Economic Report on Africa 1985

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ECONOMIC REPORT ON AFRICA 1985

AFRICAN DEVELOPMENT BANK

ECONOMIC COMMISSION FOR

AFRICA

ECONOMIC REPORT ON AFRICA 19 8 5

A Report of the Staff of the

African Development Bank

1 Abidjan

Ivory Coast

and Economic Commission for Africa Addis Ababa

Ethiopia

31 March, 1985

TABLE OF CONTENTS

n

PREFACE .

PART I: ECONOMIC DEVELOPMENTS AND PROSPECTS

1. Introduction: Crisis in African Economies 2. International Economic. Situation

3. Recent Developments in the African Economies, 1983-84 . 3.1 Internal Developments

3.2 External Sector 3.3 Policy Issues

4. The Outlook for 1985

5. Domestic Resource Mobilization for Development:

Performance, Issues and Policies

5.1 Introduction „

5.2 Performance

5.3 Issues in Resource Mobilization

5.4 Alternative Policies for Domestic Resource Mobilization

PART II: EXTERNAL DEBT IN AFRICA 1971-1983

1. The Role of External Debt in Development 2. External Debt Trends and Structure

3. Factors Behind the Growth in Debt and Debt Servicing Problems

4. Impact of Debt Crisis on African Economy 5. External Debt and Development Policy

5.1 National, Regional and International Levels

5.2 National Development Policy and External Debt 5.3 Regional Policy Measures to Alleviate the External

Debt Problem

5.4 International Development Policy and External Debt ....

6. The Role of ADB and ECA , 6.1 The African Development Bank Group and

the External Debt Problem

6.2 The Role of Economic Commission for Africa

(i)

1 3 4 4 7 9 10

12 12 13 19 21

26 29

34 44 46 46 46

48 49 53

53 56

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PREFACE

—' The African Development Bank (ADB) and the Economic Commission for ,-n Africa (ECA) are two institutions with a common objective of promoting the

;_j economic and social development of Africa. The ADB, on one hand, is empowered by its statutes to mobilize resources and to finance development projects and i , programmes. The ECA, on the other hand, by virtue of its mandate, is concerned with a whole spectrum of development issues. In the present situation when the

; region is going through a crisis characterised by falling external demand,

~~" growing current account deficits, continuously mounting external debt-service

r~) payments, it has been felt necessary that the ADB and the ECA should continue

^ to make a joint effort to prepare a document analysing the nature of the crisis

--, and outlining elements of possible policy choices.

[■Jj

Since the publication of the 1984 Report, economic developments have

! not been encouraging. Output growth is still barely equal to that of popula tion, implying stagnant per capita output. Although exports have increased,

| ' imports continue to shrink because of both low export receipts and shrinking

external financial inflows.

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^ The agricultural sector, which is the backbone of Africa, still has p, not recovered. The vagaries of the weather have played havoc in the continent.

^J Technological changes have been extremely slow, while domestic policies have on

the whole, not been sufficiently conducive to expansion. In many cases, past : agricultural policies have been biased against agricultural producers. Support required by producers in terms of technological advice, inputs, seeds, storage

n facilities etc. has been seriously lacking. The result is that the region has

become increasingly dependent on food imports partly financed by aid. It is

"*"] encouraging, however, that African Heads of State and Government have decided

*™ to take measures to alleviate this food crisis.

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The performance of the manufacturing sector also remains problematic.

It remains heavily dependent on foreign inputs so that, given the depressed levels of import capacity, it has been adversely affected. And there are other problems such as the weak competitiveness of manufactured products, lack of integration of the African markets, poor management of many public manufac turing enterprises, lack of appropriate support for indigenous and foreign entrepreneurs, etc.

Our two institutions are still concerned by inadequate performance in

mobilizing domestic resources, and the resulting heavy dependence on foreign H resources. As the external environment continues to be unfavourable, invest- L ment has been seriously constrained over the recent years. What we see as an p urgent task at this juncture is for African countries to design new and dynamic Lj strategies for mobilizing domestic resources. Such efforts would need to be

accompanied by more efficient utilization of such resources. In Part I of this

P

! Report, issues related to resource mobilization are examined in some detail.

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We are also deeply concerned by the continuing external debt

servicing problems of African countries and the consequent adverse impact on H long-term economic and social development. This subject is fully discussed in ^ Part II of the Report. African countries are encouraged to continue their p efforts to undertake structural adjustment measures designed to alleviate the [j external debt problems. However, since Africa still needs external finance to

support adjustment and development, we call on the international donor i community to take urgent measures to support the adjustment efforts. The most

important set of measures in this respect is one which will result In increased w~:\> , flows of concessional finance to Africa, and particularly to low income

countries. PI

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Finally, we strongly support the initiatives African Heads of State and Government are taking to identify practical measures designed to accelerate the implementation of the Lagos Flan of Action and the Final Act of Lagos.

These initiatives, if adequately supported by the donor community, constitute, in our view, seeds of hope for the peoples of Africa.

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Signed :

I ^

ADEBAYO ADEDEJI WILA D. MUNG'OMBA

Executive Secretary President

Economic Commission for Africa African Development Bank Group

fiijja^

PART I: ECONOMIC DEVELOPMENTS AND PROSPECTS

1. Introduction; Crisis in African Economies

U

The drought in many African countries since 1982/83 and the ensuing famine in Ethiopia and other countries has concentrated world attention on the region's plight and given a tragic dimension to its long standing problems.

But despite the horror of famine one still has to accept that drought is part of the normal weather cycle even in the best watered areas.

The real crisis is what has been revealed by the drought; the fact that the overwhelming majority of African countries are still operating at such low levels of productivity that their food supply is depending on the weather, and when this fails, on food from the industrialized countries. This is the real life consequence of what statistics reveal as to agriculture falling behind population in most of Africa since the early 1970's. The problem is of course not limited to agriculture but extends to the whole production system.

On the basis of ECA estimates, the average growth of GDP in the African region comes only 2.7 per cent a year for the period 1970-1982, a rate barely equal to population growth. While value added in agriculture grew by only 0.7 per cent annually, mining output fell drastically (to only 68 per cent of the 1970 level) while the manufacturing sector registered an annual average growth of 5,0 per cent. After the first oil shock of 1973-74 there were some years during which the oil exporting countries enjoyed boom like conditions with rapidly increasing incomes and large scale investment, but this has proved to be a short lived burst, and African OPEC members are now facing an oil glut on the oil market and consequent balance of payments problems. Even countries like Ivory Coast, which for two decades has been expanding at rates bearing comparison with those of newly industrialized countries of Asia, have run into difficulties and their growth has been arrested.

