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Financial deepening is a term used by economists to refer to increasing provision of financial services. It can refer both a wider choice of services and better access for different socioeconomic groups. [1] Financial deepening can have an effect on both individuals' and societies' economic situations.
The following are examples of different forms of financial deepening. Provision for the unbanked and underbanked in a society. Development of financial markets. Development of financial institutions and increasing the diversity in financial instruments.
One of the key features of financial deepening is that it accelerates economic growth through the expansion of access to those who do not have adequate finance themselves. Typically, in an underdeveloped financial system, it is the incumbents who have better access to financial services through relationship banking. Moreover, incumbents also finance their growth through internal resource generation. Thus, in an underdeveloped financial system, growth is constrained to the expansion potential of incumbents. In mature financial systems on the other hand, financial institutions develop appraisal techniques, and information gathering and sharing mechanisms, which then enable banks to even finance those activities or firms that are at the margin, thereby leading to their growth-inducing productive activities in addition to the incumbents. The assumption is that the availability of external finance to budding entrepreneurs and small firms enables new entrepreneurship, while also providing competition to incumbents and consequently encouraging entrepreneurship and productivity. However, research indicates that widely available formal finance can produce informal intermediation, an unintended form of entrepreneurship. [2] Hence, maintaining a sceptical approach when researching the effectiveness of initiatives is advisable. [3]
Financial deepening can have a macroeconomic effect for a country. Financial deepening generally can increase the ratio of money supply to GDP or some price index. It can have the effect of increasing liquidity. Having access to money can provide more opportunities for investment and growth.
A developed financial system broadens access to funds; conversely, in an underdeveloped financial system, access to funds is limited and people are constrained by the availability of their own funds and have to resort to high cost informal sources such as money lenders. Lower the availability of funds and higher their cost, fewer would be the economic activities that can be financed and hence lower the resulting economic growth.
Promoting well-managed financial deepening in low-income countries (LICs) can enhance resilience and capacity to cope with shocks, improve macroeconomic policy effectiveness, and support solid and durable inclusive growth.
Financial deepening and macro-stability has been identified as a priority area in the years ahead for the Fund, as reflected in its Financial Surveillance Strategy paper.
Managing Volatility and Supporting Low-income Country Growth Enhancing macro-economic policy effectiveness Shallow financial systems limit fiscal, monetary, and exchange rate policy choices; hamper macroeconomic policy transmission; and impede opportunities for hedging or diversifying risk. This is of particular concern because LICs are vulnerable to external shocks, such as sharp swings in commodity prices and fluctuations in external financing. Limited policy space and instruments to mitigate the ensuing macroeconomic volatility often translate into large growth and welfare costs for these countries.
The association between economic growth and financial deepening has been a wide-ranging subject of experiential research. The practical evidence suggests that there is a significant positive relationship between financial development and economic growth. [4] [5]
Many economists support the theory that financial development spurs economic growth. Theoretically, financial development creates enabling conditions for growth through either a supply-leading (financial development spurs growth) or a demand-following (growth generates demand for financial products) channel. A large body of empirical research supports the view that development of the financial system contributes to economic growth. [6] Empirical evidence consistently emphasises the nexus between finance and growth, though the issue of direction of causality is more difficult to determine. At the cross-country level, evidence indicates that various measures of financial development (including assets of the financial intermediaries, liquid liabilities of financial institutions, domestic credit to private sector, stock and bond market capitalisation) are robustly and positively related to economic growth. [7] Other studies establish a positive relationship between financial development and growth at the industry level. [8] Some supporters of the view that internal factors determine growth (endogenous growth theory) nevertheless assign a special role to finance. [9]
Financial systems in developing countries became inclusive in the twenty first century. However, they are still undiversified and small. [4]
Financial deepening can play an important role in reducing risk and vulnerability for disadvantaged groups, and increasing the ability of individuals and households to access basic services like health and education. This can have direct impact on poverty reduction.
