THE WORLD BANK GROUP AFRICA REGION POVERTY REDUCTION & ECONOMIC MANAGEMENT M ay 2 0 1 3 I s s ue 4 South Africa Focus on Financial Inclusion Economic Update 78162 South Africa Economic Update Focus on Financial Inclusion © 2013 The International Bank for Reconstruction and Development/THE WORLD BANK 1818 H Street NW Washington, DC 20433 USA All rights reserved This report was prepared by the staff of the Africa Region Poverty Reduction and Economic Management. The findings, interpretations, and conclusions expressed herein are those of the authors and do not necessarily reflect the views of the World Bank’s Board of Executive Direc- tors or the countries they represent. Photo credits: World Bank. The report was designed, edited, and typeset by Communications Development Incorporated, Washington, DC. Contents Foreword   v Acknowledgments   vii Section 1 Recent economic developments   1 Global economic prospects   1 Recent economic developments in South Africa    5 Economic outlook for South Africa    14 Section 2  Financial inclusion in South Africa    17 The financial inclusion landscape    17 Unique challenges and opportunities    22 Enhancing financial inclusion   25 What next?   33 Annex 1  Financial institutions and regulatory requirements    35 Notes   37 References   41 Boxes 2.1  Financial inclusion and development    17 2.2  The Financial Sector Charter    25 2.3  The role of partial credit guarantees in expanding lending to smaller firms    26 2.4  Supportive microfinance regulations in other countries    27 2.5  Successful financial education programs in Brazil and South Africa    29 2.6  Banco Azteca/Grupo Elektra in Mexico leverages consumer goods retailer information   30 2.7  Leveling the playing field for payments in the European Union    30 2.8  How post offices can contribute to financial inclusion    31 2.9  The experience of Danmarks Nationalbank with expansion of the national payment system   32 2.10 Social cash transfers and financial inclusion    33 Figures 1.1  Credit default swap spreads for troubled Eurozone economies have tightened substan- tially (five-year sovereign credit default swap spreads)    1 iii South Africa Economic Update—Focus on Financial Inclusion 1.2  Yields on safe-haven government bonds have fallen since 2011 (10‑year government bond yield)   2 1.3  Private capital flows to developing countries remained strong in 2013q1 (gross capital flows to developing countries    2 1.4  Industrial production strengthens in developing countries even as it remains weak in high-income economies (industrial production volumes)    3 1.5  Business sentiment indicators suggest a pick-up in activity in a number of major economies   4 1.6  A weak demand environment lowered metal and mineral prices, while supply‑side pres- iv sures affected food prices in 2012    6 1.7  Capacity underutilization is declining in manufacturing    7 1.8  Broad and narrow unemployment rates remain high    8 1.9  Consumer price index headline inflation and core inflation    10 1.10 Current account and trade balance improve slightly in 2012q4    12 1.11 Nonresident capital flows (22-day moving average) rising    12 1.12 The real effective exchange rates of several large developing countries have strength- ened in recent months, but not for South Africa    12 2.1  South Africa fares well on aggregate data on financial account penetration (adults with an account at a formal financial institution)    18 2.2  Financial account penetration in South Africa exhibits considerable disparities, 2011 (percentage of adults with an account at a formal financial institution)    18 2.3  Financial account penetration across income quintiles is more uneven in South Africa than in the other BRICS, 2011 (adults with an account at a formal financial institution)   19 2.4  Self-reported barriers to formal account use, 2011 (percentage of unbanked)    19 2.5  High-frequency use of financial accounts is greater in South Africa, but still low, 2011 (percentage of adults who withdraw money from their accounts three or more times a month)   20 2.6  Formal and informal savings in South Africa are in line with savings in other develop- ing countries, 2011 (percentage of adults who reported saving any money in the past year)   21 2.7  Informal borrowing is high in South Africa, 2011 (percentage of adults who reported borrowing from formal or informal sources in the past year)    21 2.8  Financial inclusion for small and medium-size firms in South Africa, 2011    22 2.9  Estimated cost of providing financial services-benefits of branchless banking: Banks, mobile network operators, retailers, and a hypothetical initiative leveraging assets of each    31 Tables 1.1  The global outlook in summary    5 1.2  Real GDP growth and economic performance, 2009–12    6 1.3  Gross domestic expenditure, 2008–12    7 1.4  Transition matrices and newcomers’ probability of finding a job, 2012q2 to 2012q4    9 1.5  Consolidated fiscal framework, 2010/11–2015/16    10 1.6  South Africa’s trade by geographical destination, as a share of total exports and imports   13 1.7  Natural resources–based and manufactured exports as a share of total exports for a given destination, 2006, 2009, and 2012    13 1.8  Medium-term economic outlook   14 2.1  Bank branch and automated teller machine penetration, 2011    20 2.2  Total outstanding consumer credit balances, 2012q2    22 2.3  Bank concentration in South Africa and comparator countries, 2010    23 2.4  Monthly bank charges in South Africa, four largest banks    24 2.5  Statistics on smaller financial institutions    24 2.6  Maximum interest rates on loans    27 Foreword The World Bank is pleased to present the Section 2 analyzes South Africa’s financial fourth South Africa Economic Update, with inclusion landscape and highlights the coun- a focus on financial inclusion. try’s unique challenges and opportunities. This topic is particularly important for It also cites case studies from countries with South Africa, where the expansion of access comparable economies to show potential to financial services for both individuals and approaches that South Africa might consider small enterprises could help reduce poverty for enhancing financial inclusion. and inequality and stimulate job creation. For This report is intended not to be prescrip- these reasons, South Africa’s National Devel- tive but to offer evidence-based analysis. We opment Plan targets as one of its outcomes hope that it will enrich the debate on finan- an increase in access to financial services by cial inclusion and bring South Africa’s poli- poorer people, who are mostly excluded from cymakers, researchers, and other financial participating in the country’s formal economy. sector stakeholders closer to finding innova- As with our previous Economic Updates, tive and sustainable solutions to this crucial this report has two parts. Section 1 assesses challenge. South Africa’s economic prospects within the context of the current challenging global economic environment and prospects. It also Asad Alam explores the economic outlook for South Country Director for South Africa Africa as well as the risks to this outlook. World Bank v Acknowledgments This edition was prepared by a core team EASFP). The report was prepared under the comprising Fernando Im and Sandeep overall guidance of Asad Alam (Country Mahajan (Co–Task Team Leaders), Gunhild Director for South Africa) and John Panzer Berg, Allen Dennis, Michel Hanouch, Leora (Sector Manager, AFTP1). Klapper, Ben Musuku, Phindile Ngwenya, The team is grateful for comments and Julia Thelen. Michael Fuchs (Advisor, received from Gerhard Coetzee, Jorge Cana- AFTFP) was a special guest coauthor, leading les-Kriljenko, Jose Garrido, Patrick Kabuya, the work on financial inclusion, the focus of Andrej Popovic, and Marco Scuriatti. this issue. Peer reviewers were Douglas Pearce A team at Communications Development (Practice Manager, FFIDR) and Nataliya Incorporated edited, proofread, and laid out Mylenko (Senior Financial Sector Specialist, the report. vii Section 1 Recent economic developments Global economic prospects recapitalize banks in the United States and Europe. Finally, the decisions by the central Financial market conditions ease as countries banks of the United States, the Eurozone, take steps to manage systemic risks and Japan to pursue further quantitative eas- Conditions in global financial markets have ing have lifted global financial market sen- eased since mid-2012, reflecting improve- timent. Financial markets’ response to the ments in fiscal sustainability and the estab- Cyprus crisis has been muted thus far. lishment of mutual support mechanisms in These steps have led to a worldwide decline the European Union, even as the global eco- in the price of risk. For example, the cost of nomic recovery remains fragile and suscep- insuring against sovereign default on high- tible to downside risks.1 Positive steps include spread European bonds has fallen more than fiscal austerity measures in debt-laden Euro- 500 basis points from earlier highs. Credit zone countries, agreements to create a pan- default swap rates for most Eurozone coun- European banking supervision authority tries, which had been rising since early 2010, and pan-European institutions to bail out are now below their April 2010 levels (figure struggling economies, and the decision by 1.1). Perceived credit risk also declined for the European Central Bank to do what is developing countries, with credit default needed to preserve the euro. At the same swap rates falling about 60 basis points on time, substantial progress has been made to average between end-June 2012 and mid-May Credit default swap spreads for troubled Eurozone economies have tightened Figure substantially (five-year sovereign credit default swap spreads) 1.1 Ireland Spain Italy Portugal 2,000 1,500 Basis points 1,000 500 0 Jan. July Jan. July Jan. July Jan. May 2010 2010 2011 2011 2012 2012 2013 2013 Source: World Bank DEC Prospects Group. 1 South Africa Economic Update—Focus on Financial Inclusion Yields on safe-haven government bonds have fallen since 2011 (10‑year Figure government bond yield) 1.2 United States Germany 5 4 3 Percent 2 2 1 0 Jan. July Jan. July Jan. July Jan. May 2010 2010 2011 2011 2012 2012 2013 2013 Source: World Bank DEC Prospects Group. Capital flows to 2013. Over the same period, bond yield $171 billion in 2012q4, the highest flows since developing countries spreads for developing country debt fell some August 2008. (In South Africa, gross capital remained robust 93.4 basis points, though spreads ticked up flows increased to a seven-quarter high of slightly in May. Developing country interna- $5 billion in 2012q4.) This solid rebound has in 2013q1 tional bond yields are more than 290 basis been sustained thus far in 2013 (figure 1.3). points lower than their 2000–10 average. In 2013q1, gross capital flows to developing Reflecting declining risk perceptions, yields countries reached $160  billion, 46  percent on safe-haven assets (German Bunds and higher than in the same period last year. The U.S. Treasuries) are rising as portfolios are beginning of 2013q2 has also started strong, rebalanced toward higher yielding assets (fig- with capital flows in April totaling $64  bil- ure 1.2). lion, 42  percent higher than a year earlier Capital f lows to developing countries and some 9  percent above March levels. remained robust in 2013q1, after rebounding Increased appetite for higher yield develop- strongly in the second half of 2012, gaining ing country debt has created an opportunity from the global decline in the price of risk for several non-investment-grade sovereigns and the additional monetary stimulus pro- and companies to tap the international vided by high-income (and many developing bond market—often for the first time. In country) central banks. Gross capital flows to Sub-Saharan Africa, Angola and Zambia developing countries rebounded sharply to issued international bonds for the first time Private capital flows to developing countries remained strong in 2013q1 (gross Figure capital flows to developing countries) 1.3 Equities (new issues) Syndicated bank lending Bond issuance Total ows 80 60 $ billions 40 20 0 Jan. July Jan. July Jan. 2011 2011 2012 2012 2013 Note: Bars represent three-month moving averages of reported flows; line shows raw unsmoothed data for the total of the flows. Source: Dealogic; World Bank DEC Prospects Group. in August and September 2012, respectively, sustained though modest upturn in the United while Rwanda issued its first Eurobond in States (figure 1.4). Industrial production vol- April 2013. Bangladesh, Ghana, Kenya, Nige- umes expanded at a seasonally adjusted annu- ria, Papua New Guinea, and Vietnam are all alized rate (saar) of 3.8  percent in 2013q1, expected to issue bonds in coming months. led by improved growth of 4.3 percent (saar) Stock markets in developing countries are among developing countries—growth in the up 11 percent since June 2012. (The FTSE/ “BRIC� economies (Brazil, the Russian Fed- Johannesburg Stock Exchange Africa index eration, India, and China) was even faster, at hit an all-time high in May 2013.) 8.3 percent. Led by the United States (2.8 per- Economic weakness and mid-year finan- cent saar) and Japan (7.9 percent saar), indus- 3 cial market uncertainty cut into foreign direct trial production in high-income economies investment (FDI) inflows in 2012, especially expanded 2.8 percent (saar) in 2013q1. This flows into high-income countries. Global expansion in industrial production was sup- FDI inflows fell an estimated 6  percent (to ported by solid growth in global trade since $600  billion) in 2012, recovering somewhat November 2012. In February 2013, the pace in the final quarter after declining 16  per- of expansion in global trade (14.6 percent, 3 cent in the first three quarters compared month/3 month saar) was about four times Economic weakness with the same period in 2011. The decline that of industrial production. and mid-year financial was felt especially in high-income countries, Business sentiment indices suggest a where FDI flows were halved. By contrast, slower pace of activity for 2013q2. The global market uncertainty FDI flows to developing countries declined a manufacturing Purchasing Managers’ Index much smaller 4 percent—and even increased (PMI) declined in April but remained above cut into foreign in Latin America and Sub-Saharan Africa the 50 mark that indicates expansion (figure direct investment (including South Africa, where they increased 1.5). Sentiment indices on output, orders, from a net outflow in 2011 to a net inflow of and employment were all down in April. In inflows in 2012 more than $2 billion in the first three quar- high-income countries, sentiment deterio- ters of 2012).2 Flows to developing countries rated to a six-month low in the United States were supported by stronger growth prospects and to the lowest level this year in Germany. and by stable reinvested earnings and intra- Despite slight improvements in France, Italy, company loans. and Spain, PMI remains depressed (below 50) in these and several other Eurozone Improved financial conditions have had countries. Sentiments also deteriorated in only a modest effect on real-side activity developing countries. The PMI receded in all Global industrial production continues to major developing countries, including Bra- show modest recovery, helped by rising out- zil, China, India, Mexico, and Turkey, while put growth in developing countries and a remaining above 50, indicating expansion Industrial production strengthens in developing countries even as it remains Figure weak in high-income economies (industrial production volumes) 1.4 Developing countries Euro zone United States High-income countries 30 Percentage change 3 month / 3 month saar 20 10 0 –10 March March March March 2010 2011 2012 2013 Source: Thomson Datastream n.d.; World Bank DEC Prospects Group. South Africa Economic Update—Focus on Financial Inclusion Business sentiment indicators suggest a pick-up in activity in a number of major Figure economies 1.5 Developing countries Euro zone South Africa United States 60 Purchasing Managers Index (50 = neutral) EXPANSION 55 50 4 CONTRACTION 45 40 March March March March 2010 2011 2012 2013 Global baseline Source: Markit; Haver Analytics; World Bank DEC Prospects Group. projections indicate albeit at a slower pace. South Africa’s PMI fades, some of the more vulnerable Eurozone sustained recovery rose from 49.3 in March to 50.5 in April. countries could be frozen out of capital mar- Global baseline projections indicate sus- kets, provoking a global slowdown that, by over the medium tained recovery over the medium term (table our calculations, could subtract 1 percentage term, but this 1.1). In the United States, credit and housing point from developing country GDP growth. market conditions have eased, and improving The United States needs credible progress modest growth labor market conditions are helping support