The lack of real growth in output has had adverse consequences on the external balance and more and more African countries have faced balance of payments crises, and have had to turn to IMF support with the stringent condi tions attached. Even though the African region has a total debt which is far below the debt incurred by other developing areas (non oil exporting developing Africa has a debt representing only 10 per cent of the total external debt

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outstanding of the. non oil developing countries), that debt is the highest in

relative terms (54 per cent of GDP according to the IMF). In some countries f

debt servicing is adversely affecting investment. L

What are the causes of the African crisis which is not a transient L

phenomenon but appears to stem from long standing factors? It is true that

what is called the international environment; meaning external demand for P African exports, market conditions for import supplies, the volume and condi

tions of external resources, etc. has not been particularly favourable. There P has been a severe world recession since 1980 coming after the generally

depressed conditions of the world economy since the first oil shock. Prices H

for traditional commodities have slid downwards, interest rates have shot up '-

and drastically increasing debt servicing charges, concessional flows have

stagnated and in the end the oil exporters themselves have had to contend with L

oversupply and falling prices. But these problems have been common to prac

tically all developing countries (and their responses have not been uniform) ; !

and, in any case in some regions of the world, particularly in Asia, economic

growth appears to have continued. It should be noted, however, that at P]

Africa's stage of development, its capacity to adjust is lowest even though the U region is endowed with considerable resources. Although these resources are H not always easily exploitable, the land population ratio is the highest, vast LJ hydro electric resources are still untapped, and the mineral wealth is still n not explored to the same degree as in other regions of the world. ■ (J

Apart from the external causes, domestic policy factors have played a part. This is particularly notable in agriculture which has suffered from

inadequate general resource allocation for purposes of, for instance, extension H services, research for the development of new agricultural techniques etc. The

sector has also been affected by policies over-emphasizing government controls. F

Investment rates which averaged 17 per cent of GDP in the first half m of the 1970's, were up to an average of 22.5 per cent at the beginning of the yj

1980's. This increase was observed not only for the oil exporters which have

benefitted from considerably higher export revenues, but practically for all [[J

country sub-groups. The inefficient use of investment funds is9 therefore,

likely to- be a significant cause of low growth. In fact, in many instances F!

industrial projects have been ill designed resulting in plants which are

oversized or dependent on sometimes unobtainable raw materials. Infrastructure projects have been given either too much priority or have not been geared to the needs of the economy.

To these factors should be added general inadequate management either of enterprises at the micro-economic level or of economic policy at the macro H! level. This has played an important role in the building up of debt in some countries where debts have been incurred without coordination or supervision

'I of a central authority. Getting out of present difficulties will require,

among other things, basic changes in the ways the economies of the region are r^ managed, whatever the levels of aid coming from the outside. Fortunately, uJ there is a growing awareness of the necessity of change and the elements of a .-, consensus on what is necessary are taking shape.

2. The International Economic Situation

3

The major feature of the present international economy is the

.-—^1

■ recovery evident in the OECD area and in some developing countries. In the OECD, GDP grew by 2.6 per cent in 1983 and then by a large 4.75 per cent in H 1984, with the United States growing by nearly 7 per cent, the largest increase

-J for more than a decade. The strong growth of the American economy provided the

,-, impetus to the recovery through its effects on imports, which grew by an

:J estimated 27,6 per cent in 1984 in the United States. World trade recovered

sharply from its slump of 1982/83 and rose by an estimated 8.5 per cent in i| volume terms in 1984. Despite these developments the recovery has been very

uneven, with a marked difference between the United States and the other OECD : members among which EEC countries are continuing to suffer from heavy unemploy

ment and are achieving much lower growth, while among developing countries, the n strong growth shown by Asian countries is in contrast with stagnation and

-J recession in some of the Latin American and African countries. Asian

□countries, are growing at a rate nearing 6 per cent a year, which is 2 percen tage points more than the average for developing countries, and their balance

of Pavraents and debt situation appear to be much healthier than in other

JJ developing countries. If Latin American countries are showing signs of

recovery, this is still very modest and they are paying a heavy cost for the :| resorption of their debts through reschedulings and severe austerity measures.

African countries have not been able to share in the recovery as much as

^ desired, in large part because of the drought affecting them in great numbers,

^ but also because demand for their exports has remained sluggish.

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A worrying aspect of the current situation is the decline of resource flows to developing countries. For 1984 the IMF estimates net capital inflows f ■

of $45.4 billion, below the $54.2 billion of 1983 and less than half of the

1981 level. The 1985 projection is put at $41.6 billion. For African non-oil T

developing countries, the 1984 IMF estimate is $5.1 billion from $6.6 billion

in 1983. Projection for 1985 is only $2.4 billion. This trend is the p

unpleasant by-product of the rescheduling of debt which has entailed a sub- L.

stantial contraction of private lending to developing countries, and parti- .—,

cularly to Africa. If continued, it would considerably aggravate the adjust- (_.

ment pains of developing countries.

i—,

There is a general opinion that growth will be lower in 1985 in

industrialized countries. This is particularly true for the United States H

where prospects are that output will not grow more than 3 to 4 per cent, after

the exceptional growth recorded in 1984. In other countries of the OECD, p.

growth is also forecast to come down significantly in 1985, the latest forecast ^

being of an output growth of 2.8 per cent compared to 4.5 per cent in 1984. In |_

developing countries, growth will generally accelerate, the best results being l_j achieved by Asian countries. However due to lesser expansion in the OECD,

world trade volume growth will drop significantly to 5.5 per cent from a . P forecast 8.5 per cent in 1984. This will remain however well above the paltry

2.0 per cent recorded in 1983. H

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-*• Recent Developments in the African Economy, 1983-84 p

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3.1 Internal Developments p-,

U According to data compiled at the ECA (Table 2), there has been

practically no change in the volume of regional output during 1983-84, the rates of change in both years being negligible. As a result output per head

fell again, and is estimated to be 10 per cent below its 1980 level in 1984. PJ

The recession has been widespread across toe region, only Central Africa

recording output growth over population growth, its GDP growing in 1984 by 4,8 m per cent, basically because of rising oil production and exports in Cameroon, uj Congo, Gabon and Angola. But everywhere else either minimal or negative growth

was recorded, the most affected sub-region being West Africa where GDP declined y by 3.5 per cent in 1983 but increased by only 0.2 per cent. Drought has been a

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major factor in the continuing African recession. It began in Southern Africa during the 1982/83 season, then in West Africa during 1983 and then in East Africa in 1984, affecting by the end of 1984, a belt of countries from the Sahel to Kenya. There was famine in Ethiopia, Chad, Mozambique and Sudan. In Ethiopia, the population threatened by starvation is estimated at 7 millions.

In the Sudan, the situation is worsened by the influx of refugees from neigh bouring countries, themselves affected by drought and/or famine.

