Publisher PLEASE CONSIDER THE ENVIRONMENT BEFORE PRINTING THIS PUBLICATION.

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1 Publisher PLEASE CONSIDER THE ENVIRONMENT BEFORE PRINTING THIS PUBLICATION.

2 Publication of this book was made possible by the support of the Trade Law Centre for Southern Africa (tralac) and the Swedish International Development Cooperation Agency (Sida). The views expressed by the authors are not necessarily the view of any of these institutions. Trade Law Centre for Southern Africa (tralac) P.O. Box 224 Stellenbosch South Africa Tel Fax Swedish International Development Cooperation Agency (Sida) PO Box Nairobi, Kenya Tel: Fax: Trade Law Centre for Southern Africa, Swedish International Development Cooperation Agency, 2012 All rights reserved. No reproduction, copy or transmission of this publication may be made without written permission. No paragraph of the publication may be reproduced, copied or transmitted save with written permission. Any person who does any unauthorised act in relation to this publication may be liable to criminal prosecution and civil claims for damages. Cover illustration and design by Lize Daneel Language editing by Alta Schoeman First published 2012 Published by the Trade Law Centre for Southern Africa (tralac) P.O. Box 224 Stellenbosch South Africa 7599 ISBN Printed by RSAM Printers Kuils River South Africa

3 Preface This is tralac s third book focusing on the Tripartite Free Trade Area (T-FTA). The two previous books are available on the tralac website ( Following an economic assessment of the impact of T-FTA, with specific emphasis on agriculture and agri-business development opportunities in this region, as well as non-tariff barriers that limit intraregional trade and investment in the first book, the second book presented an analysis of the draft T-FTA Agreement and annexes that had been developed by technical experts prior to the launch of the negotiations. What emerges from the negotiations, which were officially launched at the second Tripartite Summit in June 2011, and which got underway early in 2012, may well be markedly different from these draft instruments. This third book aims to encourage enquiry and new thinking about the African paradigm of regional integration, specifically about the nature, design and architecture of a T-FTA to address the region s fundamental development challenges. The T-FTA is anchored on three pillars, namely the traditional market integration pillar, infrastructure development, and industrialisation. The explicit inclusion of the second and third pillars in the ambit of a free trade area provides the potential for the development of a deeper integration agenda that addresses not only impediments at the borders but more fundamentally the behind-the-border constraints on industrial development and competitiveness. Commitment to establish a T-FTA that goes beyond the traditional tradein-goods agenda to address the region s infrastructure deficit and to enhance its industrial capacity requires new thinking about traditional market integration issues such as tariff liberalisation and rules of origin, which are among the agenda items of the first phase of the negotiations. The T-FTA can be a new generation African integration arrangement; these negotiations will be a test of how serious member states are about a developmental approach to regional integration. Trudi Hartzenberg Executive Director, Trade Law Centre for Southern Africa April 2012 i

4 Contents Introduction Gerhard Erasmus and Trudi Hartzenberg 1 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation Gerhard Erasmus 8 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union Colin McCarthy 38 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Ron Sandrey and Hans Grinsted Jensen 70 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area Mark Pearson 142 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states Paul Kruger 180 Chapter 6 Two sides of the same coin: infrastructure development and regulation JB Cronjé 236 Chapter 7 Industrial development in the Tripartite Free Trade Area Sean Woolfrey 261 ii

5 Chapter 8 On enhancing support to existing manufactures within the Cape to Cairo Tripartite region Taku Fundira 300 Chapter 9 Review of South Africa s industrial policy and implications for SACU Ron Sandrey 330 Chapter 10 Trade in environmental goods in southern and eastern Africa Willemien Viljoen 352 Authors profiles 390 iii

6 Introduction Introduction Gerhard Erasmus and Trudi Hartzenberg The proposed Tripartite Free Trade Area (T-FTA) will establish a free trade area among the 26 member states of the three existing Regional Economic Communities (RECs) in east and southern Africa, namely the Common Market for Eastern and Southern Africa (COMESA), the East African Community (EAC) and the Southern African Development Community (SADC). This offers an opportunity to take stock of how regional trade has been conducted in the context of the RECs and to assess their legal and institutional arrangements. What lessons can be learned from the integration efforts in the RECs of east and southern Africa? The RECs of east and southern Africa display two general features. First, they follow a linear approach to regional integration. The arrangements are designed by governments for the purpose of concluding formal free trade areas and customs unions within specific time frames. In terms of coverage they feature a strong emphasis on trade in goods. Second, their legal and institutional frameworks are weak. Member states are not prepared to accept final and binding obligations; in short, there is lack of serious commitment to comprehensive rules-based arrangements. The legal and institutional architecture displays, typically, a founding legal instrument such as a treaty which establishes the REC. A number of protocols dealing with trade in goods and related matters such as rules of origin, standards, non-tariff barriers and basic arrangements about dispute settlement are then added. These additional legal instruments will often address poverty reduction, development and associated matters. Despite the political commitment to regional integration, the achievement of consolidated free trade areas and customs unions has largely remained an elusive goal. Brief reference here to the Southern African Development Community (SADC) experience highlights important themes in the uninspiring record of regional integration. The SADC FTA is still not a reality in terms of a consolidated trade arrangement where all the member states have implemented their tariff reduction commitments and related obligations, and the 2010 deadline for the establishment of a customs union was not achieved. Deficiencies in dispute settlement arrangements indicate a lack of commitment to robust rules-based governance regimes. Recent experiences in SADC are a case in point. The SADC Tribunal came in operation in 2005 and heard about 16 cases up till None of these cases dealt with typical trade 1

7 Introduction disputes. All the matters decided by the Tribunal were either about disciplinary issues involving officials of SADC institutions or human rights abuses complained of by citizens of Zimbabwe. The dispute settlement arrangement is impressive in terms of the jurisdictional powers of the Tribunal and the locus standi of parties to bring disputes. The biggest flaw is in the enforcement mechanism. Although the decisions of the Tribunal are final and binding they cannot be enforced through a court ruling. This is the task of the Summit, and it takes its decisions on the basis of consensus. It is no surprise that the two decisions against the Government of Zimbabwe were not implemented. The SADC Summit met in August 2010 to discuss these rulings but then made a decision to revisit the jurisdictional powers of the Tribunal and to suspend its functioning till a special study had been done and new proposals could be developed. That process is not yet concluded. The SADC Trade Protocol also provides for a panel procedure for the resolution of intergovernmental trade disputes. This annex to the Trade Protocol is not yet complete and there are no rules of procedure for filing disputes. The implementation of panel decisions will also take place on the basis of decisions by the SADC Summit, which are taken by consensus. Under SADC practice this means that all member states, including defendants, can exercise a veto. Effective dispute resolution and implementation of rulings require an amendment to the traditional consensus rule. The reverse consensus provision found in the World Trade Organisation (WTO) is an example of what would be required. The consequence of generally weak and incomplete legal regimes of the RECs, is that obligations are not effectively implemented. Article 3 of the SADC Trade Protocol, for example, provides for derogations in addition to antidumping, countervailing and safeguards measures. The latter must be based on the WTO disciplines. These trade remedy provisions have never been activated or implemented. This does not mean that the member states of SADC have diligently adhered to the obligations on the contrary. Derogations are often invoked, motivated by specific protectionist interests and revenue concerns. Collective scrutiny of unilaterally invoked derogations does not happen. We would like to argue that the establishment of the T-FTA provides an opportunity to appraise the experiences of the RECs in east and southern Africa, to take lessons from regional trade arrangements in other parts of the world, and to determine a new model for African integration. The experience of South-East Asia, where the private sector is actively involved in shaping a regional integration agenda that supports competitiveness enhancement and regional supply chain development, is particularly important to review. Global trends indicate that the benefits from free trade areas are considerably enhanced by the adoption of a deeper integration agenda. While there 2

8 Introduction is undoubtedly still work to be done as regards the liberalisation of trade in goods, a deeper integration agenda targets the key competitiveness and development challenges for these African countries. The private sector in east and southern Africa is not actively involved in regional integration matters. Regional integration remains state-driven, in some cases with scant attention to the impact of agreements on enterprises battling to source competitively priced inputs and to find skills to produce quality products and services for consumers in markets that are difficult and costly to access. Attempts to liberalise trade in goods are in most RECs marked by exclusions, many sensitive products and, in some cases, rules of origin that effectively cancel any market-access opportunities and put paid to opportunities for regional supply-chain development. The explicit inclusion of industrialisation as the third pillar of the T-FTA is particularly important. The Communiqué 1 from the Second COMESA-EAC-SADC Tripartite Summit held in Johannesburg, South Africa in June 2011 emphasised that member states had adopted a developmental approach to the Tripartite Integration process that will be anchored on three pillars namely; market integration based on the Tripartite Free Trade Area; Infrastructure Development to enhance connectivity and reduce costs of doing business, as well as Industrial Development to address the productive capacity constraints. The Summit directed that a programme of work be developed for the industrialisation pillar during the first phase of the negotiations beginning in The first COMESA-EAC-SADC Tripartite Task Force meeting on industrial development took place in February At this meeting, the work plan on industrial development was agreed to focus on: Situational analysis of industrial trends and potential. It was also agreed that a highlevel stakeholder workshop should be held. Regional value chain analysis specifically focusing on agro-industry, chemicals and chemical products, and mineral processing. This work is urgent. It should inform negotiations during the first phase where, for example, smaller countries with small industrial sectors can identify opportunities for industrial development. A good example is the automotive industry. Production and assembly plants are, for example, well established in South Africa. Are there opportunities for the manufacture of automotive components 1 This Communiqué is available at (Legal Resources). 3

9 Introduction in some of the smaller countries to supply these established firms? What kind of tariff regime and rules of origin will open these opportunities in the tripartite region? It was also agreed that, during phase one, a work programme on infrastructure be developed. While the physical infrastructure deficit undoubtedly circumscribes efficiency and competitiveness in the region, the development of physical infrastructure has to be complemented by the development of soft infrastructure or regulation to facilitate effective access to infrastructure services. The development of a services agenda, encompassing regulatory reform and liberalisation, remains elusive in this region, despite the fact that the high costs of doing business in the region are often associated with industries such as transport and telecommunications. The three pillars of the T-FTA provide a framework for the development of a coherent agenda for regional integration in east and southern Africa, addressing not only market access issues, but, crucially, also the supply-side and competitiveness challenges of the region. What are the prospects for adopting a fresh approach and a realistic treatment of the rules-based requirements for regional trade arrangements, under the T-FTA? Governments argue that they will lose sovereignty and they claim that African countries do not have the required technical capacity and expertise to implement rules-based trade arrangements. The Tripartite FTA is not an ad hoc plan. It is linked to the implementation of an African programme on continental integration, while being anchored in specific regional experiences. It is premised on ideas about developmental integration, but constrained by unique national needs and agendas. There are suggestions now to use this COMESA-EAC-SADC FTA as the core building block for establishing a Continental FTA by 2017 and a common market by Does this sound like a repetition of the approaches of yesteryear? This raises questions about the validity of the original assumptions and the nature of the political arguments which inspired the earlier African integration debates. Can it be assumed that African governments still support a continental integration plan? Recent international financial and trade crises, amongst other things, may make them look differently at the consequences when sovereign control over exchange rates and trade policy is transferred to a supranational institutional level. There are many reasons to believe that the bigger and very ambitious integration schemes of yesteryear are now scrutinised in a far more sober spirit. It does appear, for example, that the 2 See the report by Sean Woolfrey in the tralac Newsletter of 2 November 2011 ( This was written as a report to the African Union (AU) Retreat on Intra-African Trade held near Addis Ababa at the end of October

10 Introduction effective shelving of the SADC customs union reflects a more realistic perspective on this REC s integration ambitions. The establishment of the T-FTA will have to accommodate separate legal and institutional arrangements (including secretariats and regional courts) as well as national designs for domesticating and implementing existing legal instruments on regional trade. If new T-FTA institutions such as a secretariat and tribunal will be established, cooperation structures and demarcation lines will require careful designs. The T-FTA Negotiating Principles state that the negotiations shall build on the acquis of the existing REC FTAs in terms of consolidating tariff liberalisation in each REC FTA. What exactly this means is not clear. This concept (the acquis) derives from European Community Law where fundamentally different rules and procedures apply. The European Commission exercises supranational powers not enjoyed by any African REC, while the European Court of Justice has developed a jurisprudence way beyond anything imaginable in our part of the world. It is doubtful whether acquis of any substance is to be found in local RECs. The term is not used in any of their legal instruments. The plan is to incorporate the best practices from the existing structures, but a separate legal arrangement for the 26 states, that will have to comply with certain WTO rules, will have to be created. Although the formal negotiations have just begun, there are known factors and conditions which can be discussed. As the negotiations unfold and produce final legal instruments, the analysis can become more focused. This first attempt is therefore, by necessity, qualified by the fact that the actual FTA Agreement and its final annexes are still to be adopted. Detailed draft instruments (an Agreement to establish the T-FTA and 14 Annexes) have been drafted and will be discussed. They provide a useful context and indications of what will be on the negotiating agenda of the T-FTA. What will the ambitious T-FTA achieve? Sound legal and institutional arrangements must be in place in order to achieve the outcomes associated with good governance for trade. This process needs time but should start with the right design and context while supported by political will in the participating governments. Transparency and respect for the rule of law are vital in order to fight other ills such as corruption. In systems where the opposite prevails business confidence and stability will suffer. The costs will be passed on to consumers, will result in bad governance and the waste of resources. The efforts to alleviate poverty at home and beyond national borders will be directly undermined. Discussion of the T-FTA has to be put into a broader context: taking into account developments in the global economy, at the WTO and also with respect to the external preferential trade agreements. As 5

11 Introduction members of the WTO, African countries are increasingly locked into the rules-based multilateral trade system. As a result of the expiry of the Cotonou waiver, African governments have been under pressure to negotiate Economic Partnership Agreements (EPAs) with the European Union (EU) and to bring their trade with the EU member states in line with the applicable multilateral rules. The disciplines of the General Agreement on Tariffs and Trade (GATT) Article XXIV therefore enter the picture. The controversial EPA negotiations started in 2002 and were concluded in 2007, but no African EPAs have been agreed. From an African perspective the reasons for this failure are said to be related to the far-reaching European plans to include additional disciplines in the proposed texts. This would amount to binding rules which African countries are not prepared to accept. The European Commission holds that the technical capacity deficit and leadership factors have complicated matters. New initiatives will be required to revive these negotiations. The latest indications are that the level of ambition for the EPAs has been toned down. They will now apparently only aim at establishing traditional FTAs for trade in goods. In the meantime the duty-free and quota-free advantages granted to imports from African, Caribbean and Pacific countries into Europe will come to an end by 1 January 2014 unless formal negotiations can be concluded. 3 The expectation that the Doha Development Round would have resulted in easier multilateral rules for regional integration arrangements involving developing countries has also been dashed. 4 The international economy has been affected by international crises and there have been dramatic shifts in global economic power configurations. China, India and Brazil have become powerful players and promote new agendas. Preferential Trade Arrangements, in Asia in particular, have gained in importance and are now important engines of growth and facilitators of transboundary industrial production. 5 At this stage the T-FTA is very much a political construct, but the private sector, civil society and international investors will take a keen interest in its design and its legal and institutional features. This includes the question whether it will be a rules-based arrangement. One of the disappointments 3 See the Commission proposal of 30 September 2011, COM (2011) 598 final 2011/0260 (COD); Proposal for a Regulation of the European Parliament and of the Council amending Annex I to Council Regulation (EC) No 1528/2007 as regards the exclusion of a number of countries from the list of regions or states which have concluded negotiations. The Commission s view is that the current situation is not sustainable, as duty-free quota-free market access is still granted to beneficiary countries which are not taking the necessary steps towards ratification of the agreements on which this access is based, thus removing the justification for its advance provisional application. Should the countries removed from Annex I take the necessary steps towards ratification of an EPA, they would continue to benefit from the respective trade preferences and could therefore be re-instated in the Annex as soon as possible in order to provide continuity of their market access. 4 African countries made several proposals in the context of the rules negotiations in the Doha context to address, in particular, the substantially all trade and time frame requirements. Present indications are that the WTO Ministerial at the end of 2011 will not be able to adopt any major result. 5 See further the 2011 World Trade Report of the WTO. 6

12 Introduction about existing regional trade arrangements in Africa has been the failure to monitor the implementation of obligations and to enforce the rules. The protection of the rights of private sector players and the availability of remedies in the case of violations of their rights may turn out to be vital challenges for the T-FTA. These considerations have direct implications for the success of the plans now put forward by officials and political leaders. Gerhard Erasmus Trudi Hartzenberg April

13 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation Gerhard Erasmus 1. Introduction This chapter discusses the legal and institutional features of the proposed Tripartite Free Trade Area (T-FTA). This arrangement will establish a Free Trade Area (FTA) among the 26 member states of the three existing Regional Economic Communities (RECs) in Southern and Eastern Africa, namely the Common Market for Eastern and Southern Africa (COMESA), the East African Community (EAC) and the Southern African Development Community (SADC). On 12 June 2011 the second Tripartite Summit met in Johannesburg and adopted the Declaration Launching the Negotiations for the Establishment of the Tripartite Free Trade Area, the Tripartite FTA Negotiating Principles, Processes and Institutional Framework (with the subtitle of Guidelines for Negotiating the Tripartite free Trade Area among the Member/Partner States of COMESA, EAC and SADC), as well as a Roadmap for Establishing the Tripartite FTA. The intention is to conclude the negotiations for the first phase (covering trade in goods) within three years. 1 This is an ambitious plan. These regions have a combined estimated population of 590 million with a gross domestic product of $1 trillion a year. The new T-FTA agreement focuses on speeding up market integration, industrialisation and infrastructure development. The latter two aspects are emphasised as particularly important in the light of contemporary challenges 2 but conceptually this endeavour seems to be based on a longstanding African approach to conclude agreements on market access for goods, while neglecting the implementation of rules. 1 A roadmap and a matrix of planned activities were adopted on 12 June 2011 during the second Tripartite Summit in Johannesburg. In December 2011 a three-day COMESA-EAC-SADC meeting convened in Nairobi to discuss plans for establishing rules of procedure that will guide the process of establishing the free trade zone over the next months. Preliminary talks commenced in See e.g. the interview with Sindiso Ngwenya, Secretary-General of COMESA (Langeni, 2011): IDC must act for three African regional bodies: Call for SA s Industrial Development Corporation to be made a common tripartite institution to accelerate large-scale industrial projects in 27 African countries. 8

