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special issue: federations and the economic crisis
Ethiopia’s economy no longer rosy
REUTERS/Irada Humbatova
Ethiopian Prime Minister Meles Zenawi attends the opening of a three-day horticulture industry conference in Addis Ababa. Ethiopian flower-growers have appealed to airlines, banks and suppliers for support for their foundering industry. Some farms have closed due to the 2009 global slump.
By Tamrat Gebre Giorgis
Before the recent economic crisis, Ethiopia was thriving, with a growth rate that was expected to reach double digits. Success stories abounded as Ethiopian flowers were sold in Europe, sometimes squeezing out those from Kenya, and a German company using Israeli technology launched biofuel production in Oromia State.
Then the crisis hit. How much of an impact the global meltdown would wreak on Ethiopia was a matter of intense debate among policymakers and their critics. Government officials were optimistic the impact would not be significant, but other analysts were gloomier. The real debate was over Ethiopia’s growth rate, which was expected to be below that of previous years.
Annual economic growth in Ethiopia reached as high as 13 per cent over the last five years, and did not slip below eight per cent – until this year.
Ethiopia’s federal government will take a hit from the crisis. The country expects to run a deficit of US$ 832 million (10.4 billion birr) for its 2009-10 fiscal year. The deficit represents about 1 per cent of Ethiopia’s projected GDP for 2009 of $34.8 billion.
As well, there could be a domino effect on the states because $1.7 billion (20.9 billion birr) of the US$ 5.2 billion (64.5 billion birr) federal budget – just over 32 per cent – is used to subsidize the nine regional state governments.
“Ethiopia feels the pain,” Sufian Ahmed, minister for finance and economic development, told a recent conference in Addis Ababa on the impact of the global slowdown on Africa.
The statement marked a turn-around for Ethiopian government predictions. As recently as early July, Ethiopia’s Prime Minister Meles Zenawi was aiming for double-digit GDP growth for a decade. Now the administration is predicting a drop of up to seven percentage points from its earlier projection of 11.2 per cent GDP growth. “Some indication of a slowdown has been observed lately,” Sufian said.
Slowing growth rate
Economists from the World Bank and the International Monetary Fund agree it is unlikely the Ethiopian economy will expand more than 6.5 per cent over last year.
But compared with the average forecast of 0.5-per-cent growth for sub-Saharan Africa, Ethiopia’s economy would still be performing relatively well.
For Ethiopia, the economic crisis comes at a time when federal-state and interstate relations might soon be changing. How the fiscal pie is divided among the federal government and the states has been a matter of contention in the young federation, leading to recent changes to the revenue sharing formula. According to a World Bank document, more than 75 per cent of regional state budgets come from
federal grants.
By its own projections, Ethiopia’s federal government will continue its longstanding annual expansion of transfers to states, currently valued at $1.7 billion. At face value, this seems like an increase of over the 2008-09 level, but due to inflation in Ethiopia over the past year, it is closer to the same amount as last year’s transfer in purchasing power. Inflation, which had been at about 60 per cent in September 2008, had dropped to 2.7 per cent in June 2009. With a looming election scheduled for May 2010 and the uncertain economic climate, the federal government might face challenges in meeting these commitments.
According to an official World Bank paper, called a Project Proposal Document on a Proposed Grant, Ethiopia is committed to maintaining the same level of transfers, or increasing them, in the near future. It intends to do this through increased donor support for subnational services, and cutbacks in other public spending, with the goal of keeping its fiscal deficit within prudent levels.
Through their seats in the House of Federation, Ethiopia’s second federal chamber, the executives of the country’s nine regional states divide the federal government’s block grants to the states.
States becoming more self-reliant
Constitutionally, it is clear that Ethiopia’s federal government takes lead responsibility for dealing with most aspects of external shocks such as the recent global downturn and shifts in exchange rates.
This current shock could seriously affect the states if their federal transfers shrink. Furthermore, the international climate affects states differently in terms of their revenue sources. Oromia, for example, is a state that depends relatively more on revenue from export industries and foreign investors. Constitutionally, states have potentially significant sources for their own revenue, especially as their economies develop.