Conditions on the world market were another factor adversely affecting growth. Oil exporting African countries especially the members of OPEC, were seriously affected by the continuing oil glut, and their GDP fell in both 3 983 and 1984. Since they account for some 66 per cent of total regional output, their adverse performance was strongly reflected In the regional result. For countries other than the oil exporters, despite good demand conditions in 1984 for beverages, overall demand conditions were unfavourable in industrial countries.

I

The impact of the drought is reflected In the decline in agricultural value added at regional level by 0*5 per cent in 1983 and 0.1 per cent in 1984.

Gross agricultural output measured by the FAO index of agricultural production fell by 2.6 per cent in 1983 to recover by an equal amount in 1984. The area most severely affected was West Africa where gross agricultural production declined by 6.7 per cent in 1983. Total African cereal production dropped by 9.6 per cent in 1983 and a further 2.3 per cent in 1984, with crops being reduced by as much as 40 per cent in Kenya, Burundi, Rwanda, Niger and Mall.

The root and tuber crops were also affected by drought, and dropped by 4.8 per cent in 1983. There were in addition serious cattle losses in the Sahel and in Eastern and Southern Africa. Cereal imports increased by 26.6 per cent in 1983 and forecasts reach 31.1 million tons in 1984. The performance of non-food crops, mainly coffee, cocoa, tea, cotton and tobacco was mixed. Coffee and cocoa suffered losses due to drought in Ivory Coast and Ghana in 1983, but on the other hand there were favourable results for crops like tea, cotton and tobacco. African producers of coffee and cocoa were still constrained by the export quotas under the ICO and ICCO agreements.

n

External demand conditions were an important determinant for the

performance of the mining sector. The oil market remained in a state of !

oversupply and prices on the spot market slipped downwards during 1984, forcing OPEC to take counter measures. In a first step, while Nigeria was authorized' to raise its production for a limited periods production quotas were cut for

other members in order to maintain the $29 per barrel benchmark. But this r,

effort was unsuccessful in reversing market trends. Regional oil production L

increased slightly however because of higher Nigerian production and that of

non-OPEC countries. Angola's production reached 200,000 barrels per day and [ ■ Egypt's output was 40 million tons, making Egypt the third African producer

after Nigeria and Libya. For other minerals, there were generally poor demand I

conditions. However, in Mauritania, despite the continuing problems experienced

by steel production world wide, iron exports increased strongly. In Zaire, P

copper revenues stagnated in 1984, but cobalt prices doubled during the year,

remaining, however, at a fraction of their 1980 level of $40 a pound. p,

L

Performance in manufacturing was disappointing, an expected outcome ,->

in view of the sector's dependence on imported and agricultural inputs. L! I

Region-wide, value added in manufacturing which grew by 1.6 per cent in 1983,

dropped by 1 per cent in 1984 by 1 per cent. The only sub-region where manu- ! facturing has continued to expand is North Africa where positive rates of 5.0

and 5.2 per cent were recorded in 1983 and 1984, respectively. In all other ;H

sub-regions, there was severe downturn, particularly in West Africa where

manufacturing output fell by 4.5 per cent in 1983 and then by a considerable pi

10.7 per cent in 1984. In North Africa, manufacturing has benefitted from ^

considerable investments particularly in Algeria, where recent reforms have ^

raised the productivity of the sector by a substantial margin. Even there, [J

however, significant problems still affect the sector. In some countries

problems limiting the expansion of manufacturing ' have taken a particularly Pi■■, j acute form. In Tanzania, for instance, value added in manufacturing was well

below its 1980 level in 1984. In Nigeria the sector is reported to be ope- H

rating at 50 per cent capacity in 1984, with its gross production having fallen

by 20.7 per cent in 1983. M

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3.2 The External Sector

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While African imports have continued to decline both in value and in volume, there was a small increase in exports amounting in volume to 0.3 per

■ I cent in 1983 and to 2.2 per cent in 1984 (Table 1). The decline in imports in

:" 1983 was steep, falling by nearly 11 per cent in volume. In 1984, there was a

^ slight increase of only 1.5 per cent.

, j The small rise of 3 per cent in the value of exports was due in part to the relative stability of OPEC members exports, due itself to rising oil

j j exports from Nigeria. On the other hand, non-OPEC members exports rose by 11.4

per cent in 1984, reversing a two-year fall, and gaining 6.6 per cent in volume 1 terms. Overall though, the fall in African exports since 1980 and especially the steep drop in OPEC members exports is stunning. In 1984, African OPEC H members' exports are estimated to have declined to $37.1 billion compared to

J $63.3 billion in 1980. In volume, the decline was nearly 38 per cent.

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Table 1

u Developing Africa's Trade (percentage changes on preceeding years)

1982 1983 1984

Value

Exports -11.6

Imports -6.2

Volume

Exports -7.6

Imports -2.3

Unit Value

Exports -4.3

Imports -3.9

Terms of Trade -0.3 -8.6 -0.2

Source: ECA secretariat estimates based on IFS, January 1985, Vol. XXXVIII, N°l, IMF.

10.0 12.4

0.3 10.8

10.2 -1.8

3.0 -8.2

2.2 1.5

0.8 -9.6

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The volume of imports in 1984 was 11.8 per cent below the 1980 level.

It has partly been inevitable in view of the decline in export revenues and external resource inflows. Among oil exporters, the fall of imports has been effected through direct government policy measures, mainly in Nigeria and

Algeria. In Nigeria, the government has controlled imports through stringent

foreign exchange allocations which have resulted in reducing imports in 1984 to

less than half their peak 1982 level. In Algeria, import controls were made

through the comprehensive planning; imports have remained practically at the same level in value terms since 1982. There were also substantial import cuts in Libya, where they went down to $6.3 billion in 1983 compared to $8 billion in 1981. Among non-OPEC members, imports have declined much less steeply, and have increased slightly in both value and volume terms in 1984.

The trade deficit has declined substantially from its level of $10.5 billion in 1982 to $7.6 billion in 1983 and to only $0.2 billion in 1984. This trend is mainly the result of the contraction in imports. Though it represents an improvement in the external balance of the region, it has been attained at a high cost in terms of growth foregone, as is reflected in acute shortages affecting production in a number of countries.

n! i .!

There has been no substantial changes in the structure of African

trade. Oil exporters continue to account for the bulk of trade, 40 per cent of P

imports and 60 per cent of exports in 1984 B This means that African exports

are dominated by oil, principally crude oil. Oil, minerals and related H

products constitute more than 70 per cent of exports, while other primary ^J

products account for less than 20 per cent. On the import side, manufactured p

products are dominant. Africa's trade represents only a small part of total U

world trade; developing Africa's exports were only 3.6 per cent of total world

exports in 1983 (not including socialist economies)'.

