The Economic implications of the opening of the Ethiopian banking sector

These days, it is possible to listen to people discussing about the potential consequences of foreign investors in the banking industry following a draft proposal accepted by the Ethiopian Council of Ministers. One can come across business people, bank employees and others chatting and trying to make sense of the cons and pros, especially what there is for them of this first stage financial market opening. However, partly due to lack of detailed information and partly due to peoples’ tendency to see things in general terms, it is rare to find people with first-hand knowledge of the opening of the Ethiopian financial market to foreign investors. Factors like the degree of ownership, the number of branches they can open (if any), the type of financial services they provide, the nature of capital mobilization, more importantly the mode of factor payment (say in the form of dividend or expat salary) and the manners in which they will transfer best practices and technology-all these are important to know how much the Ethiopian economy benefits from this opening. At the same time the appetite of foreign investors is affected by how the regulatory framework addresses the above and related concerns. Though the immediate opening of the banking sector seems very limited, with the hope that the Ethiopian economy will soon experience a full-fledged financial liberalization (development and opening of forex market, equity market, security market and other sorts of financial markets), this article presents some of the views surrounding financial market liberalization. There is no question on the ever- increasing attractiveness of the Ethiopian economy to foreign investors, especially the service sector such as financing due to high rate of return, high proportion of youth population (hence, a growing market), the inevitable rise of a considerable middle class, more importantly the untapped financial potential due to limited access of financial services and to lack of various types of financial markets. Now let’s see about three perspectives about economic liberalization, especially the financial one while keeping in mind the opening of the Ethiopian banking sectors to foreign investors.
The debate on economic liberalization in developing countries which encompasses other related processes such as privatization and deregulation goes as far back, at least, to the 1980s. There has been fierce resistance at the intellectual and policy making level given that domestic private sectors were undeveloped as a result unbale to take over and efficiently run previously public owned businesses. Besides, the opening of the developing economies to foreign multinationals was (is still in some sectors and in many countries about four decades later) considered problematic since they are too big to compete with and too complex to be monitored by low-income countries’ existing institutional frameworks. In developing countries (when will they finish their development?) opening up the economy as a whole, especially opening institutions such as banks to foreign investors are seen in relation to political, security, and economic sovereignty (national interest) lenses. There are those who say that only the power of domestic financial institutions can slowly but sustainably help grow the economy. Among their claims, they argue that foreign bank entry is often accompanied by frequent -(1) financial crises, (2) currency market crises, and (3) market instability and general economic chaos. (4) In addition, foreign banks provide loans to those businesses which are large and have relations with the outside world or whose products are tradeable while small companies (usually in the non- tradeable sector) may rarely benefit directly from foreign financial institutions. (5) They bring about a kind of “brain drain” by luring experts from local banks. Later, the profits are distributed to their shareholders(abroad). (6) And one more important line of argument is that even if foreign investors pump in foreign currency in to the local economy around their entrance, over time, they have to transfer back the returns to their shareholders in hard currency. One may ask “well! where is their benefit in terms of foreign currency, then?”. One way of addressing this question is that foreign investors help businesses flourish (become productive) and generate hard currency via exports. However, isolating their impact in this regard requires cautious research as there are always many moving pieces in an economy and we don’t easily know what causes what.
In stark contrast to these arguments, there are groups that advocate for free flow of goods, services and capital within countries as well as across borders with minimal government intervention. They argue that life would be better off if producers and consumers met voluntarily without government interference. Their thoughts related to whether banks should enter or not are fetched from the same line of reasoning. In their view, free trade is the only way to wealth and prosperity. They argue that the source of market-induced financial crises, market shocks and general economic chaos is government intervention, not the market itself. Wounds and illnesses caused by the free market itself are treated and healed by its antibodies (supply and demand). According to these ivory-tower elites, we should not trust nearly anything the government prescribes for the reason that the medicines it prescribes cause worse harm than the original disease. From their point of view, when foreign banks come in, what follows is (1) the financial sector develops, (2) a country’s economy will grow because credit and savings will expand, making trade easier and production sustainable. (3) As competition between financial institutions heats up, consumers benefit (savers get high interest rates, borrowers pay low interest rates) and inefficient and unprofitable banks exit from the market, so the loss of resources is reduced. Since businesses can freely move and compete, it will increase their profitability too. (5) When foreign investors come in, they bring not only foreign currency but also FDI follows them as there may be organizations that have ties to or trust them. Usually, proponents of such unbridled free trade do not take the various contextual difference say between Ethiopia and Germany or the US and India. For them, it doesn’t matter whether you practiced free trade (hence developed appropriate regulatory frameworks) for centuries or you got your independence about seventy years ago. Hidden in their argument is the naked truth that companies in their countries are big and have been in the game for a long time. Thus, they can beat any newly coming competitor be it at home or abroad.
The right way in this regard seems the middle way. Those who favor this approach say that it is possible to increase the blessings and reduce the burdens of opening up an economy by using appropriate institutional restraints so that unbridled capitalism cannot destroy an economy at the same time by encouraging competition which will help avoid institutional(economic) stagnation. If governments, in countries like Ethiopia, cautiously put in place appropriate institutional frameworks, opening up the financial sector may help bring about financial deepening, economic growth and development. And in the short term they may help alleviate foreign currency shortages.
To sum it up, like every other policy action, the coming in or lack thereof foreign investors to the banking sector of Ethiopia by itself cannot be good or bad. It is what we really do with this policy that matters and determines the net benefits of these measures.

The writer can be reached at [email protected]

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