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Private sector goes into development finance

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Private sector goes into development finance

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Published: December 20 2009
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Financial Times
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The first tentative moves by western banks and fund managers into microfinance are gathering momentum. Most of the big banks have set up divisions that provide financial services to low-income clients in emerging markets, particularly to those who have or wish to set up businesses.
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Many specialist fund managers have also entered the arena in recent years, working with providers on the ground to pool large numbers of small investments.
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The infrastructure involved is burdensome and the returns uncertain, but this does not dim the belief of many in the sector that microfinance will outperform in the future.This belief is bolstered by the fact that many businesses and individuals in emerging economies are still starved of capital. Antoinette Koning, of the European Union’s ACP Microfinance Framework Programme, says a survey by her organisation shows that 2.7bn people worldwide are cut off from formal financial services.
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This is despite international state-sponsored funding increasing year after year. “Our last estimate is that $14.8bn has been provided in total,” says Ms Koning. In 2008 alone, $3bn was dispersed.
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“Donor agencies should be seen as a catalyst to attract more private capital so that permanent access to capital is eventually created,” she adds.
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However, in the wake of the credit crisis, western development finance is likely to slow considerably, potentially creating opportunities for the private sector to step into the void.
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Andrew Mold, a senior economist at the Development Centre of the Organisation for Economic Co- operation and Development, says the financing gap is widening. “The World Bank says that in 2009 the developing world needs up to $635bn as a result of the credit crisis,” he says. “In Africa, this will be $30bn-45bn.”
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The priority given to saving the western banking system has meant Africa and parts of Asia have been virtually left to fend for themselves. While 82 per cent of the International Monetary Fund’s resources have gone to European countries, only 1.6 per cent have been allocated to African countries, Mr Mold says.
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This lack of funding for emerging economies is attracting attention at a variety of levels. Friends of Europe, for instance, a prominent Brussels-based think-tank, organised a one-day conference on it this month.
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Giles Merritt, secretary general, says: “The financial crisis is far from over in my view and we need to ensure that the developing world is not wasting the opportunities presented by this crisis.”
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To date, most international public and private-sector initiatives have revolved around extending credit to the poorest areas since this is seen as the best way of achieving returns. However, this model is under attack.
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Graham Wright, programme director at MicroSave India, says: “We don’t give poor people assets by giving them access to debt. Microcredit is standardised and simple, and works for narrow market segments that can repay on a weekly basis. This is just working capital.” He says emerging economies need a range of financial services including, most notably, ones that focus on saving.
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“Imagine if you had to manage all your financial resources just with loans. It would be terribly difficult,” he adds.
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Alternative channels for finance are being created, some of which have the potential to be rolled out across continents.
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Ali Mchumo, managing director of the Dutch-headquartered Common Fund for Commodities, says his organisation allows small-scale farms to deposit their produce in a warehouse, receive a down-payment of 60 per cent of the expected price of the produce and then wait for prices to improve before selling it.
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“This protects the peasant from the cunning of middlemen who want to buy the product as soon as it is harvested, knowing that the peasant needs the money,” says Mr Mchumo. “If he can deposit the produce in a warehouse, he can’t be exploited. The peasant can earn and spend even before the final price is available.”
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This could create a virtuous circle whereby production and expenditure are functions of each other. But there is still a need to create a savings culture in societies where many people are denied access to basic bank accounts and, in any case, do not trust that institutions would treat them fairly.
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Rose Ngugi, a monetary policy committee member of the Central Bank of Kenya, says savers need access to more products, against which they could benchmark returns.
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“Savers don’t have benchmarks such as risk-free assets to decide how to invest,” she says.
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“We should think about capital markets if we want to diversify the basket, and create access to government securities at least.”
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Encouraging formal savings could have a huge impact on disposable incomes.
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A study in Uganda by MicroSave showed that people saving in the informal sector lost 22 per cent of their saved income one way or another. Mr Wright says: “Saving in cows is normal in many places. This has a higher return, but there is a risk factor involved and people really want straightforward security.”
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As well as the capital- limiting effects of the credit crisis, development funding is often not reaching emerging markets because of red tape or inefficiency.
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Paul Baloyi, chief executive of the Development Bank of Southern Africa, says: “Distribution has been problematic for poor countries. There are multiple agencies and well-meaning NGOs, but there is a huge dispersion between committed funds and funds released.”
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This only increases the emphasis on the private sector for increased funding. However, private sector institutions need to create the right products for the right people, rather than looking at the short-term profit motive.
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If they fail, western institutions, which dominate this space, may find they lose out to aggressive competitors, such as China which is leading the charge to harness African assets more productively.
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