The Impact Of Financial Inclusion On Monetary Policy In Nigeria

320J. Econ. Int. FinanceTable 2. Core mandate of CBN.Objectives of CBNEnsure monetary and price stabilityHow financial inclusion addresses the objectives of CBNCBN will be able to influence savings, investment and consumption behaviorthrough interest and exchange rate changes, a direct result of increasedparticipation of Nigerians in the former financial sectorIssue legal tender currency in NigeriaIncreased penetration of e-payments usage and cash-less efforts will reduce thecost of cash management and the cost of issuing legal tender currencyMaintain external reserves to safe guardthe international value of the nairaIncreased access to finance for MSMEs a s a result of financial inclusion (Creditmade on the back of mobilized savings) will lead to greater productivity, increasednon-oil exports and stable subsequent demand for nairaPromote a sound financial system inNigeriaFinancial inclusion will lead to development of a stable financial system funded bynon-volatile savings which are robust and provide cushion against externalshocksProvide economic and financial advice tothe federal govt.CBN will be able to advise the govt. as increased participation in formal financewill lead to grater visibility of the performance of the economybenefits of financial inclusion, preliminary data, andstrong anecdotal evidence can be found in DemirgüçKunt et al. (2008) and De koker and Jentzsch (2013).Mahendra (2006) defined financial inclusion as theavailability of banking services at an affordable rate to thelarge segment of the vulnerable and low-income groups.He stated that although credit is the most significantcomponent of financial services, financial inclusioncovers various other services such as savings, insurance,payments and remittance facilities issued by formalfinancial institutions to those perceived to be financiallyexcluded.Hariharan and Marktanner (2012) defined financialinclusion as access to formal financial services such ascredit, savings and insurance opportunities. They statedthat lack of financial inclusion is a multifaceted socioeconomic phenomenon that results from various factorssuch as geography, culture, history, religion, socio-economic inequality, structure of the economy and economicpolicy. They however noted that financial inclusion is ahuge source of economic growth and development,adding that it is a strong and significant correlate of acountry‟s total factor productivity and, therefore, possessthe ability to create capital. The study concluded thatfinancial inclusion has the potential to increase thefinancial sector savings portfolio, the efficiency offinancial intermediation, and allows for tapping of newbusiness opportunities.According to Khan (2011), financial inclusion, especially when viewed in the context of overall economicinclusion has the ability to improve the financial statusand standards of living of the poor and the vulnerableclass of the society. He added that access to basicfinancial services would lead to increased economicactivities and employment opportunities for ruralhouseholds. He noted that this has a multiplier effect onthe economy, as it would lead to higher disposableincome for the rural households which will in turn lead tomore savings and a robust deposit base for banks andother financial institutions.He further stated that financial inclusion ensuresgreater involvement by different segments of the societyin the formal financial sector, thus, increasing theeffectiveness of monetary policy. He noted that a largeinformal sector impacts negatively on the transmission ofmonetary policy due to financial decisions taken by asignificant segment of financially excluded householdsand small businesses that are independent of and unaffected by, the monetary policy actions of the centralbank. Thus, as the share of the formal financial sectorincreases through greater financial inclusion, it bringsabout a significant positive externality by making monetary policy transmission more effective.He went further to add that in most cases, efforts toinclude a large section of the population within the circleof formal banking and financial services result in the provision of innovative solutions and outsourcing measures.Such financial innovations reduce costs and increase theoverall efficiency of the economy and the financialsystem. He concluded that through faster informationdissemination and more efficient functioning of thefinancial markets, financial inclusion contributes to theeffectiveness of monetary policy transmission.According to Subbarao (2009), financial inclusion is anecessary condition for a sustainable and equitablegrowth. He argued that very few economies transit froman agrarian system to a post-industrial modern societywithout a broad-based financial inclusion strategy. Henoted that past experience has shown that economicopportunity is strongly entwined with access to financial

