Obtain the data you need to make the most informed decisions by accessing our extensive portfolio of information, analytics, and expertise. Sign in to the product or service center of your choice.
The Ethiopian government on 9 September announced its newly
proposed 'Home Grown Economic Reform Program', which aims to
increase foreign-exchange (FX) availability and create a more
conducive operating environment for foreign investment.
We assess that investor protections are likely to be
strengthened before December 2019, but FX availability is very
unlikely to improve during 2020-21.
IHS Markit's forecast is 7.7% growth in GDP in 2019 - and
supporting the economy's transition from public and
foreign-debt-financed investment to equity-based investment via the
privatization of state-owned enterprises and liberalization of
several sectors.
The newly created National Reform Committee (NRC) will
co-ordinate several measures to sustain economic growth and
increase foreign investment in Ethiopia's largely state-controlled
economy, although policy implementation will very likely only
advance piecemeal during 2020. The NRC comprises representatives of
the Ministry of Finance, the Ethiopia Investment Commission (EIC) -
based within the prime minister's office - and the National Bank of
Ethiopia (NBE), the central bank. Overall, the NRC is tasked with
sustaining economic growth.
The NRC has identified the key economic weaknesses that need to
be addressed, but no specific policy measures have been introduced.
The NRC will need to address the piecemeal progress made on
economic reforms by overlapping committees that have been
established within the prime minister's office since the new
government was appointed in April 2018. Prime Minister Abiy Ahmed's
'New Horizon of Hope' strategy, which underpins the government's
economic strategy, is only one-page long.
Foreign-exchange (FX) scarcity is the main impediment to
boosting foreign investment in non-agricultural sectors such as
construction, manufacturing, and tourism, yet foreign reserves are
very likely to remain at less than two months of import cover
during 2020-21, with small and medium-sized businesses facing FX
delays beyond 90 days on average. FX scarcity is driven by several
factors, including poor non-agricultural export growth. Total
export growth during the third quarter of fiscal year 2018/19
declined by 7%, compared with the previous quarter. GDP growth is
largely driven by public investment and is not strictly correlated
with export performance. Exports reached USD678.5 million in June
2019, compared with imports at USD3.6 billion during the same
month. The NRC recognizes that the manufacturing and tourism
sectors are priority areas for addressing the persistent
balance-of-payments deficit, given the ongoing dominance of
agricultural exports that are highly exposed to coffee price
fluctuations. Foreign investors will face FX delays when importing
construction materials, equipment, or inputs into manufacturing
processes, and typically depend on risk mitigation measures being
agreed in advance with the authorities, such as FX guarantees
issued by the NBE.
The cycle of weak exports and depleted reserves is not likely to
be broken by devaluing the currency or transitioning to a flexible
exchange rate, given the continued dominance of agricultural
exports. Strong political opposition to the resulting inflation
pressures indicates that such a policy is, in any case, very
unlikely to be considered before the scheduled August 2020
legislative elections. FX shortages are also driven by large
outlays for underperforming infrastructure projects that were
financed via domestic sources (primarily the two largest
state-owned banks), the channeling of FX to service external debts
(FX accounted for 8.0% of external debt servicing in 2018), in
addition to weak non-agricultural export diversification. Officials
previously have discussed liberalizing the managed exchange rate
and devaluation of the currency. However, floating the currency's
exchange rate is very unlikely at this stage, because the Ethiopian
People's Revolutionary Democratic Front (EPRDF) coalition, which
dominates the government, faces grassroots political opposition
ahead of the scheduled 2020 elections, which would be worsened by
any resulting increase in core inflation (already at 10.3% in June
2019), and higher food prices.
More positively, the ratification of the New York Convention on
the Recognition and Enforcement of Arbitral Awards ('New York
Convention') and revisions to the 59-year old Investment Code are
likely to be finalized before December 2019, thereby strengthening
commercial dispute resolution. The EIC is coordinating the
government's 'Doing Business Initiative', which was launched in
July 2019 and is tasked with implementing several improvements to
the business environment before December 2019. Revisions to the
outdated Commercial Code will be tabled, and very likely approved,
thereby enhancing shareholders' protections and improving corporate
transparency. By ratifying the New York Convention and
consolidating existing arbitration law, the Ethiopian courts should
provide foreign investors with a legally recognized and enforced
process to resolve commercial disputes and claim compensation via
foreign courts.
Indicators of changing risk environment
Increasing risk
Failure to increase export market and product concentration
away from the agricultural sector and China as a key trading
partner.
Not addressing currency devaluation sufficiently and related
inflation pass-through effects to make space for a gradually
introduced flexible exchange-rate regime.
Failure to introduce incentives for exporters such as
tariff-free imports, increasing domestic savings, as well as
maintaining a tight fiscal policy.
Decreasing risk
The central bank makes further monetary policy adjustments,
such as raising interest rates to address high headline inflation,
indicating that a balanced exchange rate will be considered as a
potential policy option, although this is still unlikely to be
fully implemented given the high price sensitivity of exports.
Developing trade access to ports in Eritrea, likely raising
Ethiopia's commercial profile and helping to support greater export
growth.
Stronger FX inflows via tourism receipts, as well as strong
growth in remittance inflows.
Posted 17 September 2019 by Alisa Strobel, Senior Economist and