Financial Sector Development as an Essential Determinant for Achieving the MDGs: Increasing Private Credit Shown to Reduce Income Inequality
Financial Sector Development as an Essential Determinant for Achieving the MDGs: Increasing Private Credit Shown to Reduce Income Inequality
Whether or not one has access to private credit is a litmus test for wealth or poverty. If you're rich, you have it, and can use it to get richer. If you're poor, you don't have access to it, and you remain poor. Conventional wisdom suggests that building up the financial sector has little effect on this gap.
But new World Bank research reveals that a high level of financial development — that is, where private credit accounts for a high percentage of GDP-may well be a result of wealth, but it is also a powerful driver of poverty reduction.
Private Credit as a Share of GDP
That a strong financial sector, with sound banks, lively stock and bond markets, established insurance companies, and multiple financial intermediaries, stimulates economic growth is to be expected. What's new is this: in countries with well-developed financial sectors, where private credit accounts for a bigger share of GDP, the poor get a bigger income boost from growth. Meanwhile, poor people living in countries with the same growth rate, but in which private credit accounts for a smaller share of GDP, stay poorer.
Microfinance schemes can help bridge part of the gap by providing loans to poor people, enabling them to launch small enterprises, which would otherwise never be created. Microfinance is important to the extremely poor, who have no access to other sources of credit. But it accounts, at best, for only a small share of all private credit, that is, the total amount of credit channeled from savers through banks and other financial intermediaries, to private firms.
New World Bank Studies
Recent World Bank studies indicate that raising the proportion of private credit available triggers more rapid increases in the incomes of poor people, relatively speaking, as it stimulates growth for the whole economy.[1] In other words, financial development increases national income and reduces income inequality at the same time. It promotes what may be called "pro-poor growth".
This finding suggests that financial sector development is an essential determinant of a country's prospects for achieving the eight Millennium Development Goals (MDGs), which include reducing by half the proportion of people living on less than US$1 a day by 2015.
"Pro-poor" Finance
This hitherto unnoticed "pro-poor" dimension of finance is due to two factors. First, as financial sectors deepen they also increase their reach, providing financial services directly to poorer clients. More evaluation studies are needed to measure the scale of their overall impact, but experience suggests that microfinance has made a big difference for those who have access to it.
The second - arguably more important - factor is that even when financial development does not touch poor people directly, it does improve overall economic performance in ways that deliver disproportionately increased incomes to the poor. More abundant private credit creates a rising tide that lifts all boats, but a bigger lift to the poorest ones.
Comparative analysis of average annual growth rates in poverty, private credit and GDP over 20 years shows that countries with higher levels of private credit reduced poverty more quickly. For example, in Chile, where private credit accounts for 54 percent of GDP, the percentage of people living on less than US$1 a day decreased by 14 percent a year between 1987 and 2000. But in neighboring Peru, where private credit amounts to just 13 percent of GDP, the proportion of extremely poor rose by 19 percent from 1985 to 2000. The new estimates, taken at face value, imply that, if Peru's financial sector had been as developed, or its private credit market as well-stocked as Chile's, the proportion of the population living on less than US$1 a day could be just two percent today, instead of 15 percent-a difference of 3.4 million people.
A similar calculation suggests that, average incomes of poor people in Brazil could have grown by more than 1.5 percent a year from 1960 to 1999 instead of zero percent, if Brazil's financial system had been as developed as Korea's; Korea's private credit amounts to 74 percent of its GDP, while Brazil's is just 28 percent of GDP.
Finance helps expand the range of firms and economic sectors that can get a foothold in the modern economy, and likely reduces concentrations of wealth that ultimately undermine prospects for overall economic growth. International survey evidence shows that small firms gain most in terms of access to finance where financial and legal systems are strengthened.
A vibrant financial sector can result in expanded banking and credit services to low-income households. But its biggest contribution is that it raises the amount of credit available to all entrepreneurs, which, in turn, increases the level of economic activity, generating more job opportunities and higher incomes among the poor.
Strengthening the financial sector thus emerges as a win-win pursuit, that promises faster growth and more income equality, without igniting often thorny debates over redistribution, and the tradeoffs that usually entails.
Financial Sector Development as an Essential Determinant for Achieving the MDGs Increasing Private Credit Shown to Reduce Income Inequality - To learn more about this author, visit United Nations Capital Development Fund's Website.
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By Asli Demirguc-Kunt, Finance Research Manager, World Bank
Whether or not one has access to private credit is a litmus test for wealth or poverty. If you're rich, you have it, and can use it to get richer. If you're poor, you don't have access to it, and you remain poor. Conventional wisdom suggests that building up the financial sector has little effect on this gap.
