This paper examines the possible implications for the financial systems of low-income African economies and in particular Tanzania of their stated aspiration to achieve middle-income status. In doing so it finds little evidence that the mere increase of gross domestic product per capita will lead necessarily to financial systems that are larger, deeper, or more inclusive.

Introduction

Several African countries including Tanzania have defined ‘visions’ for their medium term economic futures in which they anticipate achieving ‘middle-income status’ by, for example 2025 or 2030. The paper sets out to establish what this transition may mean for the financial sectors of those economies in terms of both the size of those sectors but also for the broadened range of assets and financial services that these sectors may offer once middle-income status is achieved.

These implications have already been spelled out ex ante in some of the African Vision statements with which we are familiar. For example, in the Kenyan case, the financial services sector is seen as one of six key sectors for the achievement of the country’s vision. Specific policy aims for the sector include: the transformation of the banking sector with fewer but larger banks; the development of a comprehensive model for pension reform; development of a comprehensive strategy for (international) remittances; formulation of a new policy for the issuing of benchmark sovereign bonds; and the implementation of institutional and legal reforms to help Kenya become a regional financial centre. This paper seeks to set such aims into a somewhat broader context and then use this to comment on the likely shape of African financial systems when and if middle-income status is achieved.

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Box 1: Middle-income status

Middle-income status is a big and also a somewhat ambiguous target. At present – 2014 data (World Bank 2016) – the average per capita income (GNI) in all low-income countries globally is US$630 per annum. In Sub-Saharan Africa (SSA) where some countries such as South Africa, Mauritius, and Namibia are already middle-income, the average income is higher at US$1,650 per annum. But this is still equivalent to only 35 per cent of the corresponding average income in all middle-income countries globally: currently US$4,700. For the lower-income countries of SSA such as Kenya, Tanzania, Uganda, and Rwanda where per capita incomes are currently between US$600 and US$1,300, even 7 per cent growth for the next 16 years (2014 to 2030) would still leave many of them below an income level of US$2,000 and so well below the global middle-income average of US$4,700. What this means for the lower-income countries is that their 2030-type visions must in practice refer to attaining and slightly surpassing the present status of lower-middle-income economies where the present global average income is just over US$2,000 per annum. For these countries the relevant middleincome comparator countries of today (in income terms) are countries such as India (current income US$1,600), Sri Lanka (US$3,400), Bhutan (US$2,300), Bolivia (US$2,900), and not the majority of middleincome countries of Latin America such as Brazil (average income US$11,800) and Mexico (US$10,000), or the majority of the countries of East Asia such as Thailand (US$5,800) and Malaysia (US$11,100). The paper reflects that reality in the comparisons that it draws.

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The task of anticipating the future shape of African financial systems needs to be undertaken against the background of the significant changes that many of these systems have seen during the past two decades. Hence, the paper begins in Section 2 with a brief résumé of some of the main features of that past record. Section 3 then provides a definition of financial sector development and uses it to provide some simple statistical comparisons as between today’s financial systems in low-income Africa and in a selection of middle-income countries in Asia and Latin America. In essence the question posed is – are the financial systems of middle-income countries systematically different/better? Section 4 examines and seeks to account for some of the differences seen in our selective comparisons by reference to some recent econometric and theoretical literature about the multiple influences on financial sector development. Section 5 selectively relates the analytical evidence to the current Tanzanian situation. Section 6 examines two particular opportunities that are also potential dangers. Section 7 offers a few main conclusions.

Africa – the recent past

Financial systems in Africa have undergone significant changes in the past 15-20 years. In the 1970s and 1980s most such systems were dominated by government-owned banks which themselves had been set up in response to the much criticized colonial banking systems of earlier periods. But the experiments with state-controlled banking had led to many difficulties that were progressively resolved – not least by widespread re-privatization – during the 1980s and 1990s. This has resulted in a situation where many African countries now see an ownership structure for banking dominated by foreign banks – initially mainly European but now increasingly African – with a far lower incidence than previously of state-owned banks. This privatizing reform was accompanied by a general move to more liberal policy approaches to banking and financial activity. In many countries this included the abandonment of restrictive regulations – including administrative controls on interest rates and the use of sector-based or other directed credits. At the same time, regulatory standards have become much improved with most African countries moving towards higher levels of compliance with Basel core standards for banking regulation and supervision, and the parallel standards for capital markets and insurance.

African banks and other financial institutions have also been quick to adopt and adapt new technologies and especially those relating to mobile phone payment and agency banking. Both mainstream banks and more specialized access institutions such as those engaged in micro finance have together achieved major improvements in the numbers of people having reasonable access to financial services. Part of this has been due to institutional changes that have seen a considerable expansion in, for example, the number and range of activities of Micro Finance Institutions (MFIs) – borrower numbers served by African MFIs increased from 1.6 million in 2003 to 8.5 million by 2009.

Certainly there has been a sea change in attitudes towards financial access and inclusion and numerous important policy initiatives have been designed to improve this. Finally, some opening up of traditionally closed national borders combined with the broader globalizing tendencies of this period have seen several African banking systems developing cross-border activities. This too has extended to the region’s stock markets with cross-listing across two or more exchanges becoming increasingly common. A few African countries such as Nigeria and Kenya are seeking to take this one step further by creating international financial centres.

The overall result is that today, most African countries have deeper and more stable financial systems than was the case some 20 years ago. Greater macroeconomic and financial sector stability has in turn given African economies greater and more favourable access to fund-raising on the international capital markets. In relation to the subject of this present paper, it is debatable whether the very significant reforming and deepening changes that we have seen have depended on higher levels of per capita income. Indeed most of the evidence suggests that the much better growth rates of per capita income seen in African economies in recent years are the consequence of the liberal reforms in finance and elsewhere in these economies and not the cause. So when looking ahead, one question that logically arises is whether the future move to middle-income status will lead automatically to further improvements in the financial sectors or whether such improvements will have to be hard fought through further challenging reforms.

Alan R. Roe is non-resident Senior Research Fellow, UNU-WIDER, Helsinki, Finland; Associate Fellow, University of Warwick, Warwick, UK; and Senior Associate, Oxford Policy Management, Oxford, UK. This study has been prepared within the UNU-WIDER project ‘Jobs, poverty and structural change in Africa’ as part of UNU-WIDER’s collaboration with Policy Research for Development (REPOA) on socio-economic transformation.