14 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation Regional integration has been a key element in postcolonial efforts to develop African economies and to integrate them into the global landscape. Most African domestic markets are small, often landlocked and poorly endowed with natural resources. Colonial legacies have created a fragmented continent. Since the 1960s there has been a continuous emphasis on regional integration, political solidarity and self-reliance as the answer to the continent s economic woes. In pursuit of these ideals the RECs have adopted detailed integration programmes and some progress has been made in terms of establishing formal arrangements and adopting intergovernmental agreements. The linear approach to regional integration (forming treaty-based FTAs which are upgraded to customs unions, common markets and even monetary unions within predetermined time frames) is the preferred modus operandi and is deceptively successful. It generates formal results such as regional secretariats, detailed legal instruments and officially specified targets. The achievement of the latter is often announced at summits of heads of state and government - while the member states are still at different levels of compliance. When measured in terms of growth in trade, poverty alleviation and the establishment of effective structures of collective governance the results have, however, been rather modest. 3 This top-down approach to regional integration fails to prioritise appropriate solutions for the causes which, in the first place, prevent intraregional trade from increasing (McCarthy, 2010). The result is wrong policy choices, neglect of institutional and governance aspects; while domestic capacity remains weak. Services are not treated as an essential part of the overall package. Each next step in the linear process brings additional and costly burdens. Moving from an FTA to a customs union requires joint policies on tariffs, the harmonisation of domestic legal instruments, collective governance as well as institutions to manage the common external tariff. This is difficult and costly, especially under conditions where some governments still rely on customs revenue. It is not surprising that lack of capacity and sensitive national interests are frequently invoked as justifications for derogations from legal obligations. 3 The 2011 World Trade Report of the WTO contains an in-depth discussion of contemporary preferential trade arrangements and the worldwide trends they represent. Although sympathetic to the African endeavours, it concludes that Africa s regional integration initiatives have achieved limited results, raising doubts about the approach adopted to addressing factors that inhibit regional trade (WTO, 2011:152). 9

15 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation This does not mean that efforts at regional integration should be abandoned. The reasons why the successful implementation of FTAs among African countries is held back, need to be analysed. Appropriate responses should then be designed and implemented. This has to happen with regard to all the known impediments: supply-side constraints, infrastructural bottlenecks, technical capacity constraints, implementation of agreements, monitoring, compliance with standards, and so forth. Trade facilitation (an umbrella term for actions taken by governments to enable international trade to function smoothly and bring down the cost of doing business) is vital, 4 as is better domestic and regional governance; and the implementation of legal arrangements should be improved. Successful regional trade arrangements are, in the words of the 2011 World Trade Organisation (WTO) World Trade Report, not only about lowering tariffs. Ample evidence shows that commitments in PTAs [Preferential Trade Agreements] cover a large number of non-tariff policy areas and have become deeper (McCarthy, 2010: 153). The private sector plays a crucial role in successful regional integration arrangements: as investors, industrialists and in building cross-border supply chains and networks. Governments can assist their efforts by facilitating trade through effective border procedures, harmonising national laws, ensuring transparency and access to reliable information implementing obligations and providing for legal remedies. Most of these matters fall under the general rubric of trade facilitation. Escape from the cycle of poverty, while utilising regional integration as part of the effort, is not easy. It requires deliberate efforts by governments to enhance the rules-based quality of trade arrangements. The successes elsewhere show that, in addition to policy reforms, suitable legal and institutional elements must be built into Regional Trade Arrangements (RTAs). Among the factors relevant to Africa are integration of services markets, trade facilitation, improved market intelligence, dispute settlement mechanisms, revenue systems less dependent on trade taxes, funding for cross-border infrastructure, and financing for regional institutions (Idem.: 152). 4 The World Bank (2012) provides ample data on wastage and arguments why trade facilitation needs urgent attention. 10

16 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation When measured against these benchmarks most African RTAs display, in addition to policy and governance failings, several legal and institutional deficits. This undermines the efforts to achieve the objectives for which they have been created. Regional agreements are too ambiguous, institutions lack effective powers, and linkages with domestic laws and national structures are inadequate. As a general observation it can be said that the rules-based dimension of RTAs in Africa is inadequate. The integration effort is bedevilled by technical complications such as overlapping membership in RTAs (which in itself is a manifestation of a broader institutional defect) and a failure to consolidate arrangements which exist on paper. These flaws hamper effective market integration and efforts to attract investment. Formal trade arrangements are not an end in themselves. They have to serve a particular purpose and ensure specific outcomes. That is why legal instruments need careful drafting. The new Free Trade Area must pursue a particular logic: to promote the free and effective movement of goods and associated services across borders, to facilitate procedures which accommodate private-sector needs, and to incorporate a comprehensive plan for trade and development. And the applicable multilateral rules must be complied with while implementing these measures. The approach adopted here calls for a proviso. It entails a discussion of several draft legal instruments, prepared prior to the official launch of the negotiating process. These draft texts can obviously be altered as official negotiations get underway. However, the debate has to start with the proposals developed to engage the task at hand. The draft instruments are about the formation of an FTA to accommodate specific nations and their needs. This requires solutions for particular problems, such as the blending of three existing RECs into a new FTA and solving the problem of overlapping membership. At this stage the official view is that the existing RECs will continue to function and that only the member states will be the parties to the T-FTA. This factor is of major significance. The T- FTA is not only another African trading bloc; it also has to improve and adjust existing RECs. This chapter will, in addition, justify its emphasis on rules and institutions and will refer to the negotiating process, the linkages with existing regional trade arrangements and the applicable multilateral rules. 11

17 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation There is a broader context too. The T-FTA is not proposed as an ad hoc plan. It is linked to the implementation of an African programme on continental integration. There are even suggestions now to utilise this COMESA-EAC-SADC FTA as the core building block for establishing an African-wide FTA. A brief discussion of the continental context is provided in order to picture the scale of things, to warn against overambitious plans and to introduce the expectations about future developments. 2. What does the Tripartite FTA want to achieve and how? The general objectives of the Tripartite Free Trade Area are to promote the social and economic development of the region, to create a large single market with free movement of goods and services and business persons, and eventually to establish a customs union. It also wants to resolve the challenges of multiple memberships and expedite the regional and continental integration processes, while promoting close cooperation in all sectors of economic and social activity among the Tripartite member states. In order to realise these objectives Tripartite member states shall (Draft Agreement, Article 3): 1. eliminate all tariffs and non-tariff barriers to trade in goods; 2. liberalise trade in services and facilitate cross-border investment and movement of businesspersons ; 3. harmonise customs procedures and trade facilitation measures; 4. enhance cooperation in infrastructure development; 5. establish and promote cooperation in all trade-related areas among Tripartite member states; 6. establish and maintain an institutional framework for implementation and administration of the Tripartite Free Trade Area and eventually a customs union; 7. build competitiveness at the regional, industry and enterprise level in order to promote beneficial utilisation of regional and global market and investment opportunities and beneficial participation in globalisation; 8. adopt and implement policies in all sectors of economic and social life that promote and consolidate an equitable society and social justice; and 12

18 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation 9. undertake cooperation in other areas to advance the objectives of this agreement (Draft Agreement, Article 4). Article 2 of the Draft Agreement provides for the establishment of a Free Trade Area among the member states of COMESA, EAC SADC. It is, however, not expressly stated that the T-FTA will have a separate legal status of its own, as is the case with regard to the three RECs. This aspect should be clarified; the implied intention is that it will be an international organisation and a subject of international law in its own right. The parties to this Agreement will be the member states of the three RECs, not the RECs to which they presently belong. The T-FTA will be a new FTA, not an FTA of existing RTAs. And it will have to be notified to the WTO, since practically all its member states are WTO members. The process to establish the T-FTA kicked off when a Tripartite Summit of the heads of state of COMESA, EAC and SADC held in Kampala in October 2008 recommended the harmonisation and rationalisation of the activities of the three regional economic communities and the creation of a Free Trade Area. COMESA is the largest of the three groupings and comprises 19 countries in Eastern and Southern Africa. SADC brings together 14 member states 5 in Southern Africa. The EAC comprising Uganda, Kenya, Tanzania, Rwanda and Burundi 6 has seen some important achievements in terms of deeper integration among its members. However, the three RECs have been moving at different paces on their integration agendas. The harmonisation of all their legal and institutional aspects will bring a number of benefits, including a much larger market, the sheer size of which makes it viable for manufacturers and other producers to be competitive. They will be able to capitalise on economies of scale and opportunities for cooperation across the bigger regional market. The challenges to the growth of intraregional trade are well documented. Dependence on primary commodity production, limited industrial development and diversification, poor infrastructure and the lack of effective trade facilitation within the region are part of the explanation. The private sector can have considerable influence in addressing these challenges. For example, it can increase investment in new areas to reduce the dependence 5 The membership of Madagascar is presently suspended; after a coup took place there two years ago. 6 It has been reported that South Sudan will also join the EAC. 13

19 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation on similar primary products, it can also lobby and advocate for viable infrastructure projects; it can lobby governments for harmonisation of macroeconomic policies with governments within the region, and identify specific trade facilitation bottlenecks. One of the problems facing the member states in their pursuit of deeper integration is that of multiple and overlapping memberships, where one country belongs to more than one REC. This is one of the key considerations in seeking to harmonise their policies and programmes and to establish one FTA. Overlapping membership results in multiple financial obligations, varying trade regimes, duplication of standards, waste of resources, the difficulty of belonging to two customs unions, and so forth. Overlapping membership also has serious implications for the private sector by complicating business transactions and raising the cost of doing business. For example, the business community has to contend with different trade regimes, including varying tariff levels, rules of origin and technical standards. The realisation of the benefits associated with the T-FTA is constrained by a number of factors. They include (i) disparities in economic development, (ii) the high dependence of several governments in the three RECs on trade taxes, (iii) challenges associated with rules of origin, such as how to harmonise the three sets of rules of origin into one, how to simplify the new rules of origin and make them predictable and open to uniform interpretation, how to deal with the sufficiently worked SADC product-specific rules of origin, which would need to undergo substantial transformation, the application of the rules on goods of particular economic importance under COMESA since this rule is substantially different from those applied in the EAC, etc., (iv) institutional challenges, including how to deal with the current configurations since the three RECs are all legal entities with specific legal regimes; and (vi) the role of the Southern African Customs Union (SACU) the oldest trade bloc in the region which not only has the strongest economy in Africa (South Africa) but also has taken a number of significant steps towards deepening its integration agenda. South Africa may be opposed to measures towards harmonisation of SADC and SACU, let alone with COMESA and the EAC; (vii) the EPA negotiations with the European Union (EU) which are made more complicated by the absence of a common trade policy in the region, and (viii) the South Africa-EU Trade, Development and Cooperation Agreement with the EU. This agreement is an FTA in its own right and guarantees market access into Europe for South African goods. This raises the issue of the legal basis in terms of which the other T-FTA countries will trade 14

20 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation with the EU. Present indications are that the Economic Partnership Agreements (EPAs) are making little headway, although they are still on the agenda in the EAC, SADC and the Eastern and Southern African (ESA) configurations. 7 The creation of this FTA is generally viewed as a welcome proposition. The private sector is an important stakeholder and should support this initiative, by following, engaging and influencing the negotiations to establish the Tripartite FTA. The task at hand is too important to leave to technocrats and government officials only. 3. The Tripartite FTA and continental integration If the legal and institutional aspects of the T-FTA are properly designed and implemented there could be a major improvement in how and how much African nations trade with each other. This will require a fresh approach, not a repetition of what is usually done in the RECs. Will this happen? In the Preamble of the Draft Agreement Establishing the COMESA, EAC and SADC Tripartite Free Trade Area (hereinafter referred to as the Draft Agreement 8 ) the establishment of the T-FTA is linked to the larger ideal of continental integration. The states involved are committed to championing and expediting the continental integration process under the Treaty establishing the African Economic Community and the Constitutive Act of the African Union through regional initiatives... What is this continental integration process about? How will the T-FTA fit into and advance this scheme? Does continental integration entail a fixed formula or is there scope for fresh approaches? Africa purports to have a political template for a continent-wide process of economic integration. The Treaty Establishing the African Economic Community adopted in Abuja, Nigeria in 1991 is a detailed document of 106 articles with a strong emphasis on political ambition but weak on enforceability. It has been in force since 1994 but its final implementation is still to be achieved. The basic objective behind the Abuja Treaty is to enhance economic, social and cultural development and to promote the integration of African economies in order to increase selfreliance and promote development. This aim requires the strengthening of existing regional 7 It has been reported that all four African partners to the Interim ESA-EPA (Madagascar, Mauritius, Seychelles and Zimbabwe) ratified their agreement with the EU in February The text used here is identified as the Revised December 2010 edition. Other drafts were earlier circulated. 15

21 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation economic communities and the establishment of other communities where they do not exist... The African Economic Community (AEC) is to be established through a gradual process consisting of six stages of variable duration over a transitional period not exceeding 34 years. At each such stage specific activities are to be undertaken and goals have to be implemented concurrently (Abuja Treaty, Article 4). Things did not work out as planned. Article 4 of the Abuja Treaty foresaw a gradual conclusion of agreements aimed at harmonizing and coordinating policies among existing and future sub-regional and regional economic communities. The applicable obligations had to be complied with by the states involved as being the parties to this Treaty. This did not happen, at least not in terms of the formal agreements mentioned in this provision. And no subregional RECs were established despite the fact that the Treaty provides as such. 9 The biggest problems are unconsolidated FTAs or customs unions and overlapping membership. Over time the approach to continental integration started to change. In 2007 the Protocol on Relations between the African Union and the Regional Economic Communities was adopted. The parties hereto are not states, but the African Union and the Regional Economic Communities. It is not quite clear whether all the RECs (such as SADC) have the legal power to conclude this type of Protocol and execute the obligations provided for. 10 The Economic Community of West African States (ECOWAS), COMESA, the Economic Community of Central African States (ECCAS), SADC, the Intergovernmental Authority for Development (IGAD), Arab Maghreb Union (UMA), the Community of Sahelo-Saharan States (CEN-SAD), and the EAC are, together with the African Union (AU), listed as the parties to this Protocol. RECs which are not party to this Protocol on the date of its entry into force may accede to it (Article 33(3)). The RECs are the AEC building blocks but because they are at different levels of consolidation and integration they face difficulties in advancing the bigger construct in a coordinated and meaningful manner. They face unique challenges and are formed by different historical conditions. As a result they have pursued their own separate agendas for 9 SACU, which was formed in 1910, is now recognised as a subregional REC, but it predates the adoption of the Abuja Treaty by many decades. 10 In terms of Article 5 of this Protocol, REC must implement the Protocol and align its own policies, programmes and strategies with those of the AU. 16

22 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation deeper integration. Some have evolved into more refined arrangements. 11 In other instances deeper integration plans had to be postponed or even shelved. 12 In some cases lofty ambitions have met with practical and political obstacles, as the plans for monetary union have demonstrated. The technical aspects regarding the implementation of the Abuja formula require the transformation of these individual RTAs into a continental rules-based scheme for free trade. The idea is not to unscramble the omelette; existing structures have to be moulded into a new and bigger construct. This will amount to a complicated exercise and careful answers to technical and political issues, while accommodating vested interests. The AEC will also have to comply with the applicable WTO rules. The Abuja plan proposes a particular sequence; no jumping the queue. Article 6(4) notes: The transition from one stage to another shall be determined when the specific objectives set in this Treaty or pronounced by the Assembly for a particular stage, are implemented and all commitments fulfilled. This modus operandi has proved impossible to adhere to. There is the additional danger of tampering with existing arrangements which might, in some instances, be working quite well. New and appropriate roles will have to be found for those regional institutions which have been around for some time. This might not always be easy since they have developed their own culture and style of over time. There are important differences between a procedure where new members accede to an existing organisation (which happens, for example, with the expansion of the EU or when states accede to the WTO) and the method proposed by the Abuja Treaty. The latter involves the marrying of existing organisations into a new entity. It is not a matter only of 26 countries negotiating new tariff schedules and identifying sensitive products de novo. Legal arrangements about these aspects have already been worked out in the existing RECs to which they belong. This factor is multiplied by the number of RECs involved in the blending exercise. 11 This happened in the EAC, which is formally a customs union and has only five members. South Sudan will apparently join as the sixthmember. 12 SADC had decided to become a customs union by This decision has been shelved; it is still not a fully consolidated FTA. 17

23 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation The Abuja Treaty proposes an incremental expansion process. Implementation of the actual plan, once agreed, will involve a phased approach and the monitoring of each such phase. How and by whom this will be done is not entirely clear. There will be difficulties with regard to sequencing and coordination but the requirement that all legal obligations have to be fulfilled on the REC level before the AEC can be established, makes sense. This is essentially an incremental approach which, if properly adhered to, will promote the consolidation of the AEC. In some ways this approach could be easier than a single big bang event where the needs of 26 states have to be accommodated in one negotiating exercise. To what extent this requirement (full compliance with obligations before proceeding to the next phase) will in fact be honoured as part of the T-FTA exercise, has to be seen. The Abuja process faces an important institutional deficit; the AU does not have the powers and institutions to enforce its own formula. There may be benefits in the gradual enhancement of consolidation. The incremental approach recognises historical and political realities. The gradual construction could allow for learning by doing, and perhaps a tidier and more logical construction of the AEC. Since regional integration in Africa is fraught with problems of overlapping membership, an amalgamation of existing RECs may offer an opportunity to deal with a vexing issue. That will require a clear and specific design and coordinated efforts. The evidence that this is happening is scant. For two decades now the implementation of the Abuja recipe saw little concrete implementation. The world and Africa have also changed. The rules-based approach to trade embodied in the WTO agreements has become reality, while there have been structural changes in the global economy resulting in African economic growth being largely dependent on commodity exports to the emerging economies. The nonreciprocal trade preferences in EU markets provided for by the Cotonou Agreement expired in December WTO-compatible trade arrangements with the EU have proved to be elusive, causing controversies around the EPA negotiations. The Doha Round of trade negotiations has come and gone, while the world has lived through an economic crisis and is facing a financial one. Issues of sovereignty have surfaced. The Abuja Treaty is an ambitious project. Its subsequent implications for the sovereignty of states and the costs of implementation were not 18