toward medium-term fiscal consolidation. outlook is subject to income and consumer demand growth. Pro- Because of the failure to reach agreement on vided fiscal uncertainty lifts, these improve- deficit reduction before the end of February considerable risks ments should lead to stronger investment 2013, legislation mandated automatic public growth. In the Eurozone, amid a prolonged spending cuts amounting to some $70 billion recession (with the sixth consecutive quar- (0.4 percent of GDP) in 2013 and about $1 tril- terly decline in GDP recorded in 2013q1), fis- lion over 10 years (sequestration). Though cal consolidation is expected to continue, but the direct impact on GDP will be limited, the with less austerity, and the negative impact on indirect impact of uncertainties generated by GDP growth should decline—contributing to prolonged negotiations could be much larger a modest firming of growth during 2013 and and last longer. Simulations of repeated fail- a return to mildly positive growth in the sec- ures to set fiscal policy on a sustainable path ond half of the year. Tight credit conditions resulting in a downgrading of U.S. debt show on the supply side on account of fragile bank that growth in the United States could slow by balance sheets and continued competitive- some 2.3 percentage points. ness issues in the periphery countries would On the upside, a rapid end to policy limit any meaningful resurgence in growth.3 uncertainty in the United States, a decrease Among developing economies, a pick-up in in capacity constraint tensions in Asia, or an global demand, increased capital flows, and improvement in European confidence could an accommodative monetary stance enabled speed the return of high-income countries by a generally low inflationary environment to stronger growth—with positive effects for should support growth prospects. developing country exports and GDP. This modest growth outlook is subject to considerable risks. Although the likelihood Commodity prices have softened despite of a serious crisis of confidence in the Euro- the improved global economic outlook zone has declined considerably, continuing Despite the modest strengthening of the global progress is needed on improving national economy, prices of most industrial commodi- finances and reinforcing pan-European ties dipped between mid-February 2013 and schemes for a banking union and sovereign the end of April (figure 1.6). Nickel was down rescue funds. If the reform momentum 19.4 percent, copper 17.4 percent, aluminum Table The global outlook in summary 1.1 Percentage change from previous year, excluding interest rates and oil prices Indicator 2011 2012 2013 2014 2015 Global conditions World trade volume (goods and nonfactor services) 6.2 2.6 4.1 5.0 5.5 Consumer prices G-7 countriesa,b 5.3 –0.6 –0.1 0.9 1.0 United States 2.4 2.1 2.4 2.5 2.5 Commodity prices ($) 5 Nonoil commodities 20.7 –9.5 –2.0 –3.2 –2.8 Oil, $ per barrelc 104.0 105.0 102.4 101.0 101.0 Oil, percentage change 31.6 1.0 –2.9 0.2 –0.1 Manufactures unit export valued 8.9 –2.1 2.4 2.2 1.9 Interest rates $, 6-month (percent) 0.8 0.5 0.7 1.1 1.4 €, 6-month (percent) 1.6 0.2 0.5 1.2 1.5 A rapid end to Real GDP growthe policy uncertainty World 2.7 2.3 2.3 3.0 3.3 With 2005 purchasing power parity weights 3.8 2.9 3.2 3.8 4.1 in the United High-income countries 1.6 1.3 1.2 2.0 2.3 States, a decrease in OECD countries 1.5 1.2 1.1 1.9 2.2 Eurozone 1.5 –0.5 –0.6 0.9 1.5 capacity constraint Japan –0.7 2.0 1.4 1.4 1.3 tensions in Asia, or United States 1.8 2.2 2.0 2.8 3.0 Non-OECD countries 5.0 2.8 3.2 3.8 3.9 an improvement Developing countries 5.9 4.9 5.2 5.6 5.7 in European Excluding transition economies 6.5 5.0 5.5 5.9 5.9 Excluding China and India 4.5 3.2 3.6 4.2 4.4 confidence could have China 9.3 7.8 8.0 8.0 7.9 positive effects for Sub-Saharan Africa 4.5 4.3 4.9 5.2 5.4 South Africa 3.5 2.5 2.5 3.2 3.3 developing country OECD is Organisation for Economic Co-operation and Development. exports and GDP Note: Data for 2012 are estimates; data for 2013–15 are forecasts. a. Canada, France, Germany, Italy, Japan, the UK, and the United States. b. In local currency, aggregated using 2005 GDP weights. c. Simple average of Dubai, Brent, and West Texas Intermediate. d. Unit value index of manufactured exports from major economies, expressed in $. e. Aggregate growth rates calculated using 2005 dollars GDP weights. Source: World Bank. 15.0 percent, crude oil (Brent) 13.2 percent, Recent economic developments and natural rubber 10.4 percent. In part, the in South Africa declines likely reflected the suggestions in the recent U.S. Federal Open Market Commit- Growth remains below potential tee’s minutes that quantitative easing could South Africa’s growth slowed from 3.5  per- end sooner than expected. Further, signals by cent in 2011 to 2.5  percent in 2012 (table Chinese authorities of intentions to cool their 1.2), reflecting primarily the sluggish exter- property markets and weaker-than-expected nal environment and domestic labor strife. Chinese growth (7.7 percent) in 2013q1 added Growth declined in 8 of the 10 major sub- to the bearish sentiments; China accounts sectors (all but agriculture and construc- for more than 40  percent of global metals tion). Growth is projected to remain around consumption. For 2013, the World Bank fore- 2.5 percent in 2013, below its potential trend casts a 2.9 percent year-over-year decline in oil rate of 3.1 percent until 2015. prices and a 2.0 percent decline in nonoil com- Despite the turnaround in agriculture, modity prices. the primary sector contracted sharply in the South Africa Economic Update—Focus on Financial Inclusion A weak demand environment lowered metal and mineral prices, while Figure supply‑side pressures affected food prices in 2012 1.6 Food Agriculture Energy Metals and minerals 250 200 $ price, 2005 = 100 150 6 100 50 0 Jan. Jan. Jan. Jan. Jan. Jan. Jan. Jan. Jan. 2005 2006 2007 2008 2009 2010 2011 2012 2013 South Africa’s Source: World Bank DEC Prospects Group. growth slowed from Table Real GDP growth and economic performance, 2009–12 3.5 percent in 2011 1.2 Percentage change, seasonally adjusted and annualized, unless otherwise noted to 2.5 percent in Sector 2009 2010 2011 2012q1 2012q2 2012q3 2012q4 2012 2012, reflecting the GDP at market prices –1.5 3.1 3.5 2.5 3.4 1.2 2.1 2.5 Primary sector –4.3 4.1 0.2 –9.5 24.0 –7.1 –3.7 –2.2 sluggish external Agriculture, forestry, and fishing –1.6 0.4 –0.1 4.8 9.3 7.4 10.0 2.3 Mining and quarrying –5.4 5.7 0.3 –15.1 30.9 –12.7 –9.3 –4.0 environment and Secondary sector –6.9 4.4 2.9 5.5 –0.5 1.5 3.6 2.1 Manufacturing –10.1 5.5 3.6 6.4 –0.8 1.2 5.0 2.4 domestic labor strife Electricity, gas, and water –1.4 2.1 1.1 –0.8 –4.3 1.6 –2.2 –1.2 Construction 7.8 0.7 0.5 5.1 3.4 3.3 0.2 2.5 Tertiary sector 1.0 2.5 3.8 3.1 2.3 1.9 2.4 3.0 Wholesale and retail trade, catering, and accommodations –1.2 3.8 4.5 3.2 2.7 1.7 1.5 3.6 Transport, storage, and communication 0.9 2.0 3.1 2.4 2.2 1.1 1.9 2.3 Finance, insurance, real estate, and business services 1.0 2.2 4.0 4.4 2.1 1.8 2.9 3.3 Community, social, and personal services 2.5 2.2 3.5 1.7 2.3 2.6 2.6 2.8 General government services 3.9 2.9 3.9 1.8 2.5 2.7 2.6 3.1 Source: South African Reserve Bank. second half of 2012. Work stoppages and dis- capacity underutilization (figure 1.7). In the ruptions in production arising from violent service sector, gross value added accelerated clashes in the mines led to a dismal perfor- moderately in 2012q4, driven by transport, mance for the mining sector. By end-2012, finance, insurance, and real estate. mining production had declined in seven Business confidence indices were slightly of the previous eight quarters and remained positive. The seasonally adjusted Kagiso below its precrisis peak. Growth in manufac- PMI index rose 1.2 points in April, climb- turing output accelerated in 2012q4, ben- ing to 50.5, indicating modest expansion. efiting in part from stronger demand from This was only the second time since October South Africa’s developing country trade part- 2012 that the index rose above the crucial ners (see below). Capacity utilization by large 50-point neutral mark. The uptick was on manufacturers continued upward, averaging the back of improvements in the subindices 81.7  percent in 2012. Nevertheless, manu- related to new sales orders (demand condi- facturing production remains below its level tions), business activity (output conditions), before the 2009 global economic and finan- expected business conditions (business con- cial crisis, with insufficient demand contrib- fidence), and supplier performance (sup- uting most to the considerable, if declining, ply conditions). However, five of the nine Figure Capacity underutilization is declining in manufacturing 1.7 Semi- and unskilled labor Skilled labor Raw materials Other reasons Insuf cient demand Capacity underuse 25 20 15 Percent 10 7 5 0 2004 2005 2006 2007 2008 2009 2010 2011 2012 Source: Statistics South Africa. Business confidence subindices declined in April, including that On the demand side, growth of real gross indices were slightly for employment, which fell to its lowest level domestic expenditure (GDE) shrank half a since July 2011, dampening the increase in percentage point in 2012, as growth moder- positive, but growth the overall score. Meanwhile, the Rand Mer- ated in all components other than gross fixed chant Bank/Bureau for Economic Research capital formation (table 1.3). Growth in fixed of real gross domestic Business Confidence Index rose from 46 capital formation picked up by more than expenditure shrank in 2012q4 to 52 in 2013q1—with improved 1  percentage point in 2012, as accelerated conditions in four of five sectors—signaling investment spending by state-owned enter- half a percentage that slightly more than half of respondents prises and the government overcame con- point in 2012 were optimistic about business prospects. tinuing slight increases in private investment. The index rose in manufacturing, wholesale, Real GDE shrank in 2012q4, mainly because new vehicle trade, and building contractors of contractions in general government con- but declined in retail. However, the index sumption and in inventories and a slowdown remained below the neutral mark of 50 for in gross fixed capital formation. Moreover, manufacturing and construction and was at the global economic slowdown kept export 50 for retail. growth to 1.1  percent, while household Table Gross domestic expenditure, 2008 –12 1.3 Percentage change, seasonally adjusted and annualized, unless otherwise indicated Component 2008 2009 2010 2011 2012/01 2012/02 2012/03 2012/04 2012 Total final consumption 2.8 –0.1 4.6 4.8 3.5 3.3 4.1 1.6 3.7 Final consumption expenditure by household (PCE) 2.2 –1.6 4.4 4.8 4.0 3.2 2.7 2.4 3.5 Durable goods –8.3 –12.6 18.8 15.8 8.1 8.9 7.8 6.1 11.0 Semidurable goods 4.7 –1.9 3.6 5.9 6.1 6.8 6.2 5.1 6.2 Nondurable goods 0.2 –0.9 1.8 3.1 2.5 2.2 1.7 2.3 2.5 Services 6.1 0.4 4.0 3.5 3.6 1.7 1.3 0.8 1.8 Final consumption expenditure by general government 4.6 4.8 5.0 4.6 1.9 3.7 8.3 –0.7 4.2 Gross fixed capital formation (investment) 13.0 –4.3 –2.0 4.5 4.6 5.4 5.6 4.3 5.7 General government 10.9 –6.6 –9.0 8.6 4.9 10.9 10.3 2.1 8.5 Public corporations 36.2 22.2 –1.5 1.5 11.0 9.8 10.6 7.2 9.1 Private business enterprises 8.8 –10.4 –0.5 4.6 2.5 2.7 2.8 3.8 3.9 Domestic final demand 4.7 –0.9 3.3 4.7 3.7 3.7 4.3 2.1 4.0 Change in inventories (R millions) –8,229 –23,984 –1,398 5,058 5,861 6,321 5,089 –4,055 3,304 Gross domestic expenditure 3.5 –1.6 4.4 4.6 4.4 4.4 4.1 –0.9 4.1 PCE is personal consumption expenditure. Source: South African Reserve Bank. South Africa Economic Update—Focus on Financial Inclusion consumption growth remained slow as con- 25.2 percent in 2013q1—and an even higher sumer confidence weakened on account 33.7  percent if discouraged workers are of heightened unemployment, global eco- included. Long-term unemployment repre- nomic uncertainties, and a weakened rand. sents about two-thirds of total unemploy- The outlook for consumer demand remains ment, indicating that structural factors are weak. The First National Bank/Bureau for at play. The unemployment rate has been Economic Research Consumer Confidence consistently at or above 25 percent in the first Index trended down in 2013q1, posting a quarter of the year since 2010. nine-year low of –7 index points. While 2.2  million people transitioned 8 Real gross fixed capital formation mod- into the working-age population (15–64 erated to 4.3  percent in 2012q4, as the years) between 2008q4 and 2012q4, 267,000 acceleration in private sector investment jobs were lost in that time. About 628,000 only partially offset the slowdown in capital people joined the ranks of the unemployed, spending by public corporations—mainly and roughly 1.1  million people joined the in electricity and transport—and by general ranks of discouraged workers, having given government. Shaky business confidence up hope of landing a job. About 29 percent Between 2008q4 arising from domestic labor unrest, the of those unemployed in 2012q4 were work- slowdown in domestic demand, and the still seekers ages 15–24, and just 1.2 young peo- and 2012q4 about precarious (despite modest recent improve- ple in 10 (12  percent) are employed, much 628,000 people ments) global growth prospects do not lower than the overall employment rate for bode well for private investment growth. South Africa (41 percent). Moreover, roughly joined the ranks of Electricity buybacks by Eskom (the public 31.6  percent of young people (3.3  million) the unemployed, electricity utility), and the decision by the were not in employment, education, or train- National Energy Regulator of South Africa ing in 2012q4, meaning they were disen- and roughly to grant a much lower electricity hike sched- gaged from any economic activity and were 1.1 million people ule than requested by Eskom, while a posi- not accumulating human capital that could tive development for the inflation outlook, improve their employability. joined the ranks of could curtail the expansion of electricity- Table 1.4 presents the transition matrix discouraged workers generating capacity in the medium term across employment statuses from 2012q2 to because of its detrimental effect on Eskom’s 2012q4. In the upper panel, diagonal ele- balance sheet. ments indicate the probability of remain- ing in the same employment status after six Labor markets remain weak months (between the initial and end peri- South Africa’s labor markets continue to ods). Nondiagonal elements indicate the perform poorly (figure 1.8). The unemploy- probability of moving from one employment ment rate remained stubbornly high, at status to another. Consistent with findings Figure Broad and narrow unemployment rates remain high 1.8 Unemployment rate (narrow) Unemployment rate (broad) Underutilization of labor Employed/population ratio (absorption) Labor force participation rate 75 50 Percent 25 0 Mar. Mar. Mar. Mar. Mar. Mar. 2008 2009 2010 2011 2012 2013 Source: Statistics South Africa Quarterly Labor Force Surveys (2008q1–2012q4); staff calculations. Table Transition matrices and newcomers’ probability of finding a job, 2012q2 to 2012q4 1.4 Percent Other not Status Employed Unemployed Discouraged economically active Employed 91.5 3.7 1.3 3.5 Unemployed 15.0 64.0 7.3 13.7 Discouraged 9.9 16.0 50.7 23.5 Other not economically active 3.4 5.1 4.0 87.5 Transitions from broad unemployment to other employment status Unemployed 9 New entrant 9.4 68.8 7.0 14.8 Job loser, job leaver, or re-entrant 22.2 59.7 7.1 11.1 Other (last time worked +5 years) 11.3 62.6 8.1 18.0 Discouraged New entrant 5.5 15.5 55.3 23.6 Job loser, job leaver, or re-entrant 19.5 17.8 44.2 18.5 Other (last time worked +5 years) 9.9 14.8 47.0 28.3 Even with more Source: Statistics South Africa Quarterly Labor Force Surveys (2012q2 and 2012q4); staff calculations. limited fiscal space, of the November 2011 and July 2012 South Fiscal policy the 2013 budget Africa Economic Updates, the probability of Even with more limited fiscal space and an staying in the same employment status after environment of high unemployment and maintained a six months remained high: the probability of weak domestic and global growth pros- countercyclical stance retaining a job was about 91.5 percent while pects, the 2013 budget maintained a coun- the probability of remaining unemployed tercyclical stance while committing to a while committing to was 64  percent. The probability of landing medium-term fiscal consolidation path medium-term fiscal a job remains very low for both unemployed to slow spending growth, shrink the fiscal workers (15 percent) and discouraged work- deficit, and stabilize the debt-to-GDP ratio consolidation to slow ers (9.9 percent). by fiscal 2015/16. Given the goal of mod- spending growth The lower panel of table 1.4 explores the erating expenditure growth, a key prior- transitions from unemployment (broadly ity in the 2013 budget was to improve the defined, including