Policymakers discuss capital flows and sustainability of African current accounts

Addis Ababa, 14 September 2005  -  In a bid to improve African countries’ capacity to balance their import spending and export earnings, economists from the ECA are hosting a two-day workshop starting 21 September in the Ghanaian capital, Accra, for some 60 African policy makers.

Participants in the workshop, entitled Capital Flows and Current Account Sustainability in African Economies, will discuss issues surrounding capital flows, especially direct foreign investment and its relationship to current accounts.

Capital inflows for investment in Africa can contribute greatly to its development efforts. In turn, current account sustainability is of major importance to Africa, particularly as it relates to investor confidence.

In recent years, the number of African countries with current account deficits of more than 10 percent of GDP decreased from 16 in 2001 to only seven in 2004. Indeed, some 14 countries are running surpluses in their current account. However, most of these countries (8 out of 14) are oil-producing nations, which have largely benefited from higher international oil prices and robust oil production levels. Hence, it is unclear as to how sustainable this short-term surplus is.

In the case of countries with high current account deficits (i.e., most Least Developed Countries), there is an over-reliance on highly volatile commodities exports. Without significant industrial output, their export revenues are insufficient to meet the expenditure for much-needed imports of agro-industrial equipment. This leads to foreign exchange shortages and the consequent economic and financial instability.

 “There is an over-reliance by African countries on the exports of non-renewable mineral resources and other primary commodities, which can be risky given the price volatility of both,” said Augustin Fosu, the director of ECA’s Economic and Social Policy Division.

A country’s current account is the segment of its balance of payments that records its current transactions with the rest of the world, including trade, income from international investments, and transfers. For most African countries, the amount spent on incoming trade in goods and services is higher than their export earnings, causing current account deficits.

“A problem is that when a country carries continued high current account deficits, it normally causes a rise in interest rates,” Fosu explained. “This invariably implies a decrease in investment capital, especially internal.”

He added that the performance of many African economies is still precarious due in part to the irregular nature of capital flows.

In principle, private and public capital flows and transfers, such as Foreign Direct Investment (FDI), portfolio investment, Overseas Development Assistance (ODA), and remittances from migrants, offset current account deficits.

However, in the case of Africa, most of these flows are highly unpredictable. And, as the Asian experience has shown, abrupt reversals of capital flows can be very disruptive for exchange rates and current account sustainability.

Besides the highs in oil and commodities prices, several factors help countries moderate their current account deficits in Africa. For example, remittance inflows are potentially a major source of external finance. And, more recently, as ODA flows declined over the 1990s, remittances became ever more significant, increasing between 1980 and 2002, from 1.4 per cent of GDP to 2.1 per cent of GDP.

Another item that can have a major contribution to economic success is FDI. Unfortunately, FDI to Africa remains low at about 1.7 per cent of global FDI inflows in 2002.

The structure of African economies and the nature of the global economic system are not likely to lead to current account surpluses for the majority of countries. But, reversing the trend away from unsustainable deficits is crucial to reducing economic risk and instability, in order to provide Africa with the building blocks for growth.