11

Private Capital Flows to Africa: Opportunities, Private Capital Flows to Africa: Opportunities, Risks and Way ForwardRisks and Way Forward

Patrick N. OsakwePatrick N. Osakwe

UN Economic Commission for AfricaUN Economic Commission for Africa

22

I. BackgroundI. Background

The most important challenge facing Africa is how to The most important challenge facing Africa is how to eradicate poverty and extreme hungereradicate poverty and extreme hunger

Africa is still the region with the highest percentage of Africa is still the region with the highest percentage of people in extreme poverty and deprivationpeople in extreme poverty and deprivation

The 2007 MDG Report indicates that it is the only The 2007 MDG Report indicates that it is the only region at risk of not meeting any of the MDGs.region at risk of not meeting any of the MDGs.

Mobilization of finance is crucial to reversing the current Mobilization of finance is crucial to reversing the current trend and increasing the likelihood of African countries trend and increasing the likelihood of African countries meeting the MDGs by the target date. meeting the MDGs by the target date.

33

World leaders recognized the importance of finance in World leaders recognized the importance of finance in meeting the MDGs when they adopted the Monterrey meeting the MDGs when they adopted the Monterrey Consensus in 2002Consensus in 2002

The mobilization of private capital flows is one of the six core The mobilization of private capital flows is one of the six core areas of the Monterrey Consensus.areas of the Monterrey Consensus.

Mobilization of domestic resources for developmentMobilization of domestic resources for development

Mobilization of international financial resources (Private Capital Flows)Mobilization of international financial resources (Private Capital Flows)

Promoting international trade as an engine of developmentPromoting international trade as an engine of development

Increasing international financial and technical cooperation for Increasing international financial and technical cooperation for developmentdevelopment

External debtExternal debt

Systemic issuesSystemic issues

44

II. Forms of Private Capital Flows II. Forms of Private Capital Flows

Equity FlowsEquity Flows

FDI (equity stake with control)FDI (equity stake with control)

Portfolio investment (equity stake without control)Portfolio investment (equity stake without control)

Debt FlowsDebt Flows

Bank loansBank loans

BondsBonds

55

Trends in Private Capital Flows (Trends in Private Capital Flows (US$ billionUS$ billion))

1998 2000 2005

Developing countries

193.4 187 551.4

East Asia & the Pacific

6.5 28.8 169.7

Middle East & North Africa

9.2 3.9 24.3

Sub-Saharan Africa

13.9 10.2 29.6

66

Private Capital Flows to North Africa (Private Capital Flows to North Africa (billion $billion $))

19901990 20052005

Net FDI InflowsNet FDI Inflows 0.960.96 11.211.2

Portfolio EquityPortfolio Equity 0.010.01 0.800.80

Net Debt FlowsNet Debt Flows -0.52-0.52 3.143.14

Worker’s RemittancesWorker’s Remittances 7.257.25 13.9713.97

77

III. Theoretical Arguments for Capital MobilityIII. Theoretical Arguments for Capital Mobility

Lifts the constraints on domestic investment Lifts the constraints on domestic investment imposed by low national savingsimposed by low national savings

Leads to more efficient allocation of resourcesLeads to more efficient allocation of resources

Allows countries to smooth consumption over timeAllows countries to smooth consumption over time

Borrow during a negative shock and repay during a positive shock Borrow during a negative shock and repay during a positive shock thereby making consumption less volatile than incomethereby making consumption less volatile than income

In practice investors are reluctant to lend to developing countries In practice investors are reluctant to lend to developing countries experiencing negative shocks (case of Chile in 1998) experiencing negative shocks (case of Chile in 1998)

88

Permits domestic residents to diversify risks through holding Permits domestic residents to diversify risks through holding diversified international portfoliosdiversified international portfolios

Risks are less correlated between countries than within countriesRisks are less correlated between countries than within countries

Provides access to intellectual propertyProvides access to intellectual property

Technological know-howTechnological know-how

Managerial expertiseManagerial expertise

Access to foreign marketsAccess to foreign markets

It subjects countries to the discipline of the international It subjects countries to the discipline of the international marketmarket

