Access to Finance and Economic Growth in Egypt: A Study Led By SAHAR NASR docx

Access to Finance
and Economic Growth
in Egypt
Access to Finance and Economic Growth in Egypt
Middle East and North African Region
A Study Led By SAHAR NASR
A Study Led By S AH AR NA SR
T
his publication provides a comprehensive and informative analysis of a key policy issue facing Egypt
and other developing countries-how to enhance appropriate access to finance in support of sustained
high economic growth and improved income distribution. The detailed and elegant evaluations of the
key segments of the financial sector are supplemented by a holistic discussion that draws out the main
interactions, including the linkages to institutional reforms. The timely publication will be interest to a
large number of policy makers, academics, development practitioners and financial market participants.”
Dr. Mohamed A. El-Erian, President and CEO of the Harvard Management Company, member of
the faculty of the Harvard Business School, and Deputy Treasurer of Harvard University
B
roadening the reach of the financial sector is the key to invigorating both economy and society. If
more small businesses can get access to the credit and other financial services they need to turn
initiative into employment and profitability, and if low income households can gain the economic security
offered by an account at an intermediary, economic growth and social welfare will both be enhanced.
This report takes a close look at the Egyptian financial system to see how outreach and access can be
improved. It is firmly based on recently collected statistics and it provides a comprehensive analysis with
recommendations. Recent government initiatives have already begun to transform the Egyptian financial
system. Access to Finance and Growth in Egypt points the way to future success in lifting the system to
the next level.”
Dr. Patrick Honohan, Senior Advisor, World Bank; and Professor of International Financial
Economics and Development, Trinity College Dublin
F
inancial exclusion is likely to act as a “brake” on development as it retards economic growth and
increases poverty and inequality. However, the access dimension of financial development has

often been overlooked, mostly because of serious data gaps on who has access to which financial services.
Hence, empirical evidence that links broader access to financial services to outcomes has been very
limited, providing at best tentative guidance for public policy initiatives in this area. However, without
inclusive financial systems, poor individuals and small enterprises need to rely on their personal wealth
or internal resources to invest in their education, become entrepreneurs or take advantage of promising
growth opportunities. Financial market imperfections—such s information and transactions costs—are
likely to be especially binding on the talented poor and the micro and small enterprises, who lack
collateral and credit histories.”
Asli Demirguc-Kunt, Senior Research Manager, Finance and Private Sector Development,
Development Research Group (DECRG), World Bank
F
or Egypt, access to finance can radically transform peoples’ lives, promote entrepreneurship,
help bridge the urban-rural income divide, alleviate poverty and improve individuals’ lifetime
economic and social prospects by integrating them into the market economy. In short, improved access
to finance can be an engine of growth and structural transformation, if supported by other policies that
reduce barriers to competition, lower the cost of doing business and create incentives for moving out of
the ‘informal sector’. For Egypt, where fewer than seven percent of households have a bank account,
investments and policies that create and improve access to finance and its infrastructure, can break
down economic and social barriers to economic growth and development. This well-researched report is
an excellent guide and provides a practical tool-kit for economic and financial policy makers, banks and
financial institutions seeking to improve Egypt’s financial infrastructure and access to finance.”
Dr. Nasser Saidi, Chief Economist
Dubai International Financial Centre (DIFC)
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Introduction i
Access to Finance

and Economic Growth
in Egypt
Access to Finance and Economic Growth in Egyptii
Introduction iii
Access to Finance
and Economic Growth
in Egypt
Middle East and North African Region
A Study Led By SAHAR NASR
Access to Finance and Economic Growth in Egyptiv
Introduction v
Abbreviations and Acronyms viii
Foreword ix
Preface xi
Acknowledgments xiii
Executive Summary xvii
I. Introduction 1
II. Sources for Financial Services: The Banking Sector 23
A. Access to Bank Financial Services 23
B. Factors behind Weaknesses in Supply of Banking Services 28
C. Access to Microfinancial Services 45
III. Sources for Financial Services: Non-bank Financial Services 55
A. Capital Markets 55
B. Insurance and Contractual Savings 61
C. Mortgage Finance 68
D. Financial Leasing 73
E. Factoring 76
IV. Institutional Environment 81
A. Legal Framework 81
B. Information Infrastructure–Credit Registry, Credit Bureau and Other Sources 86

C. Financial Reporting Environment 89
D. Financial Infrastructure 91
V.Expanding Access to Finance 95
A. Enhancing the Role of the Banking Sector in Financial Intermediation 95
B. Expanding the Postal System and Microfinance Institutions 101
C. Promoting Capital Markets in the Access Agenda 105
D. Contractual Savings Industry Potentials for Growth 107
E. Developing the Mortgage Finance Market 113
F. Increasing the Financial Leasing Industry’s Contributions to Access 115
G. Developing the Factoring Industry 116
H. Improving the Institutional Environment 117
Annexes 130
Annex 1: Indicators For Assessing The Soundness And Performance 130
Of The Banking System
Annex 2: Indicators For Assessing The Capital Market 135
Annex 3:
Indicators For Assessing The Insurance And Contractual Savings Sector
136
Bibliography 137
Contents
Access to Finance and Economic Growth in Egyptvi
Tables
Table 1.1: Main Macroeconomic Indicators in Egypt (2001-2006) 7
Table 1.2: Business Environment in Egypt 9
Table 1.3: Various Sources of Finance in Egypt, MENA, and the World 15
Table 1.4: Household Use of Financial Services by Education Level in Egypt 17
Table 1.5: Use of Finance by Employment Status of Head of Household in Egypt 18
Table 2.1: Frequency Distribution of Private Sector Credit in Egypt 25
Table 2.2: Share of Savings Accounts by Size of Deposits in Banks in Egypt 27
Table 2.3: Local Currency Deposit Interest Rates in Egypt 27

