## The Role of the Private Sector in African Development

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### March 2004

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**The views expressed in this and other papers associated with the NIC
2020 project**

**are those of individual participants. They are posted for discussion
purposes**

### only and do not represent the views of the US Government.

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## The Role of the Private Sector in African Development

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### The role of the private sector in African development is critical. Bluntly, without private sector buy-in the vision of a growing and prosperous Africa will not materialize. Government can provide the yeast which will make the bread rise but it is business that will have to provide the "dough' -- in all the meanings of the word. The NEPAD vision document, for example, outlines an ambitious agenda for raising the average economic growth rate of the Continent from some 2.6 per cent per annum in the 1990s to 7 per cent per annum for the next 15 years, the latter being the minimum required to halve the incidence of poverty over the period. According to this vision, achieving 7 per cent per annum growth requires that fixed investment must rise above current levels by some \$64 billion per annum, this additional sum to be funded by a combination of increased domestic savings, foreign aid and foreign direct investment. How much will come from each of these sources is not specified, but as this amount is equal to some 20 per cent of Africa's GDP the vision document notes that the bulk will clearly have to come from outside the Continent.

Accepting for the moment the figures above, the required additional \$64
billion per annum compares with official development assistance -- or
aid -- flows to Sub-Saharan Africa in 1999 of only \$12.3 billion, which
itself was only two-thirds of the \$18.1bn received in 1994. In real
terms foreign aid has fallen by 7 per cent per annum throughout the
1990s. The efficacy of aid is itself a matter for debate and certainly
there is an argument that aid should be more focused on backing winning
nations. But aid has fallen also for countries such as Ghana,
Mozambique, Uganda and Tanzania who are widely applauded for having
improved their economic policies. Even if this decline is reversed, a
doubling of aid from 1999's levels (and its focus on investment
spending) would provide less than one-fifth of the additional \$64
billion per annum that is deemed to be required for continental
investment.

Most of the remaining \$52 billion will have to come from private sector
direct investment and commercial bank loans. To put the magnitude of
this sum into perspective, if South Africa is excluded both as a source
and destination of investment in the region, only \$2.9bn of foreign
direct investment flowed into Sub-Saharan Africa annually during the
1990s. This amount represents less than 1 per cent of global foreign
direct investment and only about 3 per cent of global FDI into low or
middle-income countries. Moreover, the bulk of this investment went into
just 3 countries -- Nigeria (\$920 million), Angola (\$657 million) and
Lesotho (\$175 million). Five other countries -- DRC, Cote D'Ivoire,
Equatorial Guinea, Namibia and Sudan -- accounted for another \$700
million, which means that the remaining countries of Sub-Saharan Africa
received just \$600 million per annum between them.

Raising African investment levels to meet desired growth goals is
clearly a mammoth task. This is especially so when the attractiveness of
the Continent as an investment destination is judged against the reality
of its small size as a market. Sub-Saharan Africa has a population of
some 660 million people - some 12 per cent of the population of the
globe -- and this population is growing at a rate of 2.7 per cent per
annum. But the economic output (GDP) of Sub-Saharan Africa of \$320
billion represents only some 1 per cent of global production. As a
result per capita income of \$500 is only some one-tenth of the global
average. Put differently, in value terms Sub-Saharan Africa represents a
market less than 4 per cent the size of that of the United States. More
starkly, the entire Sub-Saharan African market is smaller than the
quantum by which the US economy grew each year from 1997 to 2000 or in
2003.

The blunt reality, therefore, is that Sub-Saharan Africa represents a
market of many people, but as customers they are presently like window
shoppers with limited buying power. The implications of this for
attracting investment into Africa are profound. It means that larger
investments will tend to focus on one of two areas: Firstly, those where
Africa has a specific advantage -- for example, oil, mining and other
natural resources. Such industries usually produce for a global market
and are therefore not necessarily limited by the size of the domestic
market. Moreover, natural resources are necessarily location bound. This
means that, where favourable deposits exist, natural resource companies
are more willing to work their way through bureaucratic obstacles, poor
infrastructure and unfavourable fiscal regimes in an effort to ensure
than prospective projects are able to match their required investment
criteria. This is not to say that even the most favorable natural
deposit cannot be effectively sterilised by a hostile investment
climate; but, rather, that natural resource companies will be more
patient and persistent in seeking to overcome existing problems than
would a more footloose manufacturer.

