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Ethiopia poised to become an economic-hub in the footsteps of China

Tigrai Online August 26, 2013
By Muna Jemal

The prominent US-based global intelligence firm, Stratfor, recently published a report affirming Ethiopia is one of “the 16 countries best suited to succeed China as the world’s low-cost, export-oriented economy hub” in the coming decades.

Addis Ababa the capital city of Ethiopia
Addis Ababa is becoming the financial, political and cultural capital of Africa.

This uplifting good news didn't get as much attention as it should among Ethiopian media and readers. That is partly due to the report's technical presentation which is not easily grasp by an average reader.

Therefore, I will try to highlight the main points of the report and the lessons from it.

For a skeptic and a pessimist reader, it might help to start by recalling the prevailing view when China embarked on its three decade long growth track.

In late 1970s, when the Chinese government launched a very ambitious and transformative growth plan, Egbert F. Dernberger and David Fasenfest of the University of Michigan wrote a paper for the Joint Economic Committee of Congress titled “China’s Post-Mao Economic Future.”

In that paper, the authors claimed, after reviewing the plan:

“In the next seven years as a whole, the rate of industrial investment and production, more than the total of the last 28 years, imply a level of imports and industrial labor force such that the exports, transportation facilities, social overhead capital, energy and middle-level technical personnel requirements would exceed any realistic assessment of Chinese capabilities.”

However, despite this grim expectation China achieved almost two decades of consecutive double-digit growth and continues to register a high-level of annual growth to date.

The secret of the growth was not that secret. As the Stratfor report notes:

“Since the Industrial Revolution, there have always been countries where comparative advantage in international trade has been rooted in low wages and a large work force. If these countries can capitalize on their advantages, they can transform themselves dramatically. These transformations, in turn, reorganize global power structures.”

However, those other success stories had a couple of key economic variables that were not available to China.

For example, Germany and Japan, the two success stories of industrialization driven by low-wage and cheap labor force, had received a large amount of financial aid and loan from US America when they started rebuilding their economy after World War II.

They also benefited from preferential treatment in US markets and also a per-existing sizable skilled industrial and managerial class.

To the contrary, in late 1970s, China was an agrarian economy and at odds with most of the then industrialized countries, in North America, Europe and elsewhere.

In fact, strikingly, China's political situation seems to have been much weaker than current day Ethiopia.

The Stratfor report notes that:

 The Cultural Revolution had ended a few years before. It was a national upheaval of violence with few precedents. Mao Zedong died in 1976, and there had been an intense power struggle, with Deng Xiaoping consolidating power in 1977.

China was politically unstable, had no clear legal system, sporadic violence and everything else that would make it appear economically hopeless.

That was why analysts claimed at the time time that China's growth plan unveiled in late 1970s is unrealistic, since it envisages to bring about “a rate of industrial investment and production more than the total of the last 28 years” in just seven years.

Several pundits concurred that the level of “exports, transportation facilities, social overhead capital, energy and middle-level technical personnel requirements” required to succeed the plan is beyond “any realistic assessment of Chinese capabilities.”

(Does it resonate the pessimist voices we have been hearing since Ethiopia unveiled the Growth and Transformation Plan?)

Stratfor agrees that the pessimist attitude towards China “was the reasonable, conventional wisdom at the time”. Because it was based on the assumption that “the creation of infrastructure and a managerial class was the foundation of economic growth.”

However, in China, he creation of infrastructure and a managerial class had been  by-products of the economic growth itself.

In the same fashion, Stratfor underlines that, in China, in the late 1970s, the rule of law, civil society, transparency and the other social infrastructure had not been at advanced stage. They were in shambles only to get better alongside with the economic growth.

In fact, it seems, their poor state for the consecutive two decades of was resultant of the “social, financial and managerial chaos that a low-wage economy almost always manifests. Low-wage societies develop these characteristics possibly out of the capital formation that low-wage exports generates. The virtues of advanced industrial society and the advantages of per-industrial society don’t coincide.”

In other words, the comparative advantage of emerging countries do not lie in having an advanced legal, institutional and structural features, which are non-existent in any agrarian economy.

Rather, as the economic history of the world since the Industrial Revolution demonstrates, “there have always been countries where comparative advantage in international trade has been rooted in low wages and a large work force. If these countries can capitalize on their advantages, they can transform themselves dramatically.”