Table 2.4: Number of Credit and Debit Cards Issued in Egypt during 2005 28
Table 2.5: Branching and ATM Presence, Cross-Country Comparisons 30
Table 2.6: Earnings per Employee of Banks in Egypt 37
Table 2.7: Expense Ratio of Banks in Egypt 37
Table 2.8: Main Reasons for not Lending to SMEs in Egypt 40
Table 2.9: Lending Rates for Local Currency of Banks Operating in Egypt 41
Table 3.1: Compound Annual Growth Rate by Sub-Sector in Egypt 62
Table 3.2: Statutory Investment Limits—Life Insurers in Egypt 63
Table 3.3: Assets and Investments in Egypt 63
Table 3.4: Insurance Investment Allocation in Egypt 65
Table 3.5: Private Pension Investment Allocation in Egypt 66
Table 3.6: Investment Approach of the Contractual Savings Industry 66
Table 4.1: History of Public Credit Registry Database in Egypt 86
Table 4.2: Negative Databases of CBE Credit Registry 87
Figures
Figure 1.1: Current versus Desirable Situation of Financial System 2
Figure 1.2: M2-to-GDP in Selected Countries across the World 8
Figure 1.3: Private Sector Credit-to-GDP in Selected Emerging Economies 9
Figure 1.4: Investment Climate Constraints in Egypt as Perceived by Businesses 15
Figure 1.5: Percentage of Firms Currently with a Loan from
a Financial Institution in Egypt 16
Figure 1.6: Enterprises’ Access to Finance in Egypt and Selected MENA Countries 16
Figure 1.7: Households’ Share in Access to Financial Services by
Educational Attainment in Egypt 18
Figure 2.1: Loans-to-Deposits Ratio in Egypt 24
Figure 2.2: Loan-to-Deposit Ratio in Egypt 24
Figure 2.3: Treasury Bills-to-Total Assets in Egypt 24
Figure 2.4: Government Sector Loans-to-Total Loans in Egypt 25
Figure 2.5: State-Owned Enterprises Loans-to-Total Loans in Egypt 25
Figure 2.6: Credit Extended to Private Sector in Egypt 26

Figure 2.7: State-Owned Banks’ Share of the Banking System Total Assets in Egypt 29
Figure 2.8: Urban and Rural Branch Density by Bank Type in Egypt 31
Figure 2.9: Equity-to-Assets Ratio of Banks in Egypt 33
Figure 2.10: Distribution of Staff in the Egyptian Banking System 38
Figure 2.11: Return on Assets of Egyptian Banks 39
Figure 2.12: Return on Equity of Egyptian Banks 39
Figure 2.13: Collateral Requirements as a Percent of Loan Values 41
Figure 2.14: Marginal Effects of Branching and Education
on Access to Financial Services in Egypt 45
Contents
Introduction vii
Figure 3.1: Equity Finance and Corporate Bonds as Sources of
Investment Funding in Selected Emerging Economies 56
Figure 3.2: Assessment of Enforcement in Egypt’s Capital Markets 60
Figure 3.3: State-Owned Insurers’ Share of Insurance Assets in Egypt 63
Figure 3.4: Funds under Management: Egypt and OECD 65
Figure 3.5: Developments in Mortgage Loans in Egypt 71
Figure 3.6: Volume and Number of Leasing Contracts in Egypt 74
Figure 4.1: Legal Rights of Creditors in Egypt and Other Countries 82
Figure 4.2: Cost to Create Collateral in Egypt and Other Countries 83
Figure 4.3: Bankruptcy Costs and Time in Egypt, MENA Region and OECD 84
Figure 4.4: Dominance of Collateral-Based Lending in Egypt 85
Figure 5.1: Funds Build Up Under Five Percent Mandatory Pillar Option 111
Boxes
Box 1.1: Access to Finance as an Obstacle to Growth 5
Box 1.2: Rationales for the Privatization of Banks 12
Box 1.3: Egyptian Women’s Access to Finance 19
Box 2.1: Egypt Post Offices 32
Box 2.2: Status of Islamic Finance in Egypt 34
Box 2.3: Bank Performance Analysis by Size and Ownership 35

Box 2.4: Weaknesses in Corporate Governance in Egyptian State-Owned Banks 42
Box 2.5:
The Relative Importance of Demand and Supply Factors in Explaining Access
43
Box 2.6: State-Owned Banks Actively Involved in Microfinance in Egypt 46
Box 2.7: NGOs are Key Players in Microfinance in Egypt 47
Box 3.1: Major Insurance and Pensions Investors in Egypt 67
Box 3.2: The Government of Egypt’s Housing Finance Program for the Poor 69
Box 3.3: The Egyptian Mortgage Refinance Company 70
Box 4.1: Current Status of the Private Credit Bureau in Egypt 88
Box 4.2: The Importance of Good Financial Reporting for Firm Financing 89
Box 5.1: Lessons on Bank Restructuring from Other Countries 96
Box 5.2: Subsidized Lending Schemes in Egypt 100
Box 5.3: Lessons from Successful Postal Financial Systems:
Case Studies from Brazil and China 102
Box 5.4: International Evidence on Institutional Policies to Enhance Access 104
Contents
Access to Finance and Economic Growth in Egyptviii
ABBREVIATIONS AND ACRONYMS
ABS Asset-Backed Securities
AIM Alternative Investment Market
ALM Asset and Liability Management
AML/CTF Anti Money Laundering
and Combating Terrorism Financing
ATM Automatic Teller Machines
AUM Assets Under Management
BRU Bank Restructuring Unit
CAGR Compound Annual Growth Rate
CAPMAS Central Agency for Public Mobilization
and Statistics

