Financial sector development - Sida

A first lesson is that subsidies, e.g. in the form of interest rate ceilings, and other
interventions in market forces are likely to be counterproductive. Subsidised interest rates
lead to excess demand for funds, usually implying that the poorest are screened out of
the market. In the same vein, subsidies or artificially high rewards for savings in the form
of regulated high interest rates on bank deposits may have negative consequences in the
long run. People are likely to respond to such interest rate incentives, inducing a portfolio
shift in favour of financial savings in relation to savings in real assets. The total effect on
aggregate savings is thus ambiguous. Moreover, a flawed interest rate structure may
harm the sustainability and credibility of the banking system. In order to stimulate people
to deposit their savings in banks and other formal financial organisations, it is more
important to ensure that these are accessible, inspire confidence and are guided by
relevant and reliable rules.
Another conclusion is that development banks and other government or aid financed
funds often fail in repayment rates. A reason may be that these type of organisations are
perceived more as providers of grants than of loans on strict terms and the borrowers are
seen as beneficiaries rather than as bank clients. Another aspect of this problem is that
the agencies themselves do not really have sufficient motivation to enforce loan
contracts. The result may often be that the cheap money borrowed is wasted and the
credit programmes are deemed a failure. In this context, it seems that credit projects
which combine an element of savings mobilisation have a higher potential to succeed.
Collective responsibility, implying that group pressure partly replace the need for physical
collateral, can also be an important element for achieving a better outcome. One reason
for this is that such programmes tend to internalise the resource mobilisation and create
motivation among all the participating agents to see to the survival of the project. Such
programmes also highlight the linkage between savings and credit facilities. Evidence
suggests that savings are encouraged by the prospects of credit access in a not too
distant future.
A final conclusion, following the above reasoning, is that assistance in this area should
focus on various types of credit and savings organisations, for example by providing
technical assistance or financing specific administrative expenditures. Since selfsustainability
and adherence to market conditions seem to be vital for survival and
expansion of various types of banking projects, it seems central that the donor support is
conditioned on transparent and binding obligations on the part of the recipient.
7.2 Financial systems in Sub-Saharan Africa in a period of major reform
In most countries in Sub-Saharan Africa, the deficiencies of domestic financial systems
constitute major obstacles to economic development and poverty reduction. Zimbabwe is
the only obvious exception. Current efforts to stabilise and reform the financial sector in
order to strengthen the legislation, regulation and supervision guiding banks and other
financial institutions, are likely to have a substantial impact on the economic performance
of the Sub-Saharan countries.
7.2.1 Commercial banks
In order to understand the financial systems in African countries, their problems and the
role of foreign donor agencies, it is essential to focus on the banking systems, because of
their central role as financial intermediaries. The commercial banks typically dominate the
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