Primary Commodity Booms and Busts Emerging Lessons from Sub-Saharan Africa

Africa has yet to overcome the challenges of dependence on primary commodities, which account for more than 60 percent of merchandise exports in 28 of the 38 African countries with recent data. Little progress has been made in producing more sophisticated goods: an index of export diversification for sub-Sahara Africa (SSA) increased by around 1 percent from 1995 to 2013, and the share of Africa’s manufacturing sector in GDP has fallen since 2000 from 14 to 10 percent. Commodity prices boomed from 2003 to 2011, fuelling a 2.7 percent a year increase in SSA’s per capita GDP. However, the recent fall in commodity prices has once again imposed considerable economic hardship, re-igniting concerns over the implications of dependence on commodity exports for development. Commodity dependence can impair growth. The concentration of wealth from oil and minerals encourages rent-seeking and corruption, and competition for these resources may foment civil conflict. Commodity price volatility can drive booms and busts in economic activity. This increases transaction costs because resources have to move between sectors. It also disrupts investment programmes if projects are abandoned due to the drying up of funds. Volatility can also reduce long-term growth prospects because unemployed workers lose opportunities for gaining experience and often lack the resources to invest n their education. In addition, high levels of uncertainty can reduce capital investment. Sustained high levels of oil and minerals prices also tend to reduce incentives for the production of manufactures, which often provide opportunities for increasing returns and learning that are not available in the production of primary commodities. Commodity exporters have faced severe challenges in managing earlier commodity price cycles. In the 1970s, many African governments ramped up investment spending, borrowed heavily on the anticipation of continuing high prices, and increased current expenditures in ways that were difficult to reverse, which helped to generate the debt crises of the 1980s. Many SSA commodity exporters maintained boom spending as prices declined in the 1980s and failed to reduce consumption during the 1998 price drop, which helped drive ensuing economic crises. Nevertheless, some African countries have managed commodity revenues well during booms, for example, Cameroon in the 1970s and Botswana over a long period. The global commodity price boom that began in 2003 was driven by increased demand for oil and industrial metals, due to rising incomes and massive infrastructure investments in rapidly growing emerging markets. Prices turned down by 2011 as global demand softened, while supply kept rising until the last year or two (depending on the commodity). Sharp declines in the global prices of oil, iron and copper reduced Bloomberg’s Commodity Price Index to an all-time low early in 2015. All major commodity categories were affected, with the notable exception of cocoa beans. The report provides detailed analyses of the impact of the commodity price cycle on ten commodity-dependent African economies. The countries were selected based on major commodity exports, the severity of the impact, and language and regional considerations. Commodity export prices fell in all ten case study countries beginning in 2012. Some countries were able to boost export volumes, and many benefitted from lower prices on commodity imports. However, current account balances deteriorated in all case study countries except Mauritania, South Africa and Uganda, and the purchasing power of exports (exports in nominal terms divided by the import price index) fell in half the countries. Policy adjustments were critical in helping the case study countries limit the impact of lower commodity prices on their economies. Nominal exchange rates with the US dollar depreciated strongly from January 2014 to mid-2015 in most of the countries. Inflation rates rose compared to earlier in this decade, but performance has been more mixed over the past year. Most of the countries, with the exception of high-inflation Ghana, are expected to experience only a slight rise or decline in inflation for 2015. Currency depreciation is playing an important role in increasing inflationary pressures, and some countries have tightened monetary policies to limit price increases. Fiscal balances in the majority of the case study countries have deteriorated since 2011, although there is considerable variability in the more recent data. Governments are boosting tax collections through higher tax rates (particularly on luxury goods) and by borrowing in international markets, delaying infrastructure investments, and cutting current expenditures to deal with the drop in commodity revenues. The deterioration in fiscal positions has encouraged efforts to improve the efficiency of public expenditures. Governments are also taking steps to diversify production by encouraging greater foreign direct investment (FDI), providing some trade protection for processing industries, negotiating trade agreements to encourage export production, and providing incentives for firms involved in industry and agriculture. Many countries also continue to invest in the production of primary commodities. An important lesson from the past few decades is that resource wealth can support rapid development, given the right policies. Governments can reduce the impact of volatile commodity prices by sharing the risks with extractive industry firms and by hedging these risks in forward or future markets. Fiscal, exchange rate and monetary policies can be adjusted to increase savings while commodity prices are high in order to generate the resources to support consumption and investment when commodity prices fall. Sovereign wealth funds that are designed for both stabilization and long-term savings have proven to be a useful device to capture commodities revenues during booms and have reversed the resource-curse syndrome. Governments can support domestic production of goods and services through well-designed local content policies and by targeting infrastructure services to local firms. International programmes such as the Extractive Industry Transparency Initiative (EITI) and local non-governmental organizations (NGOs) can help improve the transparency of oil and mining firms operating in the country. Finally, governments can ease limits on firms’ ability to switch resources between sectors to reduce the cost of adjusting to volatile prices. The United Nations Development Programme’s (UNDP) support for commodity-dependent economies could focus on four areas. UNDP could assist these economies to improve intergovernmental cooperation in order to boost intra-African and intercontinental trade. Technical assistance could be provided to strengthen macroeconomic management, for example, by improving data management and modelling capacity in government agencies. UNDP could help strengthen human resource development by assisting in the design of manpower strategies and improving coordination among training providers. Finally, UNDP could help African resource exporters link into regional and global value chains by facilitating finance for small-scale enterprises and the design and implementation of viable business advisory and trade policies.