CASE Cairo and Alexandria Stock Exchanges
CBE Central Bank of Egypt
CCMAU Crown Company Monitoring Advisory Unit
CFD Corporate Finance Division
CGAP Consultative Group to Assist the Poorest
CGC Credit Guarantee Company
CIB Commercial International Bank
CIBOR Cairo Interbank Offer Rate
CIS Cooperative Insurance Society for
Small Enterprises
CMA Capital Market Authority
DB Defined Benefits
DC Defined Contribution
EAB Egyptian American Bank
EAS Egyptian Accounting Standards
EEGC Egyptian Export Guarantee Company
EFG Egyptian Financial Group
EISA Egyptian Insurance Supervisory Authority
EMRC Egyptian Mortgage Refinance Company
ESDF Egyptian Swiss Development Fund
FCI Factors Chain International
FIRST Financial Sector Strengthening Initiative
FSAP Financial Sector Assessment Program
FSS Financial Self-Sufficiency
GAFI General Authority for Free Zones and
Investment
GATS General Agreement on Trade in Services
GCC Gulf Cooperation Council
GDP Gross Domestic Product
GDR Global Depository Receipt

GEM Gender Entrepreneurship Markets
GSF Guarantee and Subsidy Fund
HH Household
IAS International Accounting Standards
ICA Investment Climate Assessment
ICS Investment Climate Survey
ICT Information and Communications
Technologies
IFG International Factoring Group
IFRS International Financial Reporting Standards
IFI Islamic Financial Institutions
IFS Islamic Financial Services
IIC Islamic Investment Companies
IPOs Initial Public Offerings
KOSDAQ Korea Securities Dealers Automated
Quotation
LE Egyptian Pound
M2 Broad Money
MCSD Misr Clearing, Settlement and Central
Depository Company
MENA Middle East and North Africa
MFA Mortgage Finance Authority
MFIs Microfinance Institutions
MIB Misr International Bank
MIX Microfinance Information Exchange
MTPL Mandatory Insurance
NBFI Non-bank Financial institutions
NBD National Bank for Development
NBE National Bank of Egypt
NGO Non-governmental organization

NIB National Investment Bank
NPL Non-performing loans
NPS National Payments System
NSGB National Societe Generale Bank
OECD Organization for Economic Co-operation
and Development
OTC Over the counter
PBDAC Principal Bank for Development and
Agricultural Credit
PML Primary mortgage lending
PSB Postal Savings Bureau
R&D Research and development
RELC (Non-bank) real estate lending companies
Repo Repurchase operations
ROA Return on assets
ROE Return on equity
ROSC-AA Report on Observance of Standards and
Codes Accounting and Auditing
RTGS Real-time gross settlement
SEDO Small Enterprise Development Organization
SFD Social Fund for Development
SIF Social Insurance Fund
SME Small and Medium Enterprise
SOE State-Owned Enterprises
SRC Social Research Center
SRO Self-regulatory organization
TSX Toronto Stock Exchange
US$ U.S. Dollars
WBES World Business Environment Survey
WFE World Federation of Exchanges

Introduction ixContents
This report was initiated at the request of the Egyptian Government
to get a better understanding of why, as found by the Investment
Climate Assessment, only 17.4 percent of Egyptian firms operate in
the formal credit market. The report draws on surveys of firms, banks
and households to determine why so few firms—and households—use
formal financial markets for their investment and saving needs, and
why banks and other financial institutions are reluctant to extend
credit, even in conditions of high liquidity.
The key findings are that: (i) significant public ownership of real
and financial assets in Egypt has discouraged competition and the
development of deep and well-regulated financial systems, including
non-bank sources of financial services; (ii) a large fiscal deficit has
encouraged financial institutions, particularly publicly owned ones,
to invest predominantly in risk and tax free government securities;
banks, and publicly owned ones in particular, have little incentive
to lend to other than state-owned enterprises and large private
firms; and (iii) smaller private and foreign banks are more active in
expanding access to financial services by households and small and
medium enterprises (SMEs) due to their capacity to better assess risk
and capture opportunities.
Improving access to financial services will require continuing the
shift in the role of the government in the sector—away from asset
ownership and towards creating an enabling environment for private
(including foreign) financial service providers to innovate in providing
services to firms and households. Here, as the report indicates,
the government has a critical role to play in ensuring a stable
macroeconomic environment, lower deficit and public borrowing, good
supervisory oversight, and adequate institutional infrastructure. A
number of the issues raised in this report are already being addressed

by the government under the financial sector reform program initiated
in November 2004.
The objective of this report is help the government with the design
of the second generation of financial reforms aimed at increasing the
role of the private sector in financial services provision, particularly
to SMEs and households, while strengthening risk management in
financial institutions.
Foreword
Michael U. Klein
Vice President and Chief
Economist
Financial & Private Sector
Development
International Finance
Corporation
The World Bank Group
Zoubida Allaoua
Sector Manager
Finance and Private Sector
Development
Social and Economic
Development Group
Middle East and North Africa
Region
The World Bank
Emmanuel Mbi
Director
Egypt, Yemen and Djibouti
Country Department
The World Bank

