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Africa’s Quest for Prosperity: Has Adjustment Helped?

Author(s):
International Monetary Fund. External Relations Dept.
Published Date:
January 1994
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THE SUB-SAHARAN African countries that have made strides in improving policies have enjoyed some resurgence of growth. Countries still need to deepen the reform efforts that have led to a renewal of growth in the short term and to rethink the adjustment strategy where reforms have been limited or have had little payoff.

Africa’s poor economic performance is not a recent phenomenon. After growing rapidly in the late 1960s and early 1970s, the region has experienced decline since the mid-1970s. GDP per capita fell by 15 percent between 1977 and 1985; export performance collapsed—from a growth of almost 10 percent per year in the early 1970s to a slight decline in the early 1980s. The region most in need of growth to reduce poverty has had the least.

To reverse the economic decline, many African countries have undertaken structural adjustment programs since the mid-1980s as a necessary step on the road to sustainable, poverty-reducing growth. Although there has been a turnaround in growth for a number of countries, economic performance for the region as a whole has been disappointing. This poor economic record has sparked debate on the adjustment process itself: does Africa’s poor performance represent a failure to implement the needed policy reforms? Or is it a failure of the design of the adjustment policies themselves?

To gain some insight into how much adjustment has taken place and how successful it has been in African countries, the World Bank recently conducted a major study, Adjustment in Africa: Reforms, Results, and the Road Ahead. The study compares the policies and performance of 29 Sub-Saharan African countries during two periods: from 1981 to 1986, when most African countries were in economic crisis, and from 1987 to 1991, when all countries introduced economic adjustment programs. The cutoff point was 1991, as macroeconomic data for all countries were available only through that year at the time the research was carried out. A companion report, Adjustment in Africa: Lessons from Country Case Studies (see following article), documents reform efforts in seven countries and thus complements the regional perspective here.

The study shows that Africa’s inability to improve growth is mainly the result of a lack of sustained reform, not a failure of the reforms themselves. Indeed, in the few countries that have implemented and sustained major policy reforms, there has been renewed growth. However, many countries have yet to implement the reforms needed to restore growth. And even among the strongest adjusters, no country has gone the full distance in putting a stable macroeconomic framework in place.

Even if implemented fully, adjustment policies alone are not enough to put African countries on a sustained, poverty-reducing growth path. Development requires much more than just good policies. It also requires sustained investment in human capital and infrastructure, strong institutions, and good governance.

Why the need to adjust

According to the study, the decline in the terms of trade from the early 1970s to the mid-1980s—which also affected developing countries outside Africa—accounted for a relatively small part of Africa’s collapse in growth. Poor policies played a bigger role. In pursuing the ambitious development objectives of the postindependence period, African countries adopted policies that were not conducive to growth and ultimately reduced their flexibility in responding to terms of trade shocks. Among poor policies, both macroeconomic and sectoral, the following deserve special mention.

  • Many African countries had severely overvalued exchange rates by the mid-1980s. Indeed, among developing countries, these nations had by far the largest parallel market premiums for foreign exchange.

  • The ratio of government consumption to GDP, averaging 15 percent between 1975 and 1986, exceeded those of other regions by nearly 5-6 percentage points, a result of public sector expansion during commodity booms that proved difficult to scale back when the booms ended.

  • Most African economies followed an inward-oriented, import-substitution strategy, supplemented by widespread use of tariff and nontariff barriers to reduce external competition, mainly in manufacturing.

  • Farmers were taxed 70 percent more than in countries in other regions.

To the extent that deteriorating policies were critical in explaining the economic decline, would a better policy environment reverse the decline? According to the study, countries that sustained a better policy environment enjoyed significant increases in growth, exports, and agriculture. Progress in improving policy reforms, however, has been uneven, across both countries and sectors.

Macroeconomic reforms. Six of the adjusting countries saw a large improvement in policies, 9 a small improvement, and 11 a deterioration, based on the index of macroeconomic policy reform developed in the study. Taken as a whole, these countries have cut their budget deficits and reduced inflation to moderate levels. Countries with flexible exchange rates (those outside the CFA franc zone) have reduced the premium on the parallel market for foreign exchange and effected a needed 50 percent real depreciation.