The second type of investment for which Africa is potentially attractive
is in the production of exports -- especially in the labour-intensive
fields of agriculture, textiles and clothing. Examples of this are
investments taking advantage of Africa's preferential access to large
global markets - such as provided by the US Africa Growth and
Opportunity Act, the Lomè Convention or South Africa's free trade
agreement with the European Union. Thus the US for instance anticipates
that imports of African-made clothing could rise from US\$250 million to
US\$4.2 billion over 8 years as a result of preferential treatment
provided by AGOA.

But even these investments will not occur if the perceived risk of doing
business is too high. President Obasanjo of Nigeria some years ago
berated Africa's critics, pointing to evidence that the returns on
investment in this Continent are often as high as 35 per cent. How can
such investments be considered risky, he asked? But this argument
confuses cause and effect. It is precisely because doing business in
this Continent is considered risky that investment is pretty much
limited to the opportunities where such returns are available. And such
investments are few and far between -- there are certainly not \$52
billion per annum of investments generating a 35 per cent return. The
required rate of return simply has to be reduced by lowering perceived
risks.

In this regard a number of questions need to be answered:

1.  It was argued above that natural resource industries are necessarily
    location bound and that companies in this field will necessarily be
    more patient in overcoming regulatory obstacles. Yet in mining,
    while it is easy to produce a long list of new South African mining
    projects both in South Africa and the rest of the Continent, a list
    of foreign miners being active in either South Africa or the rest of
    Africa remains embarrassingly short. This is despite a raft of
    potential opportunities. Why, for example, has no major global
    mining group -- even at the Rand's lowpoint - made a bid for, say,
    Impala Platinum, Lonro or even Gold Fields? The blunt reality is
    that these companies either perceive the risks of investing in the
    Continent as being too large relative to the rewards or they believe
    that their shareholders will penalise them for what they believe to
    be too big an investment risk. The latter point is important and is
    perhaps best illustrated by AngloGold's experiences in its recent
    bid for Ashanti. At the time of the bid many analysts predicted that
    one of the other major global gold producers, such as Newmont or
    Barrick, would enter the fray. But neither did. In the end
    AngloGold's only rival was a relative minnow, Randgold, whose
    ability to contest the bid was based not on a superior track record
    but on the simple fact that its paper enjoyed a higher valuation
    than AngloGold's -- purely because it is listed outside of Africa
    and therefore enjoys a higher rating in the eyes of global
    investors. Such remains the African discount which investors must
    address.

2.  Yet non-African companies are very active in Africa in the oil
    industry. Why oil and not mining? Is it simply that Africa is so
    important a future resource base in oil that they simply have to be
    here? Or are the shareholders of oil companies more used to
    perceived political risks whereas mining companies have less
    politically risky alternatives (Australia, Canada, Chile)?

3.  South African companies have also made highly successful investments
    in Africa in the areas of retail, cellular telephones and even
    aluminum smelting (Mozal) and even many large South African firms
    can point to a meaningful contribution to their bottom-line from
    sales in the rest of Africa. But again the question must be asked
    why it was, say, a South African company (MTN) that led the way in
    Nigeria and not a UK firm? Is it because South African exchange
    control regulations make investments in Africa easier that elsewhere
    in the world? Do South African companies have an advantage emanating
    from a long experience of working with government to make things
    happen? Or is the advantage more practical than this -- for example,
    MTN was able to directly translate its experience in South Africa
    where cellphones have developed into the communications medium of
    the masses and not just the rich through a combination of cheap
    cellphones to remove barriers to entry and pay-as-you-go charging
    for airtime to avoid costly problems of collecting unpaid bills?

4.  Perceptions are critically important -- they are reality. South
    Africa's positive attributes -- world-class infrastructure,
    declining fiscal deficits and tax rates, low inflation and positive
    investment ratings - have thus far generated a disappointing
    response in terms of foreign direct investment. It is notable that
    most of the foreign investment attracted since 1994 has been from
    companies with a long presence in South Africa -- such as the motor
    vehicle manufacturers and mining groups. New investors even in these
    same sectors are still disappointingly few in number. This suggests
    that outsiders take a different view of this country's prospects
    than those with more intimate knowledge of the true realities of
    doing business.