discouraged workers) to impact and efficiency of public spending by other employment statuses, with an empha- reprioritizing capital and recurrent spend- sis on whether a person looking for a job has ing in line with national policy priorities been employed before. The results are reveal- in the National Development Plan. Given ing. For unemployed new entrants in the South Africa’s social challenges, govern- labor market, the probability of landing a job ment spending in the “social wage� category six months later was just 9.4  percent, while (education, health services, social develop- the probability of remaining unemployed was ment, public transport, housing, and local almost 70  percent. Chances of success also amenities) accounts for about 60 percent of vary by experience. An unemployed person total spending. More than 16  million peo- who has worked in the past five years is twice ple receive some form of social grants. By as likely to be hired as a person who has not the end of the Medium-Term Expenditure worked in more than five years. For discour- Framework period in 2016, that number is aged workers, results are even starker. The projected to reach 17.2 million. probability of a first-time entrant discour- Lackluster domestic economic perfor- aged worker finding a job within six months mance resulted in lower than anticipated is just 5.5 percent, which is slightly over half tax revenue: R11.3  billion lower than pro- the probability of success for someone who jected in the 2012/13 Medium-Term Budget has not worked in the past five years and Policy Statement and R16.3  billion lower one-fourth that of someone who held a job in than in the 2012/13 budget. The modera- the past five years. These findings are in line tion in expenditure growth only partially with other findings on the difficulties young countered the shortfall in revenue collec- people have transitioning into employment.4 tion in 2012/13, resulting in a higher than South Africa Economic Update—Focus on Financial Inclusion expected budget deficit. Fiscal consolida- budget deficit to 3.1 percent of GDP by fis- tion—achieved through a moderation in cal 2015/16 (table 1.5). Debt-service costs the growth of allocations to national depart- are forecast to stabilize at a manageable ments and a reduction in contingency allo- 2.8  percent of GDP. Contingent liabilities cations—is expected to be greater over the stood at R373.2  billion in fiscal 2012/13 Medium-Term Expenditure Framework (about 11.6 percent of GDP), almost half of period than proposed in the Medium-Term which arising from exposure to state-owned Budget Policy Statement, with real expendi- enterprises and development f inance ture growth set to average about 2.3 percent institutions. 10 rather than 2.9 percent. Fiscal consolidation depends strongly on Inflation and monetary policy how quickly the economy recovers. Faster Headline Consumer Price Index inflation economic growth would be supported by moved sideways in April 2013 from Febru- public investment in infrastructure and ary and March and stood at 5.9 percent year electricity generation, low interest rates and over year (figure 1.9). Food and nonalco- low and stable inflation, and faster growth holic beverages, housing and utilities, and Several indicators in private investment. The 2013/14 budget transport contributed about 56  percent of foresees higher revenue collection as eco- the annual change. Increases in adminis- point to building nomic conditions improve, reducing the tered prices continue to be a major driver of inflationary pressures because of the Table Consolidated fiscal framework, 2010/11–2015/16 sustained weakening 1.5 Percent of GDP, unless otherwise noted Estimate of the rand Outcome MTBPS Budget Budget forecast Item 2010/11 2011/12 2012/13 2012/13 2013/14 2014/15 2015/16 Revenue 27.7 28.1 27.5 27.7 28.0 28.1 28.1 Expenditure 32.1 32.1 32.3 32.9 32.6 32.1 31.2 Budget balance –4.4 –3.9 –4.8 –5.2 –4.6 –3.9 –3.1 Debt service cost 2.4 2.6 2.7 2.8 2.8 2.8 2.8 Primary balance –2.0 –1.4 –2.1 –2.5 –1.8 –1.1 –0.4 Net borrowing requirement 4.3 3.8 5.1 5.0 45.6 3.9 3.1 Total net government debt 30.0 33.3 35.7 36.3 38.6 39.8 40.3 Southern African Customs Union payments (R millions) 17,905.7 21,760.0 42,151.0 42,151.3 43,374.3 43,036.0 48,469.3 MTBPS is Medium-Term Budget Policy Statement. Source: South Africa National Treasury 2012, 2013. Figure Consumer price index headline inflation and core inflation 1.9 Food Housing and utilities Petrol Consumer Price Index Consumer Price Index excluding food, headline nonalcoholic beverages, petrol, and energy 10.0 40 7.5 20 Percent Percent 5.0 0 2.5 –20 0.0 –40 Jan. 2009 Jan. 2010 Jan. 2011 Jan. 2012 Jan. 2013 Source: Statistics South Africa. inflation, with petrol inflation still recording weaken the rand, threaten a deteriorating two-digit increases (10.4  percent year over outlook. year). Core inflation (excluding food and nonalcoholic beverages, petrol, and energy) External sector stood at 5.2  percent year over year. Supply- The current account deficit narrowed slightly side price developments, such as the smaller- in 2012q4, receding from 6.8 percent of GDP than-requested electricity hike schedule in 2012q3 to 6.5  percent, as both the trade the National Electricity Regulator of South account and the services, income, and current Africa granted Eskom and moderation of transfer accounts improved marginally (figure inflationary pressures from food prices, have 1.10). Fragile economic conditions in advanced 11 been outweighed by the sustained deprecia- economies—particularly in the Eurozone— tion of the rand. translated into a contraction in manufactured Several indicators point to building infla- exports. That effect was fully countered by an tionary pressures because of the sustained increase in primary sector exports to emerg- weakening of the rand. Although input cost ing markets, reflecting a partial recovery in prices reflected in the PMI price subindex mining production and fairly robust economic fell 9.3 index points to 78.0 in April (follow- growth in emerging markets. The current account ing eight consecutive increases since July Higher commodity prices, together with a deficit narrowed 2012), input cost pressures remain high in sustained depreciation of the rand, bumped manufacturing. The Producer Price Index up export earnings. While the contrac- slightly in 2012q4, as (PPI) for final manufactured goods rose tion in domestic demand reduced imports, slightly in March to 5.7 percent year over year the depreciation of the rand caused import both the trade account from 5.4 percent in February. PPI for inter- receipts to rise, so the trade deficit was only and the services, mediate inputs for manufactured goods rose slightly smaller in 2012q4. South Africa’s to 7.7 percent year over year, whereas PPI for terms of trade deteriorated in 2012q4, as income, and current electricity and water moderated to 11.4 per- prices rose faster for imports than for exports. transfer accounts cent year over year in March. Net nonresident bond f lows totaled On the demand side, underlying inflation- R87.8 billion in 2012, more than double the improved marginally ary pressures remain muted, given the weak inflows in 2011 (R41.9 billion). South Africa’s domestic economic growth and the subdued inclusion in the Citigroup World Govern- global economic environment expected to ment Bond Index seems to have offset several prevail for some time. Multiple signs suggest negative developments in 2012—poor perfor- little or no demand-side inflationary pres- mance of the domestic economy, credit rating sure: slack labor markets with persistently downgrades by all three major rating agen- high levels of unemployment; capacity utiliza- cies, labor unrest in the second half of 2012, tion still below the precrisis peaks (79.0 per- declining business and consumer confidence, cent in 2013q1 in the manufacturing sector); setbacks in electricity supply, and widening and moderating household consumption current account deficits. These factors also spending due to slower real income growth, led to a sustained depreciation of the rand in eroding purchasing power, high household the second half of 2012. Spikes of risk aversion debt to disposable income (75.8  percent), from global developments (particularly the shaky business and consumer confidence, financial bailout in Cyprus and the slowdown and moderating consumer credit. of China’s economy) also put added upward South Africa’s inflation outlook is affected pressure on the exchange rate in 2013q1. by both domestic and global developments, Currencies of large emerging market most recently the adverse impact of wages and economies have gained in recent months. sustained exchange rate depreciation on pro- Growth acceleration in China and higher duction costs and price of imported goods. international capital flows (figure 1.11) and While recent moderation in food prices and commodity prices (until recent weeks) have a lower schedule of electricity price increases strengthened the real effective exchange were positive signs for the inflation outlook, rates of the Brazilian, Chinese, Mexican, Rus- future labor unrest, adverse shocks in major sian, and Turkish currencies (figure 1.12). South African export destinations, and loss However, currencies have not strengthened of investor confidence, which may further in all large emerging market economies. South Africa Economic Update—Focus on Financial Inclusion Figure Current account and trade balance improve slightly in 2012q4 1.10 Trade balance Savings to investment rate Current account balance Terms of trade, including gold 5 130 0 120 Percent Percent 12 –5 110 –10 100 March March March March March March December 2007 2008 2009 2010 2011 2012 2012 Source: South African Reserve Bank. Figure Nonresident capital flows (22-day moving average) rising 1.11 Bonds Equities Rand/$ Bonds and equities exchange rate 200 10 100 9 Rand/$ exchange rate $ millions 0 8 –100 7 –200 6 July Jan. July Jan. May 2011 2012 2012 2013 2013 Source: Citigroup; Johannesburg Stock Exchange; staff calculations. The real effective exchange rates for several large developing countries have Figure strengthened in recent months, but not for South Africa 1.12 Brazil China Turkey South Africa India Mexico Russian Federation 120 Real effective exchange rate index 110 (January 2011 = 100) 100 90 80 Jan. April July Oct. Jan. April July Oct. Jan. April 2011 2011 2011 2011 2012 2012 2012 2012 2013 2013 Source: World Bank DEC Prospects Group. Weaker growth concerns, wider current South Africa’s trade has shifted away from account deficits, and higher inflation dif- advanced economies, largely as a result of ferentials in India and South Africa have led weak growth there. The decline in exports to a depreciation of their currency on a real has been noticeable, falling from 57  per- effective exchange rate basis, in particular cent of the total in 2006 to just 40 percent in the rand. 2012, led by a significant drop in South Afri- There has been a steady increase in the can exports to the European Union. Shares importance of developing countries as South to the United States and Japan have also Africa’s trade partners (table 1.6), reflect- declined somewhat. ing the much faster trade among developing South Africa’s export mix has not changed 13 countries than between developing countries much since 2006 (table 1.7). About 77  per- and high-income countries over the past cent or more of its export value consists of decade. In 2006, trade with other African natural and cultured pearls; precious and countries and with the BRIC countries repre- semiprecious stones; precious metals; base sented 22 percent of total exports and 21 per- metals and articles of base metal; mineral cent of total imports. By 2012, those figures products; machinery, mechanical appliances, had risen to 40  percent and 31  percent. and electrical equipment; vehicles, aircraft, There has been a While China is at the center of this change, vessels, and transport equipment; and chemi- steady increase in exports to the rest of Africa as a share of total cal products. Exports to China have been exports grew almost 38 percent over 2006– mainly mineral products and base metals the importance of 2012, reflecting the region’s strong growth. (88.1 percent in 2012). Of exports to Africa, developing countries South Africa’s trade by geographical destination, as a share of total exports and Table imports as South Africa’s 1.6 trade partners Imports Exports Trade partner 2006 2009 2012 2006 2009 2012 Developing economies: Africa + BRIC 21.7 26.4 30.6 21.4 35.0 39.8 Africa 6.7 7.8 9.7 14.8 19.6 20.4 BRIC 14.9 18.6 20.9 6.5 15.3 19.3 China 10.1 13.1 14.5 4.0 10.5 13.1 Advanced economies: European Union + United States + Japan 44.1 44.9 40.7 57.0 42.8 40.0 European Union 29.9 32.3 28.8 33.5 26.8 22.3 United States 7.6 7.7 7.3 11.6 8.3 9.8 Japan 6.6 4.9 4.6 11.9 7.6 7.9 BRIC is Brazil, the Russian Federation, India, and China. Source: South African Revenue Service; staff calculations. Natural resources–based and manufactured exports as a share of total exports for Table a given destination, 2006, 2009, and 2012 1.7 European Year and export product Africa BRIC China Union United States Japan 2006 Natural resources (sections 5, 14, 15) 29.7 73.1 84.1 54.9 64.2 69.6 Manufactured goods (sections 6, 16, 17) 42.1 20.1 8.8 27.7 26.9 22.4 2009 Natural resources (sections 5, 14, 15) 25.2 83.4 90.8 49.6 41.2 79.3 Manufactured goods (sections 6, 16, 17) 41.0 8.9 2.7 27.7 51.2 11.8 2012 Natural resources (sections 5, 14, 15) 23.9 85.2 90.2 50.3 47.6 72.4 Manufactured goods (sections 6, 16, 17) 47.5 7.8 4.0 29.8 46.5 21.5 BRIC is Brazil, the Russian Federation, India, and China. Note: Section 5 is mineral products; section 6 is chemical products; section 14 is natural or cultured pearls, precious or semiprecious stones, and precious metals; section 15 is base metals; section 16 is machinery, mechanical appliances, and electrical equipment; and section 17 is vehicles, aircraft, vessels, and transport equipment. Source: South African Revenue Service; staff calculations. South Africa Economic Update—Focus on Financial Inclusion manufactured goods rose from 42.1 percent (difference between potential and actual of the total in 2006 to 47.5 percent in 2012, GDP) of close to 1 percent is therefore also while for the European Union manufac- smaller than previously estimated (the July tured exports made up just 29.8 percent of 2011 Economic Update estimated the gap at the total in 2012. This means that Africa is 2.3 percent for 2010 and 2011), with implica- the main recipient of South African manu- tions for medium-term growth; the output factured goods (9.7 percent of manufactured gap will close more slowly once demand con- exports go to Africa and 6.6 percent to the ditions are relaxed. European Union). While advanced econo- Delays in adding large-scale new electric- 14 mies remain the main destination of South ity generation are likely to further constrain Africa’s manufactured exports, these shift- catch-up growth. Domestic risk factors ing shares emphasize the increasing role of (especially volatile labor relations in mines) emerging markets in light of sluggish growth have also emerged more forcefully since in the center. the previous Update and are likely to play a stronger role in shaping investor confi- Economic outlook for South Africa dence in the medium term, a trend already Medium-term growth Against the backdrop of a much weaker reflected in the business confidence index domestic investment climate, deceleration in of the South African Chamber of Commerce prospects for South consumer spending, and a subdued external and Industry.6 A marked recent decline in Africa have been demand environment, medium-term growth the national savings rate would constrain prospects for South Africa have been revised the financing available for fixed investment, revised down because down. GDP growth is projected at 2.5 percent also taking some steam out of the growth of lower estimates for 2013, 3.2  percent for 2014, and 3.3  per- momentum. Consumer spending would fur- cent for 2015, down from 3.2 percent for 2013 ther decelerate as debt-saddled households of potential GDP and and 3.5 percent for 2014 in the July 2012 Eco- faced with slow job creation gradually build the severity of the nomic Update (table 1.8). up their savings or ease their debt pressures. Lower estimates of South Africa’s poten- Indeed, the deceleration in household domestic and external tial GDP and the severity of the domestic spending is already under way. It is likely downside risks and external downside risks are chief ly to persist, as indicated by the First National behind the downward revision in the Bank Bureau for Economic Research Con- medium-term growth projections. Updated sumer Confidence Index, which fell to –7 with more recent data, revised estimates index points in March 2013, much lower show a decline in potential GDP growth than at the onset of the global financial cri- from a boom period high of about 4.0 per- sis in 2008. cent and of 3.5  percent since the start of Labor market relations, which became the crisis to about 3.1 percent in 2013. The more disruptive in the second half of 2012, analysis shows that the decline in potential especially through channels outside the con- GDP growth came from slower growth of ventional bargaining mechanisms, could both capital stock (investment) and total have lasting effects on labor market dynamics factor productivity. 