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Africa in focus

Financing for Development: Six Priorities for Africa

Amadou Sy

Less than 150 days remain before the Third International Conference on Financing for Development (FfD) takes place in Addis Ababa. The African development financing context has certainly changed since the two previous similar gathering in Monterrey in 2002 and in Doha in 2008: For example, private capital flows, mainly in the form of foreign direct investment, and remittances have now overtaken official development assistance (ODA). Similarly, China and the other BRICS countries have strongly increased their presence in the continent.

Given the challenges Africa faces, African stakeholders have much to contribute to the dialogue, but, as Africa’s context has changed, we must reflect on what Africa’s priorities should be. The upcoming event, “Financing the future: Fresh perspectives on global development,” hosted by the Overseas Development Institute [1] on March 17-18, will be exploring these issues in order to set the stage for the debate in Addis later this year. Policymakers, in anticipation of the Addis meetings, will examine new mechanisms and sources of financing to inform the discussions later this year. For example, the Brookings Africa Growth Initiative is chairing a panel on the comparative advantage of international public finance in relation to other forms of development finance.

What exactly are we financing?

In anticipation of the Sustainable Development Goals, Africa has already established a common position on the Post-2015 Development Agenda, based on six pillars, with the aim to speak with one voice and facilitate the discussion towards a global consensus on the SDGs. The first five pillars cover a number of more specific priorities. For instance, Pillar One focuses on structural economic transformation and inclusive growth while Pillar Two highlights science, technology, and innovation. We know that both of these objectives in particular face major financing gaps as domestic resources are not sufficient to cover the costs associated with the SDGs. This is why Pillar Six, finance and partnerships, is so important and must be linked with the first five pillars. Thus, the Addis FfD conference must take into account the financing of the “pillars” in the Common African Position.

As world leaders begin prepare for their final decision on financing for development, I want to provide my recommendations on how best to surmount Africa’s financing gaps to achieve its development goals:

Priority No. 1: Do not consider financing in isolation, rather link it clearly with its purpose.

This priority may seem quite obvious, but it is very tempting to focus on raising more finance without questioning the intended use of the money raised. For instance, there is a consensus forming around the need to invest in upgrading and developing Africa’s infrastructure. Yet, the focus of the ongoing conversation is on energy infrastructure (highlighted by the U.S.’s Power Africa initiative) while urban infrastructure has largely been omitted from the discussion. We feel, instead, that urban infrastructure should be considered a priority given that African cities are growing quickly and have vast needs, including new roads, public transit, and water and sanitation systems. Mechanisms such as municipal bonds issued by cities could be a unique means of filling these financing voids—USAID and the Gates Foundation, for example, are currently working with the city of Dakar to issue its first municipal bond, which will be the first non-government guaranteed municipal bond for sub-Saharan Africa (outside of South Africa).

Priority No. 2: Focus on domestic finance by increasing government revenues and developing domestic financial and capital markets further.

A multifaceted approach, including public and private, domestic and international finance will be necessary to meet the continent’s vast financing needs. Over the past 15 years, external financing from the private sector, especially foreign direct investment (FDI), has risen relative to public financing through ODA. Meanwhile, domestic public finance has increased, as countries have received some debt relief, improved revenue collection mechanisms, and benefitted from commodity price booms (although tax revenue generation still remain relatively low).

However, an important question to ask when examining the roles of these different sources of finance is: What can African governments really control? Governments can influence public finance and to some extent domestic markets, so they should start by focusing on these two areas. Taking a regional view in developing capital markets can make a lot of sense, since it allows for economies of scale and has worked well for the West African Economic and Monetary Union (WAEMU). When it comes to capital markets, for instance, why not have continental or at least regional targets and commitments put in place regional legal and regulatory frameworks, develop the money markets (the cornerstone of capital markets), and integrate payments systems in order to reduce transaction costs? These strategies would provide the basis for strengthening domestic markets and public finance.

Priority No. 3: Reduce the cost of remittances AND increase their developmental impact.

Remittances are increasing too, averaging $21.8 billion over the past decade—with some countries, including Nigeria and Senegal, receiving approximately 10 percent of their GDPs in remittances. Yet the costs of sending remittances to Africa are the highest in the world, and transfers within Africa cost even more. Since remittances mostly fuel consumption within the social sectors (health and education) and thus have developmental impacts, let’s reduce the cost of sending remittances and transform the ways they can be invested to spur entrepreneurship and development. For instance, if a bank sees that an individual regularly receives remittances, it could invite the recipient to join the bank’s clientele, and, based on the history of remittances received, make a loan to the individual to help further her or his entrepreneurial pursuits. 

