THE EFFECTS OF FALLING COMMODITY PRICES ON AFRICAN COUNTRIES!! Analysis & Explations!
WASHINGTON, April 11, 2016— Economic activity in Sub-Saharan Africa slowed in 2015, with GDP growth averaging 3.0 percent, down from 4.5 percent in 2014. This means that the pace of expansion decelerated to the lows last seen in 2009.
These figures are outlined in Africa’s Pulse, the World Bank’s twice-yearly analysis of economic trends and latest data for the region. The 2016 growth forecast remains subdued at 3.3 percent, way below the robust 6.8 percent growth in GDP that the region sustained in the 2003-2008 period. Overall, growth is projected to pick up in 2017-2018 to 4.5 percent.
The plunge in commodity prices – particularly oil, which fell 67 percent from June 2014 to December 2015 – and weak global growth, especially in emerging market economies, are behind the region’s lackluster performance. In several instances, the adverse impact of lower commodity prices was compounded by domestic conditions such as electricity shortages, policy uncertainty, drought, and security threats, which stymied growth. There were some bright spots where growth continued to be robust such as in Côte d’Ivoire, which saw a favorable policy environment and rising investment, as well as oil importers such as Kenya, Rwanda, and Tanzania.
The external environment confronting the region is expected to remain difficult. In a number of countries, policy buffers are weaker, constraining these countries’ policy response. Delays in implementing adjustments to the drop in revenues from commodity exports and worsening drought conditions present risks to Africa’s growth prospects.
”As countries adjust to a more challenging global environment, stronger efforts to increase domestic resource mobilization will be needed. With the trend of falling commodity prices, particularly oil and gas, it is time to accelerate all reforms that will unleash the growth potential of Africa and provide affordable electricity for the African people,” says Makhtar Diop, World Bank Vice President for Africa.
Several countries are expected to see moderate growth. Among frontier markets, growth is expected to edge up in Ghana, driven by improving investor sentiment, the launch of new oilfields, and the easing of the electricity crisis. In Kenya, growth is expected to remain robust, supported by private consumption and public infrastructure investment.
The projected pickup in activity in 2017-2018 reflects a gradual improvement in the region’s largest economies – Angola, Nigeria, and South Africa – as commodity prices stabilize and growth-enhancing reforms are implemented.
African Cities as Engines of Growth
As Africa undergoes rapid urban growth, there is a window of opportunity to harness the potential of cities as engines of economic growth. The rapid decline in oil and commodity prices has adversely affected resource-rich countries and signaled an urgent need for economic diversification in Africa. Urbanization and well managed cities provide a major opportunity to offer a springboard for diversification.
The growth of cities, when well managed, can spur economic growth and productivity. But African cities are currently not delivering agglomeration economies or reaping urban productivity benefits. Instead they suffer from high housing and transport costs, in addition to the high cost of food that takes up a large share of urban household budgets.
Housing and transport are particularly costly in urban Africa. Housing prices are about 55 percent higher in urban areas of African countries relative to their income levels. Urban transport, which includes prices of vehicles and transport services, is about 42 percent more expensive in African cities than cities in other countries. Like households and workers, firms also face high urban costs. Cross-country analysis confirms that manufacturing firms in African cities pay higher wages in nominal terms than urban firms in other countries at comparable development levels.
To build cities that work—cities that are livable, connected, and affordable, and therefore economically dense—policy makers will need to direct attention toward the deeper structural problems that misallocate land, fragment development, and limit productivity.
“To ensure growth and social development, cities need to become less costly for firms and more appealing to investors,” says Punam Chuhan-Pole, Acting Chief Economist, World Bank Africa and the report’s author. “They must also become kinder to residents, offering services, amenities. All of this will require reforming urban land markets and urban regulations and coordinating early infrastructure investment.”
Terms of trade
Commodity price drops have lowered Africa’s terms of trade in 2016 by an estimated 16 percent, with commodity exporters seeing large terms-of-trade losses. Across the region in 2016, the impact of this shock is expected to lower economic activity by 0.5 percent from the baseline, and to weaken the current account and fiscal balance by about 4 and 2 percentage points below the baseline, respectively.
Moving Forward
Sub-Saharan Africa countries will continue to face low and volatile prices in global commodity markets. Governments must take steps to adjust to a new, lower level of commodity prices, address economic vulnerabilities, and develop new sources of sustainable, inclusive growth. Africa’s growing urban centers offer a springboard for diversification. But they need better institutions for effective planning and coordination that can raise urban economic density and productivity, and spur the region’s transformation.
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https://www.imf.org/external/pubs/ft/reo/2016/afr/eng/pdf/chapter2.pdf
https://www.weforum.org/agenda/2016/03/why-the-fall-in-oil-prices-is-a-problem-for-everyone
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Editor’s note: On April 14, 2016, the Brookings Africa Growth Initiative hosted its first in a regular series of private, high-level roundtables identifying, managing, and mitigating the major risks to Africa’s development. This session examined current external risks, namely falling commodity prices, China’s economic slowdown, and rising external debt. Below is a summary of their discussion. For more on the roundtable series, see here.