5 The revised output gap and investor confidence. Firms are delaying Table Medium-term economic outlook 1.8 Percentage change, seasonally adjusted and annualized, unless otherwise indicated Indicator 2010 2011 2012 2013 2014 2015 Real GDP growth 3.1 3.5 2.5 2.5 3.2 3.3 Household consumption 4.4 4.8 3.5 1.9 2.5 2.9 Government consumption 5.0 4.6 3.9 3.1 3.0 2.8 Gross fixed capital formation –2.0 4.5 5.7 2.9 3.5 3.7 Exports 4.5 5.9 0.1 3.0 3.9 4.4 Imports 9.6 9.7 6.3 2.5 2.8 3.7 Headline inflation 4.3 5.0 5.7 5.7 5.5 5.1 Current account balance (percent of GDP) –2.8 –3.4 –6.3 –6.2 –5.9 –5.7 Source: South Africa National Treasury estimates and projections; staff calculations. investment and hiring decisions—and as a External risks to the outlook result slowing the rebound of private invest- While the baseline scenario includes a mod- ment and household consumption. Our est recovery of global economic activity, the forecasts suggest a timid recovery in both many tension points in the global economy household final consumption expenditure could result in a much weaker global out- and gross fixed capital formation by the pri- come. Indeed, the three main tension points vate sector. in the global economy are not mutually Further, external demand, particularly exclusive, and one event could trigger others. from the Eurozone, an important desti- Financial market tensions have eased in nation for South Africa’s manufactured the Eurozone since 2012q2, and the likeli- 15 exports, remains weak. When combined hood of a serious deterioration in conditions with the slowdown of China’s economy and has lessened; nonetheless, conditions remain its rebalancing from an investment-driven fragile, and sentiment is vulnerable to bad to a consumption-driven growth model, the news. Should circumstances deteriorate external environment suggests that growth markedly, with a credit freeze on some of the in demand for some of South Africa’s indus- larger, troubled Eurozone economies, global trial metals will slow. Moreover, South economic activity could return to recession- The many tension Africa’s terms of trade (ratio of the price of like conditions, resulting in a 0.9 percentage points in the global exports to the price of imports) fell almost point drop in South Africa’s GDP from the 6  percent in 2012 and is projected to con- baseline forecasts. economy could result tinue declining over the medium term on The fiscal consolidation in the United the back of softening precious metal prices. States is already sapping growth. The baseline in a much weaker Net exports therefore will continue to drag assumes agreement on a credible medium- global outcome than on GDP growth, though not as severely as in term plan to restore fiscal sustainability. If this 2012. does not occur and a deeper fiscal contrac- the modest recovery in tion takes place, U.S. growth would slow even the baseline scenario Domestic risks to the outlook more. In an alternate scenario in which uncer- As observed in the second half of 2012, tainty in U.S. fiscal policy leads to increased domestic developments represent a major precautionary savings by U.S. consumers and downside risk to the medium-term outlook, businesses, U.S. growth could slow by some particularly the potential for worsening labor 2.3  percentage points. Should that occur, unrest. The overall effects could be con- the impact on the trade channel alone could tained within a specific sector or spill over cause South African GDP to decline 0.7 per- to the rest of the economy. Should a wide- centage point from the baseline. However, the spread labor dispute arise within the forecast indirect impacts through weaker confidence horizon, output could contract substantially and the potential rattling of global financial and business confidence could fall, adversely and commodity markets would likely be even affecting investment and hiring decisions. stronger considering the importance of the As stated in previous issues of the Eco- U.S. economy in global markets. nomic Update, South Africa’s low national A third tension point is the possibility of savings and heav y reliance on foreign a disorderly unwinding of China’s unusually funds—with short-term portfolio flows an high investment rate. With Chinese demand important share—to finance investment accounting for half of African exports of makes the economy susceptible to capital many industrial metals, a sharper-than- flow reversals. Both domestic and global envisaged downturn in China could result events could trigger a sudden capital outflow, in a slump in commodity prices. An abrupt requiring a sharp correction in domestic slowdown in Chinese investment would absorption and a depreciation of the rand reduce South Africa’s GDP 0.3  percentage in the absence of government intervention. point, with the current account deteriorating Should this situation arise, output and invest- 0.3 percentage point of GDP and fiscal bal- ment would contract. ances 0.2 percentage point. Section 2 Financial inclusion in South Africa Researchers, policymakers, and other finan- financial services show that the share of adults cial sector stakeholders are becoming more with a bank account is higher in South Africa interested in the transformative power of than in other African and BRICS economies. financial inclusion.7 In South Africa, expand- But these aggregate statistics mask financial ing access to financial services for individuals inequality between rich and poor, men and and small enterprises could reduce the coun- women, and rural and urban residents. Fur- try’s persistent income inequality and stimu- ther, while payday loans to individuals are late growth (box 2.1). South Africa, as Africa’s quite prevalent, micro and small businesses only G20 member and as one of the BRICS, have little access to financing. High concen- plays an influential global role, and prog- tration of financial service providers, a lack ress in financial inclusion could thus have of microfinance institutions, and gaps in the an important demonstration effect. While regulatory environment all pose challenges formal financial institutions offer an array of to financial inclusion, while the highly devel- financial services, this Update focuses on for- oped technology infrastructure of the finan- mal payments, savings, and credit.8 cial sector offers promising opportunities. But the ability of financial systems to per- form these tasks is often limited by market The financial inclusion landscape imperfections. The price of financial services On aggregate, Global Findex data suggest may be distorted, for example, because of that South Africa’s financial sector is fairly excessive regulation, lack of competition, or inclusive. 9 Some 54  percent of adults in information asymmetry between borrowers South Africa report using a formal account and lenders. As a result, some households enabling both deposits and withdrawals at a and firms may not be able to access the finan- bank, credit union, cooperative, post office, cial services they need. Data from users of or microfinance institution (figure  2.1). Box Financial inclusion and development 2.1 Financial inclusion is vital because of the role of financial services in helping individuals and firms withstand income shocks and smooth spending. A well-functioning financial system produces and processes information on investment opportunities and allocates capital based on these assessments; monitors individuals’ and firms’ performance after allocating capital; facilitates the trading, diversification, and management of risk; mobilizes and pools savings; and eases the exchange of goods, services, and financial instruments. Financial services thus allow individuals and businesses to pool their risk and minimize the impact of idiosyncratic shocks (ranging from losses of income to rising commodity prices, illness, theft, and unemployment) on their economic welfare. Without inclusive financial systems, individuals and small businesses have to rely on their own resources or on informal social support systems, such as family and friends, to meet their financial needs (saving for retirement, investing in education, taking advantage of business opportunities, and the like). Source: Levine 2005. 17 South Africa Economic Update—Focus on Financial Inclusion South Africa fares well on aggregate data on financial account penetration Figure (adults with an account at a formal financial institution) 2.1 60 40 Percent 20 18 0 South Rest of Rest of the Rest of Africa Africa developing world BRICS Source: Demirgüç-Kunt and Klapper forthcoming. While the share of Although lower than the Finscope10 esti- in the other BRICS countries (figure 2.3). mate of 67  percent (which includes the Among the other BRICS countries, account adults with a bank use of debit cards to withdraw government ownership exhibits a linearly expanding pat- account is higher transfers), this share is higher than the aver- tern from the bottom 20 percent of income age for the group of African countries and earners to the top, reflecting the presence in South Africa, developing countries covered by Global Fin- of a middle class, a pattern far less visible for aggregate statistics dex and higher than that of the other BRICS South Africa. economies. Account penetration in South Africa also mask financial varies by individual characteristics, such as inequality between Access to and use of formal bank accounts income, residence, age, education, and gen- This aggregate picture conceals large der. For instance, 94  percent of adults with rich and poor, men inequalities. In South Africa, the gaps a tertiary education have a formal account and women, and rural between the poorest and richest quintiles while only 43 percent of those with a primary are large. More than 12 million adults lack a education or less do. This disparity between and urban residents basic bank account, the first step to financial education and financial inclusion holds even inclusion.11 For example, while only 35 per- after controlling for income. Adults ages cent of adults in the poorest 20  percent of 25–64 and those residing in urban areas are income earners have a formal account, also more likely to report having a formal 78 percent of those in the richest 20 percent bank account. Women are considerably less do (figure 2.2). The distribution of account likely than men to have an account, even ownership across the top and bottom income after controlling for income. For instance, quintiles is much larger in South Africa than among the poorest 40  percent of earners, Financial account penetration in South Africa exhibits considerable disparities, Figure 2011 (percentage of adults with an account at a formal financial institution) 2.2 Richest Fourth Income quintile Middle Second Poorest Residence Urban Rural 65+ Age 25–64 15–24 Gender Education Tertiary or more Secondary Primary or less Male Female 0 25 50 75 100 Source: Demirgüç-Kunt and Klapper forthcoming. Financial account penetration across income quintiles is more uneven in South Africa Figure than in the other BRICS, 2011 (adults with an account at a formal financial institution) 2.3 Poorest Second Middle Fourth Richest 100 75 Percent 50 19 25 0 Brazil Russian Federation India China South Africa Source: Demirgüç-Kunt and Klapper forthcoming. women are 7 percentage points less likely to line with high-income countries than devel- Along the modes-of- have an account than men. oping countries. The country’s access to access indicators of Demand-side data (surveys of users of financial institutions, as measured by bank financial services) suggest that banking branch or automated teller machine (ATM) financial inclusion, costs pose high barriers to people who are penetration, is better than India’s and the unbanked. Global Findex asks the unbanked rest of Sub-Saharan Africa’s but worse than South Africa is more about perceived barriers to using a bank Brazil’s (table 2.1). Moreover, ATM use is in line with high- account. The largest self-reported barrier much higher in South Africa than in the is a lack of money, which is in line with other BRICS countries or the developing income countries than the proportion of unbanked respondents world average. In South Africa, 89  percent developing countries reporting the same reason in the other of account holders use an ATM to withdraw BRICS countries and in other African coun- cash, compared with 42 percent in the other tries (figure 2.4). However, the unbanked BRICS countries and 49  percent in other in South Africa are almost twice as likely as developing countries. Despite this good the unbanked in other African and other showing, the self-reported barriers to access BRICS countries to cite high costs as a per- in South Africa suggest the need to establish ceived barrier and considerably more likely a more conducive and enabling environment to also cite distance, lack of documentation, for new delivery mechanisms, particularly in and low trust. a country with vast geographic segmentation. Along the modes-of-access indicators of An example is mobile and retail agent bank- financial inclusion, South Africa is more in ing, which is more cost effective in servicing Figure Self-reported barriers to formal account use, 2011 (percentage of unbanked) 2.4 South Africa Rest of Africa Rest of BRICS Not enough money Lack of trust Lack of necessary documentation Too expensive Too far away 0 25 50 75 Percent Source: Demirgüç-Kunt and Klapper forthcoming. South Africa Economic Update—Focus on Financial Inclusion Table Bank branch and automated teller machine penetration, 2011 2.1 Per 100,000 adults Branch or ATM South Africa Brazil India Sub-Saharan Africa Commercial bank branches 10.71 46.15 10.64 4.90 Automated teller machines 60.01 119.63 8.90 13.47 Source: IMF 2012. 20 lower transaction volumes, as in less densely for introducing new technologies to make it populated rural areas.12 cheaper and easier for the underbanked to use The financial inclusion challenge extends their accounts for electronic payments. beyond the 12  million unbanked people to Overall, 31 percent of South African adults millions more who are underbanked—those save formally, with a community savings club, with a bank account but who do not use it in or informally, in line with the global average a meaningful way. Of those with an account, in developing countries and the other BRICS The financial inclusion 43 percent said they used it to receive wages countries (figure 2.6). Informal savings might and 37  percent to receive government pay- include assets, such as gold or livestock, or challenge extends ments, underscoring the success of private and savings kept in the home. Of the sample of beyond the 12 million public sector initiatives to increase the use of adults who reported saving in South Africa, electronic payments. Yet, in line with the aver- 50  percent said they used a formal account unbanked people to age in other developing countries, only 18 per- (both exclusively and along with informal millions more who cent of adults reported using their account savings), higher than in the rest of Africa and three or more times a month, which would the other BRICS countries. South African are underbanked indicate using an account to manage cash and adults are also more likely to use a mix of as an alternative to holding it. Account use formal and informal savings. But formal sav- also reflects the inequalities evident in account ings, relative to informal savings only, is again access. While the share of adults who fre- much lower among lower income quintiles. quently use their accounts is higher in South Africa than in the other BRICS countries at Use of credit every level of income (figure 2.5), the dispar- Reliance on informal credit is high in South ity between the highest and lowest income Africa. At 36 percent, the share of adults with quintiles is much wider in South Africa. These informal credit is much higher than in the low use ratios compromise the objectives of other BRICS countries, the rest of Africa, faster growth and greater equality and job and other developing countries (figure 2.7). creation. They also suggest considerable scope Friends and family are the most common High-frequency use of financial accounts is greater in South Africa, but still low, 2011 (percentage of adults who withdraw money from their accounts three or Figure more times a month) 2.5 South Africa Rest of BRICS 60 40 Percent 20 0 Poorest Second Middle Fourth Richest Source: Demirgüç-Kunt and Klapper forthcoming. Formal