What can be done to address these perceptions and reduced the perceived
risks of investing in Africa?

-   Quite simply, the costs of doing business have to be reduced. These
    costs include corruption, bureaucracy and an uncertain legal
    environment including, importantly, security of tenure. High taxes,
    cost of capital, shortages of skilled labour, transport and
    security, all add to the cost of doing business.

-   The suspicion with which business and government too often view each
    other in Africa is an important negative. Former US Treasury
    Secretary, Jim O'Neil, memorably noted that "capital is a coward".
    Capital will only go where it feels wanted and in Africa this is
    often not the case. Where in Africa would one find a politician
    echoing the following words of Britain's Michael Heseltine: \"If I
    have to intervene to help British companies .. I\'ll intervene -
    before breakfast, before lunch, before tea and before dinner. And
    I\'ll get up the next morning and I\'ll start all over again\"?

-   The burden of risk can be reduced through the participation of
    international agencies such as the IFC and the Commonwealth
    Development Corporation. But this means true risk sharing. Too often
    international institutions seem to demand higher than commercial
    returns for their participation while taking a less that
    proportionate share of the risks.

-   In terms of global institutions the World Bank's response to the
    Extractive Industries Review (EIR), which it sponsored, is critical.
    The hugely positive impact that single projects (such as Mozal in
    Mozambique or the Skorpion zinc project in Namibia) can have on
    individual economies cannot be sacrificed on the ideological altar
    of special interest groups who predominantly share a Northern
    hemisphere, post industrial agenda.

-   Poor transport, water and other infrastructure can be a significant
    impediment to investment and trade growth. For example, gold mines
    can flourish in the absence of bulk transport systems, but copper
    mines (cf the DRC) cannot. Upgrading infrastructure through
    public/private partnerships provides a significant opportunity for
    attracting foreign investment, but in practice this often runs into
    obstacles of established interests.

-   Vested interests can be problematic in other areas also. Thus while
    one can point to the success of private sector investments in
    telecommunications this has been mainly confined to cellular
    networks. Fixed line telecommunications remains largely the monopoly
    of inefficient state enterprises and yet it is this mode of
    communication that is essential to the data transmission on which
    modern business is dependent. Even in South Africa deregulation and
    privatization of this key sector has been achingly ponderous.

-   Small is often better than big. The lesson of the European Union in
    this regard is important. The EU started with the Treaty of Rome and
    a focus on the steel industry and this developed over the decades
    into the current European Union. Talk of a common currency or a
    continental free trade area in Africa is premature. Africa should be
    disaggregated into individual countries and winning nations should
    be backed more aggressively. Individual success will then spillover
    into broader regional success and initiatives, though some regions
    already are viable building blocks (eg SACU).

-   One area in which business and government can unite in uncontested
    terrain is that of improved access for African goods to global
    markets. If this goal of market access can be achieved then Africa
    will immediately become a more attractive destination for investors
    wishing to produce for export to the rich industrial countries. The
    current stalled round of WTO negotiations may still offer one such
    opportunity, but these are likely to be lengthy and embroiled in
    larger global issues. Therefore Africa should also push for improved
    access in bilateral interactions with the developed nations such as
    the G-8 Summit. These demands should be pursued with private sector
    support and input at least as doggedly as requests for increased aid
    and Africa's so-called supporters should be continuously exposed
    when they deny this access. Africa should put its own house in
    order, too, addressing continental trade barriers in order to
    stimulate greater intra-regional trade. Countries such as South
    Africa should lead here. Naturally the private sector must set aside
    its own short term special interests in this area.

-   The NEPAD framework may provide a politically useful framework for
    African development, particularly regarding the medium-term debate
    and vision. But it is unlikely that calls for action and important
    practical policy steps can be exclusively or even mainly located
    within such a grand overarching design. Disaggregation and focusing
    on winners is likely to achieve far more practical success than
    continental initiatives that inevitably become bogged down in
    special interests and lowest common factors.

