One of the continent’s more promising regions

East Africa is expected to be one of the fastest-growing regions on the African continent over the next few years, with two of the countries – Tanzania and Ethiopia – even anticipated to be among the top 10 fastest-growing economies in the world in the 2011-15 period. Although the region has historically been Africa’s stepchild in terms of collecting foreign direct investment (FDI), this picture is starting to change, writes Thalma Corbett.

Following the discovery of sizable oil reserves in Uganda, and gas in Tanzania, there has been renewed investor interest in exploration for oil and gas in this region. Mineral exports will also play an increased role and especially Tanzania can expect to add quite significantly to its export receipts over the medium- to long-term with increased production of gold, diamonds, gas, and solid prospects in terms of coal, uranium, iron ore and nickel.

Apart from anticipated strong economic growth rates, generally improving political and economic risk profiles have underpinned a rapid uptick in the region’s ability to attract FDI. An important development is also increased regional integration, which has supported East African growth tremendously during the 2008-09 global economic crisis, and is also expected to continue to do so over the medium to long-term.

The Common Market of the East African Community (EAC) was formally launched in July 2010, and will provide for free movement of goods, services, capital and labour upon completion. The bloc’s integration is making steady progress, but the hard part remains in translating EAC agreements into member states’ laws and bureaucracies.

With a total population of 133.5 million and a combined GDP of $74.5bn, the common market brings together Kenya, Uganda, Tanzania, Rwanda and Burundi. Intra-regional trade will continue to provide an important hedge against periods when global economic growth slows.

Service sector

The services sector makes a larger contribution than agriculture to the combined gross domestic product (GDP) of the East African countries, and is expected to continue to grow robustly on the back of improving fundamentals.

However, agriculture will remain of paramount importance, accounting for a major part of the region’s output, providing employment for the larger part of the population, and with agricultural commodities making a very important contribution to export earnings, and for the food security that agriculture provides. In this respect, the East African economies remain critically dependent on the weather, as it affects farm output, employment, food security and export receipts via its impact on the production of cash crops.

Furthermore, rainfall also determines hydropower output, with the region predominantly dependent on hydropower for electricity generation. Although potential in other renewable forms of energy is enormous, it will take a number of years before electricity generation is sufficiently diversified.

Most crops in the region continue to be dependent on rainfall, but moving to more widespread use of irrigation for economies so intrinsically dependent on the weather will be key to reducing volatility in agricultural output. This element is highlighted by the fact that unreliable, depressed, and erratic rainfall patterns have become an increasing problem in the region in recent years – and leads to volatility in export earnings, economic growth, inflation, and in the local currencies.

The potential of agriculture in the region is however enormous. This fact is progressively realised by foreign investors, who are targeting funding towards the sector, and by local governments alike.

Aid dependence

Yet, the East African countries remain among the most aid-dependent on the continent. Aid is critically important for a number of these economies in terms of funding the state budget. Aid contributes 29% of Tanzania’s budget revenue, while in Uganda this figure is 21.5% and in Ethiopia nearly 23%.

But the combination of a deep dependence and negative performance on criteria such as “governance”, “respect for human rights”, “corruption and mismanagement” makes Ethiopia a clear candidate for lower aid flows looking ahead. As one of the most aid-dependent countries in the world, Ethiopia would run into severe financial troubles if there are notable cutbacks in donor aid.

Uganda is seen to be less vulnerable to donor aid cutbacks than Ethiopia, but its governance record is slipping and its long-time President Yoweri Museveni is becoming increasingly repressive. Overall Uganda may be facing a challenging road to 2020 unless its governance and human rights records improve.

Turning to Tanzania, there has been some disquiet among donors over corruption scandals and the slow pace of reforms – thus any outlook for donor funding ahead is not without its risks. Kenya is seen as less dependent than Tanzania, Uganda or Ethiopia, because as a result of past concerns over corruption, the government factors  minimal aid contributions into its budget.

Overall risk  profiles

Overall, the sovereign risk profiles of Kenya, Uganda, Tanzania, and Rwanda – taking into account both economic and political risk – have improved over the past three years, and for the most part, the outlook is positive.

However, despite fast economic growth, Ethiopia has seen an increase in sovereign risk in recent years. Over time, better infrastructure, increased diversification, better integration within the region, and supportive government policies will move especially the EAC grouping of countries to a higher platform. But for a long time still, these economies will be subject to periodic droughts that will impact hydropower output, cash crop production, and food security.

Key risks to the region – apart from weather externalities – are any potential donor aid shortfalls, a severe downturn in the European Union, which remains important both from an investment and trade perspective, and very high oil prices.

We expect to see a number of false starts and temporary lapses, but the overall momentum is positive. We certainly view the region to be among the most promising the continent has to offer.

(Thalma Corbet is Chief Economist at NKC Independent Economists who investigate and interpret the sovereign risk, and political and macroeconomic conditions, of 30 African countries to caution against pitfalls and guide investors towards opportunities. Research, projections and insights are provided within the context of the research unit’s comprehensive knowledge of the African continent, its history and each country’s unique political and economic setting.)