Emmanuel Kyei Thesis

TOPIC: ECONOMIC IMPACT OF FINANCIAL SECTOR LIBERALIZATION ON THE PERFORMANCE OF MICROAND SMALL SCALE ENTERPRISES IN GHANA
CHAPTER ONE
INTRODUCTION 1.1 OVERVIEW
Financial sector of any modern economy plays a significant role in the growth and development process of that country. Firstly, the sector mobilises savings and then effectively allocates it across investment projects. Secondly, the sector provides insurance to risk-averse savers and investors. Thirdly, in an open economy it helps domestic lenders and borrowers to compete effectively on the international capital market. Finally the sector as a whole creates new jobs and career opportunities for individuals in the society. ( Caprio et al 1994). However, the contribution of the financial sector to the development of micro and smallscale enterprises depends upon the quality and quantity of its services and the efficiency with which it provides them. Financial sector in Sub- Sahara Africa countries (SSA), including Ghana had been characterised by weak resource mobilisation, high credit loses, high intermediation costs and excessive political interference. Stightz (1998) asserted that history does not offer many examples of successful economies that did not accord the market a central role in the allocation and monitoring of capital. Thus in a repressed financial sector, where policies governing it is the preserve of the government; financial institutions hardly achieve success under such repressive environments. In the field of development finance, advocates for financial liberalisation generally argue that liberal financial policies that remove constraints and controls tend to improve the efficiency of financial resource allocation. According to Stiglitz, Provide there are no externalities the competitive market price is efficient, and hence this theory can be applied
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to financial markets in terms of the supply and demand for funds at the market clearing interest rate. Theory states that financial sector should be fully liberalised in the same way that governments are advised to stay off the product market. The cases for financial sector liberalisation stems from the fact that liberalisation have so many advantages healthy for a financial sector in particular and the growth and development of a nation in general. It has been asserted that financial sector liberalisation increases savings, improves the efficiency with which resources are allocated among alternative investment projects and therefore raises the rate of economic growth. Investment spending which is one of the major categories of expenditure entering into the aggregate demand has become a significant element in the development of the economies of nations. This proactive element in an industrial society, which involves the acquisition of capital goods, is very significant because of its impact on the economys productive capacity (Peterson 1998). Its function is to produce other goods and services. This means that even though investment expenditure plays a key role in determining current levels of income and employment their influence reach beyond the present because of their impact upon capacity. Investment expenditures are thus vital factors in economic growth, which depend to a great extent upon how rapidly productive capacity is being enlarged. The predicament of governments of developing countries, including Ghana was their inability to liberalise the financial sector. This has hindered entrepreneurs of micro, small and medium scale enterprises to have more access to financial services for expansion. Prior to 1983 Ghana operated a tightly regulated financial system. The impacts of the tightly regulated policies on economic development were dismal. In April 1983 the government of Ghana introduced a strict budget, which contained a programme of far reaching economic reforms known as the Economic Recovery Programme (ERP, 1983 to 1986). This programme was followed by the Structural Adjustment Programme I (SAP I
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1987 to 88) and (SAP II 1989 to 90). These programmes have been aimed at both economic stabilisation and structural adjustments. Included in the package of the ERP was the financial sector liberalisation. Financial sector liberalisation became necessary since the pre-liberalisation financial sector policies of government in terms of control over financial markets, together with an acute prolong economic crises and unorthodox measures, had severely damaged the financial system leading to both financial shallowing and bank distress. (Gockel et al 1995) The productive sector of any modern economy is made up of enterprises categorised into micro, small, medium and large scale, depending on the size and extent of productive capacity. For these enterprises to increase production of goods and services, increased flow of financial services are very essential. Basically the financial services that are available to these categories of enterprises in Ghana are; (i) (ii) (iii) Retained Earnings (internal cash flow of the firm). Equity financing (selling of shares in the firm). Borrowing (issuing of bonds and other forms of debt from the banks and non-bank financial institutions) (iv) (v) Transfer financing (friends, relations etc.) Personal savings (self financing)
While some medium and almost all large scale enterprises that constitute a small percentage to aggregate output and small proportion of the economy have access to financial services in Ghana, the micro and small-scale enterprises that form a large percentage in terms of aggregate output and size are limited to retained Earnings, borrowing from the informal sources (money lenders, rotating savings, credit associations, saving collection i.e. Susu), and a very limited access to formal sources (the commercial
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banks, saving banks, etc.) inspite of increasing demand for more financial services in order to expand output of goods and services. Micro and small-scale enterprises thus typically cite lack of access to finance as an important constraint on their operations. This lack of access is often associated with financial policies and bank practices that make it hard for banks to cover the high cost and risks involved in lending to small firms.
1:2
STATEMENT OF THE PROBLEM
Many developing countries have experienced financial shocks through the introduction of financial liberalisation. Prior to the liberalisation of the financial sector, many economies in the developing world had discarded the price mechanism by instituting controls on the interest rates, minimum and maximum credits, credit allocation and exchange rates. Later on, most less developed countries instituted measures to liberalise their financial sectors by allowing free entry into the banking system. Fixing of interest rates were liberalised, credit controls were abolished, and flexible exchange rates replaced the fixed exchange rate regime. Thus, financial liberalisation became the dominant policy paradigm over the last two decades. Ghana, like many other less developed country pursued the policy of controls over interest rates and credit allocations. Thus prior to 1989 Ghana followed a policy of financial repression which relied on fixing interest rate below market levels and controlling the allocation of credit. The financial system thus remained under-developed, lending patterns were inefficient and failed to achieve their distributional goals. Negative real interest rates led to low savings and encouraged capital flight. Macro-economic performance also deteriorated with its adverse impact on the growth of bank assets. Credit availability to the micro and small-scale enterprises were also constrained.
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Extensive government intervention characterised the pre-liberalisation era. Public ownership dominated the Banking system. The bank of Ghana determined the structure of interest rates including minimum interest rates for deposits and maximum lending rates. Priority sector such as agriculture received preferential lending rates and in most cases these were lower than the minimum saving deposit rates. Sectoral credit guidelines based on an annual credit plan drawn up by the Bank of Ghana were imposed on the Commercial Banks to channel credit towards the priority sectors of agriculture, manufacturing and exports. Although the financial sector policies were aimed at supporting priority sectors through the use of sectoral credit guidelines and preferential interest rates, the supply of credit to these sectors declined in real terms. Credit to the whole of the non-government sectors amounted to only 3.6 percent of GDP in 1985, having fallen from 9.8% of GDP in 1977 (World Bank 1986v). In 1987, Ghana initiated the liberalisation of its financial sector by removing controls on interest rates; and the sectoral composition of Bank lending and by introducing market based instruments of monetary controls. Liberalisation was expected to provide easy access to micro project credit facilities from the banking system at affordable capital costs. The implication is that in Ghana micro and small firms significantly contribute to economic growth and development so that with access to bank loans these entrepreneurs could expand their businesses and thereby fulfil the economic growth of Ghana. However, there is the belief that financial sector liberalisation has led to the following consequences on Ghanas economy including micro and small-scale enterprises. First, there is the belief that some disadvantaged groups such as the micro and small-scale enterprises and the poor have not enjoyed adequate attention of commercial banks in the
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post liberalisation period. It is felt that the liberalisation has led to the concentration of financial assets in the hands of large firms. This situation might have led to many micro and small-scale enterprises having to seek credit through non-formal means such as moneylenders in order to survive. The high interest rates and difficulties in meeting standard loan requirements due to the liberalisation of the financial sector have prevented micro and small firms from borrowing. Added to this, the liberalisation of the financial sector has tended to facilitate the search for quick profits to the extent that resources are channelled away from productive sectors of the economy such as micro and small-scale enterprises. There is therefore the need for a detailed study of the financial sector liberalisation and its impact on the performance of micro and small-scale enterprises in Ghana. Micro and smallscale enterprises have a significant role to play in terms of their employment generation capacity, quick production response and their adaptation to weak infrastructure and their use of local resources as well as being the means of developing indigenous entrepreneurial and managerial skills for sustained industrialisation. Micro and small-scale enterprises also contribute to development. To ensure balanced growth and development the National Board for Small-scale Industries (Act 434) was established in 1985 to oversee the growth of micro and small-scale industries in Ghana. However, the significant role that the micro and small-scale enterprises are expected to play in Ghana has been constrained with a number of factors including accessing funds from the formal financial institutions.
1:3
THE RESEARCH QUESTIONS
The research questions that need attention in view of the perceived benefit that financial sector liberalisation confer on the performance of micro and small-scale enterprises then are: (a) Are there any macro economic factors that help to explain the level of credit to the private sector and hence to the micro and small-scale enterprises in Ghana? (b) Is financial liberalisation a sufficient condition for credit availability to micro and small scale enterprises or has financial liberalisation actually increased the supply of credit from the formal financial sector to micro and small enterprises? (c) If yes; how much has the micro and small-scale enterprises benefited? If no why? Hypothesis to be tested based on the above research questions are presented in chapter three.
1:4
OBJECTIVE OF THE STUDY
Financial sector liberalisation became an integral part of Ghanas Economic Recovery Programme (ERP) in the late 1980s. It is felt that the pre-liberalisation policies of government control over the financial market together with and acute and prolonged economic crises had severely damaged the financial system. The general purpose of this study is to: (i) (ii) trace the impact of macro-economic factors on lending to the private sector. empirically ascertain the extent to which the financial sector liberalisation has facilitated credit availability to the micro and small-scale enterprises in Ghana. (iii) ascertain other benefits derived by the micro and small-scale enterprises from the financial sector liberalisation
(iv)
make suggestions that will strengthen the capacity of the financial sector in Ghana in facilitating access of micro and small-scale enterprises to financial services which will be of great help to the economy as a whole.
1:5
JUSTIFICATION FOR THE STUDY
The growth of commercial bank lending to the small-scale borrowers and start-up enterprises following financial liberalisation has been somehow disappointing. However, the role micro and small-scale enterprises play in an economy in terms of their contribution to the private led-growth through employment and income earning opportunities, and by quick response to changing policies incentives and market conditions cannot be overemphasized. In fulfilment of the mandate, the National Board for Small-scale Industries (NBSSI) has developed a policy document, which provides a wide range of services, among which are the micro and small enterprises financing. Strengthening the structure and operational capabilities of micro and small-scale enterprises and also encouraging commercial Banks to formulate MSE financing policy and loan desks are among the policy document of NBSSI. However micro and small-scale enterprises often cite lack of access to finance as an important constraint on their operations. Aryeetey, Baah-Nuako et al (1994) studied the supply and demand for finance of smallscale enterprises in Ghana. In their paper, they came out with certain findings about smallscale enterprises finance under liberalisation in Ghana. However, the study was not meant to establish the impact of financial sector liberalisation on the performance of micro and small-scale enterprises. This study intends to establish such impact quantitatively.
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1:6
DATA SOURCES AND COLLECTION TECHNIQUES
Basically the study depends on primary and secondary sources of data and information. The main objective is to ascertain the extent to which the micro and small-scale enterprises use the financial institutions. This is examined through survey of micro and small-scale enterprises in the Ashanti Region particularly Kumasi Metropolis. The survey is to enable the researcher assess the views of the micro and small-scale entrepreneurs on the research topic. Micro and small-scale entrepreneurs constitute the main source of primary data through structured interviews. The collection of secondary data is through consulting secondary sources both within and outside target groups. These secondary sources include reports, journals, newspaper publications, bulletins, newsletters, and textbooks.
1:7
SCOPE OF THE STUDY
For in-depth study, the research covers micro and small-scale enterprises (MSEs) in Ashanti Region, especially Kumasi metropolis. The centrality of the region, with Kumasi as a second metropolis of Ghana, has drawn several MSEs to the region. Clusters of MSEs are found in various areas of Kumasi such as Suame, Asafo, Adum etc. Such clustering enhances such a study and reduces cost of research. However, it is believed that the homogeneity nature of MSEs in Ghana permits some generalisation. The distribution of the respondents per city/town is as follows;
DISTRICT Kumasi Metropolis Sekyere East
CITY/TOWN Kumasi Effiduasi

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No of Respondents 250 50
Adansi West Afigya Sekyere Offinso Ejura Sekyeredumasi Sekyere West Asante Akim North Atwima Total
Obuasi Agona Offinso Ejura Mampong Konongo Nkawie 35
40 35
40 50 35 25 550
1.8
ORGANISATION OF THE STUDY
This work is divided into five (5) main chapters. Chapter two (2) deals with the literature review, which is the review of previous work done on the topic. Chapter three (3) deals with the conceptual model of the topic. Chapter four (4) deals with the survey findings and empirical results and discussions of the results. Chapter five (5) contains conclusion and suggestions.
CHAPTER TWO 2:0