Trade reforms. Many countries have substantially reduced the number of imports subject to nontariff barriers and have begun to rationalize the tariff structure to encourage greater efficiency. Most of the countries with a flexible exchange rate have moved to more automatic systems of granting foreign exchange licenses.

Agricultural reforms. Two thirds of the adjusting countries are taxing their farmers less. Despite huge declines in real export prices, policy changes increased real producer prices for agricultural exporters in 10 countries. Of the 15 governments that had major restrictions on the private purchase, distribution, and sale of major food crops before adjustment, 13 have withdrawn from marketing almost completely.

Public enterprise and financial sector reforms. Less progress has been made in public sector reform. The pace of privatization has been slow, with African governments selling off only a small portion of their assets. Financial flows to public enterprises are still high, and overall performance has not improved. One encouraging trend, however, is that governments have stopped expanding their public enterprise sectors.

In the financial sector, there has been progress in rationalizing real interest rates and in increasing private sector ownership in commercial banks. Efforts to restructure and recapitalize banks have been less successful, however, as banks have continued to lend to unhealthy public enterprises, undermining the sustainability of the restructuring efforts.

Policy reforms pay off

The group of countries that instituted the most extensive macroeconomic reform policies between 1981-86 and 1987-91 enjoyed a median increase of GDP per capita growth of almost 2 percentage points. By contrast, countries that did not improve their policies saw their median GDP growth decline by 2.6 percent. A similar pattern is evident for export and industrial growth (Chart 1). As for agriculture, countries that taxed their major export crops less experienced a jump of 2 percentage points in the growth of total agricultural value added, while countries that penalized their farmers more saw agricultural growth rates fall by 1.6 percentage points.

Chart 1.Payoffs to improving policies

(median changes in average annual growth rates between 1981-86 and 1987-91)

Note: Chad. Guinea, and Guinea-Bissau are not included because of insufficient data

Source: Adjustment in Africa: Reforms. Results, and the Road Ahead.

To the extent that macroeconomic policies matter—and they do—getting the exchange rate right is one of the top priorities for short-term growth. Countries that significantly reduced the black market premium (by devaluing) and adopted realistic macroeconomic policies enjoyed the biggest payoffs (e.g., Ghana, Nigeria, and Tanzania). Countries that brought about a real depreciation of 40 percent or more between 1981-86 and 1987-91—all of them with flexible exchange rates—had a median increase in GDP per capita growth of 2.3 percentage points (e.g., The Gambia, Mauritania, and Sierra Leone). Countries that had appreciations—all of them with fixed exchange rates—suffered a median decline of 1.7 percentage points (e.g., Cameroon, Côte d’lvoire, and Gabon).

There were payoffs not only to improving policies, but also to maintaining good policies. Countries assessed as having adequate or fair macroeconomic policies had a median rate of GDP per capita growth of 0.4 percent a year during 1987-91—low, but at least positive. By contrast, in countries ranked as having poor or very poor macroeconomic policies, median GDP per capita growth fell by 2.1 percentage points a year on average.

The extent of government intervention in markets also made a difference in growth. Countries with limited intervention had median GDP per capita growth of almost 2 percent during 1987-91, compared with declines of more than 1 percent for the countries that intervened more extensively.

These countries’ economic policies have continued to evolve, of course, since the study was completed. The recent devaluation in the CFA franc zone countries provides a unique opportunity for a rapid and noticeable rebound in growth (see “Striving for Stability: CFA Franc Realignment” in this issue). Success, however, largely depends on whether (1) the devaluation is accompanied by supporting fiscal and credit policies to ensure that it is not eroded by large increases in domestic prices, and (2) the benefits of the higher prices for tradable goods are passed along to agriculture producers, so that exports can become a dynamic factor and energize growth. Other countries have also taken steps to improve their macroeconomic policies since 1991, notably Mauritania, Mozambique, Sierra Leone, Uganda, and Zambia. But policies have worsened in Burundi and Nigeria, while Kenya has exhibited both backsliding and improvement.

Room for better policies

Policy reforms have helped restore positive rates of growth of GDP per capita in many countries. Despite improvements in policy, most African countries are still far from implementing the sound economic policies of the fast-growing countries in other regions. While changes in macroeconomic policies have moved several countries closer to what might be considered good policy, there is still room for improvement. Even for the best African performers, the fiscal deficits are large and financed mostly by external aid; inflation is above international levels; and the parallel market premium for foreign exchange still remains. For instance, Ghana had inflation rates well in excess of international levels (about 30 percent), while Burundi and The Gambia had parallel market premiums of about 20 percent. In some other countries, even substantial improvements in macroeconomic policies leave them a long way from adequate policies.