As Africa continues to face a number of challenges due the “triple threat” of falling commodity prices, China’s economic slowdown, and the rising cost of external debt, these external shocks also provide opportunities in 2016 for implementing innovative, robust policies to accelerate and sustain future growth. In the inaugural Doing Business in Africa: A Risks, Trends, and Opportunities Roundtable, participants from government, civil society, academia, and the private sector explored what these external shocks mean for doing business on the continent and how related policy measures can support new and existing economic opportunities. Since external factors—including GDP growth in G-7 countries and China, oil and non-oil commodity prices, and borrowing costs in international capital markets—account for nearly half of GDP growth fluctuations in sub-Saharan Africa, understanding exactly how these factors influence the economic activities in African countries and what can be done to weather and emerge stronger from these shocks is important to fostering successful businesses and investments in the region. During the roundtable, participants engaged one another on solutions for these challenges, sharing their unique perspectives and opening the discussion to related, medium-terms risks as well.
On the effects and future prospects of low oil and other commodity prices:
Oil price shocks to the global economy in 2015 and through 2016 are indicative of an end to the commodity super cycle and the beginning of the “low for long” scenario, one discussant noted. The decline in commodity prices severely affected some African countries that, like many low-income countries, are highly dependent on fiscal revenues from exporting commodities. In light of the price slump, currencies in these countries are weakening, inflation is rising, equity markets have dropped, and bond spreads have increased. Moreover, as another participant mentioned, if not swiftly addressed these short-term shocks could have far-reaching effects on longer-term growth outcomes.
To reduce their vulnerabilities in this new low-price environment, many commodity-exporting countries are attempting to diversify their economies and move up value chains, but, as one participant affirmed, these policies take time to implement, and concurrent shocks can further complicate efforts—even lead to economic crisis. Experiences in Latin America reveal that low commodity prices can lead to an increase in fiscal deficits, which means that countries require additional financing to fill their budget gaps. One important lesson learned from this scenario is that eventually financing can dry up, stranding countries if they are not prepared for this possibility.
On the risks and likelihood of a protracted economic downturn in China:
China’s recent, ongoing transition—a rebalancing from an investment-led growth model to a more innovation-based, consumption-oriented one—has resulted in excess capacity in construction and heavy industry in China, according to one discussant. With excess capacity, investment has slowed, pulling down the country’s growth rate. In turn, African countries have been affected by China’s weakening demand for primary goods through the channels of falling prices and declining export volumes. At the same time, China is beginning to turn its capital outward, and is expected to become the biggest creditor in the world as well as a sizable source of foreign direct investment (FDI) for developing countries (in natural resources and other sectors). African countries must be poised to attract Chinese investments by improving their investment climates as well as their human capital.
Although China is certainly a major trade and investment partner for the region, as remarked by participants, some questioned whether China should really be considered a defining influence on Africa’s future growth path. For example, one participant suggested that mobile financing will open up the continent in ways that exporting commodities and Chinese FDI cannot.
On the rising cost of external debt:
In line with the drop in commodity and oil prices—as well as growing risk aversion from investors—borrowing costs have increased substantially for the continent since 2014. With restrictive global financial conditions projected to remain constant in the near term, the cost of external debt is equally expected to stay high, potentially reducing some countries’ access to the sovereign bond market.
A point that one participant emphasized—as has been witnessed in several Latin American countries—is that what matters most to African countries is in which foreign currency the debt is denominated, even more so than the amount issued. The currency matters because when national currencies depreciate or are devalued, their countries’ external liabilities increase based on the foreign currency in which the debt is denominated. This possibility is a likely reality for several African countries that are facing currency declines. Another participant also noted that debt relief for African countries has contributed massively to where the continent is today, yet, going forward, more accountability on countries’ reasons for borrowing, who is providing the assistance, and more transparency regarding the terms of the borrowing is needed.
On short-term shocks v. longer-term business climate reform and development strategies:
Because, as one participant offered, the long-term picture is often spoiled by short-term shocks, a number of equally pressing, medium- to long-term shocks were stressed throughout the discussion. In this regard, finance matters. One participant highlighted the longer-term micro-risk of banks de-risking—ending or limiting business relationships with clients to avoid risk—and Africans possibly losing access to the global financial system. It was agreed that monitoring these trends and preventing widespread de-risking to ensure that Africans are not excluded is vital for maintaining growth. Similarly, promoting financial inclusion among women, the youth, and those in poverty should be a priority.
Poverty trends in the region also concerned some participants, who concurred that although relative poverty levels are decreasing, rising absolute numbers of people living in poverty present a significant challenge to many African economies and societies. Job creation and raising labor productivity by investing in human capital, education, and health, will help fight poverty sustainably and should be a core pillar of African policymakers’ agendas. Furthermore, the alternative could be extremely costly as increasingly marginalized, vulnerable groups may turn to more desperate means of acquiring income through crime, violence, or a pivot to extremism, for instance.