2:1
LITERATURE REVIEW
FINANCIAL REPRESSION According to NILLS (1989) financial system in Sub-Saharan African countries had
long been shackled with extensive imprudent regulations operated on inefficient grounds. The economies of Sub-Saharan African countries were dominated by just few institutions
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mainly commercial banks. Common to most of these systems were statutory interest rate ceilings, the accommodation of government borrowing and the existence of informal financing. The generally restricted financial systems had hindered the efficient mobilisation and allocation of financial resources and impeded monetary control policy. Most of these countries in Sub-Saharan Africa followed the Keynesian theory of investment and growth. The Keynesian theory of investment and growth postulates a negative relationship between interest rate and investment. Thus an artificially low interest rates boost investment and savings and hence growth. The underlying reason for the Keynesian theory of investment and growth is the belief that high borrowing costs (lending rates) discourage private investment. The Keynesian doctrine of government intervention was a popular policy prescription in the 1950s and 1960s. The period of financial repression was characterised by; (a) nominal interest rates set below market levels (b) negative real interest rates (c) direct credit and credit ceilings (d) highly regulated and controlled financial system (e) high reserve requirements (f) foreign exchange rate distortion As stated earlier, the rationale for financial repression was based on Keynesian theory of investment that artificially low interest rates boost investment and savings and hence growth. Also high cash reserve ratios and statutory liquidity ratio makes cheap funds available to the government. Again interest rates below the market interest rates means cost savings to government on public debt.
2:2
EFFECTS OF FINANCIAL REPRESSION
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There are many literatures on the effects of financial repression on the economies of countries that adopted it. According to one literature on the effects of financial repression issued by Kirkpatrick (2002), financial repression led to the following consequences on the economies of most countries that adopted it; Firstly, financial system remained under developed. Secondly, lending patterns were inefficient and failed to achieve their distributional goals. Thirdly, negative interest rates led to low savings and encouraged capital flight. Fourthly, macroeconomic performance also deteriorated. Countries with large negative real interest rates experienced lower allocation efficiency and growth rates. Also in the state-owned banking sector, poor lending decisions (often politically influenced) and low repayment rates led to banks insolvency and large budgetary bailouts of depositors and creditors. According to Todaro (1998), the concentration of development and commercial bank loans to few large borrowers, together with the widespread existence of high inflation, growing budget deficit, and negative real interest rates led to a serious credit crunch in less developing countries. Todaro analysed the effect of being subjected to numerous lending restrictions and mandatory interest rate ceilings at levels below market clearing rates. Theoretically when there is an effective interest rate ceiling below equilibrium level, the demand for loanable fund would greatly exceed the available supply. The excess demand would lead to a need to ration the limited supply. This phenomenon is known as financial repression since investment is limited or repressed by shortage of savings resulting from administered real interest rate below the equilibrium level. According to Todaro, in the absence of outright corruption in the allocation of the limited loanable funds, most commercial banks choose to allocate the available credit to few larger borrowers. This is to minimise the administrative overhead cost of lending. Thus, the net effect of
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government controls over lending rates means that even the fewer loans would be allocated to few investors. Banks could only cover the additional administrative costs as well as the added risks of smaller loans by charging higher interest rates. This would imply that farmers and micro entrepreneurs would not have resource from banking system but seek finance from the unorganised money market, even though they would be willing to borrow at rates above market clearing level. One suggested solution to the problem according to Todaro would be to liberate the financial sector by allowing nominal interest rates to rise to market-clearing levels.
2:3
FINANCIAL LIBERALISATION
The failure of Keynesian economics to explain the drop in output simultaneously with rising prices experienced in the early 1970s due to cost shocks prompted a debate on the validity of government intervention policies. McKinnon (1973) and Shaw (1973) argued that in the context of developing countries, where the only organised financial system is the banking system, financial repression retards economic growth. The McKinnon-Shaw views of financial liberalisation soon became the mainstay of economic reform in developing countries (Athukorala and Rajapathirona 1992). In Sub-Saharan African countries also, financial liberalisation became a dominant policy paradigm over the past two decades. According to Fry (1995, 1997), McKinnon-Shaw school favours financial liberalisation, and argues that financial repression in the form of ceilings on interest rates which causes real rates to be negative distorts the economy in several way. A low level of deposit interest rates; (i) produce a bias in favour of current consumption against future
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consumption, thus they push savings and investment below their socially optimum levels. (ii) (iii) (iv) Potential depositors may engage in low-yielding direct investment. Bank borrowers choose high capital-intensive projects. Low interest rate ceilings discourage risk-taking on the part of financial institutions. (v) (vi) Low interest rate may shift funds to kerb markets. International capital flight.
Shreft and Smith (1997) also argued that a low level of lending rates causes under investment in the allocation of information about projects or borrowers. The government can further distort the financial market by offering relatively high interest rates on government bonds in order to borrow money from financial institutions. This government borrowing crowds out private borrowing or investment. According to Brownbridge and Harvey (1998) the argument on which the financial liberalisation depended was that; (i) Removing government control of interest rates would eliminate the ill effects of negative real interest rates because market forces would raise nominal rates above inflation. (ii) Raising nominal interest rates would increase bank deposit, and make more finance available and would improve the efficiency of bank lending. (iii) Allowing interest rate to be independently determined by the market forces would make bank lending possible to a wide range of borrowers including, especially, the small-scale borrowers who were previously excluded from access to banks credit, by allowing banks to match reward to risk. (iv) Licensing new banks would, through increased competition increase the
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range and reduce the cost of bank lending. (v) The macroeconomic objectives of monetary policy would be achieved more effectively by relying on indirect instruments of direct controls
2:4
PREREQUISITE FOR FINANCIAL LIBERALISATION
In his paper in a book Instrument of Economic Policy in Africa, EL NIL (1989) outlines the prerequisites for successful financial liberalisation. For financial sector liberalisation to be effective in realising its broad objectives, some necessary conditions, mostly related to its formulation and implementation, must prevail. (i) POLITICAL COMMITMENT There should be a commitment to the reform for a financial liberalisation to be carried out successfully, there must be a political commitment to the liberalisation. Courage and determination need to be accompanied by energetic effort to explain the benefits of the liberalisation to the affected segments of the population at large and to economic operators in particular. Since financial liberalisation involves difficult decisions regarding removal of distortions affecting both the direction and cost of credit, political commitment is said to be very important. The liberalisation needs to redress any existing imbalances in the distribution of credit between sectors, regions, industries etc and to tackle distortions in the cost at which credit is delivered. In addition the closure or rehabilitation of troubled financial institutions would also result in some retrenchment of jobs. It is most certain that pressure groups, which may lose their jobs during a reform, would lobby to obstruct or at least delay the needed change. Also in the early stages of the reform, it is likely that the budgetary problems would be aggravated due to the liberalisation of the financial sector,
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which would entail extra costs in the form of higher interest rate payments on domestic debt. Also public sector share of domestic credit may be reduced. In these circumstances additional external support may be indispensable in order to enable the government to find alternative means of meeting its financial obligation.
(ii) MACROECONOMIC ENVIRONMENT In addition to political commitment, there should be the existence of appropriate macroeconomic environment. Such environment must be free of destabilising inflationary pressures and other adverse macroeconomic features. The stability must encourage greater mobilisation of domestic savings as well as their efficient allocation and should also assist in the integration of fragmented informal credit market into the formal financial sector. It should be noted however that statutory regulations in many African countries still impose low and frequently negative real interest rates on bank deposits, which together with policies that bred inflationary tendencies deflect financial savings away from the banking system. Polak (1989) observed that these policies make for highly inefficient linkages between the supply of savings and the demand for investment and consequently for low growth.
(iii)LOGISTICAL FRAMEWORK Another prerequisite for successful financial liberalisation is logistical framework. NILS points out that the capacity for carrying out effective financial liberalisation also rests to a large extent on the underlying regulatory framework and the quality of those entrusted with its implementation. The regulatory framework consists of the Central Bank and the nonbank financial intermediaries. Gelb and Honoban (1989) in their study of financial reforms in adjustment programmes observed that these reforms seek to establish their supervisory
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and regulatory functions through the enforcement of information system. They pointed out that there is the need for a thorough training of those who are charged to implement the programme.
(iv)SPEED AND EXTENT OF REFORM Another prerequisite for financial liberalisation is the speed and extent of reforms. A sufficient time is required before financial liberalisation can fully work themselves out, and succeed in establishing a deep liberal and efficient financial sector, conducive to the more efficient conduct of monetary policy and the mobilisation and allocation of financial resources. This according to NIL is due to rudimentary and repressed state of African financial systems. Also due to narrow financial infrastructure in most African countries, it is hardly possible to achieve competitive returns over a relatively short period. NIL suggests that liberalisation should be carried out in phases or entire liberalisation over an extended period of time.
(v) EXTERNAL SUPPORT The external support is needed not only for carrying out meaningful financial liberalisation, but also for other adjustment policies. The liberalisation, which involves management of interest rate, extension of banking services to rural areas and other capacity building, entails substantial costs. For example the partial freeing of interest rates will increase interest payments on government domestic debt leading to aggravation in the fiscal position. The higher interest rate would lead to a more efficient use of credit and hence external support is thus needed to cushion the initial deterioration in the budget deficit. Although the cutting down of government domestic credit is usually the required measure in a financial liberalisation, the adoption of revenue enhancing and expenditure curbing measures to prop
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up the budget will be a slow process in most African countries. Adequate and orderly external resources flow is crucial for countries that want to sustain the modest progress achieved by liberalising their financial system. In McKinnon (1973) and Shaw (1973) framework of interest rate restraints inhibits financial development largely by depressing real interest rates, which in turn affect economic growth. In the McKinnon-Shaw framework interest rate liberation, by increasing the volume of bank assets and liabilities enhance the development of the banking system. Others however, have suggested that in the presence of information asymmetries, liberalisation of interest rates may not necessarily lead to financial deepening (Schiantarelli et al 1994). Indeed the combination of asymmetric information with the provision of deposit insurance can lead to excessively risky lending and substantial increases in bad debts ( Caprio 1994). Furthermore, intensive competition that usually follows financial liberalisation lowers profits for banks, which in turn erode their franchise values. This situation increases the premium for external finance and thus lowering bank incentives for making good loans. (Caprio and Summers 1994, Gerther and Rose 1996, Hellman et al 1996b, 2000). This exacerbates the problems in the banking system, thereby increasing the risk of bank portfolios, which in turn may affect adversely the public perception of the soundness of the banking system. Consequently prudent bank behaviour is undermined, with the probability of financial crises being enhanced substantially (Hellman et al 2000, Akerlof and Roma 1993). According to Stiglitz (1994) some types of financial restraints, such as interest rate ceilings on deposit rates, by keeping profit margins within certain limits can reduce the problems of moral hazard and adverse selection. In this way, financial restraints may
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reduce the risk of bank portfolios by limiting bank incentives to invest in assets that facilitate gambling. Structuralists who hold contrary views to the McKinnon-Shaw school of financial liberalisation argue that low level of real interest rates and credit towards priority sectors would increase investment and economic growth (Stiglitz and Weiss 1981, 1992). They also suggest raising government expenditure in order to increase effective demand, investment and economic growth where inflation tax is easy source of government revenues. Interest rate deregulation increases savings on the one hand and reduces effective demand and profits on the other (Burkett and Dutt 1991, Gibson and Tsakolotos 1994). The negative impact often dominates the positive one due to a pessimistic view regarding future profits, which worsens the negative impacts causing a decline in savings, investment and economic growth. (i) (ii) Structuralists argue that an increase in the interest rates; causes a real interest rate appreciation and exerts a negative impact on the tradable sector by making export more expensive (iii) incurs losses to a bank when it is lending long term and borrowing on a short-term basis. (iv) raises government budgetary strain since in developing countries significant portion of deficits are financed by bank loans. Moreover a reduction in reserve requirements and a relief from buying government bonds reduce tax revenues. Structuralists again argue that financial institutions, maximising expected profits usually charge interest rates lower than the equilibrium rates. The financial institutions thus decline to supply funds to borrowers who are willing to pay equilibrium rates.
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According to Beckerman (1988), the neo-Keynesians also argue that a low level of interest rates may be because; (i) A low level of demand for investment caused by depressed expectations and high levels of uncertainty about the future (ii) Cash holding or liquidity preference or the accumulation of savings to make large purchase when excess to credit market is limited. Consequently, savings take place even when interest rates are negative. Any initiative to increase real interest rates generates an oversupply of fund. This damages the stability of the financial sector. The Neo-Structuralists also using a portfolio framework for the allocation of household asset also challenged the argument put up by McKinnon and Shaw. The neo-structuralists led by Taylor (1983, 1988), Van Wijnberger (1983), Buffie (1984) and Dornbush and Reynose (1990) criticised the McKinnon-Shaw prescription on the grounds that high interest rates would probably reduce the rate of economic growth by reducing the real supply of credit available to the private sector. The argument of Neo-Structuralists is based on the idea that the organised financial sector (the banking system) in developing countries is less efficient than the unorganised money market (informal credit market) in intermediating financial resources. The neostructuralists uses Tobins general equilibrium approach to financial markets in developing countries. They argue that higher bank interest rates may induce portfolio shifts to bank deposits more from assets in informal credit markets than from currency or inflation hedges. Therefore higher bank credits crowds private investment and hence depress the
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growth of the economy in the short term (Van Wijnberger 1983). Thus the Tobins general equilibrium approach to financial markets is based on the revelation that household tend to diversify their asset portfolio rather than putting all their eggs in one basket (Incoom S. E unpublished book). According to Stiligtz (1994), contrary to the prediction of McKinnon-Shaw school, credit rationing prevails even in the absence of ceilings on interest rates. In addition, information and monitoring are public goods, which are very important for the financial markets and under-supplied by competitive markets. According to the McKinnon (1973) analysis of financial repression, economic liberalisation and monetary stabilization are complementary concepts. When inflation is high and uncertain, the full deregulation (liberalisation) of markets in goods, financial capital or labour services cannot work well. Thus in determining how to bring domestic inflation under control in the liberalised economy, government must attempt to keep interest rates, exchange rates and wage rates properly aligned during the period of disinflation. Diaz-Alenjandro (1985) argues that this policy has proved difficult in a number of countries. Accordingly, the general case favouring financial liberalisation has been called to question by a series of bank panics and bankruptcies in the southern cone of Latin America. According to Taylor (1983), different conclusions on the effect of financial liberalisation come from different perceptions of the efficiency of banks and informal credit market in intermediating financial resources. McKinnon and Shaw view the informal credit market as rudimentary and fragmented. It does not efficiently intermediate household savings to
21 private investment when compared with organised banking system. In contrast neo-
structuralists view informal credit markets as very competitive and agile, while reserve requirements deflect financial intermediation through commercial banks. For this reason, banks cannot intermediate credit as efficiently as the informal market. From country cases it is clear that macroeconomic stabilisation policies must precede deregulation of banks and other financial institutions. Developing countries must also avoid over-borrowing from abroad when liberalisation programme appears to be successful. 2:5 EMPIRICAL EVIDENCE OF FINANCIAL LIBERALISATION
According to Rudiger, Dornbush and Reynose (1993), empirical evidence is ambiguous regarding whether a rise in real deposit rates has a positive effect on saving ratios. A number of empirical studies conclude that the net response of savings to interest rates is small. The existence of informal kerb markets in developing countries may also limit the influence of interest rates on savings. According to Kirkpatrick (2002), the period of financial liberalisation coincided with, or was soon followed by, heightened financial instability culminating in the dramatic financial crises in East Asia in the second half of the 1990s. He states that financial liberalisation has not led to a smooth transition to a stable and efficient financial system. Quoting from Kirkpatricks (2002), the experience with financial liberalisation reveals a strong correlation between financial liberalisation and financial crises. This he explains is due partly to the exposure of existing inefficiencies and distortions in the financial structure. And also partly by the failure to develop a strong regulatory and supervisory framework, prior to financial liberalisation Kirkpatrick argues however that, it would be wrong to jump to the easy, but shallow, conclusion that financial liberalisation has failed. His argument is replicated;
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Firstly, the fact that the period of financial liberalisation coincides with a period of increased systematic instability does not prove causality. Secondly, no process of change comes cheap. A reason assessment of the costs and benefits of the policy change is needed. Thirdly, what would have been the outcome without the policy change? Finally, the impact of financial liberalisation will differ between countries depending on each countrys economic and institutional characteristics. Kirkpatrick (2002) quoting Brownbridge states, the growth of commercial bank lending to the private sector, particularly to small-scale borrowers and start-up enterprise in Sub-Sahara Africa following financial liberalisation has been disappointing. According to Kirkpatrick, much of the blame for financial crisis in the postfinancial liberalisation period lies with the scale and sequencing of financial liberalisation. What is needed is a more gradual and considered approach to financial liberalisation. Saprin Report (2001), on the impact of financial sector liberalisation in four countries evidenced the following consequences: (a) Financial assets have become more concentrated. Thus financial intermediaries have directed financing towards large, mostly urban firms. This has hindered the development of small and medium-size enterprises and rural economies due to lack of access to finance. (b) Important sectors of the economy and population groups have been unable to access affordable credit. Small and medium-size firms, rural and indigenous producers, and women have very limited access to the formal financial system. This situation is due to high interest rates resulting from financial liberalisation and difficulties in meeting standard loan requirements. Many small-scale enterprises have either gone bankruptcy
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or been forced to seek credit through non-formal means, such as moneylenders, in order to survive. (c) Financial liberalisation has strengthened small, private-interest groups that are not prone to comply with state authority. (d) Economic efficiency within the financial sector has not improved. The gap between borrowing and savings rates of interest has increased in all the four countries the study covered. (e) Liberalisation of interest rates and capital accounts have contributed to economic crises and increased vulnerability to external shocks. Fry (1989), gives empirical evidence for McKinnon-Shaw thesis on financial liberalisation. He uses real deposit rate as a proxy for financial liberalisation. He sampled twenty eight (28) less developed countries over 1970-1985. His conclusion is that a 1% rise in real deposit rate leads to 0.1% rise in national savings rate. Financial liberalisation seems to have little impact on the quantum of savings. According to Khan and Villaneuva (IMF WP No 91/28) financial liberalisation seems to be strongly associated with higher growth. They contend that financial liberalisation seems to operate by increasing the efficiency of investment rather than its quantum. According to Levin (1998), Fry (1995), a host of empirical studies have been carried out and the general findings of them support the McKinnon-Shaw hypothesis that financial liberalisation is associated with faster growth through investment.
2:6 FINANCIAL LIBERALISATION IN SUB-SAHARAN AFRICA

