The last year has not been an easy one for many economies in Sub-Saharan Africa (SSA), and 2016 is unlikely to be any better. A new wave of currency depreciation, low commodity prices and a subdued global outlook will continue to put pressure on many economies.
Recent developments in China come as no surprise. The economy has been showing signs of weakness for some time now and “Black Monday” has only marginally increased our downside scenario of a Chinese financial crisis.
However, strong economic ties that developed between China and SSA in the last few decades mean that SSA is exposed to a slowdown in China—whatever its magnitude. But what are the practical consequences of this link, and what does this mean for Western multinational corporations (MNCs) operating in SSA?
Here are the key implications executives have to take into considerations as they devise their 2016 strategic plans for SSA:
1. Commodity exporting markets will feel the pinch more than others: China imports nearly 60 percent of the world’s iron ore and about 30 percent of the world’s copper. Slowing demand for commodities already dramatically impacted copper and iron ore exporters in SSA, such as South Africa and Zambia, in 2014 and 2015. China’s demand for commodities will slow further, putting more pressure on currencies and commodity prices globally and affecting SSA markets.
2. Competition from Chinese products and businesses will intensify: As consumers in SSA are squeezed due to currency depreciation vis-à-vis the USD that has affected many markets since mid-2014, demand for cheaper Chinese imports is likely to increase—especially if the renminbi is further devalued. Worsening conditions in China may also see more Chinese companies strengthen their foothold in African markets, accelerating competition as these companies are looking for new growth outside China. MNCs risk losing market share as purchasing power will remain under pressure and consumers opt for cheaper goods.
3. Chinese investment is unlikely to come to a halt: Although the Chinese economy is slowing, Chinese engagement in SSA will not stop. Chinese investment has grown rapidly in several sectors, including construction, infrastructure and manufacturing, highlighting the ambition of Chinese companies to take advantage of SSA’s long-term opportunity. On the other hand, should the economic outlook for China deteriorate further, Chinese investment in large-scale projects, such as infrastructure, could slow, affecting Western MNCs working on such projects. However, it could also open opportunities for Western MNCs to take over where Chinese companies left off.
Concerns over China exacerbate other global trends
While developments in China are important, these cannot be seen in isolation from other global events that are affecting growth in the continent in the next year. Low oil prices and further currency volatility will weigh much heavier on SSA economies. China’s slowdown has exacerbated these global events.
1. Oil will remain cheap: FSG forecasts oil prices to remain low (Brent at about $60-65/bbl for 2016) in the next few years and these low energy prices affect SSA countries differently. Commodity-exporting markets, such as Nigeria and Angola, are worse hit than energy-importing markets, such as Kenya and Ethiopia. That’s because oil-importing countries benefit from cheap fuel prices because they reduce the most expensive item on a countries’ import bill. In turn, governments in oil-exporting countries struggle as revenues suffer and fiscal balances are strained. Most importantly, the effect of low oil prices on economies will impact the investment decisions taken by international companies. For example, the wider East Africa region, made up of energy importing markets, has witnessed an uptick in investor interest in recent months while FSG is also noting an increasing interest in Francophone West Africa—a region that has been less affected by recent market volatility. While companies will not be able to ignore large, energy-exporting markets in the region, such as Nigeria and Angola, cost-saving measures are certainly already being implemented. For example, in Angola, many expatriate workers—usually benefitting from high salary and compensation packages—have lost their jobs.
2. Currency volatility: Many SSA currencies experienced dramatic losses since mid-2014. The US interest rate increases expected in late 2015 and throughout 2016 are likely to prompt capital flight and cause another wave of dramatic swings in currency valuations across SSA. This will affect consumers but also businesses. More governments could implement monetary policy measures that limit access to forex, as has been the case in Nigeria and Angola, in order to protect the currency from depreciating further. Difficult access to USD limits the ability of local businesses to pay suppliers and buy imported products. In a continent where local manufacturing is underdeveloped and most countries depend on imported goods and machinery, economic growth could slow if businesses are unable to import heavy machinery and materials necessary for development.
Consumers are the ones suffering most from these developments
While consumer spending remains a crucial driver of long-term opportunity in SSA, it is likely to grow more slowly in 2015 and 2016 than in previous years. Consumers throughout SSA are hurt by low oil prices as, even in energy-importing markets, their positive effects are negated when currencies depreciate, taxes rise and subsidies are eliminated, while governments look for new revenue streams. Some low-income consumers could fall back into poverty as currencies depreciate and inflation accelerates. The middle class will be more price-sensitive, and luxury spending could decline as some elites are forced to adapt to a new normal caused by low commodity prices, as is the case in Angola. As competition increases, more companies will vie for a share of more limited consumer spending. Consumers will shift habits and buy local products—or cheaper alternatives—whenever possible.
Many businesses are under strain
Most companies relying on imports will face pressures as currencies lose value. This is exacerbated if they face difficulties in getting access to forex. For example, some distributors may struggle to pay their overseas suppliers. Paired with rising inflation in many markets and subdued demand, economic activity will be hurt. However, companies that primarily rely on local inputs will benefit in this environment.
The effects of these developments on public spending are more nuanced
Economic pressures have forced oil exporters to cut their budgets. Oil importing markets, benefiting from energy savings, have instead stepped up spending. Many East African countries have revised government spending upwards for the next fiscal year, benefiting companies that sell to governments.
While consumers and most businesses will suffer in the next year, governments in energy-importing markets are the only winners of current market volatility.
Not all doom and gloom
Despite these negative trends, it’s important to highlight that SSA remains the second-fastest growing regions in the world – a notable achievement given the depressed outlook in the world economy.
Strong drivers that promise positive long-term development and abundant opportunities mean that SSA remains high on the agenda for most Western MNCs. In FSG’s Frontier Sentiment Index, which measures sentiment towards frontier markets by executives of Western MNCs, African markets still make up half of all global markets tracked. This is reflected by observations on the ground. FSG’s Expert for Kenya, Alykhan Satchu, recently noted that the level of investment he is seeing in Kenya today is unprecedented.
Economic diversification will continue to drive long-term development in SSA, supported by consumer spending, investment across sectors, infrastructure expansion, natural resource wealth and technology innovations. These drivers are too strong to be derailed by short-term disruptions like currency volatility, but these disruptions will require adaptations to business strategy. To succeed in the continent, executives must develop long-term investment plans while remaining prepared to weather short-term disruptions.