Indeed, it appears the global downturn will not have a devastating impact on the Ethiopian economy, nor will it threaten its nascent federal system.
But current trends indicate the nine regional states will become more linked to the global economy and more self-reliant. They could have a stronger direct stake in decisions made in the capital of Addis Ababa, in terms of federal transfers as well as the impact of federal decisions on the states’ own sources of revenue. Politically, it is conceivable that parties of different stripes will be in power in the federal and state governments. If this takes place, the strength and maturity of Ethiopia’s federal institutions will be even more severely tested.
Nevertheless, the global recession has harmed Ethiopia. Revenues in foreign currencies from remittances, direct foreign investment, official development assistance and, most importantly, exports have all shown increases that were far lower than what the government had projected.
A major part of this shortfall was due to a sharp decline in export revenue, which fell short of the $2.5 billion that the government had targeted. Although it represented marginal growth of 1.6 per cent, the value of Ethiopia’s exports during the past fiscal year amounted to only $1.3 billion. As a result, foreign exchange reserves have hovered at uncomfortably low levels – hitting a low of about four weeks of imports of goods and services at the end of December 2008, before rising to about seven weeks by mid-2009.
Declining coffee demand
Coffee, Ethiopia’s flagship commodity export, accounts for more than half of the country’s total export revenue. The value of coffee exports during three quarters of 2008-09 amounted to $250.9 million – a decline of more than 25 per cent from a year earlier. Central bank officials attribute the widening deficit in the current account to a decline in global demand, which dropped by 22 per cent, and to a four per cent decrease in the price of coffee.
For example, imports from two major buyers of Ethiopia’s coffee, Japan and Germany, declined as those two wealthy nations were not spared from the wrath of the global recession.
Ethiopia also has a new export: flowers. Roses, one of its best-selling flowers, have begun to replace the image of a hungry child as the symbol of the country abroad. Ethiopian flowers are now a source of national pride and a policy success story for the federal government.
However, during a recession, consumers in wealthier countries tend to reduce discretionary spending. While the Ethiopian flower industry predicted it would export $168 million worth of flowers in 2008, actual revenue was only $125 million.
Increasing unemployment appears inevitable
The recession’s impact also has been felt at Flora EcoPower Holdings, a Munich-based company that produces biofuel for export. It is affiliated with Israel’s Hovev Group.
Flora EcoPower aimed to become a primary global supplier of biofuel to the bio-diesel market, with a production target of 700,000 tonnes for 2011. It came to Ethiopia two years ago as the country’s first biofuel producer and had a promising start.
It acquired 10,000 hectares of land in Oromia Regional State, one of the country’s nine federal states, to set up castor oil plants to produce biofuel. With an investment of 250 million Birr, or more than $26 million, the mill was opened in late 2007.
During its first year of operation, Flora EcoPower exported 5,000 litres of castor oil to Germany and China, and created 1,700 jobs. But the venture was short-lived.
Closing of biofuel plant
The plant is no longer in operation and about 300 local farmers employed as labourers lost their jobs when it closed in early 2009.
Observers said Flora EcoPower’s actions were related to the collapse in the value of its shares in European trading.
This case illustrates what Prime Minister Meles Zenawi described as the second-generation impact of the global financial meltdown on African countries such as Ethiopia. Long before the spill-over from the global financial crisis arrived, African economies such as his were dealing with crises related to sharply higher prices for oil, fertilizer and commodities, placing unexpected pressure on their balance of payments.
Meles said the double whammy of the financial meltdown followed by the global recession, have exposed the underlying structural flaws in the growth of African countries over the past decade.
Dealing with such structural deficiencies highlighted by the financial crisis could present opportunities for Ethiopia’s federal system to respond effectively by developing enduring development policies that could help the country build a more diversified economy. Such diversification would enable Ethiopia to better withstand the economic pressures that arise when the global economy is under stress. 
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