24 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation sufficiently clear at the time it was adopted. The understanding that regional trade arrangements have to be rules-based came later. The African integration focus has shifted to the REC level, for reasons of scale and practicability, but the challenges faced by governments have become clearer. REC members discovered that compliance with supranational rules on trade can be daunting. To enforce the same rules on the whole continent is beyond existing capacities and political realism. This insight became more acute as new problems involving failed states started to emerge. In such cases the writ of the government does not run over the land or at border posts. The Abuja condition of all commitments being fulfilled before the next stage could be undertaken remained elusive, necessitating an adjustment to the Abuja process itself. In light of the factors mentioned above an objective appraisal of the original plan should have been undertaken. This did not/will not happen in any explicit manner because it may undermine the legitimacy of the original pan-african credo and homage to solidarity. While political leaders therefore continue to defer to the Abuja ideal, the reality on the ground requires caution. The opportunity for rescuing aspects of the Abuja process now seems to have arrived in the form of the Tripartite FTA, at least insofar as three of the RECs have launched a plan to form a joint FTA between their members. If it works there will be progress of a kind. Recent AU meetings have started to forge political and institutional links between the two agendas. In early November 2011 the AU convened a Retreat on Intra-African Trade. This event formed part of a series of activities taking place in preparation for the January 2012 AU Summit of Heads of State and Government which will focus on promoting intra-african trade. A major purpose of the retreat was to devise a roadmap for fast-tracking the establishment of a pan-african free trade area as part of a process towards realising the integration goals of the Abuja Treaty and establishing the AEC (Woolfrey, 2011). 13 It has been proposed that the Tripartite COMESA-EAC-SADC FTA could serve as the core building block for this process, with a proposed second tripartite FTA (consisting of the other RECs and to be established by 2015), or simply the other RECs and/or individual countries 13 Sean Woolfrey attended this retreat. 19

25 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation themselves concluding negotiations with the COMESA-EAC-SADC FTA by 2016, thereby paving the way for the establishment of a Continental FTA by 2017 and a common market by A number of specific issues were earmarked for special attention in order to complement trade-boosting efforts under the Continental FTA process: Enhancing cooperation between RECs, national governments and private sector representatives in terms of the development of national and regional trade and industrial policies; the reduction of transit times for moving goods through major trade routes (through, for example, the elimination or reduction of road blocks and the simplification and harmonisation of customs procedures); the facilitation of the movement of business persons across borders in the region; the prioritisation of the implementation of the Accelerated Industrial Development of Africa strategy; and the prioritisation of the implementation of the Programme for Infrastructure Development (Woolfrey, 2011). This level of ambition sounds disturbingly familiar. The Abuja and T-FTA agendas differ in terms of scope, time frames and technical reach, while the membership configurations are unique. Different dynamics are involved. At this early stage in the life of the T-FTA it is unrealistic to forge such detailed links between the two concepts. It may also be unwise to overburden the T-FTA with lofty aspirations about continental schemes before its final instruments have been concluded and have entered into force. It is not yet known how many members of the three RECs will in fact become part of the new T-FTA. The Abuja Treaty needs a platform in order to stay alive. Once the T-FTA has been established and starts to function there will be a better understanding about how it could promote the Abuja agenda in a practical manner. 4. Contemporary developments on regional integration RTAs have grown in importance as vehicles for promoting trade among nations. The 2011 World Trade Report of the WTO provides a useful analysis of the latest trends as well as how these arrangements could be complementing the multilateral trade system. Although Asian 20

26 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation countries have become the most active in signing new preferential trade agreements 14 they are equally popular in Latin America, Africa and elsewhere. When 26 African governments decide to form a new FTA which will reach from Cape to Cairo and will link three existing RECs together, it constitutes a major initiative in which African and international investors and traders should take a keen interest. Has the most suitable modus operandi been adopted? What lessons can be learned from experiences elsewhere? The main findings in the world Trade Report are mentioned here because they sketch a useful background and serve as a reminder of the need to adopt the right philosophy. The role of the private sector in driving the underlying agenda is crucial. One of the most significant findings in the 2011 World Trade Report is that preferential agreements are evolving towards deeper integration arrangements that go beyond tariffs; they increasingly include domestic policies such as regulations on services and investment, intellectual property and competition policy. The Report calls these arrangements deep PTAs. These trends are the result of changes in the world economy such as the growth of global production networks, in Asia in particular. This development requires better interstate cooperation, regulation and supervision in a range of areas, including services, standards and intellectual property. Deeper PTAs provide the means for addressing these needs. Preferential trade arrangements always face the complications of rules of origin and how authorities determine where a product originates, and therefore whether it is eligible for preferential treatment. The costs that companies face in meeting these requirements can be higher than the benefit they receive from the lower tariffs. The World Trade Report further shows that preferential margins (the difference between the basic non-preferential (Most Favoured Nation) rate and the PTA rate) are generally low. States are entering into preferential trade agreements in order to reap other benefits in areas such as services, investment, intellectual property protection, and competition policy. These policy areas involve domestic regulations and behind-the-border measures. 14 They have been party to almost half the PTAs concluded in the last 10 years. This has contributed to the increased concentration of trade within this region, second only to Europe in

27 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation African RTAs have traditionally focused on market access for goods and the T-FTA will start with the same approach and with promises that services will follow. Services have not figured prominently in African RECs and this aspect needs serious attention in future T-FTA negotiations. This is probably the most important aspect to consider now: is the T-FTA scope about what it wants to produce sufficiently broad and correctly focused? In the words of the 2011 World Trade Report (WTO, 2011): Expanding market access by lowering the transaction costs of trade is necessary, but will not guarantee economic growth and development. Enhanced market access without the capacity to produce goods and services to benefit from those opportunities will fail to produce higher economic growth. Effective supply-side capacity depends on sound macroeconomic and microeconomic policies, good governance, well developed institutional capacities, adequate infrastructure and a sound business environment capable of attracting investment. Supply-side constraints to efficient production could be partly addressed by a deep regional integration agenda. No single, ready-made recipe exists for effective deep regional integration. One of the other important lessons to be learned from the new generation of PTAs is that they are bottom-up initiatives. Intergovernmental arrangements, governmental policies and regulations are adopted in order to facilitate the needs of private enterprise and to promote competitive production networks across borders. The African RECs as well as the T- FTA are very linear in approach and are state driven. The Johannesburg Declaration Launching the Negotiations for the Establishment of the Tripartite Free Trade Area adopts a developmental integration approach built on three pillars of industrial development, infrastructure development and market integration, but which will apparently be state driven. It notes that the negotiations shall be Regional Economic Community and/or Member and Partner State driven and shall be in two phases. The private sector is not expressly mentioned, at least not in terms of the launching documents adopted in June There are insufficient indications that the T-FTA constitutes a fresh approach. Hopefully the unfolding negotiating process will generate new insights. 22

28 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation 5. The multilateral rules for FTAs The surge in RTAs has continued unabated since the early 1990s. According to WTO website sources, as of 15 November 2011, some 505 RTAs, counting goods and services notifications separately, have been notified to the General Agreement on Tariffs and Trade (GATT)/WTO. Of these, 367 RTAs were notified under Article XXIV of the GATT 1947 or GATT 1994; 36 under the Enabling Clause; and 102 under Article V of the General Agreement on Trade in Services (GATS). At that same date, 313 agreements were in force. Of these RTAs, Free Trade Agreements and partial scope agreements account for 90%, while customs unions account for 10%. Regionalism is described in the Dictionary of Trade Policy Terms as actions by governments to liberalize or facilitate trade on a regional basis, sometimes through free-trade areas or customs unions. In the WTO context, RTAs have a more specific meaning. WTO provisions relate specifically to conditions of preferential trade liberalisation with which RTAs have to be comply. When a WTO member enters into a regional integration arrangement through which it grants more favourable conditions to its trade with other parties to that arrangement than to other WTO members trade, it departs from the MFN rule, the guiding principle of nondiscrimination defined in Article I of GATT, Article II of GATS, and elsewhere in the WTO agreements. WTO members are, however, permitted to enter into such arrangements under specific conditions which are spelled out in three sets of rules: Paragraphs 4 to 10 of Article XXIV of GATT (as clarified in the Understanding on the Interpretation of Article XXIV of the GATT 1994) provide for the formation and operation of customs unions and free trade areas covering trade in goods; the Enabling Clause (the 1979 Decision on Differential and More Favourable Treatment, Reciprocity and Fuller Participation of Developing Countries) refers to preferential trade arrangements in trade in goods between developing country members. Article V of GATS governs the conclusion of RTAs in the area of trade in services, for both developed and developing countries. Other non-generalised preferential schemes, for example nonreciprocal preferential agreements involving developing and developed 23

29 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation countries, require members to seek a waiver from WTO rules. Such waivers require the approval of three-quarters of WTO members. 15 Regional trade arrangements and interim agreements to conclude them have to be notified to the WTO. Notifications are now reviewed under the transparency mechanism for regional trade agreements but WTO members do not agree on the procedures and the duties of developing countries. This matter is currently under discussion. The WTO website notes that on 4 February 2011 the Negotiating Group on Rules started its review of the WTO transparency mechanism for regional trade agreements by considering two proposals: one from the United States for the consideration of all RTAs in a single WTO Committee, and one from Ecuador for procedural adjustments to the mechanism. The United States cited the problem of disagreement between some members over the forum in which some RTAs should be considered under the transparency mechanism and instances of dual notifications. To resolve this problem, it called for the implementation of the transparency mechanism to be entrusted to the Committee on Regional Trade Agreements, without prejudice to members' rights. Under the provisional transparency mechanism, the Committee on Regional Trade Agreements reviews RTAs falling under Article XXIV of GATT and Article V of GATS. The Committee on Trade and Development reviews RTAs falling under the Enabling Clause (trade arrangements between developing countries). Ecuador proposed a number of procedural adjustments; communications to the WTO about an RTA should take the form of joint notes signed by all parties to that RTA. Egypt, Argentina, China, Bolivia and Brazil stated that the role of the Committee on Trade and Development would be undermined if the consideration of RTAs between developing countries would be moved to the Committee on RTAs. Regarding systemic issues related to RTAs, Bolivia tabled a proposal to amend the main RTA provision of GATT 1994 Article XXIV, to include wording on special and differential treatment for developing countries contained in Article V of GATS. It states that in RTAs involving developed and developing countries, the principle of lessthan-full-reciprocity and longer implementation periods should be accorded to developing countries. 15 This background information derives from the WTO website: 24

30 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation Another challenge, and one which is of specific concern to African nations, derives from the failure of the Doha Development Round. African governments had high hopes that prodevelopment results would have been agreed. Present indications are that this will not happen. These governments inter alia proposed more flexible rules for regional trade arrangements but none materialised. The Doha Declaration mandated negotiations aimed at, amongst other things, clarifying and improving disciplines and procedures under the existing WTO provisions applying to regional trade agreements. The negotiations shall take into account the developmental aspects of regional trade agreements. The original deadline of 1 January 2005 was missed. Arrangements such as the T-FTA will therefore have to comply with the existing WTO rules on RTAs, both in terms of substantive compliance and notification. No decision has yet been taken as to whether T-FTA notification will be under the Enabling Clause or under GATT Article XXIV. Some of the RECs (e.g. SADC) have been notified under GATT Article XXIV. 6. Negotiating the Tripartite FTA: process and parties The Abuja Treaty entered into force in 1991 but it took several years before regional political and economic conditions made it possible to convene what became known as the first Tripartite Summit, involving only COMESA, the EAC and SADC. Cooperation between existing RECs had not always been easy. Francis Mangeni (2011) has written up this history and mentions the COMESA Summit of 2001 as a turning point. At that occasion a decision was taken that, since sufficient collaboration between COMESA and SADC had been achieved, a joint Task Force could be established (at secretariat level) to prepare a framework for formal cooperation between them. When the EAC became a customs union 2005 it joined this effort (Ibid.: 26). On 22 October 2008 the first Summit on the T-FTA met in Kampala, Uganda. It was then decided to commission a study on the process and the format of the new arrangement. The outcome of the study was found to be lacking in certain parts. The ad hoc Tripartite Task Force of the three Secretariats then instructed some of their own officials to prepare new draft instruments and an explanatory report (Ibid.). 25

31 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation On 12 June 2011 the Heads of States and Governments of COMESA, the EAC and SADC met in Johannesburg and adopted a formal Declaration Launching the Negotiations for the Establishment of the Tripartite Free Trade Area and the Tripartite Principles, Processes and Institutional Framework. This Summit established a formal mandate for moving the negotiating process forward and, in the words of the declaration, to expeditiously establish a Tripartite Free Trade Area... in order to ensure integration into a larger integrated market... The Declaration contains the following decisions: 1. Adopt a developmental integration approach built on three pillars of industrial development, infrastructure development and market integration; 2. Direct that a programme of work be prepared on the industrial development pillar; 3. Note progress made, and encourage further work, on the programmes on the infrastructure pillar; 4. Launch negotiations for the establishment for a Tripartite Free Trade Area open to participation by all Regional Economic Communities and/or Member and Partner States on the market integration pillar; 5. Note that the negotiations shall be Regional Economic Community and/or Member and Partner State driven and shall be in two phases. a. The first phase will be for negotiations on trade in goods. Movement of business persons will also be negotiated during the first phase through a separate tract in a committee to be established by the Tripartite Sectoral Ministerial Committee. b. The second phase will cover the built-in agenda on services and trade related areas. 6. Agree on the principles for negotiations; a road map providing the timelines for key activities relating to the negotiations and their conclusion; and the implementation of the outcomes as well as the institutional framework for the negotiations. 26

32 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation The Summit also adopted Annex I, an important set of Negotiating Principles, Processes and Institutional Frameworks, indicating how negotiations will be conducted, what rules will apply and what outcomes are expected: 1. Introduction The first Tripartite Summit, held on 22 October, 2008 in Kampala, Uganda, approved the expeditious establishment of a Free Trade Area (FTA), encompassing the Member/Partner states of the three Regional Economic Communities (RECs) It is envisaged that the 26 countries will engage in the negotiations for the establishment of a Tripartite FTA, recognizing that substantial progress on trade liberalization has been achieved within the three RECs. The establishment of the Tripartite FTA will build upon and consolidate the RECs acquis. 2. Scope of the Negotiations The negotiations shall be in two phases as follows: (i) (ii) The first phase will cover negotiations on the following areas: tariff liberalization, rules of origin, dispute resolution, customs procedures and simplification of custom documentation, transit procedures, non-tariff barriers, trade remedies, technical barriers to trade and sanitary and phyto-sanitary measures; Movement of business persons will be dealt with during the first phase of negotiations as a parallel and separate track; (iii) The second phase will cover negotiations on the following areas: trade in services, intellectual property rights, competition policy, and trade development and competitiveness. 3. Negotiating Principles The Tripartite FTA negotiations process shall be REC and/or Member driven and be guided by the following overarching principles: (i) The negotiations shall be REC and/or Member/Partner State driven. (ii) Variable geometry; 16 (iii) Flexibility and Special and Differential Treatment; 16 Which is defined, in Article 1, as the principle of flexibility which allows for progression in cooperation amongst members in a larger integration scheme in a variety of areas and at different speeds. 27

33 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation (iv) Transparency including the disclosure of information with respect to the application of the tariff arrangements in each REC; (v) Building on the acquis of the existing REC FTAs in terms of consolidating tariff liberalization in each REC FTA; (vi) A single undertaking covering Phase I on trade in goods; (vii) Substantial liberalisation; (viii) MFN Treatment; (ix) National Treatment; (x) Reciprocity; and (xi) Decisions shall be taken by consensus. 4. Negotiating Institutional Framework 4.1 The Tripartite FTA will be negotiated within the context of the following institutional framework: (i) (ii) Tripartite Summit of the Heads of State and Government; Tripartite Council of Ministers; (iii) Tripartite Sectoral Ministerial Committees; (iv) Tripartite Committee of Senior Officials; (v) Tripartite Trade Negotiation Forum (TTNF) 4.2 The Tripartite Task Force, comprising Heads of Secretariats of the three RECS, will coordinate and provide technical and administrative support to the negotiating process. 5. Monitoring of the Negotiating Process 5.1 The Tripartite Sectoral Ministerial Committee shall be responsible for the overall monitoring of the negotiating process to ensure that a credible and developmentorientated agreement is concluded expeditiously. 5.2 The Tripartite Sectoral Ministerial Committee will supervise and provide leadership to the negotiating process including resolving contentious issues that may arise. The Committee will ensure that the negotiating committees of senior officials and the TTNF adhere to the negotiation time frames as provided in Tripartite FTA Roadmap. 28

34 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation 5.3 Progress will be monitored through quarterly reports by the Chairperson of the TTNF and six-monthly formal reviews by the Tripartite Sectoral Ministerial Committee responsible for trade. The outcome of the monitoring and evaluation will inform the pace of negotiations. This set of Negotiating Principles will determine how the official negotiations will be conducted. The participating states will be directly involved and national interests will guide them. The aims in the Abuja Treaty are not sufficiently concrete to expect that these negotiations will not be about national interests and regional gains already made in some RECs. The Preamble to the Draft Agreement mentions the intention to champion and expedite the continental integration process in the AEC, but through regional initiatives. The Preamble also refers to several other considerations which put the emphasis on the more immediate needs of the RECs involved in the T-FTA negotiations. They want to build upon the success and best practices achieved in trade liberalisation within the three RECs;...creating jobs and incomes for the majority of the population in the Tripartite Member States; the development of trade and investment is essential to the economic integration of the region to improving the competitiveness of Tripartite Member States;... the progress made by the regional economic communities in establishing the communities as single investment areas, and building on this progress. The official negotiations will have to generate compromises on difficult matters such as the rules of origin for the T-FTA. This may turn out to be a long haul. COMESA and the EAC have relatively simple rules of origin, while those of SADC are detailed and complicated (Naumann, 2011). In those instances where member states already belong to customs unions the integrity of the common external tariff will have to be protected. Multilateral rules on substantially all trade coverage in FTAs must also be adhered to when concluding new tariff liberalisation schedules. Negotiating decisions will be taken by consensus, but the final agreement has to constitute a single undertaking. Consensus is not defined and there is no indication as to how consensus will actually be reached should a deadlock situation arise. The Tripartite Sectoral Ministerial Committee will supervise and provide leadership to the negotiating process, 29

35 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation including resolving contentious issues that may arise. This body is composed of national ministers. These are not de novo negotiations. The Negotiating Principles provide that the acquis of the RECs has to be built upon and be consolidated. This constitutes a binding bottom line, but what does this mean in terms of a measurable benchmark? The term acquis is not defined. Neither is it used in the Draft Agreement. It should, apparently, be given the generally accepted meaning borrowed from European Community Law, where it is interpreted as the equivalent of the total body of European Union law (New Oxford Companion to Law, 2008: 9). 17 The extent of the acquis of the three RECs could be very wide but it is doubtful whether this concept has been sufficiently developed through the jurisprudence of their Community Courts and Tribunals to be sufficiently clear. COMESA, the EAC and SADC have not had enough opportunity and far less supranationality to develop a comprehensive acquis communautaire doctrine. Even if this were possible it would still be necessary to integrate the jurisprudence and doctrines of three different organisations at different stages of integration. The evident intention is for the negotiations to build on the existing community law of the three RECs. Perhaps this fact should have been stated in plain language. This raises another question. What is the status of the Negotiating Principles, Processes and Institutional Frameworks? They have been drafted in the format of Annex I, entitled Tripartite Negotiating Principles, Processes and Institutional Framework. Is this a binding document? This Annex was not signed at the Johannesburg Summit, at least not the copy available to this writer. (The Annexes to the Draft Agreement are strictly speaking still to be adopted.) The Declaration was signed by the Heads of State and Government and constitutes a binding instrument. Its Paragraph 6 provides that the parties have agreed on the principles for negotiations; a Road Map providing the timelines for key activities relating to the negotiations and their conclusion; and the implementation of the outcomes as well as the institutional framework for the negotiations. 17 This very same concept has also been used in the context of the EPA negotiations; to refer to the Cotonou acquis. 30