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According to Kirkpatrick (2002) most of Sub-Sahara African countries adopted financial liberalisation under World Bank lending conditionalities. The key elements of the conditionalities included; (i) (ii) (iii) (iv) Privatisation of banks Entry of new domestic and foreign entrants into the banking sector. Banking restructuring and recapitalisation Strengthening bank regulation and supervision institutions. Financial liberalisation in Sub-Saharan Africa took place only very recently (since the mid eighties). Initially, the focus was on relaxation of controls on interest rates. The relaxation of controls on the financial sector was often part of a more general policy shift towards liberalisation of the domestic economy and opening up to the international economy. Financial liberalisation soon broadened beyond interest rate liberalisation to include a wide range of measures constituting a programme of financial sector liberalisation. Financial liberalisation in some Sub-Sahara Africa countries outlined by Montiel (1995) is replicated below. (i) The Gambia (September 1985) ceiling on interest rates were removed in September 1985, an auction system for issuing Treasury bills was introduced in July 1985, and quantitative controls on credit were removed in
September 1990. (ii) Nigeria (July 1987) - Directed credit restrictions were relaxed over the period 1983-1987 by
25
increasing the sectoral aggregation of directed
credit allocation. On July 31, 1987, the Central Bank removed interest rate controls and raised both the Treasury bill and rediscount rate by 4% point to 15 and 14%. In November 1989, an auction system was instituted for treasury bills and certificates but the Central Bank retained a reservation price
Ghana (September 1987)
- ceilings on interest rates were removed, while the removal of quantitative credit controls was done in 1992.
Malawi (April 1988)
- ceilings on interest rates were removed, and quantitative credit ceilings were eliminated in January 1991.
Uganda (July 1988)
- in July 1, 1988, an increase of 10% points were announced on most interest rates.
Benin & Cote dIvoire (October 1990) - the BCEAO abolished its preferential discount rate, but bank interest rates remained subject to regulation. Cote dIvoire is also a member of the BCEAO, so it was affected by these liberalising measures.
26
Cameroun (October 1990)
- the BEAC eliminated its preferential Lending rates, simplified its interest rate structure, and increased its power to determine interest rate policy with the intention to move toward greater flexibility in rates.
Tanzania (July 1991)
- the system of fixed interest rates and fixed differentials were replaced by a single maximum lending rate of 31% on July 25.
Kenya (July 1991)
- Interest rate ceilings were removed.
Financial liberalisation in Sub-Sahara Africa has failed to significantly raise savings rate in most cases so that Sub-Sahara Africa countries remain dependent on external finance for investment funds. The impact of financial liberalisation on investment has also been limited. Over the period 1989-91, the savings ratio was 12% over a group of Sub-Sahara Africa countries, although with a considerable variation between them. This compares unfavourably with Asian countries such as India, China and Indonesia where gross domestic savings rate for 1988-92 are reported to be between 20-40% (Nissanke and Aryeetey 1996, Citing Global Coalition for Africa 1993). Karinki (1996), finds that in Kenya rises in real interest rate occurred with financial liberalisation but did not result in either increase in savings, or investment lending to riskier small and medium scale enterprises. Neither was a statistical significant relationship found with the allocative efficiency of credit. This was attributed to the rising transaction costs of
27
lending to small and medium enterprises, taxation and other operational constraints. The conclusion may be that financial liberalisation focussing solely on interest rate liberalisation is insufficient. Ademola Oyegile (1993) finds a contrast situation in Nigeria where financial liberalisation was found to have a strong positive impact on the availability of credit to small and medium enterprises. This was due largely to a shift in allocation from other factors. Gibson and Tsakolatos (1994) find that cross country economic evidence on the effect on interest rises on savings and investment is inconclusive.
2:7 PRE-FINANCIAL LIBERALISATION POLICIES IN GHANA (i) Monetary Policy The main instruments of monetary policy in Ghana had traditionally been quantitative ceilings on the domestic asset creation of the banking system and reserve requirement. Credit ceiling and sectoral credit controls had been one of the major instruments of Bank of Ghanas financial policy between 1960-90. The credit ceilings were derived from Bank of Ghanas macroeconomic ceilings on the banking systems met domestic assets set according to monetary and inflationary projections. The ceiling was categorised into credit to the rest of the economy and credit to the government and to cocoa financing. (Gockel et al 1995) (ii) Low Interest Rate Policies With the low interest rates, Bank of Ghana set minimum rates for deposits and to place ceilings in lending rates to serve as incentives to attain higher levels of investment. Thus, Ghanas interest rate before liberalisation lacked flexibility with the results that at a generally high rate of inflation, real interest rates became increasingly negative i = r-p i = real interest rate, productivity of capital
28
r = nominal interest rate (lending or borrowing) p = rate of inflation r is kept low so that where p>r, i<o When these rates were determined, they were allowed to be effective for extended period of time, at least one year. This gave individuals little incentives to hold savings in bank accounts. People to hold cash so those monetary holdings became larger than monetary aggregates on a comparative basis. The lending rates were practically the same for overdraft facilities and for more risky lending. In the case of the agricultural and manufacturing sectors, which were considered by the banks as the more risky sectors, controlled lending rates tended to be too low so that there was not much incentive for the banks to make loans. The rates on such priority lending tended not to be different from the rate on Government Bonds, which were generally perceived as risk free.
(iii)Reserve Requirement Bank of Ghana imposed reserve ratios for cash and secondary liquid assets. The cash reserve requirements was a two-tier system; one for demand deposits and another for savings and time deposits. These were to be held as either cash in bills or balance with the Bank of Ghana. Deposits at Bank of Ghana earned no interests. Unlike the reserve requirements in the industrialised countries, which are typically low, often less than 10 percent, reserve requirements in Ghana averaged over 50 percent by 1983 and about 32 percent between 1987-89. The effects on the banking system of such high reserve requirements are two folds: firstly, a substantial amount of the available funds is directed away from potential borrowers. Potential borrowers had to look elsewhere for financial needs and indication were that there was a growing informal financial sector. (Aryeetey and Gockel, 1991 and Gockel 1995). Secondly, when banks are forced by high
29
reserve requirements to hold large amounts of low or zero-yield assets, major distortions to interest rates arise; where it is possible there will be increases in the margin between deposit and lending rates. In Ghana, while both rates were largely controlled, the minimum deposit rate tended also to become the maximum. Moreover, the banks resorted to high service charges to borrowers.
(iv)Unorthodox Monetary Policies and Bad Legislation Bank of Ghana carried out two major monetary policies in attempts to mop up excess liquidity in the economy to halt inflation. The first exercise was the currency conversion undertaken in 1979. This was followed by a demonetisations of the fifty (50) cedis notes (the highest denomination of the Ghanaian currency at the time). There was also the freezing of bank deposits in excess of 50,000 cedis, while bank loans for financing trade inventories and businesses deals of more that 1,000 cedis were required to be conducted by cheque. The reason for the pre-reform policies were among other things (i) (ii) (iii) The desire to increase the level of investment To improve the allocation of investment among the various sectors of the economy. The desire to keep financial costs down in order to avoid what was believed to be the inflationary effects of liberalised market rates of interest (iv) The desire to maintain low and stable interest rates to countervail the perceived baneful effects of exorbitant rates in the informal markets. (A. F Gockel 1995) 2:8 IMPACT OF PRE-FINANCIAL LIBERALISATION POLICIES ON BANKING MARKET IN GHANA
30
According to Brownbridge and Gockel (1995) the following were the impact of pre-reform policies on banking markets in Ghana. Firstly, the pre-reform policies led to severe financial shallowing in Ghana. The broad money as a percentage of Gross Domestic Product (GDP), which was relatively stable at around 20% from 1964 to 1974, rose briefly in the mid 1970s to a peak of 29% in 1976 and then collapsed to 12.5% in 1984. Banks deposits also became less attractive relative to cash. Aryeetey and Gockel (1990) in a study of the informal financial sector found that streeting banking was increasing in contrast to formal sector intermediation. Secondly, one of the pre-liberalisation policies was aimed to support priority sectors through the use of sectoral credit guidelines and preferential interest rates. However, the supply of credit to the priority sectors declined in real terms. Credit to the whole of the nongovernment sector, including both priority and non priority sectors amounted to only 3.6% of GDP in 1983, having fallen from 9.8% in 1977 (World Bank 1986 v). The figure however excludes cocoa financing. The main reasons for the decline in credit to the non-government sector were due to the decline in financial depth, and also crowding out by the governments borrowing requirement. In 1983, government took 87% of net domestic credit. Thirdly, financial distress affected all the public sector banks in the 1980s. All the banks were rendered insolvent by non-performing assets (NPAs) and had to be restructured in 1989-91. A total of 62 billion of the NPAs was identified in the banking system and was replaced by Bank of Ghana bonds or offset against liabilities of the banks to the Bank of Ghana or the government. Most of the NPAs were transferred to the non-performing Assets Recovery Trust (NPART) in 1991.
31
The NPAs included non-performing loans, letters of credit and equity investments, which yield no income.
2.9
F INANCIAL SECTOR LIBERALISATION PROCESS IN GHANA
In April 1983, the government of Ghana introduced a strict budget which contains a programme of economic reform known as the Economic Recovery Programme (ERP,19831986). This programme was followed by the Structural Adjustment Programme I (SAP I, 1987-88 and SAP II 1989-90). These programmes were aimed at both economic stabilisation and structural adjustment. Included in the package of the ERP was the financial sector liberalisation. According to Gockel et al (1995) financial liberalisation became necessary since the pre-liberalisation policies of government in terms of control over financial markets, together with an acute prolong economic crises and certain unorthodox measures had severely damaged the financial system leading to both financial shallowing and bank distress. When the government of Ghana approached the World bank and the International Monetary Fund (IMF) in early 1980s for assistance to put its economy into sound footing, financial sector liberalisation became a conditionality of assistance. The government of Ghana and the world bank agreed that a reform and restructuring indispensable for successful economic recovery programme. A programme of financial sector reform was therefore implemented between 1988-90. The programme became known as Financial Sector Reform Programme (FINSAP). There were two components of FINSAP known as FINSAP I and FINSAP II. FINSAP I was implemented between 1988-90 and FINSAP II begun 1990/91. The objectives of FINSAP I programme were; (i) to restructure banks that were distressed
32
of the financial sector was
(ii) (iii) (iv) (v) (vi)
to improve saving mobilisation and enhance the efficiency of credit allocation. to reform banking laws to develop money and capital markets to restructure the regulatory framework and improve bank supervision to establish a non-performing assets recovery trust.
Among the measures that were taken to restructure the then distressed banks were, (a) reconstitution and strengthening of affected banks Board of Directors (b) closure of unprofitable branches (c) operating costs reduction through staff retrenchment New Banking Law was inacted in 1989. The law defines the minimum capital requirements for various types of banks and by bank ownership. (a) The minimum paid-up capital for commercial banks with at least 60% Ghanaian ownership was fixed at 200 million cedis. (b) For foreign banks with Ghanaian ownership less than 60% the minimum paid-up capital required is 500 million cedis. (c) Development banks are required to maintain a minimum paid-up capital of one billion cedis (d) Each bank is required to maintain a minimum capital adequacy ratio of 6 percent although Bank of Ghana has the discretion to increase it. Also as part of the implementation of FINSAP I, non-performing assets of the distressed banks were transferred to a newly created Non-Performing Assets Recovery Trust (NPART) which was a government-owned agency. Table 2:1 below shows the nonperforming assets transferred to NPART by banks.
Table 2:1 Non-performing Assets Transferred to NPART by Banks (in million
33
cedis) Bank G.C.B S.S.B N.S.C.B A.D.B N.I.B B.H.C Barclays S.C.B Amount of NPAs Transferred to NPART 14,321 12,585 725 1,293 6,623 12,853 689 462 % of total NPAs 28.4 25.0 1.4 2.6 13.1 25.5 1.4 0.9 1.7 100
M.B.G 881 Total 50,433 Source: NPART, Annual report 1991, pg 24 and 1994, pg 15 FINSAP II was begun in 1990/91 and the agenda for it were as follows (i) (ii) to continue and complete the incomplete business under FINSAP I
to divest state-owned banks in accordance with financial liberalisation and deregulation
(iii) (iv)
reform the institutional structure of Bank of Ghana promote and strengthen the non-bank financial institutions
2:10
DEFINITION OF MICRO AND SMALL-SCALE ENTERPRISES
According to Storey (1994), there is no single, uniformly acceptable definition of a micro and small-scale firm. Firms differ in their levels of capitalisation, sales and employment. Hence definitions which employ measures of size (number of employees, turnovers, profitability, net worth etc) when applied to one sector 34 could lead to all firms being classified as micro
and small-scale while the same size definition when applied to a different sector could lead to a different result. (Quartey et al 2000)
2:10:1 SOME INTERNATIONL DEFINITIONS According to Quartey et al (2000) the first attempt to overcome the definition problem of small and micro scale was by the Bolton Committee in 1971. Bolton Committee (1971) formulated an economic and statistical definition. The Bolton Committee economic and statistical definition is replicated below. Under the economic definition, a firm is regarded as small if it meets the following criteria. (i) (ii) It has a relatively small share of their market place It is managed by owners or part owners in a personalised way, and not through the medium of a formalised management structure. (iii) It is independent, in the sense of not forming part of a large enterprise.