and informal savings in South Africa are in line with savings in other developing countries, 2011 (percentage of adults who reported saving any money Figure in the past year) 2.6 Informal means only (not formal or community) Community savings clubs only Formal or community savings club Formal nancial institution only 100 75 Percent 50 21 25 0 South Africa Rest of Africa Rest of the developing world Rest of BRICS Source: Demirgüç-Kunt and Klapper forthcoming. Access to enterprise Informal borrowing is high in South Africa, 2011 (percentage of adults who credit is limited, Figure reported borrowing from formal or informal sources in the past year) 2.7 South Africa Rest of Africa particularly for Rest of the developing world Rest of BRICS 40 small and medium- size enterprises 30 Percent 20 10 0 Friends and family Formal nancial institution Informal lender Source: Demirgüç-Kunt and Klapper forthcoming. source of informal borrowing in all develop- in high-income countries and higher than ing countries. Excluding credit card debt, in the rest of Africa and the average of all only 9 percent of adults reported borrowing developing countries—less than 25  percent from a bank, credit union, or microfinance use formal credit,14 on par with other Afri- institution in the past year (most likely in can and developing countries but well lower the form of salary-based loans), in line with than in Brazil (figure 2.8).15 Access to credit or slightly higher than in other developing is likely to be lower for sole proprietors and countries. Reflecting the rise in consumer lower still for informally operating firms. hire-purchase lending in South Africa, an In recent years, banks have developed additional 11  percent reported borrowing highly profitable payroll-based lending prod- from a store, a higher percentage than in ucts that compete in the same market served other Sub-Saharan African countries and by the nonbank credit providers. African other BRICS countries. Bank (offers credit services only), Capitec, Access to enterprise credit is limited in and bigger banks now compete in this mar- South Africa, particularly for small and ket. Consequently, “unsecured lending,� medium-size enterprises (SMEs).13 While which uses well-developed and efficient real- 98 percent of formal SMEs (registered firms time payment technology to use an individ- with at least one employee) in South Africa ual’s salary to “secure� the loan, increased have a bank account—comparable to the 49  percent year over year in 2012q2 (table share in the other BRICS countries and 2.2). Notably, only a small percentage of South Africa Economic Update—Focus on Financial Inclusion Figure Financial inclusion for small and medium-size firms in South Africa, 2011 2.8 Account penetration 100 75 Percent 50 22 25 0 South Africa Brazil Russian Federation Africa Developing (2007) (2009) (2009) countries Formal credit 100 South Africa faces challenges in financial 75 inclusion, particularly Percent 50 the highly uneven access to and use 25 of financial services and the concentrated 0 South Africa Brazil Russian Federation Africa Developing (2007) (2009) (2009) countries ownership structure Note: Data for Africa and developing countries include measurement, reporting, and verification. Source: World Bank Enterprise Surveys. of the banking sector Table Total outstanding consumer credit balances, 2012q2 2.2 Balance Share of total Growth Credit type (rand billion) (percent) (year over year, percent) Mortgage 814.65 59.8 5.3 Secured credit 263.11 19.3 14.9 Credit facilities 153.57 11.3 13.2 Unsecured credit 131.31 9.6 49.3 Short-term credit 0.86 0.1 14.5 Total 1,363.48 100.0 11.1 Note: Data are based on quarterly returns from 51 large credit providers representing 95 percent of the consumer credit market. Data might not sum to total because of rounding. Source: National Credit Regulator of South Africa 2012. unsecured lending is related to microenter- inclusion, particularly the highly uneven prise lending, which typically relies less on access to and use of financial services and formal collateral and more on cash flow, rela- the concentrated ownership structure of the tionships with customers, and transaction- banking sector.16 Distance and travel costs based lending. also likely play a role, as do policy-induced distortions to incentives—such as interest Unique challenges and opportunities rate caps on lending and limitations on com- As evident from the discussion above, beyond petition in the retail payment sector. the headline figures South Africa still The South African economy is often faces considerable challenges in financial described as a “dual economy,� with a developed, high-end economy that resembles lower income segments of the population, that in Organisation for Economic Co-oper- especially in South Africa’s limited com- ation and Development countries coexist- petitive financial services markets. If banks ing with a less developed, low-end economy treated their high cost structures (for head functioning mostly in townships and infor- office, branches, ATMs, system costs) as the mal settlements in urban areas and former fixed costs they really are, they would have homelands in rural areas.17 The less devel- room to leverage these existing investments oped economy consists mostly of informal, to serve new segments at a fairly low mar- small-scale activities similar to the micro- and ginal cost. For example, several banks have small enterprise sectors of other Sub-Saharan traditionally allocated head office and other 23 African countries. The high income inequal- fixed costs to different segments based on ity generated by this segmented structure18 the number of customers per segment (or is reflected in, among other things, highly used similar methods) rather than calculat- unequal access to finance. ing the marginal cost of serving these new The banking sector is much more concen- segments. The entry of new players, such as trated in South Africa than in comparator Capitec, has demonstrated the potential to countries (table 2.3), further stifling finan- challenge the traditional cost and competi- Highly developed cial inclusion. The four largest banks (Absa tive structures. technology in the Bank, Standard Bank, First National Bank, The cost structure of banks reflects the and Nedbank), accounting for 84 percent of high concentration in the banking sector. developed, high-end banking sector assets,19 have developed into The big banks charge high fees because of large organizations, with operations and complex operations and technology systems economy offers the technology systems, compliance structures that were not designed for simple accounts; potential to provide and procedures, and decisionmaking pro- the costs of security and cash handling; and cesses better aligned with the middle-high- relatively high labor costs and organizational affordable and income population segments than with the complexity, among other reasons. FinWeek accessible payment lower income segments. This concentrated conducted a “mystery shopper� exercise in ownership structure has distorted the incen- which individuals posing as a hypotheti- and savings products tives to migrate down market. The push-down cal wealthy South African family earning in the less developed, market in banking tends to arise over time, R800,000 a year inquired about bank fees.20 as growth opportunities diminish and profit- The exercise revealed that bank fees fell sub- low-end economy ability erodes in the higher income segments. stantially between 2011 and 2012 (table 2.4), While this transition is occurring in South though they remain high in absolute terms. Africa, the big banks have struggled to meet The highly developed technology infra- the needs of potential customers in the low- structure in the developed, high-end South end economy in a financially viable manner. African economy offers the potential to pro- Inappropriate cost-allocation processes vide appropriate, affordable, and accessible further impede banks’ willingness to serve payment and savings products to the poor in Table Bank concentration in South Africa and comparator countries, 2010 2.3 Percent of banking sector assets Country Three largest banks Five largest banks South Africa 73.1 96.6 Brazil 58.6 70.3 Russian Federation 43.4 49.9 India 30.1 39.6 China 51.3 69.3 Kenya 36.2 54.4 Nigeria 35.6 50.0 Sub-Saharan Africa average 61.3 78.5 Note: Bank concentration is defined as total assets at the three (or five) largest commercial banks as a share of total commercial banking assets. Total assets include total earning assets, cash and due from banks, foreclosed real estate, fixed assets, goodwill, other intangibles, current tax assets, deferred tax, discontinued operations, and other assets. Data for Brazil and China are for 2009. Source: World Bank 2012a. South Africa Economic Update—Focus on Financial Inclusion Table Monthly bank charges in South Africa, four largest banks 2.4 First National Bank Standard Bank Absa Bank Nedbank Change Change Change Change 2012 from 2011 2012 from 2011 2012 from 2011 2012 from 2011 Service (rand) (percent) (rand) (percent) (rand) (percent) (rand) (percent) Pay-as-you-go transaction 375.88 –15.6 482.32 –38.1 530.27 –25.3 595.35 3.3 Package 273.78 –5.0 431.4 –1.6 258.47 –32.8 323 –1.3 Note: Fees quoted to hypothetical wealthy individuals in a FinWeek “mystery shopper� exercise. Source: FinWeek 2012. 24 the less developed, low-end economy. While branches of their own and introduced simi- the banking sector is considered innovative, larly low-cost and attractive transactional most of the innovation is focused on more banking products. The fact that Capitec was profitable, higher income segments thought competing with a different business model to be less risky or in segments where technol- helped drive competition. For example, While new banks ogy allows the traditional players to lower while the big banks were accustomed to pay- their risks. Lenders have not yet exploited ing lower interest rates on short-term retail have entered comprehensive credit information technol- deposits, Capitec was used to paying higher slowly, they have ogy (both data and credit scoring) to expand medium-term wholesale funding interest productive microfinance and SME lending rates. demonstrated how or invested in the technologies required to A large number of small, weakly regulated greater competition make such lending profitable. operators have emerged to cater to the less While new banks have entered slowly, they developed economy. These institutions fall can enhance product have demonstrated how greater competition into three broad categories: a large num- choice and reduce can lead to innovations that enhance product ber of informal stokvels (rotating savings choice and reduce customer costs. Consider and credit associations); financial coopera- customer costs Capitec Bank, which leveraged profits from tives, which are smaller than other financial its salary-based microlending business to institutions; and nonbank credit providers, invest in retail banking infrastructure. Pre- including microfinance institutions, which sumably, the decision to expand into retail focus mainly on salary-based or payroll lend- banking was made in part to lower Capi- ing (table 2.5). Absent in the South African tec’s cost of funding, but over time the bank financial service sector are institutions that has taken an increasing market share from specialize in leveraging relationships and the bigger banks, expanding to more than links to more informal enterprises, such as 4.2 million clients (only 1.1 million of which larger savings and credit cooperatives and are loan-only clients) fairly quickly. Nedbank, deposit-taking microfinance institutions. the smallest of the big four banks, has about Several nonfinancial businesses are mov- 5.6  million retail clients. Perhaps nudged ing into financial services, using their outlets by this competition from Capitec, some of as points of service. Large, formal consumer the big four banks have rolled out low-cost retailers such as Pick n Pay, Shoprite Table Statistics on smaller financial institutions 2.5 Gross loans and Number of Total assets advances Total deposits Type of financial institution As of institutions (rand millions) (rand millions) (rand millions) Banks (commercial/ mutual) November 2012 17/3 3,689,000 2,770,000 2,271,000 Cooperative banks March 2012 2 61 42 56 Nonbank credit providers December 2010 ~ 4,200 118,183 na na Financial services cooperative/ Savings and credit cooperative March 12 104 156.5 na 131.9 Stokvels July 2003 ~ 1,050,000 34,622.2 543.5 33,984.6 na is not applicable. Source: South Africa National Treasury; South African Reserve Bank; Co-operative Banks Development Agency. Checkers, Woolworths, and Spar have devel- cash transfers. In turn, greater financial oped into large, sophisticated organizations inclusion shows promise for more efficient with extensive distribution footprints and delivery mechanisms for social payments, have expanded into financial services. For expanding public policy options. example, Shoprite Checkers is leveraging its large footprint to offer domestic money Enhancing financial inclusion transfers (with support from Capitec Bank). The financial inclusion initiative is now well Retailers are drawn into providing financial entrenched in South Africa, in a process that services to attract customers into their stores began with the Financial Sector Charter who will then spend money on other goods almost a decade ago (box 2.2). The initiative 25 and services. Other retailers, such as Spar in encouraged financial institutions to engage partnership with Standard Bank, are follow- with a largely neglected segment of the popu- ing the Shoprite model. Clothing retailers lation. Banks have since introduced a range such as Edcon and furniture retailers such of products targeting this segment, though as Ellerines have also become very involved not yet on scale. Considerable progress was in providing credit, building extensive credit made over 2004–12, with the proportion of books that they later sold to banks.21 banked people rising from 46  percent to Recent technological Recent technological breakthroughs 67  percent.23 In addition, several well-qual- breakthroughs offer offer new opportunities to narrow the gap ified entities are now investing resources in in financial inclusion. These include cell monitoring progress, understanding key new opportunities phones and the rapid rise in mobile pay- issues, and working with the government to ment services and low-cost point-of-sale advance financial inclusion–focused entities, to narrow the gap in devices, which have created new delivery such as FinMark Trust, the Centre for Inclu- financial inclusion mechanisms for cost-effective outreach. 