Should Africa reduce its dependence on «imported» liquidity? As we start a year which Carmen Reinhart called the “Year of Sovereign Defaults” (albeit with a timid question mark) one looks with apprehension at the various global developments that seem to foretell the next (financial) «storm». The much anticipated increase in U.S. interest rates and the soaring US dollar, the slowdown in the Chinese economy and the bursting of its equity market bubble, and the collapse in commodity prices, together with a tinderbox geopolitical situation across the world… complicate what was already a difficult global financial market environment. Financial analysts, academics, regulators and other government officials endeavour to ascertain where the next (financial) «storm» will make landfall, and conventional wisdom is that emerging markets are particularly vulnerable this time. Here we go again… we have been here before! The purpose of this note is not to express a view about where the «storm» will manifest itself or indeed, whether it will materialise at all… I leave that to the pundits. Starting from the fact that many African markets already suffered from significant bouts of risk aversion during 2015 (because of… among other things, the above-mentioned developments) and with the observation that the continent seems locked in a pernicious cycle of dependence on «imported» liquidity, and that international liquidity remains fragile (IMF’s Global Financial Stability Report Oct 2015)… the purpose of this note is merely to stimulate a debate: should Africa reduce its dependence on «imported» liquidity? But how? At the African Rising Conference hosted by the International Monetary Fund in Maputo in 2014, Bank of Mozambique Governor Ernesto Gouveia Gove presented a paper¹ in which he stated that “Africa’s strong dependence on external financing sources makes the continent vulnerable to external shocks”. Of course, we saw this vividly during the Global Financial Crisis (GFC) that began with the onset of the U.S. sub-Prime debacle, whence it became evident that «imported» liquidity can be both a blessing and a curse, for developing countries. The liquidity shocks that afflicted many emerging markets were a good example of the disadvantage of too much dependence on «imported» liquidity… which by its very nature is unpredictable and undependable. Despite reasonable investment profiles at the time, many African countries suffered abrupt flights of capital, which caused severe liquidity shortages and substantial exchange rate volatility… The reason for this is that «imported» liquidity rarely has a stake in the welfare of local economies and typically, seems to respond mostly to conditions «back home». An IMF article ² of the time noted that concern arose that the «Too Big to Fail Banks» could disrupt macroeconomic stability in emerging markets as they “scrambled for dollar liquidity and deleveraged balance sheets”, while a U.S. Federal Reserve Bank of New York piece ³ suggested that “large globally-oriented banks in the U.S. use their international networks to offset liquidity shocks hitting their organisations in the U.S.” In his research note Dr Gove also called for the expansion of African banking groups, who would “contribute to the promotion of welfare across the continent”. This seems an important recommendation which appears aligned with the view expressed by former Bank of Mauritius Governor Bheenick, when he said that “During the crisis, some international banks turned out to be fair weather friends when African economies were at their most vulnerable” ⁴.
The implication seems to be that when «imported» liquidity is withdrawn, it is always up to the local banks to take up the slack and therefore, we should support them. In other words the GFC brought into sharp focus the importance of having strong pan-African banking groups. After all, these are the stalwarts of an indigenous banking sector that takes banking to the unbanked, that lends to SMEs, provides employment and opportunities within local economies etc.; these are the local champions that, having a genuine stake in Africa’s welfare, will step into the breach when necessary and we have seen this since the GFC. For example, as Stephen Eisenhammer said in his Business Day article ⁵ “African banks are playing an increasingly significant role in the continent’s new generation of mines, providing cash for projects considered too risky or expensive for rattled markets and cautious international lenders”. In conclusion, much has been said across Africa (since the GFC) about the unequitable distribution of global liquidity, about the need to strengthen indigenous banking sectors, about developing local markets and many other related matters… however, fast forward a few years and here we are yet again: the end of QE in the U.S., the Chinese economic slump and many other exogenous factors are causing major ripples across Africa, because (albeit not solely) we continue to rely on «imported» liquidity. For how long should Africa continue to ride on this rollercoaster? Is it time to bite the bullet and look for ways to diminish this dependence and reduce its worst side-effects? At a speech given at the Berlin Economic Forum, the Maldives Monetary Agency Governor, Dr Azeema Adam, said that “We defy conventional wisdom not because we think we know better economics than anyone else. It is because the Maldives is an unconventional country. We face unconventional challenges, and require unconventional solutions”⁶. Africa needs to continue to pursue various conventional solutions pertaining to regulation, financial market development etc. but some «outside the box» thinking may also be necessary… How do we ensure that our indigenous banks operate in a more level playing field? Should we address the fact that advance country «megabanks» have long benefited from, among other things… cheap government funding (QE) and subsidies that potentially undermine free market principles? For example, according to the IMF ⁷ the value of the «Too Big to Fail» subsidy to large banks from advanced countries was c. US$590bn (2014), while a Bank of Finland article posited that the Too-Big-to-Fail factor could be particularly strong in Europe because “… individual country governments might be more willing to support the players in their own financial system (the «national champions»)”… Should Africa support its own national champions? In the more interconnected (and crisis-prone) world that we live… should we reconsider the role played by foreign reserves? Should we look for ways to deploy (invest) some of our foreign currency reserves and savings in Africa itself? This is the subject of a draft article which I wrote back in 2014 and which explores the question of how to support pan-African banking champions, as one of the ways to reduce the dependence on «imported» liquidity. Notes ¹ Dr Ernesto Gouveia Gove, Governor Banco de Moçambique Creating Sustainable, Deeper, and Broader Financial Markets 2014 ² Kamil and Rai The Global Credit Crunch and Foreign Banks’ Lending to Emerging Markets International Monetary Fund 2010
³ Cetorelli and Goldberg Globalised Bank Lending to Emerging Markets in the Crisis Federal Reserve Bank of New York 2009 ⁴ Bank of Mauritius Governor R. Bheenick Whither Africa? Or How the Continent is Facing up to the Challenge of the Global Financial Crisis 2011 ⁵ Stephen Eisenhammer Africa’s banks offer lifeline where others fear to tread Business Day 2013 ⁶ Dr Azeema Adam, Governor Maldives Monetary Agency Innovative Policies for Sustainable Development 2014 ⁷ GFSR Chapter 3 How Big is the Implicit Subsidy for Banks Considered Too Important to Fail 2014 ⁸ Eero Tölö, Esa Jokivuolle, Matti Viren Are too-big-to-fail banks history in Europe? Evidence from overnight interbank loans 2015