CASE IN POINT | ECIC
by Leigh Schaller
One Does Not Simply Invest in Africa without the ECIC
In the investment game, great returns are often linked with significant risk. Expert Benoit Fugah explains the intricacies of the risks that Africa faces, as well as how, by using the services of the ECIC, you can significantly reduce your risk exposure.
When we meet in the ECIC boardroom in Centurion, like many wise men of economics, foremost on Benoit Fugah’s mind are the problems associated with Africa’s resource dependency. Fugah, the head of political and economic analysis and of the research unit at the Export Credit Insurance Corporation of South Africa (ECIC), believes that much of the recent boom in growth across Africa is due to demand for resources. Worryingly, however, this demand has significantly cooled in the last 12 months, leading Fugah to believe that there could be significant knock-on effects.
“We see that this dependency is a threat to growth in the sense that the economy is then very vulnerable to market changes, for example when the price of these resources goes down. It changes the prediction in both private and public sectors. You find that, when the price of commodities is going down, there is no increase in revenue for private operators, and when there is no increase in revenue you find that jobs are not created as production is sometimes curtailed,” says Fugah.
Recently, the World Bank confirmed the views of many, including Fugah, by reducing sub-Saharan Africa’s forecasted growth from 4.5% in 2014 to 4% in 2015. “This downturn largely reflects the fall in the prices of oil and other commodities,” according to the World Bank.
Fugah points out that, when Africa’s resource sector falls under pressure, so, too, does government revenue, a good example being the case of Nigeria. Although this West African economy is largely diversified, its budget is heavily reliant on revenue from the oil sector. In turn, this reduction in the size of the government budget has a further impact on broader society.
“On the side of the government, in many countries, the social spending that was budgeted for is reduced or completely removed,” says Fugah.
This monstrous chain effect of resource dependency does not end there. Often, Fugah points out, governments are forced to borrow capital at high interest rates in order to fund spending. When these loans are misspent, or spent on projects that do not yield the returns expected, this has catastrophic results.
“We have the case of Ghana where they issued Eurobond and pumped cash into energy and infrastructure; they believed the loans would be repaid thanks to revenue and royalties from the oil industry. Sadly the oil sector has not generated enough cash and now they sit with a debt that needed to be rescheduled. That is why the IMF [International Monetary Fund] has come in with new financial assistance, whilst awaiting for the oil sector to pick up,” laments Fugah.
Once a country begins to look as if it cannot repay its loans, it becomes increasingly untouchable for foreign investors, with none wanting to fund a nation that seems incapable of repaying its loans.
Five years ago, most analysts would state that investment in the oil sector was a promising idea, with few predicting the current oil-price shock – proving that, even when South African companies are looking to invest in a country and sector that’s seemingly secure, insurance offered by the ECIC is never an unnecessary precaution.
Commodity dependency is not the only risk Africa faces. He believes that lack of infrastructure in Africa is not only a serious risk to doing business, but is also a potential opportunity. “When there is no infrastructure between countries in their region, there is no exchange of goods and services and movement across the continents and this is a major cost of business operations,” says Fugah. Indeed Africa, which largely lacks tarred roads, railways, a reliable electricity supply, and water provision, can be a difficult place to conduct business.
Yet, if governments are able to spend more on infrastructure, this will open up both boundless opportunities for investment and a greater need for credit insurance. Fugah explains the possible benefits of government spending by using a hypothetical highway project as an example. Should an African government decide to build a needed highway project, the knock-on effects could be exponential, driving business to petrol stations and with shopping centres springing up next to the highway.
Although private investment in infrastructure in Africa could be risky, Fugah explains that this is precisely why the ECIC is needed. If, for example, a company decides to build a hotel in Angola, the ECIC could support a bank that would otherwise not be prepared to finance the project, by providing insurance on the loan.
He believes that good governance in Africa could help to overcome the challenges and risks posed by a lack of infrastructure. “If, as a government, you borrow funds and instead of spending the money on, for example, building a road that connects agricultural projects in rural areas with cities, you spend this money on military equipment, that is not an appropriate allocation of funds.” He explains that, although state spending on security is important, it should be balanced against social and economic needs such as infrastructure development.
One of his proposed solutions is that governments should work together when it comes to infrastructure development. He believes that more African countries should contribute to a funding scheme similar to what the BRICS countries envisage with the proposed Development Bank. “It’s a case of countries committing themselves based on the size of their economy to say we will contribute to this fund by so much, and that fund will then be there to finance infrastructure and strategic projects on the continent.”
According to Fugah, it is not only in the field of funding where cooperation will be essential – cooperation is also vital when it comes to infrastructure planning. “Countries should not think of infrastructure development in a silo. Specific policies must be adopted so that the impact is felt at regional level. That will develop the economy. Currently, intra-regional trade is marginal with Africa. This is partly due to similar economic structure of African countries. Moreover, it is easy to trade with the rest of the world than regional markets due to infrastructure constraints. For example, road networks that link neighbouring countries are either not in good conditions or non-existent. Governments should coordinate their infrastructure projects so that the continent becomes more linked and pave a way for more intra-African trade to occur.”
However, in order for African nations to work fully together, they must come to terms with those elements that disrupt development. “Political violence is a threat to peace and stability. The consequence of this is that economies which were expected to lead the growth trend are the most affected, for example Kenya, Nigeria and the DRC. Political violence tends to have a spill over effect to neighbouring countries. With Boko Haram for example, you find that they have spread the displacement of people to Niger, Chad, and Cameroon, beyond the borders of Nigeria,” says Fugah.
Countries identified by Fugah that, despite experiencing political uncertainty, are still set to achieve high levels of gross domestic product (GDP) growth include Kenya and Nigeria. Kenya is expected to grow by 6%, according to the World Bank, while Nigeria is set to expand its economy by 5.5%, offering opportunities to those who are bold enough to invest. Yet investors seeking to brave political risks would be wise to consult the ECIC, which provides protection against such risk.
The ECIC has, in the past, insured specifically against events such as terrorism. It has also not been afraid to provide cover in countries that have turbulent political climates, such as Swaziland some time back when the ECIC provided cover for an ethanol plant there. A project that no one else would insure thus turned into a success story.
Although it is obvious that investing in much of Africa carries risk, prudent investors would be wise to make use of credit insurance even when there is little risk. Fugah explains that a mining project in Kazakhstan looked like an ideal investment until the grade of minerals extracted was lower than what was predicted. The ECIC prevented heavy losses for the bank and exporter by paying out the loan.
Despite the enormity of the risks that Africa faces, Fugah is not a prophet of doom. He happily points out that, five years ago, the ECIC’s assessment of the African continent looked bleaker. The ECIC classifies countries in seven categories based on a risk analysis, with countries classified as Category 1 being low-risk, whereas countries falling into Category 7 are seen as high-risk. Happily, a few countries on the continent have improved their rating.
“Sierra Leone was in Category 7, but we moved it to six. The same was done with Liberia, because, although Liberia was in a civil war, since Sirleaf Johnson became president, there has been a long period of stability.”
The beauty of the ECIC is that it concerns itself not only with credit insurance. It also provides peace of mind and the surety that is needed when investing in the high-risk, high-return environment that we call Africa.