The statistical definition is based on three main areas; (i) Quantifying the size of the small firm sector and its contribution to GDP, employment exports etc. (ii) Comparing the extent to which the small firm sectors economic contribution has changed over time. (iii) Applying the statistical definition in a cross country comparison of the small firms economic contribution According to Quartey et al (2000), there were a number of weaknesses in the Bolton Committees economic and statistical definition, which led to the European Commission coinage of the term small and medium enterprises (SME). The SME sector is made up of three components. Firms with (i) 1 to 9 employees micro enterprises
35
(ii) 10 to 99 employees - small enterprises (iii)100 to 499 employees - medium enterprises Thus, the SME sector comprises enterprises (except agric, hunting, forestry and fishing), which employ less than 500 workers. European Commissions definitions are based solely on employment rather than a multiplicity of criteria. Secondly, the use of 100 employees as the small firms upper limit is more appropriate given the productivity over the last two decades (Storey 1994). Alternative definition was given by United Nations Industrial Development Organisation (UNIDO). Its definition for the developing countries is as follows (i) (ii) (iii) firm with employees less than five (5) micro firm with employees between 5 and 19 small firm with employees between 20 and 99 medium
The UNIDO definition is also based solely on employment. 2:10:2 Ghanas Definition of Micro and Small-scale Enterprise The most commonly used criterion in defining micro and small enterprises in Ghana is the number of employees of the enterprise. The problem with the employee criterion is the confusion arising out of it, in respect of the arbitrariness and the cut off points used by the various official sources. Other sources also use fixed assets in the enterprise as a criterion in defining small and micro enterprises. The National Board for Small-scale Industries (NBSSI) in Ghana applies both the fixed asset and the number of employees criteria. Osei et al (1993) in defining small-scale enterprises in Ghana uses an employment cut off point of 30 employees to indicate small-scale enterprises. The small-scale enterprises are broken down into3 categories as follow;
36
(i) (ii) (iii)
firm employing less than 6 people - micro firm employing between 6 9 people - very small firm employing between 10 29 people - small
This definition is also based solely on employment rather than multiplicity of criteria.
2:11
MICRO AND SMALL-SCALE ENTERPRISE RELATION WITH THE FINANCIAL SERVICES IN GHANA
Lack of policy clarity and action specificity tended to exacerbate the marginalisation of micro and small enterprises, thus affecting their relationships with financial services sector. According to JAICA (1998), there is a large gap between micro and small-scale enterprises and financial institutions. In Ghanas pre-liberalisation era, the foreign banks and commercial banks had the majority of their branches concentrating their activities in the cities. They had traditionally shunned rural areas and the micro and small enterprises. According to Steel (1994), private firms access to bank credit has been restricted in many developing countries because governments and public enterprises had been given first claim on financial resources. The table below reveals the ratio of private lending to total lending as well as ratio of private sector credit to G.D.P in percentages in four African countries. Table 2:2 Credit Allocation between Private and Public Sectors Ratio of Private lending to Total lending Ratio of Private sector Credit to GDP (%) (%)
37
1986 Ghana 13.6
1990 27.6 40.4 44.9 14.6
1993 35.6 14.6 17.4 27.1
1981 86 2.4 9.1 17.4 2.3
Malawi 39.5-52.5 Nigeria 47.2-63.5 Tanzania 7.2
Source: The World Bank Economic Review, vol. 11 May 1997,No 2 The table above shows that, indeed private sector share of total lending is very low. This low lending to the private sector affected the growth of micro and small enterprises. Aryeetey et al (1994), analysing the impact of liberalised financial policies in Ghana, established that liberalised financial policies positively affected incentives to lend. However, other measures taken to stabilise the economy and strengthen the banking system had a short-run negative impact on credit availability to small enterprises. They concluded that tight monetary policies resulted in higher interest rates on government paper than on loans to long-standing commercial clients. This led in turn to non-competitive higher rates to new, smaller borrowers.
2:12
POLICIES FOR PROMOTING MSEs IN GHANA
The government of Ghana realising the potentials of MSEs for economic development has put in place a number of technical, institutional and financial support to enable the sector perform its effective role in the economy of Ghana. Firstly, private sector Advisory Group was set up, and the abolition of the Manufacturing Industries Act, 1971 (Act 356), which repealed a number of price control laws. Secondly, the investment code of 1985 (P.N.D.C Law 116), which promotes joint ventures between foreign and local investors was enacted.
38
Thirdly, a mutual credit Guarantee scheme was set up for entrepreneurs who do not have adequate or no collateral and have limited access to bank credit. Fourthly, Rural finance project aimed at providing long term credit to small-scale farmers and artisan was set up. The National Board for Small-scale Industries (NBSSI) has been established within the ministry of Trade and Industry to oversee the growth of micro and small-scale industries in Ghana. In 1987 the Ghana Appropriate Technology Industrial Service (GRATIS) was established. GRATIS is to oversee the small-scale industrial concerns by transferring appropriate Technology to small-scale enterprises. Again, Intermediate Technical Transfer Units (ITTUs) have been established in some Regional capitals to address the technical needs of small-scale enterprises. Bank of Ghana in collaboration with the institutions has been providing financial assistance to small enterprises. One such institution is the International Development Association (IDA), which has established fund for small-scale enterprises. Under the programme of Action to Mitigate the Social Cost of Adjustment (PAMSCAD), a revolving fund has been established for SMEs.
39
CHAPTER THREE
3:0 3:1 CONCEPTUAL FRAMEWORK AND METHOD OF STUDY OVERVIEW
According to Montiel (1995) a large number of variables have been used as proxies for financial development. These proxies are;
a)
indicators of financial depth such as narrow money supply (M1) as a proportion of Gross Domestic Product (GDP) or broad Money Supply (M2) as a proportion of GDP. This proxy can be expressed as IFD = M1/GDP or M2/GDP
b)
the share of financial intermediation done by Commercial Banks measured by the ratio of deposit money, bank domestic assets to the domestic assets of deposit
40
money of commercial banks and the central bank together (King and Levine 1992, 1993). c) the volume of lending to the private sector measured by ratio of flow of credit to the private sector to GDP, (De Gregorio and Guidotti (1992)) OR the share of total domestic banking system credit extended to the private sector as opposed to the public sector. (King and Levine 1992, 1993) d) direct indicators of financial repression such as the reserve ratio (Roubini and Salai-Martin 1992a) or the ex post real interest rate Gelb, 1989). King and Levine (1992). The study adopts both the financial depth and the volume of lending to the private sector as indicators of financial development.
3:2
FINANCIAL DEEPENING
One basic argument put forward by the McKinnon-Shaw hypothesis of financial sector liberalisation is that it leads to financial Deepening. Thus financial sector liberalisation accompanied by an increase in real interest rates encourages individuals to hold more financial assets, which is associated with high levels of savings, investment and growth. There are three indexes of measuring financial deepening. The three indexes of financial deepening are used to measure the impact of financial liberalisation on the portfolio choices of individual economic units. The three indexes are
a) b)
The narrow money supply (M1) as a proportion of Gross Domestic Product (GDP) Broad money supply (M2) as a proportion of Gross Domestic Product (M2/GDP)
41
c)
The broad money supply (M2) plus private foreign denominated deposits, government Treasury bills and government stocks (M2) as a proportion of GDP (M3/GDP)
M1 is defined as currency plus demand deposits M2 is defined as M1 plus savings and time deposits M3 is defined as M2 plus foreign denominated deposits, government Treasury bills and government stocks. For the purpose of this study, financial deepening will be measured by the ratio of broad money (M2) as a proportion of Gross Domestic Product (M2/GDP). This is because M2/GDP has been the traditional measure of financial deepening. Also in Ghana like many developing economies the most widely used financial assets are currency, demand deposit, and time deposits unlike in developed economies where Treasury bills and other financial assets are widely used. Hence the appropriate measure for financial deepening in Ghana is M2/GDP.
3:3
EFFECT OF MACROECONOMIC VARIABLES ON CREDIT TO THE PRIVATE SECTOR
The McKinnon-Shaw hypothesis argues further that financial deepening increases the volume of institutional credit. Mwadira and others (2002) in analysing the effect of macroeconomic variables on credit to the private sector in Zimbabwe identified three important macroeconomic variables viz, i) ii) iii) Lending interest rate Gross Domestic Product Bank financing of government budget deficit.
42
In Ghana, like many countries, the financial environment in which lenders and borrowers must operate can be altered by floating interest rates and changes in monetary policy. Government budget deficits are generally financed through bearing on lending rates in Ghana. Hence, the macroeconomic variables that affect credit to the private sector in Zimbabwe are adopted to study the effect of macroeconomic variables on credit to the private sector in Ghana. An analytical framework can therefore be used to explain the effect of macroeconomic factors on credit to the private sector. This is done by using a model, which links credit to the private sector to the performance of the G.D.P, lending interest rates and bank financing of government budget deficit.
(i)
Lending Interest Rate (it) And Credit To The Private Sector (Ct)
Theoretically, it is expected that an inverse relationship would exist between lending interest rate and credit advanced to the private sector. Macroeconomic environment affects the performance of the banking sector, by influencing the ability to repay borrowed loans. The demand for loans with unpredictable returns from investment and quality of collateral determines the amount of premium charged and therefore the cost of borrowed funds to the investors. An unstable macroeconomic environment and poor economic growth present an uncertainty about investment return and these raise the lending rates as the level of nonperforming loans goes up. This squeezes the bank margin. As the level of non-performing loan increases, banks have to charge high-risk premiums to cover their default risk. Low lending rates do not allow banks sufficient profit margins to accommodate the increased expenses associated with lending to small and new borrowers. At concessionary lending interest rates, lenders (banks) may ration credit according to commercial creteria. Banks
43
therefore lend to clients offering greater security and less risk. Therefore at a lower interest rate, credit advanced to small-scale enterprises and new borrowers is limited since banks consider them to be risky and lacked the needed collateral security.
(ii)
Gross Domestic Product (GDPt) and Credit to the Private Sector (Ct)
Credit to the private sector is influenced by the Gross Domestic Product of a nation. Theoretically, it is expected that a direct relationship would exist between GDP and amount of credit advanced to the private sector. This is because if a nations GDP is high, the private sector share of credit is likely to be higher and vice versa.
(iii)
Bank financing of government budget deficit (BfGDt) and credit to the Private Sector (Ct).
Fiscal deficit is caused by increased government expenditure in excess of its revenue. There are several ways of financing government budget deficit. One way of financing the government budget is by borrowing from the banking system. If the government budget deficit is financed by the banks it affects credit expansion to the private sector through a rise in lending interest rates. Government borrowing from the banking system thus reduces supply of loanable funds to the private sector (crowding out effect). An inverse relationship is expected to exist between the amount of credit advanced to the private sector and bank financing of the government budget deficit. The higher the amount of government budget deficit financed by the banking sector, the smaller the amount of loanable funds available to the private sector, especially small-scale borrowers.
3:4
Estimation Of The Model Of Impact Of Macroeconomic Factors On Credit To The Private Sector.
44
In estimating the model of the impact of macroeconomic factors on credit to the private sector in Ghana, the study adopted the model used by Mwadira et al in (2002) in estimating the impact of macroeconomic factors on credit to the private sector in Zimbabwe. Thus the impact of macroeconomic factor on private sector is analysed by estimating a linear regression model as follows. Ct = f (GDPt, BfGDt, It, D) Ct = o + 1 GDPt + 2 BfGDt + 3 it + 4 D + Where, Ct = credit or loan to the private sector at time t GDPt = Gross Domestic Product at market Price at time t it = lending interest rate at time t BfGDt = Bank financing of government budget deficit at time t Dt = Dummy variable for the liberalisation period = residual The dummy variable is introduced into the model to capture response to shocks during the liberalisation period.
3:5
METHOD OF STUDY
3:5:1 Stationarity Test The first test to be conducted is the Stationarity Test to establish the stationarity of the variables. The reason for this test is that most economic time series data tend to be non-stationary. A non-stationarity series has no finite variance asymptotically and therefore many of the standard theorems of asymptotic analysis will not be valid. If a series is non-stationary, one is likely to finish up with a model showing promising diagnostics test statistics even in the case where there is no sense in the regression
45
analysis. It is therefore important to establish the stationarity of the variables before any meaningful regression can be done. The study uses the Augmented Dicky Fuller test (ADF) to test the stationarity of the variables. The ADF test is superior to the Dicky Fuller (DF) test, since the DF test does not consider the possibility of auto-correlation in the error term. The ADF is used to overcome the auto-correction in the error term (Ngugi & Kabubo 1998) 3:5:2 Cointegration Test After establishing the stationarity of the variables, the next test is the Cointegration Test. Cointegration analysis is used to test the long run relationship between the variables in the model. Variables are said to be cointegrated if a linear combination of these variables assumes a lower order of integration. These variables must always be of the same order of integration individually. That is, they are individually non-stationary, integrated of the same order, but their linear combination is integrated of a lower order (Ndungu 2001). The purpose of the cointegration test is that if two or more series are linked together to form equilibrium relationship for a long run, the relationship between the variables returns to the mean even though each individual series may not revert to the mean. The study used the Johansen (1988) cointegration approach to test the cointegration between the variables. The Johansen approach employs two test statistics; the trace statistics and the maximum eigen values. The statistics are applied sequentially to determine the number of cointegrating vectors in the system. Gonzalo (1994) supports the superior properties of the Johansen Technique relative to the others.
3:5:3 Error Correction Model (ECM)

