East Africa, resilient amidst the Global Economic Storm

East Africa is no doubt one of the fastest growing regions on the continent, with a GDP growth rate for the bloc averaging 6.3 per cent, compared to 4.9 per cent for the continent as of 2010. Even with the tough economic times, the economies still grew at 3.2 per cent, 4.4 per cent, 6.4 per cent and 8.6 per cent respectively for Uganda, Kenya, Tanzania and Rwanda, according to IMF.

The region’s economies are mainly driven by the service sectors, despite the enormous agricultural potential favoured by fertile soils and the tropical equatorial climate. Industry is growing but the rate does not come anywhere next to the services sector, which is almost equivalent to the rate of agriculture and industry combined.

Sector Contribution to GDP for East African countries

Source: African Economic Outlook; CIA World Fact Book and Ministry of Finance Planning and Economic Development, Uganda.

Soaring inflation driven by high food and fuel prices

However, economic performance in 2011 was hampered by the unprecedented inflation levels in the East African countries, with Uganda’s peaking at 30.5 per cent in November 2011 while Kenya’s and Tanzania’s peaked at 19.7 and 19.8 per cent respectively. This was mainly driven by high food prices, which were preceded by a long drought resulting in more demand than could be met by food stocks. Fuel prices also played a significant role, especially for Kenya which has the most manufacturing in the region. The region’s dependence on thermal energy to supplement the shortage in electricity further stunted growth.

Inflation trends in East Africa, 2011

Sources: Central Bank of Kenya, Bank of Tanzania, Bank of Uganda

 The region struggled with depreciating currencies

In addition, the high demand for imports, in form of oil and many other raw materials for manufacturing industries precipitated the region’s currencies plummeting.  The Eurozone crisis also worsened the situation by reducing inflow of foreign currencies from tourism and income from agricultural exports. The resulting balance of payments deficits saw the local currencies depreciate by 25.2 per cent, 22.7 per cent and 12.7 per cent for the Kenya, Uganda and Tanzania’s currencies respectively.

 Exchange rates against the USD, 2011

Sources: Central Bank of Kenya, Bank of Tanzania, Bank of Uganda.

Sacrificing growth to tame inflation

The high inflation and the battered currencies pushed the central banks to employ contraction monetary policies, with Kenya and Uganda responding before Tanzania, at the expense of their economies’ growth.  The central banks used both the central bank rates and open market operations to cut the amount of money in circulation and access to credit especially for the companies that wanted to import.

Trends of Treasury Bill rates, 2011

Sources: Central Bank of Kenya, Bank of Tanzania, Bank of Uganda

A region dependent on foreign aid…

The Eurozone crisis also spells tough times ahead for the region because Europe is a major contributor to the African economies in the form of grants and concessional loans to plug the gaps in many of the African countries budget deficits. Kenya has, for the past two years, had about 11.0 per cent of its budget financed by donor assistance, Uganda about 26.8 per cent, and Tanzania about 21.5 per cent. Rwanda is the most dependent on aid with multilateral, bilateral and concessional loans constituting about 45.0 per cent of its entire budget.

Developing new resources to boost foreign exchange inflows

Similarly, Europe, as of 2010, accounted for a third of East Africa’s export destinations with Kenya, Rwanda and Uganda exporting flowers, tea and coffee. The Masai Mara in Kenya, Kilimanjaro in Tanzania, mountain gorillas in Rwanda and the Nile in Uganda are all big tourist attractions for European holiday makers. The European debt crisis could have a spill over effect on the region but all hope is not lost for a region whose resources in gold and gas, particularly in Tanzania, are in high demand. The most recent oil finds in Kenya and Uganda, if well managed, could keep the economies afloat. The emerging trade relations with the BRICs could also cushion the region from Europe’s debt situation.

Three times as many Active Mobile Subscribers as Bank Account Holders

The vibrant service sector is largely dominated by the telecoms and the banking sector, posting the biggest profits in the region. Efforts in the region are geared toward the use of mobile phone banking platforms through services like M-PESA in Kenya and Tanzania while Rwanda and Uganda have MTN Mobile Money as key sources of revenue for the TELCOs. There is a shift away from dependence on voice and more emphasis on data related services.

