ECA's Thirty-third session of the Commission/Twenty-fourth meeting of the Conference of Ministers/Seventh Conference of African Ministers of Finance
6 - 8 May 1999 Addis Ababa, Ethiopia

V. Capital Flight Issues

60. Africa has a larger proportion of wealth held overseas by residents than any other continent (39 per cent vis-à-vis 6 per cent for East Asia before the crisis). Another possible non-conventional source of financing development which has not been adequately explored is, therefore, the possible stemming and reversal of capital flight, which has devastated Africa’s development over the years. Notwithstanding definitional problems, there is ample evidence that the amount of capital flight is significant. Between 1982-91, capital flight from the severely indebted, low-income countries in sub-Saharan Africa was about $22 billion (Ajayi, 1997), equivalent to about half the external resources required for development as estimated by Amoako and Ali (1998) — see Section II. It is also noteworthy that as Africa struggles to cope with debt, for about 18 countries, the average capital flight/debt ratio was over 40 per cent—and much higher for some countries (94.5 per cent for Nigeria, 94.3 per cent, Rwanda, 74.4 per cent for Kenya and 60.5 per cent for Sudan). In relation to GDP, capital flight was estimated as high as 133 per cent for Nigeria, 102 per cent for Sudan and 58 per cent for Kenya, respectively. (Ajayi, 1997). Capital flight constitutes a menace to, and a diversion of resources from Africa's development.

61. There are serious negative consequences of capital flight. First, any amount of money sent away to foreign lands cannot contribute to domestic investment. Thus, capital flight is a diversion of domestic savings from domestic real investment. Second, income and wealth generated and held abroad are outside the purview of domestic authorities, and therefore cannot be taxed. Thus, potential government revenue is reduced, thereby constraining project execution and debt-servicing capacity (Ajayi, 1992). Third, income distribution is negatively affected by capital flight. The poor citizens of African countries are subjected to austerity measures in order to pay for external debt obligations to international creditors.

62. Given the magnitude of capital flight and its macroeconomic significance, the policy challenge is how to stem capital flight and cause its reversal. In order to achieve this objective, there is need for an understanding of the causes and means of effecting capital flight from Africa. The causes of capital flight are many—economic and otherwise. The economic causes stem largely from relative risk, exchange rate misalignment, financial sector constraints and/or repression, fiscal deficits and external incentives. Other causes include corruption of political leaders and extraordinary access to government funds (Ajayi, 1992). Trade faking is a key instrument for illegally effecting capital transfer. Four categories of international trade faking have been identified in Africa (Ajayi, 1997): under-invoicing of exports and over-invoicing of imports, over-invoicing of both exports and imports, under-invoicing of both exports and imports and over-invoicing of exports and under-invoicing of imports. Over-invoicing/under-invoicing in Africa can arise from the maintenance by countries of overvalued currencies and foreign currency restrictions (Ajayi, 1992). Second, the existence of high import duties can provide the incentives among importers to under-invoice imports in contrast to the usual case of over-invoicing imports when a premium exists on foreign exchange in the black market. Third, if there is a subsidy on imports it will likely cause over-invoicing of imports. Fourth, if a subsidy exists on exports, it will lead to over-invoicing of exports

63. Econometric analysis clearly shows that domestic macroeconomic policy errors are the culprit in capital flight. Of particular significance are policy errors that cause inflation, exchange rate misalignment (generally, currency overvaluation) high fiscal deficits and the lack of opportunities for profitable investment within the domestic economy. The policy challenge lies in establishing a stable macroeconomic environment, avoiding an overvalued exchange rate, maintaining free access to foreign exchange through the market system, and maintaining a trade liberalization policy, where high tariffs and subsidies are eliminated. In many African countries, surveillance and monitoring are also necessary. Indeed, where policies to meet these objectives have been sustained, there is evidence of reversal of capital flight. In a number of countries, including Côte d'Ivoire, Uganda, Ghana and Kenya, this began to happen in the late 1980s and early 1990s as a result of a favourable macroeconomic environment — reinforced by political stability and the availability of more investment instruments. But the significant edge foreign countries have over Africa in terms of investment safety and flexible investment instruments cannot be ignored. It stems from the financial repression which was characteristic of most African countries until recently. The financial liberalization embarked upon by a number of African countries is helpful, and will be even more so as capital markets develop, in the process of stopping or reducing capital flight, and encouraging capital inflows.

64. Capital flight from Africa has political dimensions that must be addressed. First, there is anecdotal evidence that some African leaders and government officials — through the perquisites of their offices — operate huge, foreign currency-denominated accounts outside their countries, which is tantamount to abuse of office. Those who illegally acquire such assets should not be allowed to circumvent the due process of law. The time has come for transparency and accountability in governance. The second political dimension is the responsibility of countries that play host to such accounts to discourage the placement of such money by refusing to accept it. This can be very helpful to African countries in retaining within their borders funds which they badly need for development. It would also be very helpful to Africa if the whole of the international community enforced a system of account disclosure, whereby the accounts of foreigners (with owner's name) after a given account balance threshold are periodically (say quarterly) published in papers that circulate internationally. In the case of large accounts where the owners have died, it would be helpful if access to such illegally acquired wealth could be given to the treasury of the country of origin of the depositor.

65. Much of capital flight from Africa appears to have originated from illicit diversion of public funds rather than to have been constituted by business incomes seeking economic stability or high yields abroad. To that extent, market confidence and policy credibility considerations probably play a minor role in the decisions about where the funds are invested. A change in the banking regulations of those developed countries where these funds tend to be invested would probably be a more effective measure towards their repatriation, as indicated above, and also by UNCTAD (UNCTAD: 1998(a), pp. 215-216). It should, however, also be recognized that considerations of risk and return are not completely irrelevant in explaining capital flight out of Africa. Greater political stability, effective property rights, investment incentives and stable exchange rates have often helped to stem and/or reverse capital flight.