46
The short-run structure of the model is also important in terms of the information it conveys which is associated with the short-run adjustment behaviour of economic variables. Therefore in the second step, the study will estimate the short-run variation in error correction form with uniquely identified cointegrating vector to obtain a parsimonious version of the statistical model under consideration. The study applies the Schwarz Bayesian Creterion (SBC) by using the conventional ECM that takes into account the cointegrating relationship among the variables. The data for the analysis is collected from the Bank of Ghana monthly as well as annual reports and also from the Statistical Services of Ghana.
3:6
THE IMPACT OF THE FINANCIAL LIBERALISATION ON THE PERFORMANCE OF MICRO AND SMALL-SCALE ENTERPRISES.
The impact of the financial liberalisation on the performance of micro and small enterprises is examined through a survey of micro and small-scales enterprises in Ashanti Region particularly Kumasi Metropolis. The survey is carried out to assess the views of micro and small-scale entrepreneurs on very important issues, which are relevant to the research topic. The most topical issues being the accessibility to bank loans and services by the micro and small-scale operators, and how these services have improved their performances.
3:7
HYPOTHESES
The hypotheses to be tested based on the objective of the study are that; (a) The monetary and fiscal policies implemented during the liberalisation period has not led to increase credit expansion to the private sector. (b) The financial sector liberalisation has not resulted in an improvement in the performance of micro and small-scale enterprises in Ghana.
47
(c) Financial sector liberalisation has not led to an increase in market participation in the financial market. (d) Financial liberalisation has not led to an increase in private investment. The intermediation proxies that are to be tested based on the model for the study are the credit to the private sector (Ct) against Gross Domestic Product (GDPt), Bank financing of government budget deficit (BfGDt) and lending interest rate (it). Credit to the private sector (Ct) is the dependent variable, and Gross Domestic Product (GDPt), Bank financing of government budget deficit (BfGDt) and lending interest rate (it) are the independent variables. First the Null hypothesis that the variables in the model are non-stationary is tested against the alternative hypothesis that the variables are stationary. That is H0 : = 0 1 = = 0, then = 1 Which implies non-stationarity Then H1 = = 0 1 < 0, then < 1 Which implies stationarity
Another hypothesis testing relates to the improvement in the performance of micro and small-scale enterprises. The improvement in the performance is normally considered in terms of increases in output and profit margins of the enterprises. This performance also relates to expansion in the operations of the enterprises, and the expansion is also considered to be a function of accessibility to credit from financial institutions at a lower cost. Similar accessibility to credit may be due to competition in the financial sector which may lead to narrowing of interest rate spread between borrowing and lending rates. The competition may be due to financial liberalisation, which is associated with the entry of new financial institutions into the financial sector. Accessibility to financial service is
48
considered as a proxy for financial liberalisation and improvement of micro and small enterprises in terms of increases in output and profit margin is proxy as impact of financial liberalisation.
CHAPTER FOUR
4:0 EMPIRICAL RESULTS AND SURVEY FINDINGS
This chapter analysis the empirical results and survey findings of the study. First the study analysis the results of the model on the effects of macroeconomic factors on credit to the private sector and then the findings of the fieldwork carried out by the study.
4:1
Results Of The Model On The Effects Of Macroeconomic Factors On Credit To The Private Sector.
The study carried out three(3) major test to arrive at the results of the model on the effects of the macroeconomic factors on credit to the private sector. The tests are i) ii) iii) Unit root test for stationarity Cointegration test The Error correction model test
4:1:1 Unit Root Test for Stationarity The study uses the Augmented Dicky Fuller (ADF) test to test the stationarity of the variables in the model. The ADF test was used to capture the long run lag length. The results of the ADF test are as summarised in the table 4:1 below. Table 4:1 Results of Unit Root Test
49
Variable D Credit D GDP D BFGD D i Note i) ii)
ADF Test Statistics -5.136 -3.389 -8.785 -4.119
Critical values -3.6 -3.6 -3.6 -3.6
Order of Integration (I(d)) I(1) I(1) I(1) I(1)
The D attached to the variables means differentials The regression equations for the ADF test included constant and a trend.
The ADF test performed shows that all the variables are stationary after the first differences at the 5 percent level of significance. This means that the mean and auto covariances of the series do not depend on time Johansen et al (1991). The test statistics for the variables in the model are less than the critical values, hence the null hypothesis of non-stationarity is rejected. Thus the variables in the model are stationary after the first differences. The next step after the unit root test for stationarity is to check whether the variables in the model are cointegrated.
4:1:2 Cointegration Test The cointegration test is important to examine the long run relationship that exists among the variables in the model. The study uses the autoregressive (VAR) system to determine the optimal lag. VAR(1) system was tested by increasing the lag in the VAR by 1. The process was eventually set at 4 where the lag residual produced white noise. Table 4:2 below shows the Johansen test for cointegration of the variables in the model that is credit/loan to the private sector (c), interest rate (i), Gross Domestic Product (GDP) and Bank financing of government budget deficit (GFGD).
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Table 4:2
Johansen Test for Cointegration Lambda(Trace) Lambda (Max) Min
Ho: rank = Lambda(Trace)
Statistics @ 0.95 Statistics =0 132.650 47.66 67.43 4.65 <= 1 19.275 21.61 18.57 19.32 <= 2 7.631 14.32 6.32 12.26 <= 3 0.0765 5.63 0.076 5.38 From table 4:2 above both the maximal eigen values and trace eigen values. Statistics reject the null hypothesis of no cointegration. The alternative hypothesis of cointegration is accepted. There is at least one cointegration at 5 percent significance level. The value of 132.65 exceeds the 95 percent critical value of Lambda trace value of 47.66. Also the maximum eigen value statistics of 67.43 exceeds the critical value lambda (max) of 21.65. The alternative hypothesis of at least one cointegration vector ( <=1) is accepted at 5 percent level of significance.
4:1:3 The Error Correction Model (ECM) The error correction model is used to estimate the short-run dynamics of the series since there is a cointegration relationship among the variables. The Schwarz Bayesian Criterion (SBC) was applied as a conventional error correction model which takes into account the cointegrating relationship among variables. The ECM results shows that the adjusted R-squared is equal to 75 percent which means that 75 percent of the variations in loans advances to the private sector is explained by the variations in the variables included in the model viz. lending interest rate (i), Gross Domestic Product (GDP) and Bank financing of government deficit (BFGD). The F-test for 51
the significance of the whole model also confirms that the model is significant at 5 percent level of significance. The most significant variables in the model are lending interest rate and Gross Domestic Product.
Table 4:3 Variable Constant GDP BFGD i Dummy EC-1
Regression Results for ECM Coefficient -224.93 0.080474 -0.15573 -0.87276 -14.491 0.42947 Standard Error 115.49 0.021649 0.178950 0.86762 56.620 0.29540 t-value -1.948 3.717 1.973 1.006 -0.256 0.351 t-prob 0.0718 0.0023 0.0686 0.3315 0.8017 0.7310 Part R2 0.2132 0.4967 0.2175 0.0674 0.0047 0.0087
R2 = 0.75271 F(5,11) = 8.5227 [0.0007] Sigma = 55.9209 DW = 1.87 RSS = 43779.99414 AR 1-2 F(2,12) = 2.0602 [0.1701] ARCH 1 F(1,12) = 0.0060385 [0.9393] Normality Chi2(2) = 0.59411[0.7430] X2 F(9,4) = 0.60797 [0.7545] RESET F(1,3) = 0.042797 [0.8393]
From the regression results in table 4:3 above, the interest rate variable (i) as expected has got a negative sign. Thus there is an inverse relation between lending interest rate and credit advancement to private sector. This implies that an increase in interest rate has the effect of reducing the amount of loans advanced to the private sector. This shows that in Ghana during the periods of high lending interest rate, amount of loans advanced to the private
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sector was very low, since the high cost of borrowing associated with high interest rate reduces the private sector borrowing particularly small and micro enterprises. The coefficient of bank/financial sector financing of government budget deficit has a negative sign. Thus there is an inverse relation between Bank financing of government budget deficit and loan advancement to private sector. This affirms the crowding out effect theory, which explains that if government budget deficit is financed by the banking sector, credit to the private sector is affected. The effect however depends on the quantum of the deficit being financed by the bank. In Ghana government budget deficit had been financed by the banking sector, particularly during the pre-liberalisation era, leaving a small quantum available to the private sector. For instance in 1982 (pre-liberalisation era) the allocation of credit to the government was 59.13 percent of GDP whilst the credit to the private sector was 8.33 percent of GDP. Also in 1987 credit allocation to government was 78.11 percent of GDP and credit allocated to private sector the same year was 11.94 percent of GDP. The post liberalisation period however saw more credit going to the private sector. For instance in 1993, credit allocation to the government sector was only 2.58 percent of GDP whilst the private sector credit was 73. 91. In 1997 the government sector credit was 13.53 percent of GDP whilst the private sector credit was 67.59 percent of GDP. This shows that during the pre-liberalisation period government was the main beneficiary of domestic credit, and the post liberalisation period witness the private sector being the main beneficiary of domestic credit. This revelation however confirms the study of Sam. Q. Ziorklui in 2001, that the post liberalisation period has seen the government relying heavily on borrowing from the financial markets instead of through the banking sector. This has reduced the crowding out effect on private sector borrowing. The allocation of domestic credit from 1982 to 1997 is shown in appendix
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The GDP variable, as expected has a positive sign. It shows that there is a positive relationship between the GDP and the credit to the private sector. Thus the higher the nations GDP, the higher the amount of credit advanced to the private sector all things being equal. However, from the regression results in the case of Ghana, the coefficient is insignificant at 5 percent level of significance. The error correction term lagged once (i.e. EC-1) is significant at the 5 percent significance level. This that there is a significant long run relationship between the variables. This means that the errors from the long run equilibrium cannot be corrected in a single period.
4:2
FINANCIAL DEEPENING
One basic argument of the McKinnon-Shaw model of financial liberalisation is that real deposit rates at the level of market clearing level encourages financial savings and thus increase the flow of loanable funds through the organized financial system. This increases financial deepening leading to an expansion of the volume of institutional credit. For the purpose of this study, the broad Money (M2) as a percentage of GDP measures financial Deepening. The ratio of broad money (M2) as a percentage of Gross Domestic Product (GDP) (i.e.
M2/GDP) indicates that financial development in Ghana had been repressed prior to financial liberalisation. The M2/GDP ratio was generally low and had declined in most years since 1977 and reached a low level of 12.5 in 1984 from 29.7 in 1977. The table showing deposit interest rate (i), inflation (P) and financial depth (M2/GDP) is presented in appendix. The pre-liberalisation period had witness low interest rates whereby Bank of Ghana set minimum rates for deposits and placed ceilings on lending rates to serve as incentives to attain higher levels of investment. Once the rates were determined, they were allowed to be effective for extended periods of time without adequate cognisance of the
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changes in the real sectors of the economy. The policy of low interest rates in Ghana appears to have caused more distortions than the market imperfection it was designed to overcome. As the low rates were fixed for extended period of time without due regard to high rates of inflation, real interest rates tend to become negative. The interest rates in the pre-liberalisation era were determined rather than by market forces and rose less rapidly than the rate of inflation which increased from 10 percent (10%) in 1972 to 123 percent (123%) in 1983. The consequence of high rates of inflation and the negative real interest rates led to disincentive effects of dealing in financial assets by both banks and other wealth-owning units. The returns on financial assets did not rise to compensate for the loss of value endangered by rising prices. The inflation increased financial shallowing as the increases in prices altered the relative attractions of present values of future claims and of consumption. The banks were less interested in mobilizing savings just as the people were reluctant to save for fear of loss of value in their financial assets. This led to a reduction in financial savings resulting in the decline of M2/GDP ratio. (V.K Nyanteng (ed), 1995). This was due to the pre- financial liberalisation low interest rates policy which confirm the McKinnon-Shaw model against financial repression, that monetary policy that add the risk of money holding is bound to stimulate demand for physical wealth and for consumption as well as causing capital flight. The post-liberalisation period experienced an increase in the M2/GDP ratio. Though the increment was not substantial the M2/GDP ratio which, was at its low level of 12.5 in 1984 (pre-liberalisation era) increased to 17 in 1988 fell to 13.4 in 1991 and increased again to 18.7 in 1994 and again to19 in 1996 reaching 26.8 in 2001. The currency appropriation in 1979 and 1982, the freezing of bank accounts and the decree authorizing the government to demand details of customers accounts from banks served to erode public confidence in holding domestic currency and using the banking system. The McKinnon-Shaw hypothesis on financial liberalisation that it increases financial deepening
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would have led to a substantial increase in M2/GDP after the liberalisation. Table showing financial depth (M2/GDP), Deposit rate (r), and inflation is represented in appendix II. Another table showing real interest rate (i), Gross Domestic Product (GDP) and Bank financing of government budget deficit (BfGD) is presented in appendix III.
4:3
MARKET PARTICIPATION
One feature of the banking industry after the liberalisation is the remarkable increase in the number of commercial banks and their branches operating in the country. From a preliberalisation, number of about two (2) foreign banks and five (5) state owned banks with no non-bank financial institutions, the sector has widened considerably. According to the state of the Ghanaian economy (2001) there are now seventeen (17) major banks in the Ghanaian banking system comprising 9 commercial banks, 5 merchant banks and 3 development banks. An outstanding and useful innovation is the establishment of unit rural banks, which were non-existent in the pre-reform era. The total number of the rural banks increased from 100 in the 1990s to 123 in 2001, which are spread throughout the country with Ashanti Region recording the highest number of 21 rural banks and Upper West recording the least of 2. (The state of the Ghanaian economy 2001). The non-financial institutions which were also not in existence in the pre-liberalisation era except the Social Security and National Insurance Trust by 1995, comprised of a stock exchange, 21 insurance companies, 2 discount houses, the Home Finance Companies, a Venture Capital Company, 9 Unit Trust and a Leasing Company (Ghana: Country Report, World Bank document, 1995). The liberalisation paved the way for dynamism in the banking industry in Ghana. The banking sector has expanded in volume, complexity and modernization. With the removal of entry barriers for foreign banks into the local market, the sector had been exposed to
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international competition leading to modernization and innovation. One major development in the banking industry in 2001 according to the state of the Ghanaian economy 2001 was the commencement of the Real Time Gross Settlement (RTGS) system, which started operation in 2002. Thus Ghana RTGS system also known as the Ghana electronic and Telecommunications Technology to link the head offices of banks to the Bank of Ghana and enable electronic payment among the banks on gross basis and in real term. The performance of the banking industry in terms of their total assets is encouraging. The total assets of the 17 major banks have been increasing from the 11829.0 billion at the end of 2000 by 25.5% to 14,492.9 billion at the end of 2001. The deposit of the major banks recorded a growth of 16.3% in 2001. The performance of the rural banks by the Bank of Ghana (based on a minimum capital adequacy ratio of 6%) indicated that the number of satisfactory rural banks increased from 58 in 2000 to 80 while those classified as mediocre decreased from 53 to 35. The total assets of the rural banking system increased to 515.7 billion in 2001. The liberalisation has increased the innovation scheme of the banks towards deposit mobilization and new products such as mobile banking Susu schemes and the provision of special deposit facilities to students. The total deposits recorded 373 billion in 2001 from 235 billion in 2000. (State of the Ghanaian Economy in 2001). 4:4 DOMESTIC SAVINGS
The McKinnon-Shaw model on financial liberalisation postulates that high interest rate encourages domestic savings. It was against this background that financial liberalisation was implemented in 1986, which intended to lead to increased domestic saving and greater efficiency of credit allocation and put an end to capital flight. The high interest rate policy under the financial sector reform has had a positive impact on domestic savings in Ghana though not to the expected results. The trend however vindicates the McKinnon-Shaw
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model on financial liberalisation. According to Gockel et al (1995) Ghanas experience of insignificant resource mobilization after the liberalisation could be attributed to lack of public confidence in the financial system. The confidence factor according to Gockel et al can be attributed to macroeconomic instability, the lingering effects of socio-politically uncertainty and unorthodox policies especially between 1979 and 1982. The policies included the freezing of all bank accounts exceeding 50,000 and the investigation of holders for tax liability and corruption and fraud, and the demonetisations of 50 notes in circulation in 1982 in an attempt to mob excess liquidity and halt inflation. These policies notwithstanding the domestic savings as a percentage of GDP by private enterprises increase from the pre-liberalisation figure of below 7.1% of GDP to 18.7% of GDP in 1997 (post-liberalisation period) and again to 20.5% of GDP in 2000.
4:5
PRIVATE INVESTMENT
Investment growth is boosted by the availability of resources. The weakness of capital investment has been a feature of the Ghanaian economy since the end of the state-led investment drive in the mid 1960s (Aryeetey ed 1995). During the 1970s and the early 1980s, economic policies were simultaneously unconducive to investment and discouraged savings institutional credit in the local market and foreign borrowing constrain the resource base of private investment. During the pre-liberalisation period the economy experienced a serious financial shallowing and private investment fell to low levels. Private investment levels were not only low but exhibited a declining trend during the pre-liberalisation period from annual average of 7.8% of GDP in the 1st half of the 1970s to 4.1% in the 2nd half and 3% of GDP during 1980-83 (Aryeetey (ed)(1995)). Table 4:4 shows the trend of public and private investment as a percentage of GDP between 1970 and 1994.
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Table 4:4
Public, Private and Total investment: % of GDP 1970
Year Public Investment Private Investment Total 1970-74 3.6 7.9 11.5 1975-79 4.8 4.1 8.9 1980-83 1.3 3.0 4.3 1984-87 5.5 3.6 9.1 1988-91 7.6 5.1 13.7 1992-94 10.0 4.5 14.5 Source: Economic Reforms in Ghana, the miracle and the mirage Ernest Aryeetey. (ed) Domestic private investors have faced financing constraints in bank credit markets. Bank lending to the private sector rose between the start of ERP and 1992, but the rate of expansion was constrained by the Bank of Ghanas monetary policies (credit ceiling up to 1991, Open market operations and liquid asset ratios, thereafter). Bank credit to the private sector during the pre-liberalisation period averaged less than 5% of GDP. Bank credit to the private sector during the post-liberalisation period has however been increasing. In 2000 the bank credit to the private sector was 3,826 billion (35.2% of the total credit) and equivalent to 14% of GDP. The amount increased to 4,595 billion (40.1% of total credit) in 2001. Total private investment rose from the pre-liberalisation figure of 4.8% of GDP to 15% of GDP in the mid 1990s and rose again to 28.6% of GDP in 2000. The increase in private investment is attributed to the investment policies put in place during the Economic Recovery Programme. According to Gockel et al (1995) included in the policies are that; the government made a major effort to increase public savings and to reduce its domestic borrowing requirements, with the aim of releasing resources for use by the private sector. Public sector borrowing from the domestic banking system was reduced from 16% of GDP in 1983 to 7.3% in 1990 (IMF 1994).
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Also legislative changes were enacted to improve incentives and enhance confidence among private investors. Again pricing reforms and the liberalisation of external trade and domestic goods markets induced major sectoral shifts in price incentives for investment. These factors accounted for an increase in private investment after the liberalisation of the financial sector. Though the increase is not substantial it affirms the McKinnon-Shaw
model of financial liberalisation that it leads to financial deepening hence increasing the volume of institutional credit for investment. 4:6 SOURCES OF START-UP CAPITAL
The survey revealed that the use of financial services as a source of start up capital has increased slightly in the post liberalisation period. The study shows that some entrepreneurs use bank loans as a source of start-up capital. From the pre-liberalisation figure of 6.5% of those who started their enterprises before liberalisation (200 enterprises) who used financial services as start-up capital, the figure increased to 14.5% of those who started their businesses in the post-liberalisation period (350 enterprises). This shows that the percentage of those who used financial services as start-up capital has gone up. However the trend does not show a shift from the traditional source of start-up capital, which is own savings e.g. Susu. Out of the number of 200 respondents who started their businesses before the liberalisation of the financial sector 47.5% replied that own savings was their source of start-up capital. And after the liberalisation figure of 350 respondents 46% of the respondents had their source of start-up capital from own savings. This show that own savings still predominates as a source of start-up capital for small enterprises. Banks normally consider new investors especially small firms as risky and do not lend to them. Own savings therefore constitute the major source of start-up capital.
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Another source of start-up capital, which is gradually, but significantly becoming a major source is micro financing. In Kumasi Metropolis as well as in some Districts where the study covered, most respondents replied that micro financing was their source of start-up capital. Notably among these micro-finance institutions where the enterprises source their capital are the Sinapi Aba Trust and First Allied Savings and Loans Limited. The National Board for small-scale industries micro credit fund also contributes to the source of start-up capital. The number of clients of the Sinapi Aba trust, for example increased from 530 in 1995 to 13, 979 in June 2000. Its branches also increased from one (1) in 1995 to 15 in 2000. The number of loans advanced to micro enterprise by Sinapi Aba trust increased from 1,741 in 1996 to 9161in 2000. The value of the loans advanced to micro enterprises in (million cedis) increased from 701.5 in 1996 to 4,606 in 2000. ( www.sinapiaba.com). This confirms that micro financing has become a significant source of finance for micro enterprise in Ghana. The table 4.5 below reveals the source of start-up capital for the micro and small-scale enterprises in the study area.
Table 4:5
Source of Start-up Capital Less than 10yrs in business More than 10yrs in
Source Bank Micro-finance institution Family/friend Own savings e.g. Susu Inheritance Total Source: Survey Results.
(post-reform) No. % 51 14.5 91 26 30 8.6 161 46 17 4.9 350 100

