Nigeria's capital Lagos is all lighted up. Image Credit: Shutterstock

Dubai: Despite the investments they have been attracting, African countries still have not managed to solve one issue — a woeful lack of hard cash. But there are some who see this situation as offering opportunities if handled well.

“Despite the challenges posed by foreign exchange (FX) shortages, currency volatility and rising debt levels, a sense of opportunity remains in all our sample markets,” said a report by Economist Intelligence Unit (EIU) on five sub-Saharan economies: Ethiopia, Kenya, Nigeria, Tanzania and Zambia. “Resilient businesses were able to mitigate these challenges through a wide range of operational and strategic adjustments.”

These include “investing more in exporting capacity to generate an inflow of hard currency; investing in local production to reduce dependence on imports, targeting sectors which are assigned priority access to FX and diversify across sub-Sahara Africa. Risking diminished returns, some investors operating in these markets have also resorted to funding the working capital of their portfolio businesses,” the EIU report said.

Africa is increasingly becoming an attractive prospect for investors, particularly from the UAE and Saudi Arabia. By 2016, the UAE became the biggest GCC investor in Africa with nearly $11 billion, overtaking Saudi Arabia, and only behind those committed by China.

The UAE imported roughly $5 billion of goods from Africa annually from 2010-15, before increasing volumes to $23.9 billion in 2016,” according to a report titled “The Gulf Scramble for Africa: GCC States’ Foreign Policy Laboratory”, released by Washington-based centre for Strategic and International Studies.

After the 2008 global financial crisis, Gulf countries deepened their economic ties with Africa, as part of their efforts to minimise their reliance on oil. More so, after oil prices crashed in 2014.

The UAE has leveraged its superior shipping and port infrastructure to plug into this potential, becoming the largest GCC trader with Africa.

Oil-producing Nigeria is one of the biggest economies in Africa, and foreign investments have played a significant role in the country’s development and growth, said Lukman Otunuga, research analyst at FXTM.

“With the nation heavily reliant on oil exports as a primary source of economic expansion, FDI (foreign direct investments) offered a buffer in times of uncertainty and depressed oil prices,” Otunuga said. “More importantly, this type of investment has not only supported infrastructure developments but created another source of revenues for the country via taxation.

“Although FDI hit a record low of $435.64 million during the second quarter of 2018, investments later increased by $438.84 million in the third quarter. FDI could rebound as macroeconomic conditions in Nigeria improve amid efforts to diversify away from oil reliance.”

Meanwhile, flexible exchange rates are an advantage in the case of some African countries, said Razia Khan, Managing Director, Chief Economist, Africa and Middle East, Global Research at Standard Chartered Bank. FX reserves are not high enough to “sustain credibly fixed exchange rate regimes”, she said.

“So, the additional flexibility of African exchange rates is an advantage. For many of the region’s commodity producers, should an external shock occur, exchange rates can adjust to help absorb the impact of the shock. So in the case of a commodity price fall, if the FX rate weakens, the domestic economy is not hit by the full extent of the external shock.

“FX rates can adjust, helping to act as a buffer.”

According to Khan, for the likes of Nigeria and Tanzania, “the best that governments can do is ensure adequate supply of FX liquidity. It is when FX rates are fixed at non-market clearing levels, and no FX becomes available at the official exchange rate, that investors feel the most pain.”

Limiting FX-generated imbalances

Zambia, Tanzania and Kenya have flexible currency arrangements to limit the risk of serious imbalances that can set off large-scale devaluations.

“Ethiopia on the other hand has a heavily managed currency and Nigeria operates a similarly-interventionist multiple exchange rate regime,” said Benedict Craven, Middle East and Africa Country Risk Manager at The Economist Intelligence Unit. “The risk is that the exchange rate regime becomes untenable, either because of an external shock or general loss of export competitiveness over time, and this leads to serious devaluations that erode the value of an asset.

“Countries where foreign reserves are diminishing pose another distinct risk. In this sense Zambia stands out; the country has large debt-servicing commitments and its reserves equate to less than two months of imports. If there has to be a choice between the continued servicing of government external debt by imposing capital controls or default, it is possible that capital restrictions would be introduced.”