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| I

During 1983-84, the evolution of export prices has not been favou- f '

rable. The unit average value of exports fall by a considerable margin in

LilJ

1983, and remained stable in 1984. Wholesale export prices evolved in a pi

similar manner, dropping by 10.6 per cent in 1983 and varying by a small afoibunt ^

in 1984. Among products which experienced export price declines are crude oil, «w phosphates, sugar, groundnuts and iron ore, while coffee, cocoa, timber, y uranium and tea prices rose in 1984. During 1984, the spot prices of crude oil

p

edged downwards, and after Norway and Britain cut their oil prices, Nigeria ,

followed by cutting its own oil price by $2 a barrel. However, though prices fell in dollar terms, the continuous appreciation of the dollar raised export prices and substantially increased the cost of oil for oil importing countries.

The current account deficit of developing African countries narrowed n significantly in 1984, falling to $6.7 billion from $14.1 billion in 1983, and J $21.2 billion in 1982. The improvement in the situation came partly from a n rebound of exports in 1984 with imports increasing only slightly but remaining Lj well below their 1982 level. Since imports fell in real terms, and since their reduction was due to insufficient external revenues, the improvement of the Lj external balance does not in reality correspond to an improvement in the economy. As already said, the reduction in imports was achieved at the cost of

' reduced growth.

H External debt is still growing, although its rate of increase has

^ fallen rapidly from an average of 15.1 per year in 1977-1982 to only 5.1 per

r*i cent for 1982-84 (data for non-oil exporting countries). Here again if the LJ lower rate of increase of the debt is a positive development in view of the repayment problem, it is also a disquiting one since it means that the region

I is not getting foreign resources at the same rate as before. As has already

been indicated, capital flows to developing Africa have been declining rapidly.

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_3.3 Policy Issues

111 '.■"■

Ui Although many countries have by necessity given priority to emergency

rn drought relief measures, the problems of adjustment remained prominent. There

Jj is a great diversity of situations in the region, but a great number of

countries, if not all, are faced with similar problems which can be summarized

I!;[ "

J jj as follows:

7S - poor production performance, particularly in agriculture;

ill

H - industry overly dependent on imports and sometimes structurally

™ inefficient;

J - falling or stagnating external demand;

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import shortages;

inadequate domestic resources in relation to investment and

adjustment needs; and p

a serious external debt situation.

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L:

This report examines the last two problems in some detail; sub

section 5 of this part focuses on issues related to domestic resource mobiliza- i tion, while part II is fully devoted to developments in Africa's external debt.

4. The Outlook for 1985 -

The prospects of African economies are clouded and depend on the n Lj weather pattern and on the performance of industrialised economies. From what r- is known at the end of 1984 and the beginning of 1985, there are increasing [_

signs of a return to normal weather in many areas. In West Africa the

countries of the Atlantic coast have had a normal rainy season in 1984, and f~l■ crops have returned to usual levels; in Southern Africa, rains have been

abundant in Malawi, Zambia, and Zimbabwe and a bumper maize crop is expected in D

1985; in Eastern Africa, if the long rains failed in Kenya in early 1984, the ^ short rains of the end at the year were good and fears of a prolonged drought C)

have receded. In these conditions, it is reasonable to expect a good recovery L_

of agricultural production in 1985. However, in the drought and famine „

stricken countries like Ethiopia and Mozambique, in the Sudan and in the Sahel [j

region, agricultural recovery will be hampered by the disruption created by

drought in the production system (loss of seeds and cattle* large population j migrations, etc.). Moreover, even if agriculture recovers in 1985, the food

deficit will remain considerable; an F^O estimate for 21 African countries H

particularly affected puts import requirementa at 10.2 million tons of grains

in 1984/85. There are in addition strong grounds to the view that the situa- p]

tion of Sudan could be as serious as presently in Ethiopia because of the food t&J

deficit and the building up of a refugee population from ne:

countries.

£v^^'^=^&4S5i^4Ti^^

In sectors other than agriculture, prospects for 1985 are rather

i mixed and uncertain. For mining, there is room only for modest growth. Oil demand will remain depressed and for other mining products, technological changes are limiting demand. , It is forecast that oil consumption will grow in 1985 by only 1.5 per cent, after 2.7 per cent in 1984, leaving practically no

;~ room for significant expansion. Manufacturing will benefit from the recovery

<-J of agriculture, especially where agro-based industries are dominant, but there

-~t are basic structural problems to be solved before the sector can grow at a U adequate rate.

n

_■ Looking at demand, it appears that prospects for an increase in

investment spending are modest. Major oil exporting countries like Nigeria and ' ,! Libya are planning deep cuts in their investment programmes on top of those which have been already carried out, while in many other countries adjustment p programmes are reducing government expenditures. On the other hand, given the

^ record of poor resource utilisation in the region, the current efforts to

^ improve efficiency could have beneficial effects since in many cases the issue U is not so much the increase of capacity as the efficient use and maintenance of

_ the existing one.

J As for external conditions, growth is expected to slacken in 1985 in

1 the OECD economies.. The American economy which grew by nearly 7 per cent in

1984 is not expected to grow substantially more than 3 to 4 per cent in 1985, H and for the whole OECD, growth is expected to go down to about 3 per cent from U 4.75 per cent in 1984. This implies a drop in the demand for imports and H reduced prospects for Africa's exports. In addition, the outlook for external

U resources is bleak, with an expected halving of net flows for Sub-Saharan

^ Africa in 1985-1990.

UJ

On the basis of these considerations, only a modest recovery is

f:j forecast for the African region in 1985. As can be seen from Table 2, for the

tall region as a whole, a growth rate of 3.0 per cent is expected in 1985, forecasts

fl changing from 4.0 per cent in Central Africa to 2.6 per cent in North Africa.

The higher rate in Central Africa is explained by strong growth in oil produc- H tion in the region and recovery in Zaire. A high rate is forecast for the U Sahel area, representing the effect of normal rains after the 1984/85 season.

Oil exporting countries are expected to grow by 2.5 per cent simply because y OPEC members will make only small gains, while for non-oil exporting countries

growth will reach 3.8 per cent.

m

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Table 2

GDP growth in real terms (percentages, 1980 prices)

Sub-region/grouping 1983 1984 1985 j |

Central Africa ~ O 478 575

East Africa 1.2 0.0 3.1 . M

North Africa 1.9 -0.2 2.6 [_

West Africa -3.5 0.2 3.0

Developing Africa 0.03 -0.1 3.0 r

Oil exporters -0.1 -0.3 2.5 ; .