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business (pre-reform) No. % 13 6.5 9 4.5 39 19.5 95 47.5 44 22 200 100
4:7
ISSUE OF WORKING CAPITAL
Working capital is another issue that confront MSEs in their quest to expand their enterprises. Most respondents (67%) cite lack of working capital as the main constraints to their operations and expansion of their enterprises. Though lack of working capital was identified as a constraint to MSEs development, it is not as serious as lack of start-up capital. Banks consider advancing start-up capital as risky venture and do not lend start-up capital to MSEs. However, some banks develop interest in lending to MSEs once the enterprises are in operation. The success of MSEs in accessing working capital from banks however depends largely on the creditworthiness of the MSEs. Also MSEs that are able to keep proper records and good accounting and management practices are potentials for accessing loans from banks. Most commercial banks contacted attributed their unwillingness to lend to small enterprises to risk involved. According to the banks most small enterprises are likely to default in repayment of amount borrowed. Because of the high defaulting rate, banks have to do proper screening to determine those enterprises that are creditworthy. The screening and the process of ensuring repayment of borrowed amount have resulted in Banks demanding collateral from the enterprises. The main creteria that the Banks have been adopting in advancing to loans to the small enterprises have been the creditworthiness of the enterprises and the ability to provide collateral, and the enterprises that are able to keep proper records.
4:8
AWARENESS AND USAGE OF FINANCIAL SERVICES BY MSEs
Another revelation from the survey is that most MSEs are aware of financial services but relevant information on available services by the financial sector is limited.
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On the use of financial services by way of opening bank accounts and saving with the banks, 54% of the respondents have bank accounts implying saving with the banks. Out of this number, 34% have accounts with commercial banks while the majority of them (66%) save at the rural banks. Thus the rural banks, which are the product of financial liberalisation has succeeded in making MSEs saving with them. As to whether they get loans from the banks, 49% of the respondents replied having received loans from the banks before, and 51% of the respondents have never received loans from the banks. Giving reasons for not having bank accounts or not being able to receive loans from the banks, some respondents attributed the situation to lack of information, which shows that the relation between the financial sector and the MSEs in terms of information is still limited. The MSEs are not aware of available package in the form of financial assistance or services from the financial institutions likewise the financial services are not reaching out to the MSEs by way of exploring their potentials. This affirms the perception of financial institutions that MSEs are unbankable and MSEs blaming the financial institutions as not viewing it favourable. This is not however to say that there have not been accessibility to various financial services. Though lack of information has been identified as a hindrance to accessing credit from the financial institutions, there has been an increase in accessibility to financial services in the post-liberalisation period than the pre-liberalisation era. During the preliberalisation era, financial services were limited. The services were being provided by few commercial banks whose branches were confined to the big cities hence excluding the rural area of their services. However with the liberalisation financial services are now available. Various services like Treasury Bills fixed deposits; personal loan facility as well as group credit scheme is now available. The personal loan facility now covers monthly salary earners whose monthly salaries are paid through the commercial banks. The salaries serve
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as collateral with the senior officer guaranteeing the payment of the salaries through such a bank spanning over the period of the loan recovery. This personal loan facility has facilitated the setting up of multiple micro enterprises in the country. The low rate of loan default by salary earners has made commercial banks giving preference of giving loans to salary earners. The group credit scheme has also become a more preferred channel by commercial banks in advancing loans due to their low defaulting rate. Under the group credit scheme, entrepreneurs of MSE organize themselves into groups, elect their own leader and some executive members and the loans are advanced to the group with the executives jointly or severely guaranteeing the loan when approved. The executives then assist in the collection of the loans on behalf of the credit agencies. The Sinapi Aba Trust, a micro finance institution use this group credit scheme method in advancing credit to the MSEs which has been very successful with low defaulting rate. The survey revealed that more women access the group credit scheme than men do. The ratio of female to male clients was 56 to 44 in 1995 and in 2000 the ratio was 88.4 to 11.6. About 30% of those interviewed source funds from the Sinapi Aba Trust and out of this number 65% of them are women. The worrying situation is that even though large loans are channelled through the group credit scheme, loans that go to the individuals in these groups are relatively smaller than the personal loans. Notwithstanding, the liberalisation of the financial sector has made it possible for micro financial institutions to enter into the financial sector. These micro financial institutions have become the bedrock in providing funds for micro and small-scale enterprises. Through the Susu account holdings, MSEs that in the pre-liberalisation period found it difficult to enjoy credit facilities now enjoy them under the rural banking scheme. About 66% of the respondents have accounts with the rural bank, which is a pre-condition for
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accessing credit. The survey however revealed an excess demand for bank finance by micro and small-scale enterprises. The problem now with the credit advances is that there is excess demand for credit over what the banks are supplying and not the complete lack of access to banking services. Firms received loans far much less than they requested. The state of the Ghanaian economy in 1993 revealed that for firms that had put in loan applications there was 2:1 probability that the application would be rejected, and for the micro-enterprises the ratio was 3:1. Thus micro enterprises had to put in an average of three applications before one was successful. The establishment of rural banks has helped in filling the gap of excess demand over supply of credit by commercial banks to MSEs. The government of Ghana realizing the gap between excess demand over supply of credit and knowing the role MSEs can play in the socio-economic development of the country has established a fund known as the small and micro enterprise fund under the supervision of National Board for Small-scale Industries to disburse loans for MSEs. The fund is sponsored by the governments of Ghana and the Federal Republic of Germany. Other Non-government Organizations (NGOs) have been established to provide funds for MSEs. These funds have helped to supplement what the financial institutions are providing.
4:9
DIFFICULTY IN ACCESSING LOANS FROM BANKS
On the issue of difficulty in accessing loans from banks, respondents (40.7%) replied that the most difficulty in accessing loans from banks is high interest rate. Lending interest rate in Ghana had been high (averaged 44% in 2001). The high interest rate, which was the result of tight monetary policies, implemented as a condition for liberalisation has made it difficult for MSEs to borrow from the banks. Also financing government budget deficit
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from the banking sector resulted in crowding out the private sector. Banks developed less interest in advancing credit to small borrowers. Another equally difficult issue in processing for loans from the banks is the demand for collateral. Most banks demand collateral, often landed property. This landed property as collateral is often beyond the reach of most small entrepreneurs. Demand for collateral thus becomes a hindrance in processing bank loans. Lack of information is another difficult issue in accessing loans from the banks. The table below reveals the issues that make accessing loans from banks difficult for MSEs. Table 4:6 Issues of Difficulty in Accessing Loans From Banks Frequency 224 127 64 50 46 21 12 6 550 Valid Percentage 40.7 23.1 11.6 9.1 8.4 3.8 2.2 1.1 100
Issue High interest rate Demand for collateral Lack of information Difficulty in getting guarantors Repayment terms Difficult processing procedure Unhelpful/unfriendly staff Others Total Source: Survey Results
4:10
EDUCATIONAL BACKGROUND OF ENTREPRENEURS
The study revealed that most of the micro and small-scale entrepreneurs have low educational background. This low educational background is translated into lack of managerial know-how, which is a constraint to MSEs development in Ghana. The educational background of the respondents in the study area is presented in the table below. Table 4:7 Educational Qualification of Entrepreneurs Frequency 8 6615 Valid Percentage 1.5 2.7
Level B.Sc./B.A/Graduate G.C.E. A Level
G.C.E. O Level S.S.S Level Diploma N.V.T.I R.S.A I/II/III City and Guilds M.S.L.C J.S.S None (on the job training) Commercial / Craftsman Total
39 35 12 20 36 40 157 105 63 20 550
7.1 6.4 2.2 3.6 6.5 7.3 28.5 19.1 11.5 3.6 100
4:11
PERFORMANCE OF MSEs
On the performance of the enterprises in terms of improvement in output, 28% of the respondents who started their business in the pre-liberalisation period (200 enterprises) replied that there has been very much improvement in their output in the post liberalisation era than in the pre-liberalisation period, whilst 56% of them replied that there has been an improvement in their output but not very much and 16% of the respondents replied that there has not been any improvement in their output. Out of the number of 350 of those who started their operations in the post-liberalisation period, 31% of them replied a very much improvement in their output, while 52% of them responded an improvement in their output but not very much and 17% of the respondents have not seen an improvement in their output. Improvement in terms of profit also, out of the number of 200 of those who started their operation in the pre-liberalisation period 27% of them responded a very much improvement in profit after the liberalisation, while 52% replied that there has been an improvement in profit terms but not very much and 21% have not seen any improvement in profit terms.
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For the number of 350 enterprises established in the post-liberalisation period 36% of them have seen a very much improvement in their profit, while 49% of the respondents have seen an improvement in profit but not very much and 15% replied no improvement in their profit. On employment, the post-liberalisation period has witnessed an increase in employment than the pre-liberalisation period. The study revealed that over 60% of the enterprises responded an increase in employment in the post-liberalisation period. On what accounted for the performance of their enterprises, purchase of equipment dominated (34%) followed by demand for products (24%) then getting loans for expansion (21%) then training received (16%) and others (5%). The study revealed that purchase of equipment, which accounted for the improvement in the operations of micro and small-scale enterprises, is in the form of significant technological change in the operation of micro and small-scale enterprises. The establishment of Intermediate Technology Transfer Units (ITTUs) in the country and the Ghana Appropriate Technology Industrial Services (GRATIS) which supervise the operations of the ITTUs have been given technical advise to the micro and small-scale enterprises. This has succeeded in improving the technological needs of the enterprises thereby improving their operations. The Business Assistance Centres (BAC), which have been established in the District are also giving business advise to micro enterprises, which is helping in improving the businesses.
4:12
CONSTRAINTS
Apart from access to finances as the dominant constraint to MSEs development other constraints that inhibit the development and expansion of MSEs are discussed below.
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One constraint is production problem. This is translated into the difficulties in gaining access to appropriate technologies and information on available techniques. This limits innovation and MSEs competitiveness. Aryeetey et al (1994) mentioned old equipment as one of the four most significant constraints to MSEs development and expansion, though ITTU and GRATIS give technical assistance to micro enterprise, most MSEs are outside the reach of the technical assistance. Another constraint is lack of market for the products. The MSEs, which were previously, protected from international competition, now face greater external competition with the coming into effect of trade liberalisation leading to many imported substitutes coming into the country and the international market. Also inefficient distribution channels often dominated by larger firms pose important limitations to market access for MSEs. This demand constraint limits the growth of MSEs (Dalitso Kayanula et al (2001)). Another constraint to MSEs development and innovation is the desire for independence or one man business dominance in the MSE sector. Thus the existing small businesses are unwilling to pool their resources in partnership. Some of the hindrances against formation of larger units are management problems, low morale of workers, individualism, inadequate and inappropriate documentation and the desire for unnecessary independence by businessmen (Boahene Asamoah, Daily Graphic, Thursday, June 17,2003 Page 13).
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CHAPTER FIVE
5:0 CONCLUSION AND RECOMMENDATIONS 5:1 CONCLUSION The financial sector in Ghana has shifted from a direct regulation of banks to a prudential regulation. Thus the financial sector has moved from a repressed era to a more liberal environment in response to World Bank sectoral or structural adjustment lending conditionalities. The key elements of the conditionalities included; privatisation of banks entry of new domestic and foreign banks into the banking sector, bank restructuring and re70
capitalisation and opening up of the Capital account, strengthening bank regulation and supervision institution. Also the financial liberalisation measures adopted in the late 1980s has led to the removal of interest rate restrictions. Credit ceilings have also been abolished. The study has revealed that financial sector liberalisation in Ghana has made impact on the Ghanaian economy. Financial Deepening which is the ratio of broad Money (M2) as a proportion of Gross Domestic Product (M2/GDP) which was 12.5 in 1984 (pre-liberalisation period) increased to 26.8 in 2001. This vindicates the McKinnon-Shaw hypothesis that a high interest rate policy, which is a feature of high savings, increases financial deepening of the economy. This intends increases flow of institutional credit. The increasing flow of institutional credit has a strong impact on private investment. Though the growth of bank credit to the private sector is not substantial, the financial liberalisation has succeeded in improving the growth of bank credit to the private sector. From the Pre-liberalisation figure of less than 5% of GDP, the credit to the private sector increased to 14% of GDP in 2000. Consequentially private investment increased from the pre-liberalisation figure of 4.8% of GDP to 15% of GDP in the mid 1990s and increased again to 28.6% of GDP in 2000. Again the liberalisation of the financial sector has succeeded in increasing the market participation in banking sector. The banking sector now has about 17 major banks and 123 rural banks at the time of writing, which are spread throughout the country, and about 28 non-bank financial institutions. Thus the financial liberalisation in Ghana has brought in high competition in the banking sector. This has led to innovations and sophistications. This affirms the proponents of financial liberalisation view that liberalisation leads to competitions.
71
The study again reveals that the most important macroeconomic variables that affect credit to the private sector are interest rate, Bank financing of government budget deficit and Gross Domestic Product. The high interest rate in Ghana especially during the late 1990s means that credit to the private sector especially the micro and small enterprises had been severely affected. This is because there is an inverse relationship between credit to the private sector and interest rate. Ghana had experienced budget deficit over the years. The high budget deficit as a percentage of GDP averaged 5% over the years. The major sources of financing the deficit have been borrowing from both the banking and the private sector, which resulted in crowding out the private sector. The study has revealed that in general the financial liberalisation has had limited impact or influence on the development and growth of micro and small-scale enterprises in Ghana. Even though accessibility to various financial services by the micro and small-scale enterprises has improved in the post liberalisation period, there is still a gap between the demand for credit by the micro and small-scale enterprises and what banks are supplying to them. Formal financial institutions have directed their credit away from micro and small-scale enterprises to large firm. The micro and small-scale enterprises have limited access to credit from the formal financial institutions due to high interest rate. The study confirms with the conclusion on a study made by Aryeetey et al (1994) on micro enterprise finances, that tight monetary policies after the financial liberalisation resulted in higher interest rates on government papers than on loans to long-standing commercial clients. According to the study this situation led to non-competitive higher rates to new and small borrowers. The micro and small enterprises have limited access to bank loans.
72
5:2
RECOMMENDATIONS Based on the study findings, the researcher wishes to make the following
recommendations, which will be of help for the growth of micro and small enterprises and the economy as whole. (a) Macroeconomic stability has been identified as very essential for the growth of micro and small enterprises. Management of government budget to reduce the deficit is crucial for the stability of the economy. High government budget deficit has characterised Ghanas economy over the years. Not only has the high budget deficit been worrying but its financing. Government budget deficits have been financed from the banking sector. This has resulted in crowding out of the private sector. The high yields available to banks by purchasing government bill and bonds leads to high interest rate. This has been identified as responsible for lack of interest by banks in advancing credit to the private sector especially small borrowers like micro and small enterprises. The study recommends that not only should the high budget deficit be reduced to create macroeconomic stability but also alternative means of financing the deficit aside the banking sector should be pursued so as to reduce the crowding out effect. It will also lead to reduction in lending interest rate to the benefit of micro and small enterprises. Lending interest rate in Ghana had been high (average of 44% in 2001). This interest rate coupled with demand for collateral security by the commercial banks have made it difficult for micro and small enterprises have access to loans from the banks. Macroeconomic stability that can lead to a reduction of bank lending rate must be vigorously undertaken to ensure credit advances to micro and small enterprises at affordable cost. To overcome the problem of collateral security, which most entrepreneurs cite as hindrance in obtaining loans from banks, the study recommends that banks develop
73
alternatives to property as collateral to obtain loans. Some micro finance institutions such as credit unions try to overcome this collateral issue by adopting compulsory savings schemes against which loans are granted. Also government should institute credit scheme or funds for exclusive use by micro and small enterprises at the barest minimum interest rate. Also the repayment terms must be flexible. Government can also source funds from the International Financial Institutions and Non-Governmental Organisations (NGOs) for use by micro and small enterprises. Instituting credit programmes to channel credit outside the formal financial to the micro and small enterprises are probably the commonest approach used to assist them to overcome the lack of access to institutionalised credit that characterise micro and small enterprises. The Government of Ghana realising the potentials of micro and small enterprises to the economic development of the nation has instituted credit schemes through the National Board for Small-scale Industries (NBSSI). One such credit scheme is the small and Micro Enterprises Promotion Fund (SMEPF). This credit scheme has NBSSI as the projectexecuting agency. The study recommends that the credit scheme be well managed as a revolving fund to be extended to cover more micro and small enterprises. Also managers of the fund should put in place measures to screen would-be defaulters so as to minimise the defaulting rate that has characterised loans to micro and small enterprises. (b) The majority (52.9%) of micro and small-scale enterprises still finance their startup activities from their own savings. They deposit money with the banks, but the banks regard them as risky sector. The banks therefore do not expand credit to the MSEs. The establishment of new banks especially rural banks and other micro financial institutions has made some of the institutions lending to the MSEs. However, credit advances to the MSEs are still limited. The study recommends that prospective entrepreneurs should form groups
74
to enable them access the group lending schemes of some of these formal financial institutions. Formal financial institutions prefer group lending, which they consider as less risky than lending to individuals. According to Steel et al (1995) better household savings instruments can raise the ability of people to go into business for themselves. Hence financial development strategy should be adopted to promote informal financial institutions that can meet micro entrepreneurs demand for financial services on a sustainable basis. Cooperative credit Unions, Susu collectors and other private savings and loan institutions can be potential for saving mobilisation for onward lending to MSEs. These informal financial institutions can be organised well by infusing the formal banking regulations and management through proper interaction between the formal and informal institutions. This will enable to pay more attention to micro and small enterprises. For the micro and small enterprises in the agricultural sector, the co-operative inventory credit scheme should be vigorously pursued and extended to cover more farmers. The cooperative inventory credit scheme is an innovation of Technoserve, and nongovernmental organisation in collaboration with the Department of Co-operatives and the Agricultural Development Banks.
(c)
Majority (65.5%) of the micro and small-scale entrepreneurs interviewed in the
study area has low educational background, which tend to affect their managing of businesses. It is recommended that a strategy, which is based on broad policies that lower costs of entry and stimulate demand, should be adopted for MSEs development. To this, training that gives skills in managerial, financial and technical are essential for the development of MSEs. This is particularly for smaller firms whose owners tend to be trades people rather than experienced entrepreneurs. With this category of business owners,
75
increased education is more important than credit. Educating the micro and small-scale entrepreneurs will improve the accounting practices of firms and their ability to provide audited statements can improve creditworthiness by reducing the cost of banks of obtaining reliable information. Banks concern with risk can be addressed through better legal systems to document and collect property offered as collateral. Micro and small-scale projects must be thoroughly assessed to ensure their viability as a qualification for credit facilities in order to reduce defaults as much as possible. Government can also institute accounting firms for MSEs, where they can obtain services for a fee. (d) Another worry expressed by the MSEs is their inability to market their products. Production is said to be incomplete until the final products reach the final consumer. Aggressive marketing strategies to find market for the products of micro and small-scale enterprises must be explored. This can be done by the intensification of trade fairs to promote the sale of MSE products, since one single most important determinant of private investment is usually considered to be demand for output as in the accelerator theory of investment (Greene and Villaneeva, 1991, Oshikoya, 1994, Severin and Solimano, 1993). Also the market for the products of MSEs is local and Government assistance to enable the firms to penetrate the international market with their products will boast growth in the sector, since markets are no longer localized. For MSEs to be very strong and growing well, they must be in the position to produce and sell beyond their national borders. This calls for application of appropriate technologies in their operations. Appropriate technologies are needed for production, testing, packaging and labelling, preservation and storage, handling and transporting and selling of produce. (Samuel Boama-Wiafe, Daily Graphic, Tuesday, May 13,2003 Page 14).
76
(e) One feature of the micro and small-scale enterprises revealed by the study is that majority of them (about 96%) interviewed are one-man business enterprises (sole Proprietorship) and the study recommends that the entrepreneurs should be encouraged to come together to form partnership since partnership has the advantages of bringing more capital and the enterprise has greater ability to expand. Also partnership is more creditworthy than sole proprietorship and can therefore raise more capital from financial institutions. Therefore the single proprietorship, which has dominated the micro and smallscale enterprise in Ghana, should give way to partnership. 5:3 DIRECTION FOR FURTHER RESEARCH The other results deduced from the study that a further research can investigate are outlined below. 1) Is there a relationship between level of education and successful management of small-scale enterprises in Ghana? 2) Why so many micro and small-scale entrepreneurs in Ghana prefer single proprietorship (one-man business) than pooling resources together to form partnership. 3) What institutional vehicles should be chosen to oversee the development of micro and small-scale enterprises in Ghana? 4) Can Own-Savings as a source of start-up capital be sustained in Ghana?
77
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Aryeetey. E and Gockel. F. 1991
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Supply and Demand for finance of small-scale enterprises
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Baah-Nuako. A. 1997 Accra, Ghana.
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Gockel Augustine. F 1996 Mobilization of Domestic Financial resources for Africas development. The experience of and prospect for Ghana. A working paper.
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Harvey. C 1991
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82
APPENDIX 1
TOPIC: ECONOMIC IMPACT OF FINANCIAL SECTOR LIBERALISATION ON THE PERFORMANCE OF MICRO AND SMALL SCALE ENTERPRISES IN GHANA
RESEARCH QUESTIONAIRE SECTION A (1) Sex of entrepreneur Male (2) Age of entrepreneur .. (3) Marital status Single (4) Number of children (5) Highest educational qualification
83
Female
married
divorced
separated
SECTION B (6) Location of enterprise i.e. District . (7) Year of establishment .
(8) Number of employee . (9) Do you consider your operation to be Formal (10) Type of entrepreneur Sole proprietorship Partnership Joint Stock / limited liabilities (11) Type of business Retail Transport commuter Industrial / engineering (Electrical including repair) Manufacturing / fabricating Trade i.e. Hawking / vending Services e.g. hairdressing, barbering etc. Agriculture Others specify.
84
Informal
(12)
What was your source of start-up capital Bank Micro finance e.g. Sinapi Aba trust etc. Family / friends Own savings e.g. Susu Inheritance
(13a) Has there been an improvement of your enterprise / business in terms of output? Very much (13b) In terms of profit Very much (14) Not very much not at all Not very much not at all
What do you think account for the improvement Easier of getting loans Purchase of more equipment High demand for the products Training received Others specify
(15)
What is the market for your product Local market Export Both
SECTION C (16) Do you have bank accounts? Yes No

