Transcript Support for the ACE Program

Trade and Investment Project
Overcoming Financial Sector Constraints
to Private Sector Development in Mozambique
Presentation to CTA, Maputo -- 22 February, 2007
Bruce Bolnick
Alistair Tite
Overview and Trends
1
Central issues raised by the
business community
• Access to credit and cost of credit as major
constraints to private sector development
• Restrictive foreign exchange regulations as
impediment to trade
• Absence of banking services in many
regions
• Need to identify practical steps to address
these problems.

But no magic solutions!
2
Starting point :
Principles of Finance
• Core purpose of the financial sector:
Intermediate financial resources and
manage risks
• Paramount importance of sound
banking system
• But sound banks can also be innovative
banks!
• Financial market imperfections
 Supporting role for government
3
Recent trends
• Progress in development of the
financial system
• Rapid growth of lending and deposits
• Interest rates still very high
• High fees
• Financial sector reform programs
4
Credit to the economy (% GDP)
35
30
Expected value and margin of error
Percent
25
20
15.9
15
10
15.5
10.4
5
10.4
12.1
7.6
0
Mozambique
Tanzania
Zambia
LIA Median
LI Median
5
Forex/MT loans & deposits
Foreign Exchange Loans and Deposits
70%
60%
50%
Percent
40%
30%
20%
10%
0%
2002 2002
Q1
Q2
2002 2002 2003 2003 2003
Q3
Q4
Q1
Q2
Q3
2003 2004 2004 2004 2004
Q4
Q1
Q2
Q3
Q4
Ratio of foreign exchange loans to total loans
2005 2005 2005 2005 2006
Q1
Q2
Q3
Q4
Q1
2006 2006
Q2
Q3
Ratio of foreign exchange deposits to total deposits
6
Interest rate trends
Mozambique Nominal Interest Rates
30
25
Percent
20
180 day T-bill rate
180 day lending rate
180 day deposit rate
15
10
5
0
-04
Dec
-05
Mar
05
Jun-
-05
Sep
-05
Dec
-0 6
Mar
06
Jun-
-06
Sep
7
-5
Real 180 day lending rate
20
06
20
06
20
06
20
06
20
05
20
05
20
05
20
05
20
04
20
04
20
04
20
04
20
03
20
03
20
03
20
03
20
02
20
02
20
02
20
02
Q
Q
Q
Q
Q
Q
Q
Q
Q
Q
Q
Q
Q
Q
Q
Q
Q
Q
Q
Q
4
3
2
1
4
3
2
1
4
3
2
1
4
3
2
1
4
3
2
1
Percent
Real interest rates
Real Interest Rates
35
30
25
20
15
10
5
0
-10
Real 180 day deposit rate
8
Access to Banking
Days to process SME loan applications
(number of days)
30
25
Days
20
15
25.8
10
12.0
5
n/a
4.5
4.1
0
Mozambique
Malawi
Uganda
Low-Income SSA
Median
South Africa
Source: World Bank working paper, Banking for Everyone, December 2006
9
Access to Finance
10
View from the banks
• Rapid growth of loan books since 2005.
• Banks actively seeking viable customers
• Leading constraint: high interest rates

Also serious risk factor (“adverse selection”)
• Other major constraints – quality of loan applications






Poorly prepared business plans
Evidence of weak management
Viability of repayment not demonstrated
Lack of creditable financial information
Need for equity contribution
Finally, security for the loan
11
Enhancing creditworthiness
• Traditional route to creditworthiness
• Commitment by businesses to improve
quality of financial information
• Establish CTA credit mentoring system
• Establish new credit bureau with more
comprehensive information
• Use of insurance as credit enhancement

Examine African Trade Insurance network for
export credit insurance
• Pressure government on payment arrears !
12
Creating a Development Bank
• Fundamental issue: access to development finance
for viable productive investment
• Lessons from international experience


Cases of success
Cases of failure
• Implications for Mozambique


Strengths of DFI proposal
But serious structural weakness
• The critical test: Are investors willing to put their
money at stake?

Example: GAPI - Rabobank
13
Access to Term Finance (2)
• Alternative avenues of term financing
 Create
regional DFI
 Promote asset based lending
 Establish “second-tier” bond market
 Provide TA for risk capital deals
• And on the supply side
 Fundamental
pension reform
14
Outreach to new clients
• Old news:

Lower interest rates
 Microfinance
 Suppliers’ credit networks, outgrower schemes
 Temporary, limited credit guarantees as catalyst
for outreach to new markets
• New news: mobile phone banking

Technology to the rescue
 Low cost, broad outreach
 No new legislation needed
15
Legal/judicial foundations for
finance
• Important recent reforms
• Other reforms underway


Pensions, Bankruptcy, Forex Controls. Also
Labor Law.
Need to lobby for appropriate outcomes
• Other work to do, including:


Focus on enforcement of banking laws
Management Assisted Judicial Execution to deal
with key bottleneck in foreclosing collateral
 Clarify role of “correspondentes” as agents
 Legal foundations for small claims court
16
Cost of financial
services
17
Cost of financial services
Key problem: Why are MT interest rates
so high?
• Usual explanations don’t explain gap
between MT and USD interest rates
• Core issue: monetary policy
 Why are T-bill rates?
• Market concentration also likely factor
18
Cost of financial services (2)
• Recommendations
 Expand
access to the primary market for
T-bills
 Reduce reserve requirement, or allow
government securities as reserves
 Support government in maintaining fiscal
discipline!
 Let “crowding out” fade away
19
Other cost issues
• Extremely high interest rates on
microfinance
• Excessive banking fees
• Need for consumer protection laws,
transparency in lending and fees
20
Foreign exchange issues
21
Foreign exchange transactions
• General problem with excessive red
tape
• New forex law in process, but no
information yet on content
• Basic issue of exchange rate risk
 Central
bank exchange rate management
22
Aviso 5/2005
• Justifications:



Systemic risk from unhedged positions – nip it in
the bud!
Monetary management
Effect on exchange rate policy
• Effect
• Recommendations:



50% appears to be too high as risk provision
Broaden the definition of hedged position
Use this to create incentives to develop forward
market
23
Aviso 2/2006 - Situation
• Justification: shaky!

It won’t solve the problem!
 “Fighting against an avalanche”

Perverse incentive to hold money offshore –
 A major lesson from international experience!

Yet sand in the gears of international trade
 costs, delays, contract restrictions

And heavy administrative burden on banks
• In any case, banks are strictly monitored
• And major banks appear to be complying
with current regulation
24
Aviso 2/2006 - Implications
• Also process problem - no prior consultation
• Recommendations

Scrap Aviso 2/2006
 Strictly enforce the existing regime, with serious
penalties for non-compliant bank
 But ease “exceptional” condition for prepayments
 Streamline the role of banks in trade facilitation
 Consider further liberalization of cross-border
payments to reduce incentives for capital flight
25
Conclusions
• Need to identify concrete steps to get
things done!
• Priorities = important problem +
political feasibility + solid analysis
• Analysis points to recommendations for
action in the short run
• And important issues for dialogue to
seed deeper reforms in the longer run
26