36 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation The article on entry into force in the Draft Agreement may cause additional complications. It provides (Article 50(3)): This Agreement shall enter into force upon ratification by twothirds of the Tripartite Member States that are party to this Agreement and Tripartite Member States undertake to do so timely. The effect of this provision is that ratification by 18 of the 26 member states will result in a binding agreement for those states which have given their consent to be bound. How this provision tallies with the single undertaking requirement is not entirely clear. The parties to the T-FTA will have to accept the complete package whatever that includes. Those countries which do not become parties to the new arrangement will remain members of the three RECs, but if this means substantially different sets of rules, the overlapping membership complication will remain or even increase. Such a result will not advance the Abuja ideal of bigger continental integration. It is not clear whether reservations to this Agreement would be permissible. If the Agreement constitutes a single undertaking that should not be possible. The Draft Tripartite Agreement does not provide for a single undertaking; that principle comes from the Negotiating Principles adopted by the Second Tripartite Summit. An earlier draft of the T-FTA Agreement expressly prohibited any reservations. That provision has now been deleted. In terms of Article 19 of the Vienna Convention on the Law of Treaties a state may, when signing, ratifying, accepting, approving or acceding to a treaty, formulate a reservation unless: (a) the reservation is prohibited by the treaty; (b) the treaty provides that only specified reservations, which do not include the reservation in question, may be made; or (c) cases do not fall under subparagraphs (a) and (b), when the reservation is incompatible with the object and purpose of the treaty. This matter should be clarified by stating expressly in the T-FTA Agreement that it constitutes a single undertaking and that no reservations will be permissible. The Annexes do not all contain provisions on their entry into force. In the case of Annex 12, on services, the obligations of members will come about through a decision (on the basis of consensus?) by the Tripartite Council. Annex 12 provides that the services schedules shall be 31

37 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation adopted by the Tripartite Council. The schedules, once adopted by Council, shall enter into force and shall constitute rights and obligations. Member States shall take measures to implement commitments under the Regulations and notify the Secretariat. The Committee on Trade in Services shall periodically review the implementation of commitments under the Regulations. The final T-FTA legal regime will consist of the Agreement which will be adopted and all its annexes. The latter will contain the detail for specific disciplines and form an integral part of the overall legal regime, and thereof of the single undertaking too. This principle (that the annexes form an integral part of the Agreement) should be stated unequivocally. Article 46 of the draft Agreement deals with future annexes and notes that they shall form an integral part of the Agreement. However, this is a reference to such future annexes as are necessary for the implementation of the Agreement. Such annexes shall be adopted by the Tripartite Council (Draft Agreement, Article 46(1)). This provision contains no reference to the annexes already drafted and to be agreed on as part of the single package of legal instruments now being developed. It should be expressly stated that the annexes already drafted also form an integral part of the Agreement once adopted. The Annex on the Dispute Settlement Mechanism Resolution should accordingly be improved. At present it reads, in Article 3 of Annex 14: This Annex [on dispute settlement] shall apply to Member States in the implementation of the provisions of the Agreement. This is an incomplete jurisdictional clause for a dispute settlement system for a comprehensive regional trade arrangement. This particular annex should contain a provision clarifying the principle that the dispute settlement mechanism will decide disputes about the application or interpretation of any of the applicable T-FTA legal instruments. Since the T- FTA purports to build on the best practices and acquis of the relevant RECs, the applicable provision in one of those judicial organs can be cited as an example of a comprehensive jurisdictional clause. Article 14 of the Protocol on the SADC Tribunal provides: 32

38 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation The Tribunal shall have jurisdiction over all disputes and all applications referred to it in accordance with the Treaty and this Protocol which relate to: (a) the interpretation and application of the Treaty; (b) the interpretation, application or validity of the Protocols, all subsidiary instruments adopted within the framework of the Community, and acts of the institutions of the Community; (c) all matters specifically provided for in any other agreements that States may conclude among themselves or within the community and which confer jurisdiction on the Tribunal. 18 Annex 12 to the Draft Agreement contains the negotiating principles for trade in services, to be negotiated during the second phase. Note, however, that the movement of business persons (which involves services issues 19 ) will be negotiated during the first phase. This sequencing may result in binding decisions being taken during the first phase which may impact on service-related aspects which are to be negotiated later. Annex 12 mentions the following priority sectors: All Member States shall undertake commitments in the following priority sectors: a) Business; b) Communication; c) Transport; d) Financial; e) Tourism and travel related; f) Energy; and g) Construction and Related Engineering. The draft instruments are neither complete nor inherently consistent but constitute a vast and valuable set of preparatory work. The negotiating process will involve a different dynamic and should result in a complete and consistent legal regime. One of the pertinent challenges will be to give effect to the single undertaking requirement. For a single undertaking to be achieved it would mean, for the negotiations, that nothing is concluded till everything is concluded. The staged approach foreseen by the negotiating process and the different entry into force provisions for the annexes will have to be revisited and be aligned to this requirement. 18 The Protocol on the SADC Tribunal is presently under investigation on the basis of a SADC Summit Decision adopted in August 2010 after rulings against Zimbabwe. The Tribunal has not been abolished but no new cases can be heard pending the outcome of the investigation and a technical study. That SADC Summit decision in fact suspended a basic provision and a right of the parties in a manner (ignoring the amendment clause in the SADC Treaty) which raises doubts about its validity. 19 Article 1, Annex 12 defines a business person to include a natural person engaged in trade in goods, the provision of services or conducting investment activities. 33

39 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation Mangeni (2011: 10) also notes that a number of issues have already been identified as potentially controversial. They are: Ownership by the RECs and the countries rather than being driven by the Secretariats, flexibility in terms of allowing the designation of sensitive products on certain terms and conditions to be agreed, and taking decisions by consensus. The single undertaking principle came as a surprise of the last minute, and was probably not given the serious attention it could have deserved. 7. Concluding observations: Why rules and institutions matter What will change once the T-FTA is up and running? The simple answer is that a much larger free trade area of African states will exist which could, if correctly designed and implemented, bring major advantages in terms of market access and trade opportunities. It should increase and facilitate intra-africa trade. Will this happen? The success of the overall endeavour depends on several factors but starts with the political commitment of the participating governments. They should muster the collective effort required to ensure that unambiguous legal instruments are negotiated, ratified and implemented. And they should not invoke the protection of their sovereignty when it comes to respecting their obligations. It is an act of sovereignty to conclude international agreements. Agreements about trade arrangements are based on the simple logic that nations cannot prosper in isolation. The gist of the argument presented here is that the overall arrangement should be based on enforceable legal instruments, effective institutions to monitor implementation, and efficient linkages with laws and structures within the member states. These legal and institutional aspects constitute an essential and enabling governance framework to allow the private sector to engage in those commercial endeavours which will encourage trade and investment and promote economic development. Those who design the T-FTA and conclude its legal instruments have to ensure that certain essential outcomes are achieved. Will the new arrangement be different compared to existing RECs? What does the general design in the drafts for the T-FTA suggest? How will its legal instruments be implemented and will there be institutions to monitor compliance? Will remedies be available to private traders and investors, granted by an independent dispute settlement mechanism; or will political bodies have the final say, especially when 34

40 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation governments are the perpetrators of infringements? Will the problems of overlapping membership be addressed? Some may consider these questions (and the suggestion that the answers to them constitute benchmarks for African integration endeavours) as unfair, since capacity constraints prevent African governments from implementing rules-based trade arrangements. Lack of technical capacity is too easily invoked; it is not always the major problem. When laboratories are needed in order to comply with Technical Barriers to Trade (TBT) and Sanitary and Phytosanitary Measures (SPS) requirements or when technical investigations are required in order to evaluate patent applications, the technical capacity needed is of a sophisticated nature and may not always be available. However, when the task at hand is about enforcing standard customs regulations, implementing tariffs or issuing permits it is less clear what technical capacity is lacking. Capacity is built by allowing officials to perform the tasks for which they have been appointed and trained and by adopting staff management policies which will foster career development. When these elements are lacking it points to management and governance failures, not lack of capacity. With respect to most issues discussed here the essential challenge is about governance. The capacity argument is not a convincing defence when it comes to the failure to respect basic rules about trade, to apply the rule of law at home, and to ensure transparency, access to justice and freedom from corruption. There are encouraging signs of many local solutions to technical capacity challenges. 20 We need more of them. Rules-based trade is about a particular standard of governance for commerce across borders. If traders, consumers and investors cannot rely on certainty, predictability and transparency the T-FTA will not bring about major improvements. The high level of ambition and the technical challenges involved in blending three existing RECs into one new construct may in fact make matters more complicated. The three RECs are not fully consolidated. 21 The fact that the T-FTA has to build on existing regional trade arrangements which suffer 20 In Namibia several abattoirs have been built which allow farmers to export their beef to the EU. Tanzania has overcome problems with fish exports to the same market by establishing, with donor assistance, the laboratories to carry out the required testing. Donors are often prepared to fund such endeavours. 21 In SADC the tariff phase-down process is still not complete. In the EAC some members still impose additional duties on goods traded amongst them for domestic industrial reasons. 35

41 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation from institutional blemishes, poses a particular challenge. Negotiations for the establishment of this T-FTA do not take place on a clean slate. That is another reason why the answers to the questions posed above do matter. The success of the T-FTA will depend on political will and leadership, as well as on dedicated efforts to develop and implement sound rules, establish the right structures, respect obligations and monitor compliance. In many ways these are basic governance tasks; they do not require sophisticated technical skills or copious resources. From experiences in national economies we know how important it is for business people to be able to enforce contractual obligations, to obtain and to be able to rely on official information about the applicable rules, procedures and standards. In national and regional rules-based systems legitimacy, transparency and compliance become systemic and stronger over time. Officials, whether in customs or other areas of trade regulation, should treat all as equal before the law. They must apply and respect the applicable rules and procedures in a fair and transparent manner. If this does not happen, victims should be able to invoke the protection of the law. And they must believe that the system will indeed protect them. The latter is often the critical absent factor in anticorruption campaigns. In this regard the most serious failure is a corrupt judiciary. Regional trade governance consists of the rules and institutions by which authority is exercised. This includes regional institutions to speak on behalf of the collective in those areas where compliance and implementation are vital. It also means that there must be the will and capacity to effectively formulate and implement sound policies, to link domestic and regional implementation arrangements and to ensure that governments will respect the obligations they have entered into. An honest effort to address these issues as part of the establishment of the T-FTA will make a healthy contribution to rules-based trade, better integration results, growth and development. It will even enhance the implementation of the goals of the Abuja Treaty. 36

42 Chapter 1 Legal and institutional aspects of the Tripartite Free Trade Area: the need for effective implementation References COMESA-EAC-SADC Draft Agreement establishing the COMESA, EAC and SADC Tripartite Free Trade Area. (Revised December 2010). COMESA-EAC-SADC Declaration launching the negotiations for the establishment of the Tripartite Free Trade Area. Johannesburg: COMESA-EAC-SADC. 12 June. ECA Treaty establishing the African Economic Community. Abuja, Nigeria: Economic Commission for Africa. ( Abuja Treaty ). Goode, W Dictionary of Trade Policy Terms. Fifth Edition. Cambridge: Cambridge University Press. Langeni, L IDC must act for three African regional bodies. Business Day. 6 December. Mangeni, F The COMESA-EAC-SADC Tripartite arrangement: why the tripartite and where we have reached so far. Discussion document submitted to the trapca Tripartite Forum, Arusha, 5 6 September McCarthy, C Reconsidering regional integration in Sub-Saharan Africa. In Hartzenberg, T. (ed.), Supporting Regional Integration in East and Southern Africa. Stellenbosch: tralac and Danida. [Online]. Available: Naumann, E Making the Tripartite Free Trade Area work. In Hartzenberg, T. et al. Cape to Cairo. Stellenbosch: tralac. New Oxford Companion to Law Oxford: Oxford University Press. Woolfrey, S AU plans to boost intra-african trade and fast-track the establishment of a pan- African FTA. tralac Newsletter. 2 November. [Online]. Available: World Bank De-Fragmenting Africa: Deepening Regional Trade Integration in Goods and Services. Washington: World Bank. WTO World Trade Report Geneva: World Trade Organisation. 37

43 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union Colin McCarthy 1. Introduction In June 2004 the writer presented a paper at a conference On the euro outside the eurozone: the South African perspective. 1 The paper addressed the lessons that southern Africa could learn from European Union (EU) monetary integration and specifically whether the region can take its cue from the euro. The backdrop to the paper was the apparent success at the time of the European Monetary Union (EMU), on the one hand, and on the other, the declared intention of the African Union (AU) and other regional integration arrangements such as the Southern African Development Community (SADC) to evolve into monetary unions in the final stages of linear regional integration. In the latter regard the eurozone was widely considered to be a role model of monetary integration and an exercise that could and should be replicated in Africa. Thus, while the current focus of the Tripartite Free Trade Agreement (T-FTA) comprising the Common Market for Eastern and Southern Africa (COMESA), the East African Community (EAC) and SADC is on constructing a free trade area, Africa s historical fixation with a linear model of regional integration, and recent suggestions by the AU that the T-FTA should be a stepping stone toward African economic union, suggest that the issue of monetary union within the T-FTA region may well be raised in the not-too-distant future. The sceptical views expressed in the paper referred to above (which later also featured in a series of tralac Hot Seat Comments) were not based on inherent weaknesses of the euro as regional currency. The euro was accepted to be a stellar phenomenon in European integration. The argument was that conditions in southern Africa and Africa as a continent did not meet the requisite conditions for successful monetary integration such as macroeconomic convergence, which was a fundamental building block of the eurozone, and 1 See McCarthy (2004). 38

44 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union furthermore, that in regions of disparate economies exposed to diverse external shocks a loss of policy space in exchange and interest rate determination would be inappropriate. Recent developments in the EUM, however, have revealed that the euro construct has fundamental weaknesses which strengthen the argument that monetary union is a step in the process of regional integration that calls for extreme caution. Hence, this chapter extends the argument in support of caution in deciding on monetary union by emphasising certain conditions that the euro crisis has revealed as crucial for monetary union to work. 2 The role model, which started out with acclaim, has in its operation exposed certain structural weaknesses in design. These weaknesses and the conditions for successful union that they imply add more stumbling blocks in the way of achieving monetary union in an African setting. The conclusion of the chapter is that it is unlikely that African countries will meet these conditions. In working toward this conclusion Section 2 briefly defines monetary union within the context of the linear model of regional integration, which places it in a particular sequence of deeper integration. Subsequently, in Section 3, attention is given to two monetary integration arrangements in Africa the Common Monetary Area (CMA) in southern Africa and the CFA (Communauté Financière Africaine) franc of francophone Africa that have their roots in colonial history. It will be argued that these two arrangements cannot be offered as evidence that monetary union can work in Africa. Before discussing the recent euro experience and the lessons that this experience has to offer African policy makers in Sections 5 and 6, the benefits and costs and the conditions of success (the optimal currency area) are briefly reviewed in Section 4. A conclusion is presented in Section Monetary union and the linear model of regional integration The establishment of a monetary union is one of the final stages in the linear model of regional integration. To make this point abundantly clear a brief consideration of the model will be helpful in understanding where monetary integration fits into the overall scheme. 3 2 The author wishes to acknowledge the valuable comments of Prof. Stan du Plessis of the Department of Economics, University of Stellenbosch, on a draft of the paper. 3 The overview that follows draws on McCarthy (2011). 39

45 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union Goods and non-factor services are traded internationally. The global economy also increasingly experiences international factor flows of both capital and labour. Regional economic integration essentially represents efforts to remove barriers to the cross-border flow of goods and factor and non-factor services between the member states of an integration arrangement. It is expected that this geographically restricted liberalisation will contribute to welfare creation associated with an increase in trade while it will also facilitate growth and development through increased investment and competition. Integration can take different forms. Conventionally it starts with the removal of border barriers to trade in goods within a defined region. In the system of multilateral trade management by the World Trade Organisation (WTO) the principle of non-discrimination, embodied in the most-favoured-nation (MFN) clause, 4 is a key canon. However, the General Agreement on Tariffs and Trade (GATT) allows exceptions to the MFN clause, one of which is contained in Article XXIV of the GATT. This allows the establishment of free trade areas and customs unions within which trade in goods is free while tariff barriers are maintained against non-member states. In the case of a customs union the member states share free trade in goods and a common external tariff vis-à-vis non-members. Regional economic integration can be extended by including trade in services, both nonfactor services such as financial, commercial, transport and professional services and unrestrained capital and labour flows. Trade in services is typically constrained by national regulations which need to be amended and harmonised to facilitate cross-border activity, should this be the intention of the integration arrangement. At the multilateral level, trade in non-factor services falls under the WTO s General Agreement on Trade in Services (GATS), which in Article V accommodates economic integration in allowing member states to enter into an agreement to liberalise trade in services, subject to certain conditions being met. The conventional model of linear integration ignores trade in non-factor services up to the stage of customs union formation, but in building on the customs union by adding the free flow of labour and capital a common market is created as a next step in deeper integration. 4 The MFN clause determines that with respect to duties on trade any advantage, favour, privilege or immunity granted by any contracting party to any product originating in or destined for any other country shall be accorded immediately and unconditionally to the like product originating in or destined for the territories of all other contracting parties (GATT 1947: Article 1). 40

46 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union Integration reaches its pinnacle when monetary and fiscal integration is added to a common market, thus creating an economic union. African integration planning and the European experience have been based on this linear model of a step-wise movement through consecutive stages in the integration of goods, labour and capital markets, and finally monetary and fiscal integration. The different sequential steps, in summary, are: first, the formation of a free trade area characterised by intra-regional free trade but with each member state having separate tariffs on imports from the rest of the world and trade controlled by a set of rules of origin to prevent trade deflection (duty-free imports from the rest of the world through the member state with the lowest tariff); 5 second, adding a common external tariff to create a customs union, which effectively removes the problem of trade deflection to which a free trade area is exposed; third, adding the intra-regional free flow of factors of production in what is known as a common market; and finally, an economic union which adds the integration of monetary and fiscal affairs. The convention is that neighbourhood regional integration arrangements are established. 6 African regional integration arrangements are characterised by the ambitious goals they have adopted in planning integration. Of 14 regional economic communities that existed in 2001, nine have a full economic union as the specified objective; one (COMESA) aims to become a common market; another, the Southern African Customs union (SACU), is an established customs union and is to remain that; while the remaining three aim for intraregional free trade or regional cooperation, with the EAC aiming to become a political union (ECA 2004: 29). These agendas are seen as being in line with the desire of the African Economic Community to transform the African economic landscape and to achieve over three decades a strong united block of nations (ECA 2004: 28). An important phase is the strengthening of the constituent building blocks of regional economic communities, 5 It is also possible to identify a lower level of integration in the form of preferential trading arrangements, often of a bilateral nature. This would allow free trade in selected lines of goods, which for these goods might also be restricted through tariff quotas, that is, duty free entry up to a defined volume or value of goods, after which the tariff will apply. 6 Many free trade agreements, as preferential trading arrangements, exist between countries that are not neighbours. 41