OPEC members -2.2 -1.9 1.7

Non-oil exporting 0.4 0.4 3.8 r_

Source: ECA secretariat. l-

If these forecasts turn out to be correct, the downward slide of GDP nj ;

per capita will be arrested; and there will be some growth in consumption. But

investment will not increase. The external balance is expected to register ' | improvement with a modest growth of exports of goods and services and a

slightly less growth of imports. P

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5. Domestic Resource Mobilization: Performance, Issues and Policies

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5.1 Introduction

This section assesses the performance and raises the issues of lJ-

resources mobilization in developing African countries and proposes means and f

ways of increasing domestic savings and their more efficient allocation for the

implementation of development plans and programmes within the framework of the p

Lagos Plan of Action. ^

Economic growth, viewed as an expansion in the productive capabili- (J

ties of an economy, is basically a function of the distribution of current

resources between the satisfaction of present and future needs. A difficult choice facing African countries today relates to the proportion of their

current resources to be devoted to consumption as opposed to resources to

expand the productive capacity■of the economy, a conflict which really boils down to a choice between present and future rates of consumption. After the determination of desirable rate of savings, either in a planning framework or

in a free market one, measures have to be taken by the government to generate savings and maximize their effective use.

FTT

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Therefore, as stressed in the Lagos Plan of Action, the African , -, governments must, and do, bear the primary responsibility for a fuller mobili- i j zation of the whole range of their domestic resources to finance development.

By domestic resources mobilization is meant a process whereby national

; resources are made available and channelled into capital formation. However great African government saving efforts are, these are always found to be I j'—i insufficient to enable them to achieve the desired development goals, unless they are assisted through increased financial resources and more favourable l~l economic and commercial policies on the part of the advanced world. Thus,

-^ economic growth in developing African countries is and has been a function of

,-n both public and private investment financed by national savings and foreign lj finance.

H

5.2 Performance

L-J ■...-.. - " ■■■" ■ "

i ; An analysis of the current national development plans of the African

LJ

countries indicates that the majority of the countries have neither indicated H specific elements of strategy for the mobilization of domestic savings nor

-J allocated adequate resources to finance their development projects and

r^ programmes — . The outcome is heavy dependence on external resources of

i

ij finance. As can be seen from Table 3, this dependence goes as high as 80 to

100 per cent for several least developed countries. On average , in the j i reviewed plans and programmes of African least developed countries, 56.5 per cent of resources are expected from foreign sources. Only in five national

\\ plans of LDCs does domestic financing cover more than 50 per cent of financial requirements. In the others, domestic financing barely covers 25 per cent of rT] financial requirements for development activities. Table 4, on the other hand,

wJ

J_/ UNECA, "Report on the Progress Made in Taking into Account the Objectives and Directives of the Lagos Plan of Action in the National Development Plans of the African Countries" (E/ECA/PSD.3/13).

rm

- 14

Table 3

Domestic and external resources requirements of development

plans and programmes in selected least developed African countries

(1981-85

Total development expenditures

(in millions of US dollars)

Distribution (in percentage) Domestic

financing Higher Dependence on external

finance

Central African Republic Comoros

Burkina Faso Mali

Cape Verde Tanzania Burundi Benin Somalia Niger Ethiopia

Lower Dependence on external finance

Guinea Sudan Uganda Botswana Gambia

971 240 ,

1,974 -' 2,740 -7

397 ,

10,940 -'

1,194 1,753 1,989 2,792 .

7,000 -'

1,639 14,430 10,956 1,928 395

2,6 13.1 15.0 17.1 18.0 22.1 43.0 47.1

57.9 59.0 72.9 86.6 91.2

External financing

100.0 100.0 100.0 97.4 86.9 85.0 82.9 82.0 77.9 57.0 52.9

42.1 41.0 27.1 13.4 8.9 Source: UNCTAD secretariat.

a/ Imputed value from decade total.

reveals that, for the higher income group of the non-LDCs, capital mobilized from their own resources was envisaged to constitute the more important input in investment. On average, they relied on external finances for only 14.2 per cent of plan allocations. In fact, domestic saving was expected to finance 91.5 per cent of total investment in Nigeria, an oil-exporting country, and more than 50 per cent in such countries as Ivory Coast, Morocco, etc. But if oil exporters are excluded from the sample, the share of foreign resources rises to 48.3 per cent, confirming the general heavy dependence of African countries on external savings.

p

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The continued dependence on external financial resources is, itself, put to question by the current adverse international economic situation, export incomes which constitute another source of domestic saving, have shrunk, and a larger proportion is now needed for debt servicing, leaving a smaller share for the financing of investment. In addition, several donors have, for instance, reduced or at best limited their aid programmes to developing

countries'-'. This situation calls for African countries, to consider in

J earnest, resorting to domestic resource mobilization to finance the bulk of their development expenditures and to evolve a more self-reliance, strategy of

n■ ! development.

H An analysis of gross domestic savings and gross, fixed capital, forma-

^ tion in relation to gross domestic product in developing Africa over the period

^1 1980-84 (see Table 5) enables us to draw a number of conclusions presented

^ below.

J (a) For developing Africa as a whole, the share of domestic savings in total GDP decreased from 27.2 per cent in 1980 to 25.4 per cent in

• j 1984. However, the over all average ratio for the period 1980-84 which is 24.7 per cent is considerably higher than the average of H 17.8 per cent recorded for the 1970s and of 11.9 per cent recorded

for the 1960s.

(b) Wide disparities in performance exist between the major oil exporting and non-oil exporting countries. The savings rates for the non-oil exporting countries barely reached 15 per cent during 1980-84, which is the same rate as the one obtained in the 1970s. The four major j oil exporting countries (Algeria, Gabon, the Libya Arab Jaraahiriya

and Nigeria) recorded a savings-rate average of 39.8 per cent in

"1 1980; this rate slightly dropped to 30.4 per cent in 1982, then

^ picked up to 34B8 per cent in I'r-^U The average savings rate for the

pj; major oil exporting countries which was 34.5 per cent in the 1980-84

» period was twice as high as the one of African countries non-members m of OPEC. Consequently, the marginal propensity to save for major

2/ See OECD9 hevel^p^^^Co^^exati^n^Rffvl^, 1983» 1984 issues5 and World

" " " " * -Saharan Africa: An Agenda for

m

- 16 -

oil-exporting countries has dramatically increased from a negative ratio of "0.13 in the first half of the 1970s to a record of 0.52 during the period 1975-79 and to 0.45 in 1980-84. The ratio for the non-oil exporting countries remained constant at 0.21 for the comparable periods. Thus, the entire increase from 0,05 in 1970-75 to 0.37 in 1975-79 and to 0.27 in 1980-84 in marginal propensity to save for the whole of developing Africa is attributable to the four major OPEC member countries.

