In the first issue of this magazine, I have attempted to present the political economy of policy making in Africa and the implication of that for private sector development in the continent. This was based on a recent study by the United Nations Economic Commission for Africa (UN ECA) study. In this issue, I will finalize the commentary by highlighting the empirical evidence about the implications of policies designed in such a manner on private investment in the continent using the same study. The ECA study is an attempt to examine the impact of macroeconomic policies and investment climate for private investment in Africa. Based on this analysis, the study attempts to draw lessons so as to come up with policy implications that could help to strengthen the role of private investment in Africa As I have noted above, the ECA study commenced by showing that macro policy in Africa is generally informed by the political economy of policy making which I have briefly summarized in the last issue.
The study hypothesized that the private sector could do the monumental task of growth and poverty reduction in the continent while at the same time benefiting itself through sustained investment and job creation. However, this is conditional on appropriated macro policy and the resultant stable macroeconomic environment. It also needs conducive governance and an enabling investment climate.
The empirical analysis in the ECA study, using the doing business and investment climate indicators of the World Bank for 54 African countries, conclusively supports the hypothesis, that private investment in Africa is conditional on prudent macro policy and an enabling business environment. It has examined the issue by dividing countries in the continent into politically fragile
(such as the Democratic Republic of Congo) and non-fragile categories. In both fragile and non-fragile countries indicators of the impact of the macroeconomic environment on private investment (such as fiscal, monetary and exchange rate policy indicators) are found to have statistically significant impact on private investment. That is fiscal deficit and the associated monetary policy (such as excessive government borrowing to finance such deficit), inappropriate exchange rate & volatility and inflation are found to have an adverse impact on private investment. In addition, the growth of an economy, public investment, foreign direct investment (FDI) and a good balance of payment position (or availability of foreign exchange reserves) are also found to have a strong statistically significant positive effect on private investment.
In both categories of countries the investment climate as depicted by the rule of law, political stability, voice and accountability, government effectiveness as well as regulatory quality of the government are all found to have a statistically significant positive impact on private investment in Africa. However, in the non-fragile category political stability, voice and accountability are not found to be that important. In terms of their magnitude of impact, the investment climate is found to be more important in non-fragile than fragile category.
The study has also shown that the positive record that African governments have on improving the business environment in the last few years is not that significant compared to other regions of the world. In other words, although most African countries improved their business environment in the last 10 years, this improvement is not that impressive compared to other developing regions in the world. In particular, the study
noted, there is a need to focus in all doing business indicators in which African countries today are in the bottom half of the ranking in the world. Alleviating problems of infrastructure and finance are also found to be very important for strengthening private investment in Africa.
The implication of this is that improving business confidence in Africa is critical since it will strengthen the domestic private sector and attract the foreign investors. This in turn implies macroeconomic and investment policies that are necessary for building investors’ confidence need to be in place in the region. This requires concerted effort both at continental, regional and country level.
Finally, the UN ECA study noted that the global economy is dynamic and challenging. It is also fast changing with the emergence of newly developing countries such as Brazil, Russia, India, China and East Asians’ fast growing economies which will have a bearing on private sector development in the continent. Africa needs to have a strategic engagement with these countries so that both will mutually benefit from the engagement. This could be achieved by focusing on two crucial role of private investment in Africa. These are by use of private investment for diversification and hence building up of a resilient African economy and by using private investment for job creation which is central for poverty reduction and social stability.
In sum, since the role of the private sector is very critical in realizing the objective of growth and hence poverty reduction for Africa, identifying the major challenges for private sector development need at most attention from policy makers. In addition, it is imperative to focus on the job creation implications of private investment in Africa too. Such an exercise need to begin by analyzing the nature and status of the private sector in each African country and identifying the major constraints to is development – which includes the political economy of policy making. The UN ECA study have highlighted most of the major determinant of private investment in the continent and could be a starting point for an in depth country level study and policy making for private sector development.
In the next issue I will attempt to link the political economy of policy making issue outlined in the last two issues of EBR to policy making in Ethiopia. I will do that by focusing in the Agricultural sector which is believed by the Ethiopian government to be the engine of growth and where private investment (both domestic and foreign) should go. I will do that, however, by reviewing an excellent book of Desalegne Rahamto (2010) termed “The Peasants and States in Ethiopia”). Desalegne is an impressive authority on Ethiopian agriculture and this book is an encyclopedic presentation of Agricultural policy making in Ethiopia in the last five decades.