ECA Media Advisory ERA 2006

January 05, 2007

The 2006 edition of the Economic Report on Africa: Capital Flows and Development Financing in Africa places capital flows at the centre of the debate on development financing and examines how external capital can help countries accelerate growth and reduce poverty.

Despite growth rates above 5 per cent from 2004 to 2006, this is not sufficient to meet the Millennium Development Goals (MDGs). Constraining the ability of African countries to accelerate and sustain growth and reduce poverty are various imbalances in the areas of trade, resource flows and investment. African countries thus need to mobilize more domestic and external financial resources to fill the financing gaps.

Capital flows to Africa in the form of aid, remittances and foreign direct investment have increased considerably over the past four years, says the Report. However, they are unevenly distributed among countries. In addition, capital flows to Africa are highly volatile and unpredictable, increasing macroeconomic uncertainty and undermining government's ability to design and sustain long-term development plans.

The Report makes the following recommendations in aid of increasing capital inflows and more efficient usage:

- African countries need to improve the investment climate to encourage both domestic and foreign investment. Consolidation of reforms will alleviate political and macroeconomic uncertainty and reduce sovereign risk. In addition, there is a need to minimize factor costs, especially through reliable energy supply and adequate public infrastructure.

- Each country needs to identify and target sectors that have high potential for employment creation. Countries need quantitative measures of the employment impact of investment across sectors. Governments can then use this information to design incentive mechanisms that will help channel foreign capital into sectors with the highest employment creation potential.

- Promoting regional financial integration will help overcome the constraint of underdeveloped financial markets. There is a need to capitalize on existing regional integration arrangements to foster financial integration, which will expand the scope for investment and resource mobilization, increasing the attractiveness of African markets in the eyes of foreign investors.

- African countries need mechanisms for monitoring and managing capital flows to minimize the risks of financial instability. To achieve this, African governments should develop adequate statistical capacity to track capital flows and monitor warning signs of financial fragility.

- African countries need to design strategies to increase the contribution of the Diaspora to economic development. African governments should establish mechanisms and incentives to increase the volume of remittances and encourage higher allocations of remittances to investment.

- Development partners have to honour their commitments with regard to the Monterrey Consensus. Developed countries should make every effort to reach the target of 0.7 per cent of Gross National Income (GNI) for Official Development Assistance (ODA) as soon as possible and to reduce aid volatility. They should also step up measures to facilitate the flow of Foreign Direct Investment (FDI) to African countries, especially in non-oil sectors.

Even as African countries seek ways to increase the inflows of official and private capital, they need to be aware of the potential negative effects of a surge in these inflows on their economies. ERA 2006 points out that with appropriate capital management strategies, African economies could absorb higher external capital with minimal adverse effects. In other words, there is ample room for scaling up external resources to support Africa's efforts to accelerate growth and reduce poverty.

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Issued by the ECA Information and Communication Service