Ghana: The challenges of growth faced with increasing imbalances

June 2014 / N

o

15

Macroeconomics and Development

Introduction Ghana, West Africa’s second largest economy, has been particularly adept over the last decade at consolidating its democracy and bolstering its growth regime.

Despite the financial crisis, the country has seen average annual growth rates of over 7 per cent since 2005. Furthermore, Ghana has recently become an oil producer and the developing oil sector has quickened the pace of growth, which reached almost 15 per cent in 2011. This enhanced growth has resulted in a rise of per capita income levels and enabled Ghana to attain the status of a low-middle-income country according to World Bank rankings.

Ghana is nonetheless at a crucial point in its development process. First, significant social issues persist insofar as a quarter of the population still lives below the poverty line and the informal sector accounts for 80 per cent of employment. In addition, Ghana’s economy continues to rely heavily on the exploitation of commodities. The country thus needs to embark on a process to diversify its economic structure so as to meet employment challenges and ensure sustainable and inclusive growth. Finally, the country is faced with rising macroeconomic imbalances that could subdue its growth trajectory and jeopardise its progress in the area of development. As well as a marked increase in the fiscal deficit, there has been a significant deterioration in the current account balance.

This twin deficit has notably translated into a sharp rise in domestic and external debt and a rapid depreciation of the national currency.

* Final drafting of this paper was in January 2014.

Ghana: The challenges of growth faced with increasing imbalances* Clémence Vergne Macroeconomic Analysis and Country Risk Unit vergnec @ afd.fr

This study analyses Ghana’s macroeconomic and sociopolitical situation and is divided into five parts. The first traces the history of Ghana’s path to democracy and the social challenges still facing the country. The second focuses on structural changes in Ghana’s economic growth model, while the third part concentrates on the vulnerabilities of public finances through an examination of the lack of budget execution management and monitoring , and of the dynamics driving the accumulation of new debt. Ghana’s banking system is discussed in the fourth section. The last section focuses on changes in external balances in order to highlight the related vulnerabilities.

Table of Contents 1 / A FLEDGLING DEMOCRACY FACING SIGNIFICANT SOCIAL ISSUES

3

5 / DETERIORATING EXTERNAL ACCOUNTS AND RISING LIQUIDITY PRESSURES

31

1.1. A recent democracy in the process of consolidation

3

5.1. Despite the emerging oil sector, the highly concentrated export base remains a major source of vulnerability for the economy

31

1.2. A society with low levels of violence and able to avert border conflicts 1.3. What progress has been made in development?

6 6

5.2. The need for external financing is fuelled by the wide current account deficit 5.3. Deteriorating external liquidity indicators

2 / GROWTH REGIME: AN ECONOMY IN SEARCH OF DIVERSIFICATION AND GROWTH DRIVERS OTHER THAN COMMODITY PRODUCTION

CONCLUSION

11 LIST OF ACRONYMS AND ABBREVIATIONS

2.1. Historical perspective of Ghana’s growth trajectory: a firmer growth regime

11

2.2. The structural transformation of the economy driven by the services sector raises the question of the medium-term development model

15

2.3. Challenges for the Ghanaian growth model: lifting structural constraints to ensure sustainable and inclusive growth in the long run

17

3 / PUBLIC FINANCES AND GOVERNMENT SOLVENCY ARE DETERIORATING

20

3.1. The dynamics driving the accumulation of new debt... at a higher cost

2

3.2. Chronic and mounting budget deficits

22 23

4 / A SHALLOW BANKING SECTOR STILL EXPOSED TO SOVEREIGN RISK

25

4.1. Although on the rise, private sector credit remains limited

25

4.2. Financial soundness indicators have improved, but the rate of non-performing loans remains high

27

4.3. Supervision of the banking sector is being enhanced, but the regulatory framework is still incomplete

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© AFD / Macroeconomics and Development / June 2014

RFERENCES

32 33 35 36 37

1 / A fledgling democracy facing significant social issues After decades of political instability and repeated military coups, Ghana began its transition to democracy in 1992 by establishing a multiparty system. Yet it was not until the 2000 elections following J. Rawlings’ nineteen years in power that the first peaceful democratic handover of political power came about, confirming the onset of democracy. Since this major turning point in the political history of the fledgling democracy, transitions between elected governments have run smoothly and Ghana has steadily consolidated its democratic achievements. In addition to the multiparty system, significant progress has been made as regards political rights, civil liberties and freedom of the press.

Socioeconomically, Ghana is classed as a low-middle-income country (LMIC) following its 2010 revision of GDP estimates.

However, while considerable headway has been made regarding poverty and living conditions, income inequality has widened. Moreover, the informal sector still accounts for 80 per cent of employment. The formal private sector has been unable to create enough jobs to absorb new entrants to the labour market. As for security, Ghana experiences only low levels of violence, as reflected by the relatively low homicide rates. For the time being , the country also seems able to protect itself against border conflicts.

1.1. A recent democracy in the process of consolidation Since independence, Ghana, like several other countries in the sub-region, has experienced successive constitutional changes mostly due to the Armed Forces’ incursions into politics in the form of military coups. Yet Ghana, unlike many African countries, has not descended into civil war or ethnic conflict.

How can the specific nature of Ghana’s trajectory be explained? To do so, it would first be useful to briefly trace the history of Ghana’s path to democracy, as this will provide a context to explain the factors that secured the consolidation of democratic gains.

1.1.1. Ghana’s path to democracy Ghana has undergone four key periods since independence.

The First Republic In 1957, the Gold Coast was the first of the African colonies to gain independence and was thereafter known as Ghana. At the time, Kwame Nkrumah already held the post of Leader of Government Business as his party, the Convention People’s Party (CPP), had won the 1951 legislative elections. Having led the independence negotiations with the British, he enjoyed some degree of legitimacy. However, as early as 1959, Nkrumah clamped down on democratic governance, jailing members of the opposition and censoring the press. In 1963, he instituted a one-party state and declared himself president for life.

Political instability and successive military coups Ghana then embarked on a period of political instability marked by four coups. In 1966, the military took advantage of President Nkrumah’s trip to China to seize power. They formed an interim government under the leadership of the National Liberation Council and promised a swift return to elected government. In 1969, pursuant to a new Constitution, power was transferred to a civilian government headed by Koffi Busia. This Second Republic was, however, very shortlived. The army once again seized power in a bloodless coup on 13th January 1972, citing the inability of Busia’s government to halt rampant inflation following the December 1971 currency devaluation. However, the Supreme Military Council, unable to deal with the economic crisis and the high cost of living, faced rising discontent that was voiced during 1977 and 1978 through strikes and street demonstrations organised by student and professional associations. In 1979, a young military lieutenant, Jerry Rawlings, took power, only to stand aside a few months later in favour of an elected civil president, Hilla Limann. After just two years of democratic governance, however, President Limann was overthrown in December 1981 by none other than Lieutenant Rawlings. He justified his intervention by citing the government’s inability to eradicate corruption and revive an economy in dire straits.

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Democratic transition After eleven years of authoritarian governance, the 1992 Constitution – which was approved by referendum – ushered in the Fourth Republic, laid the foundations for a democratic Republican state and paved the way for a multiparty system.

Jerry Rawlings was elected to the presidency of the Republic in the 1992 and 1996 elections and his party, the National Democratic Congress (NDC), won an absolute majority of seats in the National Assembly.

Democratic consolidation The elections in 2000 marked a major watershed in Ghana’s political history and attested to the consolidation of the democratic transition that had begun in 1992. Firstly, the outgoing president Jerry Rawlings had respected the Constitution, which limited the presidency to two four-year terms, as he did not attempt to amend institutional arrangements and stand for a further term. Furthermore, the elections led to the first peaceful democratic turnover of political power. [ 1] The New Patriotic Party (NPP) emerged victorious from the elections and John Agyekum Kufuor became president. He was re-elected in 2004. The 2008 elections once again confirmed that democracy had taken root in Ghana. The NDC returned to power with Jerry Rawlings’ former vice-president Professor John Atta-Mills as president.

Following the death of John Atta-Mills in July 2012, John Dramani Mahama became acting president. With 50.7 per cent of votes, he won the elections held in December 2012 – the first elections to take place without the presence of international observers. However, the opposition leader Nana Akufo-Addo lodged a complaint with the Supreme Court challenging the election results and alleging large-scale fraud.

The Supreme Court, in consultation with the stakeholders, asked the firm KPMG to audit the pink sheets that the petitioners had submitted to the Court as evidence of malpractice and irregularities in the polling stations. [ 2] The Supreme Court returned its verdict on 29th August 2013 and

dismissed the NPP’s electoral petition. John Mahama consequently remained in office as President of Ghana. The fact that the judicial system was used to settle this case, as well as the absence of unrest following the verdict, confirms the consolidation of democratic progress in Ghana.

Representatives of the political parties have, however, suggested that the Constitution be amended in order to reduce the time it takes to process future petitions. Certainly, the eight months required were not favourable to decisionmaking.

1.1.2. Factors guaranteeing democracy Several factors help to reinforce democracy in Ghana.

Non-politicised ethnicity Ghana is a multi-ethnic society in which the Akan [3] account for 47.5 per cent of the population and the three other major groups – the Mole-Dagbani, Ewe and Ga-Adangbe – 16.6 per cent, 13.9 per cent and 7.4 per cent respectively. The country has nonetheless avoided the civil wars that have plagued many ethnically diverse African countries (Easterly & Levine, 1997).

Admittedly, ethnic tensions have surfaced, especially in 1994, when clashes resulted in 2,000 dead and 150,000 people displaced in northern Ghana. Yet, these tensions have never escalated into widespread conflict. There are several reasons for this. First of all, governments in Ghana, including those formed by military regimes, have been mindful of ethnicity.

Nation-building has been a key success factor in the efforts to temper the sense of ethnic belonging in Ghana, particularly during the Nkrumah years (UNRISD, 2006). In fact, Nkrumah encouraged interethnic marriage and mixed schools that forged a sense of national belonging. In addition, the Constitution states that “every political party shall have a national character, and membership shall not be based on ethnic, religious, regional or other sectional divisions” and that political parties shall have branches in all the regions and also be organised in not less than two thirds of the districts of each region.[4] These provisions are reinforced in the Political Parties Act of 2000. [5] Certainly, the two dominant parties, the NPP and NDC, are generally identified with the Akan (especially

[1] Turnover of power is a key indicator of electoral competitiveness (Lindberg, 2006).

[2] Pink sheets indicate the number of voters. Some polling stations, however, recorded more votes than registered voters. Moreover, the vote allegedly took place in some areas without biometric checks and figures given at polling stations differed from those listed on the pink sheets.

[3] The Akan are divided into 20 sub-groups and consequently very fragmented.

[4] Articles 55(4) and 55(7) (b) of the 1992 Constitution.

[5] Section 3(1) of the Political Parties Act states that “no political party shall be formed (a) on ethnic, gender, religious, regional, professional or other sectional divisions, or (b) which uses words, slogans or symbols which could arouse ethnic, gender, religious, regional, professional or other sectional divisions”.

