University of Massachusetts Amherst ScholarWorks@UMass Amherst Doctoral Dissertations Dissertations and Theses Spring August 2014 THE FINANCIAL SECTOR AND INCLUSIVE DEVELOPMENT IN AFRICA: ESSAYS ON ACCESS TO FINANCE FOR SMALL AND MEDIUM-SIZED ENTERPRISES IN SOUTH SUDAN AND KENYA James A. Garang University of Massachusetts Amherst Follow this and additional works at: https://scholarworks.umass.edu/dissertations_2 Part of the Finance Commons, Growth and Development Commons, and the Macroeconomics Commons Recommended Citation Garang, James A., "THE FINANCIAL SECTOR AND INCLUSIVE DEVELOPMENT IN AFRICA: ESSAYS ON ACCESS TO FINANCE FOR SMALL AND MEDIUM-SIZED ENTERPRISES IN SOUTH SUDAN AND KENYA" (2014). Doctoral Dissertations. 83. https://doi.org/10.7275/mkxg-xt62 https://scholarworks.umass.edu/dissertations_2/83 This Open Access Dissertation is brought to you for free and open access by the Dissertations and Theses at ScholarWorks@UMass Amherst. It has been accepted for inclusion in Doctoral Dissertations by an authorized administrator of ScholarWorks@UMass Amherst. For more information, please contact [email protected]. THE FINANCIAL SECTOR AND INCLUSIVE DEVELOPMENT IN AFRICA: ESSAYS ON ACCESS TO FINANCE FOR SMALL AND MEDIUM-SIZED ENTERPRISES IN SOUTH SUDAN AND KENYA A Dissertation Presented by JAMES ALIC GARANG Submitted to the Graduate School of the University of Massachusetts Amherst in partial fulfillment of the requirements for the degree of DOCTOR OF PHILOSOPHY May 2014 Department of Economics © Copyright by James Alic Garang 2014 All Rights Reserved THE FINANCIAL SECTOR AND INCLUSIVE DEVELOPMENT IN AFRICA: ESSAYS ON ACCESS TO FINANCE FOR SMALL AND MEDIUM-SIZED ENTERPRISES IN SOUTH SUDAN AND KENYA A Dissertation Presented by JAMES ALIC GARANG Approved as to style and content by: _______________________________________ James K. Boyce, Co-Chair _______________________________________ Leonce Ndikumana, Co-Chair _______________________________________ James Heintz, Member ____________________________________ Michael Ash, Department Head Department of Economics DEDICATION I dedicate this dissertation to my Wife Maria Ayak Kenyang and our beloved children Alic Jr., Adhot and Adut as well as my Mother Abuk Jana, my wonderful siblings and to the entire Family of Lual Guot. ACKNOWLEDGMENTS I will be eternally indebted to my advisors, Professors Leonce Ndikumana and James K. Boyce, for their dedication, encouragement, experience and knowledge imparted on me and time expended in this academic pursuit. Professor Ndikumana’s rich African perspective on macroeconomics and financial matters, his unfailing inquisitive and insightful suggestions and advice on econometric issues and model specification is very much appreciated. Professor Boyce’s abiding kindness, his guidance on analytical issues as well as on matters of style and substance, his on-time-prompt responses to issues of concern and consummate optimism proved indispensable during this journey. I am equally grateful to Professor James Heintz, committee member, for his thoughtful and probing comments which contributed significantly to the quality of the dissertation. I am also thankful for a fellowship from the Political Economy Research Institute at the University of Massachusetts, Amherst, and for two other outside grants, for facilitating the field research. Without this support, none of the quantitative work could have been done. Any errors are my own shortcomings, though. The research assistants in South Sudan and Kenya and all my respondents deserve a special mention. Additionally, I am immensely grateful to my family. First, my wife Maria and our adorable children, Alic Jr., Adhot and Adut, for their unfailing love and support during all the years devoted to finishing the dissertation and many precious moments not spent with them. Second, my Mother Abuk for her love and lifelong lessons instilled in me at an early age. Finally, I appreciate my siblings, Guot, Ahok , Akech and little Garang for their understanding, love and trust, believing that their eldest brother would finish what he started. v ABSTRACT THE FINANCIAL SECTOR AND INCLUSIVE DEVELOPMENT IN AFRICA: ESSAYS ON ACCESS TO FINANCE FOR SMALL AND MEDIUM-SIZED ENTERPRISES IN SOUTH SUDAN AND KENYA MAY 2014 JAMES ALIC GARANG, B.S., UNIVERSITY OF UTAH Ph.D., UNIVERSITY OF MASSACHUSETTS AMHERST Directed by: Professors James Boyce and Leonce Ndikumana This dissertation, consisting of three essays, uses data from field surveys of banks and small and medium enterprises (SMEs) conducted in South Sudan and Kenya from July 2011 through September 2012. The first essay examines the role of financial sector development in expanding access to finance by SMEs in Kenya. We find that while the financial system in general, and