Table 4

Domestic and external resources requirements of development plans and programmes in selected African non-LDCs (1981-85)

Total development expenditures

(in millions of US dollars)

Distribution (in percentage) Domestic

financing

External financing Dependence on external

finance Senegal Zaire Mauritania

Dependence on domestic

resources

Ivory Coast Morocco Zimbabwe Nigeria Gabon Kenya Algeria Cameroon

5,383 1,256 1,823

10,212 20,795 6,096 44,902 6,306 463 128,026 7,156

Source: Various National Development Plans for the period 1981-85: Algeria (the 1980-84 five-year plan), Cameroon (the fifth five-year economic, social and cultural development pJ?n 1981-86), Ivory Coast (Plan Quinquennal de Developpement Economise, social et culturel 1981-85).

Kenya (Development, plan 1979-1983)» Mauritania (IVe plan de plan de developpement Economique et Social), Morocco (Plan de Developpement Economique et Social 1981-85), Nigeria (Fourth National Development Plan 1981-85), Senegal (Vie Plan Quadriennal de Developpement Econo mique et Social 1981-85), Gabon (Plan interimaire de Developpement Economique et Social 1980-82), Zaire (Plan Mobutu: Programme de Relance Economique et Social 1981-83), and Zimbabwe (Transitional National Development Plan 1982/83-1984/85).

T:

25.0 35.0 48.5

52.0 55.6 62.6 91.5 92.0 95.0 95.0 100.0

75.0 65.0 51.5

48.0 44.5 37.4 8.5 8.0 5.0 5.0

_

L r

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f

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Table 5

Levels of Domestic Savings and Gross Investment in Developing Africa, (Average for 1980-84, percentage of Gross Domestic Product)

J

By Region

North Africa West Africa Central Africa East Africa Southern Africa Sub-Saharan Africa Sahel countries

By Economic Group

Least Developed Non-LDCs Non-OPEC Non-Oil Exporters Oil exporters

All oil-OPEC Members All non-OPEC Members

Gross domestic savings

29.8 21.9 29.8 12.2 12.5 20.2 4.2

6-9 18.3 12.4 31.4 34.5 15.1

Gross domestic Investment

26.2 20.1

Resource Gap

3.6 1.8 21.4

16.7 16.9 19.2 16.4

8.4 -4.5 -4.4 1.0 -12.2

14.8 20.9 16.6 25.6 25.5 19.4

-7.9 -2.6 -4-2 5.8 9.0 -4.3

Developing Africa 24.7 22.4 2.3

Source: 'ECA Secretariat,

(O

Ufe

The stagnation of the savings rate for the non-oil exporting countries should be a reason for great concern if self-reliance and self-sustalnment are to be achieved. Within this income group, the least developed African countries show an increasing savings trend from 4*5 per cent in 1980 to 10,3.per cent of GDP in 1984, but the marginal propensity -o save of mere 0o08 remains less than the average savings ratio indicating that domestic savings will continue to grow less rapidly than income. The middle income non-LDCs, in contrasts show a higher savings performance although the marginal rates of savings are in recent years almost equal to the average which shows that the average savings ratios will continue at the same level as in the past (averaging 18.3 per cent)*

11

- 18 -

(d) The regions where the oil exporting countries are concentrated (

(North, Central and West Africa) performed better than the others ,-

(East and Southern Africa). |

(e) Gross fixed capital formation, on the other hand, decreased sharply n\ \ in the whole of developing Africa and in every income or country

group. The average share of fixed capital formation in GDP in the [ I

oil-exporting countries rose from 25.6 per cent in 1980 to 28,5 per i_.:

cent in 1981 but dropped to 26.8 per cent in 1982 and to 21.7 per f~j

cent in 1984. This investment rate remains quite low compared to the '-

record of 42.5 per cent achieved in 1975 and 39.3 per cent in 1979. p

In the non-oil exporting countries, fixed capital formation declined |_,

from 18.4 per cent in 1980 to 15.1 per cent in 1984. These ratios remain roughly the same as the ones achieved in the 1970s. Thus

n

there has been a stagnation in the investment rates in these countries as well.

U

(f) There is a distinction to be made between gross and net investment. ["]

Net investment excludes the expenses made for maintaining and --' renewing existing capacity, and it is therefore a better indication r--

of the net investment effort. However, it is extremely difficult to LJ

measure net investment in Africa, apart from ad-hoc methods like

using standard financial amortization. But direct information from a | number of countries indicates that there is a serious deterioration

of equipment, and the most visible sign is the state of disrepair of the transport system. In some cases like Ghana, the road system has

reached such a state that the evacuation of minerals and crops, f~]

particularly of the cocoa crop has become difficult. In other cases ^

like Zaire, some parts of the country are so far from the main cities ^

that they have more or less gone back to subsistence. These cases LJ

are a strong indication that net investment is probably much lower

than what gross figures show. .

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(g) Comparison of savings and investment rates shows resource gaps

: averaging 4.2 per cent in the non-oil exporting countries. The gap J was 7.9 per cent for least developed countries. Oil exporting , countries recorded a resource surplus averaging 6 per cent of GDP [ . over the same period. This dependence on foreign assistance to finance investment is greater in countries with relatively low per

1 "i . ■

capita income (LDCs) than in the higher income categories. This

■-) . . ■ .

confirms what is well known, that savings and thus the capacity to

'] finance development domestically is a positive function of income and

I 3/

J growth —'.

n

U 5.3 Issues in Resources Mobilization H

:_j The low savings rates in developing Africa in general, and in the non-oil exporting countries in particular, are related to several factors,

, chief among which are low income, high consumption patterns and structural

deficiencies which constrain the ability of African governments and people to

'/I raise revenues necessary to finance development expenditures.

H The low level of per capita income in the majority of the African

-J countries is the principal reason for low savings in these countries. Indeed, n the major oil-exporting countries whose savings performance were found to be

[J satisfactory have their 1982 per capita income ranging from $860 for Nigeria to

$8,510 for the Libya. Most of the non-oil exporting countries have a per

\ capita income much below this bracket. In addition, the economies of these

countries which are dominated, to a large extent, by the agricultural sector

(P] recorded very low growth during 1980-84 partly as a result adverse weather

conditions.

W Another reason why savings in non-osl exporting countries continue to

m remain at very low levels is the persistent and significant increase in the

j|y volume of total consumption expenditure. Given the relatively low level of per

capita consumption in most African countries, there is a tendency to have high :;; marginal propensities to consume (measured in real terms) as shown in the Table

6. Under normal circumstances, one would expect that as the income level

3/ Jan Tinbergen, "Savings and Development Ways and Means to achieve the

L_J onaic nf t-hi

- 20 -

increases over a certain period, the marginal propensities to consume would decrease or stabilize at some point when basic consumption needs have been

satisfied. This was not the case in developing Africa. Even in the rela tively rich oil-exporting countries, there was a jump in their marginal propen sity to consume from an average of 0.66 in the 1960s to an average of 0.88 in

the 1970s, dropping however to 0.34 in 1980-84. The sharp increase in the

1970s seems to have resulted from the very rapid increase in consumption which became prevalent in some of these countries after the oil boom. In addition, government consumption expenditures for developing Africa as a whole were growing faster than GDP. In real terms, they accelerated from a yearly growth of 5.7 per cent during 1960-65 to 8.3 per cent during 1965-70 and to 9.7 per cent during 1970-75. There was deceleration, however, to 6.9 per cent in 1975-80 and to 0.7 per cent in 1980-84.