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© AFD / Macroeconomics and Development / June 2014

1 / A fledgling democracy facing significant social issues

Ashanti) and Ewe ethnic groups. However, studies on what determines voting patterns in Ghana show that the ethnic component is just one of several factors. Moreover, non-ethnic factors (education, occupation, income level) explain swings in voting between elections, with votes based primarily on ideological or political factors (Bossuroy, 2011). Finally some institutional mechanisms have helped to mitigate the risk of ethnic conflict. The Commission for Human Rights and Administrative Justice (CHRAJ) was mandated in 1993 to investigate complaints of violations of fundamental rights and freedoms in both the public and private sectors, investigate complaints of administrative injustice, abuse of power and unfair treatment of any person by a public officer in the exercise of his official duties. The CHRAJ has, among other things, symbolised an accessible government entity, responsible for documenting and addressing ethnic grievances.

A well-anchored multiparty system Ghana’s political landscape and electoral system have three main distinguishing features compared to many African countries. First of all, the multiparty system is firmly anchored given that the bipartisan political tradition has its roots in the years of the independence struggle. [6] The NPP has inherited a political tradition dubbed Danquah-Busia, [ 7] while smaller parties such as the PNC and the CPP lay claim to Nkrumah’s legacy. These two filiations have had a lasting influence on Ghana’s political groupings. Although the growth of political parties has often been interrupted by military coups, each new republic has witnessed a resurgence of these two political traditions. The Danquah-Busia heritage (the NPP) is associated with pro-capitalist liberal tendencies, while Nkrumah’s heirs (the NDC) have always backed government intervention and socialist-leaning policies. Although opposition between the two main parties remains political, underlying ethnic and regionalist considerations are not absent. The NPP, recognised as an Ashanti party, traditionally receives a maximum number of votes in the southern regions, especially the Ashanti region.

The NDC, on the contrary, prevails in the three northern regions as well as in the Volta region, which is predominately Ewe and also Jerry Rawlings’ home region. Moreover, elections are hotly contested insofar as the results are always extremely

close. In fact, 80 per cent of voters always vote for the same party in elections and swing voters are not easily classifiable since they exhibit no major distinctive characteristics (Lindberg et al., 2005). Lastly, there is a very high voter turnout in Ghana [8]. In the 2012 elections, 79 per cent of people on the electoral register voted.

Institutions set up to monitor democracy A number of institutions have been set up to avoid risks of slippage, especially during electoral periods. The Electoral Commission, created in 1993, is seen as one of the figureheads of democratic consolidation (Gyimah-Boadi, 2009; Abdulai & Crawford, 2010). In addition to its role of monitoring elections, the Electoral Commission’s powers extend to overseeing political party activities, namely registering political groups and auditing their accounts. Furthermore, the Commission is independent, a fact recognised by almost all of the players in the country’s electoral process. Ghana thus has a great asset as regards democratic consolidation since any tensions that occur during the electoral process can be kept within tolerable levels [9].

The key role of the media and civil society Ghana boasts (a) diversified media and (b) many civil society organisations that are truly able to both mobilise citizens and engage in political dialogue.

Since the abolition in 2001 of the Criminal Libel Law, which had been used to imprison journalists, the media have clearly developed. According to the World Press Freedom Index published by Reporters Without Borders, Ghana has risen significantly over the last decade and is now ranked 30th worldwide and 3rd in Africa (behind Namibia and Cape Verde).

Ghana has a strong culture of community life and a vibrant civil society. Several longstanding civil society organisations have been active in the country’s economic, social and political spheres. The Government, for its part, has also become more inclined in recent years to take the initiative of consulting civil society groups and soliciting their input.

[6] Bipartisanship is a legacy of the United Gold Coast Convention (UGCC), then the United Party (UP) and finally the CCP. Founded in 1947, the UGCC played a key role in Ghana’s independence. It includes members of the upper middle classes (business people, traditional chiefs, lawyers, doctors, large cocoa farmers, etc.). The CPP, founded in 1949, is a populist party with an anti-imperialist and pan-African vision. “The ideological stance of these two parties has influenced Ghanaian politics to the point that, since independence, elected civilian governments and even military regimes derive their support and claim legitimacy on one or the other of these two traditions” (Busia, 1999). It should be noted that this cleavage does not stem from ethnic divisions but rather from ideological differences.

[7] The Danquah-Busia political tradition refers to the two leaders, A. Busia and J.B. Danquah, who founded the United Party after independence.

[8] Low voter turnout reflects a state’s lack of credibility (Ninsin, 1996).

[9] Outbreaks of violence have sometimes occurred during election periods, especially in the north of the country. However, these disturbances have remained minor and localised.

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1.2. A society with low levels of violence and able to avert border conflicts

Map

1

Oil production zone in Ghana

Besides its political stability, Ghana is a country that enjoys low levels of violence, as evidenced by the relatively low homicide rates (Figure 1). Furthermore, for the time being , Ghana seems able to protect itself against border conflicts.

The border disputes between Ghana and Côte d’Ivoire over the maritime border following the discovery of the offshore Jubilee oil field (Map 1) have so far been settled peacefully.

Figure

1

Homicide rates in Ghana and several African countries (per year, per 100,000 population) 35

Source: Ghana National Petroleum Corporation.

30 25

1.3.1. Substantial headway on the poverty front, despite the still high level of poverty

20 15 10 5 0

Ghana

Cameroon

Kenya

South Africa

Average Africa

Source: United Nations Office on Drugs and Crime

1.3. What progress has been made in development?

Following the 2010 revision of national accounts and nominal GDP resulting in a 60 per cent increase in GDP (see Box 1), Ghana has LMIC status according to the World Bank’s ranking.

Yet, with a 2012 gross national income per capita of 1,550 dollars (Atlas method, current USD), Ghana still borders on the low-income country category, [10] as reflected by the level of its socioeconomic indicators.

Since the mid-1990s, growth performance, couple with social programmes, has enabled Ghana to make considerable headway in poverty reduction. The poverty rate (based on the national poverty threshold) has decreased from 51.7 per cent in 1992 to 28.6 per cent in 2006 (Table 1). [11] Nevertheless, in 2006 over half of the population was still living on less than two dollars a day, a much higher percentage than the LMIC average (37.3%). At the same time, according to an IMF study (2011a), the economic growth observed during the 1998–2005 period was relatively inclusive. Indeed, the poorest quartile of the population saw a substantial rise in annual per capita consumption. Finally, Ghana is one of the only countries in sub-Saharan Africa to be ranked in the medium human development category. The latest UNDP Human Development Report (2013) shows that Ghana is ranked 135th (out of 178 countries) and is one of the countries where there is a positive and very large difference between gross national income per capita and the human development index. Growth has thus enabled progress in human development.

[10] LMICs have a gross national income per capita of between 1,036 and 4,085 USD. In 2013, the other sub-Saharan African countries classed as LMICs are Cameroon, Cape Verde, Republic of Congo, Côte d’Ivoire, Djibouti, Lesotho, Mauritania, Nigeria, Senegal and Zambia.

[11] More recent data are not available for the moment. However, the Ghana Living Standard Survey is underway and the results should be published in 2014.

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1 / A fledgling democracy facing significant social issues

Table

1

Ghana’s socioeconomic indicators: Evolution and comparisons with several LMICs LMIC Côte d’Ivoire

Ghana

Nigeria

Senegal Average

1992

1998

2006

2008

2010

2011

2005-2011

Gini Coefficient

38.1

40.7

42.8

41.5

48.8

40.3

40.6

Poverty rate (national poverty line, % of population)

51.7

39.5

28.5

42.7

62.6

46.7

N/A

Poverty rate (at 2 USD per day PPP)

77.6

63.3

51.8

46.3

84.5

55.2

37.3

1992

2006

2011

2011

2011

2011

2005-2011

Participation rate

72.2

69.8

70,6

67,6

55,7

78,1

60,5

Unemployment rate

4.7

3.6

N/Av

N/Av

N/Av

10.0*

4.8

Youth unemployment rate (% of active population aged 15-24)

17

16.6

N/Av

N/Av

N/Av

14.8*

15

Employment rate

68

66.4

66.7

64.2

52.2

69.3

55.3

Poverty and Inequality

Labour Force

Source: World Bank (World Development Indicators - WDI); author’s calculations.

N/A: not applicable; N/Av: not available; PPP: purchasing power parity; * 2006.

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Box

1

Revision of national accounts and nominal GDP

In November 2010, the Ghana Statistical Service overhauled the methodology used for producing national accounts estimates, and a new series of revised nominal GDP was released for the years 2006–2010. Specifically, two major improvements were made. Firstly, the base year for constant-price data series was updated to reflect price changes in the country. The base year in the national accounts is now 2006 (and not 1993). In addition, the authorities sought to restructure the estimation methodology, update activity classifications and expand the range of available statistical sources. This enabled the GSS to align with the latest version of the International Standard Industrial Classification (ISIC 4), enhance the classification of national activity components and achieve a better appreciation of the economic structure.

To estimate value added by sector, the statisticians used surveys (2003 industrial census, 2005/2006 living standards survey, etc.) and various indicators (VAT receipts, fish-catch volume, number of livestock slaughtered and estimated herd stock, breakdown of telecommunications numbers, income data, etc.). Information on household spending, in particular, enabled a better understanding of agricultural activities and some informal sector activities. In addition, the new national accounts classification now includes new sectors such as service activities (telecommunications and transport), forestry and oil sector development.

Table

2

Old and new GDP series 2006

2007

2008

2009

2010

2011

2012

GDP (GHC billion)

18.7

23.1

30.2

36.6

46

59.8

73.1

GDP (USD billion)

20.3

24.6

28.2

25.7

32.2

39.5

40.7

GDP per capita (USD)

929

1 100

1 232

1 100

1 305

1 563

1 570

GDP (GHC billion)

11.7

14

17.5

21.7

25.6

-

-

GDP (USD billion)

12.7

14.9

16.3

15.4

18

-

-

GDP per capita (USD)

580

667

712

658

753

-

-

GDP New Series

GDP Old Series

GHC : Old Ghanaian Cedi Source : Ghana Statistical Service (GSS).

Table

3

GDP by sector (at constant prices, %) 2006

2007

2008

2009

2010

2011

2012

Agriculture

30.4

29.1

31

31.8

29.8

25.3

22.7

Industry

20.8

20.7

20.4

19

19.1

25.6

27.3

Services

48.8

50.2

48.6

49.2

51.1

49.1

50

Agriculture

38.8

37.6

37

37.7

35.6

-

-

Industry

28.3

28.2

28.3

27.2

28.3

-

-

Services

32.9

34.2

34.7

35.1

36.1

-

-

GDP New Series

GDP Old Series

Source : GSS.

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•••

1 / A fledgling democracy facing significant social issues

•••

The improved quality of statistical data used and the conceptual change that led to a wider coverage of economic activities in national accounts have had a significant impact on national accounting. Tables 2 and 3 and Figure 2 show some implications of the GDP revision for the years 2006–2010. For example, the ratio of (revised) GDP per capita now puts Ghana in the class of middle-income countries.

Figure

2

Real GDP growth rates for the old and new series (y-y, %) GDP old series GDP new series 10

8 6 4 2 0

2007

2008

2009

2010

Source: GSS.

1.3.2. Inequality is more pronounced when it comes to the labour market situation The positive trend regarding poverty reduction and improved living conditions is tempered by two important pillars of inclusive growth: changes in inequality and employment figures.

