Emerging Markets

How government should address revenue shortcomings

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This article first appeared in my weekly column with the Business Daily on October 23, 2016


Last week I participated in a panel discussion at the KRA Tax Summit on tax policy and economic development. Current fiscal policy is defined by a widening gap between expenditure and revenue generation putting a spotlight on the country’s tax regime and how to expand tax collection. While there are steps that can be taken to generate more revenue more effectively, several issues have to be acknowledged first.

Firstly, Kenya’s low GDP per capita means that incomes for millions are so small that tax cannot be effectively extracted from them. Linked to the poverty issue is dependency where those who are financially able often voluntarily support friends and relatives who are not because Kenya does not have a robust welfare system through which taxes are redistributed to those who need support. Thus the reality is that those who are taxed actually have low lived disposable income which presents a moral dilemma because in other countries taxes paid provide welfare services. In Kenya not only do millions pay tax, they are also the welfare system for millions of others. These high levels of dependency can be argued to be a form of tax that Kenyans pay for living in a country with no welfare system.

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(source: http://www.compassion.com/Images/KE_Urban_community_slide.jpg)

Secondly, the focus on the need to expand revenue generation needs to be coupled with pressure to reduce public expenditure. The fiscal deficit is not narrowing and is above the preferred government ceiling of 5 percent. It is crucial that government recurrent expenditure and excess spending is curbed so that less debt financing is required in annual budgets.

Additionally, one cannot make plans to expand the tax base in Kenya without addressing concerns around the management of public finances.  There is little incentive for Kenyans to be tax compliant because of the reality that many feel that the management of public funds is wanting.

Finally, many feel they do not receive services from government commensurate to taxes paid. So until Kenyans feels public finances are being managed responsibly and there is a clearer link between taxes paid and services rendered, tax compliance will not be a priority for many.

That said there are steps that can be taken to generate more revenue and indeed it is important that more revenue is generated to narrow fiscal deficits. A key strategy that has to be developed is structural and should target the informal economy. The aim is not to tax informal businesses but rather support their growth and development. At the moment the informal economy is defined by many micro-firms making micro-profits. I do not think the KRA has the muscle required to extract taxes from so many businesses; the effort would probably not justify the amounts extracted from the informal economy.

Thus government should develop a strategy focussed at making informal businesses more productive and profitable. Key elements of this support would be to provide the sector with proper transport, energy and water infrastructure, technical and business management training, and financing. Once informal firms are more profitable a conversation then can start about formalisation and pulling them into the tax net.

Image result for informal business kenya (source https://qzprod.files.wordpress.com/2016/03/a-kenyan-self-employed-business-man-agustine-karani-arranges-shoes-at-his-shop-in-nairobi.jpg)

Indeed what I have found is that when informal firms grow in size and profits there is a tipping point that is reached that creates motive to formalise. The motive to formalise is usually rooted in the need to access larger investment and contracts, and grow profits more aggressively. Thus it is possible that if government supports the growth and development of informal firms, many will reach that tipping point, self-formalise and become tax compliant.

Government should not view informal businesses as mischievous tax evaders, rather they should view these businesses as future tax payers. Target the informal economy with support and the sector will not only be an important employer, it will become a key source of revenue the government is so eagerly seeking.

Anzetse Were is a development economist; anzetsew@gmail.com

What Kenya and South Africa can learn from each other

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This article first appeared in my column in the Business Daily on October 16, 2016

Last week South Africa’s President Zuma made a state visit to Kenya highlighting the relations between the two countries. Beyond the agreements that have been reached, there are key lessons each country can learn from the other in terms of fostering robust and sustainable economic growth.

One key lesson for Kenya from South Africa is education; South Africa’s literacy rate is about 98 percent, Kenya’s is about 82 percent. But the real disparities reside in tertiary education. Currently only 4 percent of Kenya’s student population make it to tertiary education; in South Africa this figure is 20 percent. In terms of leading universities on the continent, South African institutions regularly top the list. In the Times Higher Education Ranking of the top ten universities in Africa, half are South African; and none are below number six. Only one Kenyan university (University of Nairobi) features in the top ten, and at number eight.

