Striking the balance between development and financial stability
By Nicolas Clavel, Scipion Capital Chief Investment Officer, and Ben Storrs, Scipion Capital Investment Analyst
Sub-Sahara Africa is becoming wealthier with GDP growing at an average of 5.1 percent per annum since 2000.
From a relatively low base, a commodities boom has increased the US Dollar value of exports more than threefold during the past decade.
Investments in infrastructure have helped sustain commodity exports, which have underpinned economic growth. FDI and consumption have also contributed significantly to rising GDP.
One consequence of increasing wealth is more imports into Africa. Imports from Europe have steadily increased, even after the value and volume of exports reduced by almost a third in 2009.
Imports from China increased almost 20 percent in 2013 following an increase of 16.7 percent in 2012 as Africa imports secondary and tertiary goods which it cannot yet produce itself.
The type of products Africa is beginning to import is illustrative of the growth of middle class in Africa but it also puts more pressure on foreign exchange reserves.
Imports into Africa are paid in foreign currency so banks require access to foreign exchange in order to honour their international payment commitments.
A central bank without liquid reserves or other access to foreign exchange will struggle to fund imports and retain investor confidence in its currency.
In recent years, keen to avoid the investment crises which afflicted Asian economies in the late 1990’s, African countries, including Ghana, Kenya, Mozambique, South Africa, Tanzania and Zambia, have gradually increased the nominal amount of foreign exchange reserves or maintained high levels.
Despite this, the increasing value of imports has strained foreign exchange reserves and since 2009 import cover has generally fallen, including in all of the countries mentioned above.
Import cover is the period of time a country can fund its imports from its current reserves if it stopped earning foreign exchange.
On average import cover fell from approximately five to three-and-a-half months between 2009 and 2012. In perspective this is more than adequate cover for the time being. Zambia prospered throughout the 2000’s despite often having reserves equivalent to only two months and many larger economies, for example the UK, have import cover of weeks rather than months.
Vulnerable to collapse
The consequence of a country becoming more integrated into the international trade system is being more vulnerable to a collapse in exports.
For instance Tunisia’s foreign exchange has fallen by $4bn (37 percent) while Egypt’s reserves have halved to $17bn since the start of 2011.
These changes are the result of the Arab Spring disrupting exports and discouraging investment. The IMF as well as Qatar has offered foreign exchange credit lines to fund imports if these countries run into liquidity issues.
Nigeria’s foreign exchange reserves have also fallen from US $62bn in mid-2008 (the highest in Africa after Libya) to US $40bn due to a fall in the value of their main export, crude oil. If it did not initially have cover of eight-and-a-half months it may have experienced more difficulties.
The vulnerability of some African economies has been compounded by a spate of new bond issues in foreign denominated currencies.
During 2013 African countries have issued US $10 billion of dollar bonds to international markets, breaking the 2010 record.
Investors in search of yield are providing medium term funding which would not have been available five years ago.
While governments may prefer raising foreign currency through borrowing rather than a trade surplus, borrowing can place a higher burden on foreign currency obligations in the future.
This raises the risk that an economic shock – such as tapering – will increase bond yields and lead to devaluations or interest rate rises.
On the other hand, building reserves can also come at the expense of infrastructure projects which support long term structural growth.
A lack of power generation capacity in South Africa, which experiences brown outs, is currently holding back private investment, which demonstrates the importance of striking a balance between development and financial stability.
 Latitudes, November 2013, White & Casehttp://data.worldbank.org/indicator/FI.RES.TOTL.MO/countries/ZM-GH-MZ-ZA-TN-EG-TZ?display=graph
Billionaire Kumar Birla Champions Regional Supply Chains
As the head of the Aditya Birla Group, a US$46bn firm that operates in 36 countries, Kumar Mangalam Birla is no stranger to splashy strategic moves. Yet his recent announcement that he no longer wants to acquire globally distributed supply chains stood out. While many companies have struggled to cope with shipping backlogs, his firm has chosen to pivot and focus on regional networks. Said Birla: ‘We wouldn’t look at a company or a business where you source in one corner of the world and sell in another’.
He cited protectionism, the pandemic, and the limited movement of products and people around the world as ABG’s primary causes of lost profits. And they aren’t alone. Over the past year, 900 of the U.S. and Europe’s biggest IT, defence, and financial services firms have lost an average of US$184mn apiece.
An Era of Global Disruption
Over the past few decades, low shipping rates and rapid delivery times have lulled multinational firms into a false sense of security. In the early 2000s, companies chose to take on significant global supply chain risks in exchange for increased profits. First, it made sense to manufacture higher-value goods, such as electronics, in low-cost regions throughout Southeast Asia, India, and Africa. Second, first-tier suppliers started to outsource the manufacturing of specific components to second-, third-, and even fourth-tiers—leaving supply chains with extremely limited visibility.
So when COVID-19 disruptions struck certain regions, companies were caught unprepared. Usually, these events come few and far between. But over the past ten years, we’ve seen a number of ‘black swan’ events that have thrown the supply chain industry into chaos. Here’s a quick history of the most significant events in recent years, thanks to the MIT Sloan Management Review:
- 2010. China creates export quotas for rare earth elements.
- 2011. The Tōhoku Earthquake hits East Japan; flooding sweeps throughout Thailand.
- 2016-present. Trade wars between the U.S. and China hurt suppliers.
- 2020-present. COVID-19 pandemic shuts down international shipping ports.
Now, Kumar Birla is one of many who want to re-evaluate how we run our supply chains. Though his company has acquired 40+ companies in the last quarter decade, Birla intends to build up local hubs rather than expand operations.
Why Pursue Regionalisation?
Combine Chinese economic dominance, global supply chain vulnerabilities, and major government policy shifts around the world, and you have a storm brewing on the horizon for big multinational firms. As Brookings noted, ‘the biggest risk for trading opportunities in the developing world is growing protectionism in more advanced economies, often dressed up as national security protection’.
Altogether, from the U.S. to the European Union, governments are trying to protect their domestic supply chains, secure adequate stockpiles of materials, and build world-class local networks. Consider Biden’s recent executive order, which seeks to bring semiconductor manufacturing back to home soil, or Japan’s bid to open more memory chip fabrication factories near Tokyo. The Aditya Birla Group intends to react in kind. Said Birla: ‘We’re looking at regionalism as a very big theme’.
Will Others Follow Suit?
In the post-pandemic economy, global businesses must decide whether to expand or contract. On one hand, the Alibaba Group’s Cainiao Smart Logistics Network recently launched a direct flight between Hong Kong, China, and Lagos, Nigeria. On the other, the Japanese government is desperate to make its chip manufacturing domestic. Indeed, as two supply chain strategies diverge in a post-pandemic world, the one businesses take may make all the difference.
Yet Birla is confident that regionalisation is the right call. According to his words at the Qatar Economic Forum, even necessary cross-border transactions should be smaller in scope. And as the Bloomberg Billionaires Index now lists his net wealth at US$10.4bn, up 52% from 2020, he may have the cash to test his theories out. ‘Regional hubs, regional presence, regional employment, catering to regional demand’, he stated. ‘We’re a global company rooted in local economics’.