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FEASIBILITY STUDY FOR THE CREATION OF AN AFRICAN STOCK EXCHANGE

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FEASIBILITY STUDY FOR THE CREATION OF AN AFRICAN STOCK EXCHANGE

    UNION AFRICAINE

     UNIÃO AFRICANA AFRICAN UNION

    REPORT OF THE FEASIBILITY STUDY ON THE

    ESTABLISHMENT OF THE PAN AFRICAN STOCK EXCHANGE

    Department of Economic Affairs

    December 2008

    Table of Contents

    Table of Contents ............................................................... i Executive Summary ............................................................ iv I Introduction: From regional stock exchanges to an African stock OMPREHENSIVE VIEW OF STOCK EXCHANGE DEVELOPMENT IN AFRICA ..................2 market ............................................................................ 1 I.II TOWARDS THE INTEGRATION OF AFRICAN FINANCIAL MARKETS ...........................3

    I.III METHODOLOGY ........................................................................................................4 I.I C

    I.IV ORGANISATION OF THE STUDY.................................................................................5

    CHAPTER 1: ANALYSIS OF THE CONTEXT OF THE INTEGRATION ... 6 OFAFRICAN STOCK EXCHANGES ............................................ 6 1.1 THE IMPROVING MACRO-ECONOMIC CONTEXT IN AFRICA ......................................6

    1.2 DEVELOPMENT OF THE FINANCIAL SECTOR .............................................................9

    1.3 OPINIONS OF STAKEHOLDERS ON THE ECONOMIC AND FINANCIAL SITUATION .....13

    1.4 ANALYSIS OF THE LEGAL, INSTITUTIONAL, FISCAL REGULATORY AND TECHNICAL

    ENVIRONMENT .....................................................................................................................14

    1.4.1 Different legal systems ..................................................................................15

    1.4.2 Regional attempts to harmonise business law and insurance activities 15

    1.4.2.1 In the banking sector .............................................................................16

    1.4.2.2 In the stock exchange sector .....................................................................17

    1.4.3 An unsuitable fiscal context ..........................................................................19 1.4.4 A divergent technological environment ......................................................20 CHAPTER 2: ANALYZING THE PERFORMANCES OF EXISTING STOCK

     .................................................................................. 23 EXCHANGES ................................................................... 23 2.1 G

    ENERAL PRESENTATION OF AFRICAN STOCK EXCHANGES ..................................23

    2.1.1 Structure of African stock exchanges ...........................................................23

    2.1.2 Players in the stock exchange .......................................................................24

    2.1.2.1 Issuers.........................................................................................................24

    2.1.2.2 Investors .....................................................................................................25

    2.1.2.3 Brokers .......................................................................................................26

    2.1.2.4 Central depository, clearing house and settlement bank ........................26

    2.2 COMPARATIVE ANALYSIS OF THE PERFORMANCES OF AFRICAN STOCK

    EXCHANGES .........................................................................................................................27

    2.2.1 Equity markets ...............................................................................................27

    2.2.1.1 Capitalisation ............................................................................................27

    2.2.1.2 Number of listed companies......................................................................29

    2.2.1.3 Volume of Transactions ............................................................................31

    2.2.1.4 Liquidity ratio of the market or rotation rate .........................................31

    2.2.1.5 Yield ...........................................................................................................32

    2.2.2 Bond markets ...............................................................................................33

    2.2.2.1 Capitalisation ............................................................................................34

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2.2.2.2 Volume of trade or transactions ...............................................................34

    CHAPTER 3: EXAMINING THE VARIOUS OPTIONS FOR THE ........ 36 RIEF STUDY OF STOCK EXCHANGE ASSOCIATIONS ...............................................37

    3.1.1 Experiences of stock exchange integration in Africa ..................................38 INTEGRATION OF AFRICAN STOCK MARKETS ......................... 36 3.1.1.1 Southern Africa ..........................................................................................38 3.1 B3.1.1.2 Arab Maghreb Union ................................................................................39

