02 April 2015 News Round-Up (UPDATED)

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Developmental states reject the free-market model of development because they do not have the advanced-world assets to compete on a level playing field.

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For example, despite rock-bottom wages, solid education systems and good infrastructure, Taiwan and Korea had their textile industries devastated by Japan until the 1960s.

Even in labour-intensive industries, emerging markets had no comparative advantage since cheap labour was no match for the technology and marketing finesse of advanced countries.

Free markets simply meant deadly competition.

Thus began their adventurous task of ‘getting the price wrong’ to stimulate industrial transformation.

Where those countries had a potential comparative advantage, as in textile manufacturing, the state provided incentives, privileges and tariffs to induce private-sector investment.

In sectors where they did not have a comparative advantage, the state had to substitute for, rather than complement, the private sector, and then undertake the task of industrial transformation itself.

In an attempt to replicate the East Asian miracle, Ethiopia has adopted and adapted the industrial policies of successful developmental states.

The strategy of mobilising incentives and disincentives to induce investment is most vividly observed in the textile sector.

On the other hand, the state’s policy of import substitution in strategic industries is best reflected in the army-owned Metals and Engineering Corporation (METEC).

Together, these two sectors capture the Ethiopian state’s project of export promotion and import substitution, and the state’s role as both referee and player in the transformative project.

Ethiopia’s growing economy, infrastructure boom and huge market, together with its cheap labour and abundant land suitable for cotton production, give it a potential comparative advantage in textile production.

The key to industrial transformation, however, remains the classic midwifery role the government is playing of inducing investment decisions and stimulating the supply of entrepreneurship.

The result has been an impressive growth in production and an influx of foreign direct investment. From the vibrant domestic textile industry to the newly arriving Turkish and Chinese conglomerates, Ethiopia is turning into a huge textile factory.

From Austria and France to Brazil and India, governments have used state-owned enterprises to engineer their industrial developments.

It is with this imperative that the Ethiopian government established METEC in 2010, in response to an urgent need for import-substituting industries in the engineering sector and a weak response from local and transnational capital.

There are, of course, risks to this strategy. For example, once persuaded to enter a sector, firms require cultivating, nurturing and prodding to move ahead as the sector changes.

While doing so, the state needs to be wary of being captured by the very groups it has helped create.

And where the state engages in direct production, it should engage only in areas where there is a pervasive market failure and in sectors congruent with the talents of the state.

The problem is that a state firm created to carry out endeavours apparently beyond the capacity of local capital may end up competing in sectors where no such rationale applies.

Worse still is if state firms take away profitable territory from the fragile private sector.

Not only does this squash local entrepreneurs but it also damages the state’s legitimacy in the eyes of the private sector, whose support and partnership is vital to the transformative project.

METEC’s expansion into the textile, plastic and hotel industries are manifestations of this danger.

As METEC grows bigger and stronger, Ethiopia’s leaders should be wary of not being able to control and discipline this emerging giant.

http://www.theafricareport.com/East-Horn-Africa/free-markets-deadly-competition-and-an-ethiopian-choice.html

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Heineken, Diageo and privately-owned Dutch brewer Bavaria, have snapped up state breweries or built new ones in the past four years, introducing new beverages and increasing competition for St George, Ethiopia’s oldest beer brand, that was itself bought by France’s Castel Group in 1998.

When breweries go in, you know there’s definitely the demand

The east African nation that once could not feed itself now draws investors keen to profit from the increasing prosperity of its 96 million people. “We recognise the huge potential in Ethiopia,” Diageo said in a statement e-mailed to Reuters.

It bought state-owned Meta Abo brewery for $225 million in 2012 and has doubled brewing capacity and invested in new brands. It launched Zemen Beer in December and non-alcoholic Malta Guiness in August 2013.

Heineken bought state-owned Bedele and Harar Breweries for a combined $163 million in 2011, introducing the Walia beer, which bar staff in Addis Ababa say is catching up St George.

A few years ago, small bars struggled to get hold of crates of St George as they were bought up by hotels or bigger restaurants but Castel has increased brewing capacity, meaning they are now readily available.

Prices have dropped as a result of the extra competition and supply.

A St George bottle sells for 15 birr ($0.75) at Mery’s Pub, down from 18 birr in December.

“We have variety now for our customers — and more supply,” said Meron Girma, who runs the pub in a small shack with a corrugated iron roof next to the capital’s increasingly affluent Bole Medhane Alem district.