Mbutor and Ubaservices and that such access is especially influential onthe poor as it enables them grow savings, make investments and benefit from credit. He added that financialinclusion will make it possible for governments to makepayment such as social security transfers, CreditGuarantee Funds, subsidies and wages directly to thebank accounts of beneficiaries through electronic transferchannels. This will minimize transaction costs, pilferagesand leakages.He concluded that financial inclusion provides anavenue for bringing the savings of the poor into theformal financial intermediation system and channel sameto investment, adding that the large number of low costdeposits will offer banks an opportunity to reduce theirdependence on bulk deposits and help them manageboth liquidity risks and asset-liability imbalances moreefficiently.Sarma and Pais (2010) asserted that financial inclusionas a process ensures ease of access, availability andusage of the formal financial system to all the segmentsof an economy. They further stated that among thequalities of an inclusive financial system is that it enablesthe efficient allocation of productive resources and in theprocess reduce the cost of capital. They added that apartfrom significantly improving the daily management offinances, an inclusive financial system also helps inreducing the prevalence of informal financial institutionsthat are in most cases exploitative. They concluded thatan all-inclusive financial system enhances efficiency andwelfare by providing avenues for secure and safefinancial practices.In June 2011, the Financial Action Task Force (FATF),the international standard-setting body for Anti-MoneyLaundering and Combating Financing of Terrorism(AML/CFT) reiterated the need for a broad-basedfinancial inclusion when it noted that financial exclusion isa risk to financial integrity. The motivation for theirsupport was based on the premise that extending formalfinancial services to all the segments of the society willimprove law enforcement by ensuring that moretransactions are subject to AML/CFT controls andmonitoring. This approach makes the duo of financialinclusion and financial integrity complementary policyobjectives. In 2012, this support received a boost whenthe FATF adopted new, revised strategies that wereexpanded to cover tax crimes (De koker and Jentzsch,2012).From the forgoing arguments, there is a consensusamong available literatures that the expansion of formalfinancial services to all the segments of the economytranslates into a reduction of informal financial services, aprocess which increases the reach and effectiveness ofmonetary policy transmission mechanisms, while ensuring financial transparency and stability. Therefore, itcan be concluded that if financial inclusion leads to ahealthier household and small business sector, it couldalso contribute to enhanced macroeconomic (and321financial system) stability.METHODOLOGICAL ISSUESChoice of variablesIn the course of literature survey we did not find any study that hasempirically investigated the impact of financial inclusion onmonetary policy. So there are several initial challenges that need tobe overcome to set the stage for the analysis. The first of thesechallenges relates to the choice of financial inclusion indicators tobe used in the model. The IMF Financial Access Survey started in2004 adopts the following indicators of financial access and usage:Access Indicators1. Number of commercial bank branches per 1000 km22. Number of commercial bank branches per 100, 000 adults3. Number of ATMs per 1,000 km24. Number of ATMs per 100,000 adultsUsage Indicators1. Number of borrowers from commercial banks per 1000 adults2. Outstanding loans from commercial banks (% of GDP)3. Number of depositors with commercial banks per 1000 adults4. Outstanding deposits with commercial banks (% of GDP)There are other indicators used by other organizations interested infinancial inclusion. The AFI Core Set of Financial InclusionIndicators measures access with indicators like1. Number of access points per 10,000 adults at a national leveland segmented by type and by relevant administrative units2. Percentage of administrative units with at least one access point3. Percentage of total population living in administrative units with atleast one access point.It measures usage with indicators like4. Percentage of adults with at least one type of regulated depositaccount (in countries where these data are not available, use asproxy the number of deposit accounts per 10,000 adults)5. Percentage of adults with at least one type of regulated creditaccounts (in countries where this data is not available, use as proxythe number of loan accounts per 10,000 adultsThe Global Findex Core Indicators and FinScope Indicators adoptother variants of measures to indicate extent of financial inclusion.However, the definition of financial inclusion is the same for allstake holders so that the different indicators by differentstakeholders essentially point to achieving the same objective, theextent to which financial services reach the populace at affordablecosts. In fact, the major issue about the various compilations ofindicators is to enable cross country comparisons. Therefore, sincethe aim of this paper is not to compare financial inclusion acrosscountries, emphasis should be concentrated on the local measuresthat indicate growing or waning extent of financial inclusion inNigeria. To arrive at these, country specific information and dataconstraints are taken into account.The variables that we consider include outstanding loans ofcommercial banks as a percentage of the GDP. The number ofbank branches in Nigeria, deposits and loans of rural bankbranches in Nigeria. The aggregate size of deposits and loans ofrural branches should be indicative of the extent of openness of therural populace to the activities of the deposit money banks. It wouldhave been a richer analysis to factor loans and deposits of ruralmicrofinance banks but data on this are not sufficient for the timeseries being evaluated (Figures 1-5).The second challenge concerns determining the channelsthrough which financial inclusion affects monetary policy. Again,

