Reform programs have generally improved macroeconomic policies in Sub-Saharan Africa, but the dependence on external assistance lingers
The macroeconomic situation in Sub-Saharan Africa reached crisis proportions in the early 1980s. External imbalances mounted as real export revenues plummeted and imports remained unchanged. Currencies were wildly overvalued, with the parallel market premiums for foreign exchange exceeding 100%. Budget deficits soared to more than 7% of GDP, and because of the debt crisis, many countries lost their access to commercial lending.
African countries had to reestablish a balance between income and spending to improve the balance of payments.[1] This required a tightening of fiscal and credit policies and a depreciation of the real exchange rate. Tight fiscal and credit policies cut overall spending in the economy, while depreciation expanded production in the tradable sector and eased the recessionary impact of the tighter demand policies. Macroeconomic packages of this type worked for Costa Rica, Indonesia, the Republic of Korea, and other developing countries facing similar imbalances during the early 1980s. In Africa, Ghana and Mauritius were among the first to take bold steps along these lines. But in the first half of the decade, other countries did not do enough to reduce their budget deficits, and they were reluctant to depreciate their currencies to restore competitiveness.
The failure to take drastic action early was coupled with a series of inappropriate responses that merely deepened the crisis. Most countries with flexible exchange rates failed to devalue and to contract demand. Instead, they imposed foreign exchange controls and intensified the use of import licenses to allocate their increasingly scarce foreign exchange. The new restrictions deprived domestic firms of intermediate inputs and spare parts, strangling growth and worsening the allocation of resources.
Such moves locked many of these economies into a vicious circle. Increases in the parallel market premium for foreign exchange led to further deteriorations in the recorded trade balance, forcing the authorities to impose even tighter import restrictions. Shrinking exports and worsening export prices (in domestic currencies) reduced official export earnings, further increasing the parallel market premium. Growth suffered along the way, as producers lost access to the imported inputs they needed to keep production going. GDP per capita in countries with flexible exchange rates declined at 1.5% a year in the first half of the 1980s, after stagnating in the second half of the 1970s. Forced to look for better alternatives, most of them started reform programs in the mid-1980s---programs that combined better macroeconomic and sectoral policies with large increases in external financing.
The adjusting Sub-Saharan countries generally improved their macroeconomic policies in the second half of the 1980s. Tighter fiscal and credit policies, accompanied by increased foreign financing, helped improve the balance of payments and move economies out of the import-compression phase of adjustment. The policy packages have been most effective when they controlled inflation and brought about the much-needed depreciation of the real exchange rate. Despite the improvements, none of the countries in the region has yet achieved a good macroeconomic stance. The researchers who produced the recent World Bank study on adjustment in Africa analyzed the three key components of macroeconomic adjustment programs---monetary, fiscal, and exchange rate policies---and examined the overall policy packages.
Adjusting countries in Sub-Saharan Africa improved their fiscal performance in recent years, reducing the median overall deficit including grants from 6.4% of GDP in 1981---86 to 5.2% of GDP in 1990---91, yet all countries still need more fiscal adjustment. Most African countries started the 1980s with large fiscal imbalances from high government spending---the legacy of commodity booms in the late 1970s---and declining trade tax revenues because of the collapse of commodity prices in the early 1980s. Budget deficits (including grants) in excess of 7% of GDP were the norm. Because high budget deficits usually mean rapid money growth, high inflation, and large current account deficits, this was hardly the basis for a sound macroeconomic climate.
A low budget deficit is not a sufficient sign of good policy, but it is certainly a necessary component. More than half of the African adjusting countries reduced their overall budget deficits between 1981---86 and 1990---91. Other measures of fiscal health, such as the primary deficit, provide a similar picture.
The overall fiscal deficit including grants indicates how much the government would have to borrow to achieve fiscal balance. Because most countries have limited access to domestic and foreign financing, the overall deficit measures the potential risks of resorting to inflationary finance or financing deficits domestically in other distortionary ways (such as incurring arrears with government suppliers or taxing the financial sector).
Five of the six countries with the largest reductions in fiscal debits (more than 5 percentage points)---Burundi, the Gambia, Malawi, Tanzania, and Zambia---are low- income, flexible exchange rate countries. In contrast, the middle-income countries, those with fixed exchange rates, and the oil exporters had their overall fiscal balances deteriorate, with Cameroon and Côte d'Ivoire having the largest increases in deficits.
Another measure of the fiscal balance is the primary deficit, calculated by deducting interest payments from total expenditure. Change in the primary deficit is considered a better indicator of fiscal performance than change in the overall deficit, because fluctuations in external interest payments are largely beyond government control in the short term. The primary fiscal deficit as a share of GDP improved in the adjusting countries, with a median decrease of almost 2 percentage points. This was more than the decrease in the overall fiscal deficit, because interest expenditures rose in most countries and partly offset efforts to reduce the overall deficit. Again, as with the overall fiscal balance, improvements in the primary fiscal balance were larger for the low-income countries and those with flexible exchange rates than for the middle-income countries and those with fixed exchange rates.
Despite the deficit reductions, the fiscal situation in Sub-Saharan Africa is still fragile. Most countries still rely heavily on grants to avoid fiscal imbalances, and the median deficit excluding grants has remained large---about 8% of GDP---since the 1980s. Indeed, the 1.3 percentage point increase in external grants between the early 1980s and 1990---91 contributed heavily to reducing the overall budget deficit during this period.
Based on the size of the total fiscal deficit including grants, all countries still need more fiscal adjustment---and in some instances considerably more. Only five countries had a good or adequate fiscal stance in 1990---91 and two of them---the Gambia and Tanzania---rely heavily on grants (see the table). This shows how fragile public finances are in Africa, and how quickly a fall in external assistance could destabilize them.