Table 6

Developing Africa's Marginal Propensities to Consume (1960-1984)

Oil-exporting countries Non-oil exporting countries Least developed countries Developing Africa

Source: Based on ECA secretariat

1960- 1965 0.30 0.81 0.98 0.66 data.

1965- 1970 0.76 0.84 0.86 0.80

1970- 1975 1.07 0.71 1.00 0.90

1975- 1980 0.66 0.86 0.94 0.75

1980- 1984 0.34 0.69 0.83 0.65

A number of other factors are known to influence savings preferences

in developing African countries. Social, religious, political and institu- i | tional factors are also instrumental. In spite of the low levels of income in

■ ■ ■ ■ fi

non-oil exporting countries, there is a tendency in Africa for part of the ! surplus to be spent on ceremonial and ritual v ses or to be hoarded in the form

of currency, gold, foreign exchanges and jewelry. Individuals are sometimes (~H reluctant to exchange their physical assets for financial assets. Currency,

1 !

^ gold and jewelry are hoarded in traditional forms, partly because of lack of prn confidence in formal financial institutions. The underdevelopment of banking y.j habits, the scarcity of active financial institutions and the distribution of

those already in existence (which tends to be concentrated in large cities) ! j constitute the main structural deficiencies which limit the receipt and

- 21 -

5.4 Alternative Policies for Domestic Resource Mobilization

The Lagos Plan of Action invited the African countries to mobilize their entire human, material and financial resources for their socio-economic development and stressed the fact that the outside contributions should be seen only as supplementary to Africa's own resource mobilization efforts and not as the mainstay of its development. — There are three approaches African govern- ments can take to stimulate and mobilize domestic savings: through forced means, induced savings and by contractual forms. In addition to these approaches, the mobilization of unutilized and underutilised labour can also be envisaged.

(a) Forced Savings

Forced savings means the withdrawal of financial resources from individuals and enterprises by state action. This withdrawal may take the form of taxation (fiscal policy) or reduction in purchasing power through inflation

(monetary policy).

Fiscal Policy. Taxation, both direct and indirect, is the most

n; ! important policy instrument in the hands of the governments to mobilize LJ domestic resources from the community. Indeed, in most African countries tax

^ revenues account for over 70 per cent of public revenues. Within tax revenues, 1 Indirect taxes which include custom duties, sales taxes and excise duties, m remain the principal sources of revenues whereas direct tax on income and

liiJ profits are of less importance because of the low tax base and tax evasion.

Thus, forced savings on incomes, and other expedient measures such as the [y introduction of state lotteries, can be justifiable measures for mobilizing domestic resources. However, because of low-income levels, there is a limit beyond which taxation of income can go without generating negative effects on J voluntary savings. To reduce this problem, governments can apply a highly

[^1 progressive direct tax structure, in order to curtail the consumption expendi-

^ ture of high-income groups and reduce social inequality. The tax proceeds

A/ 0AU» Lagos Plan of Action for the Economic Development of Africa

1980-2000. International Institute for Labour Studies, Geneva, 1981. pp«

8-9.

- 22 -

obtained in this way can be returned to enterprises wholly or partly in private hands in the form of government loans for investment purposes or the government can use it to acquire equity in enterprises. Part of the tax proceeds could also be deposited with the banking system and used to extend credit to the private sector for investment purposes (without generating infla tionary pressures).

As already notedi African governments have relied much more heavily _ on indirect taxation for their revenues. Looking at the tax structures I prevailing in several African countries, it is found that a disproportionately

heavy burden of the tax falls on the rather small market sector of the economy as a result of which the volume of tax revenues continues to remain small. In several countries, the ratio of tax revenue to gross domestic product is less than 15 per cent while that of other developing countries is as high as 30 per

cent. This indicates that there may be an untapped tax potential in developing f-j Africa and that additional revenues to finance development programmes could be _j generated through the introduction of new tax measures. At the same time,

African governments should initiate and support the development of appropriate |^

institutional machinery in order to improve tax collection.

Furthermore, as agriculture remains the foundation of African

D

economies, appropriate taxation of the agricultural sector to tap the H agricultural surplus could mobilize additional resources, instead of heavily — relying on tax revenues from the small monetized sector of the economy. f—

Therefore, the scope and structure of different types of taxes should be L studied in each African country not only to ascertain the tax base but also to

broaden the information required to formulate appropriate tax policies for the jj purpose of fuller resource mobilization. .

-, ; Monetary Policy. Another method used by some African governments for

forced savings, in the absence of an increase in voluntary savings, is deficit [^

or inflationary financing. This policy consists mainly of expanding the money ^

supply to finance the government budget deficit. Inflation as a tax on money m

holdings can reduce real consumption and mobilize saving by redistributing U

income from the private sector to the government sector, and from fixed income

earners to profit earners, both of which can be favourable to productive : I investment. The main rationale behind such inflationary policy is that several

n

23 -

African countries are rich in natural resources such as land, labour and -; minerals, but lack the financial means to bring these resources into effective --; use. Funds raised through deficit financing should thus be directed at such idle or underutilized resources. Otherwise inflation could adversely affect growth through misallocation of resources in favour of speculative investment, 1 and worsen the distribution of income in the society.

I (k) Promotion of Voluntary Savings

l—| There are two domestic forms of voluntary savings; corporate and

"J household. Corporate savings originates from business profits which, if

'~~i undistributed, are ploughed back in the economy through self-financing.

■-j Business profits generated by both private and public enterprises can be ,-^ mobilized or otherwise manipulated through tax policies. However, ultimate :j success in this area significantly depends on whether enterprises under the government control eliminate inefficiency. Experience in many African 1 countries with a large public sector indicates that most of public enterprises, instead of making profits, incur losses and impose serious financial burdens on

'~~l government budgets. Their poor economic and financial performance results from

^ a wide range of factors including low capacity '■ utilization, the small size of

~"> the market, inadequate supply of raw: materials and spare parts, unrealistic

—J pricing, and managerial inadequacies. Thus, resources available to governments

,™ can be increased if inefficient public enterprises are reformed and their

i^J efficiency restored. i

i Household saving is the kind of saving that African governments are most anxious to promote and mobilize in the context of the policy of self- I reliance. This, however, remains difficult to do because of several constrai

ning factors such as the smallness and scatterdness of personal savings, the

□high cost of mobilizing it, existing practices which do not encourage thrift, the extended family system, passiveness and distrust of existing financial am institutions, the virtualy absence of money and capital markets, lack of y economic motivation for savings,, the enduring habit of hoarding or investing in tangible goods, the scarcity of banking services in rural areas, etc. Tax I incentives, publicity campaigns to enroll individuals in saving schemes, positive real interest rates on savings etc. are among the policy actions which LJ rniild he used hv African ffnveriiments to nromote nersonal savines. An imDOrtant

role of government which could have a cumulative effect in the context of the

long-term process of economic development would be to overcome the above structural and institutional obstacles which inhibit the mobilization of personal savings in Africa.