Access to Finance and Economic Growth in Egyptx
Introduction xi
In September 2004, the Financial Sector Reform Program was launched
and endorsed by the Government of Egypt at the highest political level. The
five pillars of the program are reforming the banking sector, restructuring
the insurance sector, deepening the capital markets, developing a well-
functioning mortgage market, and activating other non-bank financial
institutions and services. The program aims at improving the soundness
of the financial sector and promoting an enabling environment for an
efficient, competitive and agile financial system that serves Egypt’s
development and growth objectives.
The Egyptian government and the Central Bank of Egypt have been
keen on the effective implementation of this program, and significant
progress has already been made. Important achievements include, the turn
around of the structure of the banking sector and the foreign exchange
market as well as establishing a credible monetary policy framework,
in addition to consolidating the banking sector, divestiture of the state-
owned banks’ shares in the joint-venture banks, privatizing one of the
four largest public banks, pursuing the restructuring of the remaining
public financial intermediaries and building the supervisory capacity of
the Central Bank.
Meanwhile, major reforms aiming at improving the regulatory framework
and enhancing the soundness and effectiveness in financial intermediation
of non-bank financial services, have been undertaken. These reforms have
contributed to the deepening of the capital market and enhancing its efficiency
and liquidity, restructuring and liberalizing the insurance sector, developing
the mortgage market, and reviving the role of other non-bank financial
services and instruments, including leasing, factoring and securitization. This
comprehensive reform program has been underpinned by capacity building of
the supervisory authorities of all non-bank financial institutions

.
The progress and pace of the Egyptian Financial Sector Reform Program
have been commended at home and abroad. However, we are aware that
we still have some way to go to fully reform the sector and address its main
challenges; one of which is ensuring better access to financial services which
is imperative to economic growth and development. Improving access to
finance allows businesses, especially small and medium enterprises, to
capitalize on their growth potential, operate on a larger scale and turn
initiatives and ideas into employment opportunities. Moreover better
and wider access to financial services by households at all income levels
positively impacts their economic and social welfare
The Government of Egypt will continue to foster efforts on facilitating
access to finance inEgypt.Wehope thatthefindingsand recommendations of
this report would assist in the ongoing endeavors to meet this challenge.
Preface
Mahmoud Mohieldin
Minister of Investment
Ministry of Investment
Egypt
Farouk El Okda
Governor
Central Bank of Egypt
Egypt
Access to Finance and Economic Growth in Egyptxii
Introduction xiii
The Access to Finance and Growth in Egypt is a joint product of the
Government of Egypt and the World Bank. The study was initiated by
the Minister of Investment, H.E. Dr. Mahmoud Mohieldin, as a follow
up to the Investment Climate Assessment, which had identified access
to finance as a main constraint to private-sector development; and H.E.

Dr. Farouk El-Okda, Governor of the Central Bank of Egypt (CBE).
This study was carried out under the joint leadership of Emmanuel
Mbi, Country Director, and Zoubida Allaoua, Sector Manager in the
Middle East and North Africa Region (MENA) of the World Bank.
The study was led by Sahar Nasr, Senior Financial Economist in
MENA, based on input from Stijn Claessens, Senior Adviser; Rodney
Lester, Program Director, Financial Markets for Social Safety Net;
David Scott, Adviser; Loïc Chiquier, Head, Housing Finance Practice;
JaeHoon Yoo, Senior Securities Market Specialist; Robert J. Cull,
Senior Economist; Luc Laeven, Senior Financial Economist from
the Finance and Private Sector Development Vice Presidency; and
Mohamed Yehia Abd El Karim, Financial Management Specialist; as
well as Heba El Laithy, Senior Consultant; Bahaa Ali Eldin, Senior
Legal Consultant; and Esen Ulgenerek, Consultant.
This access to finance study is based on the findings of five main
surveys: the Investment Climate Survey (ICS) of 1,052 enterprises
from the manufacturing sector that was carried out between
October 7 and December 10, 2004 using the World Bank standard
methodology; the ICS recall questionnaire of 300 enterprises that was
carried out in June 2005; the individual banks survey undertaken
between February and March 2006, supported by CBE, based on the
core questionnaire provided by Asli Demirguc-Kunt, Senior Research
Manager at the World Bank, to which 35 out of 45 banks operating
in Egypt responded; the insurance survey, carried out under the
leadership of the Ministry of Investment in March 2006 and to
which 20 out of 21 insurance companies responded; and the National
Household and Income Survey for the fiscal year 2005, which covered
48,000 households in 1,500 communities. The first three surveys were
carried out by the Social Research Center (SRC) of the American
University in Cairo, under the leadership of Dr. Hoda Rashad, and

Acknowledgments
Access to Finance and Economic Growth in Egyptxiv
coordinated by Dr. Ramadan Hamed; the fifth was undertaken by
the Central Agency for Public Mobilization and Statistics (CAPMAS)
under the Ministry of State for Economic Development.
The development of the report entailed discussions with key
policy makers and government counterparts, including, Tarek
Amer, Deputy Governor; Tarek Kandil, Sub-Governor; Lobna Hilal,
Assistant Sub-Governor; Mona Bassiouni, Assistant Sub-Governor;
and Gamal Nigm, Assistant Sub-Governor. Valuable comments were
received from Maged Shawki, Chairman of Cairo and Alexandria
Stock Exchange (CASE); Hany Sarie El Din, Chairman of Capital
Market Authority (CMA); Mahmoud Abdullah, Chairman of Egyptian
Insurance Holding Company; Osama Saleh, Chairman of Mortgage
Finance Authority (MFA); Ashraf El Kadi, Deputy Chairman of
MFA; and Ziad Bahaa El Din, Chairman of General Authority for
Investment and Free Zones (GAFI); as well as Abdel Hamid Ibrahim,
Senior Advisor; Mona Zobaa, Advisor; and Ahmed Rostom, Economist
in the Ministry of Investment.
Strong support was provided all along for the missions and
various consultations during the preparation of this work. The team
would like to thank in particular the Ministry of State for Economic
Development; Ministry of Finance; Ministry of Foreign Trade and
Industry; Social Fund for Development (SFD); Economic Research
Forum (ERF); EFG Hermes; Syndicate of Commerce; Federation of
Egyptian Industries; Egyptian Center for Economic Studies (ECES);
Egyptian Businessmen Association; Institute of Banking and Finance;
Misr Clearing, Settlement and Depository Company (MCSD);
Egyptian Postal Authority; and Egyptian Society of Accountants
and Auditors. Feedback was also provided by the private-sector