More broadly on the topic of doing business in Africa, one participant noted that international and multilateral financial institutions are aggressively targeting investments in Africa and in many cases are already seeing massive returns on their portfolios. This is partially due to recent improvements in the business climate (although, as many noted, there is still more to do), and in particular the World Bank’s Doing Business report, which is a huge driver of competitiveness in Africa and globally. However, having the technical expertise on the recipient side to meet investors halfway is definitely still needed in numerous countries. Moreover, as significant international trade and investment regimes such as the Transatlantic Trade and Investment Partnership (TTIP) and the Trans-Pacific Partnership (TPP) are being formalized, it is incredibly important not to leave African countries out of these agreements, one participant emphasized. In order to build an inclusive global system that is sensitive to African needs, African voices must be included within these discussions, participants agreed.
On infrastructure and technology:
On another note, throughout the discussion, infrastructure was mentioned as necessary to improving the business environment in Africa. It was proposed that in order to finance Africa’s vast infrastructure needs, countries should assess the benefits of issuing bonds against the potential downside risks. Other options for financing infrastructure projects include FDI, private equity investment, and public-private partnerships (PPPs) at the national, bilateral, and regional level. Regional integration and, more specifically, finding ways to finance regional infrastructure projects are receiving growing attention from African countries and international/multilateral donors, and may require new and innovative financing mechanisms. A pointed question participants raised was: How do you incentivize countries and other partners to invest in regional projects?
Technology is also changing how Africans do business, and possibilities exist for African countries to leapfrog in extraordinary ways—in telephony and other industries. Mobile banking is a powerful example, of which participants discussed at length. Lessons from Kenya’s mobile banking system, M-Pesa, show the transformative power of mobile systems, as M-Pesa began in 2007 as a money transfer platform in 2007 and is today a technological platform that provides a wide array of digital and financial services to a vast majority of Kenyans. Compared with traditional banking systems, mobile banking is inclusive to women and the poor, and also reduces leakages and fraud. While there is some concern about cybercrime and potential attacks on mobile banking systems, mobile banking deals mostly with micropayments so the extent of damage would be limited. Leapfrogging in the renewable energy sphere (micro- and mini-grid systems) is also already occurring and could be scaled up, provided that technology costs decline over time.
Key takeaways:
- The Africa rising narrative is not uniform: It is important to look at what parts of the continent and what sectors are not “rising” in order to develop targeted policy measures to address them. In developing national growth strategies, it is equally important to consider locational advantages within the surrounding region and how regional integration could play into domestic growth. For example, Kenya is surrounded by five landlocked, resource-rich countries. Therefore investing in and establishing efficient ports, railway and road networks, transit airports, ICT capacity and fiber optics will enable Kenya to become a prominent trade and transit hub for the region.
- In response to the short-term external shocks facing Africa, encouraging diversification (especially when commodity prices are low) is key, as is recognizing that China is a strong trade and investment partner to the continent, but at the same time it is not a panacea, especially if a major global slowdown occurs. By reducing vulnerability to external shocks (diversifying economies, exports, and trade partners) and building resilience (foreign reserve buffers), African policymakers and businesses will weather external shocks and have greater protection against them in the future.
- If Chinese financing in Africa continues to blossom and is applied within good institutional environments, it could have widespread, positive benefits for African countries. Working on domestic capacity to absorb investment from China and remaining a competitive in the investment landscape is crucial for African countries.
- There are still a number of longer-term, binding constraints to economic development and growth in African countries: corruption, lack of human capital, power outages, financing physical infrastructure, and low labor productivity to name a few. Multilateral and bilateral partnerships, namely with China and the U.S., could help on several of these fronts. The U.S. is already trying to boost labor productivity and human capital through Power Africa, Feed the Future, and various health and educational initiatives.
- Development banks are already doing an effective job of expanding economic opportunities across the continent and should continue to build infrastructure that that is not purely export-oriented in order to create jobs locally and serve local populations. Understanding the risks of certain types of debt is important for African policymakers. Commodity-backed debt is not sustainable, for example, and foreign-currency-denominated bonds could be subject to risks in the case of national currency depreciation or devaluation.
- African policymakers should focus on building regulatory frameworks, engaging in institutional development, and prioritizing human capital. Of particular concern is that absolute poverty levels are rising, and marginalized groups may turn to violent extremist groups rather than productive jobs for steady incomes.
- Services and industry are complementary sectors, although structural transformation in Africa has tended see a shift from agriculture to employment and growth in services rather than industry. Some experts are worried about the rise of the services sector’s contribution to GDP in many countries, compared to the relative rise of agriculture or industry because they think there is less value addition in the services sector and hence a lower likelihood that the sector will become an engine of growth. But services can be labor intensive—making good use of the continent’s dynamic labor force—and service sector jobs are adopting technology rapidly, giving workers new skills and improving their productivity. So the shift to services is beneficial to the continent in a number of ways.
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World Commodity Prices and their Impact on Developing Countries
https://www.odi.org/projects/1481-world-commodity-prices-their-impact-developing-countries