22 sive Banking in Africa, and the Centre for In addition to technological advances, Financial Regulation and Inclusion. changes in business models (such as the agency banking model), supportive regula- Expanding access for small businesses tory changes, and increased competition South Africa’s financial market lacks institu- from nontraditional financial service pro- tions catering to the lower end of the SME viders offer promise for financial inclusion. market. Limited access is due largely to the For example, the widespread availability high administrative costs of small-scale lend- of electronic payment technology enabled ing, the perception that risk is high in lending South Africa to become an early experi- to smaller enterprises, and small enterprises’ menter with pro-poor financial inclusion lack of collateral and financial records. In policies based on electronic payments and addition, the popularity of payroll lending Box The Financial Sector Charter 2.2 The first phase of the Financial Sector Charter, in 2004, targeted basic bank accounts, geographic access to bank infrastruc- ture, housing finance, small and medium-size enterprise finance, agricultural finance, and other aspects of financial inclusion. A major outcome was the Mzansi initiative, designed to make simple, low-cost accounts available to the poor. The charter com- mitted financial institutions to provide 0.2 percent of their after-tax profits to financial education. Phase two of the charter, initiated at the end of 2012, expanded access by going beyond traditional branches and ATMs to include alternative delivery channels that offer predefined services (such as cash out or cash deposit). Introduction of the Mzansi accounts demonstrated the strong demand among the poor for simple accounts. Product take-up was substantial, with 6 million new accounts and a 10 percent penetration rate within four years. The Mzansi initiative also increased banks’ understanding of this market. Today, the four largest banks all offer their own no-frills, simple bank accounts. However, Mzansi lost money. In-branch origination costs were high, servicing was expensive, and account transactions were very low, perhaps a reflection of banks’ inadequate cost accounting systems and limited competition. From a market perspective, banks’ commitments to specific targets need to be supplemented by reforms in the institutional and regulatory framework that encourage a broader range of financial service providers to enter the market and apply technological innovations. Reforms need to focus on reducing barriers to entry and unleashing innovative collaboration among financial institutions, retail chains, and mobile operators. Source: World Bank 2012c; Bankable Frontier Associates 2009. South Africa Economic Update—Focus on Financial Inclusion may be undercutting incentives for financial in substantial delay) or agreement between institutions—both banks and microfinance parties and the lack of a centralized reg- institutions—to venture into the microenter- istry for security interests over movable prise and small and medium-size enterprise property.25 (MSME) lending space. Given the large scale Partial credit guarantees are one way to of the problem, a few piecemeal changes are transfer and diversify risk, by encouraging unlikely to be effective, because blockages banks to lend to riskier market segments and elsewhere might prevent growth. The need is thus enabling enterprises with insufficient for a sequenced, multipronged strategy.24 collateral to acquire loans. This also enables 26 A strong determinant of banks’ involve- smaller firms to establish a repayment record ment with SMEs is the degree of market and credit history, which can reduce the competition and the amount of innovation need for collateral. Finally, in extending introduced by domestic or foreign institu- more loans to smaller businesses, lending tions. Because of higher lending costs for institutions gain experience in managing smaller enterprises (due to higher appraisal these types of loans, encouraging further and monitoring costs), commercial banks are development in this market segment. How- South Africa’s dearth reluctant to venture beyond corporate and ever, the design of partial credit guarantees retail lending unless driven into new busi- is crucial to their success (box 2.3). of microfinance ness segments by competition. In Sub-Saha- South Africa’s dearth of microfinance institutions is partly ran Africa, competition in the SME market institutions is partly related to the regula- is strongest in Kenya, where many commer- tory system, which grants licenses only for related to the cial banks contend for different market seg- commercial banks, mutual banks, coop- regulatory system ments. By contrast, bank concentration in eratives, and nonbank credit providers. A South Africa has inhibited innovation. Best microfinance institution wanting to accept practice in MSME lending is based on decen- deposits and international equity invest- tralized outbound models, not the inbound ments to finance its growth would require centralized business models popular among a full commercial bank license, with a the large commercial banks in South Africa minimum capital requirement of R250 mil- (and elsewhere). lion, too high for an institution focused on Despite a legal framework that allows the MSME lending. A credit-only license, the use of movable assets as collateral, South same institutional structure used by payroll African lenders appear reluctant to do so. lenders, is currently the only viable option Because MSMEs rarely have immovable for microfinance institutions and requires assets, such as land and property, movable them to access wholesale funding. Regula- assets are widely used as collateral in inter- tory systems in some other countries have national MSME lending. The hesitancy of found better ways to support the develop- South African lenders relates to difficulties ment of this market (box 2.4). The Dedi- in realizing interests in movable property, cated Banks Bill, which has been on and off which requires a court process (resulting the table for a decade, proposes a suitable Box The role of partial credit guarantees in expanding lending to smaller firms 2.3 Several factors are crucial in the design of partial credit guarantees, such as size of coverage, designation of the party responsible for assessing credit risk, and criteria for payment of the guarantee in case of loan delinquency. Requiring such schemes to be financially self-sustaining is likely to be inconsistent with the “infant industry� objective of encouraging banks to expand the scope of their credit exposure to microenterprises and small and medium-size enterprises. Partial credit guarantees can influence both access to financing and performance. For example, a study of the partial credit guarantees of the Fund for Small Businesses in Chile (FOGAPE) found evidence of improved access to credit and enhanced economic activity. FOGAPE is administrated by a government agency and covers loans totaling more than $500 million, with an average coverage ratio of 65 percent. FOGAPE’s success stems from a strong regulatory and supervisory system, transparent guarantee allocations (through a sealed bid auction), an extensive publicity campaign explaining the benefits of the program, and training programs to enable commercial bankers to better understand the product. Financial institutions also participate on FOGAPE committees, which engage the banking community. Source: Fuchs and others 2011; Larraín and Quiroz 2006; Llisterri and others 2006. Box Supportive microfinance regulations in other countries 2.4 Many developing countries have developed special regulations for deposit-taking microfinance institutions that typically include lower minimum capital requirements than for commercial banks, similar or higher capital adequacy and liquidity ratios, and a tighter provisioning schedule for nonperforming loans, which are typically unsecured. Kenya introduced a separate deposit-taking license for microfinance institutions in 2008. As of February 2013, eight micro- finance institutions were licensed to take deposits from the general public. They are regulated by the Central Bank of Kenya under the Microfinance Act of 2006 and the 2008 regulations. Two types of licenses are offered: one for national microfinance institutions, with a minimum capital requirement of 60 million Kenyan shillings (approximately R6.1 million), and one for com- munity institutions, with a minimum of 20 million Kenyan shillings (approximately R2 million). Regulations are aligned closely with commercial bank regulations, including a capital adequacy ratio of 12 percent and a minimum liquidity ratio of 20 per- 27 cent. Deposit-taking microfinance institutions are required to hold a higher share of core capital, however—10 percent of risk-weighted assets, compared with 8 percent for commercial banks. regulatory framework in support of smaller contestable and proportionately regulated banks that focus on finance for small payment sector, leveraging the national pay- businesses. ment system for financial inclusion, and con- Several recent Interest rate caps may also have discour- necting the less developed economy. initiatives promote aged financial institutions wanting to lend to MSMEs. Rates are the same for secured and Introducing a tiered Know Your Customer financial inclusion unsecured loans (table 2.6), even though the framework risk is fundamentally different. In addition, Several innovative schemes have granted for individuals the recent drop in the repo rate has low- exemptions to some of the documentation ered effective interest rate caps. South Afri- requirements that have impeded use of for- can stakeholders are therefore considering mal financial services. The exemptions were a floor for maximum interest rates so as to designed to facilitate specific market inno- not further discourage lending, especially to vations. In preparing to launch the Mzansi MSMEs. initiative in 2004, the Minister of Finance amended Exemption 17 (2004) of the Finan- Expanding access for individuals cial Intelligence Centre Act of 2001, exempt- Noteworthy initiatives promoting financial ing banks from having to verify a customer’s inclusion for individuals are using the tiered address for some lower risk accounts (includ- Know Your Customer (KYC) framework ing a maximum balance of R25,000 and max- to promote simplified bank accounts and imum daily and monthly transaction limits of mobile banking, regulating financial coop- R5,000 and R25,000). This positioned South eratives, expanding use of electronic pay- Africa as a leader in the use of risk-based ment of social grants, improving consumer KYC. In addition, to realize the full benefits protection and market conduct, creating a of mobile banking, General Notice 6 allows Table Maximum interest rates on loans 2.6 Maximum interest rate (annual percent) Subsector or type of credit 2008 2013 Maximum interest rate formulaa Mortgage loan 31.4 16 RR x 2.2 + 5 percent p.a. Other credit agreements 36.4 21 RR x 2.2 + 10 percent p.a. Credit facilities 36.4 21 RR x 2.2 + 10 percent p.a. Unsecured credit transactions 46.4 31 RR x 2.2 + 20 percent p.a. Short-term credit transactions 5.0 (monthly) 5.0 (monthly) 5 percent a month Developmental credit agreements 46.4 31 RR x 2.2 + 20 percent p.a. Note: Credit facility is an overdraft or credit available on a credit card; unsecured credit is a credit transaction unsupported (unsecured) by a pledge or other right in property or other form of personal security, such as a personal loan; short-term credit transaction is a transaction of R8,000 or less repayable within a maximum of six months, such as a microloan; developmental credit agreement is a loan for the development of a small business or unsecured low-income housing. a. RR is repo rate; p.a. is per annum. Source: National Credit Act of South Africa 2005. South Africa Economic Update—Focus on Financial Inclusion for non-face-to-face account opening subject banks’ ATM networks and offer low-cost with- to lower transaction limits on the account drawals and payments. (R1,000 per day).26 There are some challenges in using these Expanding use of electronic government payments allowances, however. For example, Wizzit, a South Africa makes more than 15  million mobile banking provider, argues that a lack social grant payments to approximately of clarity from regulators on the interpreta- 9.2 million beneficiaries each month, totaling tion and application of the exemption has more than R105 billion a year.29 This offers a seriously hampered its progress. Wizzit is tremendous opportunity for the South Afri- 28 not the only nonbank to argue that banks can Social Security Agency (SASSA) to take tend to interpret the regulations too cau- advantage of advances in electronic payment tiously, in part due to harsh penalties for systems to promote broader financial inclu- noncompliance.27 In addition, subsidiaries sion. In 2012, SASSA awarded a contract to of foreign-owned banks are still subject to Cash Paymaster Services, a subsidiary of Net KYC requirements in their home countries, 1. Net 1, which offers a biometric identifi- and domestic banks have the discretion to cation process, has partnered with a small South Africa’s require additional verification. local bank, Grindrod, to offer MasterCard- branded interoperable debit cards to grant 15 million social grant Regulating cooperative financial institutions recipients.30 These cards could theoretically payments each month The cooperative banking sector, which aims be used on the more than 170,000 ATMs and to provide banking services at lower fees, point-of-sale devices in the country, 31 but offer an opportunity remains insignificant, despite the intro- only once the face-to-face biometric verifi- to use electronic duction of the Co-operative Banks Act and cation has occurred. 32 SASSA account use associated regulations in 2007. All financial is reportedly limited and focused on cash payment systems cooperatives with more than R1  million in withdrawals (see below). There is clearly an to promote broader deposits and 200 members are required to opportunity to promote more meaningful register and be regulated under the act (see financial inclusion for SASSA grant recipi- financial inclusion annex 1 for details on regulations). While ents. This would require customer educa- there were 106 cooperative financial institu- tion and a better understanding of customer tions with total assets of R217.5 million and needs. 53,240 members at end-February 2012, only 2 were registered and 19 were eligible for Improving consumer protection and market conduct registration. Of the cooperative financial Building trust among the poor, who have institutions assessed during 2011/12, none been excluded from formal banking, is managed to address the weaknesses noted by important for financial inclusion. One way the supervisors and were therefore unable to to build that trust is to improve transpar- register as cooperative banks. ency and fairness through consumer protec- The National Treasury is introducing tion provisions focusing on bank disclosure amendments to the Cooperatives Bank Act requirements and through financial educa- to move the supervisory function from the tion campaigns. While market conduct reg- Co-operative Banks Development Agency ulations have been strengthened, mandates (CBDA) to the South African Reserve Bank of the National Credit Regulator, the Finan- (SARB). Prudential supervision of financial cial Services Board (FSB), and the National intermediaries is being concentrated under Consumer Commission still overlap, and the SARB. The focus of the CBDA will shift enforcement remains a major concern. As to its new mandate of regulating cooperative personal indebtedness has increased, the financial institutions that operate outside lack of enforcement has also become cause the ambit of the act but in compliance with for concern. a new exemption notice.28 The CBDA will Household debt has become a rising prob- continue to support the cooperative bank lem in South Africa over the last decade. network with such initiatives as developing According to the SARB, debt accounted a payments platform for cooperatives, along for some 76  percent of households’ dispos- with an unbranded (“white label�) card, to able income as of 2012q2. 33 In June 2012, allow cooperatives to access and leverage the the National Credit Regulator reported that of the 19.6  million credit-active consumers others are under way, but they are not ade- covered by the credit bureaus, 9.22  million quately coordinated or monitored for effec- (47  percent) had impaired records. 34 The tiveness, making it difficult to judge their share of consumers with impaired records impact. Box  2.5 summarizes experiences has been above 45 percent since December with several successful financial education 2009, highlighting this as a structural prob- programs in Brazil and South Africa. lem on both the supply and demand side. On the supply side, lending appears to be taking Creating a contestable and proportionately regu- place without appropriate consideration of lated payment sector affordability, while on the demand side, low South Africa’s national payment system, 29 financial literacy seems to be leading to poor though world class, is not yet properly lev- financial decisions. eraged for financial inclusion. Enhancing Clarifying the roles and responsibilities information flows within the economy could for regulating market conduct and assigning provide the foundation for microsavings, regulation to a single regulator, in line with microinsurance, and microenterprise credit the proposal by the National Treasury, could and foster the survival of informal businesses improve consumer protection and strengthen (box 2.6). In South Africa, the majority of South Africa’s national oversight and enforcement. That proposal adults and small firms function in a high- payment system, envisages expanding the FSB’s market con- risk, high-cost cash economy largely decou- duct role by creating a dedicated banking pled from the electronic payment network though world class, services market conduct regulator within the and the formal economy. 36 Changing this FSB that encompasses the National Credit requires more competition in the market is not yet properly Regulator, in line with plans to separate pru- for retail payment services. Capacity is not leveraged for dential and market conduct regulation. the issue, with the current payment system The National Treasury has also proposed operating well within its means. Nor is a lack financial inclusion developing a national financial education of effort; banks and other service providers strategy with risk-based priorities, an action are developing innovative payment solutions, plan, and clearly assigned responsibilities. A though none has achieved adequate scale. 