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Beyond ranking, a key concern of the Kenyan education is curriculum relevance. A report released by the World Bank this year stated that tertiary education in Kenya is characterised by a persistent mismatch of skills between what is taught and the requirements in the labour market. This is not to say that South Africa is perfect but at least there is an active, public interrogation of curriculum with active participation from government.  Kenya could certainly learn from South Africa here.

A second lesson for Kenya from South Africa is manufacturing and industry. South Africa is the continent’s most industrialized economy. Manufacturing contributes about 15.2 percent to South Africa’s; while in Kenya this figure has been stuck at 10 percent. This is not to say South Africa’s manufacturing sector is perfect, but Kenya could learn about increasing diversity in manufacturing. Manufacturing in South Africa is diverse constituting of numerous industries such as agro-processing, automotive, chemicals, ICT and electronics, metals and, textiles, clothing and footwear. Kenya’s manufacturing sector is dominated by food and beverages which constitute up to 70 percent of the sector according to some estimates. Again, Kenya can look to South Africa and learn how to diversify the complexity and build the role of manufacturing in the economy.

Now let’s look at what South Africa can learn from Kenya. East Africa is a bright spot in Africa largely because region is not commodity reliant. As the biggest economy in East Africa, Kenya’s resilience against the commodities slump is an important lesson for South Africa. A senior researcher at the South African Institution of International Affairs argues that the importance of commodities to South Africa’s economy cannot be overstated as they generate approximately 60 percent of South Africa’s foreign exchange earnings through exports. Indeed, the analyst makes the point that the commodities slump poses serious economic problems for South Africa, not only because of the extensive connectedness between mining and the rest of the economy, but the financial services sector was built on mining.

A look at South Africa’s export profile reveals that the top exports of South Africa are gold, diamonds, platinum, and iron ore.  The commodities slump has fundamentally negatively affected the economy particularly in managing the current account deficit.  South Africa’s economy shrunk by 1.2 percent in the first quarter of 2016; juxtapose this Kenya’s robust growth Q1 growth of 5.6 percent. South Africa could learn from Kenya better buffering its economy from commodities slumps.

The second lesson for South Africa from Kenya is black entrepreneurship. Given the complex history of South Africa and the legacy of apartheid, the face of South African private sector does not reflect the racial composition of its population. In fact there is a story that some in South Africa say that if whites knew how much money they would make by ending apartheid they would have voted against it a long time ago. And while programmes such as Black Economic Empowerment sought to rectify economic racial inequality, all it seems to have delivered is a few blacks contributing to white owned companies and hopping from company to another collecting dividends. South Africa has an important lesson to learn from Kenya in building black entrepreneurship. Indeed, some estimates state that the South African economy could grow by five percent in the future if the government and private sector invest R12 billion into 300,000 black-owned small businesses.

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(source: https://anzetsewere.files.wordpress.com/2016/10/89a66-small-business-in-kenya-invest-africa-businesses.jpg)

Kenya understands the power of black entrepreneurship and as an article in the Mail and Guardian states, perhaps the most meaningful economic change for millions of South Africans can come from a focus on developing small enterprises.

Anzetse Were is a development economist; anzetsew@gmail.com

 

 

The Economics of Africa’s Geography

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This article first appeared in my weekly column with the Business Daily on October 9, 2016

There is a little known branch of economics called Economic Geography which Kenya could pay attention to in order to garner new insights on factors that inform social and economic development. Economic Geography is essentially the study of location, distribution and spatial organization of economic activities across a region, and the implications to development. The pertinence of the field of study lies in how the development of Kenya and Africa, or the lack thereof, can essentially be seen as a function of geography. Some within this field argue that the underdevelopment of the continent is a case of ‘bad latitude’ and that income disparities within and between regions can be explained by erratic climates, poor soil,  low agricultural productivity and infectious disease which then mutually reinforce each other in a ‘vicious cycle of destitution’.

Jeffery Sachs makes the point that one of the reasons Africa has such a high burden of disease is because we do not have a winter; and winter essentially makes it impossible for most infectious agents such as parasites, viruses and bacteria, to survive. As a result, countries such as Kenya face chronic onslaughts of high levels of infectious agents because of our geographical location.

