The financial banking sectors in the Middle East and North Africa (Mena) regions are disconnected from a majority of firms, with credit being largely channeled to a small number of large firms and hindering potential growth in the region, a new report has highlighted.
The What’s holding back the private sector in Mena? report published jointly by the World Bank (WB), European Investment Bank (EIB) and European Bank for Reconstruction and Development (EBRD) shows that while banking sectors in the region are relatively large, a high percentage of companies are disconnected from formal financial channels and do not apply for credit.
The region has a smaller share of credit-constrained companies than other regions of the world, but this is not driven by successful loan applications, instead by a lack of applications and many firms reporting that they do not need capital.
Many companies are disconnected from the banking sector altogether. These firms are likely to be small, without audited financial reports and unlikely to even be using the banking systems for payments, says the report.
Interestingly, most companies are content with their current situation and do not complain about access to finance. They have adapted production strategies to an environment in which they do not really consider banks as a financing option.
However, while they are not credit-constrained, these firms are likely to have a low propensity to invest and are less likely to plan for expansion.
Authors of the report, which is based on an enterprise survey of some 6,000 companies in the manufacturing and services sectors across the region, argue that encouraging connection could aid growth.
“Finding a way to reconnect banks and firms is crucial to enhance growth opportunities in the region and international financial institutions have the expertise and willingness to complement domestic policies,” says EIB chief economist, Debora Revoltella.
Commenting on the report, head of corporate trade sales and advisory Mena, at National Bank of Abu Dhabi (NBAD), Sonam Kapadia tells GTR: “It is always beneficial for banks to explore ways in which they can address the widest possible segment of companies.”
“Banks tend to have much larger pool of resources available and are able to undertake financing in different forms. If bank finance is available then it would be very helpful for the SMEs to expand businesses.”
“For example, without access to banks, the clients would not have the option of using payment terms which involve letters of credit or collection documents. Hence establishing new business relationships would be more difficult.”
Standard collateral requirements were also highlighted as pushing companies to disconnect, with most loans requiring collateral with an average value of over twice the loan sum – a challenge for younger firms and firms with movable assets (such as machinery and equipment) that banks do not accept as collateral.
The report suggests strengthened credit risk assessments by banks and credit guarantee schemes as a way to alleviate collateral constraints, as well as strengthening secured transaction laws, and making collateral registry more efficient.
“A good collateral registry and confidence in being able to realise the value of the collateral would help in reducing the collateral and also allow for different forms of collateral,” says Kapadia.
“There should [also] be consideration to leap-frogging and using technology to overcome constraints. Technology-driven platforms like supply chain financing, multi-bank receivable financing/invoice discounting would be able to create a strong proposition for this sector.”
The report also called for greater openness to international trade, with more effective customs and trade regulations, both in terms of imports and exports and reducing entry costs.