Mobile Phone Penetration in comparison to Bank Account Holders

Source: Frost & Sullivan, 2009

As the TELCOs continue to grow so are the revenues, Uganda’s MTN Mobile Money currently handles over USD 90.0 million monthly. The platform provides a perfect service for the unbanked segment of the population. M-PESA in Kenya has moved over USD 9.0 billion in transactions since its inception in 2007. In 2011 M-PESA’s transaction revenue grew by 56.0 per cent to over USD 135.0 million from her revenue of over USD 88.5 million in 2010. The concentration in the voice segment has seen the TELCOs jostling to grab a lion’s share in the data segment of the market all through the region.

Innovation is essential for the banking sector

The banking sector, on the other hand, registered earnings during a tough year but one cannot fail to recognise the challenges banks faced in growing their deposits as inflation ate away at people’s savings. Bank profits were mainly driven by high interest spreads as opposed to growing loan books by huge percentages. Foreign exchange earnings also played a huge part, especially for Kenya’s Equity Bank and KCB and Standard Chartered for Uganda. Treasury securities were also a big source of income for the banks as the Central banks consistently increased yields to attract investment. Many banks opted for safer securities as opposed to risky borrowers. The strategy for 2012 is centred around agency banking to focus on financial inclusion.

The growing middle class is driving the region’s retail sector

Retail in East Africa is another key sub sector under the services sector with Rwanda, Kenya and Tanzania plus Uganda growing at 8.0 per cent, 12.0 per cent and 20.0 per cent respectively in the period between 2001 and 2008. Compound annual growth rates of retail sales reached more than 15.0 per cent for Rwanda, about 13.0 per cent in Uganda, almost 12.0 per cent in Tanzania and almost 7.0 per cent for Kenya and Rwanda. Projections for retail sales in the bloc stand between 10.0 and 11.0 per cent for the next five years.   The growth comes as no surprise considering the region’s real GDP growth rate from 2005-10 averaged 6.1 per cent with 7.7 per cent for Rwanda, 7.5 per cent for Uganda, 6.9 per cent for Tanzania, 4.8 per cent for Kenya and 3.7 per cent for Burundi. This has led to an increasing middle class resulting in retail growth. The bottom of the pyramid presents enormous opportunity which is yet to be tapped.

Wealth of natural resources

Huge oil prospects are making the region more attractive to large companies from Britain, China, Europe and other countries. Uganda’s oil reserves are estimated at 2.5 billion barrels with 1.1 billion barrels already found. Kenya’s most recent oil find in the Turkana region could dwarf the Ugandan deposits with exploration still underway. Tanzania on the other hand has got huge deposits of natural gas estimated at up to 30.0 trillion cubic feet of gas. Proper management of these resources present opportunities for growing the economies.

Infrastructural Gap

Electrification currently presents the biggest challenge which could be changed into investment opportunity. World Bank estimates are that if the economies grow robustly and trade continues to grow, the EAPP/Nile Basin will require 23,000MW of new electricity generation, with up to 1000MW requiring refurbishment. Electricity tariffs were high in 2011 and were pushed up by dependence on expensive thermal energy to bridge the gaps in demand that exist even today. The energy requirements in the region are estimated to be growing at about 5.3 per cent per year and cannot be matched by the energy supplying companies. Costs to generate sufficient power to meet current needs are estimated at USD 29.0 billion over a 10-year period.

Congestion in the Mombasa port has proved a huge challenge to trade in the region. Kenya’s port serves the landlocked countries in the region including Uganda, Rwanda and Congo and now South Sudan. With the economies growing at over 5.0 per cent annually its capacity must be increased. The world’s most active ports, Shanghai and Singapore, handle the cargo Mombasa handles within a year in one week. Mombasa’s annual volume is about 770,000 containers, compared to Shanghai’s 30 million containers. The delays translate into huge costs. Indeed, it is cheaper to transport goods from Indonesia to Mombasa than it is transporting goods from Mombasa to Kampala. This is forcing Tanzania to enhance its port facilities as well as the Central corridor to provide an alternative trade route in the region.