In developing countries policy and exogenous influences determine whether financial deepening achieves optimum results. [4] [10]
The All-India Debt and Investment Survey (AIDIS), 2002 raised concerns about financial inclusion, it may have reduced since 1990. After the green revolution focus has been on financing crop loans connected largely with food grains. [11]
The Reserve Bank of India views the provision of banking to the poor as a viable business opportunity. It notes that costs and benefit exercises need to be attempted by the banks to make financial inclusion congruent with their business models.
Macroeconomics is a branch of economics that deals with the performance, structure, behavior, and decision-making of an economy as a whole. This includes national, regional, and global economies. Macroeconomists study topics such as output/GDP and national income, unemployment, price indices and inflation, consumption, saving, investment, energy, international trade, and international finance.
Microcredit is the extension of very small loans (microloans) to impoverished borrowers who typically lack collateral, steady employment, and a verifiable credit history. It is designed to support entrepreneurship and alleviate poverty. Many recipients are illiterate, and therefore unable to complete paperwork required to get conventional loans. As of 2009 an estimated 74 million people held microloans that totaled US$38 billion. Grameen Bank reports that repayment success rates are between 95 and 98 percent. The first economist who had invented the idea of micro loans was Jonathan Swift in the 1720’s. Microcredit is part of microfinance, which provides a wider range of financial services, especially savings accounts, to the poor. Modern microcredit is generally considered to have originated with the Grameen Bank founded in Bangladesh in 1983. Many traditional banks subsequently introduced microcredit despite initial misgivings. The United Nations declared 2005 the International Year of Microcredit. As of 2012, microcredit is widely used in developing countries and is presented as having "enormous potential as a tool for poverty alleviation." Microcredit is a tool that can possibly be helpful to reduce feminization of poverty in developing countries.
Microfinance is a of financial services targeting individuals and small businesses who lack access to conventional banking and related services. Microfinance includes microcredit, the provision of small loans to poor clients; savings and checking accounts; microinsurance; and payment systems, among other services. Microfinance services are designed to reach excluded customers, usually poorer population segments, possibly socially marginalized, or geographically more isolated, and to help them become self-sufficient. ID Ghana is an example of a microfinance institution.
A transition economy or transitional economy is an economy which is changing from a centrally planned economy to a market economy. Transition economies undergo a set of structural transformations intended to develop market-based institutions. These include economic liberalization, where prices are set by market forces rather than by a central planning organization. In addition to this trade barriers are removed, there is a push to privatize state-owned enterprises and resources, state and collectively run enterprises are restructured as businesses, and a financial sector is created to facilitate macroeconomic stabilization and the movement of private capital. The process has been applied in China, the former Soviet Union and Eastern bloc countries of Europe and some Third world countries, and detailed work has been undertaken on its economic and social effects.
The European Structural and Investment Funds are financial tools governed by a common rulebook, set up to implement the regional policy of the European Union, as well as the structural policy pillars of the Common Agricultural Policy and the Common Fisheries Policy. They aim to reduce regional disparities in income, wealth and opportunities. Europe's poorer regions receive most of the support, but all European regions are eligible for funding under the policy's various funds and programmes. The current framework is set for a period of seven years, from 2021 to 2027.
Financial sector development in developing countries and emerging markets is part of the private sector development strategy to stimulate economic growth and reduce poverty. The Financial sector is the set of institutions, instruments, and markets. It also includes the legal and regulatory framework that permit transactions to be made through the extension of credit. Fundamentally, financial sector development concerns overcoming “costs” incurred in the financial system. This process of reducing costs of acquiring information, enforcing contracts, and executing transactions results in the emergence of financial contracts, intermediaries, and markets. Different types and combinations of information, transaction, and enforcement costs in conjunction with different regulatory, legal and tax systems have motivated distinct forms of contracts, intermediaries and markets across countries in different times.