According to the latest available data, income inequality, as measured by the Gini coefficient, has been increasing since 1992 and is now higher than the LMIC average (Table 1). In addition, poverty levels are higher in rural areas and regional disparities persist. There is a real divide between the north of the country, which is particularly affected by poverty, and the booming coastal regions.

As for employment, the situation has hardly evolved.

According to the Ghana Statistical Service, the unemployment rate is estimated at only 3.6 per cent. However, the official

unemployment rate masks a high level of underemployment as well as the disguised unemployment that is inherent to the informal sector given that the Government’s definition of unemployment does not take into account the high number of unemployed people who may be available for work, but not necessarily active job seekers. In fact, the informal sector remains predominant in Ghana and still accounts for more than 80 per cent of jobs (Table 5). Meanwhile, the formal private sector fails to generate enough jobs to absorb new entrants into the labour market. In particular, young people (aged 15-24 years), who now make up 30 per cent of the total population, account for only 14 per cent of formal sector employees. The public sector and state-owned enterprises thus substitute for the private sector and are the leading employer in the formal sector. Finally, more than 40 per cent of the working age population is employed in the agricultural sector, which typically provides low incomes and is still largely informal (Table 4).

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Table

4

Table

Employment by sector (% of total employment)

5

Employment by sector (% of total employment)

2010

2000

2010

Agriculture, forestry and fishing

42

Public sector

6.4

6.2

Mining and quarrying

1.1

Formal private sector

8.5

6.8

Manufacturing

10.7

Informal private sector

83.9

86.2

Electricity and water

0.4

Parastatal sector

0.8

0.2

3

NGOs

0.35

0.5

Wholesale and retail trade; repair of vehicles

18.7

Others

0.05

0.1

Transport

3.5

Hotels and restaurants

5.4

Information and communication

0.4

Banking and insurance

0.7

Real estate services

0

Professional, scientific and technical activities

0.9

Public administration and defence

2.1

Education

3.9

Health and social work

1.2

Culture and leisure

0.6

Other service activities

4.5

Domestic services

0.7

Construction

Source: GSS; author’s calculations

Given the nature of the labour market, it appears that strong performances have been concentrated in capital-intensive sectors (extractive industries) and skilled labour-intensive sectors (financial services and communications), hence the limited impact on employment and inclusiveness of growth [12].

Source: GSS; author’s calculations

[12] Inclusive growth refers to economic growth that creates opportunity for all segments of the population and distributes the dividends of increased prosperity, both in monetary and non-monetary terms, fairly across society” (OECD, 2013)

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© AFD / Macroeconomics and Development / June 2014

2 / Growth regime: an economy in search of diversification and growth drivers other than commodity production After decades of political and economic instability, Ghana has gradually firmed up its growth regime. Now one of the lowermiddle-income countries, it has reached a critical stage of its development process. On the one hand, the national economy is still heavily dependent on agriculture and commodities. On the other hand, 80 per cent of jobs are in the informal sector.

This section first of all proposes a review of Ghana’s growth trajectory and then focuses more specifically on the Ghanaian growth model [13] by examining the structural transformation of the economy. Finally, the analysis will look at the structural constraints that are hampering economic diversification.

2.1. Historical perspective of Ghana’s growth trajectory: a firmer growth regime 2.1.1. Since the 1980s, the pace and stability of Ghana’s growth have gradually gained in strength Ghana’s accession to independence in 1957 did not enable the country to effectively set in motion a real growth and development process. During the 1960s and 1970s, which were years of political and economic instability, Ghana experienced particularly low average annual growth rates (Table 6).

Moreover, this growth was marked by very high volatility. While Ghana registered one of the highest per capita GDP growth rates in sub-Saharan Africa in 1960, between 1960 and 1983 it recorded a marked decline of 20 per cent (Figure 4).

After two turbulent decades, Ghana launched an Economic Recovery Program (ERP) in 1983 under the government of Jerry J. Rawlings. This programme, defined jointly with the IMF and the World Bank, aimed to trigger real economic and social change in the country. The first phase (1984–1986) was designed to correct sizeable macroeconomic imbalances by purging public finances and curbing inflation to restore

Figure

3

Real GDP growth rates (%) Growth rate Average annual growth Non-oil GDP growth rate 14

9

4

-1

-6

1980

1985

1990

1995

2000

2005

2010

Source: IMF (WEO); author’s calculations

Table

6

Average real GDP growth in Ghana and sub-Saharan Africa (%) Growth Ghana

Growth SSA

1961-1969

2.1

4.6

1970-1979

1.4

4.1

1980-1989

3.8

2.6

1990-1999

4.5

2

2000-2009

5.8

5.5

Source : Banque mondiale (WDI) ; calculs de l’auteur.

[13] The analysis of the growth model or, in other words, the model associating changes in economic growth rates with the different structural socioeconomic explanatory factors, aims to identify the potential vulnerabilities linked to this model.

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11

investor confidence. The second leg of the ERP (1987–1989), in tandem with the adoption of a Structural Adjustment Plan, was chiefly characterised by the State’s withdrawal from a number of productive activities and by the liberalisation of exchange rates. The inflows of donor aid made it possible to rehabilitate infrastructure and develop export sectors (cocoa, minerals and timber). The continuation of the ERP, together with donor support, enabled Ghana to significantly speed up its pace of growth, showing an average of 3.8% and 4.5% respectively during the 1980s and 1990s.

Figure

4

Evolution of GDP per capita in Ghana (PPP, in constant USD, 1960 = 100) 200 180 160 140 120 100

From a historical viewpoint, Ghana’s growth regime gradually firmed up, with the real growth rate averaging an annual 5.8 per cent over the 2000s. The growth dynamics of the Ghanaian economy successfully placed the country on a convergence path with sub-Saharan Africa (Figure 5). Yet, for three decades, there has been virtually no catch-up with the world average. At purchasing power parity (PPP), the country’s GDP per capita stood at 17 per cent of the world average in 2012 compared to 15 per cent in 1980.

2.1.2. Is the accelerating pace of growth sustainable?

80 60 40 20

2008

2002

1996

1990

1984

1978

1972

1966

0 1960

In the early 2000s, given its high degree of productive specialisation, the country faced an economic crisis due to the fall in cocoa prices and the rise in oil prices. With the help of the IMF, the new government elected in December 2000 engaged in an economic stabilisation programme designed to ensure balanced budgets and restore the balance of payments. [14] At the same time, although Ghana had always refused to benefit from the heavily indebted poor countries initiative (HIPC) [15], the new government reversed this position and agreed to join the initiative.

Source : World Bank (WDI); author’s calculations.

Figure

5

Evolution of Ghana’s GDP per capita relative to the world average and SSA average (%) Ghana/SSA average Ghana/world average 100 90 80 70 60 50 40 30 20 10

2010

2007

2004

2001

1998

1995

1992

1989

1986

1983

0 1980

The accelerating pace of growth seen from the mid-2000s can be explained by a combination of several factors. On the one hand, the country benefitted from the rise in commodity prices (gold, cocoa). On the other hand, growth was driven by internal demand-side factors (Figure 6). The increase in bank lending helped to fuel consumption. In addition, in the context of the 2009 presidential elections, public spending (current and investment expenditure) increased substantially thanks to the savings generated by debt relief.

Source : World Bank (WDI); author’s calculations.

[14] For more details on this period, consult the study by Barat, Massuyeau and Spielvogel (2002).

[15] Moreover, Ghana always refused to join the group of least developed countries (LDCs) so as not to cut itself off from external market-based financing, even though its socioeconomic characteristics made it eligible for LDC status.

12

© AFD / Macroeconomics and Development / June 2014

2 / Growth regime: an economy in search of diversification and growth drivers other than commodity production

In 2008, the hike in the price of food and energy products compelled the Central Bank to lower its key lending rate in order to curb inflationary pressures (Figure 7 and Box 2).

Combined with an increase in bad loans (see Section 5.2), banks became increasingly risk-averse and reduced their supply of credit. Additionally, the implementation of a stabilisation policy by the new government team in the wake of public finance slippages put a brake on public spending, which adversely impacted the dynamism of the construction industry and the manufacturing and services sectors. Thus, although it was relatively unexposed to the international financial crisis (and even benefitted from the drop in oil and food prices), Ghana’s growth slowed down, reaching 4 per cent in 2009 against 8.4 per cent in 2008.

discovered in 2007, officially came on stream in December 2010. After a start-up production level of 55 000 barrels a day, this reached 100 000 barrels a day in 2013. [16] However, the IMF recently revised its growth forecasts for 2013 downward from 8 per cent to 5.5 per cent, mainly in light of Ghana’s increasing macroeconomic imbalances and the slowdown of its traditional growth engines. In fact, the prices of cocoa and gold, the country’s main source of foreign currency, fell by nearly 30 per cent and 15 per cent respectively after 2011.

Moreover, oil output had still not attained the originally forecasted level of 120,000 barrels a day due to technical problems that have disrupted exploitation of the Jubilee oil field. Finally, the industrial sector remained strongly constrained by problems of power supply and very high interest rates.

The outstanding results recorded in 2011 (14.4%) are in part due to the development of the oil sector. The Jubilee oil field,

Figure

Figure

6

Contribution of demand components to real GDP growth (%)

7

Inflation (%) 70

Net exports Private consumption Stocks

Government consumption GFCF Total GDP

30

60 50 40

25 20

30

15

20

10 10

5 0

2010

2005

2000

1995

1990

0

-5 -10 -15 -20

Source : IMF (WEO).

2007

2008

2009

2010

2011

2012

Source: World Bank (WDI); author’s calculations.

[16] At the global level, Ghana’s oil reserves are relatively small. Even if they prove to be at the top end of current estimates (between 700 million and 1.8 billion barrels), this would rank Ghana at only 50th place in terms of the world’s proven oil reserves, far behind major oil-producers such as Nigeria, Angola and Norway. Also, Ghana’s oil output is modest compared to that of countries such as Nigeria and Angola (over 2 million barrels a day).

/ Ghana: The challenges of growth faced with increasing imbalances /

13

Box

2

The determinants and effects of inflation in Ghana

Ghana’s history has been marked by periods of very high inflation, with rates of up to 60 per cent in the 1990s. In 2007, the Central Bank of Ghana adopted an inflation-targeting regime. Since then the inflation rate has certainly been more under control but is still high (13% in 2013) and is one of the sources of Ghana’s economic vulnerability.

In Ghana, the main perverse effects of inflation on economic activity are as follows: • It discourages saving High inflation leads to limited savings. A steep price rise is in fact generally associated with negative real interest rates. This is a regular occurrence in Ghana. Real interest rates on savings products were negative in 2012 and remain low until the today (around 1.5%). In this context, economic agents have no incentive to save.

• It is difficult to anticipate how the economy will evolve, which limits the increase of private investment.

Although fluctuations in inflation rates have been less pronounced since the inflation-targeting policy was implemented, inflation remains unstable. It rose from 10 per cent in 2007 to 19 per cent in 2009, and then dropped back to 10 per cent in 2010. This instability is a source of uncertainty, which is not conducive to long-term investment.

• It creates economic distortions.