47 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union communities that should evolve into free trade areas and customs unions, eventually consolidating and culminating in a common market covering the continent (ECA 2004: 28). 7 The AU and the majority of African regional integration arrangements are very explicit in aiming for monetary union as part of a final integration destination. For the continent as a whole, the Abuja Treaty of 1991 called for the establishment of the African Economic Community by The treaty envisaged an African central bank, a common currency, complete mobility of factors of production and free trade in goods and services in this community. 8 In the case of SADC, which was established as a trade integration arrangement in 1992, a road map exists that envisages a comprehensive monetary union, incorporating a single currency and a regional central bank, to come about in At this point we return to the discussion of monetary union as the main theme of this chapter. A useful point of departure in categorising the monetary integration of sovereign states is to identify the two essential features of monetary integration (Robson 1998). The first is that exchange rates of currencies within a region must be permanently fixed with respect to each other but jointly variable to other currencies. The second characteristic is that full convertibility of currencies must exist. This implies that no exchange controls will exist on either current or capital transactions in the area. To ensure the immutability of these two characteristics, monetary arrangements will have to meet two other requirements. First, the fixed nature of the exchange rates will require monetary policies to be consistent with this objective, which in turn will require that the instruments of monetary policy assigned to the region must be exercised solely by its monetary authority. This implies a loss of autonomy for member states in this field and thus a serious restriction of their policy space. Second, since the exchange rate of the region s currencies must vary jointly against external currencies, responsibility for exchange rate policy must also be assigned to the region. The same applies to the management of the 7 It is informative that to date none of the regional integration arrangements has actually progressed to a fully fledged customs union with completely free trade behind a common external tariff between member states. SACU, dating back to 1910 and hence the oldest operating customs union in the world, has a historical legacy that dates back to colonial times and is an exception to the rule. 8 In 2001 the political momentum of regional integration increased when the Constitutive Act of the African Union entered into force. The AU was formally launched in April 2002 at a summit meeting in Durban, South Africa. 42

48 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union region s balance of payments with the rest of the world and to the pool of foreign exchange reserves. When these requirements are met, according to Robson (Robson 1998: 191), the resulting arrangement can be described as one of complete monetary integration, or of monetary union. In effect there would then be a single currency, although nominally differentiated currencies might continue to coexist 3. The Common Monetary Area and the CFA franc zone Variation in the degree of the regional integration of markets in goods and services is a wellknown phenomenon. Although less extensively recorded in the literature, the degree and nature of monetary integration can also vary, albeit within a narrower range of possibilities compared to the integration of goods and services markets. The focus of this chapter is on monetary union in the sense of a single currency being adopted in a region with a regional central bank accepting responsibility for the issue and management of the region s currency. By definition this implies a single regional (short term) interest rate and exchange rate for the currency. However, in Africa there are two monetary integration arrangements of long standing that do not meet the requirements of full and comprehensive monetary union, namely the Common Monetary Area (CMA) which integrates the money and capital markets of Lesotho, Namibia and Swaziland (LNS) into that of South Africa, and the CFA franc zone which has the CFA franc linked to the euro, subsequent to its earlier and historical link to the French franc. 9 The CMA has the South African rand as its anchor currency. Historically it evolved from what was known as the Rand Monetary Area (RMA). The CMA operates in terms of the Multilateral Monetary Agreement (MMA) and three supporting bilateral agreements between South Africa as the one party to each agreement and respectively Lesotho, Namibia and Swaziland (LNS) as the other party. The main characteristics of the CMA are as follows (McCarthy 2009): 9 An interesting case of monetary integration in Africa, which falls outside the scope of this paper, is the de facto dollarization of the Zimbabwean monetary system, with the US dollar having replaced as circulating currency the Zimbabwean dollar that was rendered worthless by devastating hyper inflation. 43

49 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union LNS issue their own national currencies which are legal tender only within their respective domains. The MMA determines that the coin and note issues in each country must be clearly distinguishable in appearance from the currency issued by other member states. The LNS currencies are pegged at par against the rand. The South African rand is legal tender throughout the CMA. Within LNS, the respective national currencies and rand are convertible through authorised dealers. In practice, all traders keep a mix of both currencies in their cash tills and are willing to provide change in either the national currency or rand. Although the national currencies are not legal tender in South Africa there is a growing tendency among South African traders in the border areas to accept the currency of the smaller countries. The bilateral agreements of South Africa with Lesotho and Namibia require the central banks of the latter two countries to keep foreign reserves at least equal to the national currency in circulation. Rand balances held in a Special Rand Deposit Account with the South African Reserve Bank (SARB) form part of Lesotho and Namibian foreign reserves. The provision of foreign reserves as a cover for national currency in circulation is not contained in the Swaziland bilateral agreement but experience has been that the Central Bank of Swaziland maintains foreign reserves in excess of currency in circulation (Wang et al. 2007: 10 n7). Since the rand is legal tender in LNS they are compensated for seigniorage foregone. The formula that applies is a payment equal to two-thirds of the annual yield on the most recently issued long-term South African government bonds multiplied by the estimated volume of rand circulating in the particular country. Article 3 of the MMA provides for the free flow of funds, whether for current or capital transactions, within the CMA. The exception to this rule is prescribed investments which local financial institutions are compelled to maintain. These are seen as a means of mobilising domestic savings for development purposes. 44

50 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union The CMA Agreements effectively require LNS to maintain foreign exchange control measures that in all material aspects are similar to those that apply in South Africa. However, they are responsible for authorising foreign transactions of local origin. 10 Residents of LNS have access to the South African money and capital markets through provisions that allow LNS public securities to be held as part of the prescribed investments of South African financial institutions, in accordance with the prudential regulations that apply in LNS. To support the orderly management of financial markets the LNS governments must reach agreement with the South African authorities on the conditions, timing and other relevant terms in respect of the issue or conversion of public securities. South Africa may not withhold agreement without reasonable cause. Although the central banks of LNS, since the introduction of their own currencies, have been responsible for their own monetary policies, the smaller member countries have lost their ability to implement these policies independently of the monetary policy adopted by the South African Reserve Bank. The SARB is not represented on the boards of the LNS central banks (and neither are LNS central banks represented on the Board of the SARB and its Monetary Policy Committee); and although no formal arrangements for common interest rates in the CMA exist, interest rate movements in LNS are synchronised with changes in the Reserve Bank s repurchase rate (bank rate), which means that de facto a single monetary policy set by the SARB applies throughout the CMA. The implementation of the CMA is facilitated by a Common Monetary Area Commission in which each member state has a representative supported by advisors. The commission meets regularly to discuss and reconcile interests with regard to monetary and exchange rate policy issues. Disputes that might arise can be dealt with by a tribunal provided for in Article 9 of the MMA. Given the anchor role that the SARB 10 Under current foreign exchange control measures, residents must surrender their foreign exchange receipts to authorised dealers who, apart from working balances, are required to sell the foreign exchange to the national central bank. There are restrictions on current transactions of residents and none, both current and capital, on non-residents. The restrictions on the transaction of residents are to ensure that capital flows are not disguised as current payments. Consequently, limits are placed on the value of current transactions such as travel allowances for tourists and business people, and gifts to non-residents. The South African Reserve Bank is in the process of liberalising foreign exchange control. 45

51 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union plays in determining the monetary policy of South Africa effectively the monetary policy of the CMA an important arrangement is the meeting of senior researchers from the central banks of the four member states to exchange economic information before the periodic meetings of the SARB Monetary Policy Committee (Van Zyl 2003). It is clear that the CMA is a unique hybrid of monetary integration. It evolved in a colonial regime that brought political independence to a number of territories that shared an integrated economy, which is dominated by South Africa. Trade integration was from early on accommodated through SACU, which is also an excise union. 11 Four member states of SACU South Africa, Lesotho, Namibia and Swaziland serve as an example of variable geometry and an exception to the convention of strictly adhering to the linear model of integration by adding a particular and unique form of monetary integration to a customs and excise union. Botswana, the fifth member of SACU, is not part of the CMA. Botswana used to belong to the RMA but in 1974 it announced its intention to withdraw from the RMA. The pula was introduced as sole legal tender in Botswana in August The current practice of pula exchange rate determination, adopted in May 2005, is that of a crawling peg. Small adjustments are continuously made to the exchange rate against a basket of currencies to allow the pula to move in line with expected future inflation rate differentials. Because of the large share of imports from South Africa, the basket is heavily weighted in favour of the rand which has meant that the rand/pula exchange rate, compared to the rand/us dollar rate, has been very stable. Another well-known African monetary integration arrangement with roots that can be traced to colonial times is the CFA franc zone. The CFA was created in December 1945 when France ratified the Bretton Woods Agreement. At the time the abbreviation CFA stood for Colonies Françaises d Afrique (French colonies of Africa) but currently it stands for Communauté Financière Africaine (African Financial Community). Fundamental differences 11 SACU is an excise union as well as a customs union essentially because of the porous borders between the member states and consequently the difficulties in managing separate excise regimes. However, the fact remains that this adds an element of fiscal integration to the customs union, which is not in line with strict adherence to the linear model of integration. It must be emphasised that SACU has not been the outcome of pro-active plans to integrate independent neighbouring states, but is a historical legacy that evolved as a means to deal with separate political entities within an economically integrated region. SACU does not represent a model of integration that can be replicated elsewhere in Africa. 46

52 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union between the CFA franc zone and the CMA are found in the fact that the franc zone is not a single area sharing a single currency, and in the fact that the currency peg is not to a currency of the region as is the case with the rand being the anchor currency of the CMA. The CFA franc zone is in fact two separate regions, each with its own currency and central bank, which share the common bond of having had France as a colonial power. In West Africa there is the CFA franc issued by the central bank (Banque Centrale des États de l Afrique de l Ouest) of the eight-member West African Economic and Monetary Union (UEMOA) and in central Africa there is the CFA franc issued by the central bank (Banque des États de l Afrique Centrale) of the six-member Economic and Monetary Community of Central Africa (CEMAC). The two currencies are effectively pegged at par via each being pegged to the euro at CFA francs = 1 euro. The euro peg was calculated at the European monetary union from the fixed exchange rate of 100 CFA francs = 1 French (new) franc = euro. Neither of the two regions currency is legal tender in the other or in France. Reserves for the two regions of the CFA franc zone are pooled at their respective central banks and attributed to each of the constituent member states, as is the monetary circulation. Having a fixed peg limits the ability of the two central banks to have an independent monetary policy. Monetary management is guided by a reserve cover ratio of foreign exchange reserves (of which 65% is to be held with the French Treasury in an operations account) to the short-term liabilities of the central bank. When the reserve ratio falls below 20% for three consecutive months, the central bank takes emergency measures to protect the parity by increasing official interest rates and reducing refinancing ceilings. The central banks are not responsible for the supervision of the regions banking systems. Each region has its own supervisory institution. Banks in each of the two regions need banking permits which allow them to open branches in any country within the particular region, although in practice banks do not operate across national borders. The CFA zone has always been more than a monetary integration arrangement. The influence of France in the economic and noneconomic spheres of the francophone countries has been pervasive, although it can be argued that this influence is waning. 47

53 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union The two African monetary integration arrangements, characterised by links to anchor currencies, are unique examples of monetary integration which evolved as historical legacies of colonial times. They cannot be compared to the arrangements that are envisioned when the African Union and regional arrangements such as SADC and the EAC hold monetary union out as a destination in the integration process. Monetary union and the adoption of a common regional currency, issued and managed by a regional central bank, is the goal and in proactively planning these steps little can be gained from considering the experience of special monetary integration arrangements that trace their origins to unique historical, preindependence developments. How realistic and appropriate is the goal of monetary union and are there lessons to be learned from the current euro crisis? Before the euro experience is reviewed, consideration is first given to the benefits and cost of monetary union and the conditions for success. 4. Benefits and costs of monetary union and conditions for success Benefits The linear model of regional integration, as has been noted earlier, portrays deeper regional integration as a linear process of consecutive steps in which the establishment of a monetary union superimposes monetary integration on integrated product and factor markets. The benefits expected from integration are greater effectiveness of market integration in realising the positive welfare effects of trade creation and the dynamic benefits of growth and increased competitiveness, as well as greater efficiency in allocating factors of production in a larger, regional economy. Monetary union with its single currency in a common market has a special contribution to make in improving the effectiveness of integration. This is done by reducing the transaction costs of trade and investment. The common market becomes absolute: no constraints exist on cross-border trade and investment in a region where a single unit of account and means of payment will have a substantial positive impact on facilitating comparisons of market prices, planning and making transactions, and on the conclusion of commercial and investment-related contracts. Not only are the cost and cumbersomeness of currency conversions removed but a major source of uncertainty, namely possible unforeseen 48

54 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union variations in the exchange rate, is eliminated. The benefits to trade are obvious, but so is the benefit to be expected for cross-border investment, as well as foreign direct investment (FDI) from outside the region. Investment, both FDI and by firms within the region, will not only benefit from greater market opportunities that integration offers but also from the macroeconomic stability that monetary union is expected to bring about across the region. From the perspective of macroeconomic management, monetary union and its limitation on policy discretion (see next section) has the benefit of a smaller risk premium for those countries that enter the union with comparatively higher rates of interest. In the EMU, Greece and Italy, for example, eliminated the bond market consequences reflected in higher interest rates because of poorer macroeconomic management by becoming part of the EMU. Costs The potential cost for a country that joins a monetary union is embodied in the loss of policy space. The deepening regional integration is characterised by an escalating loss of policy sovereignty. Adopting the common external tariff of a customs union means that individual member states lose the ability to use the tariff as an instrument of trade and industrial policy. Freedom of intraregional factor flows in the establishment of a common market means that national independence in having national labour market policies is largely sacrificed while free regional capital flows will constrain the national ability to regulate capital markets as part of national economic development policy. Should a country join a monetary union it sacrifices the ability to use monetary policy as a means of stabilising the economy. Specifically, the country s central bank transfers its ability to use the nominal exchange rate and short-term interest rate as instruments of macroeconomic stabilisation to the regional central bank, which operates as a supranational institution. The burden of national macroeconomic stabilisation will now fall on fiscal policy exclusively, which in the real world of policy design and implementation tends to be less flexible as well as socially and politically more difficult than using monetary policy. This much will become clear when the euro experience is brought into the picture. 49

55 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union If the desire for national sovereignty per se is ignored, sacrificing policy sovereignty is not necessarily a cost, a cost that will be realised at all times and under all conditions. However, it becomes a cost once we cross the threshold into the integration of disparate economies exposed to asymmetrical and diverse external economic shocks. For example, in a monetary union of member states with wide variations in the composition of import and export trade, the burden will fall on national fiscal policies to adjust to major and diverse changes in the terms of trade, fairly rapid changes in regional capital and labour movements, and on changes in competitiveness to stabilise a member state that has been exposed to an external shock. Imagine a monetary union of X (a major copper producer and exporter), Y (an oil exporting country), and Z (a country with a fairly diversified output and trade structure). Major international developments leaves the oil price largely unaffected but the copper price falls by 40% with a dramatic impact on X s terms of trade. Country X is worse off in terms of what it can buy with a basket of export goods. Prior to monetary union the standard demand management response to such a situation would be a currency devaluation accompanied by an increase in interest rates. Under a regional single currency regime these options do not exist, requiring the government of X to reduce government spending (for example, on social services) in an effort to bring aggregate demand in line with supply. If X represents one of the many commodity exporting developing countries with a narrow tax base, the copper industry will be a major source of tax revenue. The fall in the price of copper will dampen this source of revenue, thus aggravating the burden that expenditure cuts will have to bear. This is not a complete picture of the consequences of not being able to depend on the exchange and interest rates as adjustment mechanisms in the event of external shocks. The asymmetry of conditions can be sharper. For example, the oil price might have increased because of supply problems in the Middle East, while X, in the wake of previously high copper prices might have irresponsibly consumed the mineral rent by granting a growing number of civil servants large salary increases, while also increasing expenditure on social services. However, the example will suffice to make the point that it is difficult to cope with asymmetrical external shocks if the menu of policy instruments available to a national government has been reduced severely. This can be regarded as a cost or downside of monetary union. 50

56 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union Conditions for success At this point the narrative requires consideration of the conditions required to achieve successful monetary union. These conditions, which are derived from the theory of the optimum currency area, 12 determine the requirements needed to accommodate or counter the possible costs associated with monetary union. In considering the optimality of a monetary union, in other words, the conditions that need to be met in order to have a sustainable and effective monetary union, three questions have to be answered: First, what types of forces are member states exposed to that can disturb their macroeconomic equilibrium, specifically current account imbalances? Second, how closely are member states factor markets integrated? Third, how closely are their fiscal systems integrated? A fourth question concerning macroeconomic conditions prior to joining or forming a monetary union is crucial: to what extent do the member states converge in terms of fundamental macroeconomic variables such as the size of government deficits (expressed as a percentage of Gross Domestic Product GDP), current account balances and inflation? It stands to reason that economies with substantial differences in these variables could hardly form the basis for a viable monetary union. However, assuming that the prior conditions of convergence are met, the successful operation of the union will depend on the answers to the three questions posed above. If the member states are exposed to asymmetrical external disturbances, the development of current account imbalances is likely, in which case cross-border labour and capital flows as well as fiscal transfers will be required to stabilise the regional economy. The latter flows and transfers, which have to bear the brunt of stabilisation in the absence of the exchange rate as policy variable, will require substantial factor market and fiscal integration to be effective. However, labour flows are not without cost: it is costly for workers once retrenched to change jobs and even more costly to move to another country. In developing 12 Robert Mundell (1961: ) published a pioneering article on optimum currency areas. 51

