The Role of Electronic Finance in SME-Finance in Emerging Markets

By Stijn Claessens and Thomas Glaessner

University of Amsterdam and World Bank Presentation for UNCTAD

October 24, Geneva

The State of Affairs, Potential, and Impact of E-Finance in Emerging Markets

• State of Affairs– Convergence in approaches across the globe, state of art in e-

finance used in many emerging markets – Penetration of e-finance growing in developing countries,

although data poor– Connectivity, business environment improving worldwide,

albeit uneven

• Further growth depends on connectivity, business conditions, framework and competition

• Impact on costs and revenues can be large for incumbent financial services providers

Potential and Impact of E-Finance • Takeoff depends on business environment, connectivity, etc.

– “S”-shaped pattern. Take-off point (start high growth period) varies from today for Nordic countries to 2007 for Russia

• Penetration of e-finance to increase. Projections suggest:– Banking: by 2005 from 8.5% penetration to 50% in developed

countries; from 1% to 10% in emerging markets. – Brokerage: from 28% to 80% in developed countries and from 1.5% to

15% in emerging markets• Impact on revenues significant

– Banking margins. Developed countries: from 2.3 percentage points today to 2.0 in 2005 and 1.7 in 2010. Emerging markets: from 4.4 percentage points to 3.9 in 2005, and 2.5 by 2010;

– Brokerage revenues. Fall by half in industrial countries and by one-third in emerging markets.

E-finance and SMEs: Possible Gains

• Costs of SME financing can decline

– direct delivery costs are lower; marginal: few cents per transaction; but remember iceberg: full costs higher

– indirect gains that can be passed on: scope gains (complete CRM, information gains); way of doing business (less errors, STP, links with other data sources, time gains)

• Access can widen to broader class of borrowers

– broader, potentially unlimited reach of (global) financial services providers; smaller transaction sizes become profitable for normal banking, move down market as information asymmetries decline

E-finance and SMEs: Gains• Price/product comparisons becomes easier • Quality of service can improve• Entry barriers created by lack of financing can decline

– Can assemble a firm easier; less need for costly-capital tied up; may change financing patterns more fundamentally

• New e-finance and e-commerce products have emerged which may be especially suited to SMEs– EBPP, ESP, aggregation, trade financing– Easier financial management tools

• Role of the government: – Can make the delivery of existing subsidy programs more efficient, thus

free up (public) resources

Preconditions for Gains• Competitive framework

– need entry/exit, within and across-borders– also from non-banks, with and without established networks– but need to consider sunk costs, externalities, links

• Need to consider all networks in place– includes branches, post-office, stores, utilities, internet, IP, portals,

etc; public as well as private– need to consider access/pricing-policies to these networks

• Role of government:– standards, pro and anti-competitiveness– development of networks

• Other implications for public policies

Enabling Environment

• Telecommunications

• Information Infrastructure

• Legal Framework and Contract Enforcement

• Electronic Security

Communications Infrastructure

• Objective: improve connectivity – Privatize Post Telegraph and Post

Administrations– Improve licensing of competitive operators – Reduce international trade barriers– Impose mandatory interconnections– Introduce an independent/ accountable regulatory

authority– Develop price cap regulations– Special funds for remote Areas

Legal Framework and Enforcement

• Objective: Simplify Legal Framework and Improve Enforcement– Global framework

• Cross Border Issues and Dispute Resolution• Large disparity in criminal and civil penalties• Privacy, Consumer Protection, Securities and Banking Law,

Treatment of Vendors

– Opportunities• Can technology improve collateral and foreclosure processes?• Can technology improve contract enforcement?

– Requirements for Enforcement• Electronic Audit Trails: ISPs, Hosts, Portals, Mobile Phones• Electronic Forensics and investigations

Information Infrastructure

• Objective: Improving quality of information

– New issues:

• Technology (data mining and scoring, cross-selling, screen scraping, spoofing) increase scope for conflicts within and between financial institutions

• Portals

• Sharing positive and negative credit information more important (Credit Bureaus and Registries)

– Role for regulators

• Information and privacy standards

• Stricter on links/conflicts of interest

• Balance privacy with improving quality of credit information

– Government • Encourage information sharing by agencies

• Use public infrastructure as information gathering points

• Registry Development

Electronic Security Arrangements• Objective: improve security and confidence

– Security needs to be layered and subject to costs and benefits in light of risk

– No accurate data on security breeches.

– Authentication, Integrity, Non-repudiation, confidentiality

– Private sector solutions alone not enough (public/private partnership is needed)

– Role of government to define standards:• Should the Certification Authority be public or private?

• How stiff are penalties for security infractions?

• How can private keys be made much more secure to permit authentication?

• Role of standards, permitting introduction of new technologies e.g.biometrics, etc.

A New Role for Government

• Enabler– Permits Innovation – Sets simple standards– Shares Information subject to Privacy Statutes

• Less need for Direct Interventions– Development Banks less needed– A New Approach to Subsidies– Creative Use of Government Infrastructure

Government versus Private Sector Role in Financial Services

• Card Technology – more than payment services (quasi credit services)– link to means testing and information collection– delivery of subsidies and partitioning of cards– Less need for government infrastructure (e.g. welfare departments etc.)

• Trade and Storage Finance– Trade Finance Solutions are improving (Coordination of ECAs and

Multilaterals with Private Sector)– Storage Finance—technology solutions can present large savings in

marketing (supply chain) and costs of capital– Government as standard setter –standardization and liquidity

• E-Finance for SMEs– Old Solutions: Development Banks or Forced Investments—mixed

results at best – SMELoan, Pride Africa,CitiBusiness Direct,Standard Bank, Bradesco– Capital Market Solutions and Private Capital: Tech pacific .com

Role of the World Bank• Advisory Services

– Access to Financial Services– Capital Market Development

• Diagnostics: Readiness of Infrastructure to support E-Finance

• Coordination with IFC in its efforts• Leveraging WB Treasury Experience• Cross Departmental and Multidisciplinary

Approach