As inflation does not impact all goods and services to the same extent, it modifies the country’s relative price structure in a way that does not necessarily correspond to economic realities and thus generates economic distortions. In Ghana, some prices are rigid as they are administered by the government (mainly utility tariffs), whereas others automatically adapt to changes in the economic situation. Changes in the relative price structure lead to changes in the behaviour of economic agents that are not necessarily in the general interest. Hence, as no adjustment formula has been applied to electricity tariffs since 2011, this has caused further deterioration of the electricity sector as a whole, with heightened impact on the sector’s public operators (Volta River Authority − power producer; GRIDCo − transmission provider; ECG and NEDCo − distributors), whilst giving consumers no incentive to moderate their consumption.

• It accentuates inequalities.

High inflation tends to foster inequalities insofar as the richest save part of their income and are able to do so in foreign currency, whereas the poorest use up all of their income and are then totally at the mercy of inflationary tax.

In Ghana, inflation basically stems from two factors: • Depreciation of the domestic currency.

Depreciation of the cedi (Figure 8) gives rise to imported inflation by pushing up the cost of imports.

Figure

Real effective exchange rate* and nominal exchange rate (Cedi vs. USD)

REER (left-hand scale) Nominal exchange rate (right-hand scale)

• Recourse to domestic financing of the budget deficit.

Direct financing of the budget deficit is one of the main causes of inflation in Ghana. Moreover, the use of monetary financing, notably during pre-electoral periods, harms the credibility of the inflation-targeting regime.

8

120

0.0

100

0.5

80

1.0

60

1.5

40

2.0

20

2.5

0

3.0 2014

2013

2012

2011

2010

2009

2008

2007

2006

2005

2004

2003

2002

Sources: Caupin, Chouteau and Nora (1997); IMF (2013).

Source: IMF (IFS). * The real effective exchange rate (REER) is an indicator of a country’s economic competitiveness. A rise in this indicator means that the inflation differential between the country in question and its trading partners was higher than the depreciation of the nominal exchange rate compared to other currencies and that the country’s economy thus lost some degree of competitiveness. Ghana’s real effective exchange rate appears relatively stable, which indicates that depreciation of the nominal exchange rate has been able to offset the inflation differential.

14

© AFD / Macroeconomics and Development / June 2014

2 / Growth regime: an economy in search of diversification and growth drivers other than commodity production

2.2. The structural transformation of the economy driven by the services sector raises the question of the mediumterm development model

from 10 per cent in the 1990s to 7 per cent over the 2010–2012 period.

The primary sector, which still contributes a large share of value added, has seen its contribution fall considerably since 2005 (Figure 9). The secondary sector on the other hand sharply increased its contribution to growth. This development can be explained by the strengthening of the extractive industries since 2010. The services sector has become the leading contributor to growth.

With a sustained annual growth rate of over 5 per cent since 1990, Ghana has experienced a relatively moderate structural transformation. [17] After a period of relative stability from 1970 to 1990, the productive structure of the Ghanaian economy has nonetheless gradually changed, particularly over the last decade. A closer examination of the sectoral breakdown of Ghana’s GDP reveals two key characteristics of the composition and evolution of each sector’s share of value added. Firstly, Ghana remains a highly agricultural country given that the share of the primary sector still accounts for almost a third of total value added (Table 7) and over 40 per cent of total employment. However, as is the case in most examples of development, Ghana’s growth has shown a marked decline in agriculture’s share of the economy, falling from 56.5 per cent of total value added during the 1970s to around 26 per cent over the 2010–2012 period (Table 7).

Secondly, the gradual decrease in the share of agriculture has mainly benefitted the services sector rather than the secondary sector. [18] The share of the services sector thus rose from slightly below 25 per cent in the 1970s to nearly 50 per cent in the years 2010–2012. The industrial sector, on the other hand, has remained steady since 1990 at less than 25 per cent of total value added. Moreover, the share of the manufacturing sector has registered a significant drop, falling

Figure

9

Contribution of the different sectors to value added growth (period averages, in GDP percentage points) Agriculture

Industry

Services

4.5 4.0 3.5 3.0 2.5 2.0 1.5 1.0 0.5 0.0 1989-2000

2001-2005

2006-2012

Sources: Ghana Statistical Service, World Bank (WDI); author’s calculations.

Table

7

Sector composition of GDP in Ghana (average, %)

Primary sector Secondary sector, of which Manufacturing sector Tertiary sector

1970-1979

1980-1989

1990-1999

2000-2009

2010-2012

56.5

52.5

42.6

36.3

26

19

13. 8

24.5

24.8

24.2

12.3

8.7

9.9

9.3

6.9

24.6

33.6

32.9

38.9

49.8

Source: World Bank (WDI); author’s calculations.

[17] Structural transformation refers to the shifting of economic activity from less productive to more productive sectors. It is one of the fundamental drivers of economic development. It involves two factors: the rise of new more productive activities and the transfer of resources from traditional activities to these new activities, which thus increases overall productivity.

[18] The secondary or industrial sector includes value added from mining, manufacturing, construction, electricity, water and gas.

/ Ghana: The challenges of growth faced with increasing imbalances /

15

Table

8

Contribution to GDP growth by sub-sector between 2006 and 2012

Share (% of GDP)

Value added growth

Contribution to real growth (% of overall growth)

Agriculture, forestry and fishing

27.3

3.4

11.5

Mining and Quarrying

4.3

41.1

15

Manufacturing

9.1

5.1

5

Electricity

0.7

5.4

0

Water

1.1

3.3

0

Construction

8

17.1

15

Wholesale and retail trade; Repair of vehicles

6.5

8.4

6.5

Hotels and restaurants

4.5

4.5

2

Transport and storage

13.1

7.7

12

Information and communication

3.1

15.4

6

Finance and insurance

3.1

13.2

5

Real estate

4.8

7.4

5

Public administration and Defence

5.2

8.4

6

Education

3.9

8,5

4.5

Health

1.4

7.9

1.5

Community, social and personal services

3.9

8.9

5

Source: GSS; author’s calculations.

The more detailed sector breakdown of contributions to GDP in Table 8 shows that agriculture grew by only 3.4 per cent over the 2006–2012 period, which is less than the official target of 6 per cent annual growth. This weak performance can be explained by the lack of transformation in the agricultural sector, which mainly comprises small farms yielding low levels of productivity.[19] Development of more productive commercial farming systems that could provide the inputs needed to develop local agri-food industries is hampered by land issues and the lack of readily available credit, which discourages investment.

The services sector, the main growth engine, is driven by five sub-sectors: (i) transport and storage, (ii) community, social

and personal services, health services and education, (iii) wholesale and retail trade, (iv) public administration and defence and (v) the information and telecommunications sectors. It should be noted that the services sector, which now provides 40 per cent of jobs, is largely informal and characterised by high flexibility and low capital requirements.

The secondary sector’s contribution to growth mainly rests on the performance of the mining and quarrying sub-sector (including oil). The construction sector benefitted from intensive activity in public and private construction projects in connection with the growth of the oil sector. Contribution from manufacturing is limited, due to a series of setbacks that hinder its development, notably the difficulties of accessing

[19] The agricultural sector relies heavily on rainfall: the irrigated used agricultural area (UAA) represents only 0.02 per cent of total land area. Moreover, Ghana has one of the lowest fertiliser use rates in sub-Saharan Africa, which is a factor in the low fertility of agricultural soils.

16

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2 / Growth regime: an economy in search of diversification and growth drivers other than commodity production

finance as well as the lack of infrastructure in the energy, transport and telecommunications sectors.

2.3. Challenges for the Ghanaian growth model: lifting structural constraints to ensure sustainable and inclusive growth in the long run The above analysis shows that the structural transformation of Ghana’s economy is underway, but at a sluggish pace, which raises the questions of why this is so despite strong growth.

Several fundamental factors are holding back Ghana’s economic transformation and, in the medium term, jeopardising the country’s economic performance [20].

2.3.1. Weaker investment may weigh on infrastructure development Investment plays a major role in economic growth. According to the Commission on Growth and Development (2008), countries with a high and sustainable growth rate devote on average over 25 per cent of their GDP to investment and source this mainly through domestic savings.

Compared internationally, Ghana exhibits relatively modest investment rates. Over the 2005–2012 period, the investment rate stood at 20 per cent of GDP against an average 27 per cent for lower-middle-income countries (Figure 10). What is more, Ghana’s investment rate fluctuates considerably depending on macroeconomic and political developments in the country (Figure 11). From 1984, the investment rate gradually increased, notably thanks to the stepping-up of public investment, which was partly funded by substantive financial aid flows. The turnaround in this overall trend came in 2006. Generally, the weak investment dynamic is due partly to the decline of public investment over recent years and partly to the shortfall in private investment, which is still penalised by the crowding-out effect caused by rising public deficits. Domestic savings are diverted to financing public deficits and companies are thus forced to self-finance their investments, leading to a reduced level of private investment. Overall, the weak domestic savings rate (4.6% of GDP over the 2005–2012 period) constrains the investment dynamic (Figure 12).

Weaker levels of investment are likely to adversely impact infrastructure development projects. Table 9 shows that while the availability of infrastructure is relatively comparable to

Figure 10

Figure 11

Comparison of different countries’ investment rates (2005–2012 average; % of GDP)

Composition of investment in Ghana (% of GDP) Private investment

40

Public investment

35

35 30

30

25

25

20

20

15

15

10

10

5

5

Source: World Bank (WDI); author’s calculations.

2012

2008

2004

2000

1996

1992

1988

0 1984

Vietnam

India

Morocco

Senegal

Ghana

Burkina Faso

Kenya

ASS

LMICs

0

Source: World Bank (WDI); author’s calculations.

[20] Some other important factors not mentioned in this section are: land and labour market regulations, and the lack of regional infrastructure.

/ Ghana: The challenges of growth faced with increasing imbalances /

17

Figure

that in other African countries, it nonetheless falls far short the more advanced developing countries. In particular, the quality of energy supply is a major constraint as evidenced by the frequency of power outages. This impedes the development of the manufacturing and agro-industrial sectors. The financial situation of the state-owned enterprises responsible for generating , transmitting and distributing electricity cannot ensure the necessary investment expenses and maintenance.[21] Yet, to meet growing demand, power generation needs to increase by around 200 MW a year over the next ten years.

12

Evolution of the savings and investment rates in Ghana (% of GDP) Private investment

Public investment

35 30 25 20 15

2.3.2. Credit facilities do not support private sector growth

10 5

Limited access to credit continues to pose a major obstacle to the development of the private sector. Certainly, credit to the private sector, which stood at 14.5 per cent of GDP over the 2006–2011 period, is particularly low compared to international and regional levels (Figure 13). This situation stems from the large and persistent spread between interest rates on lending and deposits (see Section 5.1 ). On the one hand, the real return on savings is negative, whilst on the other hand real lending rates are very high, which strongly constrains private investment. The Government’s increasing recourse to domestic borrowing in recent years has caused a rise in Treasury bill and interbank rates (Figure 14), which is likely to create the growing risk of crowding out private investment.

0 2010

2006

2003

2000

1997

1993

1990

1987

1984

1980

-5

Source: World Bank (WDI); author’s calculations.

Table

9

Indicators of the quality and quantity of infrastructure stock

Ghana

Kenya

Morocco

Senegal

LMICs

14

28

51

17.5

16.3

Access to electricity (% of population))

60.5

16.1

97

42

67.4

Electricity consumption (KwH/capita)

299

154.5

788

187

695

Average number of power outages (per month)

9.6

6.9

2.5

11.75

N/Av

Average duration of power outages (in hours)

12.6

4.4

1.6

6.2

N/Av

Road density (km/100 km2)

46

10.6

13

7.5

42.7

Roads, paved (% of total roads)

12.6

14.3

70

35.5

47.3

Internet subscribers (per 100 people)

Source: World Bank (WDI, Enterprise surveys); author’s calculations.

