karikari: govn & findev aec20101 Governance, Financial Liberalization, and Financial Development in Sub- Saharan Africa John A Karikari * Assistant Director Center for Economics US Government Accountability Office (GAO) Washington, DC, USA African Finance & Economics Association (AFEA) President-Elect *The opinions expressed herein are those of the author and do not necessarily reflect those of the GAO or the US federal government.

karikari: govn & findev aec20102 Overview  Motivation  Literature Review  Methodology Model Data  Results  Discussion & Conclusion

karikari: govn & findev aec20103 Motivation  SSA has shallow financial markets & face the challenge of deepening & strengthening them  Attempts have been made to liberalize financial markets  But, low quality of institutions & governance could be limiting the impact of financial liberalization o SSA lag substantially in quality of governance & costs of doing business  What are the roles of financial liberalization & governance in financial development?

karikari: govn & findev aec20104 Motivation (contd)  Consequences of the low financial development o Limited & inadequate access to capital has varied effects on the economy (AfDB, 2010)  Low productivity in agric in rural areas  Limits contributions of SMEs to private dev  Slows financial dev in oil-exporting countries with a huge capital assets tied to oil prices o Countries successful in attracting private capital inflows have better financial markets, institutional quality, and more integrated globally in financial and trade flows (IMF, 2010)

karikari: govn & findev aec20105 Literature Review

karikari: govn & findev aec20106 Methodology  Model: o FDEV: Private credit by deposit banks (Beck et al., 2000) o FLIB: Financial liberalization (Chinn-Itoh index, 2008) o GOVN: World Bank’s World Governance Indicators (WGI) o LGO: Legal origins by World Legal Systems Research Group o Common law (CMN), civil law (CVL), or mixed system (MXD) o X: Other factors o Macroeconomic factors (World Bank’s WDI)  GDP, Inflation rate, Govt expenditure, Aid o BCRISIS in late 1980s/early 1990s (IMF, 2006) o OILEXPORTR: Oil-exporting countries ( IMF, 2006 )

karikari: govn & findev aec20107 Methodology (contd)

karikari: govn & findev aec20108 Methodology (contd)  Financial Development in SSA,  Data are averages for and

karikari: govn & findev aec20109 Methodology (contd)

karikari: govn & findev aec Methodology (contd)

karikari: govn & findev aec Estimation Results

karikari: govn & findev aec Estimation Results (contd) Table 3, col. 2:  Impact of financial liberalization reduced with high governance, in and Impact of financial liberalization enhanced with high governance, in  Why? A certain threshold of governance required for liberalization to be effective Government forbearance of weak, mostly state-owned banks in earlier period

karikari: govn & findev aec Estimation Results (contd)

karikari: govn & findev aec Estimation Results (contd) Table 4:  Financial liberalization, by itself, was associated with lower financial development, particularly, in , contrary to McDonald & Schumacher (2007)  Governance has negative impact in that was offset by a positive impact in  Implication: o SSA require higher levels of good governance to fully benefit from financial liberalization  Mixed legal systems, compared to civil laws favored financial development

karikari: govn & findev aec Estimation Results (contd) Other results (Table 3)  Macroeconomic effects: o Economic growth: Inconclusive o Inflation: Negative o Govt expenditure: Positive o Aid: Positive  Banking crisis: Negative  Oil exporter: Negative Robustness checks  Excluded South Africa (Table 3, col 3)  Endogeneity of financial liberalization  Dependent variable: Liquid liabilities (Table 3, col 4)  Individual dimensions of governance (Table 5)

karikari: govn & findev aec Estimation Results (contd)

karikari: govn & findev aec Discussion & Conclusion  Key Results/Policy Implications: o Financial liberalization, by itself, did not improve financial development, contrary to previous studies o The impact of governance, by itself, improved fin dev in o Governance improved impact of financial liberalization in , but worsened it in o Civil laws systems are less favorable to financial development, compared to mixed systems with common laws, consistent with previous studies o Political instability is more powerful for financial development than rule of law, contrary to previous studies o Banking crisis in the late 1980s/early 1990s has adverse effects on liquid liabilities  Further Research/Discussion: o What is the appropriate definition of financial liberalization when explaining financial development?