Africa’s Capitalist Revolution

EDITOR'S NOTE: The West should avoid protectionism if African economies are to stay afloat during the global financial crisis, writes Ethan B. Kapstein, INSEAD chair in political economy in Fontainebleau, France, and a visiting fellow at the Center for Global Development in Washington, D.C. For his full essay, please visit the Foreign Affairs magazine's Web site. A few excerpts:

In one of the great ironies of history, Africa may well emerge from the current global recession as the only region in the world that remains committed to global capitalism. While the tired industrialized nations of the West are nationalizing their banks and engaging in various forms of protectionism, Africa remains open for business - promoting trade, foreign direct investment, and domestic entrepreneurship. Analysts in the industrialized countries are concerned that foreign aid flows to Africa might drop because of the recession, but Africans themselves are much more worried about rising barriers to their exports and diminishing private investment from abroad, which could impede the continuation of the impressive economic progress the continent has made over the past decade.

It is still a well-kept secret that the African continent has been in the midst of a profound economic transformation. Since 2004, economic growth has boomed at an average level of six percent annually, on par with Latin America. This rate will undoubtedly decline as a result of the global financial crisis, but the International Monetary Fund still projects growth of around 1.5 percent for this year and four percent for 2010 throughout Africa - a relatively healthy figure by today's depressing standards. International trade now accounts for nearly 60 percent of Africa's GDP (far above the level for Latin America), and foreign direct investment in Africa has more than doubled since 1998, to over $15 billion per year. Overall, private-sector investment constitutes more than 20 percent of GDP. Furthermore, since 1990, the number of countries with stock markets in sub-Saharan Africa has tripled and the capitalization of those exchanges has risen from virtually nothing to $245 billion (that is, outside of South Africa, which has long had an active stock exchange).These "frontier" markets have, until recently, given investors huge returns compared to those found in other emerging economies.

But given the continent's many chronic problems, these changes are not necessarily durable, and they could easily be reversed by the current crisis and rising protectionism in the West. If Africa does not do more to encourage entrepreneurship, and if the current great recession leads to a significant reduction in foreign capital flows and higher trade barriers in the United States and western Europe, then the region's nascent capitalist revolution could meet an untimely demise.

Globalizing Africa

Foreign interest in Africa has been growing. Thanks to the world's portfolio investors, the capitalization of African stock markets jumped to 60 percent of GDP in 2007, up from just 20 percent two years earlier. Foreign direct investment has also risen and now accounts for nearly five percent of sub-Saharan Africa's GDP.

There are several reasons why foreigners have invested in Africa. First, African banks are among the healthier financial companies anywhere in the world, having been relatively shielded from the toxic assets that are now laying waste to U.S. and European financial institutions. (Capital-to-asset ratios, for example, are currently far higher for African than for American banks.) As African savings rates increase and as investment opportunities there expand, these banks will play a much larger role in local economies than they have in the past. Second, robust economic growth and a rise in domestic investment - which means the existence of more major banks and corporations - have presented foreign investors with more serious opportunities there than ever before. Third, the rise of a true African business class, comprised of executives who are often Western-trained, has given foreign investors more confidence in local management. Fourth, many African countries have made tremendous progress with respect to macroeconomic stabilization; in fact, thanks to independent central banks increasingly led by technocrats, the continent has compiled an enviable record on controlling inflation (with Zimbabwe being an awful outlier), one that puts Latin America to shame. Finally, investors have been encouraged by democratization across the continent and the increasing emphasis on good governance.

Protection from protectionism

The future of Africa's development hinges on whether the continent will be able to complete its capitalist revolution or the tidal wave of problems created by the global economic crisis will drown the hopes of the region's entrepreneurs. A recent study by the Center for Global Development found that Africa's private sector was all too often impeded by poor infrastructure, small markets, and weak governance. The study also found that ethnic fragmentation remains a divisive factor in economic and political life throughout Africa.

Despite some recent success stories, democracy also continues to struggle on the African continent. Young democracies in Africa have had a higher failure rate than those in any other developing region, with nearly 30 percent of all cases of democratization between 1960 and 2004 ending in collapse. On a more hopeful note, however, Africa's successful democracies have become increasingly stable, thanks in part to the foreign aid that has been targeted at strengthening nascent democratic institutions. This aid has built up the capacity of judiciaries and parliaments and bolstered political parties, universities, and a free press.

Even with strengthened democratic institutions, African countries may not be able to withstand the economic pressure from abroad given Africa's growing dependence on foreign capital and trade. Everywhere, countries are beginning to batten down the economic hatches, closing off their economies to foreign trade through a variety of insidious policy measures. Protectionist policies that currently prevent African farmers from exporting genetically modified crops to the European Union are likely to harden in the months ahead as EU leaders attempt to appease their domestic agricultural sector.

It is hard to imagine Barack Obama - a U.S. president of Kenyan descent - leveling such a cruel blow against his ancestral homeland. Yet although the Obama administration was tireless in warning of a domestic catastrophe if Congress did not pass an economic stimulus package and a bailout for U.S. banks, it has been relatively silent when it comes to warning of the international catastrophe that would accompany a renewed round of protectionist policies. The "Buy American" provision of the stimulus package that President Obama signed into law - which he has defended as being consistent with the rules of the World Trade Organization - exposes the absurdity of developed-world governments that give with one hand by promoting economic development and take with the other by practicing protectionism. Africans have already taken up the shovel to dig themselves out of a half-century-old hole of poor economic management and bad governance. It is now up to the United States and its European allies to help them complete the job.