57 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union and also in developed countries, the focus of public opinion and media attention often falls on labour migration, creating the impression of the smooth and virtually costless relocation of workers, ignoring the cost of this migration. But fiscal integration also brings to the fore an important condition, which, depending on the national psyche, could be regarded as a cost or downside of monetary union. In order to have intra-union fiscal discipline and transfers, fiscal integration to the point of substantial fiscal union is required, which means that fiscal union complements monetary union in the establishment of an economic union. But can a country that has sacrificed its sovereignty with respect to the exchange rate, the interest rate and finally its ability to decide on taxes and government spending at the highest tier of government still be regarded as independent? Clearly not, and this explains why economic union with its fiscal integration is only possible if it is accompanied by political integration. An economic union of countries requires at least the formation of a federal state such as the United States of America, or what is hoped for by some, the United States of Europe. 5. The euro crisis European monetary integration and the establishment of the eurozone, managed by the European Central Bank (ECB), represented a spectacular step towards deeper integration within the EU. This created a two-part EU: the eurozone member states, which in time came to include 17 EU countries and the remaining 10 EU member states that included some countries, such as the United Kingdom, Sweden and Denmark, that qualify for membership but have decided to remain outside the zone. As noted earlier the introduction of the euro has been seen as a role model in Africa, a development that could and should be replicated in the process of African economic integration. However, the euro has in recent times experienced a serious dent in its reputation. Toward the end of 2011 the currency union found itself in a deep crisis, which some observers believe could bring about the end of the zone, at least in its current form. The current and widely held perception is that the crisis serves to illustrate shortcomings in the architecture of the zone, with an impact that is not restricted to member states only but 52

58 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union is now a source of contagion that could create serious problems for the world economy. 13 How does one explain this situation and what lessons can be learned for monetary integration elsewhere in the world, notably in Africa? It is beyond the scope of this chapter to review the eurozone crisis in any detail. What is required is the identification of crucial developments and factors that could be relevant as guidelines in assessing the appropriateness of proceeding to monetary union in the Africa. The root cause of the euro s problems is that the zone covers a group of disparate economies and simply does not meet the conditions of an optimum currency area. A Financial Times columnist recently aptly described the situation:...today s crisis is structural, stemming from the euro s flawed design and particularly the misguided notion that a common monetary policy could work without integration of other policies and not just fiscal policy... lashing 17 disparate economies together monetarily and expecting them to march in step was ludicrous (Rattner 2011). President Sarkozy of France in an address to party supporters implicitly raised similar thoughts: There can be no common currency without economic convergence without which the euro will too strong for some, too weak for others, and the eurozone will break up ( Sarkozy and Merkel demand, 2011: 59). The EU countries that initially formed or later joined the European Monetary Union had to meet important convergence criteria with respect to inflation, interest rates, budget deficits, national debt and exchange rates 14 and were subsequently subject to a uniform monetary policy under a regime of a short-term central bank rate set by the ECB and a single marketdetermined exchange rate. However, eurozone participation brought together countries with substantial differences in competitiveness which did not converge. The operational 13 It is unlikely that African banks and financial institutions will be directly affected by the euro crisis since their balance sheets will not significantly be exposed to holdings of euro country government bonds or depend on European banks for access to liquid reserves. However, should the euro crisis cause a sharp downturn in EU economic activity this will have a negative impact on the demand for African exports. Although the share of Sub-Saharan Africa s exports destined for Europe has declined from 33.8% in 2000 to 27.9 per cent in 2008, Europe remains an important destination ( For many African economies this share could be significantly higher. An additional negative outcome of poor economic conditions in Europe will be a decline in aid destined for African countries. In some cases, European governments are committed to a fixed percentage of national income allocated to foreign aid. The British commitment to foreign aid equal to 0.7 percent of national income is an example of this. A decline in national income will bring about a fall in the value of the share of income devoted to foreign aid, which will add to the discretionary falls in aid allocations by governments that find themselves in fiscal problems. 14 For the purposes of this paper the contention that the Greek government compiled and provided data which did not accurately reflect the true extent of the government deficit is ignored. 53

59 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union rules of the eurozone provided for macroeconomic convergence but not for economic convergence. The end result has been a divergence between member states with stable and competitive economies experiencing current account surpluses and fiscal discipline, exemplified by Germany, and economies that were not competitive, with large government and current account deficits, exemplified by Greece. Deficits and the replacement of maturing bonds have to be funded in the capital market by issuing euro-denominated government bonds. While all euro states are subject to the same ECB rate, essentially a short-term rate, interest rates in the capital market are determined by market forces, which meant that the disparities between member states came to be reflected in growing divergences in sovereign debt rates. The interest rates that investors came to expect on the bonds of the weaker economies grew to levels that far exceeded those on the bonds of the stronger economies. It was not unusual for the spread between the rates of German and Greek bonds (the premium on Greek bonds) to exceed more than 20 percentage points. Since new bond issues can only be placed in the capital market at current market rates, the high interest rates demanded of the weaker euro economies result in an unsustainable fiscal liability. Interest on public debt must be paid from tax revenue which means that high and increasing interest rates represent a severe fiscal strain on economies that are expected to lower their fiscal deficits. Since the fiscal strain cannot be absorbed, external assistance from various sources such as the International Monetary Fund (IMF) and European Stabilisation Fund is required to support the deficit economies. The euro s exposure to the views that exist and to positions taken in capital markets has also served to illustrate the powerful force and danger of contagion. Since prices in the capital market are determined by the forces of supply and demand, a weakening in demand can be driven by market perceptions of the likelihood of future capital losses should interest rates increase. Market fears are contagious and are reflected in lower prices paid for government bonds of countries expected to face difficult times. In the eurozone, Ireland and Greece were given external bail-out assistance but when Italy came into the firing line of negative expectations through contagion a precarious situation developed. The rate on Italian debt at one stage increased to above seven percent in capital markets, which is generally regarded as an unsustainable fiscal burden. Compared to Ireland and Greece, Italy is a large European economy with financial needs and a stock of debt that cannot be accommodated through 54

60 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union external assistance and intervention. Furthermore, the size of the economy and its debt would leave European banks, which hold government bonds as a large part of bank capital, with huge losses on their balance sheets should there be a debt default or if banks are forced to accept so-called haircuts (cutting the value of bonds) on their bond holdings. The banking system in Europe and further afield would be severely exposed to possible failure, which would create extreme strains in the economies of Europe and in the wider world economy. The only short-term solution to this problem of a lack of confidence is for the ECB to intervene as lender of last resort for Europe s banks by accepting the lower-quality bonds as collateral for loans to the banks to provide liquidity in the banking system. The discourse on eurozone developments has brought to the fore an interesting interplay of views on the role of the central bank. Among the leading members of the zone, France has become a vocal protagonist of ECB intervention through purchases of the government bonds of member states that find themselves in need of support. Effectively, this means that the debt is monetised with the central bank acting as lender of last resort to governments. However, the ECB is a regional central bank and has to deal with the strong opposition of Germany to such a move. The devastating hyperinflation of the 1920s and its consequences have embedded a strong fear of money creation and associated inflation in the German psyche and have provided the support for a constitutional guarantee of the independence of the Bundesbank, its monetary discipline, and the subsequent strength and superior reputation of the Deutsche mark as a sound currency. For Germany, sound money is the begin-all of macroeconomic policy and consequently the monetary union and the euro were accepted on the firm condition that these elements would be the building blocks of the ECB. Mario Draghi, the new chairman of the ECB, has in the midst of the euro crisis, confirmed that the central bank will act as lender of last resort for Europe s banks but not for governments. The German view is that structural reform is required in the eurozone, reform that would build fiscal discipline into the system, and not ECB intervention accompanied by the collectivising of eurozone debt by issuing eurozone bonds ( stability bonds, also referred to as eurobonds), a proposal put on the table by the European Commission and strongly favoured by France. These bonds would have the 17 euro members sharing debt risks, which will lower the interest cost for countries such as Greece but raise the cost for Germany. 55

61 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union Independence of a regional central bank The independence and accountability of a regional central bank is a facet that might be of considerable importance when a regional central bank is considered for an African region such as SADC. In a single country, which could be a federation, the independence of a central bank can be constitutionally enshrined or it can be determined through a law that establishes the central bank as a statutory, independent body. But independence is not an absolute prerogative; in the final instance a central bank can only maintain its independence if the public wishes it to be independent and no cleverly designed charter or treaty can solve the problem of defining public when independent countries sacrifice their monetary sovereignty to a regional central bank. In the case of a regional central bank being established the only solution would be for the independence of the central bank to be enshrined in an intergovernmental agreement (a treaty) that can only be changed through a unanimous decision of member states. But what, more precisely, is meant by structural reform? Such reform could be seen to contain many elements but essentially what Angela Merkel, the German chancellor, means by this is reopening the Lisbon Treaty by adding elements of fiscal union to the monetary union. Apparently, a fully fledged fiscal union is not currently being considered; the German preference is for limited treaty changes that will impose fiscal discipline on eurozone member states with scrutiny over eurozone national budgets and the provision of sanctions if countries do not comply. The EU bond proposal of the EC also contains treaty changes that would provide for serious new EU powers that will allow the overriding of national budgets and for non-compliant countries to be taken into administration. However, these measures will not address the fundamental problem of the large differences in competitiveness between euro states and consequently the current account imbalances that exist. Much of the widespread scepticism that the eurozone will survive in its current form and membership intact is based on the belief that the substantial differences in competitiveness and severe current account imbalances cannot be solved in a sustainable way without a significant adjustment of currencies. This can only occur if a weak economy 56

62 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union leaves the eurozone. Fiscal transfers and external assistance will only paper over the problem of built-in instability of a currency union of widely disparate economies. A summit of the heads of government of the EU on 8 and 9 December 2011 did not produce an agreement by all 27 member states on reopening the Lisbon Treaty to negotiate changes that will allow the 17 eurozone countries to adopt new rules on fiscal integration and the stabilisation of the euro. The United Kingdom, in defence of the City of London as an important world financial centre, controversially exercised its veto, which means that the Lisbon Treaty cannot be changed, leaving as the only viable route an intergovernmental agreement of potentially 26 EU states. 15 This introduces a legal quagmire: can the EU institutions that represent all 27 member states (the European Commission with its surveillance and enforcement powers and the European Court of Justice) be used by a group of countries acting outside the EU treaties in implementing the decisions and outcome of a an intergovernmental agreement concluded by a lesser number? The agreement concluded by the 26 member states does not envisage full fiscal union. Three elements can be identified in the agreement on eurozone management. The first is a fiscal compact providing for the enforcement of the principle of balanced budgets and an annual structural deficit of no more than 0.5 percent of GDP and automatic fines for eurozone countries that breach a three percent deficit limit. 16 The second is to enhance the scope of intervention (strengthening the so-called firewall protecting the euro) to stabilise the euro through an enlarged European Financial Stability Facility (EFSF) and the new European Stability Mechanism (ESM) that will be replacing the EFSF in 2013, as well as an extra 200bn to be lent by eurozone and other EU states to the IMF to increase the fund s ability to assist euro countries in need of such support. Third, the ESM will not require the involvement of private bondholders in any future rescue operations. It is far from clear what the future holds in implementing this agreement and how each of the signatory states will respond once the agreement has been scrutinised and digested. One conclusion seems clear: eurozone countries will end up with less fiscal sovereignty. The 15 Not all the 26 heads of government signed the agreement unconditionally. Sweden, an important EU member that is not a eurozone country, will be taking the agreement to its parliament for consideration and a final decision. 16 A structural deficit is of a long-run, non-cyclical nature, arising from a fundamental imbalance in government revenue and spending. 57

63 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union process might not start out as a fully fledged fiscal union but every eurozone country will have to comply with externally determined and monitored fiscal rules that create limits to the policy space within which a country can operate. The final outcome cannot be foreseen with certainty but considering the dynamic forces of regional politics at play and a serious commitment of some member states to deeper integration, it is equally difficult not to see comprehensive fiscal union as outcome in the long run. 17 But as noted earlier, adding fiscal union to monetary union, and thus the establishment of fully fledged economic union, will also require political union. One thing is certain: the EU will undergo fundamental change, but not always on the basis of considered and proactive planning of the member states and the EU s governing structures; external forces (read market forces ) are likely to enforce change through crisis management. Financial markets, both in their capacity as primary and as secondary markets, are crucial in funding private and public sector spending. What the euro crisis has vividly demonstrated is the importance of certainty as a force that drives market movements. As custodians of the public s savings, capital market institutions are forced to look ahead and form a judgement on what the future holds with respect to asset prices. The euro crisis has created a world of uncertainty for the markets, a world in which they immediately respond to any development or announcement that could affect their degree of anticipated risk. The consequence has been extreme market volatility and efforts to seek safe havens to provide protection in times of growing uncertainty, be these German bunds, gold or any other asset that is seen to be relatively safe. Since the eurozone and its difficulties are a major source of uncertainty, moves to address these difficulties will be critically assessed by the financial markets looking for clear signals on what the future holds. 18 What this amounts to is that changes to the architecture of the eurozone will have to pass the litmus test of market views on the sustainability and effectiveness of the changes. The collective wisdom of financial markets 17 The position taken by the UK government on the re-opening of the Lisbon Treaty and on other EU issues is largely based on a desire, apparently supported by the majority of the British public, not to be involved in closer integration in Europe. A substantial number of British citizens and organisations resent the loss of sovereignty brought about by the past transfer of powers to Brussels. 18 Jacques Delors, who was president of the European Commission from 1985 to 1995 and is widely considered to be the farther of the euro, recently had this to say on markets and uncertainty: Markets are markets. They are now bedevilled by uncertainty. If you put yourself in the position of investment funds, insurance companies and pension funds, you will understand that they are looking for a clear signal ( Euro doomed 2011). 58

64 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union will judge every move that EU leaders make, starting with the agreement reached by the 26 member states. The question remains: what lessons can we learn from the eurozone experience that can guide integration in Africa? 6. Monetary union in Africa reconsidered As noted earlier, monetary union is on the agenda of most African regional integration arrangements, including the overarching African Union, and furthermore it is a development that is expected within a relative short period of time. For SADC, monetary union after 26 years is ambitious, considering that the EU was more than five decades into its process of economic integration before it ventured to the point of monetary union and this after a gradual process of integrating monetary affairs in an established and operating common market. Currently, the SADC free trade area that came about in 2008 is not fully operational for all member states and the customs union that was to have been established in 2010 has been postponed. It is safe to assume that 2018, noted in the SADC roadmap as the target date for monetary union, is an idle hope. However, the time taken to establish a monetary union in a linear process of integration is not the pertinent issue; if it is hypothesised that at some point in the future a monetary union could be a fait accompli, the main question is: will it be an appropriate development in itself that will give rise to the benefits noted earlier? Furthermore, what does recent euro experience, once regarded as the model of monetary integration, tell us in this regard? First, monetary union requires more than ex ante macroeconomic convergence with respect to selected indicators such as inflation and government deficits; member states must also converge in their competitiveness. Furthermore, after forming or joining a monetary union, economic and macroeconomic convergence must be maintained. 19 Should imbalances arise, the second feature to note is the inevitable reliance on fiscal constraints to adjust the economy by removing the imbalances. When countries such as Greece, Portugal, Ireland and 19 Economic convergence refers to the phenomenon of catch-up growth, that is, poorer countries catching up with richer countries in terms of indicators like per capita income. Essentially this is indicative of convergence in competitiveness. 59

65 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union Spain found themselves in situations of serious imbalances with unsustainable and growing fiscal deficits, they could not rely on the interest rate and on exchange rate depreciations to improve competitiveness and bring about equilibrating changes in their economies. In the absence of central bank intervention they have to rely on fiscal austerity and external assistance. Improving government finance in weak economies in the short term could not come from increasing revenue by raising taxes but only from severe cutbacks in government spending. The social impact of this was immediate, with large numbers taking to the streets in protest against cuts in spending on social benefits, services and the public sector wage bill. Fiscal policy, unlike monetary policy with its indirect impact on relative prices, has a direct and immediate impact with repercussions in the political domain. In democracies, cabinet decisions on fiscal restraint have to be approved by a body representing citizens and there is no way that these representatives can hide the painful decisions from their constituents. The electorate will also be aware not only of the consequences of required fiscal efforts to restore balance but will also hold collective views on the causes of the imbalances, which typically will be attributed to weak governance in the past. As the experience in all these countries has shown, the outcome is a change in government with new governments having to impose the unpopular fiscal measures required to restore a modicum of equilibrium. Changing the jockey of an underperforming horse does not remove the inherent weaknesses of the horse; neither does it allow the new jockey to avoid the only techniques available to get the horse to run faster. The analogy holds for changes in government. Fiscal restraints have painful consequences and unless the underlying causes of a lack of competitiveness are removed they are bound to create a fertile ground for persistent political instability. It must be emphasised that the impact of monetary adjustment is not less painful; it is merely contended that fiscal austerity has a more direct impact with severe political repercussions. Two avenues of escape from this dilemma exist. The first is to get those competitive economies with positive balances, with the additional support from international agencies such as the IMF and the World Bank and from surplus economies that do not belong to the monetary union, to fund the deficits of the weaker economies. This can be done through loans or the purchase of the public debt of the deficit countries as a means of allowing them access to capital market funding at affordable rates of interest. 60

66 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union A second escape route is intervention by the central bank of the region. When the central bank buys the bonds of the ailing economies their debt is monetised, a development which may not to be acceptable to the surplus member states. If the central bank is independent and committed to the typical central bank goal of protecting the value of the currency which means that containing inflation is seen as its principal objective the bank itself may be reluctant to intervene. The scenario sketched so far allows a number of tentative conclusions when viewed from an African, and specifically SADC, perspective. Relying on fiscal austerity to restore balance has a direct political impact. In the eurozone the currency crisis and reliance on fiscal constraint have had political consequences with democratic changes in the political guard. In Africa, not many, and in SADC only a small minority of states, have a history of a democratic change of government in the post-colonial era. If, in this setting, imbalances are to be addressed by fiscal constraint only, peaceful and democratic change in government is not likely in many cases; persistent political unrest, with masses protesting against declines in service delivery and more autocratic styles of government, is more probable. Most African economies also have poorly developed financial systems without active primary and secondary bond markets. Captive bond markets can be created by legally compelling financial institutions to invest in the debt of the government at low rates that do not reflect market realities. However, the pool of public savings held by financial institutions tends to be relatively small and incapable of absorbing large amounts of government debt. Many African countries rely on international aid transfers to cover deficits and in particular circumstances this could be a source of assistance. It is possible to envisage unconditional foreign aid to cover deficits of an African least developed country (LDC) in cases where, for example, these arise because of an unforeseen deterioration in the terms of trade following a sharp fall in the prices of export commodities. However, should the deficits be the outcome of profligate government consumption expenditure on items such as a growing wage bill, continuous access to unconditional foreign aid is unlikely. 61