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(source: http://www.worldatlas.com/webimage/countrys/africasatview.jpg)

If Africa were located in European climes, some argue, it would be Africa and not Europe that would have economically dominated modern history. One study even goes as far as saying that if Zimbabwe were located in central Europe, the resulting improvement in its market access would increase its GDP per capita by almost 80 percent.

A country’s geographical location also pins down its position on the globe with regards to other countries and centres of power. This determines the importance of a country in international relations that in turn affects economic development. Some argue that one of factors that fed the Trans-Atlantic slave trade is the proximity of the eastern coast of the USA and the western coast of Africa. If these regions had been further away perhaps a different area would have suffered the horrors of slavery. In Kenya a similar argument holds; the choice of Nairobi as the nexus of power by the British may have informed why regions in and around Nairobi are more economically developed than those in the outer regions such as North Eastern. Perhaps had the climate in North Eastern been more to the liking of the British, Kenya’s socioeconomic landscape would be vastly different.

Another point made by economic geography is that the sheer size of the African continent negatively affects its economic development. Africa is massive; indeed one can comfortably house China, Japan, India, the USA, Eastern Europe, Italy, the UK, France, Portugal, Germany and Italy in Africa with room to spare. The implication of this on the cost of building infrastructure and ensuring access to all points of the continent is obvious. Indeed a study argues that halving distance between Zimbabwe and all its trading partners would boost its GDP per capita by 27 percent. In short there is the argument that if Africa were the size of Europe, it would be much easier and cheaper to build infrastructure and interlink the entire continent; a factor that would catalyse economic growth and engender closer socio-political ties.

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Africa’s geography has also been the foundation of its economic strengths; vast reserves of minerals and metals have been the backbone of the African economy. Sadly, these reserves have deteriorated into Africa’s ‘resource curse’ where rents from minerals in African often tend to accrue to elites and fail to trickle down to the poor. Therefore, there is an interface between geography and human behaviour. Political instability, the chronic mismanagement of funds by some African governments coupled with Africa’s position in the international division of labour also explain the continent’s limited growth and development, not just its geography.

Nonetheless economic geography provides a perspective of analysis, of which Kenya could make great use.

Anzetse Were is a development economist. Email: anzetsew@gmail.com;

Time for Africa to change strategic partnership with Asia

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This article first appeared in my weekly column with Business Daily on June 26, 2016


Earlier this month the President of South Korea visited Kenya and numerous intentions of bilateral cooperation were articulated including a deal to establish a science and technology centre and other agreements centred on trade, investment promotion, education, sport and culture. It was a shame that industry and manufacturing did not feature very prominently during the visit as Kenya and other African countries can clearly learn from South Korea and other Asian countries on this sector.

Sadly if you look at Kenya’s trading patterns with Asian countries, it’s the continuation of an old story; Kenya exports mainly raw agricultural commodities and imports finished and manufactured goods. Our biggest trading partners are from Asia, specifically India, China and Japan.  It seems as though although Africa is waking up to the need to industrialise, practical partnerships both between governments and between businesses do not exist to catalyse industrialisation on the continent. In short, Africa should shift from calling in Asia to build roads, rails bridges and instead start to focus on partnerships to boost industry and manufacturing.

(source: http://resources.carsguide.com.au/dp/images/uploads/asian-industry-factory-w.jpg)

With China alone due to shed about 85 million jobs at the bottom end of the manufacturing sector between now and 2030, Africa has to shift from the development assistance and infrastructure focused partnerships with Asia and shift to building low end manufacturing on the continent. Yes it is true that the infrastructure base in the continent is poor, but so is the manufacturing and industry base. While infrastructure development is front and centre for Africa right now, manufacturing has not received such prominence. There ought to be a dual focus on infrastructure and industry while working on other aspects of Africa’s landscape particularly with regards to education, land reform and technology absorption and development.