    3.1.1.5 East African Community (EAC) ...............................................................41

    3.1.1.6 West Africa .................................................................................................41

    3.1.2 Experiences of stock exchange integration in the rest of the world ...........42

    3.1.2.1 ASEAN ........................................................................................................42

    3.1.2.2 NOREX ......................................................................................................43

    3.1.2.3 EURONEXT ...............................................................................................44

    3.2. M

    ODELS SUGGESTED FOR THE PAN-AFRICAN STOCK EXCHANGE .........................45

    3.2.1 Option 1: National / regional stock exchanges and a Pan-African stock

    exchange 45

    3.2.1.1 The realisation of this option requires overcoming challenges .............46

    3.2.2 Option 2: National/regional stock markets with an existing African

    Financial Market as a Continental Platform ...............................................................46

    3.2.3 Option 3: Integrated transaction platform, while maintaining

    national/regional stock markets ....................................................................................47

    3.2.3.1 Advantages of this model ..........................................................................48

    3.2.3.2 Disadvantages and costs of this model ....................................................48

    3.2.4 Option 4: Integration through transaction on the Internet.........................48

    3.2.4.1 Advantages of this model ..........................................................................49

    3.2.4.2 Disadvantages and costs of this option ....................................................49

    3.2.5 Option 5: Gradual integration......................................................................49 3.3 S

    UMMARY OF BENEFITS OF THE INTEGRATION OF AFRICAN STOCK EXCHANGES .50 3.4 SUMMARY OF THE CHALLENGES TO OVERCOME FOR THE INTEGRATION OF STOCK

    EXCHANGES IN AFRICA .......................................................................................................51

    3.4.1 Legal and regulatory differences..................................................................51 3.4.2 Multiplicity of regulators ..............................................................................51 3.4.3 Differentiation of products ............................................................................52 3.4.4 Variances in accounting standards and fiscal systems ...............................52 3.4.5 Information costs and prejudices of country of origin ................................52 3.4.6 Fragmentation of trading, clearing and settlement systems .......................53 3.4.7 Technological aspects ...................................................................................53 3.4.8 Governance ....................................................................................................53 3.4.9 Implementation of credible contractual engagements ................................53 3.4.10 Lack of political will .....................................................................................54 3.5

     WAY FORWARD ......................................................................................................54

    3.6 CONCLUSIONS .........................................................................................................56

    CHAPTER 4: GENERAL CONCLUSIONS AND RECOMMENDATIONS .. 58 4.1 CHOICE OF AN OPTION FOR INTEGRATION OF AFRICAN STOCK EXCHANGES ........58

    4.1.1 Harmonisation of the regulatory framework ...............................................58

    4.1.2 Adapting to international standards ............................................................59

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    4.1.3 Harmonisation of securities taxes ................................................................59

    4.1.4 Lifting of exchange control and harmonisation of payment systems .........59

    4.1.5 Incentive for the development of strong companies and a dynamic private Bibliography .................................................................... 62 sector 59

    4.1.6 Promotion campaigns ...................................................................................60 APPENDIX: RECAP TABLE OF THE FINDINGS OF THE SURVEY ...... 64

    List of Tables

    Table 1.1 Domestic Savings (% of GDP) ...............................................................................8

    Table 1.2 Foreign Direct Investment, net inflows (in millions of current $US) ................10 Table 1.3 Opinion on the creation of a Pan African Stock Exchange .................................14

    Table 2.1 Annual Market Capitalisation, 2002-2006 (US $ billion, end of period) ..........29

    Table 2.2 Number of listed companies, 2005-2006 .............................................................30

    Table 2.3 Yield, 2002-2006 (in millions of US $, end of period) .......................................33

    Table 3.1 Preferences for various models of the Pan-African stock exchange ..................51

    Table 4.1 Opinion on legislative reforms..............................................................................61

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    Executive Summary

    Within the frame work of its mandate on the economic and financial integration of

    the Continent, and pursuant to the decision of the Assembly of the African Union

    in Khartoum, the Sudan, of January 2006, the African Union Commission carried

    out this study on the feasibility of an African Stock exchange. Faced with the

    dependency of African countries on external resources for financing their

    investments and their development; confronted with a multitude of limited and

    inefficient national stock markets, African leaders, in keeping with the

    commitments made in Abuja in June 1991, requested the African Union

    Commission to envisage the establishment of a continental stock market.

    stThe substantial progress made in Africa since the beginning of the 21 Century,

    especially in the macroeconomic and financial reforms undertaken since the late

    eighties, and an international economic situation characterized by the rise in the

    prices of raw materials, has created the bases for the integration of African

    financial markets in general and stock exchanges in particular.