322J. Econ. Int. FinanceFig 1: DMB loans 95199319911989198719851983198120.0010.000.00Figure 1. DMB loans (GDP%).Fig 3: Rural branch deposits and Loans120000100000800006000040000200000Figure 2. Average lending rate.Fig 3: Rural branch deposits and Loans120000100000800006000040000200000Figure 3. Rural branch deposits and loansbecause it is a pioneer effort, we use oral tradition to explore thepossible channels. One argument that is catholic is that withgrowing financial inclusion, the sheer higher number of people whoare brought under the formal umbrella will make aggregate demandand investment more sensitive to the monetary policy rate throughthe increased elasticity due to the lending rate. The argument canalso be made that increased financial inclusion will provide acheaper and stable pool of deposits, especially, savings which notonly will ensure greater resilience of banks with respect to financialshocks but also reduce dependence on foreign lines of credit formaking loans and other investments. This should have the effect ofcontributing to reducing pressure on the foreign exchange marketand thereby stabilizing the naira. Thus, it should be expected thatfinancial inclusion should work through the deposit money banks‟lending rates and the exchange rate of the naira to affect theachievement of the ultimate objective of monetary policy. Thelending rate enters the model as the average of maximum andprime lending rates.The third challenge is to determine what target of monetary policythat financial inclusion should impact. This is the easiest challengeas the 2007 CBN Act explicitly desires to ensure monetary andprice stability. As monetary stability relates to ensuring the growth in

Mbutor and Uba323Figure 4. Number of commercial bank branches.Fig 5: Average Exchange Rate (N/ 991997199519931991198919871985198319810.00Figure 5. Average exchange rate (N/ ). money supply remains within a programme path through periodic(now daily) open market operations, and this is more of an internalgoal for the bank, ensuring price stability stands out as overridingobjective of monetary policy. So, inflation is chosen as the measureof monetary policy success. The percentage change in the headlineConsumer Price Index (CPI) is used to represent the inflation rate.Thus, the operating model is, (1)Dlog(r) is the inflation rate. Y is a vector of financial inclusionindicators including number of bank branches (nbr), total number ofloans and advances of commercial banks as a percentage of GDP(lac), and aggregate of rural bank branches of deposits and loans(rdl). X is the vector of control variables including commercialbanks‟ average lending rate (calr) and the foreign exchange rate ofthe naira (xr). The study covers between 1980 and 2012. Theoperational model is thus (2)Data propertiesWe perform unit root tests, using the Augmented Dickey-Fullerapproach to ascertain presence of random walk. The Johansen-Juselius test for co-integration confirms co-integration among thevariables. The unit root test shows that at levels, calr, lac, nbr, xrand rdl are all i(0) but cpi is i(1). So to bring all variables to thesame level they enter the model at first difference. The test for cointegration test is in Tables 3 and 4.ESTIMATION RESULTS AND INTERPRETATION OFFINDINGSBefore the presentation of the detailed result, weforeshadow the main finding of the study by stating thatfinancial inclusion is a veritable strategy for improving theeffectiveness of monetary policy in Nigeria. From theTable 5 all included measures of financial inclusion except the number of commercial bank branches have theexpected sign. Specifically, a 1% increase in the ratio oftotal loans and advances by the commercial banks willreduce inflation by 0.01%. This result should be expectedespecially, if the new loans and advances are put topurposes of investment.Analyzing the actual data of loans and advances bycommercial banks to the different sectors of the economyit can be seen that the share of retail loans to individualsas a ratio of the total number of loans is infinitesimal,

324J. Econ. Int. FinanceTable 3. Unrestricted cointegration Rank Test (Trace).HypothesizedNo. of CE(s)None *At most 1 *At most 2At most 3At most 4At most 5Eigen valueTrace statistic0.05 critical 8414660.00000.00460.06680.32670.55160.7387Trace test indicates 2 cointegrating eqn(s) at the 0.05 level; * denotes rejection of the hypothesis at the0.05 level; **MacKinnon-Haug-Michelis (1999) p-values.Table 4. Unrestricted Cointegration Rank Test (Maximum Eigenvalue),HypothesizedNo. of CE(s)None *At most 1 *At most 2At most 3At most 4At most 5Eigen valueMax-eigen statistic0.05 critical 8414660.00000.03910.10400.34220.47580.7387The Trace and maximum Eigenvalue criteria both show long term relationship among thevariables with 2 cointegrating equations. Max-eigenvalue test indicates 2 cointegrating eqn(s) atthe 0.05 level. * denotes rejection of the hypothesis at the 0.05 level. **MacKinnon-Haug-Michelis(1999) p-values.Table 5. Estimation results.VariableComm. Banks Average lending rateLoans and advances of Comm. Banksrural branch deposits & loansExchange RateNumber of bank branchesCR-squaredAdjusted R-squaredDurbin-Watson 253380.9788210.9744091.545846whereas those of the productive sectors are large. Thecumulative share of the agriculture, manufacturing,mining and quarrying, and telecommunications in totalcommercial banks credit is 52.93% and bearing in mindthat those sectors are four out of fourteen sectors. Thecoefficient of total loans and advances as a ratio of theGDP is statistically significant at 99% confidence level.The coefficient of the aggregate of deposits and loansby rural commercial bank branches indicates that an increase in exposure to commercial banking activities inthe rural area will also cause inflation to decline. How-Std. 000.8147ever, the size of the coefficient is insignificant. This is notentirely surprising because comparing the size andvolume of transactions in the rural areas with those of thetotal geography of the country will reveal a ratio of nearlyno effect. For instance in 2011, the ratio of rural exposureto commercial banks to total exposure (please note thatexposure is used in the broader sense of aggregatingdeposits and loans) was negligible. However, thenegative sign of the coefficient of rural branch loans andadvances indicates that further increases in exposure tocommercial banks in the rural areas will be good omen

