Understanding Africa's poverty trap

It is imperative to discuss the unique situation of the poorest African nations, those states caught in an endless poverty trap. To better understand this phenomenon, this poverty trap, we needed to be reminded of the basic rule of labor economics that labor is a derived demand, derived from the demand for goods and services. Africa’s poverty trap that defines the misfortunes of 12 African nations is predicated by this basic law. 

Egyptian day laborers sit on a street curb, waiting for temporary employment opportunities. (Ammar Ahmed Al-Shaqiri/The Orient)

Let me explain. In 12 African countries, their citizens live off less than 2 dollars a day. In this stark reality, the majority of the populace has minimal to no disposable income. When you have minimal to no disposable income, in turn you don’t demand goods and services other than basic staples. Accordingly, the private sector does not get a demand signal to produce goods or provide services other than basic staples and very basic transportation. As demand for labor is a derived demand, derived from the demand for goods and services, very low demand for goods and services due to low to zero disposable income, translates into very low demand for labor. 

This very low demand for labor implies a very high, and continuous level of unemployment. In the poorest countries in Africa, statistics bureaus always have unemployment in the mid to high 30 percentile, but in point of fact it is much higher. 

To unlock this poverty trap, the countries facing this challenge need to create wealth for its citizenry. They must do this to raise incomes, raise disposable income, raise consumption, which in turn will increase demand for goods and services, and incentivise the domestic private sector to invest. When the private sector invests, it will in turn demand more labor, wages will rise, causing disposable income to rise once more and create an engine for growth.

But, how do you create wealth in the poorest countries of the world? Undoubtedly, this will not come from public policies that squeeze more disposable income out of the pockets of citizens, but what’s needed are public policies that will do the exact opposite. 

The answer to this dichotomy lies in the fact that almost every one of the African states with the highest level of poverty have continuously shown real growth in GDP, as real GDP per capita continues to decline. What this means is the economic model in place is making these African nations richer without the necessary trickle down effect that is required to enhance the incomes of the general populace, and raise disposable income. The poorest countries in Africa are getting richer and this isn’t translating into income growth, or unleashing domestic consumption as an engine for promoting demand for labor. 

It may seen paradoxical that the poorest countries in Africa have shown sustained growth in real GDP without major gains in GDP per capita. But this is simply explainable by the fact that 12 countries in Africa depend on no more than 3 exports for the bulk of their foreign exchange. With such a weak export base, the discovery of oil in a fragile state will lead real GDP to rise without any meaningful impact on GDP per capita. Countries that export primarily precious metals like gold, when international gold bullion prices skyrocket, than again real or nominal GDP will grow with no meaningful gain to nominal or real GDP per capita. This is why measuring GNP instead of GDP for select countries in Africa may be a better measure for growth and prosperity. 

A Nigerian man at work at an electronics repair shop, fixing a cellphone. (Creative Commons)

So, having resolved the issue of why we see GDP grow in Africa, but not GDP per capita, how do we overcome the poverty trap we discussed previously? If people live off less than $2 a day, with no or negligible disposable income, no meaningful signal is being sent to the domestic private sector to produce goods and services. This translates into a weak domestic private sector that is not an engine for growth and demand for labor which is anaemic. 

To get consumption to be a driver for growth, wealth creation is a must for the poorest countries in Africa. Disposable incomes have to rise, and people living of feeble incomes like $2 a day does not advance not only their own livelihoods, but it does not promote the consumption you need for real and sustained economic growth. 

It is about here in this discussion that you’ll hear the standard answer to this problem is promoting the development of value chains. That wealth creation and rising disposable incomes in certain African nations is a result of incomplete value chains: you sell the coffee beans, but not the coffee, you sell the cocoa beans, but not the chocolate, you sell the diamonds, but they’re uncut and unmounted. Without these value chains being complete, then nations lose value additions to their exports that could have generated substantially higher revenues for their exports and higher wealth transfer. 

Now while this is indeed true, will these more developed and complex value chains be enough to move the needle in promoting higher wages, higher disposable income, and in turn higher consumption? I would argue given the volumes and the size of the populations of most of these countries likely not. 

This is why select African nations now need to consider systems of wealth transfer and wealth creation that benefit their citizens directly. Revenue flows that go directly from the state to its citizenry, along with asset transfers, now need to be carefully weighed.

It is important to establish why disposable incomes have to rise, and feeble levels of incomes such as people living of $2 a day does not advance individual livelihoods, but it also doesn’t promote the level of consumption an economy needs for real and sustained economic growth. The other side of the conversation is developing a solution.

South African workers participate in a company-wide meeting. (Creative Commons)

Wealth creation interventions can begin to remedy this problem, but government’s will need to introduce and adopt tools meant not only to enhance consumption, but to use this consumption to advance growth. These tools have to form a different development paradigm where African government’s in the poorest countries in the continent stop being masters of taking from consumers, and evolve public policies that raise and sustain higher levels of disposable income. A took kit of interventions can include:

1. Using employee share ownership plans (ESOPs) as a vehicle for wealth creation. Many poor African countries own a variety of state enterprises where they as a nation have comparative advantage. Profit sharing directly to employees, or more broadly in the public sector or civil service, need to be considered. Even in cases such as mining where contracting out is a norm, contracts with private operators must require profit sharing approaches with employees at some level. These approaches must be well studied and methodical and must become a norm to allow for direct trickle down to raise both incomes and wealth. 

2. The functions of the state, government and public sector, must be based on outsourcing wherever possible. Running government facilities from IT, accounting, security, to catering have to consistently and methodically be outsourced to private sector companies especially start up’s. A new vision for public procurement will also need to be established that promotes private wealth. 

3. Public private partnerships with domestic companies must become the norm and not the exception. Even micro PPPs, a concept that I am testing in my current capacity, needs to be articulated and brought to the forefront. This is key for promoting local development. 

The list of these types of wealth creation interventions are endless. But, they need to be predicated on two basic fundamentals. The first is good governance, and the second, a modus operandi of government that shou shall giveth more than taketh away especially for those on the cusp of extreme poverty.