    At the end of 2006, the capitalization of all African stock exchanges, the main

    indicator of trading activity, represented less than 2% of the world total, and was

    equivalent to that of the 15th world stock exchange. Apart from the JSE Limited, thwhich was the 19 world stock exchange in 2006, all the other African stock

    exchanges are characterized by their low liquidity and the volume of transactions

    they record.

In order to make up for the inadequacies observed in the functioning of the 23

    existing stock markets, the managers of these institutions, through the African

    Stock Exchange Association or their respective Regional Economic Community,

    have already initiated reflections and actions for the integration of the stock

    exchanges. In fact, the majority feel that financial integration, ensuring the

    circulation of capital at regional and continental level, will provide greater visibility

    and a larger area of arbitrage for those seeking capital; African, as well as,

    foreign investors.

The study conducted by the Commission’s Economic Affairs Department, mainly

    through a survey carried out in November and December 2007, by means of

    questionnaires distributed throughout the Continent and discussions with the

    different stakeholders concerned with stock market development confirmed the

    high level of challenges to be addressed in order to establish close alliances

    between existing stock exchanges and create a harmonized African stock

    exchange.

Taking into account the many challenges (political, institutional, legal, regulatory,

    technical, economic, financial, fiscal, etc) and based on African and foreign

    experiences in the harmonization and unification of stock exchanges, the African

    Union Commission proposes five options for the integration of African stock

    exchanges, some of which are variants of the same type of model: (i) Option 1:

    national/regional stock exchanges and a Pan-African stock exchange; (ii) Option

    2: national/regional stock exchanges with an existing African stock exchange as iv

    a continental platform; (iii) Option 3: an integrated transaction platform, while maintaining national / regional stock exchanges; (iv) Option 4: integration of transactions through the internet; (v) Option 5: gradual integration.

    To evaluate the detailed advantages and costs of each of these options, a comprehensive study will undoubtedly be necessary. However, in order to facilitate the realization of this additional study, bearing in mind the ultimate objective of continental financial integration and the necessary pragmatism for such a project, it important that institutional experts ( stock exchanges, regulatory organizations) and the economic agents concerned, as well as African governments, decide on 2 or 3 viable options on which this subsequent study can be carried out.

    On the whole, the integration of stock exchanges in Africa will be an extremely long process requiring significant structural changes, the requisite technology and infrastructure, appropriate legal, regulatory and accounting frameworks and most importantly, the political will. Based on the results of the feasibility study, all African stakeholders in the development of stock markets in particular, and financial markets in general, should make credible recommendations for all actors, that can be implemented according to a pace to be determined.

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I Introduction: From regional stock exchanges to an African stock market th Summit of Heads of State and Government of the African Union held in Khartoum (Sudan) in January 2006, it was resolved that the 1. During the 6proposal to set up a Pan-African Stock Exchange would be considered by the

    African Union Commission and the conclusions of this study presented to a

    subsequent summit. This decision was taken in the light of the Abuja Treaty

    adopted in 1991, which plans on creating national and regional stock markets, as

    well as the free flow of capital in order to promote economic development and

    integration. This process is supported by projects underway or geared towards

    setting up regional stock exchanges. The African Stock Exchanges Association

    (ASEA) set up in 1993, also aims at the regional harmonisation and integration of existing African stock exchanges.

2. Stock exchanges have a reputation for encouraging greater economic

    dynamism and producing higher levels of wealth by providing investors with the

    opportunity to share the risks and profits of enterprises. Thus they improve

    market mechanisms in order to raise and allocate scarce financial resources,

    mobilize local capital, attract foreign direct investment and allocate resources to projects likely to be beneficial to the economy.