The productive use of savings may be hampered by apparent lack of investment opportunities and the absence of an efficient money and capital

market. In this case, the government can tap these resources by means of public borrowing from the private sector through issuing of securities, bonds and certificates in order to finance development programmes. Another policy

alternative is to improve money and financial markets by appropriate institu tions, the development of a wide range of financial instruments, etc.

(c) Mobilization of Contractual Savings

Contractual savings are a long-term form of saving which involves definite and continuing commitment on the part of individuals to make regular payments of certain sums of money for specific purposes, e.g. insurance premiums against adversity, pension fund contributions, social security contributions, life assurance, etc. This form of contributory savings is most commonly used in advanced countries. The resources derived from these sources, particularly life insurance and pension contributions, are channelled in

capital markets projects. In

to be invested and used to finance medium and long-term

^eloping African countries, some governments have in recent

years been paying growing attention to these forms of saving, but their relative weight is still small because of the difficulties involved in setting up and strengthening appropriate institutions. What is, therefore, required is to design appropriate institutions and instruments aimed at broader coverage of

the population.

(d) The Mobilization of Real Resources

The mobilization, for productive use, of the savings potential concealed in rural and urban unemployment and underemployment has long been advocated by many economists as an important method for mobilizing real domestic resources for capital formation. Nurkse, in particular, stressed the fart that the underemployed labour represented potential but disguised savings;

U

u

y y

□

uJ

25 -

massive mobilization of the entire labour fore® was for a long time an important production method.

Some African countries have already started making use of this method of resource mobilization with successful results. For instance, Rwanda in the so-called "UMUGANDA" scheme mobilized the labour of men and women in order to carry out the implementation of some projects contained in its Five-Year Development Plan (1982-86). The method is also being used in Ethiopia, in Burkina Faso, and, in other developing African countries. A word of caution, however, has to be said, as in some cases the use of such labour has not produced wholly positive results.

_5/ Ragnar Nurkse, Problems of Capital Formation in Under-developed Countries Oxford: Oxford University Press, 1953.

PR

- 26 -

PART II: EXTERNAL DEBT IN AFRICA 1971-1983 '

i. i

1. The Role of External Debt in Development — r~

l

Today, debt is associated with problems while two decades or so ago, debt was a normal input in the development process. Indeed, evidence shows that in Africa debt accumulation has been accompanied by positive growth rates

in per capita GDP up to early 1970s. The purpose of this section is to put in !

perspective the role of debt in economic growth, as questions have been raised

as to the rationale for wide use of debt-creating flows in development, in P

light of the current debt problems many African countries are facing. ~

At independence, African countries inherited very little in terms of L'

economic development although they were (and still are) endowed with vast ■—

natural and human resources. Development plans were, therefore, drawn up [__, calling for provision of infrastructures essential for the development of

agriculture and industry. Health and education facilities had to be provided in order to improve the quality of life and skills. These facilities involved

heavy importation of inputs which implied the need for foreign finance to P

supplement export receipts. Given the initial low level of domestic savings,

foreign finance was also required to supplement domestic savings. Thus, H

foreign finance was expected to play a dual role. — L

The Inflow of foreign capital has a positive and potential role to [j

play in development. Some models of foreign finance in development show that growth would be higher with foreign capital inflows than that achievable with domestic resources alone. —8/ For debt-creating flows, however, the projects

and programmes financed should yield returns in convertible foreign currencies \ high enough to service the debt. Alternatively, gross inflows of debt funds

J7Most of the material used here has been drawn from a study under prepara

tion at the ADB. R

TJ As for instance argued in H.B. Chenery, and A.M. Strout, "Foreign Assis

tance and Economic Development" American Economic Review, Vol.56 (Septem- p ber, 1966)

8/ See for example, D. Avramovic, et al. Economic Growth and External Debt

(Baltimore, Johns Hopkins Press, 1964) and A.P. Thirlwall, Growth and ] Development with Special Reference to Developing Countries, (New York, lu Halsted Press, 1977) (Second Edition).

- 27 -

must exceed the outflows due to debt service. If either of these conditions does not hold, then the borrowing country would be faced with debt-service problems which could have a negative impact on growth of the economy. —9/

A review of the literature on the role of foreign finance as supple mentary to domestic savings indicates that some of the inflows may have encouraged consumption rather than investment. There is some cross-section evidence which shows statistically significant negative relationships between domestic savings or growth in income and foreign capital inflows. — A time series data (1960-1974) study on 16 African countries also revealed a negative relationship between domestic savings and foreign finance, although the co efficients were statistically significant in 11 of the countries in the sample.

— The explanation for this relationship has not been readily available.

However, it has been suggested that the ready availability of foreign capital inflows to the borrowing countries tended to weaken the incentives to raise the domestic savings ratio. —12/ Partial evidence in support of this explanation could be existence of persistent budget deficits and the policy of low interest rates which make it unattractive to save on the part of private households.

Although this explanation for the observed negative relationship between domestic savings and inflow of foreign capital seems reasonable, there are other more plausible explanations which can be advanced. Since in developing countries, and in Africa in particular, the biggest foreign finance recipient has been the public sector, it is possible that some of the aid may have naturally gone into public consumption, mainly due to the need to finance

9/ In the case of the second condition, the borrowing country would simply be postponing the debt-service commitments (unless those inflows are non-debt creating such as grants and direct investment employed in the export sector).

10/ See K.B. Griffin and J.L. Enos "Foreign Assistance: Objectives and Conse quences," Economic Development and Cultural Change, Vol.18, N°3 (April 1970); K.B. Griffin "Foreign Capital, Domestic Savings and Economic Development", Bulletin of the Oxford Institute of Economics and Statis tics, (May 1970; and T.E. Weisskopf, "The Impact of Foreign Capital Inflow on Domestic Savings in Underdeveloped Countries", Journal of International

Economics, Vol.2, (1972). :

11/ J.U. Umo "Empirical Tests of some Savings Hypotheses for African Countries", Financial Journal, Vol.2, N°2 (1981).

_12/ G.F. Papanek, "The Effect of Aid and Other Resource Transfers on Savings and Growth in Less Developed Countries", Economic Journal, Vol.82, (1972), pp.934-950,

H