Bear in mind that getting guidance and mentorship from industrialised countries is how much of Asia rose to become the manufacturing giant it is in the world today. For example industrialisation in Japan was a result of many factors but a key factor was the support it got from the USA. Japan’s industrialisation took off in during the Cold War. With the massive communist dragon called China so nearby, the USA made a deliberate effort to build ties with Japan to buffer China’s influence as well ensure capitalism took root in Japan next to a bastion of communism. As a result, some analysts argue that the USA even hollowed out some of its own manufacturing capacity and made deliberate efforts to build Japan’s industrial and manufacturing base and also opened its markets to manufactured Japanese products.  Indeed by 1953, US military procurement from Japan peaked at a level equivalent to 7% of Japan’s GNP.

Although the global context in which Africa seeks to industrialise is very different the core point remains the same; Africa must learn from others and seek to reach out to countries that have successfully industrialised to build this sector on the continent in a very practical manner.  African governments ought to more deliberately bring the issue of industry and manufacturing on the table during any negotiations with Asian countries. We all know that as wages rise in China, Chinese exports will become more expensive and this provides opportunities for manufacturing in Africa. Africa should position itself to do the manufacturing Asia no longer wants to do as their economies sophisticate.

(source: http://resources3.news.com.au/images/2014/04/20/1226890/654895-6c56fdd8-c6d8-11e3-8387-e6d61b132205.jpg)

The path Africa can take can include starting with building low end manufacturing that is not too complex and can absorb what is still largely an under-educated labour force by starting with textiles and other light manufacturing. This can then be displaced by the growth of engineering and chemical industries. I am of the view that the textile assembly that goes on in the Export Processing Zone in Kenya does not count as manufacturing since most of the components of the apparel are imported and are not building Kenya’s textile factories and industry. Thus the point is simple; Africa should call in Asia to help build industry not just infrastructure.

Anzetse Were is a development economist; anzetsew@gmail.com

Why the Panama Papers are so important for Africa

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This article first appeared in my weekly column with the Business Daily on April 10, 2016


Last week a huge leak of confidential documents detailed how the wealthy and powerful use tax havens to hide their wealth. Eleven million documents leaked from Panamanian law firm Mossack Fonseca, were passed to German newspaper Suddeutsche Zeitung, which then shared them with the International Consortium of Investigative Journalists. One of the key elements that is shocking about the revelations is the sheer scale of the number of individuals and the volume of wealth hidden in tax havens either legally or illegally. These ‘Panama Papers’ amount to approximately 3 terabytes of data which is about 100 times larger than the 1.7 GB of data revealed by Wikileaks in 2010. As The Economist points out, the uses to which these shell companies, trusts and the like are put range from the perfectly legitimate to tax evasion to hiding what is the suspected looting of public money.

(source: http://ichef.bbci.co.uk/news/660/cpsprodpb/7F18/production/_89063523_panama_index_draft2.jpg)

Africans on the list included president’s relatives, state officials and leading business people such as Ahmad Ali al-Mirghani, former Sudanese president; Alaa Mubarak, son of former Egyptian president; John Addo Kufuor, son of Ghana’s former president; Clive Khulubuse Zuma, nephew of South African president; José Maria Botelho de Vasconcelos, Angola’s minister of petroleum; Emmanuel Ndahiro, Rwanda’s former Chief of Intelligence; Kojo Annan, son of former United Nations secretary general and, closer to home, Kalpana Rawal, Kenya’s Deputy Chief Justice.

In terms Rawal’s activities, the Mail and Guardian reports that Rawal and her husband were directors of two companies based in the British Virgin Islands, prior to her joining the nation’s Supreme Court. The family used other offshore companies to buy and sell real estate in London and nearby Surrey. Her response to this is that she has not been involved with the family businesses except for generally knowing they were involved in real estate. She says she was listed as director on two of them without her knowledge by her husband when he was told two directors were required.

There are three elements that are saddening for Africa in this debacle. The first is that Africans are not surprised that Africans are on the list; not in the very least. Africans have long known that the wealthy, especially those who loot public funds for private gain, scurry their illegitimate wealth from African jurisdictions to obscure tax havens elsewhere. Thus, although there was surprise in many Africans at the scale of activity in the Panama Papers, barely an eyelid batted when Africans appeared on the list. We already knew. The Panama Papers merely elucidate how some Africans engage in what can be arguable described as delinquent behaviour.