community in a roundtable organized by the American Chamber
of Commerce in Egypt coordinated by Hisham Fahmy, Executive
Director. Partners who are actively involved in the financial sector
in Egypt, including USAID, European Commission (EU), and United
Nations Development Program (UNDP), have made significant
contribution to this study.
Thoughtful comments from several World Bank colleagues and
external reviewers are reflected in this study. The study benefited
immensely from intensive reviews by Patrick Honohan, Senior Adviser;
in addition to external reviewers Mohamed El Erian, President and
CEO of Harvard Management Company; and Nasser Saidi, Director
of Hawkamah Institute for Corporate Governance. Comments and
contributions from several World Bank colleagues on an earlier draft
have also been provided by Noritaka Akamatsu, Roberto Rocha and
Ahmed Galal. The study also benefited from comments received from
Gaiv Tata, S. Ramachandran, and Omer Karasapan. Valuable support
was received from Marilou Jane D. Uy. World Bank, International
Finance Corporation (IFC) and FIRST Initiative staff contributed to
this study, including notably Bikki Randhawa; Carmen Niethammer;
Isabella Segni; Jim Aziz, Jose Antonio Garcia Luna; Massimo
Acknowledgments
Introduction xv
Cirasino; Murat Sultanov; Peer Stein; Peter Sheerin; Robert Keppler;
and Thomas Jacobs. Laila Abdel Kader provided extensive support
with document preparation. Amira Fouad Zaky, Steve W. Wan Yan
Lun, and Sydnella E. Kpundeh provided invaluable logistical support
throughout the process. Editorial support was provided by Laura
Goodin and print production including book design was undertaken
by Magdy Nassif.
Early versions of this study have been presented and discussed at

seminars and workshops in Cairo and Washington in which different
stakeholders participated, including bank and non-bank financial
institutions, private sector, civil society, donor agencies, academia,
government officials, and the supervisory and regulatory bodies.
Valuable comments received from these participants are reflected in
this final version. We would like to take this opportunity to thank all
the people in government, financial, donor, and academic communities
who have provided their time, thoughts, and contributions to the
team and to the study.
Acknowledgments
Access to Finance and Economic Growth in Egyptxvi
Introduction xvii
Access to finance is important for growth and economic development.
Having an efficient financial system that can deliver essential services
can make a huge contribution to a country’s economic development.
Greater financial development increases growth, reduces economic
volatility, creates job opportunities and improves income distribution,
as has been established by a large empirical literature. A well-
functioning financial market plays a critical role in channeling funds
to their most productive uses, and allocates risks to those who can
best bear them.
Getting the financial systems of developing countries to function
more effectively in providing the full range of financial services is
a task that will be well rewarded with economic growth. Where
macroeconomic environment is sound, the efficient and prudent
allocations of resources by the financial system makes it crucial for
increasing productivity, boosting economic development, enhancing
equality of opportunity, and reducing poverty. Empirical evidence
has shown that the financial systems in advanced economies
have contributed in an important way to the prosperity of those

economies.
A well developed financial market comprise spectrum of well-
functioning banks, and non-bank financial institutions. Banks
provide deposit and payments services, allocate resources, and
monitor operations of firms. Equity markets provide financial
leverage and ensure efficient allocation of resources. Well-developed
capital markets force banks to pay more attention to smaller firms
and households. Active domestic bond markets provide firms with
long-term domestic currency finance and ease credit crunch during
periods of bank stress. Housing finance is important for households
and provides an important asset for entrepreneurs. Successful
leasing, factoring, and venture-capital markets provide financing and
enhance an economy’s productivity.
The potential for financial development and growth in Egypt is
large as macro economic policies and overall business environment
fundamentals are increasingly supportive. This is evident in
accelerating economic growth, increased market confidence, strong
capital inflows, stability in the foreign exchange market, significant
increase in international reserves, and fall in inflation. The impact
Executive Summary
Greater financial
development increases
growth, reduces
economic volatility
and improves income
distribution
The potential for
financial development
in Egypt is large
as macro economic

policies and overall
business environment
fundamentals are
increasingly supportive
Executive Summaryxviii
of the broad range of structural reforms, particularly those affecting
the investment climate, initiated by the government appointed in
July 2004 is being reflected in the significant improvement in the
investors’ perception of the business environment.
A cornerstone of the government’s comprehensive reform program
is the Financial Sector Reform Program, endorsed in September
2004. The program aims at improving the soundness of the financial
sector and fostering an enabling environment for the emergence of an
efficient, increasingly private-led financial system that serves Egypt’s
development and growth objectives. The program is underpinned by
significant improvements in the legal, regulatory, and supervisory
framework across the bank and non-bank financial institutions, with
the aim of enhancing competition, improving financial intermediation,
fostering more efficient mobilization of savings, and ensuring systemic
soundness. An integral component of the strategy is to promote the
quality of information and market discipline by upgrading financial
institutions’ accounting, auditing and reporting to international
standards.
Significant progress has been made in the implementation of
these financial sector reforms. Achievements include consolidating
the banking sector, divesting the state-owned banks’ shares in the
joint-venture banks, privatizing one state-owned bank, pursuing the
restructuring of the remaining three state-owned commercial banks,
and building the supervisory capacity at the central bank. For non-
bank financial institutions, various reforms have been undertaken to

