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Rethinking how to attract private sector finance for Africa’s development
For years, the private sector has been hailed as the essential engine of Africa’s development. It represents more than 80% of total production and two thirds of total investment. It also provides about 90% of employment on the continent, including formal and informal jobs. Recent shocks such as the COVID-19 pandemic and global inflation caused by Russia’s invasion of Ukraine have slowed private sector growth, threatening to roll back Africa’s hard-won economic gains in over the last 20 years.
Attracting investment in the private sector is a critical necessity. According to the United Nations Economic Commission for Africa (ECA), the private sector contributes more than 50% of GDP in low-income countries. As governments across the continent fail to fulfill their basic roles, the private sector plays a key role in keeping money flowing through the economy. Given that a high percentage of Africans work in the informal sector, creating an enabling environment for the private sector is even more important to harness the growing demographic dividend. Recent research published by IMF staff show that by the end of the decade, the private sector could provide additional annual financing equivalent to 3% of sub-Saharan Africa’s GDP for physical and social infrastructure. This represents around $50 billion per year, or almost a quarter of the average private investment ratio in the region (13% of GDP).
Currently, the African private sector remains behind in terms of financing and building infrastructure compared to other regions. Public companies and national governments carry out 95% of infrastructure projects. Despite an effort in favor of public-private partnerships (PPP), the volume of projects involving the private sector has declined sharply over the last decade. Africa attracts just 2% of global foreign direct investment flows, a figure that could be higher with more PPPs. And when investment does flow into Africa, it focuses primarily on natural resources and extractive industries, rather than health, roads or water.
Barriers that restrict private sector growth
Before diving deep into how Africa’s private sector can attract more financing, it is important to understand the underlying contexts that have left the continent lagging behind the rest of the world. To begin with, Africa’s private sector is overwhelmingly informal – in fact, too much informal that it limits productivity. According to the World Trade Organization, the informal sector accounts for 80% of jobs in Africa – double that in America (North and South). In Europe meanwhile, the figure is 25%. The share of companies with less than ten workers in Africa is 10% higher than in other developing countries.
Africa still lacks medium and large enterprises, and the few that operate are less productive. According to the World Bank’s Enterprise Surveys Database, an African worker is on average less productive than a worker in a similar firm in a developing country. Moreover, the continent is still struggling to harness the productivity of young people, with only 16 of the 73 million jobs created in Africa between 2000 and 2008 occupied by young people between the ages of 15 and 24. In developed countries, the figure is in the inverse.
What has led to this fragile dynamism is an open secret. From the lack of capacity building to low levels of education, poor and uneven allocation of the factors of production (capital and land majorly), to the inability of state authorities to provide the necessary infrastructure, as well as a coherent and defined regulatory system. However, one common denominator that stands tall on the other side of the hill is the desire and commitment of the African entrepreneur to keep trying and beating the odds.
Unlocking private sector investment
To facilitate the growth and input of the African private sector, governments must begin to diversify economically away from the traditional commodity-driven sectors. Agriculture remains the backbone of many economies in the continent, while some depend on oil and gold. However, commodity sectors are susceptible to the shocks and stresses of the global economy, many of which the producing countries have no control over. African governments must look to promote sectors such as tourism and the service industry by aggressively supporting private companies looking to invest. One good example is Botswana, where the government provides cheap investment credit for companies looking to venture into tourism as part of the country’s plans to reduce reliance on diamonds.
The lack of manufacturing has hurt Africa’s development plans making it a net importer and unable to process the commodities it produces in abundance. At the recent 14th African Union High-Level Private Sector Forum held in Nairobi earlier this month, policymakers advocated for the need to promote industrialization initiatives so that local private companies can thrive with their made-in-Africa goods and services. The keynote speaker, Kenya’s Cabinet Secretary for East African Community and Arid and Semi-arid Lands, Rebecca Miano, underscored the importance of private sector investment in attaining national, regional, and continental growth. “The success of Africa’s economic integration is premised on the role of the private sector in achieving growth objectives of Africa’s economies, and by extension, creating greater wealth and expanding employment opportunities.
Another approach to strengthening the private sector is harmonizing Africa’s industrial policies to be in sync with other countries in regional and international markets. This should include trade policies to promote value addition and protectionist policies to preserve and protect the nascent industrial sector from unfair competition. Back in the day before China’s rapid investment took off, many countries had informal small-scale industries that produced daily household items like plates, cups, furniture, cooking utensils, and appliances. The influx of similar items from China that cost much less resulted in the demise of these companies.
Despite Africa presenting a wealth of business opportunities, the number of projects that can be defined as “investment-ready”, remains limited. These are projects sufficiently developed and packaged to appeal to investors looking for long-term investments in familiar markers. Governments can work with development banks to conduct feasibility studies, project design, and other significant preparatory activities that expand the pool of bankable projects. Moreover, they must create legal frameworks that eliminate currency fluctuations and assure investors they can transfer capital and successfully leave the market when they choose to.
The high levels of debt and failure to curb corruption has pushed many government to raise taxes to fill in funding gaps. Investors naturally will find it hard to venture into markets with high taxes that could take huge swipes off their profit margins. Therefore, African countries can reconsider reallocating some resources geared toward public investment in infrastructure for private projects. Given private sector contribution to GDP is nearly 50% in most economies, such a move could increase the amount, range, and quality of services for Africans. It could also spur more innovation to transform the current mega-investment projects that are yet to break even while incurring high costs in debt repayments.
In conclusion, there is a shared and visible optimism in investing in Africa’s private sector, and governments must rush in to nurture this support. Large firms can easily navigate a poor-performing private sector due to their access to capital and government networks, plus aggressive lobbying for legislation that suits their businesses objectives. However, the private sector in Africa remains dominated by Micro, Small, and Medium Enterprises that don’t have similar abilities, so creating an enabling environment is very critical.
Citations
Bielenberg, Aaron, et al. “Financing change: How to mobilize private-sector financing for sustainable infrastructure.” McKinsey Center for Business and Environment (2016): 24-25.
International Monetary Fund. Private Finance for Development: Wishful Thinking or Thinking Out of the Box? Retrieved July 20th, 2023 from
Paul Collier. Attracting international private finance for African infrastructure. Journal of African Trade. Science Direct. Retrived July 20th, 2023, from
https://www.sciencedirect.com/science/article/pii/S2214851514000061