Editor’s Note: For this article, East Africa includes Burundi, Ethiopia, Kenya, Rwanda, South Sudan, Sudan, and Tanzania
VENTURES AFRICA – Try trading Ethiopian birr (ETB) for American dollars (USD). You have to call one guy who calls another guy, says Messai, and then suddenly someone is at your door with the dollars you requested. New regulations on how many dollars a local bank can provide a person traveling outside the country has boosted the local informal market for dollars.
Banking in East Africa can be an adventure in all sense of the word. In Tanzania, banking penetration sits just under 20 percent. In a working paper by the World Bank, 47 percent cited distance as a reason for not having an account. The country also ranked near bottom in bank branch penetration, averaging less than 0.5 bank branches per thousand square kilometers. Thus, cash is king in Tanzania is borne more out of convenience than choice.
Similar to the insurance industry in East Africa, the main attraction of the market is that is sizeable and practically untapped. Banking penetration among East Africa’s adult population sits between 11 and 15 percent. Across sub-Saharan Africa as a whole only about a 25 percent of adults have accounts at formal institutions. Oil and gas discoveries in the region underlines the potential for growth. Cities outside the region’s wealthier capitals have seen a good amount of the discoveries and income increases. Yet banks have been slow to capitalize on these trends.
Growth in the banking sector faces challenges. Politics, for example, is a delicate discussion. The recent announcement by Ethiopian Prime Minister Hailemariam Desalegn that liberalizing Ethiopia’s banking sector would benefit ‘only the [foreign] bankers themselves’ stirred concerns among investors surveying the region. You tell your boss that the country will be opening soon, says a representative for a South African bank, but then news comes out like this. It could be politicking, she continues, or someone lying to your face as they do something differently.
It is not statist ideas or liberalist ideas that works best. Growth in the banking sector in Rwanda – a statist oriented economy – and in Kenya – a liberal economy – has paralleled each other. Statists and liberalists alike are open to ideas. But they still need assurance that all parties will benefit. Optimists will suggest this underlines the statist thinking in Ethiopia.
The lack of urbanization in much of East Africa poses the biggest hurdle. In countries, such as Nigeria and Ghana, financial services has grown rapidly, buoyed by urbanization rates north of 50 percent. East Africa on whole sits between 20 and 25 percent urbanization. Technology such as mobile banking helps bridge the gap between dispersed populations and banks. But its growth requires a greater interaction between sides. You can send money to family via mobile payments, says a local Ugandan, but this does not connect to your actual bank account. Bank and mobile operators generally have not been on the same page, leaving banks to consider launching their own mobile banking systems. Standard Chartered Bank in Uganda launched M-banking, a mobile banking system for its customers, in 2008 but only a few commercial banks are starting to follow.
Reaching scattered populations requires more infrastructure than the region currently offers. Bank branches outside the region’s capital cities are virtually non-existent. Ethiopia and Uganda averages less than 0.01 and 0.9 bank branches per thousand square kilometers respectively. South Africa comparatively averages nearly 8.0 branches per thousand square kilometers. Branch and ATM expansion is a start. But the growth will require more than brick and mortar.
Upgrading internal technology and capacity provides the greatest opportunity. In downtown Addis Ababa, your correspondent can often count on two hands or less the restaurants that take credit cards. In Dar es Salaam and Kampala, the list is greater but not that great when you consider which restaurants have reliable networks for using credit cards. The unavailability of card services at local businesses speaks to the regional challenges. Less than two percent have access to credit cards in the region. The growing interest in Africa from Visa and MasterCard provides Africa’s banks with a willing partner. Yet their expansion in East Africa has not been quick enough to meet the emerging demands of local consumers.
The region’s consumers also demand more sophisticated offerings, including mortgage financing, trade financing, and leasing services. Less than one percent have access to mortgage financing. Land ownership laws complicate the matter in Ethiopia but is better confronted and understood in Kenya and Tanzania. A continuing surge in real estate prices will further perplex providers. A more developed banking sector in Mozambique, a country undergoing a similar economic boom, struggles to provide mortgages at levels adequate to match the skyrocketing property costs. Trade financing is also lacking. Many regional banks miss an opportunity to capture this sector with many consumers choosing to facilitate such business offshore.
Leasing services and asset financing befuddle local entrepreneurs and business owners Research shows that most business operators in the region prefer product offerings with low deposit requirements, in the range of 3 to 5 percent as compared to the current 15 to 20 percent, and flexible repayment schedules that are responsive to variations in cash flows. Only a greater capital base can help facilitate greater flexibility. A diversification of savings products would better encourage East Africans to put more cash in the bank rather than under pillow. Yet this boost in cash would not be enough.
Many banks in the region are undercapitalized to meet growing demands. After providing credit for government or government-backed projects, the region’s banking industry is barely meeting minimum capital requirements. Accordingly very little capital is left afterwards for local businesses and consumers. An injection of foreign capital into the region’s banks is the only way to enable an expansion of services.
Bankers are right to fret over returns after seeing the prior years’ performance. But past performance, in this case, is a poor predictor of future performance. The return on average equity (ROAE) slowed in certain countries, such as Tanzania and Uganda, in recent years. For example, Tanzania banking sector saw a ROAE just under 16 percent in 2012 as compared to the near 32 percent in 2007. The country’s banking sector largely suffered during the economic downturn and has struggled to boost its underlying capital to international standards. Services and bank offerings, says a Tanzanian government insider, slowed dramatically as banks tried to balance their accounts. But with growing stability in the economy, he continues, there should be an expansion in services and product offerings which add to sector’s growth.
The ROAE in Ethiopia’s banking sector has largely underperformed in recent years. Opaque data reveals that the sector has seen a similar drop but still hovers around 22 percent for its private banks. Uganda offers a similar ROAE. Experts estimate that ROAE in Uganda and Tanzania could reach the 30-percent plateau in the next five years, provided a realization of oil and gas money and a moderate injection of foreign capital in upgrading local banks. Those same experts also believe that Ethiopia, which requires the greatest infrastructural investment in the banking sector, could see the best growth on returns in the shortest period. The asset financing needs of Ethiopia in agriculture and construction coupled with a large and still growing population make for a huge opportunity, says a Commercial Bank insider, but patience and relationship building is the only way of life at the moment with this government.
The question for investors is less about return potential. Rather it is a question of finding partners in the region who are best networked with local communities and with the government and have the ability to rapidly ramp up technological and human capacity. That is easier said than done.