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Africa's economic growth: the role of state-business relations

Written by Dirk Willem te Velde


Recent media coverage suggests brightening prospects for Africa, with some commentators discussing whether it could become the nextBRIC. Indeed, the sub-Saharan African economy is scheduled to grow by 5 per cent this year and 6 per cent next, after a meagre 2 per cent in 2009, a year hampered by plummeting trade and investment and reduced aid and remittances. Some argue current growth prospects have been inflated by rising commodity prices and the growing trade and investment links between Africa and emerging markets, notably China.

However, the fact that African growth prospects had already turned around in the mid 1990s, long before the more recent upturn in commodity prices and growth spurt in emerging markets, should make us look again at what Africa has been doing right all along. Joint research by ODI and the Improving Institutions Pro-Poor Growth (IPPG) programme, published in a new set of essays, Effective state-business relations [SBRs], industrial policy and economic growth, shows that structural factors have also helped African countries to grow, highlighting in particular the nature and scope of state-business relations as a key institutional feature behind the growth process.

African countries have implemented a series of reforms and better macro policies, and have, with some notable exceptions, improved their institutions and governance over the past decades. Further, in contrast to popular assumptions, previous research on African growth by IPPG already showed that the service sector and its reform have driven economic growth more than other sectors such as agriculture. Africa has also offered higher profits for multinationals than the rest of the world for more than a decade.  

In addition, over the past three years, ODI’s monitoring studies on the global financial crisis have shown us that Africa kept reforming and improving its investment climate, and did not become protectionist. Pro-investment reforms, as measured by doing business indicators, kept pace with OECD counties which were backsliding on reforms. Why was this? It was linked, partly, to the way state-business relations in Africa have improved, which has led, in turn, to better economic policies. From Mauritius to Tanzania, countries put in place coordinating mechanisms, helping them find appropriate and well considered policy responses to the financial crisis, rather than falling back on ad hoc policy decisions.

The IPPG-ODI essays launched this week argues that when the state and business interact effectively, they can promote more efficient allocation of scarce resources, conduct a more appropriate industrial policy, remove the biggest obstacles to growth and create wealth more efficiently. And this is the case for a number of African countries. But when the two sides fail to cooperate, or engage in harmful collusion, economic activity centres on wealth creation for the few rather than the many.

Mainstream economists had long thought that reducing the role of the state and liberalising the market would lead to a more efficient allocation of resources, with no need for an active complementary industrial policy. They acknowledged market failures in theory, but did not think these serious enough in practice to justify strong state intervention or coordination. The World Bank’s World Development Report in 2005 on the investment climate, for example, does not mention industrial policy. The global financial crisis and the need to address climate change have shaken confidence in the ability of the market, or government, to do everything on its own. There is now a more nuanced view of the respective roles of state and business, and their interaction.

Political scientists suggest that good SBRs are based on benign collaboration between business and the state, with positive mechanisms that enable transparency, ensure the likelihood of reciprocity, increase state credibility among capitalists and establish trust between actors within both the public and private sectors. Good SBRs can complement markets through macroeconomic stabilisation, horizontal and vertical coordination, lowering costs of information, standard setting and quality upgrading.

Effective SBRs can address market and coordination failures and government failures, and can reduce policy uncertainty. Effective SBRs may not always be visible, yet our research provides framework for the measurement of their key factors, such as the organisation of business and government actors, the fora that bring the two sides together and the presence of competition principles to guard against collusion. These indicators improved over time, and as expected at a higher rate in high growth African countries. This is backed up by econometric evidence published in the Journal of Development Studies.

Selective industrial policies may work even in countries with limited government effectiveness. But the risk of failure is high, especially when strategic decisions are taken without sufficient involvement of the business community. In our  new publication, Justin Yifu Lin argues that establishing successful SBRs requires a policy framework that allows the state to support industrial development and technological upgrading, while minimising opportunities for rent seeking.

The IPPG-ODI research finds that formalised SBRs can promote economic performance, for example as shown by the allocative efficiency of government spending in Zambia and better growth and industrial policies in Mauritius. Yet, SBRs need to be framed by a set of competition principles, or they risk becoming collusive rather than collaborative. Not all formal SBRs work well (e.g. in South Africa), and informal SBRs can play a key role (e.g. in Ghana), so there is still great variation across Africa.

While African productivity is still one tenth of that found in developed countries, the continent is catching up, thanks in part to institutional reforms that have also helped poor countries respond to the global financial crisis. Because of this, I also believe we should be more optimistic about the ability of African countries to make the most out of investment from emerging markets, to attract new investors, and capitalise on natural resource booms, although much variety amongst African countries will, of course, remain.