What more must be done to generate rapid growth and reduce poverty? Progress is needed in all aspects of the development agenda, particularly investments in people and infrastructure. But for those investments to pay off, sound economic policies must be implemented and sustained. Many of the African countries are moving in the right direction with their macroeconomic, agricultural, and trade policies, and most policymakers agree on what still needs to be done. But there has been little progress in reforming public enterprises and the financial sector, and there is much less consensus on how to proceed. Reform in these sectors is particularly difficult because of the powerful vested interests that have been created through government intervention.

Getting macroeconomic policies right. Countries should continue with the current strategy: avoiding overvalued exchange rates and keeping inflation and budget deficits low. Most countries in the region still need to cut budget deficits and indirect fiscal losses (those covered by the banking system) in order to lessen the need for inflationary financing or additional external financing. More needs to be done to increase savings. Eliminating large negative real interest rates is an important step; however, given the difficulty of obtaining rapid growth in private savings, raising public savings is the best option in the short run.

Taxing agriculture less. In agriculture, the main policy reform task is to continue reducing explicit and implicit taxation of farmers by reducing the bias against tradable crops created by overvalued exchange rates and by liberalizing pricing and marketing of export and food crops. In many cases, there is no clear rationale for agricultural marketing parastatals, and they can be eliminated as barriers to private sector entry are removed. These reforms can help farmers reap the full benefit of the exchange rate depreciations, the additional earnings from which might otherwise be used to shore up the financial position of parastatals.

Putting exporters first. Because exports are so beneficial for growth, countries should seek to remove unnecessary policy impediments that hinder export competition. Providing exporters with automatic access to imported foreign exchange, eliminating export monopolies, and facilitating access to intermediate inputs and capital goods would reduce bias against exporters. Direct government promotion of particular exports or exporters is not indicated, given the difficulty of insulating technocratic decisions from political considerations.

Rationalizing import barriers. There has been progress in eliminating widespread government controls over access to foreign exchange and import licenses, but most countries have gone only partway. African countries should continue to replace nontariff barriers with tariff-based protection to rationalize the trade regime and increase transparency. The next steps on the agenda are to simplify the tariff structure, reduce the highest rates to more moderate levels, and institute a minimum tax—so long as effective systems are in place to provide exporters duty-free access to imports. These reforms can often generate enough government revenues to offset a fairly substantial overall lowering of tariffs while leading to a more competitive environment and productivity gains. Beyond that, further progress toward a low and completely uniform tariff structure should not sacrifice fiscal revenues.

Privatizing public enterprises. Well-functioning infrastructural services can help to promote private investment and growth. Despite efforts at rehabilitation, the quality of public services in many countries remains poor. Greater focus on private sector delivery holds promise, especially as the alternatives—imposing hard budget constraints, granting the enterprises greater autonomy, and putting them on a commercial footing—have seldom worked in an environment where the institutional capacity and willingness to subject public enterprises to market discipline is lacking. But many barriers to greater private sector participation, including privatization, remain. Progress on divesting even the “nonstrategic” enterprises that do not provide public services, has been limited, reflecting the difficulties, political and otherwise, of reform in this area.

Countries elsewhere are getting around the obstacles to privatization, and their experience may be useful for African countries. Some of these countries have fostered broadly based ownership by giving private citizens vouchers for shares in public enterprises or by reserving shares for employees. For natural monopolies, many countries are finding it advantageous to promote private sector management and delivery of essential public services—through leasing or concession arrangements, for example—even while maintaining public sector ownership where necessary.

Prudent financial reform. The overall approach to financial development is on target, but reforms have suffered from too much faith in quick fixes. African countries need to continue with a three-part strategy of reducing financial repression, restoring bank solvency, and improving financial infrastructure. Adjustment programs have been overly hasty in cleaning balance sheets and recapitalizing banks in an environment where institutional capacity is weak, and the main borrowers (the government and public enterprises) are financially distressed. Many programs were based on the assumption that banks could improve their performance simply by removing the bad loans from their balance sheets, replacing managers, and injecting new capital to bring assets up to international standards. These steps have proved to be insufficient because reforms were not accompanied by needed macroeconomic and structural changes, bank managers continued to be exposed to political interference, and regulatory and supervisory capacities were inadequate and could be developed only over time.