2011 FSB study found financial literacy levels Various retailers, mobile network opera- to be low to moderate, depending largely on tors, and other nonbank third parties are education and income in South Africa’s dual interested in offering retail payment services, economy.35 The FSB has undertaken several but they are stifled by regulations that allow financial education initiatives, and many market entry only in partnership with a bank. Box Successful financial education programs in Brazil and South Africa 2.5 Evidence is growing on what makes a financial education program successful. An evaluation of a pilot three-semester high school–based financial education program in Brazil found that it significantly improved students’ financial knowledge, atti- tudes, and behavior. The pilot program, running over April–December 2011, involved 891 schools in five provinces and reached 26,000 students. The program selected students in their last two years of secondary school because they were closer to becoming economically active and thus closer to making a wider range of financial decisions. It aimed at building skills through exercises relevant for this age group, such as applying for jobs and planning events. The curriculum was designed with a multidisciplinary approach and involved parents, both to support students’ learning and to promote behavior change in the household. The program is expected to be rolled out nationally. Television and radio have been used to deliver financial education messages in South Africa. These interventions have the potential to reach a large audience. One project produced financial capability storylines for inclusion in a popular South African soap opera called “Scandal!�. The program aimed at enhancing knowledge, attitudes, and behavior in making sound financial decisions, with a focus on debt management. An impact evaluation showed improvements in content-specific financial knowledge, affinity for formal borrowing, less use of hire-purchase deals, and less gambling—all messages conveyed in the soap opera’s storyline. A televised public call to action on seeking financial advice through the National Debt Mediation Association led to a significant upsurge in calls immediately after the messages were aired. However, the effect dissipated over time, suggesting the need for complementary interventions to reinforce the message. Overall, the study shows significant and favorable impacts on financial knowledge and behavior. Source: Bruhn, Legovini, and Zia 2012; Berg and Zia 2013. South Africa Economic Update—Focus on Financial Inclusion Box Banco Azteca/Grupo Elektra in Mexico leverages consumer goods retailer information 2.6 In 2002, Mexico’s Banco Azteca opened branches in all the stores of its parent company, Grupo Elektra, a large consumer goods retailer. This allowed Banco Azteca to establish 800 branches at once, creating the second largest branch network in Mexico. Banco Azteca catered to low- and middle-income groups, which had been mostly excluded from commercial banking. Capi- talizing on Grupo Elektra’s decades of experience in making small installment loans for its merchandise, its rich data, and its well-established information and collection technologies, Banco Azteca was uniquely positioned to target this segment of the population, which it estimated at more than 70 percent of households. Many of these households were part of the informal economy, operating small businesses that lacked the documentation necessary for obtaining bank loans. 30 An impact evaluation of the expansion of access to finance to low-income individuals suggests that Banco Azteca helped informal business owners keep their business running instead of becoming wage earners or unemployed. As a result of this rise in informal businesses and employment, income rose an average of 7 percent. The impact was more pronounced for individuals with incomes below the median, which was the population targeted by Banco Azteca, and in municipalities that had been underserved by the formal banking sector. There is no viable tiered licensing framework interpreting regulations and approaching new Retailers, mobile for nonbank service providers that separates market segments. Taken together, these fac- the provision of payment services from bank- tors discourage innovative new competitors network operators, ing services. International experience shows and products. There is a conflict of interest in and other nonbank that separating payments from other bank- the bank not wanting to create a competitor ing business to level the playing field tends to to its core business and not wanting to canni- third parties are be effective (box 2.7). balize margins in its core business. In addition, interested in offering Regulatory requirements inhibit entry there is often duplication in the processes of and innovation in a variety of ways. First, nonbanks and banks that participate in such retail payment partnering with a bank means an extra party regulation-induced collaborations. Compli- services, but they are to share the revenue within an already low- ance is a good example: the nonbank invests margin business. Second, negotiations and in compliance only to have the bank disre- stifled by regulations logistical collaboration can delay the time to gard the results and re-evaluate the nonbank’s market, raising the cost and diminishing the approach on its own. Regulation needs instead viability of delivering new financial services. to support innovation while still reflecting Third, banks, with their traditional business risk. The mechanism needs to be appropri- model and focus, are often conservative in ate for the local environment, to encourage Box Leveling the playing field for payments in the European Union 2.7 The 2009 EU directive on electronic money defines it in a technology-neutral way. The definition covers all situations in which a payment services provider issues a prepaid stored value in exchange for funds to be used for making payments. Therefore, for instance, a reference to “payment institutions� is now read as a reference to an electronic money institution and a reference to a “payment service� as an activity of payment services and issuing electronic money. Crucially, electronic money institutions can now be involved in distributing electronic money, including selling or reselling electronic money products to the public and providing means of distributing electronic money to customers, including topping- up and redeeming electronic money on the request of customers through agents. However, electronic money institutions are not allowed to pay interest tied to the length of time electronic money is held by the institution. The conditions for granting authorization to electronic money institutions include prudential requirements that are pro- portionate to the operational and financial risks faced in the business related to the issuance of electronic money, indepen- dent of any other commercial activities carried out by the electronic money institutions. The directive also establishes a proportionate regime for initial capital combined with one for ongoing capital, analogous to the capital requirements for credit institutions (banks), to ensure adequate user protection and the sound and prudent operation of electronic money institutions. Electronic money institutions are also subject to effective rules to prevent money laundering and the financing of terrorism. The issuance of electronic money is not viewed as a deposit-taking activity related to the business of credit institutions (banking). Electronic money institutions are not allowed to provide credit (loans) from the funds received or held. This preserves the level playing field between electronic money institutions and banks with regard to the issuance of electronic money—to ensure fair completion for the same service among a wider range of institutions for the benefit of users. Source: Official Journal of the European Union 2009. competition and to be proportional to the certain aspects of financial services—retail- level of risk introduced by the product or ser- ers to acquire customers and mobile network vice offered and the values involved. operators to serve customers more cost-effec- The large mobile network operators and tively, for example (figure 2.9). organized retail chains are well placed to Post offices could be used to provide pay- offer certain financial products in a cost- ment and savings services in more remote effective and competitive m ­ anner—not areas, if not credit, which requires a skill set least because of the extensive, and often (not least in evaluating credit risks) that goes better positioned, footprint of large retail- beyond the capacity of post offices. The fran- ers and the communication channels and chising model used by Banco Postal in Brazil 31 distribution networks of the mobile net- offers a useful model (box 2.8). work operators. It could also be argued that both retailers and mobile network operators Leveraging the national payment system for finan- have more experience in dealing with lower cial inclusion income retail customers. Analysis by the Con- The highly uneven use of financial and pay- sultative Group to Assist the Poor highlights ment services in South Africa suggests that the benefits of branchless banking and how promoting wider use of the national pay- The large mobile some players are better positioned to offer ment system could exploit complementarities network operators and Estimated cost of providing financial services-benefits of branchless banking: organized retail chains banks, mobile network operators, retailers, and a hypothetical initiative Figure leveraging assets of each are well placed to offer 2.9 Cost to serve ($ per customer per month) financial products in Safe store value ($ per customer per month) Acquisition ($ per customer) 15 a cost-effective and competitive ­manner 10 Banks, mobile network operators, retailers combining to leverage $ their respective comparative advantages 5 0 Banks Mobile network operators Retailers Best-in-class actors Note: Best-in-class actor is hypothetical and does not incorporate the costs of collaboration, which can vary substantially depending on the relationship between the parties and the engagement model but which needs to be taken into account. Source: Consultative Group to Assist the Poor estimates of retail, bank, and mobile network operator economics 2011. Box How post offices can contribute to financial inclusion 2.8 In 2000, a project was launched to establish the Brazilian Post as a banking correspondent (agent), providing basic banking services through its retail network. Bradesco, a private bank, was chosen as the bank partner, providing Brazilian Post with financial sector expertise and investing in the modernization of its network and infrastructure. Bradesco handled the cash logistics. Bradesco benefited from the Post’s large network to offer its services in quickly developing rural areas. Banco Postal is not a subsidiary of the Post. Nor is it regulated directly by the central bank, because it does not offer its own services. The partner bank is responsible for all regulatory and compliance issues, while Banco Postal acts as an agent for its financial services partner. Banco Postal is the most successful postal financial inclusion model in terms of the number of unbanked people eventually entering the formal financial system. Over 2002–11, 10 million accounts were opened in partnership with Bradesco Bank. Dur- ing the 10 years of partnership, Banco Postal opened more than 6,300 postal bank branches, sometimes in places where there were no banking services at all. In these branches, people could open accounts; make deposits and withdrawals; check account balances; apply for loans; request credit cards; pay bills, invoices, and taxes; and receive government social benefit payments. On December 31, 2011, Brazil Post ended its first partnership with Bradesco and started a new cycle with Banco do Brasil as the exclusive partner for financial services. South Africa Economic Update—Focus on Financial Inclusion among public policy objectives. According electronic payment instruments, particularly to the Bank for International Settlements, among underbanked segments of society. national payment systems can incorporate There are useful lessons from the experi- public policy needs in addition to safety ences of advanced economies in developing and efficiency, especially for retail payment broad-based access and from the use of retail systems.37 payment systems. For example, the Danish The 2008 Banking Enquiry Report ques- central bank, while optimizing system effi- tioned the process by which interchange in ciency and security, was equally focused on various payment streams was being set.38 Fol- developing the national payment systems 32 lowing consultation among the Competition jointly with market participants, lowering Commission, the National Treasury, and the transaction costs for services, and emphasiz- SARB, it was agreed that the SARB would ing financial inclusion (box 2.9). facilitate a review of the determination of interchange in South Africa. This project is Connecting the low-end, less-developed economy well under way, with an auditing firm now The low connectivity between the developed, developing a cost-based estimate of inter- high-end economy and the less developed, The low connectivity change in various payment streams. low-end economy has affected the extent The interchange-determination process (and pace) of the spread of financial inclu- between the gives the SARB an opening to incentivize sion from the top down. Once adopted, developed, high-end the behavior of financial institutions, small technologies with network effects, such as businesses, and individuals in line with the payments, often spread rapidly. The benefits economy and the objective of shifting toward efficient elec- of adopting such network technologies rise less developed, low- tronic payment to address the segmented exponentially as adoption spreads. The more use of the national payment infrastructure.39 people and businesses that use electronic end economy has Incentives could prioritize broader objec- payment mechanisms, the more costs fall and affected the spread tives, such as financial inclusion and use of penetration increases. of financial inclusion Box The experience of Danmarks Nationalbank with expansion of the national payment system from the top down 2.9 According to Danmarks Nationalbank, the Danish central bank, milestones in the evolution of the Danish national payment systems were the result of the emergence of new payment instruments, the establishment of new institutions to channel and process payments, and the development of new rules, procedures, and systems driven by the need to optimize efficiency and security of systems. The introduction of salary accounts (basic transactional accounts) in the early 1960s generated the need for secure and easy remote access to accounts. Checks emerged as the payment instrument of choice and were in widespread use in Denmark until the mid-1980s. In the late 1960s, Danish banks and savings banks set up a payment systems committee to coordinate initiatives in retail payments and develop joint infrastructure for processing payment transactions. In 1975, the banks estab- lished a joint venture, Payment Business Services, to design a national payment card, the Dankort, which was launched in 1983. Following the Dankort’s introduction, the Payment Card Act of 1985 stipulated that card issuers’ cost of operating the payment system could not be passed on to the recipients and that the Dankort should be free to use for consumers and retailers. In 1988, Payment Business Services and the Danish bankers association and savings bankers association launched the Visa/Dankort, giving customers a choice between the traditional Dankort and a cobranded Visa/Dankort that could be used both nationally and internationally. In 1999, an amendment to the Payment Card Act relaxed the prohibition on charging fees for customers’ use of the pay- ment card, provided that the following conditions relating to competition, cooperation, and interoperability were met by 2001: • Multiple banks issued the Dankort. • Multiple banks acted as acquirers of Dankort transactions. • Banks did not prohibit retailers from using the same terminals for all payment cards, whether a Dankort or other card. • Acquirers of Dankort transactions did not prevent the retailers’ Dankort terminal from being connected to the terminal of acquirers/operators other than the banks’ or Payment Business Services. From 2005, banks were authorized to charge businesses up to a ceiling fee when Dankort cards were used. Danmarks Nationalbank participates, to a limited extent, in the Danish payment infrastructure on a par with other financial institutions. This applies, for instance, in the settlement of retail payments and securities transactions. The central bank’s tasks in this con- nection do not differ from those performed by any other bank. Source: Danmarks Nationalbank 2005. Early adoption by the wealthier, often more meet the needs of poorer segments of the technology savvy segments of society is not population. peculiar to South Africa. However, weak links between the two