further deepen the capital market, restructure the insurance sector,
develop a well-functioning mortgage market, activate financialleasing,
and factoring. However, such progress has not yet been reflected in
improved performance and enhanced financial intermediation.
Various financial indicators put the Egyptian financial sector
at a moderate level in financial intermediation compared to other
developing countries. Although mobilization of savings in Egypt is high
by international standards, the banking sector is not intermediating
efficiently. Most savings are channeled through the financial system as
bank deposits, where the deposit-to-GDP ratio of 100 percent is much
higher than the world average and substantially higher than many
developed economies. However, little of it is channeled to the real,
productive private sector and is mainly used to finance government
deficits or as loans extended to state-owned enterprises.
Private-sector credit to GDP in Egypt is modest compared to other
developing economies. Private credit as a share of total credit has
been declining, to reach 66 percent in 2006, compared to 70 percent
in 2003. Importantly, the distribution of bank financing is uneven,
with most loans going to large and well-established enterprises.
Consequently, family-owned firms and small and medium enterprises
(SMEs)—the majority of firms in Egypt—rely heavily on the informal
market.
Formal financing, whether from banks or non-bank financial
institutions, plays a limited role in financing enterprises, especially
This is largely due
to the broad range of
structural reforms
initiated by the
government since
mid-2004, of which

the “Financial Sector
Reform Program” is a
cornerstone
Significant progress
has been made in the
implementation of the
financial sector reform
program
however, this has not
yet been translated to
better performance and
enhanced financial
intermediation
Financial indicators
still put the Egyptian
financial sector
at a moderate
level in financial
intermediation
Executive Summary xix
SMEs. More than 37 percent of the firms consider access and cost of
finance major obstacles to growth. The large majority of Egyptian
manufacturers rely exclusively on their own funds; only 17.4 percent
have access to finance from the financial sector. This is especially
striking for small firms—only 13 percent have access to finance, as
opposed to 36 percent for large firms. While the average for Egypt is
comparable to the other countries in the Middle East and North Africa
(MENA), it is significantly below that in other developing countries.
Moreover, the financial sector plays a limited role in financing
new investments. On average, only 7 percent of new investments

and working capital in Egypt is financed externally through the
banking sector, compared to more than 13 percent in MENA region,
and 18 percent in the rest of the world. Banks often prefer to extend
credit to large corporate clients and connected individuals that are
considered less risky, while start-up companies remain financially
constrained. While the capital market can play an important role
in financing growth and development, it only financed 3.8 percent
of new investments in Egypt. The dependence on internal finance
indicates that firms in Egypt are unable to take advantage of growth
opportunities, with negative ramifications for overall economic and
employment growth.
Incentives for small firms and households to use deposits and
other financial services are poor. Minimum required deposit amounts
are too high to enable the poorer segments of the population to access
the banking system and tend to discourage the unbanked population
to save through formal channels. The lack of deposit mobilization
from small savers is not due to financial repression, as interest rates
on deposits are relatively high. Although state-owned banks have
a comparative advantage in attracting small depositors, with their
huge branch network in governorates and villages, they have instead
focused on large depositors, and extend very limited financial services
to the relatively disadvantaged segments of society. Recently, however,
banks have been trying to catch up and cater to small depositors for
all types of financial services.
Few Egyptian households use any kind of formal financial services.
Savings instruments are more common than credit, and the most
common is postal savings, roughly twice as prevalent as bank savings
among the illiterate and those who can read and write. Usage of
financial services increases substantially with the level of education
of the head of the household. However, almost no households have

formal credit or capital-market investments, where less than one
percent of households surveyed had a formal loan.
Sources For Financial Services: The Banking Sector
Financial intermediation by the banking system that accounts for
more than 60 percent of the financial system’s assets is weak by
international standards. While savings are high and banks collect
Formal financing,
whether from banks
or non-bank financial
institutions, plays
a limited role in
financing enterprises,
especially SMEs
this is especially
striking for start-up
enterprises that rely
mainly on internal
funds and retained
earnings
Incentives for small
firms and households
to use deposits and
other financial
services are poor
However, usage of
financial services
increases substantially
with the level of
education of the head
of the household

Executive Summaryxx
large deposits, amounting to about 100 percent of GDP, they actually
lend little of these deposits. The loan-to-deposits ratio has been
declining over the last few years to reach only 58 percent in June
2006, well below the world average of 86 percent, and much less
than the level of intermediation in many developed economies, where
typically credit exceeds deposits.
Only a small portion of the funds that are mobilized are lent to the
productive sector, and even less to the private sector. Credit to the
private sector was at 54 percent of GDP in 2006, similar to country
comparators, yet half the OECD average. Credit to the private sector
has sharply decreased over the past few years, as private credit as a
share of total credit has been declining to reach 66 percent in 2006,
compared to 70 percent in 2003. Furthermore, much of the lending
extended to the private sector goes to a few large firms, with most
firms, especially SMEs, receiving little financing.
Most of the funds that are mobilized finance thebudgetdeficitand the
public sector. Banks, particularly state-owned banks, are increasingly
investing in treasury bills and government bonds, holding about 91
percent and 70 percent of the outstanding respectively as of June 2006.
This reflects banks’ inefficiency in identifying profitable projects, as
well as their cautious investment policies. Investing in treasury bills,
in addition to being risk-free, is tax-exempted. Direct lending to the
public sector–both the government and state-owned enterprises
(SOEs)–has also increased in recent years. Lending to SOEs remains
high for state-owned banks compared to private banks.
Access to Bank Financial Services
Relative to Egypt’s total population, banks have few outlets for basic
banking services. Egypt has fewer bank branches and automatic teller
machines (ATMs) per capita than countries with similar per-capita

