Market developments

A year of political turmoil and lacklustre economic growth

2016 was a challenging year, with unexpected events that triggered social and political instability around the world. Uncertainty and risk aversion were triggered first by Brexit in June and then in November by the outcome of the US presidential elections. The US dollar, which had been weakening somewhat in the first three quarters, strengthened substantially after the elections, due to the expectation that the fiscal stimulus Trump had promised during his campaign would lead to higher interest rates and higher inflation.

The world economy grew at a lacklustre rate of 3.1% in 2016, the lowest growth rate since 2008-2009 and slightly down from 3.2% in 20152. The growth rate in the second half was slightly higher than in the first half of 2016, particularly in the US. Overall, however, economic growth in advanced economies, notably the EU, slowed down considerably, to 1.6% for the full year 2016 (2015: 2.1%).

2 IMF World Economic Outlook update January 2017

Emerging markets and developing economies grew by 4.1% in 2016, just exceeding the growth rate of 4% recorded in 2015. The underlying picture was very diverse, however. The growth rate in China was stronger than expected, due to continued policy stimulus, while a number of Latin American countries disappointed. Emerging Asia, Europe and Africa all recorded a lower growth rate in 2016. In Latin America growth even turned negative in 2016, with GDP shrinking in countries such as Brazil, Argentina and Ecuador. The CIS countries did not grow in 2016, but at least their decline came to a halt.

The surprise demonetisation in India - the immediate withdrawal of 500 and 1000 rupee banknotes that together made up 85% of the total value of currency in circulation - resulted in an acute cash shortage and had a negative impact on the economy. The measure was intended to get rid of counterfeit currency, combat corruption and bring economic activity into the formal economy and could have positive effects in the longer term. However, in the short term, the ensuing cash shortage has resulted in considerable economic pain for particularly the unbanked and people who depend on the informal economy. Increased risk aversion, a stronger US dollar and rising US interest rates led to capital outflows from emerging markets near the end of the year.

Currencies: appreciation of the US dollar dominates the market

Overall, more emerging market currencies appreciated than depreciated against the euro in 2016. This was mainly the result of a 2.9% appreciation of the US dollar over the full year, as many emerging market currencies move in tandem with the US currency. A notable exception was the Nigerian naira. In June 2016, the Nigerian monetary authorities de-pegged the naira from the US dollar, which resulted in a sharp depreciation. Over the full year, the naira lost 35% of its value against the euro. The convertibility of the naira remains a problem, moreover, due to a lack of hard currency in the country.

Commodities: oil and metals recover

Developments in commodity markets were mixed. After reaching a low in January 2016, the oil price started rising at a slow pace. This pace accelerated after the 29 November OPEC decision to restrict oil production. The price of Brent oil rose by around 40% over the full year, albeit from a historically low level. Metal prices also recovered from their lows, rising by around 30% over 2016. The pace of recovery accelerated after the US presidential elections, partly due to the promise of massive infrastructure spending by the incoming Trump administration. Prices of agricultural commodities remained weak, however.

Financial inclusion market

Despite the challenging market circumstances, which were triggered by various economic, social, and political events, the global impact investing market continues to grow. According to the latest report published by the Global Impact Investing Network (GIIN) in December 2016, impact investors’ assets under management grew by 18% annually between 2013 and 20153, spread across regions - both emerging and developed markets - and various sectors. The microfinance and financial services sectors still dominate the impact investment capital allocation, even if their growth rate is decelerating.

3 The Global Impact Investing Network, “Impact Investing Trend Report 2016”, December 2016

During 2013-2015, the two sectors recorded an annual growth rate of 5% and 11% respectively, which is admittedly significantly lower than for emerging sectors such as education and information and communication technology, which grew at a rate of 60% and 43% respectively. The maturing of the microfinance market, the need for diversification and the growing need for support for other basic social needs are possibly the main drivers behind this interesting growth shift.

