According to a new and innovative approach to estimating the future growth potential of countries — designed by professors at Harvard and Massachusetts Institute of Technology (MIT) — East Africa could become the fastest growing region in the world between now and 2020. Uganda, at an estimated average annual gross domestic product growth rate of 6.41 per cent would have the highest growth potential in the world, followed closely by Kenya at 6.1 per cent, and Tanzania at 6.07 per cent.
Other economies in the broader East African region also top the list: Madagascar is 5th at 5.85 per cent, Malawi 7th at 5.6 per cent, Zambia 10th at 5.25 per cent, Ethiopia 23rd at 4.52 per cent, and Mozambique 31st at 4.26 per cent. Rwanda unfortunately was not included in this study, due to the reliability of available data, but is already amongst the world’s 10 fastest growing economies since the early 2000s. Note that on a GDP per capita basis, China and India are still projected to be the fastest growing economies in the world; East Africa though tops the list in terms of GDP growth.
Why is this the case? The reason East African economies could have such a high growth potential is because the current “complexity” of their economies is higher than what would be expected given their current level of income. The way complexity is measured is not easy to grasp, but it is essentially a function of how diverse and unique the capabilities of a country are. In other words, the more diverse a country’s capabilities (measured by the number of different products that it exports with a comparative advantage) and the more unique (ie measured by the number of different countries that export similar products with a comparative advantage), the higher a country’s complexity. As professors Hidalgo and Hausmann argue in their recent publication, “The Atlas of Economic Complexity: Mapping Paths to Prosperity,” countries tend to move to income levels that are compatible with the complexity of their economies. They also show that the difference between a country’s complexity and its expected complexity given its GDP per capita is predictive of future economic growth. According to the authors, this method has a 10 times greater predictive power than leading alternative indexes, such as the World Economic Forum’s Global Competitiveness Index.
Surprising? Not really. For us living in the region, the idea that the complexity of East African economies is greater than expected could come as somewhat of a surprise, given perennial structural problems, in particular: (i) weak manufacturing sectors, which in a country like Kenya only accounts for about 11per cent of GDP; and (ii) large trade deficits. Yet when you take a minute and think about it, East African economies do produce a whole range of products: processed food products (brands that come to mind are Azam, Brown’s, Brookside, Pembe, Inyange, Madhvani Group, Masaka Farms, Mukwano Industries etc), beverages (EA Breweries, Bralirwa, Nile Breweries, Del Monte, Inyange, etc), consumer goods (Azam/Bakhresa Group, Bidco, Chemi&Cotex, Mukwano, Sulfo industries), batteries (Eveready East Africa), plastics (KenPoly, RotoMoulders), paper (PanAfrican Paper Mills, Kenya Paper Mills, Supa Paper Works, etc), cement (Bamburi Cement, East African Portland Cement Company), tobacco (British American Tobacco, etc), paints (DuraCoat, Robillac Paints), cables (EA Cables), steel (Uganda Baati, Devki Steel, Mabati Rolling Mills, etc) … and the list goes on. This diversity in the region’s production capabilities is what drives the complexity that Hausmann and Hidalgo capture in their index.
Moreover, Hidalgo and Hausmann’s growth predictions are not surprising in that they are very much in line with current trends. It is impossible to ascertain how precise these estimates of the region’s growth potential are; but early indications show that they might not be too far off. These are the average growth rates of countries in Eastern Africa between 2005-2010 according to World Bank estimates: Ethiopia (10.64 per cent), Rwanda (7.8 per cent), Uganda (7.8 per cent), Tanzania (6.95 per cent), Kenya (4.8 per cent), and Burundi (3.6 per cent).
What are the main risks to the region’s growth? According to our internal research at Laterite Ltd, the biggest domestic threat to this great growth potential in the region remains political uncertainty.
We substantiate this claim based on an analysis of Kenya’s 2007 election crisis, which we show has cost the country at least 3.5per cent of GDP and an estimated $4 billion to date (or about $100 per Kenyan). If current World Bank/International Monetary Funds predictions of future growth in Kenya hold, we expect Kenya to only have recovered the lost ground due to the 2007 election in 2013 — in other words, only in 2013 will Kenya’s economy be back on track as if the election violence had never occurred. That is a full five years after the fact — basically, an entire election cycle. This means that the current administration’s main achievement, economically speaking, will have been to reverse the effects of the election that brought it into power in the first place.
But how did we come up with these estimates? To estimate the cost of Kenya’s 2007 election, it is necessary to estimate what would have happened in Kenya had the election not occurred. We have developed a methodology called Proximity Controls which enables us to do just that. The idea is very simple: we find that countries with similar capabilities to a country of interest (in this case Kenya) are very good predictors of economic growth in that country over a long period of time. Additionally, we show that it is possible to create a linear combination of such countries that almost perfectly predicts economic growth in the country of interest.
To summarise, Hausmann and Hidalgo’s research reveals that — just like China and Taiwan 25 years ago — East Africa’s productive structure has the potential to quickly diversify and increasingly move towards more sophisticated products, thereby stimulating growth. Also, just like China and Taiwan, East African countries are not really “poor” from a capabilities perspective. 25 years ago China and Taiwan already had the capabilities to develop the diverse range of products that they produce today; it is in large part these same capabilities that have led them to their current income levels. It’s just that 25 years ago, “the cheque was in the mail.” East African countries have a similar potential today, but as we have shown using Kenya’s 2007 election crisis, political uncertainty could still spoil the party and mean the cheque is never really cashed.
As can be seen in the graph, using this approach we can perfectly predict Kenya’s economic performance during the 2002-2007 period. However, our predictions and Kenya’s actual performance diverge dramatically in 2007-2008, indicating that something major happened during that period that threw economic growth in Kenya off track. This event was the December 2007 election.