-   One practical area in which business can be immediately involved is
    in looking at itself and its own behaviour. The need for good
    corporate governance is fundamental to business success and business
    often needs to be reminded that for each corrupt official accepting
    a bribe in Africa there is a corrupt businessman paying the bribe.
    The NEPAD Business Forum has been doing important work in this area.
    But, while the commitment by a large number of businesses to
    upholding the principles of good governance in their dealings in
    Africa, is symbolically important, achievement of such goals will in
    practice be a long hard process. Business can be just as guilty as
    politicians of empty rhetorical flourishes.

-   We all need to counter unwarranted Afro-pessimism wherever it is
    found so that the perceived risks of investing in this Continent are
    brought closer to the actual risks even as the latter are themselves
    being lowered. There are already clear signs that Africa's policy
    makers are beginning to face up to global economic realities. In
    most countries tariffs have been reduced, exports are growing,
    budget deficits have been lowered, state assets privatised,
    inflation brought down, democratic governments elected and the
    general environment for private business has improved. While
    economic growth in the 1990s was only 2.6 per cent per annum, this
    was better than the only 1.7 per cent per annum in the 1980s.
    Moreover, the continental average conceals some growth performances
    that are impressive even by global standards. Thus, for example,
    Benin, Botswana, Ghana, Lesotho, Malawi, Mozambique and Uganda all
    grew by more than 4 per cent per annum over the period 1990-1999.
    Most remarkably, Mozambique turned around from economic contraction
    from 1980-1990 to growth of 6.3 per cent per annum from 1990-1999
    and Uganda grew by 7.2 per cent per annum in the latter period.
    Botswana, too, remains the Continent's star performer -- a fact
    which those who wish to project that diamonds have brought nothing
    but economic misery would do well to dwell upon.

-   The rise in global commodity prices in recent months is accompanied
    by a generally bullish prognosis which most commentators hold for
    commodities for the foreseeable future. The *Financial Times*, for
    example, last year entitled a full page special on commodities
    "Commodities are a big new theme. The next five to ten years will
    reverse the downward trend of the past twenty." This optimism is
    driven not just by the short-term pickup in global growth but also
    by the fact that such a pickup is expected against a background in
    which increases in capacity have been modest for a number of years.
    Investors are now anxious to expand and this desire is increased
    when the phenomenon of China is added to the already positive
    industry mix. China's high rates of growth, and the concentration
    therein of fixed investment and infrastructure construction, is
    generating a seemingly insatiable demand for almost all commodities.
    One consequence of this will inevitably be new mines and new oil
    fields. Producer consolidation and the rigid focus of investors on
    returns of capital should ensure that this expansion is orderly.
    Africa stands by virtue of geology to benefit. However, the rigid
    focus of producers on returns on investment and their increasing
    global nature means that investment in specific localities is not
    assured. Africa can benefit, but only if it offers competitive
    risk-adjusted returns.

-   Finally, we must recognize the reality that very few western
    politicians would be willing to sacrifice electoral support for any
    real material sacrifice in favour of Africa (or other developing
    countries). It can be argued that the terrorist attacks in the US
    have created a greater awareness of the dangers of a world divided
    between "haves" and have-nots". Africa also has a growing future
    role as a producer of oil and hence its political stability is of
    strategic importance. But former US Treasury Secretary Jim O'Neil
    reminded African critics of increased agricultural protection in the
    US that 424 of the 435 members of the US House of Representatives
    had voted in favour of the measure. Where were the alleged
    supporters of Africa then -- or for that matter the proponents of
    the War on Terrorism?

-   In a like vein, what are the incentives for Africa to change (or the
    disincentives not to remain the same)? NEPAD provides for a system
    of "peer review" but there is no indication what disincentives will
    apply to deviants. Should undemocratic governments be denied foreign
    aid or access to markets and will they be automatically suspended
    from the African Union? In the absence of such rules and their
    implementation investors' perceptions are formed by the apparent
    acceptance by much of Africa of the election process in Zimbabwe,
    actions such as the blocking of an investigation of human rights
    abuses in that country by the United Nations and Southern African
    opposition to Zimbabwe's suspension from the Commonwealth.