Category: Slider

Neil Balchin (Former Research Fellow, ODI), David Booth (Senior Research Associate, ODI) and Dirk Willem te Velde (Principal Research Fellow, ODI)

9 April 2019

A new Gatsby Africa-ODI paper detailing sector transformation in eleven African and Asian cases shows how sector dynamics depend crucially on:

• • • Correct identification of the economic opportunities;
    • Conducive political-economic conditions at the sector level
    • Credible commitments to investors
    • Reasonably good provision of public goods
    • Specific efforts to tackle investment coordination problems; and
    • Taking advantage of a moment of unusual opportunity.

The paper examines six experiences of successful sector transformation: air transport and logistics services in Ethiopia; the automotive industry in South Africa; the revival of the cocoa sector in Ghana; the staple food revolution in Indonesia; garments in Bangladesh; and sector-based strategies in Mauritius. It also considers five cases where sectors did not transform or where a promising initial transformation was not sustained. These cases of relative failure are cashew nuts in Mozambique; pineapples in Ghana; maize subsidies in Malawi in the years 2005–2008; President Kikwete’s rice initiative in Tanzania; and Malaysia’s faltering manufacturing sector.

What did the research find about the factors behind sector transformation?

Correct identification of economic opportunities is a common feature in all the successful transformation examples, although on a variety of different grounds. These range from successful identification of market access advantages for Bangladeshi garments or opportunities to serve Asian markets through Ethiopian air transport services, to supply opportunities in South Africa presented by the global sourcing strategies of original equipment manufacturers (OEMs). However, economic opportunity factors alone do not make it possible to distinguish successes from failures.

All successful cases exhibited positive political-economic relations, at least at the sector level. But the type of relationship varied across the successful transformation experiences, from centralised economic planning enabling state-led development of an airline in Ethiopia or exceptional democratic unity post-apartheid and an effective alignment of interests facilitated through dedicated sector-specific structures and support organisations around South Africa’s automotive industries, to the development of a consensus view across elites and the wider public and private sectors around a strategic direction for the Mauritian economy.

In the failed or disappointing experiences, these relations soured over time, or were weak or entirely absent. Political-economic causes of failure also took a variety of forms, but in almost all cases these were the most decisive factors, either directly or by weakening the public actions required to stimulate or support the investments. In Mozambique, there was a lack of consensus among different actors about necessary reforms in the cashew nut sector. In Ghana, there was little government interest in pineapple production, leaving pioneer investors in the sector to attempt, ultimately in vain, to address the growing infrastructure and learning requirements of remaining internationally competitive. Similarly, the maize sector in Malawi suffered from weakening political support for maize. In Malaysia, dissolving political conditions after the Asian financial crisis and the politics of ethnicity undermined attempts to improve manufacturing performance.

In several of the successful cases, favourable balances of political and economic interests supported transformation because they resulted in credible commitments to investors. In Ghana, this took the form of cross-party political support for the cocoa sector, and the key sectoral institution. In Mauritius, high-level political backing for a consensus view on the desired future direction of the economy was important. In Ethiopia, state investments in air transport were backed by a long-term policy vision designed by a regime that is relatively secure. In South Africa, multi-year policy visions provided a credible platform for long-term planning in the automotive sector. Technically proficient planning and macroeconomic management provided a predictable investment environment for staple agriculture in Indonesia. In Bangladesh, credible commitments came externally in the form of clear international commitments providing market access for Bangladeshi garments.

In failures, such commitments were typically uncertain, undermining investor confidence. For example, the government’s credibility in the case of cashews in Mozambique was undermined by poor communication, the perception that the policy reforms were World Bank-driven and the knowledge that processing could be profitable only with government protection. In Tanzania, the power of food-importing businesses undermined the credibility of the presidential rice initiative and the East African Community’s tariff rules. Political changes in Malaysia removed support for export processing zones and undermined the credibility of investment incentives.

The success cases often included reasonably good provision of public goods. This ranged from coordinated public infrastructure investments in Ethiopia or investments in the construction of automotive industrial parks and targeted transport infrastructure in South Africa to major investments in rural public works in Indonesia and improved telecommunications and power in Bangladesh and Mauritius. In Ghana, the development of quality control systems helped maintain the international price advantage of domestically produced cocoa.

The absence of adequate public goods provision, or related support, was almost always one of the proximate causes in the cases of relative failure. For instance, poor rural roads and weak extension services affected the maize sector in Malawi, while failure on the part of district governments to maintain medium-size irrigation works hampered the presidential rice initiative in Tanzania.