[21] In Ghana, the electricity sector is split into power generation (Volta River Authority), transmission (GRIDCo) and distribution (NEDCo for the North and ECG for the South of the country).

18

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2 / Growth regime: an economy in search of diversification and growth drivers other than commodity production

Figure

Figure 14

13

Credit to the private sector (% of GDP) Average 2006–2011

Interbank rate and Treasury bill rate (%) Interbank rate

Treasury bill rate

25

120 100

20

80

15

60 10 40 5 20

2013

2012

2012

2011

2011

2010

2010

2009

2009

2008

Vietnam

Morocco

India

Kenya

Senegal

Burkina Faso

Côte d’Ivoire

Ghana

2008

0

0

Source: Bank of Ghana; author’s calculations.

Source: World Bank (WDI); author’s calculations.

/ Ghana: The challenges of growth faced with increasing imbalances /

19

3 / Public finances and government solvency are deteriorating The situation of Ghana’s public finances constitutes one of the country’s main fragilities. The public debt is growing very swiftly, mainly in the form of non-concessional loans.

Furthermore, given the recurrent and increasingly large budget deficits, there are legitimate grounds to question the country’s capacity to return to deficit levels that are compatible with easing the public debt burden.

Figure 15

Evolution and decomposition of gross public debt (% of GDP) Domestic public debt

External public debt

140 120

3.1. The dynamics driving the accumulation of new debt... at a higher cost

100 80 60

3.1.1. Evolution of the public debt stock 40

The dynamics driving this accumulation of new debt is visible in the simultaneous increase of external and domestic public debt, with the latter however registering a greater increase (Figure 15). Thus, in 2012, domestic debt represented 56.5 per cent of Ghana’s public debt. This trend towards domestic borrowing is explained by the authorities’ determination to reduce exposure to foreign exchange risk and foster the development of the domestic market for public debt securities.

20

2012

2011

2009

2010

2008

2006

2007

2005

2004

2003

2002

2001

0 2000

During the 2000s, Ghana benefitted from extensive debt cancellation. After reaching the completion point under the Enhanced HIPC initiative in July 2004, the country was granted substantial external debt relief in 2006. The public debt ratio then fell to 42 per cent of GDP in 2006 compared with 182 per cent in 2000 (proportionally to the old GDP series), which corresponds to a decrease from 127.3 per cent to 26.2 per cent of GDP proportionally to the new revised GDP series (Figure 15). In fact, after the revision of GDP in 2010, debt ratios automatically became more favourable. However, the country has quite rapidly re-accumulated debt. The debt stock at nominal value increased by USD15 billion after 2006 and more than doubled between 2009 and 2012 (Figure 16). The public debt ratio thus almost doubled in the space of six years, rising from 26.2 per cent of GDP in 2006 to 50.2 per cent of GDP in 2012. When payment arrears are factored in, [22] the debt ratio in 2012 amounts to 51.7 per cent of GDP.

Source: MOFEP, IMF; author’s calculations. .

Figure 16

Evolution of total public debt (billions of USD) 25 20 15 10 5 0 1990

1994

1998

2002

2006

2010

Source: MOFEP; author’s calculations.

[22] On this basis of available data, arrears are owed to various creditor countries. Moreover, many creditors complain about the irregularity of Ghana’s repayments.

20

© AFD / Macroeconomics and Development / June 2014

Figure 17

Evolution of the composition of external debt stock by creditor category (% of total) Non-concessional debt

Multilateral institutions

External public debt, which now represents 43.5 per cent of Ghana’s total public debt, has trended upwards since 2006.

Moreover, the multilateral creditors’ share of external government financing has declined in favour of financing via international capital markets and commercial creditors, which now account for 19 per cent of external debt stock (Figure 17).

Bilateral institutions 100 90 80 70 60 50 40 30 20 10 2012

2011

2009

2010

2007

2008

2006

2005

2004

2003

2002

2001

2000

0

Source: MOFEP; author’s calculations.

Figure 18

Evolution of the composition of domestic debt stock by creditor category (% of total) Banking system

Non-bank sector

Non-residents 100 90 80 70 60 50 40 30 20

Ghana was one of the first African countries to issue an international sovereign bond (Eurobond), worth USD750 million in 2007. It recently renewed the operation in July 2013 with a USD1 billion Eurobond issue. [23] At this point, the risks weighing on external debt are moderate insofar as this stock is mostly characterised by long maturities and fixed interest rates. Domestic public debt is in the main held by Ghana’s banking sector (Figure 18). Non-banking institutions, notably insurance companies and pension funds (including the SSNIT, the social security body) hold 25 per cent of domestic debt.

The main development is that non-residents now hold an increasing share of domestic debt – currently 27 per cent of this stock compared to 2 per cent in 2006. Certainly domestic borrowing has the advantage of mitigating exposure to foreign exchange risk. Domestic debt, however, has much shorter maturities than external debt: 32 per cent of outstanding domestic debt has a maturity of less than one year and 53 per cent less than five years. Furthermore, domestic interest rates are much higher than those for foreign currency debt. [24] As a result, the interest cost burden of domestic debt is much higher than that for external debt. The strategy of borrowing from local financial markets carries three major risks. Firstly, it crowds out local private financing. Secondly, there are rollover risks since the Government’s domestic debt is short-dated and will therefore need refinancing at rates that may well be higher in future years. This is why USD360 million of the proceeds from the Eurobond issue are to be used to refinance a part of domestic debt that has reached its maturity date.

Finally, the fact that one-third of Ghana’s domestic debt portfolio is held by foreign investors exposes the country to the risk of sudden capital outflow.

10 2012

2011

2009

2010

2007

2008

2006

2005

2004

2003

2002

2001

2000

0

Source: MOFEP; author’s calculations.

[23] The 2007 Eurobond issue had a 10-year maturity and an 8.5% yield at issue. The 2013 Eurobond also has a 10-year maturity and an 8% yield.

[24] In 2013, the Government paid on average around 4.3% on a 10-year dollar-denominated loan. However, when it borrows in national currency, the 3-month Treasury bill rate is at least 23%. Taking into account the inflation differential, the gap between the cost of borrowing in dollars and in national currency is 10.6 percentage points (5.4 percentage points, given the currency depreciation).

/ Ghana: The challenges of growth faced with increasing imbalances /

21

One important consequence of the changes in the Government’s borrowing practices over the last few years is that the debt-servicing burden has rapidly become heavier.

This aspect should be monitored for two vital reasons. First, the debt service-to-revenue ratio has been increasing very swiftly over the last four years (+12.7 percentage points since 2008) (Table 10). Secondly, its level is such that it could cause a significant increase in rollover needs in the short and medium term.

Table

10 Evolution of debt service (% of Government revenue excluding grants)

Total debt service to revenue (%)

2008

2009

2010

2011

2012 2013e*

16.8

20.1

27.6

28.4

29.5

32.6

* estimations Source: IMF (Article IV).

3.1.2. Assessment of public debt sustainability The joint IMF and World Bank analysis of the Debt Sustainability Framework (DSF) was updated in May 2013 so as to integrate the impact on public debt sustainability of (i) oil output, (ii) foreign direct investment (FDI) flows linked to growth of the oil sector and (iii) the mounting reliance on nonconcessional borrowing. According to the 2013 DSF analysis, the risk of debt distress has heightened since 2011 but remains modest. Using the baseline scenario assumptions, the projections conclude that the public debt ratio would peak at 56 per cent of GDP in 2023 and converge in the long run towards 52 per cent of GDP, that is, an additional 10 percentage points of GDP compared to the projections of the debt sustainability analysis carried out in 2011. Moreover, debt service would reach 40 per cent of government revenue over the long term.

The results of stress tests show that there is a need for vigilance regarding the evolution of those elements that could impact the debt profile. More specifically, the results of the projections

highlight that Ghana’s public debt remains vulnerable to macroeconomic shocks that would cause a sharp slowdown of growth. Thus, a 30 per cent depreciation of the cedi would create a high risk of debt distress. This same risk would also increase if the use of non-concessional loans was stepped up. [26] The 2013 Debt Sustainability Analysis underlines that, at this stage, the risk of debt distress remains moderate, provided that a fiscal consolidation policy is implemented. Certainly, given that the debt ratio has increased by 26 percentage points of GDP since 2006, the projections of the debt sustainability analysis for the five coming years thus envision very different policies and results from those seen over the last five years.

In particular, ensuring a sustainable dynamic for public debt is contingent on the successful implementation of a significant fiscal adjustment that could bring the fiscal deficit down to 6 per cent of GDP by 2015. However, this point is problematic given the Ghana’s track record in fiscal policy. Moreover, the substantial depreciation of the cedi (25% since the beginning of 2013) heightens the risk of debt distress. According to the most recent information available, the public debt burden has significantly increased in 2013.

3.2. Chronic and mounting budget deficits From a historical perspective, the budget deficits are recurrent and tend to be accentuated as elections approach (Figure 19).

As a young democracy, Ghana is subject to very strong political budget cycles. [ 27] More specifically, pre-electoral periods typically involve a significant increase in recurrent government expenditure (public sector wage bill and subsidies), which creates a substantial rise in the budget deficit. In 2008, the budget deficit widened to reach 8 per cent of GDP. In 2012, the phenomenon was accentuated with a deficit of 11.8 per cent of GDP compared to the initially targeted 4.8 per cent of GDP, indicating a lack of control and budgetary credibility.

This series of successive slippages reveals the inability of successive governments to conduct a budgetary policy that is disconnected from electoral stakes. In total, the budget deficit has averaged 6.8 per cent of GDP since 2006, compared to 4.2 per cent during the first half of the 2000s. Furthermore, the Government continues to accumulate domestic arrears to state-owned enterprises and the private sector, bringing the stock of arrears to 3 per cent of GDP.

[25] A moderate risk of debt distress means that this could turn into a high risk if certain adverse scenarios were to happen.

[26] It should be noted that the DSA does not take into account the 2013 Eurobond issue.

[27] According to Brender and Drazen (2005), political budget cycles are specific to new democracies, in which voters have little experience in electoral politics or lack the necessary information to evaluate fiscal manipulation.

22

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3 / Public finances and government solvency are deteriorating

Although the level and composition of government revenue lessen its vulnerability to economic shocks, the structure of government expenditure constitutes the foremost constraint when it comes to managing the public deficit. Total government revenue is in fact at a satisfactory level (more than 19 per cent of GDP in 2012) and is barely dependent on external trade and grants (Table 11). Thanks to a series of reforms, particularly in the area of tax administration, Ghana seems to have successfully completed its fiscal transition, with a shift from taxation based on customs duties to one mainly based on domestic taxes. The tax rate thus seems to have been on a positive trend since 2010 mainly due to the increase in domestic taxation. At this stage, oil revenue accounts for only 1.2 per cent of GDP and should not exceed 2 per cent of GDP in the medium term. This tax structure makes it possible to limit large variations in government revenues linked to the direct effect of international economic conditions on the country’s external sector. In the short run, Ghana thus seems able to manage the fiscal consequences of economic shocks without excessive impact on the sustainability of its public debt.