67 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union An important question raised by the eurozone experience, which illustrates that fiscal union is a necessary complement of monetary union, remains: will African states accept arrangements that restrict their fiscal sovereignty? The answer to this question can at best be speculative but if the experience of African states poor commitment to regional arrangements and the loss of policy space this requires are anything to go by, it is difficult to be optimistic. The slow progress in meeting the targets of deeper integration set out by integration arrangements is a conspicuous feature of African regional integration, notably that of SADC. Many reasons have been given for this but one that is relevant to this chapter is the loss of policy sovereignty integration brings about. An important step in the linear process adopted by African integration arrangements is to establish a customs union, which requires member states to sacrifice national independence in setting import tariffs. Two perspectives or positions can be identified in this regard. For some countries, such as South Africa, the import tariff has always been seen primarily as an instrument of industrial policy, a way of protecting selected domestic industries against foreign competition. However, for many less developed African economies import tariffs are important, if not the most important, sources of government revenue. This effectively places import tariffs within the domain of fiscal policy. Sacrificing tariff decisions (both levels and the distribution of customs revenue) to a supranational regional body implies a loss of sovereignty over an important source of revenue and, in this sense, represents a loss of fiscal sovereignty. This loss of policy space could partly explain the reluctance to progress more rapidly to deeper regional integration by countries that have a much shorter experience of independence than the European economies. To move toward some form of fiscal union would not only expand the loss of national control over revenue but also include external sanction over spending decisions. As developing countries LDCs in many instances African economies rightly attach substantial weight to the role of government spending (patterns and levels) as an instrument of development. Fiscal union would be taking the process of integration a step too far to be acceptable to African economies. The desire for fiscal sovereignty also counts against a popular argument in favour of monetary union, namely that a regional central bank could act as an agency of restraint, thus 62

68 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union improving the credibility of macroeconomic policy. It has been argued that the pure economic arguments in favour of African monetary integration initiatives are few but they may on political economy grounds, be a second-best solution for African countries that are seeking to make a credible commitment to pursue sound monetary policies (Guillaume and Stasavage 2000: 1391). If, however, it is accepted that effective monetary union requires strong elements of fiscal union, the agency-of-restraint contention loses some of its force as an argument of why countries would agree to monetary union. A fundamental source of monetary union instability, clearly revealed by the experience of the eurozone, can be the disparate nature of the economies included in the union. In Africa, this primarily manifests not so much as differences in competitiveness but in exposure to diverse asymmetrical shocks because of differences in the composition of production and trade, which are characterised by dependence on one or two primary commodities as drivers of economic activity and trade. As far as the product composition of trade is concerned, favourable commodity markets during have added to concentration in trade by contributing to a fall in the share of sub-saharan Africa manufactured exports in total merchandise exports. Following the custom of defining goods listed in the Standard International Trade Classification (SITC) 5 8 (Revision 3) 20 as manufactured products, the share of manufactured exports in total SSA merchandise exports declined from 16% in 2000 to 10% in 2008, with a commensurate increase in the share of primary commodity exports. For SADC, the differences in the exposure to external conditions are revealed in divergent movements in the net barter terms of trade. 21 These differences are shown for SADC member states in Table 1. SADC countries have open economies, as revealed by their respective merchandise trade to GDP ratios, and to the extent that different movements in the net barter terms of trade are indicative of differences in exposure to external forces that the disparate changes in the terms of trade during a ten-year period ( ) are conspicuous. On the improvement 20 SITC 5 entails chemicals, 6 entails manufactured goods classified by material, 7 entails machinery and transport equipment and 8 entails miscellaneous manufactured articles. The trade data on which the calculations are based were obtained from Comtrade (2009). 21 The net barter terms of trade is defined as the percentage ratio of export unit value indexes to the import unit value indexes, measured relative to a base year. In short, therefore, it is the export price index divided by the import price index and multiplied by

69 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union side of the scale there are countries at the top end, such as Angola and Zambia, which benefited from increases in the price of oil and copper respectively, whereas diamondproducing Botswana experienced deterioration in its terms of trade because of the negative impact that the worldwide economic contraction has had on the price of diamonds. Susceptibility to asymmetric external shocks is one reason to question whether it is appropriate to expect these economies to sacrifice the exchange rate and interest rate as policy variables. Such an expectation may be less than prudent. In fact, external shocks and the differences in economic structures and the challenges the countries face may require some divergence in these variables as instruments of adjustment. However, Table 1 raises the question whether the experience of Lesotho does not contradict this argument. As explained earlier, Lesotho is a member of the CMA and its currency, the loti, is linked to the South African rand at par. Since 2000, Lesotho has experienced a substantial deterioration in its terms of trade, but linked to the appreciating rand (the South African terms of trade also improved significantly) the loti also appreciated, which is contradictory to what one would expect as appropriate given the deterioration in the terms of trade. However, a reasonable level of economic stability could be maintained because of Lesotho s SACU membership, which through the revenue distribution mechanism contributed an average of 59% of total government revenue during the fiscal years 2006/7 and 2007/8, allowing an average budget surplus of 12% of GDP. 22 This means that Lesotho, like Swaziland and Botswana, whose currency, the pula, closely follows the rand, could endure a currency linked to an appreciating rand because of the special dispensation that exists in the form of its SACU membership with its commensurate revenue dispensation. 22 See the following: Lesotho, Ministry of Finance and Development Planning, Background to the 2009/10 Budget: A Review of Economic Performance, ; Economic Prospects, ; and Medium Term Fiscal Framework, 2009/ /12, Table

70 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union Table 1: Net Barter Terms of Trade (NBTT) of SADC member states (2000 = 100) Source: World Bank (2010) Merchandise Trade/GDP % NBTT 2010 NBTT Angola Botswana Congo DR Lesotho Malawi Mauritius Mozambique Namibia Seychelles South Africa Swaziland Tanzania Zambia Zimbabwe The eurozone experience demonstrates the important role of capital markets and of market perceptions in adjusting to intraregional imbalances. Earlier, it was noted that African economies in many instances do not have developed capital markets that trade in public debt. However, this phenomenon will add to the disparate nature of countries in a regional integration arrangement. In SADC, South Africa, which has sophisticated financial markets that are on par with those of developed economies, is anticipated to form part of monetary union with countries like Malawi, Mozambique and Zambia where developed financial markets do not exist. Monetary union will require, and in the linear model of integration presupposes, the integration of financial markets. This could prove to be a conundrum of the first order with real issues arising in member states willingness to accept a regional regulatory system and the likely dominance of South African institutions. A further important lesson from the euro experience is the importance of political collaboration and cohesion between member states. Regional integration arrangements such as the EU and those found in Latin America and Africa are first and foremost motivated 65

71 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union by political objectives but are constructed primarily by using economic building blocks. Politicians as policy makers have to deal with the loss of policy space, whether economic, social or political, that integration efforts bring about, and in Europe there is wide agreement that the current problems of the eurozone will have to be solved in the political domain, which is dominated by different national perspectives. It must be left to students of politics and African politics in particular, to form a firm view on whether Africa s political leaders will find it easier to cope with the challenges of monetary union and what this requires in terms of fiscal integration, than the eurozone leaders have. Considerations of national sovereignty become important and in this respect the observation by Robert Mundell (1961: 661) is apt: In the real world, of course, currencies are mainly an expression of national sovereignty, so that actual currency reorganization would be feasible only if it were accompanied by profound political changes. In view of the poor progress made with African regional integration, 23 it is hard to believe that African countries in general will be willing to accept the profound political changes required by monetary union. Also, considering the relative youth of the independent nation states in Africa and the efforts made to build national identities, many countries might be reluctant to sacrifice an important symbol of sovereignty, namely their own currencies. 7. Conclusion The eurozone used to serve as a model arrangement to be replicated in Africa. However, recent experience has revealed serious shortcomings in the structure and operation of the zone, notably the need to complement monetary union with fiscal integration, the problems that arise if disparate economies are members of a common currency area, and the need for wise and strong political leadership to manage integration and deal with crises that could develop. These factors must be added as further complications to the downside of countries exposed to asymmetrical external shocks that have to sacrifice sovereignty in monetary policy, including exchange and short-term interest rates, to a regional central bank. In view of these considerations monetary union, especially within the timeframe envisaged in 23 There is, to quote Geda and Kebret (2008: 357), consensus that regional integration efforts in Africa registered disappointing results. 66

72 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union African integration arrangements, is a step that should be considered with great caution, if at all. Supporters of the goal of monetary union in African regional integration arrangements may be tempted to refer to the CMA and CFA franc zone, instances of monetary integration arrangements noted for their longevity, in support of the argument that monetary union can work in Africa. This would be false reasoning. Neither of these arrangements are examples of monetary union of the form featured in this chapter and anticipated by arrangements such as SADC, but instead are unique monetary integration exercises based on the principle of linked currencies, each firmly rooted in pre-independence history, and are hardly replicable. Scepticism about the wisdom of monetary union in the sense of having a regional central bank and a common currency in African integration arrangements does not imply scepticism about the benefits that are to be derived from increasing trade in services, including financial services. A critique of the linear model of integration adopted in the African context has been provided elsewhere; 24 suffice it to note that a crucial point of criticism is that strict adherence to this model ignores in early pre-common market stages of integration the importance of intraregional trade in services in facilitating regional growth and development. Opening markets in the region to trade in financial services can contribute to enhancing economic efficiency by facilitating trade in goods and investment. 24 See footnote 2. 67

73 References Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union Comtrade World exports by provenance and destination. [Online]: Available: Delors, J Euro doomed from the start. The Daily Telegraph, 2 December. ECA Geda, A. and Kebret, H Regional Economic Integration in Africa: A Review of Problems and Prospects with a Case Study of COMESA. Journal of African Economies, 17, 357. Guillaume, D.M. and Stasavage, D Improving Policy Credibility: Is There a Case for African Monetary Unions? World Development, Vol. 28(8), Wang, J.Y., Masha, I., Shirono, K. and Harris, L The Common Monetary Area in Southern Africa: Shocks, Adjustment, and Policy Challenges. IMF Working Paper, WP/07/158. p. 10 note 7. Lesotho. Ministry of Finance and Development Planning. Background to the 2009/10 Budget: A Review of Economic Performance, ; Economic Prospects, ; and Medium Term Fiscal Framework, 2009/ /12, Table 1.6. McCarthy, C African Regional Economic Integration: Is the paradigm relevant and appropriate?. In Herrmann, C. and Terhechte, J.P. (eds.), European Yearbook of International Economic Law. Berlin: Springer-Verlag. McCarthy, C Lessons that Southern Africa can learn from EU Monetary Integration can our region go the euro path? Conference arranged by the European Union mission to South Africa on the Euro outside the Euro Zone: The South African perspective, 7 and 9 June 2004, Cape Town and Johannesburg. McCarthy, C The Common Monetary Area in Southern Africa a comparative assessment of its nature, development and experience. Unpublished report prepared for the Dubai Economic Council. Mundell, R A Theory of Optimum Currency Areas. The American Economic Review, Vol. 51(4), Rattner, S Look to America for lessons in sharing a currency. Financial Times, 21 October. Robson, P The Economics of International Integration. Fourth Edition. London: Routledge. 68

74 Chapter 2 Monetary union: the experience of the euro and the lessons to be learned for African (SADC) monetary union Sarkozy and Merkel demand relaunch of European ideal with treaty of solidarity. The Times, 2 December, p. 59. Van Zyl, L South Africa s experience of regional currency areas and the use of foreign currencies. BIS Papers No 17. [Online]: Available: World Bank World Development Indicators 10. Washington D.C.: World Bank. [Online]: Available: WTO The Legal Texts of the Uruguay Round of Multilateral Trade Negotiations. GATT 1947, Article 1. p. 423 (424). 69

75 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Ron Sandrey and Hans Grinsted Jensen 1. Introduction and the model Sandrey et al. (2011) simulated a full free trade area (FTA) between the Common Market for East and Southern Africa (COMESA), the East African Community (EAC) and the Southern African Development Community (SADC) after each of these three regions itself has made the necessary steps to full subregional integration. The interest in that study was in the Tripartite FTA only, and that research assumed that the necessary starting point for the Tripartite FTA was the fully functioning operation of the three sub-ftas in the Tripartite region. A major point of departure for this chapter is that the three initial FTA full steps for SADC, EAC and COMESA are analysed sequentially before the full Tripartite FTA is operational. This enables the separate benefits from each partner FTA to be examined prior to the final Tripartite COMESA-EAC-SADC FTA (T-FTA). We note that in order to reach the final T-FTA there needs to be a resolution about the overlapping memberships in the region, and unfortunately this problem is somewhat exaggerated by the Global Trade Analysis Project (GTAP) country/regional aggregation. For example, Kenya is aggregated into a regional group that includes, among other countries, Sudan 1. Annex 1 shows a table outlining the problem of overlapping membership and how this complicates not only the politics but also our modelling results. How we treat the overlapping membership problem and the associated issue of the sequencing of the FTAs needs to be explained. In this report we run four sequential FTA scenarios: 1) SADC, 2) EAC, 3) COMESA and 4) T-FTA. Each one is deemed to be fully operational before the next simulation in the sequence is run. We deliberately model the SADC FTA first, not because we believe it is likely to be the first region to reach comprehensive FTA status but because our analysis also concentrates on South Africa. Basically, if a country like Mauritius belongs to both SADC and COMESA, and Kenya belongs to both EAC and COMESA, there will be no gains to Mauritius for sugar exports to Kenya from the Tripartite FTA as it already has that access 1 We note that in early 2011 Southern Sudan voted to break from Sudan and form an independent country. We have not factored this into the analysis. 70

76 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts due to both countries belonging to COMESA. Thus, as Sandrey et al. (2011) discuss, it is hardly surprising that as both the powerhouse of Africa and one of the few countries not claiming multiple memberships, South Africa gains the most from a final Tripartite FTA. The objective of this chapter is therefore to simulate and report on not only the Tripartite FTA but also the three FTA pathways to that agreement. We believe that such an analysis provides a step-by-step pointer to the potential gains. Importantly, the theme of this chapter is to concentrate upon the manufacturing sector as distinct from the earlier analysis that concentrated upon the agricultural sectors. A final note needs to be made that although the same model and associated database used in this report were also used by Sandrey et al. (2011) there may be minor differences in the reported results for the final Tripartite FTA. This is because different product aggregations are used in the model and this can make a slight difference to the final figures. In summary, the sequentially additive macroeconomic results of the four FTAs are as follows (differentiating the numbers as done in the full study indicates the impacts of each FTA): Scenario 1: SADC FTA only As a result of this initial SADC FTA the real exchange rate in South Africa increases by 1.33% due to the increased demand for South African exports to the region. This increased activity increases national income by 2.18% while prices increase by a lesser 1.04% resulting in an increase in national welfare of US$4 755 million when measured as the Equivalent Variation (EV) in income with fixed prices. Scenario 2: SADC and EAC FTAs Here the real exchange rate increases by 1.33% due to the increased demand for South African exports. The increased activity in the South African economy increases national income by 2.18% while prices only increase by 1.04%. This results in an increase in national welfare of US$4 738 million when measured as the EV in income with fixed prices. 71

77 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Scenario 3: SADC, EAC and COMESA FTAs Here the real exchange rate increases by 1.33% due to the increased demand for South African exports. The increased activity in the South African economy then increases national income by 2.18% while prices again increase by 1.04%. The net result is an increase in national welfare of US$4 733 million. Scenario 4: SADC, EAC, COMESA and Tripartite FTAs Finally, the real exchange rate increases by 1.70% due to the increased demand for South African exports. The increased activity in the South African economy increases national income by 2.79% while prices only increase by 1.33% resulting in an increase in national welfare of US$6 045 million. 1.1 The GTAP database/model GTAP is supported by a fully documented, publicly available global database, as well as underlying software for data manipulation and for implementing the model. The framework is a system of multi-sector economy-wide input/output tables linked at the sector level through trade flows between commodities used both for final consumption and intermediate use in production. The latest GTAP pre-release Version 8 database divides the global economy into 112 countries/regions with 57 commodities specified in the database. The database represents global trade in the year 2007 measured in millions of (2007) US dollars (US$). The standard GTAP model is a comparative, static, general equilibrium model, which means that while it examines all aspects of an economy via its general equilibrium feature (as distinct from a partial equilibrium approach that examines only the sector under consideration), it is static in the sense that it does not specifically incorporate dynamics such as improved technology and economies of scale over time unless these are specifically built in. The economic agents of consumers, producers and government are modeled according to neoclassical economic theory, with both producers and consumers maximising their profits and welfare respectively with markets assumed to be perfectly competitive and all regions and activities linked. Results are measured as a change in welfare arising principally from the 72

78 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts reallocation of resources within an economy and the resulting changes in allocative efficiency, terms of trade effects 2, capital accumulation and changes in unskilled labour force employment. This change in welfare is based upon a representative household, so unless this is modified it is not possible to examine the distributional aspects other than through the skilled/unskilled labour market closures. The standard GTAP model also does not address the time path of benefits and capital flows over time. These changes are important as they allow consumers to borrow, which in turn allows consumption patterns to vary over time. 1.2 The interpretation of GTAP results The GTAP model expresses the welfare implications of a modeled change in a country s policy as the Equivalent Variation in income. The EV in income measures annual change in a country s income (gains or losses) from having implemented, for example, an FTA. The EV in income is simply defined as the difference between the initial pre-fta income and the post-fta income after implementation of the FTA, with all prices set as fixed at current (pre-fta) levels. EV in income = post-fta income pre-fta income If a country s EV in income increases due to a policy change, the country can increase its consumption of goods equal to the increase in income and thereby improve the national welfare in the country. The EV is a doubly effective measure for measuring the global economic impacts of an FTA agreement between groups of countries. Firstly, the EV provides a monetary valuation of effects induced by FTA policy changes globally and at the country or regional level, so as to illuminate winners and losers. And secondly, the EV also facilitates comparisons of different policy scenarios, given that income changes are measured in initial base prices. 2 Where terms of trade are the relative changes in import and export prices following a change. Improved allocative efficiency within a country comes about as it moves resources into more internationally competitive activities following a reduction in its own border protection. Paradoxically, it is this allocative efficiency that provides most of the benefits to the home country from reducing its own protection rather than the exporter gaining better market access as the partner country reduces tariffs. This is an example of where a general equilibrium model is often able to counter the common mercantilist argument that a country needs protection to develop its own industrial sector. 73