In the successful cases, specific efforts were made to tackle investment coordination problems. In Ethiopia, there was coordination and sequencing of investment in public infrastructure alongside the airline’s own capital investment in key areas such as cargo and maintenance facilities. The South African government devised well-coordinated policies – including import duty credits and productive asset allowances – for subsidising investment in exporting cars. The Indonesian government had a well-staffed national planning agency, which handled the coordination issues surrounding the uptake of improved rice and the utilisation of oil revenues in an effective way. There was some coordination among garment firms in Bangladesh, for example to capture spillovers from firm-level learning and establish strong links between education institutes and the private sector.

In failures, unsolved coordination problems had deleterious effects. For instance, little effort was made to coordinate investments to boost raw cashew nut production after export liberalisation in Mozambique. In Ghana, there was a lack of coordinated investment in post-harvest handling and other infrastructure to support pineapple production.

In certain success cases, support was provided to investors, and sometimes directed to specific first-mover firms. For example, tax incentives available to all investors and tariffs helped attract OEMs to South Africa, and similar incentives had the effect of attracting foreign investors to export zones in Malaysia. Support was provided to first-mover firms in Bangladesh’s garment sector, while support was provided to whole sectors through targeted support for innovation in Mauritius.

In the failure cases, support was often provided and then withdrawn. In Mozambique, the government removed export restrictions without investing in firm capabilities. In Malawi, subsidies were not sustained long enough, or supported with sufficient complementary measures, to pull off a profitability breakthrough.

The evidence in these cases shows that interventions at sector level, coordinated around a targeted set of activities, in a politically smart way, and set in a competitive framework can be an important driver of economic transformation. Targeting specific sectors that have strong basic conditions for competitiveness and where political economy factors are not going to be strongly detrimental is critical. The development of specific competitive sectors has been key to dynamic growth periods and hence to long-term transformation, even in countries where wider aspects of economic governance have not improved. This implies it is possible to develop dynamic, competitive sectors even when broader conditions in the economy are unfavourable. This insight has implications for actors looking to support economic transformation.

The factors set out above operate primarily as transmission mechanisms, meaning it is the function rather than the form of support at sector level that matters most. They are crucial mechanisms by means of which a favourable or unfavourable political-economic configuration influences the transformation outcome. In other words, once an economic opportunity has been identified, the political economy really matters.

And, finally, what matters about the political economy may be a temporary configuration, a moment of unusual opportunity – and it is also likely to be sector-specific. Transformation breakthroughs can and do occur in systemic contexts that are generally unfavourable. This places a premium on the ability to identify moments and sectors of opportunity in a timely fashion. Given the high level of uncertainty that must accompany such judgements, this also points to the importance of having the flexibility to recognise initial errors and change course when necessary.

Photo: Young Bangladeshi women being trained at the Savar Export Processing Zone Bangladesh 2016. Dominic Chavez/World Bank. CC BY-NC-ND 2.0.

Karishma Banga (Senior Research Officer, ODI)

18 December 2018

This blog is part of our ‘Making Firms Work’ series. Read other blogs in the series: on Tanzanian textile manufacturer A to Z, Nepali ICT firm CloudFactory, Kenyan garment firm Hela and Midal in Mozambique. 

Funkidz, a one-of-a-kind Kenyan small or medium enterprise (SME), has successfully managed to leverage digital technologies to increase its global competitiveness. Founded by a female entrepreneur, Wanjiru Waweru-Waithaka, Funkidz manufactures furniture for children locally. It has successfully embraced digital technology to innovate, diversify and survive in a challenging market place.

Information and communication technology (ICT) is already regarded as a key development pillar in Kenya, and efforts are currently being focused on leveraging the digital economy to expand manufacturing, as one of the ‘pillars’ of the Kenyan government’s Big Four agenda. However, there is still a significant digital divide in access to digital technologies in Kenya compared with other developing economies, as well as a digital divide in use of such technologies within the country’s manufacturing sector. While digitalisation brings with it certain challenges, it also presents new opportunities for economic growth and employment creation. It is crucial for African countries to identify these opportunities and to capitalise on them in order to not be left behind.

