The crisis of African MICs
The recent economic Band-Aid interventions in African MICs introduced to combat inflation, and to deal with a serious currency crisis, will detrimentally affect GDP growth in different ways. Let’s take a minute to understand how.
A petroleum transport arrives at a terminus in the Lagos area. (Creative Commons)
Consumption: Several struggling African MICs have raised interest rates to combat inflation. Some have gone as far as to offer bonds, and savings accounts, that have a 1 year yield between 20 and 30 percent.
As these interest rate hikes are unparalleled, anyone with excess liquidity will likely put their money in these high interest bearing deposits. This will reduce consumption.
Reduced consumption has a negative multiplier, and will reduce demand for goods and services, which will induce producers to produce less, and lead to increased unemployment.
Investment: interest rates on deposits as high as 25 to 30 percent will also deter investment. Why take a risk in starting a new venture, or keep an existing one open, if your return is below the 25 to 30 percent yield bank’s currently offer? Interest rates this high will slow investment, and hurt the stock market, which will in turn slow business activity, and also induce higher unemployment.
Government Spending: as most of these large African MICs have signed standby agreements with the IMF, many have also pledged to slow investment in public projects. This is intended to conserve foreign currency, among other things. But, there has always been a clear rationale for large public investments in these African MICs as it creates employment for an ever growing labor force. Slowing investments in public projects will inevitably lead to higher unemployment as well.
Exports: for many African MICs, we don’t need to dwell on non oil exports for too long. With the exception of oil and natural gas, several of these countries have seen their national currencies devalue between 15 and 35 percent in the last four months. Yet, their non-oil exports are either stagnant or declining. This means that even when exportable goods are up to 30 percent cheaper than they used to be, demand for them has not grown. This points to a more serious structural economic problem.
The Band-Aid monetary and fiscal policies deployed so far in African MICs will lower consumption, and lower private and public investment, but will this be enough to slow inflation? Ordinarily, I would say yes. But, the IMF has also mandated increasing the price of fuel in select African MICs as the currency devaluations have made it more costly for government’s to import petroleum. Effectively, the IMF is requiring government’s to pass this increase in fuel costs to consumers.
When the price of fuel rises, so will the cost of manufacturing and transportation. This is highly inflationary. Higher interest rates meant to slow inflation will collide with the expected petroleum price hikes that will fuel inflation. Rough winds will follow, and if you’re confused join the club.