Africa after the Credit Crisis (PART 2)

Yesterday The New Times published the first part of this analysis on ‘Africa after the Credit Crisis,’ in which the authors argue that the global credit and banking crisis sparks questions about the system of finance – the world of globalisation – that has brought prosperity to billions of people world-wide since the end of the Cold War. This article continues below,,, ,,,Of course, this picture of a real economy floating free from a tiny financial sector is not wholly true. In Kenya and Nigeria, at least, a bank crisis would do real harm. In most other countries, the very lack of development of financial intermediaries places a long-term brake on growth; yet, directly or indirectly, we all are borrowers from the very western banks that are now illiquid and overly cautious. Also, South Africa’s growth of the last decade has in large part been based on domestic credit extension that will not be a sustainable under virtually any post-crisis scenario. Its vulnerability to portfolio flows to finance its balance of payments’ deficit threatens high inflation and a decline in the value of its currency – though in the long-term this may not be a bad thing for its businesses and their competitiveness. Also, to the extent that large corporations rely on roll-over funding from international capital markets, the impact can be quick and painful, even calamitous. But although comparatively shielded from immediate consequences, African economies can be greatly affected by the financial crisis if any of three effects turn out to be large and persistent. These are: (i) A global slowdown, implicating China, that results in commodity prices to settle at sharply lower levels; (ii) A shutdown of international funding for high-credit risk, long-term projects at the periphery; and (iii) a sharp fall in official support for Africa, both bilateral and multilateral (as it did during the emerging markets crisis of 1997/8). There are thus three possible worlds that we face: Recovery: This is premised on the fact that this is only the latest in a series of global financial crises. (The World Bank has identified no fewer than 117 systemic banking crises in 93 countries since the late 1970s.) In this scenario, while there will be a temporary dip in world markets, a combination of better regulation and less enthusiasm among investors will see a slow return, perhaps not to the levels of interest in risk as before. Regardless of the overall recovery, this may lead to a downward cycle in all commodity prices, negatively affecting most African countries, where continental growth has historically tracked such prices. However, while Africa could suffer from the cocktail of less capital and risk-aversion, it might benefit as investors seek value in traditional ‘hard’ (infrastructure, factories, mines) assets and an eventual recovery in commodity prices, albeit not to the high levels recently seen. This would obviously be the best scenario for most African countries. Rapid Reinvention: The US economy is able, as it has done before, to reinvent itself quickly if painfully, partly through the current bailout which helps to restore confidence and market liquidity. Given that the value of global financial flows have become delinked to the reality of physical assets (what Alan Greenspan has refered to as the ‘irrational exuberance’ of the markets), in this scenario there is a return to value determined by ‘traditional’ industries such as manufacturing, while speculative capital shifts away from financial instruments more into commodities trading. Some African countries could come out as winners but a premium would be placed on which countries could innovate and invest their commodity earnings most productively. Depression: The financial crash throws into doubt the current global financial system, pushing up protectionist trading measures and undermining the basis of the last 20 years of growth: Asian producers and financiers on the one hand, and American and European consumers on the other. Reduced trade access, capital and aid flows for emerging markets result, producing greater downward pressure on their currencies and upward inflationary pressure. Expect, too, less available cash for consumer goods and thus crisis in both raw commodity exports and low-value-added manufactured goods and services. Most African countries would inevitably become much poorer under this scenario. Overall, for Africa, the most important possible short- to medium-term development is in the deflating of commodity prices. If the ‘deleveraging’ of assets persists worldwide, then everything that everyone owns will be less valuable. This would include commodities in the ground. In addition, a recession in the West – and China will follow – will cut demand for commodities. Oil is certainly already on the way down and other commodities may follow. A healthy warning: events have been moving so quickly that what people were thinking and those bold enough were writing even two weeks ago seems quaint and out-of-date. But as the dust settles, the likely effects are of a less generous world of rising prices, with more people likely to fall into rather than be lifted out of poverty failing rapid economic reinvention into alternative productive sectors. Major long-term trends have been driving capital to developing markets. Investors will pursue stable opportunities in developing markets with a track record, even though there is fierce – likely fiercer today as a result of the crisis – competition between them. Thus for reformers their priorities of macro-economic stability should not change. To the contrary, they should be accelerated. Professor Herbst is provost of Miami University; Mills heads the Johannesburg-based Brenthurst Foundation; Trejos is Professor at INCAE Business School in Costa Rica. Ends