The window of opportunity in Kenya’s furniture manufacturing industry

Given the relatively low levels of digitalisation in Kenya, compared with developing countries in Asia, there may still be a window of opportunity for the nation to move into sectors less affected by technology and global changes. But how long will this window of opportunity remain open? With regard to the furniture sector in Kenya, operating a robot becomes cheaper than Kenyan (formal) labour in 2034. Moreover, operating a robot in the US furniture industry becomes cheaper than Kenyan labour in 2033. This indicates that the window of opportunity in the Kenyan furniture sector is around 15–16 years, following which there may be increased automation within the sector, or possible re-shoring of furniture manufacturing to developed economies. This will affect both growth and employment in the sector.

It is also worth noting that the furniture sector is a relatively low-skilled, labour-intensive tradable sector with relatively high robot density. In other sectors with higher robot density, such as automobiles and electronics, the window of opportunity is likely to be shorter; in other sectors, such as garments, it is likely to be longer, given issues related to economic and technological feasibility.

Funkidz: Harnessing digital technologies to become globally competitive

What makes Funkidz different from other furniture SMEs in Kenya is that it has invested heavily in technology, particularly in Computer Numerical Control, or CNC, machinery – that is, the automation of machine tools by means of computers. In modern CNC systems, there are two technologies at play: first, the mechanical dimensions of the furniture parts are defined using computer-aided design (CAD) software; and second, they are translated into manufacturing instructions using computer-aided manufacturing (CAM).

The CNC technology Funkidz has installed, along with large digital printers, enables the multiplication of furniture designs, with exact specifications and high quality. As a result, the beds, desks, cots, etc. manufactured have similar characteristics to what you would find at Ikea – those of good-quality furniture that is flat and packable. The firm’s new range of furniture is in fact completely packable, easier to transport and multifunctional. The company also offers flexibility in price via different customisation options. For example, a bed can be purchased either unpainted or painted, with choices of different prints depending on the customer’s preferences.

Funkidz has also recently launched an augmented reality app – one of the very few in Kenya – that will allow customers to log in from their phone, browse the firm’s e-catalogue for furniture and use 3D modelling and scanning to virtually place it in their house. It is also possible to change the colour of the furniture and its position for a better user experience.

Leveraging digital technologies has allowed Funkidz to increase its global competitiveness by lowering the cost of furniture manufacturing and enabling exact specification mass production that has generated economies of scale. In a span of about five years, the firm has expanded beyond the domestic market of Kenya and is now exporting to Rwanda and Uganda, and since more recently, to the UK.

Finding innovative solutions to manufacturing challenges

One of the biggest constraints the firm faces is lack of relevant skills in the workforce to operate the machinery fitted with digital technologies such as CNC systems. There is a dearth in Kenya, and in Africa in general, of the technicians needed to operate computer-controlled machines, making it necessary to hire expensive engineers to do the job. There is thus a need to retrain workers in new skills and to upgrade education. A subsidiary of Funkidz, known as Funkidz Tech, has partnered with Safaricom to design its own curriculum that provides training on how to make furniture with different specifications and dimensions, and also provides training in CNC numerical cutters.

While power supply is not the biggest constraint for the firm (the factory receives 3-phase power at rural electrification rates for light industries), rising timber prices, as well as financial and market access, present important challenges to its operations. There is a ban on logging in operation in Kenya at present, which has increased the price of wood drastically; a wooden plank now costs 96 shillings a foot compared with 42 shillings before. To address this problem, the firm has embraced innovative thinking and research and development, and is now making use of ‘urban mining’ – that is, recycling and reusing waste from cities. It has started acquiring pallet wood, one of the easiest and cheapest types of wood waste to recycle, which then undergoes nail removal, finishing and sanding within the firm. Electronic waste such as batteries, electrical circuits, computer hardware, etc. is being used as design components in table tops, showpieces and lamps. Imported second hand clothing, known in Swahili as “Mitumba”, is being used as cushion covers for furniture.

The way forward

To ensure the Kenyan manufacturing sector is able to leverage digital technologies to boost manufacturing and job creation, both the public and the private sector will need to make continuous joint efforts. Targeted policies and effective public–private collaborations are needed to:

1. reduce the cost of raw materials
2. increase access to and affordability of internet and ICT hardware such as routers, sensors, computers, etc. for manufacturing firms
3. retrain the workforce to increase its employability but also to ensure retention of labour once trained
4. increase absorptive capacity of the workforce to understand, adopt and adapt digital technologies to meet local challenges and needs and
5. promote advancements in firm-level capabilities and innovation.

Photo: Use of CNC machinery to cut wood, FunKidz factory, Kenya, 2018. Karishma Banga, all rights reserved. 

