THE EFFECT OF INSURNACE INDUSTRY IN PROMOTING BANKING SERVICES
CHAPTER ONE
INTRODUCTION
1.1 BACKGROUND OF THE STUDY
The impact of the 2008 global financial crisis on many economies re-affirmed the need to protect the financial system from shocks, both endogenous and exogenous. Consequently, policymakers and regulators in many countries implemented various drastic regulatory measures to rescue their financial systems from meltdowns, and to avert deep economic downturns (Dermiguc-Kunt & Kane, 2003; Cobbinah & Okpalaobieri, 2009; Massa & Willem te Velde, 2008; Berkmen et al, 2009). Measures adopted include government takeover of banks or capital injections, interest rate cuts, subsidies to ailing sectors, and bank deposit guarantees. Among all these, the deposit insurance scheme has generated much interest among scholars and policy makers (Campbell et al, 2009; Mbarek & Dorra, 2011; Chu, 2011).
In every economy, the financial sector occupies a strategic position because of the important function it plays in the flow of funds. Economists have long recognised that financial markets in general, and banks in particular, play a vital role in the efficient functioning and development of any economy (Guzman, 2000).Finance is relevant for growth and development because efficient financial systems resolve agency problems better, thus enabling firms to borrow at cheaper rates and invest more. In addition, finance also plays a major role in the structural transformation of less developed economies characterised by moderate industrialisation, and where small-tomedium scale enterprises dominate (Chakraborty & Ray, 2006).
As a rule, economic activities increase when savings-surplus units are able to channel funds to the savings-deficit units. This intermediation role of the financial sector actually provides the basis for capital formation and other activities necessary for economic growth. Literature is replete with studies carried out in the finance-growth nexus. Levine (1997) suggests that finance promotes growth principally by the efficiency of capital allocation, and not necessarily by increasing investment. Chandrasekhar (2002) emphasises this by pointing out that financial structures and financial institutions have been acknowledged in literature as having assisted disadvantaged economies to leverage on existing productive capacities. The consensus view of academics is that properly functioning financial intermediaries improve the efficiency of capital allocation, encourage savings, and lead to more capital formation (Wachtel, 2003; Santomero, 1997; Frolov, 2004; Aziakpono, 2005).
Most of these studies have been focused on whether a market- or bank-based financial structure is more important for growth (Levine, 2002; Demirguc-Kunt & Levine, 1999; Dolar & Meh, 2002; Cuadro-Saez & Garcia-Herrero, 2007). Findings indicate that in the main, market-based systems are preferable for economies that are developed, and have the necessary institutional infrastructure to reap the resultant benefits. On the other hand, bank-based system may be more effective at mobilizing savings, allocating capital and exerting corporate control in less developed countries (Levine, 2000; Demirguic-Kunt & Levine, 2004). Factors such as a weak legal environment, resulting in inability to enforce creditors’ rights, as well as shallow and under-developed capital markets all contribute to the predilection for a bank-dominated financial structure. Thus, the banking system plays a pivotal role as most of the capital flows to the real sector come from it. Given the importance of the real sector to the performance of a country, it is hardly surprising that many policies of the governments of such countries focus on ensuring that the banking sector experiences minimal disruptions.
