||Like it? PLEASE +1 it! Thanks!|
Financial Sector Development as an Essential Determinant for Achieving the MDGs: Increasing Private Credit Shown to Reduce Income Inequality
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. 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.
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.
Related ArticlesRedefining Microfinance as a Strategy to Achieve the MDGs: International Year of Microcredit Report Advocates Shift from Poverty Alleviation to Wealth Creation
Economic Growth, Sustainable Development, and the Millennium Development Goals (MDGs)
6.3 Financial sector links between investment and diversification: Economic Report on Africa 2007
2.5 Conclusion: Economic Report on Africa 2007
Sustained growth with equity is needed to halve poverty in Africa
Ugandan Government Initiative to Subsidise Solar Power Equipment by 45% to be Implemented by Rural Microfinance Institutions (MFIs)
Unleashing entrepreneurship: Making business work for the poor
2.0 Recent Economic Performance in Africa and Prospects for 2007: Economic Report on Africa 2007
5.1 Investment is vital for an economy to diversify: Economic Report on Africa 2007
Microfinance 2015: Panel Focuses on the Future and Outlook of Microfinance
Bharatbook.com: Trend in credit and deposit growth and in-depth analysis of Indian Banking Sector
Reaching the MDGs: A Concrete Look at the Challenge of More Effective Aid (Not Just More Aid)
9.1 Women’s access to micro-finance and other forms of credit: Support for Growth-oriented Women Entrepreneurs in Tanzania, 2005
Public-Private Partnerships – Essential in Building Community
What is microfinance? FAQ
Poverty reduction by trade and production capacity building in less privileged economies
What is a Microfinance Institution (MFI)?
Determining if a Business Plan or Regulation D PPM is your best option.
1.0 Overview: Gender Entrepreneurship and Competitiveness in Africa, 2007
Home > African-Accounts > United Nations Capital Development Fund > Financial Sector Development as an Essential Determinant for Achieving the MDGs Increasing Private Credit Shown to Reduce Income Inequality > Google +
Free PDF Download
Summary of main recommendations - Impact Study of the Zakoura Microcredit Program
By United Nations Capital Development Fund
About the Author: United Nations Capital Development Fund
RSS for United Nations's articles - Visit United Nations's website
The United Nations Capital Development Fund (UNCDF) is a UN organization mandated by the UN General Assembly and its Executive Board to provide capital assistance first and foremost to the Least Developed Countries (LDCs). UNCDF invests in LDCs in order to support their efforts to reduce poverty and achieve the Millennium Development Goals, especially in its two main product lines - Micro finance and Local Development. UNCDF is part of the UNDP-group and hosts the UN Advisors Group on Inclusive Financial Sectors.
Click here to visit United Nations's website.
More from United Nations Capital Development Fund
Summary of main recommendations Impact Study of the Zakoura Microcredit Program
Summary of TSP Performance in Countries Visited
Are Small Capital Grants Worthwhile
The Art of Selecting Promising MFIs
Diversifying Financial Assets for Poor People Micropensions as a Tool to Build Wealth
Related Forum PostsAny experience with McManus UK Ltd.?
How to valuate a business
Re: what position to request?
Share this article. Fund someone's dream.
Share this post and you'll help support entrepreneurs in Africa through our partnership with Kiva. Over $50,000 raised and counting - Please keep sharing! Learn more.
By: Evan Carmichael
By: Evan Carmichael
||Like this page? PLEASE +1 it!|