Africa builds defences against budget shocks

By on 03/08/2017
Already vulnerable to natural disasters such as drought, African countries must guard against knock-on effects on public finances (Image courtesy: Oxfam East Africa).

Often exposed to natural disasters and dependent on a handful of commodity industries, African countries can find that sudden shocks leave big holes in their public finances. But as Gavin O’Toole finds, civil servants are learning how to ensure that a major shock doesn’t lead to a fiscal heart attack

African countries should build financial resilience by “innovating in times of plenty”, the head of an African public finance initiative has argued, in order to make themselves less vulnerable to sudden economic shocks or natural disasters.

Neil Cole, executive secretary of the Collaborative Africa Budget Reform Initiative (CABRI) says governments that create “fiscal space” to widen their room for manoeuvre in advance of a crisis are better able to cope when one occurs.

The intergovernmental organisation has been working with finance officials confronted by shocks – ranging from the Ebola crisis to plummeting oil prices and hikes in the public sector wage bill – to help strengthen their responses.

“It all comes down to fiscal space and the dynamics within a country,” says Cole. “If we agree that budget pressures are fairly regular things, whereas shocks are extraordinary things, there are some budgets that have greater fiscal space to respond to the unexpected. What we have been doing in CABRI is promoting this idea of innovating in times of plenty so that governments take the measures necessary to reduce inefficiencies before problems occur.”

Finance ministries routinely face budgetary pressures, but may not be prepared for extraordinary fiscal shocks. An IMF analysis of 80 economies identified 230 such events between 1990 and 2014, and showed that on average these cost countries 6% of GDP.

The most common shocks have macroeconomic causes, such as the fall-out of the credit crunch – which depressed demand for commodities and hit GDPs around the world. Other shocks can be caused by individual events such as a bank collapse, natural disaster, the need to bail out struggling state enterprises and local governments, lawsuits, and costly political decisions.

Neil Cole, executive secretary of the Collaborative Africa Budget Reform Initiative (CABRI)

Experience shows that these pressures can often arrive in groups – or, as the IMF puts it, “when it rains it pours” – and at a CABRI conference in Burkina Faso earlier this year, officials from 26 countries discussed how they can build resilience.

African budgets are more vulnerable to extraordinary pressures than many of those in other continents, largely because of volatile macroeconomic conditions, a greater risk of natural disasters, high demands on public spending, and unstable politics. Other factors also limit how they can respond – from narrow tax bases and immature capital markets, to a reliance on unpredictable foreign aid.

One difficulty facing public finance managers seeking to learn from African countries is that their vulnerabilities are diverse. A few examples illustrate some typical fiscal shocks.

For a start, the 2014 Ebola crisis exposed serious weaknesses in Liberia’s public finances, and its government turned to external donors in order to raise spending: external revenues rose by more than 300%.

In Swaziland, whose revenues depend on volatile trade taxes within the Southern African Customs Union, the global financial crisis greatly exacerbated already weak public finances and by 2011 the country was suffering far-reaching effects.

In Nigeria, a sharp decline after 2015 in oil earnings – which account for 80% of government revenue and a major chunk of the economy – turned real GDP growth negative by the end of 2016, confronting budget planners with stark fiscal choices.

By contrast, South Africa’s budget crisis in 2016 was the result of political pressure, as finance officials struggled with the impact of a government decision to freeze increases in student fees in the face of widespread protests.

Despite their diverse causes, however, these crises had some common features. The responses of public finance managers were multi-faceted, requiring them to juggle efforts to increase available resources, cut spending, and spread the effects of a shock whilst implementing longer-term reforms. In Madagascar, for example, cyclones in 2007–08 caused damage of US$333m (£255m, €285m) but disaster risk had not been incorporated in budgeting. Public finance managers later took out disaster insurance, and sought World Bank and United Nations support to incorporate risk planning in budget programming.

Budget shocks often expose weak institutions where processes are fragmented and forecasting, cash management, accounting and reporting practices are not robust. Stronger institutions generally have greater fiscal discipline and the leeway to pursue countercyclical policies. Increasing fiscal space – higher revenue-raising capacity and spending flexibility, better government financial positions and favourable debt dynamics – makes public finances resilient to shocks. Evidence suggests that centralising budgetary decision-making, making detailed disaster-management plans, stressing transparency and improving risk control all strengthen resilience.

“There are large differences in institutional quality across Africa; and that variance has a lot to do with the system of government,” says Cole. “So in more centralised systems, we find that there is a stronger capability to respond to shocks; and even more so where within that centralised system the ministry of finance has greater power.”

Nigeria’s difficulties, for example, have prompted a flurry of reforms to plug revenue leakages by tackling inaccurate trade invoicing, improving cost controls and compliance, and diversifying away from oil. Officials established an ‘efficiency unit’ to institutionalise changes, and strengthened the single treasury account to boost accountability. Burkina Faso, which introduced special budget measures when in 2014–15 rising public sector salaries coincided with declining commodities revenue, has since tried to predict and plan for sensitive wage rounds.

Cole believes that Africa has the tools to build resilience, and that simply reproducing the responses that have been effective elsewhere is not the solution. “We encourage countries not to think of the way that another country has tackled the problem as the blueprint that they should be implementing lock, stock and barrel,” he says. “Rather, we get them to think more carefully about their problem and how it could be different.

“Often, we then find that the African responses are quite unique and innovative.”

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See also:

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The innovation coming out of Africa

About Gavin O’Toole

Gavin O’Toole is a freelance writer and editor in London. He has written for leading newspapers, magazines, wire services and business schools about financial markets, business and regulation around the world. He has a particular interest in international relations, and a specialism in Latin American affairs. He has conducted research on this region’s political economy and has also published a number of books about its politics and natural environment. His latest title, Environmental Security in Latin America, will be published by Routledge in September 2017.

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