China is the recent and most shining demonstration of this historic path of national development. “It represents a certain phase of economic development, which is driven by low wages, foreign appetite for investment and a chaotic and disorderly development.”

China effectively used her comparative advantage - low wages and large work force. As a result, Beijing lifted about 400 million people out of poverty, built a sizable middle-class, a skilled labor force and positioned herself as a major global economic force.

However, that phase of Chinese development is ending naturally. Stratfor provides a concise explanation of the low-wage driven process of economic growth as follows:

“At the beginning of the process, what these countries have to sell to their customers is their relative poverty. Their poverty allows them to sell labor cheaply. If the process works and the workers are disciplined, investment pours in to take advantage of the opportunities.

“As the process matures, low wages rise ¯ producing simple products for the world market is not as profitable as producing more sophisticated products ¯ and the rate of growth slows down in favor of more predictable profits from more complex goods and services. All nations undergo this process, and China is no exception. This is always a dangerous time for a country. Japan handled it well. China has more complex challenges.”

How China handles the process is to be seen. However, one thing is certain:

Just as it was the case with Japan after it reached advanced level in the 1980s; China's economy will soon have to start behaving differently from the way it does now, and thus other countries are poised to take its place.

Stratfor adds:

“Indeed, China is at the fringes of its low-wage, high-growth era. Other countries will replace it. The international system opens the door to low-wage countries with appropriate infrastructure and sufficient order to do business.

Low-wage countries seize the opportunity and climb upon the escalator of the international system, and with them come the political and business elite and the poor.”

Who will succeed China?

China hosts massive export-oriented multinational manufacturing firms (assembly lines, subsidiaries).

In 2009 around 8% of the total manufacturing output in the world came from China itself and China ranked third worldwide in industrial output that year (first was EU and second United States).

Research by IHS Global Insight states that in 2010 China contributed to 19.8% of world's manufacturing output and became the largest manufacturer in the world that year, after the US had held that position for about 110 years.”

Therefore, Stratfor notes that:

“There is no single country that can replace China. Its size is staggering. That means that its successors will not be one country but several countries, most at roughly the same stage of development.”

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Thus, Stratfor identified Ethiopia among “the Post-China 16” or “PC-16”. That is: “the 16 countries best suited to succeed China as the world’s low-cost, export-oriented economy hub.” Taken together, these 16 countries have a total population of just over 1 billion people.

Ethiopia and the rest 15 countries are, according to Stratfor, “strictly successors to China as low wage, underdeveloped countries with opportunities to grow their manufacturing sectors dramatically”.

This is not a wishful thinking. Just like the 5-year Growth and Transformation Plan(GTP), this analysis is premised on theoretical and empirical considerations.

It is worth noting that just the late Prime Minister Meles Zenawi pointed out this matter in early 2012 in an interview with a Chinese media. China-daily reported it, on April 2012, as follows:

Zenawi believes Ethiopia can be just as an attractive alternative manufacturing center to China as Cambodia, Thailand and Bangladesh.

China is expected to shed some 80 million manufacturing jobs over the next three to four years as a result of rising labor costs, according to the World Bank.

"I don't think it is an either or because China is as big as all these countries combined and more. So whatever labor-intensive manufacturing is shed from Africa, it should be adequate for everyone," he said.

The prime minister dismissed notions that Africa had to also overcome perceptions that its workers were not as productive as those from Asia.

"The same has been said of Asian workers at some stage, including the Japanese (in the 19th Century). History and practice have shown that these are tricks that can be learned very quickly"

Stratfor lists several basis for identifying Ethiopia and others as best suited to succeed China as the world’s manufacturing industry hub.

“In general, we are seeing a continual flow of companies leaving China, or choosing not to invest in China, and going to these countries. This flow is now quickening.....”

“The first impetus is the desire of global entrepreneurs, usually fairly small businesses themselves, to escape the increasingly non-competitive wages and business environment of the previous growth giant. Large, complex enterprises can’t move fast and can’t use the labor force of the emerging countries because it is untrained in every way.

The businesses that make the move are smaller, with small amounts of capital involved and therefore lower risk. These are fast moving, labor-intensive businesses who make their living looking for the lowest cost labor with some organization, some order and available export facilities.