85
(17)
If yes which bank / if no why? .
(18)
Since commencement of business, do you get? (a) Loan yes no (b) overdraft, from bank yes no
(19)
How many times have you got loans from the bank? 1-5 times 6-10 times Not at all Over 10 times
(20)
Amount of loan received at a time Less than 50,000 50,000 - 250,000 250,000 - 500,000 550,000 1 million over 1 million
(21)
Do you get exactly the amount of loan applied for? Sometimes always not at all
(22)
What issue(s) made accessing loan difficult for you?
(NB: rank them i.e. the most pressing issue as 1) (1) (2) (3) (4) (5) (6) High interest rate Demand for collateral security Lack of information Difficult processing procedure Unhelpful / unfriendly staff Repayment terms Difficulty in getting guarantors
86
(23)
Have you ever defaulted in payment Yes No
(24)
Do you receive any training from the lender Yes No
(25)
Has the financial liberalisation implemented made it? Easier Harder for you to get credit from the bank
(26)
What difficulties does your business face (NB: rank them i.e. the most difficult as (1)? (1) (2) (3) (4) (5) (6)
Financing / funding Raw material Labour Production Transporting Marketing
(27)
Suggest means of improving your business
87
APPENDIX 2 Financial Depth (M2/GDP), Deposit interest rate (r) and inflation (p) Year 1975 1976 1977 1978 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 M2/GDP 26.2 29.1 29.7 26.6 22.8 20.4 22.9 19.8 13.2 12.5 16.0 16.5 17.1 17.3 16.9 13.6 13.4 17.5 16.9 18.7
88
Deposit interest rate (r) 8 8 8 13 13 13 19 9 12.5 16 17 20 20-22 17-22 12-20 14-22 16-24 15.5-22.5 17-32 14-31
Inflation (p) 18.8 55.4 116.5 73.1 54.5 50.2 116.5 22.3 122.8 39.9 10.4 24.6 39.8 31.4 25.2 37.2 18.0 10.0 24.9 24.9
1995
18.0
18-34
38.5
Source: Gockel (1995), Bank of Ghana, Annual reports and Accounts
APPENDIX 3 Real interest rate (i), Gross Domestic Product (GDP) and Bank financing of Government budget deficit (BfGD)
Year
Real interest Gross rate (i)
Domestic
Product Bank
financing
of
Government
(GDP) (millions of 1975 budget deficit (BfGD) (million cedis) cedis
1975 1976 1977 1978 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993
-5.30 -27.61 -48.04 -31.25 -22.98 -20.77 -45.03 -2.70 -46.59 -13.26 9.85 -1.28 -7.01 -1.07 -5.10 11.40 17.30 11.20 10.50
5283.0 5096.5 5212.4 5654.2 5435.3 5475.2 5322.2 4974.1 4733.3 5157.5 5420.1 5701.9 5975.3 6311.6 6633.6 6853.4 7216.6 7498.8 89 7871.2
605.2 502.2 724.5 109.6 76.1 454.3 121.7 26.8 11.7 44.9 32.9 -2.0 -47.1 -38.2 -55.9 -55.5 -102.4 268.9 0.0
1994 1995
-17.00 -21.60
8170.3 8538.0
0.0 0.0
Source: The State of the Ghanaian economy various issues. Bank of Ghana, annual Reports
APPENDIX 4 Allocation of domestic credit (in percentage) Year 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 Credit to Government sector 59.13 52.46 78.49 64.04 66.38 78.11 13.83 -14.86 -78.97 -253.59 6.39 2.58 -9.30 -21.39 12.26 13.54 Credit to public Institution sector 32.53 45.38 8.98 21.75 17.24 9.95 13.09 27.96 32.02 68.09 71.01 23.52 41.97 40.95 19.00 18.87 Credit to Private sector 8.33 2.16 12.53 14.21 16.38 11.94 73.08 86.96 146.95 285.50 22.59 73.91 67.33 80.44 68.73 67.59 Total credit/GDP 21.69 33.89 17.88 22.25 23.26 27.71 7.77 4.97 2.12 1.13 14.91 6.45 8.20 6.59 10.81 10.21
Source: Sam. Q. Ziorkluis Discussion paper No 81 February 2001
90

