As a frontier market, the countries of Africa represent both tremendous opportunities and tremendous risks. On the risk side are the usual complications of international trade and investment compounded by the problems inherent in developing, emergent continental markets consisting of 54 countries and 1.1 billion people – it’s a lot to keep track of.
Luckily, the ups and downs of the African currency markets aren’t one of them if you know where to look. To help with that, AFKInsider has compiled news you need now to slim down your currency risk in the week ahead.
A three-year decline in the price of copper is finally beginning to hurt Zambia, highlighting a key problem with the African growth narrative.
Many people have been taken with the growth narrative that Africa’s well-wishers have been talking up for the last decade.
The story goes something like this: Country X, long a low-performing, single-commodity economy that suffered from recurring boom-bust cycles and political and economic instability, is finally on the mend. Sound economic governance and democratization have created stability and now foreign investors and domestic entrepreneurs are working to create value by tapping its long-neglected consumer markets. Driven by new technology such as mobile banking and cheap solar panels, the continent’s vast potential will soon be unlocked, Africa boosters say.
The story is a good one that makes nearly everyone feel great about Africa, its people, and its future economic prospects. Yet, lurking in the background behind this seeming economic renaissance is the reality that in structural terms not a lot has actually changed.
Much of Africa, even with rebased gross domestic product — as in Nigeria — is still highly dependent on one or another single export commodity. As that commodity goes, so goes the country. The important lesson is that while Africa is growing faster than it has for decades, many countries are not yet close to being the type of self-sustaining growth premised on a diversified, multi-sector economy that many economists would like to see.
Perhaps the best example demonstrating the grip that commodities still have on Africa can now be seen in Zambia — one of the world’s largest copper producers and seemingly a country well placed to benefit from the growing demand for industrial metals from China, India, and other fast-growing manufacturing powers.
News from Zambia of late, however, is not what one would call an “Africa Rising” success story. The currency has tumbled dramatically against the dollar in recent days. This tumble reflects the largest underlying problem with the growth narrative that has beguiled so many people, with a different perceptual image of an up-and-coming continent. It is entirely dependent upon external demand.
First, though, the details. As one can see from the chart below, the Zambian kwacha — never a strong currency to begin with — has plummeted in value from a trading range hovering around $0.18-to-$0.19 in mid-2013 to around $0.14-to-$0.15 today. That’s a 20-percent drop in value in the space of just few months.
Despite the protestations of the Zambian central bank, Bloomberg reports that the situation is not about to get better and that further decline of the kwacha v. the dollar is likely due to the economic impacts of the kwacha’s fall. That is, a depreciated currency means higher import prices for everything from machinery to oil, which fuels inflation and smothers real growth in output. Indeed, inflation in Zambia reportedly climbed to 7.8 percent in April.
Zambian Kwacha v. U.S. Dollar
Chart Source: XE.com
As to why this decline is occurring, look at the price of Zambia’s principle export commodity — copper. The price of copper has been steadily declining since hitting a post-crisis high of around $4.5 per pound in 2011. Now, though, the value of the commodity has fallen to a low of around $3.12 per pound – a decline of about 30 percent – mostly due to weak industrial demand in the U.S. and Europe and fears over slowing growth in China.
COMEX Futures: $/lb. of Copper
Chart Source: NASDAQ
Of course, this decline in the price of copper has been going on for three years, so why are we seeing such a huge fall now, some three years after the decline began? Look at the chart below laying out the delay in policy response to the fall in value of the country’s primary export commodity. Since early 2012, Zambian interest rates remained relatively stable between 9-and-10 percent, only just recently jumping to 12 percent in 2014.
A delay is understandable. After all, increasing interest rates chokes off growth at the expense of trying to save the currency, and all too often fails as by the time it is done the forces compelling the currency to depreciate are already too big to ignore. Better, one might argue, to take a wait-and-see approach to better understand the trend before acting too quickly. The problem with this approach, though, is that by the time waiting and seeing is over, disaster is almost upon you.
Zambian Prime Interest Rate
Chart Source: TradingEconomics.com
The pair of charts presented below makes it clear that “upon you” is right now. Zambia’s trade surplus has declined precipitously since 2011 and while its current account once consistently accumulated large surpluses, that stopped in 2012. Indeed since then the country has been effectively drawing down its still relatively ample reserves. Thus, with the current account not looking good, copper still in decline, and with the balance of trade in a long-term slide as a result, little wonder that the currency has now come under strong pressure or that Zambian interest rates have popped in response.
Zambian Balance of Trade (in millions of USD)
Chart Source: TradingEconomics.com
Zambian Current Account
Surplus / Deficit (in millions of USD)
Chart Source: TradingEconomics.com
For Zambia the questions here are how long this can continue and which tradeoff it will want to make as it manages this decline in the value of copper. Protecting the currency is important — especially when one has foreign debt denominated in a currency that is not your own, as does Zambia. If the currency sinks too low then the real burden of that debt skyrockets as it has to be paid back in a hard currency, like the euro or dollar, which are increasingly difficult for a country in the middle of a currency crisis to get its hands on.
On the other hand if one tries to protect the currency by jacking up interest rates, the kwacha doesn’t lose as much, but economic life comes to a halt. The cost of borrowing, both for private and public actors, spiral out of sight, which can put downward pressure on the currency. It really is a damned-if-you-do, damned-if-you-don’t-type situation that can only be reversed if the economic lifeline of the country, in this case the sale of copper abroad, is renewed by increased demand from abroad.
This highlights exactly the deep structural problem with the African growth narrative. If Zambia had a manufacturing sector, for instance, then a sinking price for copper and weakening currency wouldn’t be so immensely terrible. A less valuable currency would increase demand for its manufactured goods, thus increasing employment in the manufacturing sector and providing a life raft of sorts for both the currency and the economy. There would, in other words, be a level below which the Zambian economy could not sink.
But, without an alternative sector such as manufacturing that benefits when the currency weakens, there is no safety net for the economy. As a result, this makes a country like Zambia utterly reliant on commodity demand abroad — which throws a lot of water onto the whole “rising” Africa premise. After all, if sustainable African growth is utterly dependent upon demand for its commodities abroad then it really isn’t an “African” story to begin with. It is in fact a Chinese story with a side note relating to Africa.
Remember, while continent boosters may highlight the growth of consumer markets in Africa, understand that the boom is externally funded through the all-important commodity-export trade. It is still Africa’s gold, oil, or copper that the world values, not yet the continent’s products, services, or people. So long as this remains the case, African growth, like this Zambian example, will remain fragile and vulnerable to what is happening elsewhere.
Africa’s growth, like so many other things these days, is being made almost entirely in China.
Jeffrey Cavanaugh holds a Ph.D. in political science with a specialization in international relations from the University of Illinois at Urbana-Champaign. Formerly an assistant professor of political science and public administration at Mississippi State University, he writes on global affairs and international economics for AFK Insider, Mint Press News and BAM South.