3. The stock exchange is an alternative for securing capital at a relatively low

    cost in comparison with bank loans, and may help the government and private

    sector to mobilize capital to finance a wide range of infrastructure thereby

    satisfying social needs as well as growth, and jobs. Stock markets are perceived

    as a tool for the promotion of the financial sector and the development of private savings, thereby supporting the non-monetary funding of the economy and the

    fight against inflation.

4. In the wake of other studies previously carried out by the Organisation of

    African Unity, notably during the Forum on the promotion of the integration and

    development of financial markets (Grande Baie, Mauritius, 1997), the United

    Nations Economic Commission for Africa (ECA), the African Stock Exchanges

    Association and the International Monetary Fund

    1, this study sets out to examine

    the necessity, constraints and viability of an efficient financial market within African countries and regions and to explore possible scenarios for setting up an integrated stock market in Africa. This study is designed to establish an African financial zone opened to economic operators on the continent and the world. It has carried out an exhaustive analysis of all the technical aspects conditioning any modern stock market, including the location, rules and regulations governing such a market and its operators.

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    1 IMF, Stock market development in Sub-Saharan Africa: Critical issues and challenges, WP/07/209

I.I Comprehensive view of stock exchange development in Africa

    5. The number of African stock exchanges has more than doubled since the beginning of the 1990s from about 10 (ten) to 23 (twenty three). The Johannesburg Stock Exchange (JSE) is the first stock market ever set up in Africa, in November 1807, against the backdrop of the discovery of gold. A certain number of stock exchanges were set up in the wake of the independence of African countries in the 1960s. The last stock market that has been launched is the Stock Exchange of Central Africa (BMVAC), in August 2008 after having been officially set up in 2003.

    6. It is also worthwhile to mention the existence of over-the-counter (OTC) markets in some countries. This type of stock market is characterized by a limited and select number of operators, who define on their own or through a financial broker, rules governing their transactions, and appears more like a stage towards the creation of a stock market open to the public. Historically, over-the-counter markets have preceded the establishment of stock exchanges. Such a market operates notably in The Gambia and Gabon and has just been set up in Rwanda particularly for its bonds. It is also generally used after the explicit authorization of the regulatory authority, in the stock markets of listed securities for some operations often on non-traditional financial products such as by-products.

    7. To a greater extent, the creation of stock exchanges in Africa was done under the impetus of the political will to mobilize national resources, notably as part of privatisation programmes which concerns an important sector of public enterprises, besides attracting foreign investors. Kenya and South Africa are examples of countries where bond markets helped to finance infrastructure development. Stock exchanges also seek to attract foreign investment.

    8. On the whole, African stock markets represent less than 2% of the world market capitalisation, according to the 2006 data published by the International Federation of Stock Exchanges. The JSE accounts for close to 75 % of the total and is ranked on the 19th position in the world money market as concerns share capital market value. The second stock market in Africa, Cairo and Alexandria Stock Exchange, only represents 10 % of the African total. In general, the performances of African stock markets are weak and their liquidity is limited.

    9. Many obstacles hamper the African stock market in particular and the financial market in general, including: unfavourable macro-economic conditions (unstable and high inflation, fiscal deficit, public indebtedness, etc.), a restricted volume of demand and supply of financial products, a weak volume of transactions, high taxes levied on financial operations, inadequate infrastructure, narrow financial culture, poor economic governance, etc.

    10. It is therefore necessary to lift structural barriers and improve the general business climate in order to ease the establishment of active African stock markets. One way forward to develop stock exchange activities and improve capital raising, especially at the domestic level for investment on the continent, is to integrate existing national and regional stock markets.

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I.II Towards the integration of African financial markets

    11. As in other fields, the small size of African stock markets contributes to the high cost of operations and hinders their efficiency. In the face of considerable global need for investments in Africa and the concomitant existence of countries with excess resources and countries lacking resources, the integration of financial markets may lead to: a better mobilization of resources, available within and outside the continent (capital invested abroad and the savings of the Diaspora), thanks to a wider choice of securities; a reduction of the interest rate; a stronger level of investment and economic growth; etc.