Yet, more than two billion people globally still lack access to formal financial services. Financial inclusion therefore remains an important investment theme. Despite the current stagnation of the microfinance market in Central Asia, the gradual recovery of the Russian economy is expected to slowly improve the flow of remittances and export revenues of the neighbouring countries. Meanwhile, in Latin America the saturating microfinance market leaves only limited room for growth, thus paving the way for financing of SMEs. This latter segment has long been considered the ’missing middle’, due to the lack of specific financing.

Regions with high youth unemployment as well as high urbanisation and migration rates exacerbated by recent social and political events, for instance in the Middle East and North Africa, will continue to see strong demand for credit, despite the challenging regulatory landscapes. Here, access to finance is essential, as it provides people with the means to be entrepreneurial and also to meet basic needs. The diverse underlying economic settings in Sub-Saharan Africa, on the other hand, will result in a different microfinance growth trajectory. While robust economic growth in Kenya will increase the appetite for access to finance, the economic slowdown in Nigeria will weaken the expansion of the microfinance sector.

The microfinance sector in the Asia Pacific region remains solid, with ongoing robust demand. Most MFIs are expected to keep up their current growth pace. During the year, an interesting shift in capital flows took place in the direction of South Asia. Recovering from the 2010 crisis, India’s microfinance market benefits from improvements in and strengthening of the institutional landscape and responsible lending practices, positively supported by the government. The demonetisation in November of 2016, as mentioned in the previous section, has nevertheless had a negative impact on the market, causing acute cash shortage. While not all the underlying goals of the measure have been met yet, the demonetisation has been rather successful in digitising and bringing more people to the formal economy, given the rapid increase in the number of new bank accounts and ‘e-wallets’ opened and digital payment systems activated. The microfinance sector in particular will benefit from these positive effects.

Many implications of the events and developments in 2016 are still uncertain. Asia-Pacific, Africa, and the Middle East and North Africa nevertheless show enough evidence to support a positive outlook for the microfinance and SME finance sectors, with growth estimates for 2017 ranging between 10 and 15%4.

4 responsAbility, “Micro and SME Finance Market Outlook 2017”, November 2016

FinTech: stepping away from the traditional infrastructure

Often paraded as one of the game-changers in the inclusive finance sector, digitisation has so far proven to contribute positively to advancing financial inclusion. Rapid adoption of internet and portable telecommunication devices are major drivers of the growth of digital finance. Ownership of mobile phones in developing countries in the Asia Pacific region and Africa is more common than access to electricity or proper sanitation. According to a report on mobile money published by the Global System for Mobile Communication (GSMA) in February 2016, mobile money is now available in 85% of the countries where less than 20% of the population has access to a formal financial account. These facts demonstrate the power of technology and point to the critical role that they play in improving financial inclusion by bypassing the barriers frequently faced by providers of traditional financial services.

As digital finance unlocks more gains, not only for the financial sector and for customers, but also for the public sector by boosting tax revenue, improving business transparency and reducing unmanaged, informal economic activity, a growing number of emerging countries acknowledge the need for smart regulatory changes that promote financial inclusion and digital finance. Moreover, many also argue that it will lead to the emergence of new business models, closing of the gender gap and improvements in terms of human capital.

Financial products and services as a means to promote sustainable development

The Sustainable Development Goals (SDGs) launched in September 2015 outline 17 development goals for the period 2015-2030, from ending poverty and inequality, to ensuring healthy lives and wellbeing, education, sanitation and clean water. Although they do not specifically mention financial inclusion, the role of financial services and products as enablers for achieving the other goals stresses the importance of financial inclusion.

Access to basic needs, such as housing, education and medical care, would benefit from a strong inclusive financial sector. A growing number of players in the financial sector acknowledge this and have therefore started offering financial products and services that specifically aim to achieve this goal, such as low-cost housing finance, education loans and emergency medical loans.

The strong link between financial inclusion and sustainable development demonstrates that it is essential for both the public and private sectors to rigorously promote greater access to financial products and services for the underserved. In this sense, impact should be generated not only through providing the money itself, but also by being aware of and selective in what the money is used for.

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