Per capita income is still below Sub-Saharan Africa’s average at just $470 a year, according to World Bank figures for 2013 but annual economic growth rates are 8 to 9 percent and the political outlook is stable.

The Ethiopian People’s Revolutionary Democratic Front (EPRDF), in power for a quarter of century, is expected to sweep a May election.

“Ethiopia has started to attract high quality foreign direct investment,” Abraham Tekeste, state minister for finance and development, told Reuters.

The IMF estimates foreign direct investment will reach $1.8 billion in fiscal year 2014/15 and $4.3 billion in 2018/19.

Government cautious

Investors will have to wait for entry into many areas of the economy, which is still dominated by the state. It rapidly opened up the beverage sector, but has moved more cautiously in other industries.

Telecoms remains in state hands while banks and retail businesses are off limits to foreigners.

The government says it needs the revenues from telecoms to pay for new railways, roads and dams. It says some businesses need protection until they can compete with foreigners.

Critics say the approach supports inefficiencies at state-owned companies, noting how the brewing industry has changed and prices fallen as international firms have come in.

They say better run companies would deliver bigger profits, pay more tax and generate jobs.

Investors are watching developments in the drinks industry closely.

“When breweries go in, you know there’s definitely the demand,” said Guy Brennan of Ascent Capital, a private equity fund that this year bought a stake in a healthcare firm.

Some of Ethiopia’s new spenders crowd Abebe Yohannes’s bar even on a workday evening. He says the investment of big brewers has been good for his business.

“We have more sales altogether,” he said in the shack near one of the five-star hotels that have gone up in Addis Ababa.

When Castel bought St. George in 1998, beer consumption per capita was two litres a year but now is seven litres, said Gebreselassie Sifer, regional sales manager of Castel’s BGI Ethiopia unit.

“Every producer in the country will sell what they produce,” he said of the new competitors in the market.

But there are also challenges for investors. One concern is the availability of foreign exchange to repatriate profits.

In principle, there are no restrictions. In practice, requests for dollars can face delays as the central bank holds foreign exchange reserves that barely cover two months of imports – half the level of neighbours such as Kenya.

One source with knowledge of the Diageo deal said the firm had quietly reassured the government it would be investing for several years so had no immediate plans to take profits abroad.

“That is how it was presented,” he said. When asked if repatriating profits was an issue for Diageo, the firm said in its statement it was building “for the long-term future growth” and could deal with any such challenges.

There are other difficulties. While Ethiopia is expanding the road and rail network, the nation’s fleet of trucks is old and transport costs are three or four times those in Europe.

Part of Bavaria’s investment involves operating its own vehicles. “This is really a long-term deal,” said Thijs Kleijwegt, finance director of Bavaria-owned Habesha Breweries. “The potential is huge.”

The sugar plant at Wonji-Shoa is chugging along, but the government’s 10 other projects – estimated to cost more than $5.5bn – face problems of their own.

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The tiny, street-side coffee shop run by Senait Ashagre encompasses little more than a short table covered with little ceramic cups, a ring of plastic stools and a clay coffee pot resting on hot coals.

This is the only factory in Ethiopia so far that does power generation

Senait, 23, tries to stay open seven days a week. But a few times a month, she runs out of an essential ingredient – sugar – and is forced to close.

“I get 2kg of sugar each month from the local government for about 15 birr ($0.74) each, but that’s not enough. So I usually have to buy five more kilograms from the shops, and those cost 32 birr,” she says.

“It’s stupid we have to wait in a queue to buy sugar,” says one customer, a young rickshaw driver. “We produce it right over there!”

He is pointing toward the Wonji-Shoa sugar factory, which began producing at nearly full capacity this year.

It is run by the Sugar Corporation, a government-owned entity that is spear-heading one of the most ambitious development projects in Ethiopia’s history.

On top of three working factories, another undergoing testing and another project still under construction, the government is building no less than 10 new sugar facilities across the country.

In the main, these projects are being financed by agreements whereby the corporation hires Chinese contractors in exchange for loans from China’s state-owned banks.

Five years ago, when these plans were announced, the cost was roughly projected at $5.5bn.

Today the Sugar Corporation is working on a new cost evaluation that will be significantly higher.

Mother of all industries

Of all the massive public investments Ethiopia has made in recent years, these projects are uniquely far-reaching – and not only geographically.

According to state minister for industry Mebrahtu Meles: “The sugar industry is the mother of all industries.”

The factories can generate their own energy and produce ethanol for clean fuel; they can bring small- scale farmers into the fold of industrial development; and they can generate foreign exchange.

