Africa: Innovative Financing Key to Africa's Private Sector Development

Lockdowns, physical distancing and disruption of normal economic activity around the world have become the norm after the outbreak and spread of Covid-19.

These containment measures have also affected Africa, the world's second-fastest-growing region which cumulatively grew at an estimated 3.4 per cent in 2019. Estimates show that in a best-case scenario, the continent's average growth in 2020 will fall to 1.8 per cent which is a direct economic impact of the pandemic.

The International Monetary Fund (IMF) projects that the continent's average growth will be -4.1 per cent in 2020 with a rebound to 5 per cent in 2021 dependent on the effective implementation of Covid-19 response measures and global economic recovery.

Globally, GDP growth slowed to 2.8 per cent in 2019 from 3.5 per cent in 2018 and projections showing a -4.4 per cent growth in 2020 and then rebound to 5.2 per cent growth in 2021.

According to the UN Economic Commission for Africa (ECA), world trade is expected to fall by between 13 and 32 per cent in 2020, with the services trade the most directly affected component due to the closure of many retail and hospitality enterprises as well as transport and travel restrictions.

The sector had already slowed in 2019, when the value of global merchandise trade fell by 3 per cent to US$18.9 trillion, weighed down by the slower economic growth and by trade tensions. However, global commercial services trade rose 2 per cent to US$6.0 trillion, though the pace of growth was slower than in 2018.

Although a global trade recovery is projected for 2021, the outcome depends on the duration of the Covid-19 outbreak and the effectiveness of policy responses. However, some services, such as information technology, for which demand has increased as people work from home and socialize remotely, may benefit from the crisis.

In 2019, Africa benefited from slight increases in some key primary commodity prices, but as the severity of Covid-19 escalated in early 2020, prices plummeted for more than two-thirds of African exports.

The price of petroleum, which accounts for 40 per cent of African exports and 7.4 per cent of its GDP, crashed by more than 50 per cent to its lowest level since 2003. Metal prices fell 20 per cent from end-December 2019 values, while cotton fell 26 per cent. Tea and coffee prices have declined due to falling demand, particularly for away-from-home consumption in major import markets such as the United States and the European Union/ cocoa prices fell 6 per cent in April 2020 since the start of the year.

For revival, financing is a way of providing solutions to the challenges of private sector funding, hence enabling Africa's private sector to thrive and drive the continent's economic growth and recovery; and, importantly, to increase the private sector's resilience to the effects of the global coronavirus pandemic.

A cash machine. Financing is a way of providing solutions to enable Africa's private sector to thrive and drive the continent's economic growth. [Photo/ SkyscraperCity]ECA's flagship Economic Report on Africa, titled: "Innovative Finance for Private Sector Development in Africa", recommends regulating the banking and financial services sector; creating financial stability through effective policies; amending and updating financial sector legislation and regulatory policies; and promoting innovative private-sector financing.

The report also calls on African nations to embrace the continent's Digital Transformation Strategy and the African Continental Free Trade Area (AfCFTA) to streamline policies and regulation.

With the end of Covid-19 is uncertain, the report calls on African governments to explore the full range of policy measures to stabilize the financial system and enable continued funding of the private sector; increase government capacity; strengthen financial sector resilience, and support all financial innovations that could mitigate the impact of the pandemic on African economies.

Though still small, the African banking sector is one of the fastest-growing and most profitable in the world, making it one of the key sectors propelling economic growth in the continent.

The average return on equity for publicly listed banks is between 11 per cent and 22 per cent in Africa, compared with 14 per cent for emerging market economies and 8 per cent for developed economies in 2019.

Between 2017 and 2022, the African banking sector is projected to grow at 8 per cent a year. The low levels of financial inclusion in Africa mean that there is massive potential for growth if the banking sector can bring financial services to underserved and unserved populations. Expanding inclusion will lead to rising deposits, which banks can lend to retail and corporate customers, enhancing access to housing and assets for retail customers and to financing that can increase capacity for businesses.

As it is, banks are a major source of innovative financing in Africa with most financing mechanisms in Africa bank-based.

Over the past two decades, the banking sector has changed fundamentally in many African economies, and pan-African banks now conduct business in multiple countries. Moreover, significant advances in mobile banking and marketplace lending connect unserved and underserved communities to the financial sector.

The ECA report notes that the retail and corporate banking sector in Africa holds more than 90 per cent of the assets in the financial sector, but it is underdeveloped when benchmarked against emerging market economies in Asia and other industrializing countries.

Its assets represent less than 60 per cent of GDP in Africa, compared with more than 100 per cent of GDP in other emerging and advanced economies. Addressing the huge financing gap for the private sector and infrastructure development will require more innovative financing solutions in the retail and corporate banking sector. Despite an overall increase in banking activities, bank financing to the private sector remains low and ill-tailored to the needs of private firms.

More than 90 per cent of bank loans are short to medium-term, and private sector access to financing is impeded by government dominance of banking credit and difficult access for small and medium enterprises (SMEs) and for key sectors of the economy.

With the rise of pan-African banks due to the financial liberalization policies of the early 1990s, cross-border financial flows are an important component of the African financial landscape.

Deregulation has relaxed entry barriers, paving the way for competition in the banking sector. If domestic banks are not structured properly to compete on pricing, they are likely to face tough competition from new pan-African entrants.

With the establishment of the AfCFTA, ECA notes, African banks will have the opportunity to tap into a continental market of 1.2 billion consumers.

As financial markets open, risks of contagion and the transmission of financial instability increase. Striking a healthy balance between safeguarding the economy and allowing financial institutions to conduct their business will depend on a careful weighing of macro-prudential measures and an arm's length approach to financial service trade transactions.

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