But new World Bank research reveals that a high level of financial development — that is, where private credit accounts for a high percentage of GDP-may well be a result of wealth, but it is also a powerful driver of poverty reduction.
Private Credit as a Share of GDP
That a strong financial sector, with sound banks, lively stock and bond markets, established insurance companies, and multiple financial intermediaries, stimulates economic growth is to be expected. What's new is this: in countries with well-developed financial sectors, where private credit accounts for a bigger share of GDP, the poor get a bigger income boost from growth. Meanwhile, poor people living in countries with the same growth rate, but in which private credit accounts for a smaller share of GDP, stay poorer.
Microfinance schemes can help bridge part of the gap by providing loans to poor people, enabling them to launch small enterprises, which would otherwise never be created. Microfinance is important to the extremely poor, who have no access to other sources of credit. But it accounts, at best, for only a small share of all private credit, that is, the total amount of credit channeled from savers through banks and other financial intermediaries, to private firms.
New World Bank Studies
Recent World Bank studies indicate that raising the proportion of private credit available triggers more rapid increases in the incomes of poor people, relatively speaking, as it stimulates growth for the whole economy.[1] In other words, financial development increases national income and reduces income inequality at the same time. It promotes what may be called "pro-poor growth".
This finding suggests that financial sector development is an essential determinant of a country's prospects for achieving the eight Millennium Development Goals (MDGs), which include reducing by half the proportion of people living on less than US$1 a day by 2015.
"Pro-poor" Finance
This hitherto unnoticed "pro-poor" dimension of finance is due to two factors. First, as financial sectors deepen they also increase their reach, providing financial services directly to poorer clients. More evaluation studies are needed to measure the scale of their overall impact, but experience suggests that microfinance has made a big difference for those who have access to it.
The second - arguably more important - factor is that even when financial development does not touch poor people directly, it does improve overall economic performance in ways that deliver disproportionately increased incomes to the poor. More abundant private credit creates a rising tide that lifts all boats, but a bigger lift to the poorest ones.
Comparative analysis of average annual growth rates in poverty, private credit and GDP over 20 years shows that countries with higher levels of private credit reduced poverty more quickly. For example, in Chile, where private credit accounts for 54 percent of GDP, the percentage of people living on less than US$1 a day decreased by 14 percent a year between 1987 and 2000. But in neighboring Peru, where private credit amounts to just 13 percent of GDP, the proportion of extremely poor rose by 19 percent from 1985 to 2000. The new estimates, taken at face value, imply that, if Peru's financial sector had been as developed, or its private credit market as well-stocked as Chile's, the proportion of the population living on less than US$1 a day could be just two percent today, instead of 15 percent-a difference of 3.4 million people.
A similar calculation suggests that, average incomes of poor people in Brazil could have grown by more than 1.5 percent a year from 1960 to 1999 instead of zero percent, if Brazil's financial system had been as developed as Korea's; Korea's private credit amounts to 74 percent of its GDP, while Brazil's is just 28 percent of GDP.
Finance helps expand the range of firms and economic sectors that can get a foothold in the modern economy, and likely reduces concentrations of wealth that ultimately undermine prospects for overall economic growth. International survey evidence shows that small firms gain most in terms of access to finance where financial and legal systems are strengthened.
A vibrant financial sector can result in expanded banking and credit services to low-income households. But its biggest contribution is that it raises the amount of credit available to all entrepreneurs, which, in turn, increases the level of economic activity, generating more job opportunities and higher incomes among the poor.
Strengthening the financial sector thus emerges as a win-win pursuit, that promises faster growth and more income equality, without igniting often thorny debates over redistribution, and the tradeoffs that usually entails.
Financial Sector Development as an Essential Determinant for Achieving the MDGs Increasing Private Credit Shown to Reduce Income Inequality - To learn more about this author, visit United Nations Capital Development Fund's Website.