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(source: http://i.telegraph.co.uk/multimedia/archive/02017/taxh_2017367c.jpg)

 The second saddening element the Panama Papers highlight is that Africa continues to haemorrhage away wealth to the detriment of the continent. This is a not a new revelation; indeed the irony of ironies is that Kofi Anan, whose son is on the Panama Papers list, has been an ardent champion of stopping illicit financial flows from Africa. Figures from the UN for how much has left Africa in illicit financial flows range from between $1.2 trillion and $1.4 trillion between 1980 and 2009 which is almost equal to Africa’s current gross domestic product and about four times Africa’s external debt.

But the truly saddening element of the Panama Papers revelations is that it is not difficult to surmise that public funds constitute some, if not most, of the wealth being hidden by Africans on the list. Thus it can be inferred that some Africans stole taxpayers money then hid the money so as to avoid being taxed on the very same taxpayers money they stole. Thus Africans undergo a double loss of money that should be used for their economic and social development.

What is sure is that as the Panama Papers continue to be mined, more African names will emerge detailing the scale of tax evasion and concealment of wealth in which rich and powerful Africans engage. It will be truly interesting and frankly entertaining to see how Africans on the list explain why they’re on the list or why they should not be there. Get ready Africa.

Anzetse Were is a development economist; anzetsew@gmail.com

Does African unity ideology make economic sense?

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This article first appeared in my weekly column with the Business Daily on September 6, 2015

Last week Kenya hosted the Eastern Africa Region Pan African Congress and later this week will host the NEPAD APRM Summit which is rooted in the notion continental unity and cooperation. This is therefore a good time to take stock on how economically viable Pan Africanism, loosely defined as the ideology of African unity, is for the country and continent.

It should be noted that current conversations on Pan Africanism are very different than they were even 20 years ago which occurred in a context of poor economic performance and chronic dependence on international aid. Today, African governments seek to make the shift from aid to trade and from dependence to self-reliance. Indeed, the incoming president of the African Development Bank, Adesina (PhD) in his inaugural speech last week stated that, ‘We must integrate Africa– grow together, develop together. Our collective destiny is tied to breaking down the barriers separating us’.

(source:http://www.channelstv.com/wp-content/uploads/2015/09/afdb.jpg)

The positive elements of economic Pan Africanism are clear. Through economic integration Africa can do three important things: coordinate the economic development of the continent efficiently, negotiate more effectively on global trade and economic platforms, and leverage economies of scale.

When Africa is considered as a unit, comparative advantage and efficiency can preponderate in investment decisions and economic development. an economically united Africa has stronger global bargaining power and as a continent, Africa is a more attractive investment destination with a market of over one billion open for business to both foreign and domestic entities. Further, economic Pan Africanism can encourage regional convergence in key indicators such as the rate of inflation, budget deficit and public debt, as well as external current account balance.

(source: http://www.panafricanalliance.com/united-states-of-africa/)

However, is economic Pan Africanism truly viable? It is true Africa has taken important steps towards economic integration and most sub-Saharan African countries are members of one or more regional arrangements. These include, the Economic Community of West African States (ECOWAS), the Economic Community of Central African States (ECCAS), the East African Community (EAC), the Southern African Development Community (SADC), and the Common Market for East and Southern Africa (COMESA). The aim is to eventually create a Continental Free Trade Area (CFTA) by 2017. Yet, even when one puts aside the difficulties faced in ensuring that such regional blocs actually function (such as the intricacies of the rules of origin), there are two core problems that impede further integration.

Firstly, competition exists within regional blocs. This is partly informed by the heterogeneity of economies where weaker economies exist alongside stronger neighbours. For example, Kenya is the strongest player in the EAC and thus dominates the union. This can give rise to a feeling that Kenya does not really ‘need’ other countries in the EAC to build its economy. Indeed there can exist the notion that Kenya is opening up to neighbouring markets with lower purchasing power and thus while other EAC members benefit from Kenya’s markets with ‘deep’ pockets, Kenyan companies do not equally benefit as neighbouring countries have ‘shallower’ pockets. Further, in the EAC Kenya wants to hold its position as the dominant player in the region. Isn’t the current sugar and milk row between Kenya and Uganda an indication of the limits of the ‘spirit of Pan Africanism’ even within regional blocs?