Raghuram Govind Rajan is an Indian economist and the Katherine Dusak Miller Distinguished Service Professor of Finance at the University of Chicago's Booth School of Business. Between 2003 and 2006 he was Chief Economist and director of research at the International Monetary Fund. From September 2013 through September 2016 he was the 23rd Governor of the Reserve Bank of India. In 2015, during his tenure at the RBI, he became the Vice-Chairman of the Bank for International Settlements.
Capital controls are residency-based measures such as transaction taxes, other limits, or outright prohibitions that a nation's government can use to regulate flows from capital markets into and out of the country's capital account. These measures may be economy-wide, sector-specific, or industry specific. They may apply to all flows, or may differentiate by type or duration of the flow.
Cultural economics is the branch of economics that studies the relation of culture to economic outcomes. Here, 'culture' is defined by shared beliefs and preferences of respective groups. Programmatic issues include whether and how much culture matters as to economic outcomes and what its relation is to institutions. As a growing field in behavioral economics, the role of culture in economic behavior is increasingly being demonstrated to cause significant differentials in decision-making and the management and valuation of assets.
SME finance is the funding of small and medium-sized enterprises, and represents a major function of the general business finance market – in which capital for different types of firms are supplied, acquired, and costed or priced. Capital is supplied through the business finance market in the form of bank loans and overdrafts; leasing and hire-purchase arrangements; equity/corporate bond issues; venture capital or private equity; asset-based finance such as factoring and invoice discounting, and government funding in the form of grants or loans.
Dynamic stochastic general equilibrium modeling is a macroeconomic method which is often employed by monetary and fiscal authorities for policy analysis, explaining historical time-series data, as well as future forecasting purposes. DSGE econometric modelling applies general equilibrium theory and microeconomic principles in a tractable manner to postulate economic phenomena, such as economic growth and business cycles, as well as policy effects and market shocks.
Financial inclusion is the availability and equality of opportunities to access financial services. It refers to processes by which individuals and businesses can access appropriate, affordable, and timely financial products and services - which include banking, loan, equity, and insurance products. It provides paths to enhance inclusiveness in economic growth by enabling the unbanked population to access the means for savings, investment, and insurance towards improving household income and reducing income inequality
Intermediation involves the "matching" of lenders with savings to borrowers who need money by an agent or third party, such as a bank.
Luigi Zingales is an Italian academic who is a finance professor at the University of Chicago Booth School of Business. His book Saving Capitalism from the Capitalists (2003) is a study of "relationship capitalism". In A Capitalism for the People: Recapturing the Lost Genius of American Prosperity (2012), Zingales "suggests that channeling populist anger can reinvigorate the power of competition and reverse the movement toward a 'crony system'."
The economic and monetary union (EMU) of the European Union is a group of policies aimed at converging the economies of member states of the European Union at three stages.
The balanced growth theory is an economic theory pioneered by the economist Ragnar Nurkse (1907–1959). The theory hypothesises that the government of any underdeveloped country needs to make large investments in a number of industries simultaneously. This will enlarge the market size, increase productivity, and provide an incentive for the private sector to invest.
Macro risk is financial risk that is associated with macroeconomic or political factors. There are at least three different ways this phrase is applied. It can refer to economic or financial risk found in stocks and funds, to political risk found in different countries, and to the impact of economic or financial variables on political risk. Macro risk can also refer to types of economic factors which influence the volatility over time of investments, assets, portfolios, and the intrinsic value of companies.
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Kashf Foundation is a non-profit organization, founded by Roshaneh Zafar in 1996. Kashf is regarded as the first microfinance institution (MFI) of Pakistan that uses village banking methodology in microcredit to alleviate poverty by providing affordable financial and non-financial services to low income households - particularly for women, to build their capacity and enhance their economic role. With headquarters in Lahore, Punjab, Kashf have regional offices in five major cities and over 200 branches across Pakistan.
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