the Central Bank of Kenya in particular, have made headway in expanding financial inclusion in Kenya, small firms continue to face more constraints in access to finance compared to larger firms. The policy emphasis on financial inclusion, coupled with the widespread innovations in information and communications technology, such as M-Pesa and agency banking, are furthering the expansion of the access frontier in Kenya. The second essay assesses access to finance by SMEs in South Sudan, based on a survey conducted in three of the country’s ten states. Using a Probit model estimation, we find that not only does size of the firm matter, but also that distance from Juba is inversely related to access to finance by SMEs. The final essay draws lessons from the Kenyan experience, in light of the findings on access to vi finance in South Sudan, to formulate proposals for innovative financial services for SMEs and with regard to the regulatory framework for financial sector development in South Sudan. The aim throughout the dissertation is to explore how the financial sector can serve to advance the goal of inclusive economic development. Policy recommendations emphasize strengthening the regulatory framework, land rights administration, channeling oil resource revenues to fuel broad-based economic development, and pursuing financial inclusion as an objective in its own right and not just a byproduct of economic development. vii TABLE OF CONTENTS Page ACKNOWLEDGMENTS ...................................................................................................v ABSTRACT ....................................................................................................................... vi LIST OF TABLES ........................................................................................................... xiii LIST OF FIGURES ......................................................................................................... xix LIST OF ABREVIATIONS ............................................................................................ xix CHAPTER 1 SETTING THE STAGE ..........................................................................................1 1.1 Introduction ........................................................................................................1 1.2 Background of the Research Problem, Hypothesis and Justification of the Study ..................................................................................................2 1.2.1 Background of the Research Problem .................................................2 1.2.2 Research Questions and Hypotheses ..................................................3 1.2.3 Motivation ...........................................................................................4 1.2.4 Significance.........................................................................................5 1.3 History of Political Instability and Financial Sector Underdevelopment ..........8 1.3.1 Genesis of the Tumultuous Political Economy in South Sudan .........8 1.3.2 Stylized Facts on the Economy in South Sudan ...............................13 1.4 Objectives of the Study ....................................................................................16 1.5 Scope and Limitations of the Study .................................................................16 2 FINANCIAL SECTOR DEVLOPMENT AND ACCESS TO FINANCE BY SMES: A REVIEW OF LITERATURE ................................................................20 2.1 Introduction ......................................................................................................20 2.2 SMEs and Access to Finance ...........................................................................21 viii 2.2.1 Definitions of SMEs .........................................................................21 2.2.2 Role of SMEs in Modern Economies ...............................................23 2.2.3 Problems of Access to Finance by SMEs .........................................25 2.3 Financial Inclusion ...........................................................................................29 2.4 Measuring Financial Sector Development and Financial Inclusion ................35 2.5 Interventions in Credit Markets .......................................................................39 2.5.1 Conventional Means of Interventions in Credit Markets ..................41 2.5.2 Non-conventional Means of Interventions in Credit Markets ..........43 2.6 Conclusion .......................................................................................................47 3 FINANCIAL SECTOR DEVELOPMENT AND SMALL AND MEDIUM- SIZED ENTERPRISES IN KENYA .....................................................................54