At an annual growth rate of about 7 percent, the East African Community (EAC)—consisting of Burundi, Kenya, Rwanda, Tanzania, and Uganda—was among the fastest-growing groups worldwide during 2005–08. In 2009, its median growth rate of 4.7 percent continued to place the EAC among the fastest growing subregions. This box highlights the factors behind this resilience, with a focus on trade and especially export diversification.
Besides building resilience to shocks such as the global economic crisis, export diversification is a key for the long-term development of African countries because it reflects and reinforces the shift in production from low- to higher-value-added goods. Moreover, recent research found that, in Africa, policies that enhance export diversification accelerate countries’ growth by raising total factor productivity.
Because of its limited integration into global financial markets, East Africa was mostly shielded from the direct impact of the crisis through the financial channel. The trade transmission channel was not particularly harmful because of the region’s weaker trade ties with Europe and its greater regional ties.
Similarly, FDI inflows into EAC countries increased marginally in 2009, while they declined substantially in many other developing regions. Several other factors have contributed to the EAC’s strong performance, including the accumulation of policy buffers prior to the crisis, effective countercyclical responses during the crisis, and timely financial assistance from multilateral organizations.
A greater export diversification in the EAC than in other African sub-regions, both in terms of products and trading partners, helped East Africa weather the severe external shock that the crisis presented. More broadly, export diversification boosts countries’ export competitiveness by reducing their political and economic risks. This was shown also by the performance of many developing countries, including in North Africa, which saw marked drops in exports and outputs during the crisis as a result of their dependence on a few commodities and/or on markets in advanced economies.
The role of trade diversification
In terms of the product diversification of exports from Kenya, Uganda, and Tanzania, in 2009 the top three products accounted for less than 40 percent of total exports. Such shares are well below levels observed in resource-rich countries such as Nigeria and Botswana (where they account for 80 and 90 percent, respectively) or other frontier markets (e.g., countries that have recently accessed or are just about to access international capital markets) such as Ghana (where they account for about 70 percent). These differences in product market concentration are reflected in Figure 1. Necessities, especially basic food, accounted for the majority of the region’s exports—both total exports and exports to the rest of Africa, making the region less vulnerable to the global slump because of its lower income elasticity of demand. Most of the manufacturing goods, which were more vulnerable to declining demand during the crisis than foodstuffs, are exported to the rest of East Africa.
While currently a large share of the regional trade is in agricultural products, over the medium term, regional strategies need to develop complementarily in more sophisticated and higher-value-added products to raise East African countries’ capacity to trade.
East Africa is also characterized by greater regional integration and reliance on intra-regional and intra-African trade than other regional economic blocs. Vast differences exist even among the five EAC countries, with the highest share of intra-regional trade recorded by Kenya (above 20 percent) and the lowest by Rwanda (about 2 percent) during 2005–08.
Nevertheless, in the run-up to the crisis, about 20 percent of East African exports were within EAC countries, a share notably above those in other regions. The continued healthy growth rates in the subregion protected the individual countries from the major drop in demand that proved so damaging to developed and emerging economies elsewhere. The crisis has only reinforced the East African countries’ drive to integrate; the common market introduced in 2010 is also likely to boost trade further.
A key characteristic of East Africa is its large share of informal trade. For example, in 2009, Uganda’s informal exports to the EAC and to Sudan and the Democratic Republic of Congo combined exceeded its total formal exports (Table 1). The large informal trade suggests that formal trade can expand further, provided that barriers are reduced. Increasing the stock and quality of regional infrastructure would also encourage intraregional trade.
Incentives to formalize are crucial for fostering growth through innovation and technology adoption—key elements of knowledge-based economies—as firms operating in the informal sector find it more difficult to innovate and adopt new technology. This is partly the result of their limited access to capital. The free mobility of skilled workers is a pre-requisite for open trade. Easing and modernizing migration policies to facilitate the flow of labor and to address persistent skills shortages in specific fields would also help foster regional trade and raise competiveness.
Intensified trade flows between East Africa and China and the other BRICs, as well as the Gulf countries, have also contributed to the subregion’s solid growth during the crisis. Again, the intensity of these trade relations varied across individual East African countries, with Tanzania exporting about 25 percent of its exports to BRICs in 2009.
Rising ties with Asia and the Gulf countries are not unique to East Africa; they played a positive role during the crisis in other Africa’s subregions as well. In particular, frontier markets (e.g., Tanzania) and transition low-income countries (e.g., Ethiopia) with closer ties to the BRICs recorded milder declines in trade and growth than other low-income countries. In fact, export revenues of frontier markets and transition low-income countries rose in 2009.