A more prudent strategy to restore bank solvency involves downsizing publicly owned banks, privatizing them where possible, and encouraging new entrants. Because most African countries have limited capacity to regulate and supervise, the challenge is to devise a financial system that offers extra cushions against risk. These may include setting higher-than-normal capital adequacy ratios, relying more on foreign banks, and limiting entry to reputable banks with a solid capital base. Countries must strike a balance between the need to increase competition and the need to ensure the solvency of financial institutions.

Improving public sector management. Public sector management capacity in Africa is weak. Many adjustment reforms are intended to free up this scarce capacity by reducing government intervention in the production and distribution of goods and services, so that the state can concentrate on fulfilling its essential tasks. These include providing law and order, a stable macroeconomic framework conducive to growth, and basic social services. Enhancing the capacity of the state to carry out such tasks is part of the long-term development process, and not something that adjustment-related policy reforms should be expected to bring about in the short term.

Restructuring external debt. So far, aid flows and concessional lending have more than offset debt-service payments. But in the medium and long term, as countries adopt better policies, the debt overhang is likely to deter private investment. Further, the debt-service burden threatens to eat away at increased export earnings and domestic savings that might otherwise be used in pursuit of long-term development objectives. Even the proposed debt relief strategies under consideration would leave some countries with an unsustainable debt burden. Instead, the focus should be on reducing the stock of debt to sustainable levels for countries that are undertaking comprehensive and sustained policy reform programs, even if that means differences in treatment across countries.

Protecting the poor. It is very difficult to assess the impact of adjustment on the poor due to a lack of data for the region as a whole. The evidence from Côte d’lvoire shows that poverty increased substantially in the late 1980s, as policies deteriorated and economic recession took hold. Evidence from other areas in the world, notably East Asia, demonstrates that countries that have been the most successful in attacking poverty have encouraged a pattern of rapid growth that makes efficient use of labor and have invested heavily in the human capital of the poor. Improvements in macroeconomic and agricultural sector policies in Sub-Saharan African countries should also help to foster a more broadly based labor-intensive pattern of growth beneficial to the poor, the vast majority of whom live in the rural sector. However, reforms that have improved producer incentives have sometimes had negative consequences for those consumers who benefited from food subsidies and cheap imported foodstuffs. While evidence on the incidence of these subsidies is limited, indications are that subsidized foodstuffs were often highly rationed and did not extend to the poor, limiting the potentially negative impact of these reforms.

Contrary to what is commonly thought, those countries that improved their macroeconomic policies managed to increase slightly the level of social spending by the government as a percentage of GDP (Chart 2). Countries in which macroeconomic policies deteriorated, however, experienced a drop in social expenditures. Eliminating large macroeconomic distortions enabled countries to restore their tax base, giving them greater scope for protecting social expenditures. Despite this achievement, however, much remains to be done to improve the quality of spending within the health and education sectors in support of poverty reduction. African countries spend twice as much of their education budget on universities as countries such as Korea, Indonesia, and Thailand, even though literacy rates lag far behind. Similarly, too little of the health budget is spent on basic health services. Improving public spending policies is desirable not only because it can lead to improvements in social indicators in the short term, but also because, as the East Asian economies have shown, it contributes to rapid, broadly based growth and poverty reduction over the long term.

Chart 2.Health and education expenditures

(percent of GDP)

Source: Adjustment in Africa: Reforms, Results, and the Road Ahead.

Conclusion

In Africa, the road to sustainable development and rapid poverty alleviation is bound to be long and difficult. Structural reforms are essential, but they alone will not assure rapid growth; investments in human capital, infrastructure, institutional capacity, and a strong commitment to good governance are important and essential ingredients as well. But the experience of countries that have sustained reforms in Africa has shown that adjustment is the first and crucial step to restoring growth and getting back on the road to development.

For further detail and analysis, see Adjustment in Africa: Reforms, Results, and the Road Ahead, a World Bank Policy Research Report led by Christine Jones and Miguel Kiguel.

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