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Cheryl MatthynssensCheryl is a life skills coach, licensed Chemical Dependency Counselor and a 20 year entrepreneur. Cheryl's dedication to achieving a life of balance led to her expanding her teaching from the simple managing of life's daily challenges to adding financial well being as well. A direct marketer with DrinkACT, she is gaining ground in the online community with her concepts of making sure business owners, entreprenuers and employees have well rounded life styles. She opened up a small affiliate site - The Balance Guide- to help others find resources for mental and emotional well being. Visit Cheryl's blog to see more of the diversity beyond business she has began offering online at www.thebalanceguide.blogspot.com - Visit Cheryl Matthynssens's Website |
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John BrennanJohn Brennan Ed.D. Dr. Brennan is President of Interpersonal Development, LLC, a training and development firm. Interpersonal Development has provided sales training and coaching to more than 3,000 sales reps from over 100 companies. A native of Australia, Dr. Brennan received his doctorate from the University of Rochester. His dissertation researched the effectiveness of Behavioral Modeling Technology in training people in interpersonal skills. While he has spent most of his career designing or delivering training, he was also a Vice-President of Sales of a training and development franchise with operations in 25 markets. Dr. Brennan has designed and delivered sales training in North America, Asia, Europe, Australia and the Middle East. He has been a guest speaker at numerous national and regional professional conferences. When Microsoft wanted Best Practices articles on sales for their web site, they called Dr. Brennan. The results are at http://office.microsoft.com/en-us/FX011387391033.aspx His firm’s clients have included Volvo, The Prudential, Merrill Lynch, Eastman Kodak, Gannett, Equifax Europe, the Economist Group and countless small businesses. - Visit John Brennan's Website |
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Dave KurlanDave Kurlan is the founder and CEO of Objective Management Group, Inc., the industry leader in sales assessments and sales force evaluations, and the CEO of David Kurlan & Associates, Inc., a consulting firm specializing in sales force development. Dave has been a top rated speaker at Inc. Magazine's Conference on Growing the Company, the Sales & Marketing Management Conference and the Gazelles Sales & Marketing Summit. He has been featured on radio and TV, including World Business Review with General Norman Schwarzkopf, in Inc. Magazine, Selling Power Magazine, Sales & Marketing Management Magazine and Incentive Magazine. He is the author of Mindless Selling and Baseline Selling – How to Become a Sales Superstar by Using What You Already Know about the Game of Baseball. He created and wrote STAR, a proprietary recruiting process for hiring great salespeople, and he writes Understanding the Sales Force, a popular business Blog and is a contributing author to The Death of 20th Century Selling and 101 Great Ways to Improve Your Life, Volume 2. - Visit Dave Kurlan's Website |
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John PowerJohn Power, founder of Biltmore Franchise Consulting, has extensive experience developing and marketing franchises and business opportunities. He has been in and around franchising for over twenty years. From 1980 through 1990 he conceptualized, organized, and developed the American Video Association. He grew AVA to 2,000 national members, before selling the company it 1990. It was later merged into another home video marketing company. From 2000 to 2005 he worked as a contract marketing and human resources consultant to several local and national companies. In 2005 Mr. Power began working as a franchise development consultant on a full-time basis. Since that time he has helped more than three dozen companies initiate and develop their franchising program. He notes that there are many companies interested in developing a franchise program, and who need his specialized assistance. Mr. Power is a “hands-on” franchise consultant. He said, “I am the ‘nuts and bolts’ person who tends to the details for my clients.” Mr. Power holds a B.S. degree with a major in Marketing. See: www.biltmorefranchise.com You may contact Mr. Power at: jpower@biltmorefranchise.co - Visit John Power's Website |
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David AchesonDavid Acheson is the founder of DCJA Consultancy. DCJA Consultancy is a management consultancy business specialising in B2B sales consultancy. They offer bespoke and packaged sales consultancy including Sales Optimisation Review, Interim Sales Management, Sales & Marketing Review, 1:1 Sales & Management Staff Analysis, Management Training, Solution Sales Training, Creation of New Pay Plan, KPI's, run Customer Feedback Campaigns, assist with Recruitment, Coaching, Appraisals and set up Strategic Marketing Campaigns. David spent his early career in accountancy and then moved into sales in 1982, working in Office Equipment, IT, Advertising, Training, Outsourcing and Consultancy. He has held many Senior Positions in SMBs and Global Organisations including Head of Sales Operations & Head of Business Development. His knowledge, skills and great experience of the Sales Industry has led to David making keynote speeches and running educational sessions to key businesses through organisations including The Chamber of Commerce and Business Link. - Visit David Acheson's Website |
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Linda RichardsonLinda Richardson is the Founder and Executive Chairwoman of Richardson, a global sales training and performance improvement company. As a recognized leader in the industry, she has won the coveted Stevie Award for Lifetime Achievement in Sales Excellence and she was identified by Training Industry, Inc. as one of the “Top 20 Most Influential Training Professionals.” Ms. Richardson is credited with the movement to Consultative Selling and is the author of ten books on selling and sales management, including Sales Coaching — Making the Great Leap from Sales Manager to Sales Coach, and Stop Telling, Start Selling. She teaches sales and management at the Wharton Graduate School of the University of Pennsylvania and the Wharton Executive Development Center. Linda is a frequent speaker at industry and client conferences, has been published extensively in industry and training journals, and has been featured in numerous publications, including The Wall Street Journal, Forbes, Nation’s Business, Selling Power, Success, and The Conference Board Magazine. Learn more about Richardson's sales training and performance improvement solutions at http://www.richardson.com web - Visit Linda Richardson's Website |
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