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TOPIC: ECONOMIC IMPACT OF FINANCIAL SECTOR LIBERALIZATION ON THE PERFORMANCE OF MICROAND SMALL SCALE ENTERPRISES IN GHANA

STATEMENT OF THE PROBLEM

THE RESEARCH QUESTIONS

OBJECTIVE OF THE STUDY

JUSTIFICATION FOR THE STUDY

DATA SOURCES AND COLLECTION TECHNIQUES

SCOPE OF THE STUDY

DISTRICT Kumasi Metropolis Sekyere East

CITY/TOWN Kumasi Effiduasi

Obuasi Agona Offinso Ejura Mampong Konongo Nkawie 35

ORGANISATION OF THE STUDY

CHAPTER TWO 2:0

EFFECTS OF FINANCIAL REPRESSION

PREREQUISITE FOR FINANCIAL LIBERALISATION

2:6 FINANCIAL LIBERALISATION IN SUB-SAHARAN AFRICA

increasing the sectoral aggregation of directed

Ghana (September 1987)

Malawi (April 1988)

Uganda (July 1988)

Cameroun (October 1990)

Tanzania (July 1991)

Kenya (July 1991)

- Interest rate ceilings were removed.

F INANCIAL SECTOR LIBERALISATION PROCESS IN GHANA

of the financial sector was

(ii) (iii) (iv) (v) (vi)

Table 2:1 Non-performing Assets Transferred to NPART by Banks (in million

to divest state-owned banks in accordance with financial liberalisation and deregulation

DEFINITION OF MICRO AND SMALL-SCALE ENTERPRISES

(i) (ii) (iii)

1986 Ghana 13.6

1990 27.6 40.4 44.9 14.6

1993 35.6 14.6 17.4 27.1

1981 86 2.4 9.1 17.4 2.3

Malawi 39.5-52.5 Nigeria 47.2-63.5 Tanzania 7.2

POLICIES FOR PROMOTING MSEs IN GHANA

EFFECT OF MACROECONOMIC VARIABLES ON CREDIT TO THE PRIVATE SECTOR

3:5:3 Error Correction Model (ECM)

Variable D Credit D GDP D BFGD D i Note i) ii)

ADF Test Statistics -5.136 -3.389 -8.785 -4.119

Critical values -3.6 -3.6 -3.6 -3.6

Order of Integration (I(d)) I(1) I(1) I(1) I(1)

Johansen Test for Cointegration Lambda(Trace) Lambda (Max) Min

Ho: rank = Lambda(Trace)

Table 4:3 Variable Constant GDP BFGD i Dummy EC-1

Public, Private and Total investment: % of GDP 1970

(post-reform) No. % 51 14.5 91 26 30 8.6 161 46 17 4.9 350 100

business (pre-reform) No. % 13 6.5 9 4.5 39 19.5 95 47.5 44 22 200 100

ISSUE OF WORKING CAPITAL

AWARENESS AND USAGE OF FINANCIAL SERVICES BY MSEs

DIFFICULTY IN ACCESSING LOANS FROM BANKS

EDUCATIONAL BACKGROUND OF ENTREPRENEURS

Level B.Sc./B.A/Graduate G.C.E. A Level

39 35 12 20 36 40 157 105 63 20 550

Majority (65.5%) of the micro and small-scale entrepreneurs interviewed in the

Abdul. A and Ashoka. M 2003 IMF working paper wp/03/70.

Financial Reform: what shakes it? What shapes it?

Adjetey. S. M.A. 1978

The structure of the financial system in Ghana. Research

Department, Bank of Ghana. (September 1978).

Some evidence on Demand for money in Nigeria, A test of

Akyuz Yilmaz 1992

On financial deepening and efficiency. United Nations