Priority No. 4: African policymakers should anticipate (or at least identify) the unintended consequences of global financial regulation on Africa and work with global partners to mitigate them.

While remittance flows to Africa have increased over the past decade, recent trends in global financial regulation, such as the increase in anti-money laundering (AML) and combating the financing of terrorism (CFT) standards, have had unintended consequences for the continent and stifled remittances. For instance, AML-CFT regulations have hurt Africa, as seen when many U.S. banks discontinued remittance services to Somalia after AML-CFT regulations were implemented there. Even Basel III, with its disincentives for banks to engage in long-term finance, due to more stringent liquidity ratios, can have negative consequences for Africa’s attempts to reduce its financing gap in long-term infrastructure projects. Cost of compliance can push global banks to reduce or even cease their activities in small African markets: Why take the risk in small markets when the costs are so high? The case of BNP Paribas, which was slapped with a $9 billion fine for its business in Sudan and Iran, is still fresh in the mind of global bankers.

Priority No. 5: Work with foreign governments and private sector to reduce illicit financial flows.

Illicit financial flows are relatively high by some estimates, with African countries losing nearly $60 billion a year predominantly due to tax evasion by commercial firms and the undervaluing of services and traded goods, while corruption and organized crime also contribute to illicit flows. This loss in capital has translated to lost opportunities for advancing economic and human development in Africa. Efforts by African countries and global institutions such as the United Nations are under way to engage foreign governments and corporations to track and reduce illicit financial flows, and they should be strengthened.

Priority No. 6: Partner with bilateral, multilateral, and private sector (and even philanthropists) actors to get the “non-financial” benefits of financial flows.

Improving the quantity and quality of finance to Africa is necessary, but not sufficient to secure sustainable development for the region. For instance, in dollar terms, FDI still predominantly goes to resource-rich countries such as Nigeria, Angola, and South Africa (although there has been some progress in diversification to other countries with large consumer markets or financial sectors in recent years). Importantly, we also need to manage the risks from African countries issuing foreign currency denominated bonds, as I discuss in my recent Brookings paper, Trends and Developments in African Frontier Bond Markets. But African countries must focus on getting a bigger bang for their buck through partnerships that will promote the transfer of knowledge and skills and integrate African businesses into global value chains. At the same time, they should avoid detrimental regulation such as excessive local content regulation. For instance, it may be mutually beneficial for both African governments and foreign firms to foster local participation in some parts of the value chain(such as the downstream oil sector) and be less demanding initially in other parts (such as the upstream oil sector).  

Finally, it’s worth highlighting that Africa is not a country. Fragile and low-income countries still receive a lot of aid. New issues such as “green” (climate change funding) and “blue” (ocean preservation) finance require aid. African governments must remember to be granular in their approaches and at times focus on one particular type of financial flow.

Coordination of the different type of stakeholders can lead to important gains for all. Again, take infrastructure, our work shows that many stakeholders (including the U.S. and China) are committed to investing in the African power sector, but that means that coordination and cooperation is needed among the various actors. Sweden, for instance, is investing in the U.S. Power Africa initiative. But how about engaging China and other partners in the energy sector? The African Development Bank could play a central role coordinating this.

Conclusion

The good news is that Africa is increasingly speaking with one voice, as seen in the case of the Common African Position on the Post-2015 Development Agenda. The priorities above are consistent with Pillar Six of the Common African Position, which is about finance and partnerships. Clearly, African policymakers have emphasized the need to (a) improve domestic resource mobilization; (b) maximize innovative financing (remittances and long-term, non-traditional financing mechanisms); and (c) implement existing commitments and promote the quality and predictability of external financing.

These are all relevant issues, but we should strive to have Pillar Six strengthen the five other pillars. Finance should underpin the SDGs!


[1] In collaboration with the Brookings Institution, the African Center for Economic Transformation (ACET), the Collaborative Africa Budget Reform Initiative (CABRI), the Centro de Pensamiento Estratégico Internacional (CEPEI), Development Finance International (DFI), the Economic and Social Research Foundation (ESRF), and the United Nations Development Program (UNDP).

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