Financing small businesses key to Africa’s growth

With six of the 10 fastest-growing economies currently in Africa, access to development finance is now crucial for the continued growth of the continent’s economies and the realisation of Millennium Development Goals (MDGs).

To realise the MDGs, many African governments must first overcome the key challenges of inadequate resources to finance the development needs of their countries.

The majority of enterprises in Africa are small to medium scale (SMME) which account for more than 95 per cent of all businesses. Moreover, most of the population is poor.

As SMMEs and the poor lack the collateral needed by the formal financial system to secure finance (often due to ill defined property rights), they are often perceived as highly risky investments and are therefore sidelined.

This problem of access to finance is further exacerbated by weak legal systems and poor accounting practices which make the establishment and enforcement of formal contracts difficult.

The main concern of development finance is to make access to finance available to the sectors where, due to the perceived high risks and low recovery of costs, there is a private capital gap.

In most African countries, the traditional financial institutions such as banks, insurance companies, unit trust companies, and markets such as stock and bond markets are typically underdeveloped. Furthermore, where they exist they have primarily catered for the needs of the small corporate sector and rich individuals.

The inability of the poor and SMMEs to access much needed finance for investment from the formal financial systems only entrenches their underdevelopment and, in turn, the underdevelopment of the countries, because potential investment opportunities cannot be realised.

The situation calls for unique development finance interventions and institutions. These can take the form of privately-owned microfinance companies, and government-sponsored development finance institutions (DFIs).

Despite these laudable initiatives, the reality remains that they are often ill-equipped to play this crucial role due to lack of adequately trained personnel to design, implement and evaluate the required development finance interventions or schemes.

The majority of employees of DFIs, government departments and microfinance institutions have little or no formal training in the field of development finance. The consequence is that many of the institutions and their programmes perform poorly.

It is therefore crucial that universities in Africa develop programmes to provide graduates with the skills to fill the gaps in the DFIs and in policy-making and regulatory institutions.

Prof Meshach Aziakpono is head of Development Finance at the University of Stellenbosch Business School (USB) and a member of the African Econometric Society. This article was first published in our sister paper, the Business Daily.