economies have slowed What next? the spread of electronic payment mecha- While the first generation of policies embod- nisms. Kenya’s M-Pesa (a mobile-phone based ied in the Financial Sector Charter has money transfer and microfinance service) achieved considerable success, the authorities was initially highly skewed toward wealthier, recognize the need to do more. The National already banked individuals, but it quickly Development Plan targets an increase in the spread to the broader population. The share share of the population with access to trans- 33 of poor people living outside Nairobi that actional banking services and savings facili- use M-Pesa grew from 20 percent in 2008 to ties from 63 percent in 2011 to 90 percent in 72 percent in 2011.40 While Kenya is unusual 2030.41 It also highlights areas for prioritiza- in the speed with which M-Pesa spread to tion, such as broadening access to banking poorer segments of the population, its expe- services, reducing costs through competitive rience highlights the opportunity for South pressures and lower infrastructure costs, and Africa to prioritize alternative, appropriately expanding credit for productive investments Although new, low-cost tailored approaches. and working capital, especially for small and banking products have The delivery of social grants is a great expanding firms. The government and the opportunity for advancing financial inclu- private sector are to work together to boost reduced the share of sion of lower income population segments. business lending. Once the social grant transfer system recently Compared with other developing coun- unbanked people, they introduced by SASSA has stabilized, ways tries, South Africa was early to commit to have increased the could be explored to link it with the bank- policies for financial inclusion, developing ing system to bring grant recipients into the a sophisticated financial sector deploying share of underbanked formal financial system. the most advanced technological solutions. people because of low Using social cash transfers to advance This first-world financial sector is highly con- financial inclusion has multiple ­advantages— centrated—with just four large banks—and use of the products for beyond payments (box 2.10). Achieving that services the advanced segment of the South payments and savings requires a holistic approach that includes African economy well. But coexisting with improved communication on product fea- this high-end segment of the economy is a tures and pricing, along with financial severely underserviced developing economy education more broadly. Correcting misper- segment similar to those throughout Africa. ceptions about savings leading to ineligibil- Even initiatives that have provided this low- ity for cash transfers is also important, as is end segment with some access to low-cost developing incentives to promote savings banking services, such as the low-cost Mzansi (as is being piloted in Columbia). Encourag- accounts, have not lived up to expectations. ing use may also require providers of social Although these products have reduced grants to develop simpler products that the share of unbanked people, they have Box Social cash transfers and financial inclusion 2.10 A study by the Consultative Group to Assist the Poor in four middle-income countries (Brazil, Colombia, Mexico, and South Africa) on early evidence on social cash transfers and financial inclusion found that recipients are unlikely to automatically use their new bank account to do anything other than withdraw their benefits. Realizing the full benefit of these accounts through increased use of payments, savings, credit, and insurance products remained a challenge. However, interviews and focus groups with more than 400 grant recipients revealed the logic behind this limited use. For example, grant recipients are often unaware that these accounts can be used for savings and other purposes. Many recipients are concerned that accruing funds in the account could make them ineligible for future benefits. Confusion and anxiety related to fees also lim- ited use. Finally, the products were designed to meet a basic payment need; little thought had been given to customer’s sav- ings needs. The report notes that the “existence of a mainstream financial account at least creates the potential for recipients to use other financial services (beyond savings) over time, unlike the more limited purpose options.� Source: Bold, Porteous, and Rotman 2012. South Africa Economic Update—Focus on Financial Inclusion increased the percentage of underbanked developed economy for the benefit of its less people because of the very low use for formal developed economy. South Africa is at the payments and savings. And public policy ini- forefront of applying advanced technologi- tiatives, such as the tiering of KYC require- cal solutions to financial intermediation, as ments introduced by SARB, suggest a need exemplified by the national payment system to re-examine the effectiveness of these and and the advanced information exchange pro- other initiatives in providing affordable and vided by credit bureaus. accessible financial products to the poor. While the big four banks have made Crucially, South Africa lacks institu- efforts to innovate in servicing the less 34 tions devoted to the financial service needs developed economy, the results have been of the underbanked and unbanked. The uneven and halting. This partly ref lects stalling of experiments in mobile money the business profile and cost structure of and the absence of deposit-taking small the large, vertically integrated banks and and microcredit providers suggest missed aspects of the regulatory structure, which opportunities. have not been conducive to inclusion. For Rapid growth in salary-based lending example, only banks can provide payment There could be demonstrates the strengths and weaknesses services and collect deposits. While South of financial service provision in South Africa. Africa’s big banks do a capable job of ser- high payoff from This growth depends on the high percent- vicing the advanced economy, their limited introducing a tiered age of adults who are banked and the high inroads into servicing the less developed technology security available to banks to economy suggests that there are high oppor- licensing system that secure loan repayments against salary pay- tunity costs in restricting market entry to opens the market ments. So, although this type of loan is called banks alone. “unsecured,� it is in reality heavily secured. Global experience shows that less to institutions that And small and microenterprises have shared endowed segments of the population are can service unbanked in very little of this lending growth. This best serviced by specialized institutions with has raised serious concerns about consumer a cost structure and business model adapted and underbanked overindebtedness and loan impairment. On to their needs. There could be high payoff individuals and small the positive side, the resulting focus on weak- from introducing a tiered licensing system nesses in the regulatory structure, particu- that opens the market to institutions that and microenterprises larly governing market conduct (most notably can tailor their services to unbanked and in consumer protection and financial literacy underbanked individuals and small and initiatives), and recognition of the need for microenterprises—such as smaller, dedi- more streamlined and effective regulation cated banks and financial institutions with that separates prudential and market con- restricted licenses that can provide payment duct regulation are welcome. But the funda- services. With government already commit- mental challenge of developing innovative ted to reform, the time is right to encourage initiatives that bridge the financial inclusion private sector initiatives that can harness gap remains unaddressed. technology and design products that will Doing that requires harnessing the expand financial inclusion and reduce comparative advantages of South Africa’s inequality. Annex 1 Financial institutions and regulatory requirements Prudential requirements Minimum Capital–asset Liquidity Regulatory Type of financial Deposit Credit capital ratio ratio status institution taking provision (rand million) (percent) (percent) Law/regulation Supervision/oversight Banks Act (1990) South African Commercial bank Yes Yes 250 9.75 5 and regulations Reserve Bank Mutual Banks South African Mutual bank Yes Yes 10 10 5 Act (1993) and Reserve Bank regulations Primary savings Yes Subject to No 6 10 South African cooperative bank (members only) prudential Reserve Bank regulation Primary savings and None, but Yes (> R20 million loans cooperative Yes minimum of 6 10 Co-operative (members only) deposits) bank 200 members Banks Act (2007) and deposits and regulations Co-operative Banks Secondary Yes Development Agency Yes of R1 million cooperative bank (members only) (< R20 million Not yet defined Tertiary cooperative Yes deposits) Yes bank (members only) Microfinance National Credit National Credit No Yes na na na institution Act (2005) Regulator Financial services Banks Act Not subject cooperative/ Yes Co-operative Banks Yes na na na Exemption Notice Development to prudential Savings and credit (members only) Agency 35368 (2012) regulation cooperative Yes Yes National Stokvel Stokvels (only from (only to na na na Association of South members) members) Africa na is not applicable. Source: Applicable laws and regulations. 35 Notes 1. Parts of this section on global economic interested non-G20 countries, and rele- prospects draws on the Developing vant stakeholders to carry forward work Trends report of March 2013 prepared on financial inclusion, including the by the Development Economics group of implementation of the Financial Inclu- the World Bank. sion Action Plan, endorsed at the G20 2. In South Africa, FDI f lows were up Summit in South Korea in December 41  percent for the first three quarters 2010. In its most recent public report, of 2012 from the same period in 2011, the G20 agreed to “take the financial mainly because of a strong recovery inclusion agenda forward� and to “assist (from $812 million in q2 to $2.7 billion countries, policymakers, and stakehold- in q3). ers in focusing global efforts on measur- 3. IMF 2013. ing and sustainably tracking progress 4. World Bank 2011. on access to financial services glob- 5. These results are similar to those of ally.� Notably, the Global Partnership Ehlers, Mboji, and Smal (2013), who use for Financial Inclusion Data and Mea- an average estimate of four approaches surement and Small and Medium-Size to measuring potential growth to esti- Enterprise Finance Working Groups mate that South Africa’s potential GDP are cochaired by South Africa. Further, growth rate declined from 3.9  per- according to a recent survey of bank cent over 2000–07 to 2.8  percent over regulators across 143 jurisdictions, 2008–10. 67  percent of regulators are charged 6. The year-average South African Cham- with promoting financial inclusion ber of Commerce and Industry Business (Cihak and others 2012). Confidence Index fell 6.3 points (from 8. Insurance and retirement savings are 100.4 to 94.1) in 2012 from 2011. The beyond the scope of this Update. index average similarly fell 4.2 points in 9. Global Findex is the Global Financial 2013q1 compared with the same time in Inclusion Database, which includes the previous year. indicators of financial inclusion for 7. Among policymakers, interest in the 148 economies (http://go.worldbank. potential transformative power of finan- org/1F2V9ZK8C0). cial inclusion has clearly increased. 10. FinScope. In international forums, such as the 11. FinScope. Group of Twenty (G20), financial inclu- 12. CGAP 2012. sion has moved up the reform agenda. 13. See, for example, Beck, Demirgüç-Kunt, The G20 recently created the Global and Maksimovic (2005, 2008); Beck and Partnership for Financial Inclusion, an Demirgüç-Kunt (2006); and Beck and inclusive platform for all G20 countries, others (2006). 37 South Africa Economic Update—Focus on Financial Inclusion 14. There is a formal/informal dichotomy reach more than 68  percent of the at play here; with the access-to-credit population. problem much more severe among 23. Finmark Trust 2012. The reported per- informal sector SMEs. Formal SMEs centage of banked adults in Findex is in South Africa are less likely to report higher than the percentage reported in being credit constrained than in other the Findex database because of differ- Sub-Saharan African and developing ences in the questionnaire. countries globally, according to the 24. See Fuchs and others (2011) for further 2007 World Bank Enterprise Survey. For discussion. 38 instance, while more than 40  percent 25. See World Bank (2012c) for more details. of South African firms reported crime 26. General Notice 6/2008 issued in terms and theft as a business constraint, only of Section 6(5) of the Banks Act, 1990: 7.5  percent reported access to finance Cell-Phone Banking. as a constraint, compared with 45  per- 27. CGAP 2011. cent of firms on average in Sub-Saharan 28. The new exemption notice replaces the Africa and 31  percent globally. This is previous exemption notices, which stipu- explained in part by South Africa’s rela- late the Small Enterprise Finance Agency tively highly (vertically) integrated enter- and the Savings and Credit Cooperative prise structure, resulting in high supplier League as the supervisors of the finan- credit and buyer credit (or prefinanc- cial services cooperatives and savings ing). For instance, 50 percent of SMEs in and credit cooperatives, respectively. South Africa reported that they did not 29. MasterCard 2012. need a loan, compared with 40 percent 30. The MasterCard branding offers func- globally. tionality (for example, by allowing cards 15. World Bank Enterprise Surveys. to be used abroad) that is unlikely to be 16. Another factor making delivery of finan- relevant to recipients of social payments cial services more difficult in South and that adds considerably to the cost Africa is pervasive crime. For exam- of the debit cards. As yet, no domestic ple, ATM bombings have become an issuer has issued interoperable cards that additional cost for the banking sector, were not MasterCard- or Visa-branded. while cash in transit hijackings are not 31. The Banking Association South Africa uncommon. 2012. 17. As argued by Philip (2010), both ends 32. The capability for voice verification is of the economy are products of the currently being developed. Once that same inequality-breeding superstruc- is available, recipients should be able to ture whose roots were planted during do voice biometric verification from any- apartheid. where and therefore not need to visit an 18. With an income Gini of .70 (measured in SASSA biometric verification point. 2010), South Africa has one of the high- 33. South African Reserve Bank 2012. est recorded levels of inequality in the 34. National Credit Regulator of South world (World Bank 2012b). Africa 2012. 19. The Banking Association South Africa 35. Having a household budget, typically 2012. indicative of a higher awareness of finan- 20. Such mystery shopping exercises are par- cial management, is strongly correlated ticularly useful in revealing differences with income: 79  percent of households in user costs across institutions for stan- in the richest income quintile reported dard “bundles� of services. having household budgets compared 21. Ellerines was acquired by African Bank with 36 percent in the poorest (Berg and in 2008 for more than R9 billion (Cairns Zia 2013). 2011), while Edcon recently sold its store 36. While approximately 47  percent of cards to Absa for approximately R10 bil- small businesses reported having a bank lion (Kew and Bonorchis 2012). account in 2010, 89  percent reported 22. See, for example, Jack and Suri (2011) paying their employees in cash (FinMark on Kenya, where mobile payments now Trust 2011). 37. Bank for International Settlements 2005. transactions the fee is paid from the issu- 38. “Interchange is a mechanism that ing bank to the acquiring bank. (South enables both the issuing bank and the African Reserve Bank 2011). acquiring bank to offer or support a 39. There are large differences in the fees payment product and/or service and charged by banks for customers using ensures that both the paying client and ATMs within the bank’s own network the beneficiary would wish to use the and the fees charged to use other banks’ payment product and/or service.� Inter- networks. ATM interchange needs to change can flow from an acquirer (the be carefully balanced to encourage the merchant’s bank) to an issuer (the card- continuing roll out of ATMs while also 39 holder’s bank) or vice versa. For card encouraging rational use. transactions at point-of-sale interchange 40. Suri and Jack 2012. flows from the acquirer to the issuer 41. 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