Figure 19

Evolution of the budget balance, public expenditure and general Government revenue (% of GDP) Budget balance

Government revenue Government expenditure

35 30 25 20 15 10 5 0 -5 -10 -15 1980 1984 1988 1992 1996 2000 2004 2008 2012

Note: the black columns denote election years.

Source: IMF (WEO); author’s calculations.

The level and composition of public expenditure constitutes a much greater constraint than revenue in public finance management. In fact, public expenditure rose sharply over the last decade to reach 25 per cent of GDP in 2012 (excluding arrears). Moreover, the composition of expenditure is suboptimal insofar as the increase in spending is fuelled by a rise in recurrent expenditure to the detriment of investment expenditure. This trend is all the more problematic as most of the proceeds from the 2007 Eurobond issue were intended to finance spending on infrastructure projects. Yet, public investment has not been ramped up accordingly. Crossregionally, the country’s investment expenditure still compares satisfactorily. However, there is a risk that it could be used as an adjustment variable, which would impede infrastructure development and penalise medium-term growth.

The rise in recurrent expenditure over recent years results largely from the higher wage bill. This spending rose by 47 per cent in nominal value in 2012 due to (i) an 18 per cent pay rise following the adoption of a new public sector salary grid (single spine salary scheme), (ii) new hires in the civil service and (iii) the payment of deferred wages. Transfers and subsidies have risen, mainly spurred by increased fuel and electricity subsidies.

Lastly, interest on domestic debt has increased steeply in connection with the rise in short-term debt interest rates.

In 2013, the Government planned to reduce the budget deficit to 9 per cent of GDP in view of reaching 6 per cent of GDP in 2015. To reduce public expenditure, it introduced the Ghana Integrated Financial Management Information System (GIFMIS) designed to better incorporate all budgetary items, provide consolidated cash flow management, monitor commitments more closely and manage public sector wages.

As a result, the Government expects to have more effective control over spending and budget management. Moreover, fuel subsidies were totally withdrawn between June and September 2013. The Government has also announced an increase in water and electricity tariffs (78% for electricity and 52% for water). However, these pricing levels are still far from what is needed to ensure production cost recovery. [28] Finally, the repair of the West Africa gas pipeline [ 29] will help to facilitate the adjustment of utility tariffs. As for budget revenue, the Government notably plans to implement new

[28] Tariffs had not been readjusted since 1 June 2010. The electricity and water companies had requested an increase of 166% and 112% respectively. They also stated that they would have been bankrupted without this price adjustment.

[29] On 26 August 2012, the anchor of a Togolese ship damaged a section of the West Africa gas pipeline, which transports gas from Nigeria to Benin, Togo and Ghana.

According to Ghana’s Regional Volta Authority, which is responsible for electricity distribution, the accident caused daily shortfalls of 200 to 250 MW, putting additional pressure on the already high demand and impacting the country’s productivity during this period, especially in manufacturing. The incident was resolved in August 2013, one year after the pipeline-related crisis.

/ Ghana: The challenges of growth faced with increasing imbalances /

23

Table

11

Central Government budgetary operations (% of GDP)

2007

2008

2009

2010

2011

2012

2013f*

17.5

16

16.5

16.9

19.3

19.3

20.5

-

-

-

-

1.1

1.3

1.2

Non-oil revenue

13.8

13.3

13.5

14.5

16.1

16.4

17.9

Tax revenues

13.3

12.9

12.2

13.3

15.1

15.9

17.4

Non-tax revenue

0.5

0.4

1.3

1.2

1

0.5

0.5

3.7

2.7

3

2.4

2

1.6

1.4

22.7

24

20.5

22.8

20.1

25.1

27.8

Recurrent expenditure

13.9

14.8

13.4

15.2

14

18.3

19.6

Wages and salaries

6.1

6.6

6.8

6.9

7.6

9.1

8.3

Goods and services

2.4

2.1

1.7

2.1

1.2

1.8

1.9

Transfers and subsidies

2.6

2.9

1.6

2

1.9

2.7

5

Reserve Fund

0.8

0.9

0.5

1

0.6

1.5

0.8

Interest on debt

1.9

2.3

2.8

3.1

2.7

3.4

3.6

domestic

1.4

1.6

2.1

2.5

2.2

2.6

2.9

foreign

0.5

0.7

0.7

0.7

0.5

0.8

0.7

8.7

9.1

7.1

7.6

6.2

6.8

8.2

Balance (commitment basis) (incl. grants)

-5.2

-8

-4.1

-6

-1

-6.1

-7.6

Net change in arrears

-0.3

-0.5

-1.7

-1.2

-2.5

-2.4

-2.1

VAT refunds

-0.1

-0.1

-0.1

-0.1

-0.1

-0.2

-0.4

-

-

-

-

-0.6

-2.6

0

-5.6

-8.5

-5.8

-7.2

-4.1

-11.8

-10

Total revenue and grants Oil revenue

Grants Total expenditure

Capital expenditure

Deferred wage payments Overall balance (incl. errors and omisions) * forecasts Source: IMF, MOFEP; author’s calculations.

taxes. An additional tax on profits in the financial services and mining sectors is planned, as well as a tax on certain imports, and excise duties will be increased. However, the level of the budget deficit has been revised for 2013 to 10.8 per cent of GDP due to a drop in tax receipts and a higher wage bill than initially forecast. The measures taken to improve the situation

24

Š AFD / Macroeconomics and Development / June 2014

of public finances have so far been unable to reverse the trend to any significant extent. On the basis of this diagnosis, it will probably be difficult for the Government to reduce the budget deficit to 8.5 per cent of GDP in 2014 as provided for in the Finance Act.

3 / Public finances and government solvency are deteriorating

4 / A shallow banking sector still exposed to sovereign risk Despite the progress recorded over the 2008–2012 period, Ghana’s financial sector remains shallow and access to financial services is limited. The ratio of money supply to GDP, which measures the degree of financial deepening in the broad sense, stands at 31 per cent compared to an average 48 per cent in sub-Saharan Africa (Figure 20). Moreover, there is a limited use of banking services, with 30 per cent of the population holding a bank account. [30]

Figure 20

Evolution of money supply in Ghana and sub-Saharan Africa (% of GDP) Ghana

Sub-Saharan Africa

60 50 40 30 20 10

2011

2009

2006

2003

2000

1998

1995

1992

1989

1986

1983

1980

0

Source: World Bank (WDI); author’s calculations.

4.1. Although on the rise, private sector credit remains limited Ghana’s financial system is dominated by the banking sector, with commercial banks holding more than 75 per cent of the financial sector’s assets. Over the last ten years, the banking sector has developed considerably and become more competitive. While 17 banks shared the market in 2002, 26

banks are now operating including 15 foreign banks. The latter dominate the market and control 55 per cent of banking assets.

The level of concentration has eased considerably, given that the five leading banks held 66 per cent of assets in 2000, 55 per cent end-2007 and 45 per cent end-2012. Historically, before it was privatised, Ghana’s banking sector was dominated by public banks. However, these (four of them in 2012) [31] still represent over 20 per cent of total assets of the industry (against 40% in 2005), as well as 20 per cent of total credit and 25 per cent of deposits.

Since the 1990s, Ghana’s financial sector has undergone major reform, notably under the Financial Sector Adjustment Programme (FINSAP I et II) and the Financial Sector Strategic Plan (FINSSP I). In 1995, the first wave of privatisations was launched. An easing of monetary policy begun in 1997 helped to accelerate lending to the private sector. From 2001, however, the banks deemed it less risky and more profitable to cover the hefty financing needs of the Government and stateowned enterprises, to the detriment of private sector financing (Figure 21). It was not until 2005 that robust growth in private sector credit was seen. The injection of capital into the banks so as to comply with the minimum capital requirements, heightened competition in the banking sector and the expansion of branch networks coupled with the economy’s rising demand for finance helped to drive this dynamic. However, the international financial crisis curtailed this trend, creating a disconnect with the private sector credit cycle (Figure 22). The credit cycle picked up again in 2009.

The prolonged easing of inflationary pressures together with an improved business environment encouraged the Central Bank to lower its lending rate from 18 per cent in January 2010 to 12.5 per cent in December 2011. These reductions led to reductions in money market rates and bank rates, fostering a revival of credit to the private sector. Private sector credit was also boosted by the adoption of the law on the registration of loans in 2009 and the setting up in 2010 of a credit agency with a system of guarantees.

Financial intermediation remains limited and insufficient with respect to the country’s potential needs. Certainly the private

[30] The rate of use of the banking system is higher than the average for Africa, which is particularly low (11% of the population).

[31] Public banks are as follows: Ghana Commercial Bank, Agricultural Development Bank, National Investment Bank and Merchant Bank.

/ Ghana: The challenges of growth faced with increasing imbalances /

25

sector credit ratio has been constantly on the rise since the early 1990s as it now stands at 15 per cent of GDP, against 5 per cent in 1990 (Figure 21). This rate is nonetheless relatively low compared to the rates of other African countries (cf.

Figure 13) [ 32] and the country’s potential needs. Moreover, bank lending is highly concentrated and above all geared to large companies. In 2012, loans to the five largest borrowers accounted for 55 per cent of all lending. In terms of sectoral distribution, the services sector and the international and domestic trade sectors account for more than half of the loans (Table 12). As for mortgage and consumer loans, these are still in their infancy.

Figure 21

Total domestic credit and private sector credit (% of GDP) Private sector credit

Total bank credit

45 40 35 30 25 20 15 10 5

2010

2005

2000

1995

1990

1985

0 1980

Several factors contribute to this low level of financial intermediation. On the one hand, the Government’s massive recourse to borrowing on the domestic market, mainly to finance its deficit,[33] crowds out private sector credit. Certainly, the banks prefer to not to take the risk of lending to private companies when they can lend to the Government a high interest rates. On the other hand, the cost of credit is particularly high as shown by the large spread between the banks lending and deposit rates (Figure 24). The marked competitiveness of the Ghanaian banking sector has not gone hand in hand with a narrowing of the interest rate spread due to increasing operating costs (bankers’ pay rises, high intermediation charges). According to the IMF, overheads still amounted to 7.3 per cent of total assets in 2011, compared to an average 4.4 per cent in sub-Saharan African countries.

Source: World Bank (WDI); author’s calculations.

Figure 22

Volume growth of private sector credit (y-y, %) 50

30 20 10 0

Source: IMF (IFS); author’s calculations.

[32] By way of comparison, the lending rate to the private sector is 18.3% of GDP in Côte d’Ivoire, 20.8% in Nigeria, 29.6% in Senegal and 36.7% in Kenya.

[33] In 2012, the Government financed 80% of its deficit through borrowing on the domestic market.

26

© AFD / Macroeconomics and Development / June 2014

2012

2011

2010

2009

2008

2007

2006

2005

2004

-10

2003

According to financial soundness indicators, the situation of Ghana’s banking sector as a whole has improved but still displays significant vulnerabilities. Moreover, the situation varies considerably depending on the individual bank, and the financial soundness of two public banks remains a matter of concern.