Fear of capital flow reversal is often a stimulus to more responsible Fear of capital flow reversal is often a stimulus to more responsible economic policieseconomic policies

99

IV. Concerns about Capital MobilityIV. Concerns about Capital Mobility

Capital mobility increases macroeconomic volatility and this Capital mobility increases macroeconomic volatility and this has negative consequences for an economyhas negative consequences for an economy

Exposes countries to new shocks (external)Exposes countries to new shocks (external) Can magnify the effect of domestic shocksCan magnify the effect of domestic shocks

It increases vulnerability to large and rapid reversals of It increases vulnerability to large and rapid reversals of capital flows (often leading to financial crises)capital flows (often leading to financial crises)

These crises are very costly. In the case of East Asia it led to losses of These crises are very costly. In the case of East Asia it led to losses of more than 10 percent of GDP.more than 10 percent of GDP.

Large inflows resulting from capital mobility also contribute to Large inflows resulting from capital mobility also contribute to real exchange rate appreciation and loss of competitivenessreal exchange rate appreciation and loss of competitiveness

1010

V. The EvidenceV. The Evidence The key question here is whether the benefits of capital The key question here is whether the benefits of capital

mobility offset the costs? The evidence is mixedmobility offset the costs? The evidence is mixed

Several studies found no evidence that capital account Several studies found no evidence that capital account liberalization leads to faster growth (Rodrik 1998; Kraay 1998; liberalization leads to faster growth (Rodrik 1998; Kraay 1998; Edison 2002; Prasad et al 2003)Edison 2002; Prasad et al 2003)

Few studies found that liberalization had a positive impact (Quinn Few studies found that liberalization had a positive impact (Quinn 1997)1997)

There are several messages from these resultsThere are several messages from these results

If there is a relationship between capital mobility and growth, it is If there is a relationship between capital mobility and growth, it is neither strong nor robustneither strong nor robust

The composition of capital flows as well as domestic economic The composition of capital flows as well as domestic economic conditions may be important in determining whether or not capital conditions may be important in determining whether or not capital mobility has a positive impact on an economy.mobility has a positive impact on an economy.

1111

VI. Managing Capital Flows: The Way ForwardVI. Managing Capital Flows: The Way Forward

The benefits of capital mobility are not automatic. The benefits of capital mobility are not automatic.

They accrue to countries that have taken appropriate steps to They accrue to countries that have taken appropriate steps to exploit themexploit them

The key policy challenge facing African countries is The key policy challenge facing African countries is how to maximize the benefits and minimize the how to maximize the benefits and minimize the costs. costs.

This requires several actions at the national levelThis requires several actions at the national level

1212

Adopting a gradual approach to capital account Adopting a gradual approach to capital account liberalization. This gives room forliberalization. This gives room for

Development of financial infrastructure Development of financial infrastructure Complementary investments in education and physical Complementary investments in education and physical

infrastructure to increase absorptive capacity of flowsinfrastructure to increase absorptive capacity of flows

Paying more attention to the composition of capital Paying more attention to the composition of capital flows and ensuring that they go to sectors with high flows and ensuring that they go to sectors with high potential for employment creation potential for employment creation

Putting in place policies to limit vulnerability to Putting in place policies to limit vulnerability to financial crises financial crises

Sound Macroeconomic Policies Sound Macroeconomic Policies Protection of property rights and the rule of lawProtection of property rights and the rule of law Political stabilityPolitical stability

1313

Managing capital flows to avoid risk of real Managing capital flows to avoid risk of real exchange rate appreciations that lead to loss exchange rate appreciations that lead to loss of competitivenessof competitiveness

Adoption of exchange rate regimes that give room for Adoption of exchange rate regimes that give room for dealing with capital flowsdealing with capital flows

Use of selective capital controls when necessaryUse of selective capital controls when necessary

1414

THANKTHANKYOUYOU