income. Relative to the developing world, Egypt’s branch density is
low, and its ATM coverage is less than one-seventh that of the typical
developing country. In general, banks tend to concentrate on the
urban population. State-owned banks have the most balanced branch
network overall, though their presence is still greater in urban than
in rural areas. State-owned specialized banks are the only banks for
which rural branch density is higher than urban. Private and joint-
venture banks have much less rural coverage, while foreign banks
have little physical presence in either urban or rural areas.
State-owned banks lend mainly to large corporations, while
private, joint venture, and specialized state-owned banks, followed
by foreign banks, are more active in lending to SMEs. Foreign banks
also reach out more than other types of banks to retail clients, possibly
taking advantage of their own superior credit-scoring skills. Large
corporate-sector loans are as large as 70 percent of total loans for
many banks, with SME lending accounting for only 20 percent, and
retail lending only 10 percent of total loans. The distribution of loans
is quite concentrated in Egypt, leaving the banking system suffering
from a high concentration of credit risk and lack of diversification.
Financial
intermediation by
the banking system is
weak by international
standards
Most of the credit
extended to private
sector goes to a small
number of large
firms with most
firms, especially

SMEs receiving little
financing
Banks, especially
state owned ones,
increasingly invest
in treasury bills and
government bonds
Relative to Egypt’s total
population, banks have
few outlets for basic
banking services
Executive Summary xxi
Factors Behind Weaknesses in Supply of Banking Services
The poor quality of financial intermediation is reflected in high
transaction costs, large non-performing loans, and limited access for
small firms and households to financial services. This could be partially
attributed to the dominance of state-owned banks, compounded by
the ongoing process of institutional and operational restructuring, as
well as the new and relatively untested regulatory and supervisory
framework.
The banking sector is dominated by state-owned banks that lag in
efficiency and generally in performance in financial intermediation
compared to their private counterparts. State-owned banks are
undercapitalized, and suffer from poor asset quality and high levels of
non-performing loans. There are no incentives for them to proactively
identify problem loans, maximize profits, or even minimize losses, as
reflected in their relatively low profit margins, high operating costs,
and inadequate risk-management systems.
Importantly for access to financial services, state-owned banks
are also slow to modernize and innovate, and the volume and scope

of products and services they offer have been limited. Although
new products are being introduced, most loan products are quite
basic, generally straight lending with fixed interest rates. Fees and
commissions and treasury earnings are not significant sources of
revenues, primarily because of a lack of product diversification. Banks
are not offering hedging, forwards, factoring, or export receivables,
discounting under letters of credits, and structured investment
banking products. The recent increase in ATMs and credit/debit
cards as well as retail lending suggest, however, that banks will see
an increase in income from fees and commissions in the future.
Skills to assess credit risk are generally weak, and the credit
decision is centralized, especially in state-owned banks. A few banks
have internal exposure limits by sector or types of borrowers, and
require periodic financial statements from borrowers. A very limited
number of banks conduct independent annual asset risk reviews,
market and sector analysis sufficient to establish a solid strategy
for growth or to target new markets. Most banks are characterized
by lack of standard products, poorly functioning asset-liability
management, and internal pricing mechanisms. The restructuring
of non-performing assets in the state-owned banks has distracted
management from focusing on extending credit.
Another sign of a poorly functioning credit market is that lending
terms are unfavorable, with very high collateral requirements. Usually
banks resort to over-collateralizing when there are problems associated
with foreclosure and loan-recovery procedures. Furthermore, since
banks have been operating under directed lending for some years,
they are not trained to base their credit decision on cash-flows, and
thus require more collateral. Slow response times to set up credit
lines–excluding the setting up of the collateral requirements and
registering the collateral–suggest low internal credit-approval limits,

lack of competition, and overall inefficiency.
State-owned banks,
that dominate the
banking system,
lag in efficiency
and in financial
intermediation
compared to their
private counterparts
they are also slow
to modernize and
innovate, and the
volume and scope of
products and services
they offer have been
limited
Lending terms are
unfavorable with
very high collateral
requirements, and slow
response times to set up
credit lines
Skills to assess credit
risk are generally
weak, and the credit
decision is centralized
Executive Summaryxxii
While interest rates follow the government borrowing costs as a
benchmark, there is no proper yield curve to help price risks in the
longer market. The lack of foreign-currency hedging instruments

leads banks to being overly cautious and charging high margins
in foreign-currency lending. Spreads between lending and deposit
interest rates are in general high, up to 10 percentage points.
These high spreads reflect the need for high provisioning, and
inefficiency due to overstaffing. The high spreads also show a supply-
driven lending market, where banks take advantage of the lack of
competition or collude in keeping spreads high. Only in lending to the
large corporations do banks give evidence of much competition.
Moreover bigger banks (as measured by total operating income)
and more highly capitalized banks extend relatively more loans. This
suggests that there are economies of scale, arguing for increased
consolidation of the banking sector in Egypt. At the same time, banks
with relatively more deposits—the cheapest source of funding—tend
to extend relatively fewer loans, independent of bank ownership.
Investigations suggest that, not having to compete for deposits creates
incentives for easy forms of financial intermediation, such as lending
to the government and large corporations. This analysis suggests
that large private and foreign banks are best able to increase lending
to the private sector in a sustainable manner in Egypt.
Overall, the banking sector reform program launched in late 2004
and changes in the business environment have rejuvenated banks.
The institutional and operational restructuring of the state-owned
commercial banks will further improve their efficiency and profitability
over time. Banks are improving credit policies and procedures, while
provisioning for past problem loans; upgrading their banking services;
widening the range of lending products available to the non-corporate
sector; and diversifying products as the regulatory framework adjusts
to the new environment. The government is also making efforts to
address state-owned banks’ non performing loans (NPLs), including
a time-bound scheme with resources from privatization proceeds

earmarked for its implementation.
The ongoing consolidation of the banking system with the exit of
small private and joint-venture banks and the entry of several strong
foreign banks is expected to enhance competition in the market. Such
rapid consolidation will lead to opportunities to exploit economies of
scale, lowering the cost of financial intermediation. The privatization
of Bank of Alexandria—the fourth largest state-owned bank—in late
2006 is considered a milestone in this comprehensive reform program.
The progress in the implementation of the banking reform program
has been evident in the slight improvements in the banking system
performance and capacity to intermediate indicators.
and there is not a
proper yield curve to
help price risks in the
longer market
However, state-
owned banks have
recently been subject
to institutional
and operational
restructuring
and there has been
slight improvements
in banking system
performance
and capacity to
intermediate
Executive Summary xxiii
Sources For Financial Services:
Non-bank Financial Services