Mbutor and idual9800Actual0204081012FittedFigure 6. Coefficient of exchange rate.for monetary policy in Nigeria going forward.The number of bank branches as a measure of financialinclusion indicates that the higher the number of bankbranches the more inflation increases. However, the sizeof increase in inflation is almost unnoticeable. But the factremains that the positive relations might be pointing tothe fact that the absolute number of branches does notnecessarily imply increasing financial inclusion. Of courseit is common place to find many commercial bank branches in hardly 1 kilometer apart serving a very fewnumber of people. From the financial inclusion strategydocument of Nigeria, there is evidence that the country islagging behind peers in terms of the number of customers served per branch.The control variables, commercial banks‟ averagelending rate and exchange rate have the right signs. Thecoefficient for interest rate shows that an increase of 1%in the interest rate causes inflation to decline by 0.02%.This is in line with classical arguments that an increase ininterest rate will increase the cost of money and therebyexert a downward pull on investment and the GDP. It willalso reduce aggregate demand from the consumptionangle. The coefficient of the exchange is clearly telling ofthe nature of the Nigerian economy. Being import based,the positive coefficient of the exchange rate, implyingdepreciation of the naira tends to increase the rate ofinflation. From the result, a depreciation of 1% willincrease inflation by 0.003%. The coefficient of exchangerate is strongly statistically significant (Figure 6).ConclusionThe paper aimed to ascertain whether deepening financial inclusion can play a role in monetary policyimplementation in Nigeria. The study evaluated severalmeasures of financial inclusion and computed the effectssome select few would have on the ultimate objective ofmonetary policy. The findings are instructive. As ageneral note, financial inclusion is a veritable strategy forimproving the effectiveness of monetary policy.Specifically, there is a strong but inverse relationshipbetween the rate of inflation and the size of commercialbanks‟ loans and advances as a ratio of the GDP. Thisindicates that the sheer making credit available in thesystem would boost investment and dampen inflation.The aggregate exposure to rural branches by customersalso holds a good promise for monetary policy as itscoefficient also is negatively related to inflation. Thenumber of bank branches as a measure of financialinclusion did not come out with the right sign. This ishowever read to be symptomatic of unnecessary clusterof branches in particular locations where they serve veryfew customers.We say the final words with the recommendation thatthe CBN should increase its vigour for pursuing financialinclusion as it not only helps with economic growth asespoused in literature, but also effectuates monetarypolicy in Nigeria.REFRENCESAshraf N, Karlan D, Yin W (2006). Tying Odysseus to the mast:evidence from a commitment savings product in the Philippines. Q. J.Econ. 121:635-672.CGAP (2012). Financial Inclusion and Stability: What Does ResearchShow? Retrieved from ch-ShowMay-2012.pdf.Central Bank of Nigeria (CBN) Annual Report (2012).De Koker L, Jentzsch N (2012). The 2012 revised FATFRecommendations: Assessing and mitigating mobile money integrityrisks within the new framework. Washington J. Law, Technol. JLTAno3complete.pdf?sequence 8De Koker L, Jentzsch N (2013). Financial Inclusion and FinancialIntegrity: Aligned Incentives? World Dev. 44:267-280.Demirgüç-Kunt A, Thorsten B, Patrick H (2008). Finance for All?

326J. Econ. Int. FinancePolicies and Pitfalls in Expanding Access. Washington, DC: WorldBank.Hannig A, Jansen S

The impact of financial inclusion on monetary policy in Nigeria Mbutor O. Mbutor* and Ibrahim A. Uba Research Department, Central Bank of Nigeria, Nigeria. Accepted 14 October, 2013 Financial inclusion is currently hot topic in policy spheres because of its potency in encouraging economic growth.