use of paper money is illegal
according to Islamic law; so another Islamic
initiative is a return to the use of coins made of
precious metal.
4. Income Velocity of Money. The role of income
velocity of money in monetary expansion is
crucial, because the capacity of financial
institutions to issue money to finance
development (without fear of inflation) is greater
when velocity is falling than when it is constant
or rising 26
(b) Fiscal Policy. Many African
countries have continued to make
gradual progress in public financial
management reform via the adoption
and improved implementation of
medium-term fiscal frameworks to
improve fiscal accountability and
transparency. This has allowed the
linkage between fiscal resources and
development and poverty reduction
goals to be strengthened.
27
Tobin proposed a currency transactions tax to
combat financial volatility. The potential of the
currency transactions tax as a generator of revenue
for development is well known and it is referred to
as “Tobin Tax”. It can be raised to as high as 0.25
per cent on a transaction to discourage excess
currency speculation. The issue is around the
technical feasibility of this currency transactions tax
as the financial markets are continuously
developing, with new financial instruments being
devised. The market structure is evolving with
technological progress and in response to
competitive pressures and regulation. Even at low
rates of, say, 0.01 or 0.02 per cent, the tax may shift
financial activity and encourage banking
consolidation.
28
Tobin proposed a currency transactions tax to
combat financial volatility. The potential of the
currency transactions tax as a generator of revenue
for development is well known and it is referred to
as “Tobin Tax”. It can be raised to as high as 0.25
per cent on a transaction to discourage excess
currency speculation. The issue is around the
technical feasibility of this currency transactions tax
as the financial markets are continuously
developing, with new financial instruments being
devised. The market structure is evolving with
technological progress and in response to
competitive pressures and regulation. Even at low
rates of, say, 0.01 or 0.02 per cent, the tax may shift
financial activity and encourage banking
consolidation.
29
(c) Exchange Rate Policy
With regard credit expansion, both monetary and
exchange rate policy play an important role, having
as objective price stability and low rate of inflation,
in addition to preventing financial crises and
ensuring sustained growth and full employment.
For exchange rate policy, countries are concerned
with stable real exchange that is the relative price of
tradable with respect to no tradable goods. The
value of money depend on the interaction between
supply and demand, but money supply (increase in
money credit) can easily changed by policy which
itself depend on convention and institutions, on
what people expect about institutional policy
credibility (e.g. independence of the Central Bank
to create money credit).
30
VII Conclusion
But in developing countries, particularly in Africa,
the role of financial systems should strive non-
only on the routine banking services like in
developed countries, but rather they should play a
more active and aggressive role in fighting against
the underdevelopment and the promotion of
poverty reduction. Since the level of saving in
Africa is low for any meaningful and
transformational investment, the alternative
weapon they may have among others is through
increased monetization or credit creation.
31
If Sub-Saharan African Africa is to achieve the goal of reduction of
poverty by 2015, it should strive to grow by 7 per cent per
annum, as spelled out in the various UN programme objectives
(MDGs, Copenhagen Social Summit, LDCs, etc.). ECA
calculated the baseline resource requirements to achieve this
growth, which is 63.9 per cent of GDP for the investment rate
each year during the baseline period 1999-2000. Considering the
fact that domestic savings can only finance 17.1 per cent of it,
the remaining resource gap to be financed by external resources
would be 46.8 per cent. However, on the base of historical
trends the external resources combined (ODA, FDI, Bond issues,
and equity portfolio) will only contribute 20.5 per cent. How to
finance the remaining gap? The financial intermediaries can
intervene to finance it through bank credit. With external aid,
the bank credit would amount to 26.3 per cent of GDP, and
without external finance, the bank credit will finance the whole
resource gap amounting to 46.8 per cent of GDP (See Annex 1
Table A1).
32
ANNEX A
Table A1: SSA Resource Requirements to Reduce Poverty by a Half in 2015
Baseline: 2000-2005 2006- 2011-
SSA GDP Growth Rate: 1999- 2010 2015
7 per cent per annium 2000
SSA ICOR 9.0 6.7 4.4 2.9
Investment Rate 63.3 51.7 33.9 22.0
Savings Rate 17.1 19.6 23.9 29.1
External Finance Rate 46.8 32.1 10.0 -7.1
Gap Financing:
Net ODA Rate 6.1 6.0 6.5 6.8
FDI 0.5 0.8 1.5 2.0
Portfolio Equity 1.4 1.6 1.8 1.9
Bond Issues 1.2 1.1 0.9 1.8
Financing Overall Gap
Bank Credit with External 37.6 22.6 -1.2 -8.2
Aid
Bank Credit without 46.8 32.1 10.0 -7.1
External Aid
Source: UNECA, Economic Report on Africa 1999; Our own Projections: J.K. Thisen,
33
“Hypothesis of BankCredit Spiral” Unpublished paper.
