Access to Financial Services in Zambia
| Author | José de Luna Martínez |
| Profession | José de Luna Martínez is a Senior Economist at the Finance and Private Sector Development Vice Presidency of the World B |
| Pages | WPS4061 |
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This paper was prepared as part of a pilot project conducted by the World Bank to analyze the state of trade and services liberalization in Zambia. The author is grateful to Aaditya Mattoo, Task Manager of this project, for his valuable comments and observations on this report, and Latifah Merican, for sharing her knowledge on financial sector liberalization and encouraging the publication of this report. The author also thanks the following colleagues for their useful comments on earlier versions of the report: Lucy Payton, Ahmet I. Soylemezoglu, Antony Thompson, and Thorsten Beck. Special thanks are due to Sam Maimbo who facilitated many of the meetings with financial institutions and authorities in Zambia and also provided valuable comments on the report. Last, but not least, the author expresses its gratitude to all people in Zambia that contributed to this project by sharing their knowledge, and providing the data and information to prepare this report.
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In the early 1990s, Zambia fully liberalized transactions on the capital account and undertook a series of reforms to promote a market-based financial system, which encouraged the entry of new domestic banks and led to the expansion of existing foreign banks. Zambia allows not only foreign investment in banking, but also allows firms and individuals to borrow from and place deposits abroad. At the end of 1995, six foreign banks accounted for 67% of assets, 76% of loans, and 64% of deposits in the banking system. Large firms raise a significant proportion of their long term capital needs from abroad, and around one-fifth of the commercial banks' assets are placed abroad.
However, the benefits expected from an open, private, and largely foreign-owned banking system have not so far materialized and access to banking services is low and unequal. Credit to the private sector by banks represented only 8% of GDP in 2005, which is lower than the level registered in 1990. Only 5,000 people hold 90% of loans. Just 8% of Zambia's adult population had a bank account in 2005, one of the lowest ratios in Sub-Saharan Africa. The number of rural branches of banks actually declined in the last decade by 15 percent to 65. Whereas micro-finance institutions have grown rapidly in some other Sub-Saharan countries, in Zambia they serve only 50,000 customers which is 0.005% of the population.
Access to bank credit is not just scarce, it is also extremely expensive. The average annual interest rate on loans was 48% in 2005 (the inflation rate was 20%). Large firms and exporters borrow at rates below the average (the prime rate was 20% in 2005). The few small and medium enterprises (SMEs) in Zambia that are able to borrow from banks pay the average annual lending rate or higher. Microfinance institutions lend at rates of around 50-60 per cent. Most loans have a short-term maturity (1-3 months); there are only few loans with a maturity of 1 year or more. The few firms with sources of revenue in foreign currency are able to obtain financing from banks in US dollars at significantly lower interest rates.
Bank savings and deposits accounts are not a practical instrument for building savings over time. No interest at all is paid on small savings accounts denominated in Kwacha and only large firms receive positive interest rates on their deposits. A 320,000 Kwacha deposit (equivalent to US$100) today would lose two thirds of its real value after 6 years if during this period the annual inflation rate remains at 18%. In addition to this, monthly charges are also deducted by all banks. Five of the thirteen banks require customers to have a minimum balance of $156 to $313 dollars or more to open a savings account. In five other banks the minimum balance to open an account is lower; it is in the range of $16 to $78 dollars. However, in the context of Zambia, where 58% of the population lives on less than one dollar a day, these minimum balances prevent most people from having access to basic banking services. Thus, with the exception of high- income households, public servants and employees of large companies, most Zambians do not have access to products offered by banks.
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Macroeconomic and institutional problems are the main reasons why liberalization has not delivered significant benefits and they are being gradually remedied. The large fiscal deficit (which amounted to 6% of GDP in 2003, but has been reduced to 2.3% of GDP today) has been financed by borrowing from banks, which has limited the funds available to finance the private sector. The recent reduction in the fiscal deficit and government borrowing has shaken the banks out of their stupor and immediately induced stronger efforts to lend to the private sector. In addition there are key institutional weaknesses that undermine the effectiveness of the banking sector: 90% of land is still collectively owned, making it difficult for individuals to produce collateral; past disbursement by state banks of credit as de facto grants has created a tradition of default; and the judicial system provides few effective procedures to collect delinquent loans. The credit bureau being set up by the Bankers' Association is a critical step to improve market information and to strengthen the credit culture. The current plan is to start the credit bureau with negative information on defaulters. That effort should be supported and expanded as soon as technical feasible to include positive information to help clients with a clean credit history enjoy the expanding services and lower costs. Over time, an attempt should be made to extend the credit bureau database to small- and medium-sized firms that suffer from severe information asymmetries in the Zambian markets.
But limited access is also attributable to financial policy failures, beginning with an inappropriate sequence of reform that has had durable consequences. The financial system was liberalized before establishing a new legal and regulatory framework for the banking system that would encourage prudent risk-taking and market discipline. Ten new bank licenses were issued between 1991 and 1994 increasing the number of commercial banks to 18, and there were nine bank failures between 1995 and 2001 estimated to have caused losses to taxpayers and depositors equivalent to 7 percent of GDP. At the end of 2005, non-performing loans in the banking system still amounted to 8.9% of total loan portfolio. All banks scaled back their lending operations and increasing their holding of government securities, which offered high yields at a lower risk for banks. Barclays, the largest bank in Zambia, refrained from any new lending for various years and is starting to lend again only in 2006.
In recent years there have been significant improvements in the regulatory framework, but some weaknesses remain. Following the first episodes of bank failures in 1995, Zambia put in place major measures to improve the quality of bank regulation and supervision, and in 2002, the Financial Sector Assessment Program (FSAP) carried out by the IMF and World Bank found that Zambia satisfactorily complies with many of the the Basel Core Principles on Bank Supervision. Of the 30 principles assessed under the BCPs, Zambia was found to be compliant or largely compliant with 19 principles and non-compliant or materially non-compliant with 11 principles. Major weaknesses were found in the areas of independence of the central bank, remedial measures to deal with insolvent banks, management and control of market risks, internal controls, and anti- money laundering. Following the release of the FSAP report, Zambian authorities drafted a comprehensive Financial Sector Development Plan (FSDP) which contains a series of actions for the period 2004-2010 to strengthen the overall financial system.
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Bank regulation in Zambia must be sensitive to the needs of the population if banks are to be encouraged to lend to the poor and SMEs and, in particular, if microfinance institutions are brought under the umbrella of Bank of Zambia supervision. International regulation, such as AML, if applied with no discretion, is not well designed for countries in which only 10% of land is registered and much of the population live in temporary dwellings and work informally.1 Most small and medium enterprises are not registered, do not pay taxes, and do not have audited accounts and, therefore, can not access financial services offered by banks. Banks in the past have relied on group monitoring and personalized relations in order to give loans for productive investments carried out by this part of the population and required only a national identity card. However, "Know You Customer" rules make such lending...
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