40

2002

4.2. Financial soundness indicators have improved, but the rate of nonperforming loans remains high

4 / A shallow banking sector still exposed to sovereign risk

Table

Figure 24

Sectoral distribution of credit (% of total credit)

12

The lending-deposit rate spread (%) 2008

2012

Lending rate

Deposit rate

35

Agriculture

4.3

4.8

Mining

2.9

1.1

Manufacturing

12

11

Construction

6.8

4.8

15

Electricity

4

2.1

10

International trade

6.5

16.4

5

Domestic trade

26.1

16.9

0

Transport

2.9

7.9

Services

23.9

26.3

Other

10.6

8.5

30 25

2012

2011

2010

2009

2008

2007

2006

2005

2004

20

Source: Bank of Ghana; author’s calculations.

Sources: Bank of Ghana; author’s calculations.

Overall, Ghanaian banks appear to be well capitalised on average, with a total regulatory capital to risk-weighted assets ratio of 15 per cent, which is much higher than the regulatory level of 10 per cent (Table 13). Improvements in this area are due to raised minimum capital requirements, which were increased to GHS60 million (compared to GHS8 million before 2007) by the end of 2009 for foreign banks and by the end of 2012 for banks majority-owned by Ghanaian shareholders.

Ghana’s banks enjoy high returns as shown by a ROA bordering on 5 per cent and a ROE of nearly 35 per cent. This robust profitability is mainly on account of the large banks, as they are in a position to set prices on certain markets.

Figure 23

Composition of deposit banks’ credit volume by creditor category (% of total credit)[34] Private sector

Public sector

50 45 40 35 30 25 20 15 10 5

Source: Bank of Ghana; author’s calculations.

2012

2011

2010

2009

2008

2007

2006

2005

2004

2003

2002

0

The quality of bank assets deteriorated in 2009, chiefly due to the Government’s late payments to its suppliers and the banks’ inadequate management of risk during the years of credit expansion between 2004 and 2008. Despite the positive trends operative since 2010, a careful eye needs to be kept on asset quality. Certainly, although the rate of non-performing loans (NPLs) is down from 17.6 per cent in 2010 to 13.2 per cent in 2012, it nonetheless remains high. In addition, this reduction partly reflects a rebound in the growth of credit since 2009 (Figure 22). [35] The Government also continues to accumulate payment arrears, which impacts the financial health of

[34] The other sectors are financial institutions and non-residents.

[35] The growth of credit can “statistically” hide an increase in non-performing loans, particularly if these come to light tardily due to loan maturities.

/ Ghana: The challenges of growth faced with increasing imbalances /

27

The financial soundness indicators for public banks indicate a persistently worrisome situation (Table 14). One of the banks is insufficiently capitalised, while two banks show a very high rate of non-performing loans (28.4% and 23.3% respectively) and provisioning for these loans is poor.

enterprises and thus in turn that of the banking sector. The construction and energy sectors seem particularly exposed.

Finally, the high real interest rates, which rose from 1 per cent at the beginning of 2012 to 8.5 per cent during 2013, may create risks of a further increase in NPLs. [36] The positive side is the improved provision to NPLs, which has gradually been strengthened and now stands at a satisfactory level.

Table

13 Financial soundness indicators for Ghana’s banking sector (%)

2007

2008

2009

2010

2011

2012 (Dec.)

Regulatory capital to risk-weighted assets

15.7

13.8

18.2

19.1

17.4

18.6

Regulatory Tier I capital to risk-weighted assets

13.6

12.8

17

18.6

15.5

16.4

Return on assets (ROA)

3.3

3.7

2.8

3.8

3.9

4.8

Return on equity (ROE)

35.8

30.1

23.6

28.6

27.2

34.6

Credit to total assets

50.3

52.3

43.8

40.1

37.8

42.9

Non-performing loans to total gross loans

6.9

7.7

16.2

17.6

14.1

13.2

Bank provisions to non-performing loans

-

-

68.7

70.6

76.2

77.9

Liquid assets to total assets

40.7

39.4

47.2

51.3

54.9

51

Liquid assets to short-term liabilities

54.7

52.4

62

66.6

69.6

64.8

22.3

28.4

32.7

25.4

27.4

28.9

8.1

7

6.2

4.7

3.4

3.5

Capital adequacy

Profitability

Asset quality

Liquidity

Exposure to foreign exchange risk Share of foreign currency deposits in total deposits Share of foreign liabilities in total liabilities Source: IMF (GFSR).

[36] The interest rate affects the amount of bad loans in the case of variable-rate loans. Fofack (2005) states that the real interest rate is an important determinant of bad loans in sub-Saharan African countries.

28

Š AFD / Macroeconomics and Development / June 2014

4 / A shallow banking sector still exposed to sovereign risk

Table

14 Financial soundness indicators of public banks in 2012 (%) Ghana Commercial Bank

Agricultural Development Bank

National Investment Bank

Merchant Bank

Assets

10.9

5.5

3.2

3.1

Credit

7.1

6.7

3.4

3

17.1

11

19.5

7.7

Return on assets (ROA)

7.3

2.6

-1.8

-2.1

Return on equity (ROE)

64.1

17.3

-18.2

-25.3

Non-performing loans/total loans

28.4

9.7

23.3

3.3

Provisions/non-performing loans

50

60.4

29.6

35

47.9

25.6

27.6

27.3

Market share

Capital adequacy Capital adequacy ratio Profitability

Asset quality

Liquidity Liquid assets/total assets Source: IMF (2013).

6 000 5 000 4 000 3 000 2 000 1 000

2012

2011

2010

2009

2008

2007

0 2006

According to the IMF’s assessments of the financial sector conducted in 2011 and 2013, the supervision of the banking sector has made notable headway over the last two years, but the progress achieved on the regulatory front is much more nuanced.

Central Bank credit to Government (millions of GHS)

2005

The Bank of Ghana is responsible for the regulatory framework and supervision of the banking sector. Its supervisory powers for this sector have been strengthened, particularly following the adoption of the 2004 Banking Act. The independence and credibility of the Central Bank nonetheless raises questions. On the one hand, the Bank’s financing of the fiscal deficit surges during pre-election periods (Figure 25) and in 2012 overran the statutory limits (IMF, 2013). On the other hand, the Central bank holds stakes in four of the entities it supervises, notably two banks.

Figure 25

2004

4.3. Supervision of the banking sector is being enhanced, but the regulatory framework is still incomplete

Source: IMF (IFS); author’s calculations.

/ Ghana: The challenges of growth faced with increasing imbalances /

29

4.3.1. Progress in banking supervision...

The Central Bank has significantly improved its offsite monitoring system and its risk assessment process. The latter now incorporates diverse indicators (capital adequacy, liquidity, management and exposure to foreign exchange risk, etc.) thanks to regularly submitted financial data. This information makes it possible to assess each bank’s level of risk and guides onsite controls (inspections carried out each year in each financial institution). In this regard, injunctions and/or recommendations are issued in line with the seriousness of the breaches observed. Nonetheless, the Central Bank seems to show a degree of forbearance toward lending institutions that fail to comply with some of the prudential limits as it simply issues warnings rather than impose effective sanctions (IMF, 2013).

4.3.2. ...which is of limited scope due to shortcomings in the regulatory framework Ghana has not adopted the Basel II standard. Initially planned for 2012, the implementation of this mechanism is not yet effective. Compliance with Basel II requirements would be a significant stride forward as it would provide more in-depth risk management in line with the level of capital.

In this context, the capacity of the Central Bank to implement prudential regulation is limited by the gaps and inconsistencies in the body of texts governing banking legislation.

30

© AFD / Macroeconomics and Development / June 2014

More specifically, the following aspects of regulation would need to be changed or reinforced (IMF, 2013): • The powers of the Central Bank need to be strengthened so as to enable it to draft regulations and impose administrative sanctions.

• Minimum capital requirements (increased to GHS60 million, up from GHS8 million before 2007) are still insufficient to ride out an economic slowdown.

• Some aspects of the method for calculating the capital adequacy ratio (CAR) are questionable. In particular, the 50 per cent risk-weighting of export finance is too low. Moreover, the Central Bank continues to calculate the CAR on the basis of nominal and not paid up capital.

• Waivers are still too frequent, above all concerning single obligor limits when state-owned enterprises operating in the mining or oil sector are involved.

• The regulatory framework provides for no overall action plan in the event of crisis. There is no deposit insurance scheme or plan to halt the actions of the different operators should a banking crisis erupt.

• Cross-border supervision needs to be deepened.

Foreign banks (mainly European, South African and Nigerian) dominate the Ghanaian banking sector. On this count, the Bank of Ghana could usefully collaborate more with its regional counterparts to improve the supervision of foreign banks.

5 / Deteriorating external accounts and rising liquidity pressures The widening current account deficit is a major source of vulnerability for Ghana’s economy. The fact that the export base is highly concentrated and that import values have risen steeply reveals the fragility of the Ghanaian model in terms of global trade integration. The widening current account deficit accentuates the need for external financing of the economy and leads to deteriorating external liquidity ratios.

Figure 27

Components of the current account balance (% of GDP) Current account balance Services balance Current transfers balance

Trade balance Income balance

15

5.1. Despite the emerging oil sector, the highly concentrated export base remains a major source of vulnerability for the economy For many years, Ghana has run a structural current account deficit, which has widened significantly since 2004, rising from 4.7 per cent of GDP to 12.2 per cent in 2012 (Figure 26). This trend is attributable primarily to the structural trade balance deficit together with the rising deficit on the services account and income account due to payment of dividends and profits to foreign investors (Figure 27). Finally, the current transfers balance is positive but trending downwards mainly due to the decline in remittances. According to IMF estimates, the current

Figure 26

10 5 0 -5 -10 -15 -20 2005 2006 2007 2008 2009 2010 2011 2012 Source: IMF (IFS); author’s calculations.

account deficit widened to 13 per cent of GDP in 2013, as a result of the drop in gold and cocoa prices and persistent budgetary pressures.

The trade balance deficit is the main factor behind Ghana’s sizeable current account deficit. Like many developing countries, Ghana’s external trade is structurally oriented to exporting commodities and importing capital goods and energy products. However, the country’s exports seem poorly diversified. On the one hand, they are mainly for the European market. On the other hand, 85 per cent of its exports involve primary commodities (Figure 28). External trade thus remains particularly exposed to potentially steep and unpredictable fluctuations in world prices for its export goods. Cocoa and gold prices are relatively volatile and since the end of 2011 these have experienced a downtrend (Figure 29). [37]

Current account balance (% of GDP) 2 0 -2 -4 -6 -8 -10 -12

2012

2008

2004

2000

1996

1992

1988

1984

1980

-14

Source: IMF (WEO).

[37] Cocoa prices could be set to rise as demand is increasing whereas production is stagnating.

/ Ghana: The challenges of growth faced with increasing imbalances /

31

for nearly 20 per cent of total imports in 2012. [38] On balance, it can be seen that the major share of imports comprised intermediate and capital goods to keep abreast of Ghana’s accelerated pace of economic growth during the second half of the 2000s.

Figure 28

Exports between 1996 and 2012 (millions of USD) Other

Oil

Timber

Gold

Cocoa

16

Figure 30

14 12

Evolution of trade openness, exports and imports (% of GDP)

10 8

Exports Imports

6 4

120

2 0

Trade openness

140

100 1996

2002

1999

2005

2008

2011 80

Source: Bank of Ghana; author’s calculations.

