Developments in Ethiopia’s Modern Banking: A Look at the Recent Proliferation

It is clear that the central bank is not too pleased with the number of commercial banks. Its officials hardly ever pass up the chance to encourage or caution banks to consider mergers and grow their capacities.  Their rationale is that banks have to brace themselves for possible competition with foreign banks when the sector eventually opens up. 

Ethiopia’s lengthy history with banking has seen an abundance of government ownership and foreign investment, the decoupling of national and commercial banking, and even an attempt at specialized banking. 

The modern banking era has been less eventful than what the industry underwent during Imperial rule and the Dergue regime, which nationalized all banks.   

An imperial edict replaced the Bank of Abyssinia, which was established as the country’s first bank in 1906 during the rule of Emperor Menelik II, with the Bank of Ethiopia. The era also saw Italian banks enter the market during the occupation in the mid 1930s. 

The financial sector was liberalized relatively recently. Liberalization under the administration of the Ethiopian People’s Revolutionary Democratic Front (EPRDF) in the 1990s led to the establishment of the “big six” banks beginning 1994.

Liberalization also entailed granting the state-owned Commercial Bank of Ethiopia (CBE) autonomy in its lending decisions and the leeway to operate according to market principles. The two other state-owned banks, the Development Bank of Ethiopia and the Construction & Business Bank, were also allowed to compete with the CBE as commercial banks. 

Awash (formerly Awash International), Dashen, Bank of Abyssinia, Wegagen, Nib, and Hibret (formerly United) were all incorporated before the turn of the millennium. These banks joined the financial sector with a combined paid-up capital of 130 million Birr. The figure has since risen to about 40 billion Birr. 

Prior to 2010, a second generation of private banks, including the Cooperative Bank of Oromia, Lion, Zemen, and Oromia entered the market.  At a combined 430 million Birr, they joined with higher equity than their predecessors had managed to muster on their debut.

Bunna, Berhan, Abay, Addis International, Debub Global, and Enat banks followed in the early 2010s.  The six banks were incorporated with an aggregate capital of 754 million Birr.

The proliferation of banks taking place at present is not an overnight phenomenon – it is the result of years spent by organizers and promoters subscribing shares to the general public. It is also the outcome of a series of policy changes. 

Around the time the third generation of banks cropped up in 2011, the National Bank of Ethiopia (NBE) upped the minimum paid-up capital requirements to half a billion Birr from 75 million. All banks, including those under formation, were given five years to meet the threshold. 

The banking business proclamation of 2009 stipulated that foreign individuals or organizations could not invest in banking. However, foreign nationals of Ethiopian origin (FNEO) were shareholders in several banks. 

In 2016, the government decreed that shares bought by FNEO had to be relinquished at par value. The restriction lasted three years before an amendment to the proclamation allowed FNEO to hold equity or open a bank. 

The proclamation was followed by a directive that dictated how equity investments are to be made. 

There was much hope among organizers that equity investment coming from the diaspora community would catalyze share subscription. However, rules about the currency in which equity investments are made quickly deflated this hope.

The law states that investments are to be made in foreign currency only, while the value of the investment would be tied to the prevailing exchange rate when the shares were bought. In addition, banks could only pay out dividends in local currency. In a country with quickly depreciating currency, merely saving cash in foreign currency can yield higher profits in Birr terms.

Organizers argue the restrictions are part of the reason that banks were unable to raise enough equity to meet the threshold.

For nearly a decade after the third-generation banks joined, the industry did not welcome any new entrants. 

However, in 2019 and 2020, the organizers of several banks began selling shares. The likes of Ahadu, Tsehay, Ge’ez, Jano, Ye Ethiopia Diaspora Bank, Afro, Dakota, and Akufada were attempting to raise equity from the public. 

The Bank Flood: What’s behind it?

Regulatory Push 

After almost a decade, the dry spell was broken by the formation of the first full-fledged interest-free bank – ZamZam. The central bank had allowed the establishment of full-fledged interest-free banks in 2019 after many years of lobbying. 

The formation of these banks has a remarkable backstory full of twists and turns. The idea was first brought up in 2007 and subsequent discussions led to the inclusion of a provision regarding interest-free banking in the 2008 proclamation. 

The proclamation mandated the NBE to develop a directive, which not only took three years but also prescribed the provision of interest-free banking within the conventional banks, leading to the dissolution of full-fledged interest-free banks that were in the pipeline. 

Banks first began operating window-based interest-free banking in 2011. Since then, 11 banks have introduced the services.