Max Mendez-Parra  (Senior Research Fellow, ODI)

22 March 2018

African leaders gathered this week in Kigali to sign the African Continental Free Trade Area (AfCFTA). This is a key step in African efforts to eliminate barriers to trade among countries of the continent and will provide the foundations for smarter and deeper continental integration and implementation of the AU 2063 agenda.

Africa has followed a long road in its endeavours to promote regional integration, with mixed success. For example, the East African Community now constitutes the most successful model of integration on the continent, but other regional economic communities (RECs) have experienced more nuanced outcomes – and the EAC also had its challenges in the 1960s and 1970s. In addition, economic partnership agreements (EPAs) between African groups of countries and the EU have been a challenge to the African regional integration process, as EPAs cut across Africa and African regions.

The road to full implementation of the AfCTFA will be very long. Stage 1 of the negotiations seeks to establish a free trade area within Africa by liberalising nearly 90% of the goods within the continent. For some countries (e.g. Nigeria), reaching such a level of liberalisation constitutes a major effort. The agreement includes a services chapter, aimed at liberalising continental trade in services. This stage of the agreement will enter into force once 15 countries ratify it. It is unclear how long this process may take.

The second stage of the negotiations will aim to address deep integration issues such as investment and competition policies. Later on, there will be the possibility of forming a customs union, but at the moment a decision on this is not possible.

The AfCFTA is set within the aim of the AU and its member states to transform the economic structure of African countries and increase intra-African trade. Economic transformation and the creation of jobs is the most important economic development need in Africa today. Trade and trade facilitation is a key component of economic transformation strategies. Within economic transformation, the development and improvement of the manufacturing sector remains key, and trade can contribute to it. The AfCFTA could contribute to this goal by promoting regional value chains making use of expanded market access in the region.

The AfCFTA should be the basis for a wider and more comprehensive integration strategy. The AfCFTA is likely to be expanded to include additional trade and other cooperation provisions. In particular, the AfCFTA should be used to boost investment in the region to promote infrastructure development and, more importantly, the development of private sector capabilities. Such investment (as in the case of trade) should not be limited to intra-African opportunities; there should also be an effort to bring in capitals and capabilities from the rest of the world.

The AfCFTA on its own is not sufficient to guarantee the transformation process; two complementary factors are also crucial. First, African countries need to improve physical and digital connections among themselves. Without soft and hard infrastructure connecting African countries physically (and virtually), the AfCFTA will not be enough to generate needed trade.

Second, it is unlikely that the AfCFTA at this stage will generate substantial and effective market liberalisation immediately, as much of this has already been achieved through the multiple RECs. It may bring down existing high tariffs between countries that, given distance and lack of connectivity, will not trade even under low tariffs.

Third, Africa needs a substantive boost of investment in its productive capacities that the AfCFTA per se is not expected to bring. African countries need to develop their productive capacities to meet demand from other African countries.

Meanwhile, industrial strategies need to be developed at the national, regional and continental levels. There is a major risk that the AfCFTA will eliminate intra-continental barriers while raising trade barriers with third countries. This strategy, followed by Latin America in the 1960s, has proven extremely costly and inefficient in generating the needed economic transformation. This may harm consumers’ welfare as well as affecting the productivity and competitiveness of African firms. Trade liberalisation is welcomed even at a regional level; however, it needs to be harnessed within a wider and deeper strategy of integration of Africa into the world economy.

In this sense, we should not overestimate the benefits of the AfCFTA and we should not underplay the challenges. The AfCFTA should be a first step in a wider integration and industrialisation strategy. Trade must be considered a tool rather than as an end in itself. The end is to increase trade (regardless of the partner) and to transform African economies to create jobs and raise living standards sustainably. The AfCFTA is not the single most important of the policies that African countries will need to deploy to transform their economies – but it is an extremely welcome one.

In addition, the agreement should aim to promote economic transformation as well as African trade. In this sense, the aim to increase intra-African trade may be misleading, as what African needs is more trade regardless of the partner. Aiming to increase intra-African trade may lead to distortions that will make many sectors inefficient and not competitive.

All this calls to raise awareness of the work that is needed to make a success of the AfCFTA and avoid certain undesirable outcomes. The agreement requires not only more elements of deep integration but also addressing of many of the multiple barriers that affect trade and economic transformation (beyond trade policies at the border). The AfCFTA must thus be welcomed and celebrated as long as the continent is ready to take the necessary steps to make of it a tool to put Africa into the world economy.

Maximiliano Mendez-Parra is a Senior Research Fellow at ODI.

Photo credit: Jonathan Ernst/Reuters