Outside the Wonji-Shoa headquarters on a Tuesday morning, two speakers are blasting a song about the factory, with voiceover from a man with a microphone stationed behind the main doors.

That day’s broadcast informs workers that this year’s output goal is 160,000tn, with the plant having produced 34,921.5tn so far.

The upper level of the building houses the office of Furo Beketa Berisso, Wonji- Shoa’s general manager.

“The production level is greatly increasing this year,” he says, noting that the facility processes more than 6,000tn of cane and churns out at least 600tn of sugar each day.

In the coming years, extra machinery should double the plant’s capacity.

In a giant room for the first stage of sugar extraction, the roar of machinery forces Tsega Kifle, Wonji-Shoa’s deputy general manager, to shout.

“This is the only factory in Ethiopia so far that does power generation,” he yells, explaining that bagasse, a cane by-product, is burned to generate steam.

At full capacity, the factory should use about 10MW and supply another 20MW to the grid.

As sugar is such a hot commodity – and cheaper in Ethiopia than neighbouring countries – smugglers some- times spirit sacks away to the border to turn a quick profit.

Foiling far-flung rent seekers is tough work for a corporation whose management methods are decidedly top-down.

The Addis office is in charge of supplying sugar to the government wholesaler, which pays 11 birr/kg before tax.

Demand is greater than supply, so free-market principles have been set aside for a system of regional quotas and price caps.

They called a meeting and told us not to farm anything on our land because it would be for sugar.

The Sugar Corporation splits its revenue, giving 49% to the factories for operational costs while the remaining 51% gets deposited into the Sugar Industry Development Fund.

In a couple of years, some of that income will begin to repay the Chinese loans. Sugar exports are “in our short-term plans,” says the Sugar Corporation’s deputy director of finance, Mesfin Melkamu Girma.

With a few factories scheduled to commence production this year, he says they will provide enough to meet domestic needs and then some.

But given Ethiopia’s track record, banking on ambitious goals is a risky businesses.

All 10 of the new factories were meant to start working this year, but most will not.

Reports indicate that the country produced around 300,009tn of sugar in 2014, far short of the 2.3m tonnes the corporation once hoped to see for the year 2015.

Now that it is churning out sugar crystals at a healthy clip, Wonji-Shoa has become a role model for the new factories springing up.

But with even nearby customers like Senait complaining of shortages, it is clear that some system adjustments are still needed.

Gesturing to thousands of kilos of sugar in the Wonji-Shoa storeroom, deputy manager Tsega says Ethiopia “has no problem with supply. It’s only distribution.”

The trade ministry doesn’t share that opinion and had to import an extra 160,000tn of sugar last year.

The 10 new factories – and the plantations, dams and irrigation they require – are harbingers of the transformation Addis officials hope to see across Ethiopia: a shift away from small-scale farming; more production of processed goods; and an emphasis on modernisation over tradition.

The price of progress

In pursuit of these goals, the government has been known to act with a strong hand.

The Kuraz sugar project in the southern Omo Region, which encompasses a dam, an irrigation scheme and five factories, has been criticised for displacing tens of thousands of people to make way for plantations.

Of Wonji-Shoa’s 17,000 employees, about 10,000 are outgrowers who retain nominal control over their land but cultivate sugar cane for the factory. These farmers get inputs and are paid a small salary every two weeks.

Shushay Legesse, Wonji-Shoa’s project manager for agricultural expansion, says these farmers get 50 birr per 100kg of cane they harvest minus the cost of the inputs, leaving them with around 14 birr per 100kg.

“If we bought the land, where would they live?” he asks.

“So in order [for them] to be part of the industry, we get them involved in sugar cane production.”

But outgrower Mengistu Regasso, 50, wants to go back to his life of farming maize. “They forced us into this,” he says.

“They called a meeting and told us not to farm anything on our land because it would be for sugar. But for a few years afterwards, the land was totally undeveloped.

There are outgrowers whose life has improved, but there are others whose lives have not. They are not looking after us.”

The government disagrees. Despite quotas that squeeze Senait’s business, plantations that disrupt Mengistu’s livelihood and loans that create extra liabilities for a cash-strapped administration, it argues that industrialisation, employment and foreign currency revenue are worth it in the long run.

“The government looks at this industry as strategic. It’s centre stage to spur the growth of other industries,” says state industry minister Mebrahtu.

“So we are borrowing from other countries. We are investing from our own budget. That way we can jump-start the process of industrialisation.”