The policy changes brought with them the formation of ZamZam and Hijra banks. A third interest-free bank – Rammis – is also expected to launch operations soon. 

In addition to these banks, others such as Zad, Kush, Huda, and Nejashi are in the process of raising equity. 

The Sharia-compliant financing sector is showing promising growth despite hurdles associated with the nascency of the services. Combined with the full-fledged banks, the interest-free banking sector serves 12 million account holders (16% of total accounts) who have deposited 135 billion birr as of June 2022. 

High Stakes

A decade after the central bank set the half-billion Birr capital requirement, it decided to raise the threshold by 10 folds. Over a dozen banks were in the process of raising equity at the time.

The NBE granted organizers the chance to join the industry by raising half a billion Birr in capital within a six-month window, causing a scramble. Despite attempts at mergers and pleas for a deadline extension, only two banks (Rammis and Gadaa) managed to come through. Other newly-formed banks, such as Goh (the industry’s first mortgage bank), Amhara, Tsehay, and Ahadu all held their founding shareholder assemblies before the new capital requirement became official. 

When the central bank made the capital requirement adjustment in 2012, banks under formation were forced to dissolve as they struggled to raise equity. Banks dubbed Noah and Tsehay were among those that dissolved. 

The Microfinance Privilege

In 2020, the central bank adopted a new law that paved the way for microfinance institutions (MFIs) to transform into full-fledged commercial banks. Capital requirements for aspiring MFIs were the same as for banks under formation.

The country’s largest MFIs, which have the backing of their regional administrations, jumped at the chance. They are in a strong position to compete with established banks due to their enormous client base, many years of experience, and strong capital. 

Tsedey, Siinqee, Omo, and Addis Credit & Saving (yet to be renamed) are four of the five largest MFIs. They account for about 70% of the entire 52.8 billion Birr in saving deposits held by all microfinance institutions and close to 80% of the number of active borrowers. 

Sidama and Shebele banks, both former MFIs, entered the industry with a paid-up capital of less than 600 million Birr during the six-month licensing window. Both banks will have six years to grow their capital to five billion Birr. 

Relicensed MFIs must maintain both their microfinance and banking operations, or risk having their licenses suspended or revoked.

How Many is Too Many?

It is clear that the central bank is not too pleased with the number of commercial banks. Its officials hardly ever pass up the chance to encourage or caution banks to consider mergers and grow their capacities.  Their rationale is that banks have to brace themselves for possible competition with foreign banks when the sector eventually opens up.  

Bankers and other experts, however, disagree with the opinion. They argue that demand for financing, financial inclusion, and innovative banking solutions including digital is yet to be met.

Can the problems in the banking industry really be solved by growing the number of banks? How many would be too many?

Hard to Compare

Nigeria, Africa’s biggest economy, registers over 400 million dollars in annual GDP and boasts 21 commercial banks. Nigeria’s financial sector is among the largest on the continent – no less than 133 fintechs are in operation, licensed under various categories, according to the central bank of Nigeria. 

The minimum capital requirement for the establishment of a bank ranges from 23 million dollars to 120 million. 

Egypt, the continent’s fourth most populous nation, is home to 37 banks. The country’s GDP, however, is three times that of Ethiopia. The minimum capital requirement in Egypt stands higher at 150 million dollars (around eight billion Birr at current exchange rates).  Egypt’s fintech industry is one of the most vibrant in the continent with over 110 players. 

Kenya and its population of 40 million has 39 commercial banks – 17 of which are foreign-owned. At 8.3 million dollars, the minimum capital requirement is substantially lower than the thresholds in the countries named above. In terms of GDP, Kenya and Ethiopia have comparable economic performance. Kenya is home to over four dozen fintech companies. 

The Tech

Although an unprecedented number of banks are/were under formation or have joined the industry, only one was promising to pursue a digital-first banking policy. It is unclear to what extent new (and existing) banks are embedding necessary technological innovation in their strategies. 

However, the banking ecosystem has evolved structurally.  To gain entry, all new banks are obliged to join the national switch operator – EthSwitch, which forces them to at least maintain interoperability. There are some positive signs of use of innovative technology. Ahadu Bank has established self-service branches with self-onboarding technology, allowing people to create their own accounts on a device when visiting a branch. 

In the next articles of this series, we will look at the history of digital/electronic banking in Ethiopia. We will also examine the potential pitfalls that new banks may encounter, the needs of clients, and the future of the banking industry. 

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