How to invest in Africa as it takes its place in the post-pandemic sun
The African Continental Free Trade Agreement has come into force. Favourable demographics, improving governance and a growing technology sector also bode well for the continent, says Matthew Partridge.
Africa has been in the news for all the wrong reasons. A new wave of Covid-19 in South Africa, fuelled by a new and apparently more infectious strain of the virus, has already led to new restrictions. Analysts fear that both the severity and the length of the pandemic, and the damage to the region’s economies, will be compounded by this new strain. However, investors should look beyond the grim immediate news: the continent’s prospects are surprisingly good.
Towards an African single market
One of the reasons why Africa’s economic development has been slower than elsewhere is its failure to embrace free trade. One measure of this is the level of tariffs, or taxes on imports. According to the World Bank, the average tariffs in the UK and US are 1.6% and 1.7% respectively. By contrast, South Africa charges an average of 4.3%, Nigeria 8.5% and Kenya 10.1%. As a result, total trade (imports and exports of goods and services) accounts for 64% of UK GDP, and an average of 61% for members of the OECD (an association of developed states). But it is worth only a third of GDP in Kenya, South Africa and Nigeria.
In the past, the continent’s leaders tried to rectify this problem by using bilateral and regional trade agreements to reduce tariffs. However, these agreements were patchy and incomplete; hence the plan for a more ambitious scheme that would cover the entire continent.
In 2018, 54 out of 55 members of the African Union, from Algeria and Egypt in northern Africa to South Africa in the south, signed up to a deal creating the African Continental Free Trade Area, or AfCFTA (the only exception being Eritrea). Enough countries (34) ratified the trade deal last year for it to come into effect for all signatories at the start of this year.
The AfCFTA is certainly an ambitious project. Not only does it immediately slash most tariffs between member states, but it also has the ultimate goal of creating a single market in goods and services with free movement of capital and people, which should help stimulate investment. There are also plans to set up a customs union, with a common external tariff.
While such deals theoretically reduce individual trade flexibility for individual countries, a pan-continental approach should accelerate the demise of protectionism and facilitate better trade deals with other major countries and trade blocs than individual countries could negotiate on their own.
The agreement is “a great opportunity for Africa”, says Sergey Dergachev, senior portfolio manager and head of emerging markets at Union Investment, one of Germany’s largest asset managers. By lowering tariff barriers it should tackle one of the continent’s main problems, which is “the low level of intra-African trade”.
Lower trade barriers and relaxed rules on free movement around the continent will also helpAfrica benefit from the “demographic dividend” of a relatively young population, with a median age of only 20 (half that of the UK). Combined with the rise of virtual working, which will boost the opportunities for digital outsourcing, it should “significantly boost Africa’s long-term growth”.
Removing tariffs by having one pan-African trade agreement, rather than multiple small trade blocs covering only a handful of countries each, is a “huge step” for the continent, and one that should significantly boost GDP growth, agrees Virág Fórizs, emerging markets economist for Capital Economics. The gains will be even greater if the agreement acts as a catalyst for reducing less visible trade barriers. Harmonising regulations, for instance, is part of the eventual road map outlined in the agreement.
Governance is improving
Aside from the economic benefits of freer trade, the AfCFTA is also a symbol of how quickly Africa is getting its economic and political act together. For example, Elizabeth Smith and Jonathan Said of the Tony Blair Institute for Global Change think that while progress has been “slow” over the past six decades, “the pace of reform has noticeably increased over the last five years”.
This is partly due to the fact that “business and civil servants are starting to learn what reforms work”. There is also a move towards appointing experts (rather than politicians) to run key institutions such as central banks.
However, there is also evidence of a generational shift, as “the leaders of many African countries tend to be both younger, typically in their 30s and 40s, and better educated than before”, say Smith and Said. This has made them much more receptive to change and less tolerant of corruption and red tape. It has also led to a “general improvement in property rights and [the] rule of law”. While corruption in extractive industries such as gold and oil endures, it is “reducing elsewhere” and African governments are “now much more focused on creating an environment where industry and agribusiness can thrive”. One indicator of increased stability is the declining number of coups. According to research by Jonathan Powell of the University of Central Florida and Clayton Thyne of the University of Kentucky, there were around 40 coups each decade between 1960 and 2000. However, between 2000 and 2010 the figure fell to 22. Between 2010 and 2019 it declined to 17.
Union Investment’s Dergachev is a little more cautious about progress on African governance. In particular, he argues that when it comes to property rights and corruption, the “gap between the best and the worst performers in Africa is so wide that many people argue that [it is] better to look at progress in individual countries rather than treating the continent as one homogenous whole”. One chronic problem holding back change is a lack of transparency.
Still, even he sees grounds for optimism, especially since there “has recently been a major push across several major countries in the region for increased communication and transparency”. This has already led to “major improvements” in countries such as Senegal, which has shot up from 29 out of 100 to 45 on Transparency International’s Corruption Index in just seven years (the higher the figure, the better, and the global average is around 60/100). There has also been “visible progress” in other countries too.
A near-term boost from vaccines and commodities
Free trade and reduced corruption should raise Africa’s potential growth rate in the medium and long run. But the advent of vaccines will also provide a short-term boost in the next few years. They are not due to arrive in African countries until later this year, or even 2022. However, in the meantime the continent will still benefit indirectly from the return to normal life in the developed world, which is expected to happen around the middle of this year. The subsequent global economic recovery should in turn boost commodity prices, good news for resource-rich Africa.
One commodity likely to do particularly well is oil, which experienced an awful year in 2020, with prices briefly turning negative during the worst of the crisis and only partially recovering since. Fórizs thinks that oil prices will benefit from the fact that “demand for oil-intensive goods and services will increase as people in developed markets return to work and resume travel”.
Supply-side factors are also likely to provide additional support, with oil-exporters’ cartel Opec likely to keep a lid on supply; Saudi Arabia has just reduced its output. As a result, prices are likely to rise from their current level of $50-$55 a barrel to the $60+ levels they were trading at before the virus emerged.
Industrial metals are also on the way up, says Fórizs. Copper in particular, which has already advanced 70% from its lows last March, will continue to benefit from China’s fiscal stimulus, though this is likely to be tapered back by the end of the year. In terms of specific countries, Nigeria, Angola and Ghana will be the biggest winners from a strong oil price, while Zambia and South Africa will do well from strong copper prices, especially as more mines in both countries continue to reopen.
The sectors poised for long-term growth
So which sectors will be the big winners from Africa’s new renaissance?
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