    12. In the proposal on the creation of a Pan-African stock market by the African Union in January 2006, it was indicated that the Pan-African Stock Exchange is not designed ? to replace local stock exchanges but to strengthen their role on the local financial market, and spread the use of financial and monetary securities throughout the continent owing to its promising financial and economic resources”. Thus the shape of the integration at the continental level is to be determined by the choice of the most efficient option and by imagining a progressive solution taking into account the diversity of African economies.

    13. The advantages expected from setting-up this market at the continental level are identical to those which prevailed for the launch of regional stock markets but that have not, so far, been achieved by the latter: increase the depth and the liquidity of the present financial market, attract higher volume of resources towards investment, promote the modernization and efficiency of financial operations, develop intra-continental trade and economic growth, promote competition among enterprises on the one hand and between the banking sectors and the non-banking financial sector on the other, benefit from economies of scale and reduce the administrative burden of international enterprises. With new information technologies and globalisation, the stock exchange has lost the features of a fixed structure and basically gained the shape of a mechanism based on transactions likely to emanate from any part of the world.

    14. However, in financial matters where the commitment of operators, and the protection of the public and stakeholders’ confidence are primordial, realism and pragmatism should feed the process of evaluating and designing the project of the Pan African stock market. It falls in line with a comprehensive project of setting up African financial institutions (African Investment Bank, African Central Bank and African Monetary Fund) that the African Union is promoting in a bid to further the development of financial systems and African economies.

    15. Africa has already experienced the integration of stock markets, especially in West, Central, Southern and East Africa. The results obtained fail to meet the expectations. But this lacklustre performance is due to known problems that if corrected could improve the situation.

    16. Faced with the size of African stock markets which on the whole are small-barely 1% of global capitalization-and the inadequate liquidity of all the

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    consolidated African stock exchanges, many stakeholders (African and foreign political and economic decision makers, experts and researchers, etc.) consider a more advanced integration of existing stock markets as the way forward to be explored rapidly and seriously. The President of the Association of African Central Banks (AACB) at the end of a symposium on the theme Capital markets

    and mobilization of resources for poverty reduction and growth “ stated that “the

    integration of financial markets was crucial for Africa and that there was no need for each country to develop its own Wall Street on the continent”2

    17. This study thus sets out to examine the feasibility of a Pan African stock exchange, likely to better ease up the free flow, and at low cost, of financial resources from surplus economic agents of the continent and foreign investors towards long term investment of dynamic African enterprises and the non monetary financing of States. The macro-economic progress accomplished in recent years in most countries, the commitment demonstrated by an increasing number of African economic operators, including stock markets, to extend their scope beyond their national borders, and the increasing will of Member States of the African Union to speed up economic integration are driving forces to the execution of this project.

I.III Methodology

    18. In order to see through its mission, the African Union Commission carried out a study on an African stock market in a bid to assess the need for such a financial institution and the various options necessary for carrying out this project. Based on the results of this study and the recommendations of Member States on the options to be retained, a technical study shall be carried out subsequently.

    19. A questionnaire was thus forwarded by the Commission to present and potential stakeholders. A mission was led in a number of member countries from all the regions of the continent to seek advice from concerned institutions and economic agents. Lastly, the Commission drew on the abundant existing

    literature review on the development and progress of stock exchanges in Africa and on national and continental economic data.

    20. As concerns the survey, questionnaires were sent to Ministries of Finance, Central Banks of all the African countries, stock exchanges and regulators of financial market, banking institutions, insurance companies and selected employers’ associations.

21. Over 130 questionnaires were sent, 39 were filled and returned,

    representing 15 countries and covering 5 African regions including countries with developed financial markets and those having underdeveloped financial markets.

    22. The questionnaire was subdivided into two parts: a part dealing with data collection while the other probed participants on the development of stock markets, the Pan-African Stock Exchange project and the necessary conditions for the establishment of the latter.

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    2 Dr Acquah, ABCA Symposium, Windhoek (Namibie), 2006

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