60 40

Figure 29

20

Gold and cocoa price trends (2006 = 100) Cocoa

2010

2005

2000

1995

1990

1985

1980

0

Gold

400

Note: the steep fall of ratios in 2006 is due to the revision of GDP. Source: World Bank (WDI); author’s calculations.

300

5.2. The need for external financing is fuelled by the wide current account deficit

200

100

2014

2013

2012

2011

2010

2009

2008

2007

2006

2005

2004

0

Source: Reuters; author’s calculations.

The rise in imports, which accompanied the increase in exports (Figure 30), is mostly fuelled by capital goods imports. The latter’s share in total imports rose over the 2000s to reach almost 60 per cent. Petroleum product imports are the other major component of the country’s imports and accounted

The need for external financing of Ghana’s economy is considerable and has been trending upwards since 2009 on the back of the widening current account deficit. As mentioned above, the sizeable current account deficit stems from a structural trade deficit coupled with worsening deficits on the services and income accounts.

The external financing requirement (EFR) excluding grants reached 14.3 per cent of GDP in 2012, compared to 7.2 per cent in 2009 (Table 15). This level is a source of fragility insofar as it buttresses the economy’s reliance on external sources of finance. However, the structure of the coverage of external financing needs has greatly improved. Non-debt-creating flows now cover 85 per cent of EFR. In particular, FDI, which offers

[38] The rise in import of petroleum products partly stems from the need to import light crude oil to offset the cut-off of gas supply from Nigeria following the shutdown of the West Africa gas pipeline.

32

© AFD / Macroeconomics and Development / June 2014

5 / Deteriorating external accounts and rising liquidity pressures

exposure to dips in the confidence of international investors.

Finally, debt is predominantly medium- and long-term rather than short-term.

a stable source of financing, is on the rise in connection with the rapidly growing oil sector and represented 8.5 per cent of GDP in 2012. Moreover, the relatively limited share of portfolio flows in the EFR means that Ghana’s economy has limited

Table

15 Estimate of external financing requirement and coverage (% of GDP)

2007

2008

2009

2010

2011

2012

1- External financing requirements (a+b)

-12.1

-13.6

-7.2

-9.5

-10.5

-14.3

a- Current account (excluding grants)

-9.6

-12.8

-6.5

-8.9

-9.8

-13.3

b- Amortisation of external debt

-2.5

-0.8

-0.6

-0.6

-0.7

-1

2- EFR coverage (c+d+e)

13.7

10.8

11.1

13.8

11.9

11.2

c- Non-debt-creating flows

5.1

10.2

12.2

10.4

9.3

12

FDI

3.5

9.5

11.2

7.9

8.4

8.5

Portfolio flows

0

-0.2

-0.2

1.9

0.3

2.9

Grants and transfers from public donors

1.6

0.8

1.1

0.6

0.6

0.7

d- Debt-creating flows

4.2

0.6

3.5

2.5

3

-2.5

MT and LT debt

2.8

2.4

3.7

1.2

2

1.9

ST capital

1.5

-1.8

-0.2

1.3

1.1

-4.4

e- Errors and omissions

4.4

0

-4.6

0.9

-0.5

1.7

3- Changes in reserves (increase)

-1.7

2.8

-4

-4.3

-1.4

3.1

Source: IMF; author’s calculations.

5.3. Deteriorating external liquidity indicators Although Ghana’s external debt is higher than the average for developing countries (25% of GDP), it remains at a moderate level for the time being (26.2% of GDP). In addition, the external debt burden for the most part comprises public debt (Figure 31) with long and medium maturities (75% of external debt). It does not represent a major risk in terms of external creditworthiness as most of this is debt owed by the Government to public donors. The distribution by type of creditor is as follows: half of the debt is held by multilaterals, 31 per cent by bilaterals and 19 per cent by commercial creditors.

The IMF’s external debt sustainability analysis concludes that there is a moderate risk of debt distress. However, the projections of the debt sustainability analysis (DSA) show that in the baseline scenario the indicator for the debt service-torevenue ratio is rising steeply and approaching its threshold level. Furthermore, for this indicator, stress tests reveal two sources of vulnerability: a sharp depreciation (30%) and a decrease in non-debt-creating flows.

While the external debt ratio remains modest at this stage, the deterioration of the current account balance has caused external liquidity ratios to worsen. Whereas international reserves covered more than four months of goods and services imports in December 2010, this coverage stood at only 2.7

/ Ghana: The challenges of growth faced with increasing imbalances /

33

Figure

Figure

31

External debt (% of GDP) Private debt

32

Official reserves (in billions of USD and months of imports) In billions of USD (left-hand scale) In months of imports (right-hand scale)

Public debt

30

6

25

4.5 4.0

5

3.5 20

4

15

3.0 2.5

3

2.0 10

2

5

1.5 1.0

1

0.5 2012

2011

2010

2009

2008

2007

2006

0

0 2005 2005 2006 2007 2008 2009 2010 2010 2011 2012

Source: IMF (IFS); author’s calculations.

Source: IMF (article IV), Bank of Ghana; author’s calculations.

months of imports at the end of November 2013 (Figure 32).

This level seems inadequate given the characteristics of Ghana’s economy. More particularly, were gold and oil prices to fall back to their 2009 level, this would significantly widen the current account deficit. What is more, non-residents now

Table

hold one third of public debt (in the form of 3- and 5-year Treasury Bills), which exposes the country to the risk of capital flight. Should non-residents decide to redeem 50 per cent of their bonds, international reserves would plummet by 1.4 billion dollars (equivalent to about one month of imports).

16 External vulnerability indicators

2007

2008

2009

2010

2011

2012

20.6

19.9

27.9

27.2

26.6

26.2

Short-term external debt (% of total external debt)

25

23.6

18.5

24.2

24.7

nd

Short-term external debt (% des exports)

21.1

18.8

17.2

23.8

18.9

nd

Short-term external debt (% of international reserves)

57.8

66.8

36.1

43.8

47

nd

Debt service (% of domestic revenue)

5.1

7.7

9.7

6.8

6.4

7.4

Debt service (% of export of goods and services)

3.2

4.3

4.3

4

2.9

3

Total external debt (% of GDP)

Sources: IMF (IFS), World Bank (WDI), Bank of Ghana; author’s calculations.

34

0.0

© AFD / Macroeconomics and Development / June 2014

Conclusion

Conclusion Thanks to Ghana’s democratic consolidation and the sharp acceleration of growth over the last ten years, the country is regarded as a model of success on the African continent. Yet, it must now face several challenges. Economic growth has been accompanied by increasing macroeconomic imbalances that are likely to jeopardise medium-term growth prospects if they are not re-absorbed.

In the short run, Ghana therefore needs to take urgent steps to restore macroeconomic stability. Otherwise, it will be impossible for the country to make headway with the diversification and structural transformation of its growth model. The main source of vulnerability is the combined degradation of public finances and external balances. As a result, public debt – which had been brought down to a modest level thanks to debt cancellations – has been rising very rapidly since 2006. The measures taken so far have failed to reverse this trend and several factors are likely to impede the effective rollout of more substantive measures. On the one hand, wage bill expenditure places a heavy burden on budget implementation. Wage control is proving difficult in a situation where social demands are on the rise. The adoption of a rigorous multi-year wage policy, which is crucial if the budget deficit is to be reduced, thus involves potential hurdles, especially as the present Government now has only one year

to launch structural reforms before the next pre-electoral period. On the other hand, the fall in the prices of Ghana’s main export products (gold, cocoa) is heightening pressure on external accounts.

Ghana is now at a decisive stage of its development process.

The Ghanaian economy has a relatively low level of diversification and the traditional growth engines are beginning to run out of steam. Growth is mainly driven by primary agricultural production and the extractive industries, and the currently high growth rates stem primarily from a prolonged boom in commodity prices. The extraction of agricultural and mineral resources with no national value added, as well as the shortcomings in macroeconomic management, could hold the economy back from a transformation deep enough to drive sustained and inclusive growth.

The country should thus engage in a process of structural change that promotes new and more productive activities and redirects resources from traditional activities to these new activities, so as to increase overall productivity. The integration of the extractive activities into the productive fabric will partly determine the capacity of the Ghanaian economy to use revenue from these resources to identify and promote new structural growth drivers.

/ Ghana: The challenges of growth faced with increasing imbalances /

35

List of Acronyms and Abbreviations

36

AFD

Agence Française de Développement

MT

Medium term

CAR

Capital Adequacy Ratio

NDC

National Democratic Congress

CHRAJ

Commission on Human Rights and Administrative Justice

NGO

Non-governmental organisation

NPL

Non-performing loan

CPP

Convention People’s Party

NPP

New Patriotic Party

DSA

Debt sustainability analysis

OECD

DSF

Debt sustainability framework

Organisation for Economic Co-operation and Development

EFR

External financing requirement

PPP

Purchasing power parity

ERP

Economic Recovery Program

REER

Real effective exchange rate

FDI

Foreign direct investment

ROA

Return on assets

FINSAP

Financial Sector Adjustment Programme

ROE

Return on equity

FINSSP

Financial Sector Strategic Plan

SSA

Sub-Saharan Africa

GDP

Gross domestic product

ST

Short term

GFCF

Gross fixed capital formation

UGCC

United Gold Coast Convention

GFSR

Global Financial Stability Report

UNDP

United Nations Development Programme

GHC

Old Ghanaian cedi

UP

United Party

GHS

Ghanaian cedi

WDI

World Development Indicators

GSS

Ghana Statistical Service

WEO

World Economic Outlook

HIPC

Heavily Indebted Poor Countries

y-y

Year on year

IFS

International Financial Statistics

IMF

International Monetary Fund

LDC

Least Developed Country

LMIC

Lower-middle-income country

LT

Long term

MOFEP

Ministry of Finance and Economic Planning

© AFD / Macroeconomics and Development / June 2014

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CAUPIN, V., P. CHOUTEAU AND B. NORA (1997), Rapport sur l’économie du Ghana, CFD. COMMISSION ON GROWTH AND DEVELOPMENT (2008), The Growth Report: Strategies for Sustained Growth and Inclusive Development, World Bank and multiple donors, Washington, D.C. EASTERLY, W. AND R. LEVINE (1997), “Africa Growth Tragedy: Policies and Ethnic Divisions”, Quarterly Journal of Economics, 112(4), pp. 1203-50.

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Conception : Ferrari/Corporate - Tél . : 01 42 96 05 50 - J. Rouy/ Coquelicot - Réalisation : Vif-Argent – Tél. : 01 60 70 02 70 - Janvier 2015

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MACRODEV (MACROECONOMICS & DEVELOPMENT)

Director of publications:

Anne PAUGAM

This collection was launched by AFD to present the work produced in the field of development macroeconomics by AFD's Macroeconomic and Country Risks Analysis Unit and AFD’s economists. It publishes studies that focus on countries, regions or development-related macroeconomic issues.

The analyses and conclusions in this document are the sole responsibility of the author and do not necessarily reflect the viewpoints of the Agence Française de Développement or its partner institutions."

Editorial Director:

Alain HENRY Agence Française de Développement 5, rue Roland Barthes – 75598 Paris cedex 12 Tél. : 33 (1) 53 44 31 31 – www.afd.fr Copyright: 4th quarter 2014 ISSN: 2116-4363 Translation: Gill GLADSTONE

38

© AFD / Macroeconomics and Development / June 2014