How Wealthy Foreigners and Greedy Africans Bleed Africa

Potential Effect of Capital Flight On Poverty in Africa

Africa under invoicing
Foreign traders are robbing the continent

Two simulations were performed to determine the potential effect of capital flight on poverty in Africa. The first was based on the incremental capital-output ratio (ICOR) approach which determines how many units of investment are needed to produce one unit of output. In other words, the simulation determines the additional units of income per capita would be generated if all flight capital had been invested in the originating country during the year it fled. The simulated effect of capital flight on poverty is derived using pre-determined income-growth elasticities of poverty.

The second simulation used capital stock instead of investment as the variable capturing capital flight. The idea is that investing capital flight in a given year has an effect on income not only during the same year but also in subsequent years. Capital stock is computed on the basis of the perpetual inventory method which derives the current stock of capital by adding current investment to the past stock of capital, net of capital depreciation. Each stock of capital generates a certain level of income, so the additional income per capita due to capital flight is determined using the ratio of capital to GDP. The effect on poverty is obtained by multiplying the income-growth elasticity of poverty and growth of GDP per capita that would result from investing flight capital. Country data on capital flight covers 33 countries over the period from 1970 to 2008, although data coverage is unequal across countries (Ndikumana and Boyce 2011).

These simulations suggest that over the period 2000 to 2008, assuming that all flight capital had been invested in Africa with at least the same productivity as actual investment, poverty would have been remarkably lower in the region than it currently is. The average rate of poverty reduction would have been 4 to 6 percentage points higher per year, on average. There are differences between oil-rich and non-resource-rich groups of countries. Using the ICOR methodology, poverty reduction would be highest in the group of non-resource-rich countries whereas the capital stock-based method returns a better performance in the case of oil-rich countries. Discussing the reasons of these differences is beyond the scope of this article.

Considering the most recent average annual rate of poverty reduction of -2.87% per year, the results of the simulation suggest that stemming capital flight would indeed have a very significant impact on poverty reduction. Adding 4 to 6 percentage points to the current rate of poverty reduction would allow most African countries to reach the MDG1 of halving poverty by 2015, a goal that only a handful of them will reach if the most recent trend in poverty reduction is maintained. The stimulation results show that stemming capital flight would have an even stronger impact on poverty in oil-rich economies, which have the highest incidence of capital flight. Oil-rich countries as a group would comfortably meet MDG1 if their illicit financial transfers had been invested domestically.

Conclusion and Some Policy Suggestions

The analysis and the simulations presented above make it clear that if Africa is to successfully fight against its high level of poverty, it will need to mobilize more resources to invest in poverty-reducing programs.

Poverty in Africa is so widespread that traditional sources of investment such as ODA, FDI, and tax revenue have shown their limit in addressing the problem. New additional sources of finance are needed. Mobilizing the resources that leave the continent in the form of illicit financial flows could provide such needed resources. If these resources had been invested with the same efficiency as current investment, they would have added 4 to 6 percentage points to the most recent estimate of the annual rate of poverty reduction in Africa. This would allow African countries as a group to reach the Millennium Development Goal of halving the 1990 level of poverty by 2015. Hence, the fight against illicit financial transfers from Africa should be considered as a fight against poverty.

Tapping illicit financial flows for poverty reduction purposes will not be possible without strong political will from African leaders. Indeed, unless they are fully on board, they may frustrate the process given that some of them are part of the problem. Provided there is political will, action will be needed on two major fronts: first, countries will have to put in place structures that prevent new resources from illicitly leaving Africa; second, given the size of accumulated resources that have left the continent over the years, it will be important to find ways of attracting them back to the region in order to use them as investment into poverty-reducing activities.

A number of measures could be taken to minimize illicit financial outflows from Africa. First, considering that a large part of such flows result from trade mispricing, import and export operations should specifically integrate shipment inspections by specialized agencies. Their role would be to check the conformity of the physical quantities of the goods traded and their value, quality and quantity on export or import documents. International agencies, such as the Société Générale de Surveillance (SGS), have established an international reputation in doing just this.

Second, African governments should be encouraged to ensure transparency and disclose information relating to financial inflows and outflows. Breaking the secrecy surrounding financial flows to and from Africa is crucial in the fight against illicit financial flows. For example, requiring that each country publishes information on how much it receives in debt, FDI, and ODA and showing how these resources are used would go a long way in addressing the problem of illicit financial flows. Fourth, improving the general level of economic and political governance would not only lead to the adoption of policies that are more inclusive of the poor but also minimize the corrupt practices that fuel illicit financial flows.

The second front for action could center on the repatriation of the resources which are currently held abroad and not benefiting the continent. For example, if only a quarter of the stock of flight capital was repatriated to Africa, the ratio of the continent’s domestic investment to GDP would increase from about 19% to 35% (Fofack and Ndikumana 2010), giving Africa investment ratios comparable to those in the regions that have been most successful at reducing poverty. African countries could use the Stolen Asset Recovery Initiative, a joint initiative of the World Bank and the UN Office on Drugs and Crime (UNODC), to make their case at the international level. Given the asymmetric interests between African countries that need these resources to fight against poverty and the countries and institutions hosting these assets which would like to keep them, this strategy will be successful only if the international community is united behind it.

Describing illicit financial flows as a cause of poverty in Africa could help, to some extent, if naming and shaming those holding these assets is deemed appropriate, as seen in some countries that have threatened to name and shame the biggest tax avoiders.5 In addition, it is important that African countries demonstrate that these resources would be used for poverty reduction and other development purposes and not be embezzled by people in power. Finally, following the example of successful experiences in capital flight repatriation, African countries could grant time-bound amnesties to anyone willing to bring back illicit assets without any risk of prosecution. Although this measure is controversial, it has allowed countries such as Italy to repatriate tens of billion of dollars.

Otherwise, countries should reserve the right to prosecute any of their citizens suspected of holding abroad assets transferred illicitly from their countries of origin.

 

By; Javier D. Nkurunziza