Global Development: Views from the Center
« We're Ignorant About Migration And Development -- But We Can Do Better | Main | Templeton Foundation's Next Big Question Should Be: "How Can the Rich World Do Better?" »
November 07, 2007
Will Cutting Red Tape Lead To An Asian-Style Boom For Africa?
Posted by Vijaya Ramachandran at 01:23 PM
In an interview with Reuters, published Friday November 2, World Bank Vice President Michael Klein argues that the reforms in Africa that reduce the time and cost to set up a business and register property as well as the streamlining of licensing procedures could result in a much higher rate of growth in that continent, perhaps even emulating the economic boom in Asia. Does the evidence back him up?
The Doing Business reports published annually by the World Bank, show that regulations and procedures do indeed raise the costs of starting or running a business in many African countries. Of 178 countries ranked in an Ease of Doing Business index, there are 2 African countries in the top 50 (Mauritius and South Africa) and two more--Ghana and Kenya--in the top 100. Most African countries are ranked at or near the bottom of the list.
It is plausible that reforms in regulations carry benefits other than a better ranking from the World Bank. Regulatory costs tend to be felt most heavily by small or informal businesses and often deter entry into the business sector. For example, a recent paper by Miriam Bruhn shows that the streamlining business registration procedures in Mexican states led some wage earners to quit their jobs to start their own businesses. Reducing red tape is also likely to result in some micro-businesses moving from the informal to the formal sector, which is probably good for poverty reduction in the short term.
But will regulatory reforms lead to a boom in investment and growth? Unlikely. A recent paper by Benn Eifert, using data from 140 countries, looks at reforms of regulations covered by Doing Business over the period 2003-06 and finds no evidence of an increase in aggregate investment or employment following the period of reform.
Why is it unlikely that regulatory reform will result in an economic boom? First, the fairly small fixed costs created by red tape are almost certainly irrelevant to the medium and large businesses that drive aggregate investment and output in most countries. Second, countries with less versus more regulatory burdens are different from each other in many ways--these differences could well drive levels of investment and growth. Third, regulations are often unenforced or ignored in many low-income countries.
My research on Africa based on door-to-door surveys of enterprises, suggests that unreliable and poor quality infrastructure is a far greater constraint than red tape for much of the private sector: businesses in many African countries experience power outages of 5 to 8 hours per day for much of the year. Medium and large businesses spend enormous sums of money on generators and fuel, which in turn reduces their profitability. Most African businesses also suffer from lack of access to good roads, which in turn restricts the size of their markets. Telecommunications, access to credit, and the availability of ports are also problematic in several countries.
We should be optimistic about efforts to reduce red tape, but we cannot expect African countries which show improvement on the Doing Business indicators to experience sudden or large changes in their rates of growth. Nor should we expect, as Dani Rodrik so eloquently points out, that a standardized set of reforms will work everywhere in the same way. The interaction, sequencing, and implementation of reforms is often difficult to understand, with success rates that vary greatly by country and region. In sum, the world is often more complicated than we would like it to be.
Trackback Pings
TrackBack URL for this entry:
/mt/mt-tb.cgi/1011
Comments
Vijaya, I agree very much with your points. I share your scepticism that cutting red tape alone will not be sufficient to kick-start dynamic private sector development. In countries with inadequate infrastructure, rather low levels of skills and innovation capabilities these are arguably the more relevant constraints for enterprises. Cutting red tape would do no harm but would it be sufficient to stimulate growth?
To me it seems especially questionable if a rather narrow approach on reforming regulations will deliver pro-poor growth and stimulate large-scale formalisation like it is prominently claimed by many recent documents on private sector development. Growth has to reach people in the informal economy to be pro-poor. Expanding their economic opportunities partly has to do with enabling them to formalise their businesses by easing regulations. However, increasing your opportunities has a lot to do with your own ideas and skills. Apparently the documents that assume a dynamic response by the informal economy to cutting red tape regard the informal economy to be blessed with vibrant entrepreneurs who only wait for their chance to expand their business significantly once they are formalised. I don’t want to be disrespectful but do the many studies on the informal economy not rather tell us that the majority of the businesses in the informal economy are necessity rather opportunity driven? I dislike the talk about ‘the hopeless’ but would rather point to ‘hopeless business activities’. A ‘hopeless’ business will not turn into a highly profitable innovative business just by for instance reducing the cost of registration. Arguably it might need assistance with regard to capacity building, market knowledge etc. A recent paper by Thomas Kenyon on how to encourage enterprise formalisation in Africa presents from my point of view a reasoned approach to informality as it goes beyond the cutting red tape magic bullet highlighting the need of trust building and the provision of incentives.
I recently had the idea that an approach to enterprise formalisation can be described as a triple-jump:
- cutting red tape and consistent enforcement of regulations is important, no doubt about that!
- ...but building trust between the private and the public sector, and also between informal enterprises and formal ones matters...
- ...as well as targeted support measures (capacity building, provision of market information, linking of informal and formal enterprises)
paper on these issues and in general on the question how a business enabling environment could look like in Africa.
By the way already Douglass North, who is so frequently cited in recent documents focussing on a simple set of regulatory reforms, argued: “(…) economies that adopt the formal rules of another economy will have very different performance characteristics than the first economy because of different informal norms and enforcement. The implication is that transferring the formal political and economic rules of successful Western market economies to third-world and Eastern European economies is not a sufficient condition for good economic performance” (AER 84 (3) 1994 p. 366)
Indeed the world is often more complex than we (may I add policy, advisors and researchers!) would want it to be and unfortunately economic growth and poverty reduction can not be achieved as easy as the stroke of a pen.
Posted by: Christian von Drachenfels at November 15, 2007 01:26 PM