Archives for category: Financial Markets

Ernst & Young’s recent “Africa Attractiveness Survey” (pdf) shows that 2012 was a rather disappointing year for foreign direct investment in Africa. But digging more into the data leaves some space for optimism. Some excerpts from the report (click to enlarge):

Ernst & Young "Africa Attractiveness Report"

Ernst & Young “Africa Attractiveness Survey”

 At face value, 2012 was a disappointing year, in that it reversed the year-on-year growth we experienced in 2011, and somewhat dampened our expectations of steady growth in FDI projects. Having said that, we do need to put these trends in perspective:

  • Globally, greenfield projects were down by over 15% year on year in 2012, so the background is one of decline across the board.
  • In this context, Africa’s proportional share of global greenfield projects actually grew, continuing a trend that has seen this share grow, in the course of a decade, from 3.5% of the global total in 2003 to 5.6% in 2012.
  • It is also worth noting that the 764 new greenfield projects this year is still higher than the 678 in 2010, and significantly higher than anything that preceded the peak of 2008.

The geographical origin of FDIs in Africa is experiencing major changes:

Investment from developed markets in particular was disappointing.  Although FDI projects from the UK grew, those from the US and France, the other two leading developed market investors in Africa, were considerably down. In contrast, greenfield investments from emerging markets into Africa grew once again in 2012, continuing the trend of the past three years. In the period since 2007, this category of investment from emerging markets into Africa has grown at a healthy compound rate of over 20.7%, in comparison to investment from developed markets, which has grown at only 8.4%.

Intra-African investment has been particularly impressive over this period since 2007, growing at a 32.5% compound rate. (…) This underlines a broader trend of growing confidence and optimism among Africans themselves about the continent’s progress and future.

Other figures in the report show that -as we’ve often said in this blog- manufacturing in Africa has stagnated over the last decade. However several countries could reach a middle income status by 2025

Source: Ernst & Young

Source: Ernst & Young

Source: Ernst & Young

Source: Ernst & Young


Uhuru and Ruto wrote in the Jubilee Manifesto that they plan to establish a development Bank to “prop up the private players”. Although nobody is talking about it, and although we have no idea if that will happen anytime soon, this could be a huge deal for the future of Kenya. What is a development bank? And is it a good or a bad idea for Kenya?

A traditional definition of a development bank is one which is a national or regional financial institution designed to provide medium-and long-term capital for productive investment, often accompanied by technical assistance, in less-developed areas. Development banks fill a gap left by undeveloped capital markets and the reluctance of commercial banks to offer long-term financing. [full “primer on development banking” here]

We have to keep in mind is that UhuRuto provided no details about how a development bank fits into their grand scheme for economic development in Kenya. For example, we don’t know if the objective is to promote small businesses (like the informal sector or SMEs), whether they want to finance large infrastructural projects, agriculture or large manufacturing industries.  However, the sure thing is that whenever the plan is to increase the government role in the economy, you attract both huge praise and criticism:  that’s the difference between the “industrial policy view” and the “political view”

According to the industrial policy view, development banks do more than just lending to build large infrastructure projects. They also lend to companies that would not undertake projects if it was not for the availability of long-term, subsidized funding of a development bank. Furthermore, development banks may provide firms with capital conditional on operational improvements and performance targets. In such circumstances, we would expect to see the firms who borrow from development banks increasing capital investments and overall profitability after they get a loan.

According to the political view, on the other hand, lending by development banks leads to misallocation of credit for two reasons. First, development banks tend to bailout companies that would otherwise fail (this is the soft-budget constraint hypothesis, e.g. Kornai, 1979). Second, the rent-seeking hypothesis argues that politicians create and maintain state-owned banks not to channel funds to socially efficient uses, but rather to maximize their personal objectives or engage in patronage deals with politically-connected industrialists.

So, whether a development bank is a good idea or not for Kenya entirely depends on your opinion on the current political class: will they be committed-to-development or good-old rent-seekers? For now I want to keep on the optimist side.

A couple of weeks ago I talked about the huge profits made in the banking sector in 2012. The largest Kenyan banks like Equity, Cooperative and CFC have recorded impressive figures, with profits growing up to 58 percent compared to the previous year. Is that normal? And is that good for the economy?

One of the criticisms that people make is that the banking sector squeezes profits out of firms, affecting more or less indirectly investments, job creation and the overall growth of the rest of the economy. Is that true?

Photo credit: Business Daily

What is definitely true is that macroeconomic volatility advantaged Kenyan banks last year. When the Central Bank of Kenya increased its main lending rate by a massive 12 percent in three months, banks were forced to increase interests on loans from an average of 14 percent  to an awfully high 26 percent. Interest rates on deposits however remained untouched at around 5 percent. The huge spread between loans and deposits rates was an important factor behind the growth of bank profits last year.