Well-developed non-bank financial institutions can provide external
financing and help improve the risk and maturity profile of
corporations’ external financing. Non-bank finance—capital markets,
insurance, contractual savings, mortgage finance, financial leasing,
and factoring can serve as an important source of finance for the
real sector. However, to date, these forms of external financing are
relatively underdeveloped in Egypt.
Non-bank financial institutions in Egypt face various obstacles,
similar to those impeding efficient intermediation by the banking
system: the still-large role of the state, through ownership as well
as tightly prescribed (investment) regulations; the lack of well-
functioning and efficient means of registering and enforcing property
rights, especially on collateral; and limited and poorly available
information bases on potential clients and borrowers. Although there
is progress, further streamlining and more market-based measures
are needed.
Capital Markets
Although noteworthy strides have been made, the development of
capital markets in Egypt remains below potential, especially in terms
of primary markets. Egyptian firms’ access to long-term capital has
been hampered mainly by an inadequate legal framework, especially
regarding new securities issuance; lack of active domestic financial
investors; and a weak regulatory and supervisory framework.
While the secondary capital markets are active, new capital market
issuance–both bond and equity–have been very limited. The primary
markets are much smaller than those of high-performing emerging
markets. Little external financing has been made available for firms
from both equity or bond markets, and what is provided mostly goes to
the largest firms. As elsewhere, stock exchanges mainly target large,
blue-chip companies; because of their size, low creditworthiness,

and limited transparency, SMEs have more difficulties in accessing
capital markets.
The securities market as a source of investment financing is limited
in Egypt. The private sector has made few corporate bond and public
equity offerings in recent years. While there have been more equity
issues than corporate bonds, many equity issues were public offerings
or sales of government shares in large state-owned companies, which
do not add to capital formation. Funds raised through corporate bonds
were even less compared to equity financing. The corporate bond
market is nascent and largely dominated by commercial banks, while
access to international capital markets is limited to large enterprises
and financial firms. No Eurobond has been issued by an Egyptian
company to date.
Non-bank financial
institutions are under
developed, and face
various obstacles
similar to those
impeding effective
intermediation by the
banking system
The developments of
capital markets in
Egypt remains below
potential especially
in terms of primary
markets
The corporate bond
market is nascent and
largely dominated by

commercial banks,
while access to
international capital
markets is limited to
large enterprises and
financial firms
Executive Summaryxxiv
Insurance and Contractual Savings
Egypt’s insurance and contractual savings sector is small compared
to the size of its economy. Since growth of contractual savings is
typically linked to GDP per capita, with some low-income countries
experiencing threshold effects, growth will take time. Still, Although
penetration is higher than in other countries of the region, insurance
and pension products have yet to gain broad public appeal. Only a
small percentage of the working population participates in retirement
plans. Furthermore, the sector does not yet do a good job of channeling
resources to the private sector.
The insurance sector is largely publicly owned; however, more
foreign insurers are entering the market. The four largest insurers
(including one reinsurance company) are majority state-owned,
accounting for about 70 percent of premiums. The new foreign entrants
in the insurance sector (particularly life insurers) are growing faster
than both the domestic insurers and voluntary pension funds. While
foreign life insurers have been able to make inroads, the largest
insurers seem determined to maintain market share. The non-life
sector is hardly developing, and non-life reserves are very limited.
Institutional savings–life insurance and other forms of long-term
savings–remain limited compared to their potential for financing the
real sector. The structure of the more developed non-life insurance
market has changed marginally over the past decade, and competition

tends to be based on price rather than product innovation. Importantly
for access to financial services,anddespitecurrentregulationsallowing
insurance companies a limited degree of investment flexibility,
most reserves continue to be invested in government bonds or bank
deposits. This underlines the need to develop a modern corporate-
finance culture with up-to-date institutional investment skills. At the
same time, capital markets lack products suited to the insurance and
contractual savings markets’ liability structures.
Dominated by state-ownership, the insurance sector’s investment
portfolios have been used for social purposes, to fund state-owned
banks and state-owned enterprises and to meet government borrowing
requirements. Investment in the real sector has been relatively
insignificant. The insurance sector suffers from a lack of investment
skills, including lack of asset and liability management modeling
capacity and limited ability to assess credit and market risks. This is
exacerbated by a legal and social environment that discourages risk
taking and, in the state-owned insurers, a salary structure that makes
it impossible to attract top graduates. The regulatory environment
also places relatively tight limits on investment allocations, prudent
in the absence of a risk-based supervisory regime and capacity, but
limiting access to finance for the real sector.
Investment decisions by private pension funds—an essential
component of the contractual savings scheme—show even lower
intermediation to the real and private sectors than in the insurance
sector. Private pension funds tend to be managed in-house, encouraging
Egypt’s insurance and
contractual savings
sector is small compared
to the size of its economy
Institutional savings—

life insurance and
other forms of long-term
savings—remain limited
compared to their
potential for financing
the real sector
Dominated by state-
ownership, the
insurance sector’s
investment portfolios
have been used for
social purposes, to
fund state-owned
banks and state-owned
enterprises and to meet
government borrowing
requirements