The African Department
International Monetary Fund
Names: Alper, C. Emre | Chen, Wenjie, Professor of international business. | Dridi, Jemma. | Joly, Hervé, 1966- | Yang, Fan, 1951-
Title: A work in progress: integrating markets for goods, labor, and capital in the east African community / C. Emre Alper, Wenjie Chen, Jemma Dridi, Hervé Joly, and Fan Yang.
Description: Washington, DC : The African Department, International Monetary Fund, 2016.
Identifiers: ISBN 9781475560350 (paper)
Subjects: LCSH: Africa, East — Economic integration. | Economic development – Africa, East. | East African Community.
Classification: LCC HC860.A44 2016
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The paper was prepared by C. Emre Alper, Wenjie Chen, Jemma Dridi, Hervé Joly (who led the preparation of this paper), and Fan Yang. The authors would like to thank Roger Nord, David Robinson, Axel Schimmelpfennig, the AFR Research Advisory Group members (Aidar Abdychev and Farayi Gwenhamo), and Dr. Pantaleo Kessy (EAC Secretariat) for useful comments and suggestions. They thank Francine Nyankiye for excellent research assistance. All remaining errors are the authors’ own.
The East African Community (EAC) aims to deepen cooperation among its member states in the political, economic, and social domains. The EAC was formally established by Kenya, Tanzania, and Uganda in 2000; Burundi and Rwanda subsequently joined in 2007.1 Economic and financial integration in the EAC has been supported by several initiatives, including joint protocols and common regulatory frameworks. It is likely to deepen further as new initiatives (for example, regional infrastructure projects) get under way. Three main protocols have underpinned the process of integration: the customs union or CU (C2005), common market or CM (2010)2, and monetary union protocol (2013). In principle, EAC member countries have pursued economic integration not only for its economic benefits but also as a stepping stone to political integration—the ultimate objective.3
The EAC as a whole is among the fastest-growing regions, but there are significant differences across countries. Growth has been strong for many years in most member countries, allowing for a significant increase in living standards.4 The situation in Burundi, however, has been less favorable, leading to large differences in per capita income across member countries. While agriculture still represents a large share of economic output and exports in all EAC countries, there are significant differences in economic structures. Kenya, Tanzania, and Uganda have had more diversified exports in recent years, for instance (see Drummond, Wajid, and Williams 2015). Kenya has a much more developed financial sector than the other EAC countries (see Appendix I). All countries in the EAC are net commodities importers, but a number of them face the prospect of becoming significant hydrocarbon producers.
This paper assesses the extent of economic and financial integration along a number of dimensions and, where possible, whether integration has increased in the wake of the major regional integration policy milestones. Since the purpose of the common market is to have free movement of goods, capital, and people, the paper focuses on these broad categories. Data availability and quality, however, are often a major limitation. For instance, there is no direct and comprehensive measure of capital flows between EAC countries, and data on labor flows are very scarce. Therefore, the objective of this paper is not to be comprehensive, but to propose a number of stylized facts and quantitative approaches allowing for at least a partial assessment.
Trade integration does not seem to have increased significantly since the implementation of the CU. External tariff rates in EAC countries have decreased significantly between 2000 and 2014, with the average external tariff rates converging to about 12–14 percent, while all EAC member states have reached zero effective tariff rates for intra-EAC trade. However, while intra-EAC trade has grown substantially in nominal terms, the share of intra-EAC imports in total imports has not increased since the implementation of the CU and remains low (single digit). On the export side, intra-EAC trade represents a higher share of total exports (about 20 percent) because the value of total exports is much lower than that of total imports. Gravity equation estimates show that the intensity of bilateral trade within the EAC lags behind that within Asia, America, and Europe even after controlling for size, level of development, culture, and distance. However, intra-EAC trade is more intensive than in any other region in sub-Saharan African, except for the West African Economic and Monetary Union (WAEMU) area.
Labor mobility in the EAC does not seem to have increased significantly either with the implementation of the CM. The analysis of available data on bilateral EAC migration and remittances in this paper shows that (1) significant migration flows occur in EAC countries, (2) these flows are to a significant extent intra-EAC flows, (3) they are more significant for the smaller countries, (4) intra-EAC migration flows do not seem to have increased in recent years, and (5) intra-EAC remittances are low and do not appear to have increased meaningfully following the implementation of the CM.
Financial market integration remains limited, too. There still exist many legislative restrictions on the free movement of capital within the EAC that inhibit or make entry into the market expensive. While Uganda, Kenya, and more recently Rwanda have achieved a higher degree of capital account openness in the EAC, Tanzania had restrictions on all assets until recently. In the absence of data on intra-EAC capital flows, the application of the beta-convergence and sigma-convergence concepts to financial market returns for various maturities provides an indirect (and imperfect) way to assess financial integration. Empirical estimates point to convergence in short-term market returns within the EAC. Yet, there is no evidence for such convergence in longer-maturity instruments.
Overall, the implementation of the CU and CM do not seem to have led to a major increase in economic and financial integration in the EAC. This paper does not elaborate on the reasons for this empirical result, which could reflect a range of very different issues. For instance, there could be measurement problems, such as the possible misclassification of transit trade or underreporting of cross-border trade in the EAC, which could affect significantly the quality of available data.5 There could also be exceptional factors at play, such as high hydrocarbon prices during a large part of the period under review or infrastructure investment efforts, both having a large impact on imports from the rest of the world, that could distort the evolution of certain ratios and lead to an underappreciation of the development of intra-EAC trade. Another factor could be the time needed for policies to change existing patterns, and the limited scope of the first phase of CM implementation. However, a number of existing studies have pointed to the incomplete implementation of the CU and CM protocols. For instance, there are still many nontariff barriers affecting intra-EAC trade. The comprehensive assessments (“scorecards”) conducted in 2013–14 and 2015–16 by the EAC Secretariat and the World Bank note that laws and regulations of the EAC countries still present barriers to increased cross-border trade and foreign direct investment into the region (EAC Secretariat 2014, 2016). Progress to eliminate restrictions has been slow, and some countries have introduced new measures despite their obligations under the CM. These factors have likely slowed the development of the common market.