This prompted consumer associations to ask for government controls on interest rates:

Unless there is some sort of control they will always make abnormal profits at the expense of the economy. We thought they would self-regulate but this seems not to be the case […] All indicators show that they shouldn’t be charging what they are currently charging.

I think that encouraging competition among banks is a better solution than having government controls. Although the Kenyan financial sector is relatively more developed compared to most African countries, the banking sector is still highly concentrated. 6 out 44 banks in Kenya control 56 percent of the market. Plus, the government is still very much involved in the market, having shares in a variety of institutions.

But anyway, if we go beyond the Kenyan specific case we have to realize another important aspect: the financial sector tends to be extremely profitable all over the world. Why? Talking about the US financial sector, the excellent Noah Smith points to two factors: socialization of risk and natural monopoly of the financial market:

Why is finance so profitable? One possibility is socialization of risk: in other words, the government implicitly guarantees that big banks won’t fail, which allows banks to make profit in good times and shift losses onto the taxpayer when things go bad.

… Another possibility is that finance is a natural monopoly. This is weird, since finance has few network effects like Facebook or Google, and doesn’t require exclusive local land access like a public utility. But in economics, any industry where economies of scale are large will gain monopoly power, and hence high profits. And banks may benefit a lot from economies of scale. Why? My intuition says that it’s part of the definition of what a bank is. A bank – or any financial institution that acts like a bank, which is most of them – makes its profits by borrowing short and lending long, and this makes it fundamentally vulnerable to a bank run

Over at NPR Jacob Goldstein develops the issue further:

Even the most boring, safe, neighborhood bank is in a crazy, risky business. A bank takes money people put in checking and savings accounts — money those people are allowed to withdraw at any time — and lends it out to other people, who don’t have to pay it back for 30 years.

Yet most people assume their money is safe in the bank. They assume that somehow, even if a bank takes all the money in its checking accounts and lends it out to people who don’t pay it back, the people with checking accounts will still be able to get their money.

Yesterday The Economist wrote that “Across Africa, banks are expanding. Their returns aren’t”. I don’t have data on returns for 2012, but when it comes to profits, Kenyan banks did incredibly well last year. Check this out:

  1. Kenya Commercial Bank, the largest in East Africa, grew profits by 14% in 2012. Total profits: 17.2 billion shillings ($199 million)
  2. Cooperative Bank, another huge player, rose pretax profit rose by 57% (!!!) to 9.97 billion shillings ($115.53 million). The year before profits were around 6 billion shillings
  3. Equity Bank, which targets the lower income population and has the largest number of customers in Kenya, grew profits by 36% to 17.42 billion shillings ($201.85 million)
  4. CFC Stanbic, Kenya’s 6th largest bank, posted a 64% rise in its pretax profit to 4.59 billion shillings ($53.36 million)
  5. NIC Bank, a medium-sized institution, increased by 25% to 4.5 billion shillings ($51.3 million)
  6. The only negative results I’ve seen was for Kenya’s Housing Finance, which posted a 7% drop in its pretax profit to 907.6 million shillings ($10.36 million)

In case you want more data, here are some more details about the 10 most profitable Kenyan banks in 2011

Return on Assets Return on Equity
Profit before tax Net Assets Return on Assets Shareholders equity Return on equity
1 Kenya Commercial Bank 14,081.87 282,494 4.98% 45,163 31.18%
2 Equity Bank 12,103.51 176,911 6.84% 35,047 34.53%
3 Barclays 12,012.56 167,305 7.18% 29,223 41.11%
4 Standard Chartered Bank 8,250.84 164,182 5.03% 20,571 40.11%
5 Co-operative Bank 6167.77 167,772 3.68% 20,972 29.41%
6 Citibank. 4,801.89 74,646 6.43% 15,112 31.77%
7 I&M Bank 4,457.33 76,903 5.80% 13,856 32.17%
8 NIC Bank 3,360.60 73,581 4.57% 9,900 33.95%
9 Diamond Trust Bank 3,248.47 77,453 4.19% 10,366 31.34%
10 CFC Stanbic Bank 3,128.37 140,087 2.23% 10,150 30.82%

Returns were not so bad after all (source, pdf).  How about the non-financial sector (i.e. the “real” economy)?

Of course I don’t have figures for every publicly listed company in Kenya, so this is not representative of the whole economy. But since I’m on a roll, let me put more links I came across this week.

Next week I’ll write some thoughts on the profitability of the banking sector. I’ll try to address questions like “Why are banks so profitable?” And “at whose expense?” But in the meantime, let’s just hope for a peaceful election.