(source: http://www.kepsa.or.ke/wordpress/wp-content/uploads/2015/08/Logo_of_EAC.svg1.png)

The second factor that prevents regional integration is that competition exists between different regional blocs. This issue is exacerbated by the reality of overlapping and multiple regional bloc memberships. In terms of the reluctance with regards to integrating regional blocs it is no secret that South Africa and Nigeria dominate Africa economically. Therefore, it can be difficult for countries in the EAC for example, to feel compelled to open their smaller economies to SADC or ECOWAS which house these dominant economies. A unification of regional blocs may mean that trade imbalances between regions are exacerbated leading to wider economic gaps with larger economies and economic blocs dictating the pace of economic growth.

Indeed, there are general issues that hinder continental economic integration continentally such as national government concerns of public revenue loss due to tariff reduction, a lack of assurance that market integration will align with national economic interests and the concern of an unequal distribution of continental integration benefits. Further, there is difficulty in reconciling a trade-off between short-term losses and the long-term benefits from trade integration, which is particularly important in the context of the short-term five-year election cycles in which African governments operate.

Thus it seems clear, that while the spirit of Pan Africanism is strong, there are real obstacles that impede the economic integration of the continent. The (good) news is that there does seem to exist a commitment to regionalisation and continental economic integration. It will be interesting to see how some of the challenges elucidated above will be addressed in this dance towards economic unity.

Anzetse Were is a development economist; email: anzestew@gmail.com

This is what’s really wrong with Kenya’s debt

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This article first appeared in my column with the Business Daily on August 2, 2015.

The International Monetary Fund (IMF) and World Bank recently raised the red flag over debt, stating Kenya must put a tight lid on it to keep its economy on a steady growth path.

According to the Business Daily, Kenya’s debt load crossed the 50 per cent of gross domestic product (GDP) mark to stand at 57 per cent by end of December 2013.

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(source: http://valleysleepcenter.com/blog/wp-content/uploads/2014/03/bigstock-Debt-Concept-298380591.jpg)

But our problems are not the GDP to debt ratio; they run much deeper and are structural in nature. One of the real problems is the way the government spends money, including debt. It is imprudent and unsustainable. For the past two years most government spending has gone to recurrent expenditure.

Analysis by the International Budget Partnership (IBP) indicates that in 2013/14, the government spent 78 per cent of the budget on recurrent expenditure. For 2014/15, government recurrent expenditure is estimated to have eaten into 63 per cent of the budget. This year, recurrent costs are set at 52 per cent of the budget. In short, in the past recurrent allocations and spending have trumped those for development. This is a concern as it informs our debt appetite and will determine debt consumption. The government has been accruing debt yet most of the money goes to consumption, not development.

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To make matters worse, the little money left over for development spending goes unspent. An analysis of the fourth quarter of the 2014 State budget by the Institute of Economic Affairs reveals that the government has a challenge in using the development budget; only 52 per cent of this budget was utilised by the end of the financial year.

Simply, we do not seem to have the absorptive capacity to spend the development budget. So Kenya does not have the spending infrastructure to seed the economic growth required to pay back the debts government has taken on.

This is not a spending formula that will lead to economic growth. Yet this is the very same economic growth required to pay back the accrued debt.

The seriousness of this issue comes into further focus when one realises that on top of all these dynamics, Kenya is an import economy and thus always falls short on raising the foreign exchange in which international debt is paid back. Kenya sells shillings to raise dollars to pay back global debt, so the government is always at a disadvantage.

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In the context of the shilling tanking against the dollar, government debt is becoming more and more expensive. So the government has a structural spending problem in the context of an import economy and a depreciating shilling.

These are the problems with Kenya’s debt, not the GDP to debt ratio. What is required to address Kenya’s debt problem is to first, drastically cut down on recurrent expenditure. Secondly figure out how to effectively spend the development budget and, thirdly, in the long term fundamentally reorient the economy into an export economy.

Once these three factors are taken on board, Kenya will be a much healthier space to service the debt the government has been accruing.