Financial Integration: Key to Intra- Africa Trade and Investment

Published on 14th October 2008

Global trends in international trade and economic, social, and political relations continue to forge closer integration among countries and regions. Trade in goods and services, and movement of capital and human resources continue to grow tremendously, assisted by accelerated sharing of technology across national and regional borders. But all indicators show that Africa’s performance has been poor, marginalizing it in the global trading system.

In 2007, Africa recorded a high growth rate of about 5.8%. As in previous years, this was largely driven by strong global demand, high commodity prices, increased private capital flows and improving macro economic management. In spite of this progress however, there is still a huge deficit in the growth needed to meet the Millennium Development goals. Population growth rates in many African countries being still high do not help the situation either, as they erode the gains and lead to a less impressive GDP per capita growth rate overall.

Trade, particularly within the continent remains a key pillar for tackling the challenges Africa faces. Regional integration has thus emerged as the framework to address obstacles to intra-African trade. Reducing barriers to intra- African trade will create larger regional markets that can realize economies of scale and sustain production systems and markets as well as enhance Africa’s competitiveness.

This brings us to the focus of “The Importance of African Financial Integration to Promote Regional Trade and Investment on the Continent.” What do we mean by African financial integration, and how can it promote regional trade and investment on the continent?

African financial integration means the progressive harmonization and integration of the financial sectors of African countries. This entails the harmonization of macro-economic and monetary policies as well as the creation of institutions to manage the process. Its eventual aim is the creation of a monetary union, but however, elements of financial integration can be adopted, even without having a full monetary union, through the co-operation of regulators on wide ranging issues or through the free movement of capital as one would have in a common market.

Strong financial integration can increase the efficiency of the financial sector, by reducing interest rates, decreasing the cost of credit, and increasing lending for investment activities. For example, too small African economies could become more competitive, diversify their portfolios, and reduce their risk premiums by integrating their financial sectors. Integrating the financial sectors also allows for more diversification of portfolios and an overall reduction of risk premiums, thereby increasing the overall strength of the sector.

So how will this promote regional trade and investment on the Continent?  First of all, in a broad sense, promoting investment is one of the main reasons for establishing regional integration. Regional integration generally enhances investments by enlarging markets, increasing competition and improving policy credibility.

One of the important developments in the world economy that is of high importance to Africa is the rapid increase in South-South trade and capital flows. FDI from the South increased from just 5 percent of world outward flows in 1990 to 17 percent in 2005. While FDI to Africa is increasingly coming from Asia, especially China, India and the Gulf States, at the same time, FDI flows within Africa increased substantially in 2006. The integration of the financial services will further boost FDI flows within Africa. Africa financial integration will make it much easier to move capital from one part of Africa to the other therefore increasing trade and investment within the continent.

Secondly, one of the major challenges to the growth of trade and investment on the continent has been the inadequate provision of financing to fuel this growth. The recent sub-prime mortgage market crises in the USA and its knock on effects has served as a reminder of the fragility of international finance markets, Africa therefore needs to alleviate her  financing constraints by mobilizing more domestic resources. Consequently, there is the imperative to develop regional financial markets that can meet Africa’s financing needs. 

Africa continues to face significant financing gaps that cannot be met through donor funding or international lending. At the same time, the fragmented nature of the individual financial sectors makes them unable to meet these financing needs. Africa’s financial integration is therefore an essential step towards mobilizing domestic financial resources to address Africa’s financing needs for the promotion of trade and investment. Thus Africa’s financial integration has a direct role to play in the promotion of trade and investment in the region.

Lastly, there is a third but not least reason why financial integration (or the establishment of institutions managing it) is necessary in the era of globalization. This is trade in financial services as a business opportunity in its own right. The liberalization of trade in services is probably the most sensitive one. Opening competition in that area requires tight vigilance and professional regulation so as to protect players, consumers and also macroeconomic stability of an economic community. Therefore, harmonization in policy, legal and regulatory framework is paramount to ensure the necessary order. However, much more is needed than just harmonization of individual countries’ frameworks. Indeed, we have experienced cases whereby countries negotiated and agreed on steps to be taken, but these remained unimplemented due to the lack of an institution that has been empowered enough with the authority to enforce decisions beyond the discretion of individual governments. 

Therefore, the establishment of the critical institutions of the African Monetary Fund, the African Central Bank and the African Investment Bank are essential in addressing these challenges. It is encouraging to note that serious efforts are being made in this direction and it is our hope that these efforts will be brought to fruition sooner rather than later.

Monique Nsanzabaganwa
Minister of Trade and Industry, Rwanda

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