The LAPSSET project i.e. Lamu Southern Sudan-Ethiopia Transport Corridor which is expected to have a refinery, an international airport and a port when complete is estimated to cost USD 16.0 billion and it will provide Kenya with a gateway to South Sudan with a road and standard gauge railway (1,720km).

Uganda is considering constructing an oil refinery, estimated at USD 1.5 billion, with Tullow Oil, CNOOC and Total as the main contributors to the construction. At the peak of oil drilling, the companies could drill between 150,000 and 200,000 barrels. Oil production is expected to start in 2013, with the country becoming a key oil producer by 2016.

The region’s economic outlook

The global economy decelerated to 3.9 per cent from 5.3 per cent in 2010 but the East African economies performed better registering growth of 6.2 per cent. Global growth is expected to slow further in 2012 to 2.5 globally and 5.5 per cent for East Africa. The slowing global economy poses big challenges to the region’s dependence on external financing for the budget and it is bound to slow the implementation of projects for both Rwanda and Tanzania. The Euro area growth for instance is expected to slow by 0.3 per cent, while China’s is expected to slow to 8.4 per cent from 9.1 per cent in 2011.

Inflation remains a challenge but there has been some progress. The region’s target is to have single digit inflation.  As of May 2012, Kenya had reduced to 12.2 per cent from a peak of 19.7 per cent; Tanzania’s has reduced from 19.8 per cent to 18.2 per cent and Uganda currently at 18.6 per cent, down from 30.5 per cent. Rwanda’s inflation remained in single digits even at its peak. Inflation didn’t affect Rwanda as much as the other countries in the region because they kept food inflation at bay having invested in food production which kept food prices low.

The use of T-Bills to curb inflation and keep the currencies stable means the governments will have to spend a good portion of their budgets paying interest. This is evident in the larger budget portions allocated to interest payments. Rwanda has been an exception because it benefited from debt relief and has been financed more by grants than loans.

 East African Budget Review, 2010/11-2012/13

Source:  Budget Statements of Kenya, Rwanda, Tanzania and Uganda 2010/11-2012/13

With infrastructure as the key to unlocking the region’s economic potential, it is no surprise that the budget allocations to infrastructure have grown by between 1.8 per cent and 14.6 per cent over the past three financial years for the different East African countries. Better transportation means, more electricity, proper use of oil and gas resources, enhanced ICT facilities and commercialised agriculture are central to making East Africa one of Africa’s economic strongholds.

A myriad of investment opportunities

As a landlocked block, with only Kenya and Tanzania having ports, the region uses 80.0 per cent road transport. The region’s agricultural potential is still limited by dependence on rain-fed and subsistence agriculture as opposed to irrigation and more commercialised agriculture. Electricity constitutes over 25.0 per cent of production costs for manufacturers. While electricity in Egypt and China is US 3.0 cents per Kwh it cost US 10.0 cents, US 19.0 cents and US 7.0 cents for Uganda, Kenya and Tanzania. Nonetheless, despite all these challenges the block has been growing at over 5.0 per cent per year for the past decade. Considering that China one of the world’s fastest growing economies at about 9.0 per cent growth per year, spends over 40.0 per cent of its GDP investing in infrastructure, it is imperative for the bloc to invest more than double the current expenditure to unlock the region’s economic potential. Then the region could achieve faster growth rates than the world’s fastest growing economies. Currently the East African countries spend less than 20.0 per cent of GDP on investment in infrastructure.

The prevailing European debt crisis points to more uncertainty in the flow of financing from the European development partners. Rwanda and Tanzania, with large dependence on aid and concessional loans from their development programs, have been victims of delays in project implementation. Now more than ever, it is important to explore new financing option sources in order to facilitate the much needed infrastructural development. These could be private public partnerships to infrastructural bonds as the limited capacity of local financial institutions creates opportunities for larger institutions such as pension funds, investment banks and development banks to benefit higher returns on investment in frontier markets such as East Africa.

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