In looking at this historically, two markers showed themselves. One is a historical first step: garment and footwear manufacturing, a highly competitive area that demands low wages but provides work opportunities that the population, particularly women, understand in principle.

A second marker is mobile phone assembly, which requires a work force that can master relatively simple operations. Price matters greatly in this ruthlessly competitive market.”

“.....we tried to determine places where these businesses are moving. We were not looking for the kind of large-scale movements that would be noticed globally, but the first movements that appear to be successful. Where a handful of companies are successful, others will follow, so long as there is labor, some order and transportation. Some things are not necessary or expected.”

“The rule of law, understood in Anglo-Saxon terms of the written law, isn’t there at this stage. Things are managed through custom and relationships with the elite. Partnerships are established. Frequently there is political uncertainty, and violence may have recently occurred. These are places that are at the beginning of their development cycle.”

“In our view, the dispersal of industries that we see as markers of early-stage economic growth is already underway. In addition, there are no extreme blocks to further economic growth, although few of these countries would come to mind as having low political risk and high stability ¯ no more than China would have come to mind in 1978-1980.”

Needless to say, Stratfor's report is a good news to the hard-working Ethiopian people and their government. However, it is not a time for celebration. The report cautions that:

“It is most unlikely that all of these countries will succeed. They are not yet ready, with some exceptions, for advanced financial markets or quantitative modeling.

They are entering into a process that has been underway in the world since the late 1700s: globalism and industrialism combined. It can be an agonizing process”.

In other words, to take the place of China as a global economic hub, we will have to tighten our belts.

Ethiopian scholars should encourage the youth into vocational trainings and strong work-ethic rather than making condescending remarks about some blue-color jobs.

We should also ready ourselves to welcome and partner as many labor-intensive manufacturing firms rather than unrealistic complaint of massive foreign-investments that helps little to enhance our comparative advantage.

After all, as Meles Zenawi once said:

“We do not think foreign companies are angels. They  seek profit and there is nothing wrong with that. I don’t think Ethiopia is an island and we won’t survive as an island…

But we can’t expect foreigners to do everything for us. We have to make sure it is a win-win solution.”

Similarly, the government should adequately carry-out its roles in this regard. It should make sure that no value-adding foreign firm fails due to bureaucratic bottlenecks, corruption and other institutional factors.

As Stratfor noted:

“Where a handful of companies are successful, others will follow, so long as there is labor, some order and transportation.”

Therefore, the government of Ethiopia as well as scholars and entrepreneurs at home and abroad should join hands to make the best of this window of opportunity.

Today, than ever before, it is certain that Ethiopia will succeed in transforming her economy and achieve the national vision to alleviate poverty and to reach the level of a middle-income economy by 2025.

Indeed, the recently launched report of World bank, titled "Ethiopia Economic Update" unequivocally confirmed the robust and sustained growth of the past decade and the effectiveness of the growth strategy.

The report re-affirmed that:

"over the past decade, the Ethiopian economy has been growing at twice the rate of the Africa region, averaging, 10.6 percent GDP growth per year between 2004 and 2011 compared to 5.2 percent in Sub-Saharan Africa".

The Bank's experts explained that:

“Two and a half million people in Ethiopia have been lifted out of poverty over the past five years as a result of strong economic growth, bringing the poverty rate down from 38.7 percent to 29.6 percent between 2004/05 and 2010/11”.

"Ethiopia follows a strategy of increasing exports to facilitate growth. This is appropriate given the limited size of the domestic market and it is consistent with the development experience of some of the recently successful countries, particularly in East Asia”.

“Growth of goods exports has mainly been driven by volume growth across a variety of product groups, implying that Ethiopia is increasingly diversifying its export base.”

“Ethiopia’s fiscal performance appears to be adequate given the current state of the economy and financing requirements for development.

The overall general government deficit (including grants) declined from 1.6 percent of GDP in 2010/11 to 1.2 percent of GDP in 2011/12.

Tax collections have been boosted by the 2010 tax reform, while public management reforms (such as program-based budgeting) have strengthened public expenditures.

Public debt is on a declining trend at 35 percent of GDP in 2011/12 and Ethiopia has a low risk of external debt distress."