79 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts These total welfare gains/losses can be decomposed into contributions from improvements in allocative efficiency, capital accumulation, changes in the employment rate of the labour force, and in terms of trade. Gains from allocative efficiency arise from improved reallocation of productive resources (such as labour, capital and land) from less to more productive uses. For instance, when import tariffs are abolished, resources shift from previously protected industries towards other sectors, which are more in line with the country s comparative advantage, producing an increase in real Gross Domestic Product (GDP) and economic welfare. Terms of trade effects are the consequence of changing export and import prices facing a country. So, when a country experiences an increase in its export price relative to its import price (e.g. due to improved market access), it may finance a larger quantity of imports with the same quantity of exports, thus expanding the supply of products available to the country s consumers. Whereas allocative efficiency contributes to increases in global welfare gains, changes in terms of trade affect the distribution of global welfare gains across countries; essentially, one country s terms of trade gain is another country s terms of trade loss. The global total must therefore add to zero, and if a large proportion of the benefits to South Africa from an FTA is derived from terms of trade effects, this implies transfers to South Africa from the rest of the world. Capital accumulation summarises the long-run welfare consequences of changes in the stock of capital due to changes in net investment. A policy shock affects the global supply of savings for investment as well as the regional distribution of investments. If a trade agreement has a positive effect on income through improvements in efficiency and/or terms of trade, a part of that extra income will be saved by households, making possible an expansion in the capital stock. At the same time, rising income will increase demand for produced goods, pushing up factor returns and thus attracting more investments. Generally, economies with the highest growth will be prepared to pay the largest rate of return to capital, and will obtain most of the new investments. Therefore we will tend to see that the long-run welfare gains from capital accumulation reinforce the short-term welfare gains deriving from allocative efficiency and terms of trade. 74

80 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts The welfare effects of changed employment rates are consequences of changes in the extent of the unskilled labour force employed due to changes in the real wage. In a situation where the demand for labour and thereby the real wage increases, the amount of labour employed increases, reducing the relative rise in the real wage and thereby increasing the competitiveness of the country s industries (increasing EV in income). 1.3 The GTAP simulation The analysis undertaken in this chapter is based upon a variant of the GTAP model to simulate the impact of possible multilateral market access reforms resulting from a Tripartite FTA. The database is the Version 8 pre-release GTAP database (Badri & Walmsley 2008) with the base year 2007, 3 where the 2004 tariff data originating from the Market Access Maps (MAcMap) database has been used with some verification and minor modifications. The main unskilled labour market closure of the model has been changed so that the supply of unskilled labour is endogenously determined by the labour supply elasticity. As with any applied economic model, this model is, of course, based on assumptions, both in terms of theoretical structure and the specific parameters and data used. Regional production is generated by a constant return to scale technology in a perfectly competitive environment, and the private demand system is represented by a non-homothetic demand system (Constant Difference Elasticity function). 4 The foreign trade structure is characterised by the Armington assumption implying imperfect substitutability between domestic and foreign goods. The macroeconomic closure is a neoclassical closure where investments are endogenous and adjust to accommodate any changes in savings. This approach is adopted at the global level, and investments are then allocated across regions so that all expected regional rates of return change by the same percentage. Although global investments and savings must be equal, this does not apply at the regional level, where the trade balance is endogenously determined as the difference between regional savings and regional investments. This is 3 The documentation of the Version 7 database can be found on the website Documentation of the Version 8 database is not available at this point in time (October 2011). 4 Hence, the present analysis abstracts from features such as imperfect competition and increasing return to scale, which may be important in certain sectors. We are therefore using what can be thought of as a base GTAP structure. 75

81 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts valid as the regional savings enter the regional utility function. The quantity of endowments (land, skilled labour and natural resources) in each region is fixed exogenously within the model, while the extent to which unskilled labour is employed is endogenously determined. The capital closure adopted in the model is based on the theory according to which changes in investment levels in each country/region appear on-line instantly, updating the capital stocks endogenously in the model simulation. 5 Finally, the numeraire used in the model is a price index of the global primary factor index. The applied ad valorem equivalent (AVE) tariff data found in the GTAP Version 8 database originates from the MAcMap database, contributed by the Centre d Etudes Prospectives et d Information Internationales (CEPII). The MAcMaps database is compiled from United Nations Conference on Trade and Development (UNCTAD) TRAINS data, country notifications to the World Trade Organisation (WTO), the Agricultural Marketing Access Database (AMAD), and from national customs information (Bouet et al., 2005). The MAcMap database contains bilateral applied tariff rates (both specific and ad valorem) at the 6-digit Harmonised Systems (HS6) level. These are then aggregated to GTAP concordance using trade weights Baseline projections Before simulating the trade policy (FTA) scenario, we construct a baseline scenario to serve as an updated basis for analysis. The baseline scenario updates the standard database with a projection of the world economy from 2007 to 2020, applying suitable shocks to GDP, population, labour and capital, as well as incorporating the most important developments, realised or planned, since We have identified and updated the database with the developments such as the implementation of the Trade, Development and Cooperation Agreement (TDCA), and, most significantly, we have assumed that the Economic Partnership Agreements (EPAs) between all African countries except South Africa and the European Union (EU) will be implemented. For the EPA we have assumed that (a) EU27 tariffs are reduced to zero for all EPA countries except for sugar and beef where reductions of 50% 5 This capital closure adopted in the model is the so-called Baldwin closure as documented in GTAP Technical Paper no Although the base year is 2007 for macro data and trade data, the tariff data (AVE) is from This should make little difference to the result as tariff changes over the 2004 to 2007 period were minimal. 76

82 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts were made rather than to zero, (b) for South Africa the EU reduces their tariffs by 20% in an agreement associated with the EPA, and (c) all EPA countries reduce their tariffs by a blanket 40% on EU imports. 7 For the country/regional aggregation we have used the countries and aggregations as shown in Table 1. Table 1: GTAP countries/regions used and their associated GTAP codes The Tripartite countries zaf South Africa bwa Botswana xsc Rest of SACU (Lesotho, Namibia and Swaziland) xac Rest of southern Africa (Angola and DRC) egy Egypt, xnf Rest of North Africa (Libya and non-tripartite Algeria) eth Ethiopia mdg Madagascar mwi Malawi mus Mauritius moz Mozambique tza Tanzania uga Uganda zmb Zambia zwe Zimbabwe xec Rest of East Africa (including Kenya and Sudan) Rest of Africa all non-tripartite countries/regions in Africa chn China eu EU27 us United States of America ind India bra Brazil rus Russian Federation row Rest of the world Source: GTAP database 7 We appreciate that this may not be an exact representation of the EPA outcomes but it seems to us a realistic one. 77

83 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Notes: The three available groupings for SACU are of South Africa and Botswana as countries in their own right and the only option of the Rest of SACU comprises Lesotho, Namibia and Swaziland. This is of course not ideal as the three economies are very different, but there is no alternative. There are another 13 Tripartite countries/regions, although note that xnf, the Rest of North Africa, includes Algeria with Libya. All other African countries/groupings outside of the Tripartite FTA are in one group. The remaining groupings comprise China, the EU, The United States of America (US), India, Brazil, the Russian Federation and the rest of the world (row). For the GTAP sectors we have used the full set of 16 manufacturing sectors that are available but we often only report on the main ones of interest. Agriculture is merged into (a) primary agriculture and (b) secondary agriculture, while natural resources and services are merged into their respective aggregated sectors as the focus of this report is on manufacturing. As always, we apply shocks to GDP, population, labour force, and capital to project the world s economy to the baseline year of 2020 a year in which we assume that an FTA could be fully implemented. The projection of the world economy uses the exogenous assumptions listed in Table 2, and is important in shaping the baseline scenario. The general sources for the assumptions in Table 2 are given in a footnote to the table, and these assumptions represent the best estimates of the possible future path of the data. The GTAP model then determines changes in output through both an expansionary and a substitution effect in each country/region of the model. The expansionary effect represents the effects of growth in domestic and foreign demand shaped by income and population growth and the assumed income elasticities. The substitution effect reflects the changes in competitiveness in each country/region shaped by changes in relative total factor productivity, cost of production as well as any policy changes. The GTAP model uses this set of macroeconomic projections to generate the best estimate of global production and trade data for The relative growth rates of each country/region for GDP, population, labour, capital and total factor productivity play an important role in determining the 78

84 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts relative growth in output of the commodities when projecting the world economy from 2007 to 2020, and we can now take the resulting data set from this baseline simulation as the new base for our FTA scenario. A simulation scenario measures the difference between our baseline model s output in 2020 in the absence of, for example, the FTA, against the likely output if an FTA were concluded. The model results shown in this chapter present the isolated effect of a possible FTA or other simulated scenario in the year Table 2: Macroeconomic projections expressed as average annual growth rates, Quantity Real GDP Total Population Total Labour Force Unskilled Labour Skilled Labour Capital Total Factor Productivity zaf bwa xsc egy rafrica xnf xac eth mdg mwi mus moz tza uga zmb zwe xec chn eu usa ind bra rus row Source: World Bank forecasts, Walmsley (2006) and own assumptions Note: The annual growth rate in total factor productivity (TFP) is determined endogenously by the exogenous variables (GDP, unskilled/skilled labour force and capital), the model and the associated database. 79

85 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts 1.5 The FTA scenarios The four FTA scenarios considered in this chapter entail the results of the removal of trade barriers sequentially between 1) SADC, 2) EAC, 3) COMESA and finally 4) the full Tripartite FTA as measured in the year 2020 in a world shaped by the baseline scenario. This implies that: all ad valorem tariffs and ad valorem equivalents of specific tariffs between COMESA, the EAC and SADC, and finally all Tripartite FTA countries are sequentially abolished; an assumed two percent blanket tariff equivalent to represent non-tariff barriers (NTBs) has been built in to proxy a reduction in these barriers from each FTA. We note that there is no empirical justification for that two percent level other than an intuitive feel that NTBs are often of that level or even considerably more; A similar two percent NTB has also been applied to services to proxy some gains from an FTA where services trade has been factored in. When all ad valorem tariffs and ad valorem equivalents of specific tariffs between members are abolished, the differences between the so-called baseline scenario and then each sequential FTA scenario as measured by the gains at 2020 in 2007 real dollar terms are therefore the result of the implementation of each of the simulated FTAs. Importantly, as distinct from Sandrey et al. (2011), this approach highlights the interim benefits for the three regional groupings of activating their own FTAs although we reiterate that the sequencing of the FTAs may make a difference to countries with multiple memberships. 80

86 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts 2. The big picture: GTAP results We start the results review with Table 3 that shows the changes in welfare from the four FTAs as discussed earlier plus the overall final total. The data is expressed in US dollars (millions) as one-off increases in annual welfare at the assessed end point of The results for South Africa for the SADC and Tripartite FTAs in particular are impressive: for the SADC FTA welfare increases by some US$4 755 million and for the Tripartite FTA welfare increases by a further US$1 312 million. South Africa is virtually unaffected by FTAs of EAC and COMESA to the north with minor losses in both instances. To put these SADC and Tripartite welfare gains in perspective: they each are significantly higher than the welfare gains found from tralac research using an earlier version of GTAP (Sandrey et al., 2010) to assess the gains from FTAs with the Mercado Comun del Sur (Mercosur) (US$236m) and China (US$295m). Clearly, the current policy thrust of concentrating upon firstly SADC and then Tripartite integration is the best pathway for South Africa. 81

87 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Table 3: Change in welfare (EV of income) from sequential FTAs (US$ millions) Country /region SADC Step 1 EAC Step 2 SADC COMESA Step 3 Tripartite Step 4 Total Benefit zaf bwa xsc xac mdg mwi mus moz tza zmb zwe EAC xec uga COMESA egy eth xnf Non-Tripartite r afr chn eu usa ind bra rus row World Source: GTAP results 82

88 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts The other features from Table 3 are: The GTAP welfare result for South Africa s fellow SACU members from the FTA shows a different picture. Botswana demonstrates a welfare loss of US$38 million from SADC integration and a further loss from the Tripartite FTA. The Rest of SACU as an aggregation of Lesotho, Namibia and Swaziland shows significant gains of US$323 million from SADC and a further gain of US$84 million from COMESA Swaziland is a member of COMESA and our hypothesis 8 at this stage would be that Swazi sugar enters Kenya with better access conditions. The aggregation of Angola and the Democratic Republic of Congo (DRC) loses heavily from SADC integration in particular (the reasons for this will be explored later). Both Mozambique and Tanzania show welfare gains of half a billion dollars from SADC integration, while Zambia gains US$233 million and the other SADC members gain between US$17 million for Malawi and US$97 million for Mauritius from SADC. South Africa and Mozambique, two countries that belong exclusively to SADC, are the only SADC countries to show significant welfare gains from the Tripartite FTA, while only Tanzania gains from EAC, but, as outlined above, the Rest of SACU (Swaziland) gains and Angola/DRC loses from COMESA. With the EAC countries, the Rest of East Africa (read mostly Kenya) gains significantly from each of the three first step FTAs but loses some of these gains in the final Tripartite FTA step, while Uganda makes solid gains from COMESA and EAC FTAs. Within the exclusive COMESA countries, Egypt gains US$422 million from COMESA and another US$184 from the Tripartite FTA, Ethiopia s gains are almost exclusively from COMESA while the Rest of North Africa (Libya) gains moderately but really only from SADC and COMESA. As expected, all outside parties (except Russia in the case of SADC) lose significantly and sequentially across the FTAs as their trade is replaced by FTA partner members. Overall, the SADC FTA is globally welfare enhancing and the Tripartite FTA moderately so, but COMESA in particular is not. 8 This is actually confirmed in detailed agricultural results from Sandrey et al. (2011). 83

89 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts The negative results for many member countries from the Tripartite FTA can be explained by the time path taken to reach the adoption of this Tripartite FTA. Here we sequentially modelled all three regional FTAs to be fully activated sequentially, and we have taken the current memberships at their face value. This means, for example, that Tanzania is a member of both EAC and SADC, with zero tariffs operating between other members of each group. For these countries with multiple memberships there is therefore (a) a limited upside from a Tripartite FTA as they already have most of the gains through being allied with an extensive grouping and (b), consequently, when South Africa, the dominant economic powerhouse in the region and a country without multiple memberships enters the full Tripartite FTA, these countries with multiple memberships face new competition. This suggests that provided the FTAs were to be sequenced reasonably quickly in the real world, multiple membership is not such a big an issue (aside from logistical problems such as rules of origin, etc). This is, however, a big proviso. 3. The SADC FTA This section will consider the SADC FTA in detail, with special emphasis on the results for South Africa. We start by presenting Table 4, which shows the welfare results for the SADC FTA as detailed in the second column of Table 3 (also the second column of Table 4). The results for South Africa are impressive: welfare increases by some US$4 755 million. These gains to South Africa result from the contributing factors of increased investment expanding the capital stock (US$2067m) and allocative efficiency gains of US$1 148 million as resources are better employed in the economy. These are enhanced by solid gains from increased labour employment (US$505m) and by the terms of trade improvement of US$1 035 million resulting from a favourable change in relative prices between South African exports and imports. The big loss for Angola/DRC is also spread across the various contributing factors, while the overall global gain is weighted towards better global capital allocation (and within South Africa in particular). 84

90 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Table 4: Change in welfare (EV of income) from SADC FTA only (US$ millions) SADC FTA only Allocative Total Efficiency Labour Capital Terms of trade zaf bwa xsc xac mdg mwi mus moz tza zmb zwe xec uga egy eth xnf rafr chn eu usa ind bra rus row Total Source: GTAP results 85

91 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Table 5 expands on the welfare gains for selected T-FTA economies to show on the left-hand side what the actual percentage changes are in terms of trade, real GDP and factor income. The right-hand side of the table provides some insights into where the contributions to changes in factor income derive from, and the individual contributions that add to the total factor income. Column 3 (real GDP) shows that South Africa gains by 0.95%, while Botswana s loss is 0.05% and the Rest of SACU s gain is 1.15%. GTAP output tells us that South Africa s income increases by 2.19%, while prices only increase by 1.043%. This is in turn equivalent to an increase of US$4 755 million in South Africa s income when prices are fixed. Mozambique shows a big GDP gain of 3.55% as the country becomes fully integrated into the SADC region, while Zimbabwe s gain is an even more impressive 8.0%. Recall from above that Angola/DRC loses heavily from the SADC FTA, but Table 5 shows that this loss is only 0.42% of real GDP as of This is a direct result of the enhanced size of the aggregated Angolan/DRC economies at 2020, as Table 2 shows that the best projections are for stratospheric GDP growth rates of 11.5% from 2007 through to that time Table 5: Percentage changes in terms of trade, real GDP and factor income, 2020 Terms of trade Real GDP Total Factor Income With contributions from Land Unskilled labour Skilled labour Capital Natural resources zaf bwa xsc egy xac eth mus moz tza zmb zwe xec Source: GTAP results 86

92 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts On the right-hand side of Table 5, the relative contributions to total factor income 9 are shown. These must equate with the total factor income percentages shown. Thus, for South Africa s 2.25% increase in total factor income, the majority (1.0%) comes from capital, skilled labour (0.42%) and unskilled labour (0.78%), land (0.1%) and a small contraction from natural resources. Note that for land, skilled labour and natural resources, the quantities are fixed in the GTAP model, so the small changes derive from price changes as their values are bid up or down, while for both unskilled labour and capital, where the quantities are not fixed, there is both a price and a quantity effect. Mozambique s gains derive from unskilled labour and capital, while Zimbabwe gains strongly across the board. Changes in trade flows Table 6 introduces the aggregate overall changes to trade flows for the different countries/regions in 2020, expressed as percentage changes in both exports and imports, and then in US$ million for the trade balance. The trade balance is fixed in the model to savings minus investments, so the FTA increases investments more than savings in South Africa thus reducing the trade balance by US$758 million as these investments are sourced from abroad. The Rest of SACU sees both exports and imports increase, while there is little difference to Botswana. Angola/DRC sees a large increase in its trade balance as measured here, while most of the other SADC countries see a similar pattern to that observed in South Africa of increasing trade but negative balances. For non-sacu countries (both within Africa and outside of the continent) the changes in trade flows as a percentage are only really noticeable in the Rest of East Africa. 9 In this chapter the percentage change in factor income is defined as the percentage change in returns to primary factors employed in the economy (i.e. the returns to land, labour, capital and natural resources). These changes in returns to primary factors employed occur due to reallocation of resources in the economy (allocative efficiency), changes in employment and changes in investment/capital stock which are all driven by price changes due to the modelled FTA tariff reductions. These changes in factor income occur with no changes in the production technology employed in the economy (no changes in Total Factor Productivity) as we have not modelled technological spillovers through trade in the FTA scenarios. 87

93 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Table 6: Percentage changes in quantity of total imports, total exports and trade balance, 2020 % change in Change in trade Exports Imports balance US$m South Africa Botswana Rest of SACU Egypt, Libya/Algeria Angola/DRC Ethiopia Madagascar Malawi Mauritius Mozambique Tanzania Uganda Zambia Zimbabwe Rest East Africa Rest of Africa 176 China EU United States India Brazil Russia Rest of the world Source: GTAP results 3.1 The individual GTAP sectors in South Africa This section presents the production, trade and relative price changes in the main GTAP sectors for South Africa. Table 7 shows the changes from the sectors used: primary agriculture, secondary (processed) agriculture, natural resources, the 16 manufacturing sectors and services. Column 1 shows GTAP sectors, with Column 2 showing the output increase in US dollar (million) values, and Column 3 indicating that output change in percentage terms. The next two columns show firstly the percentage changes in exports, then imports, and finally the right-hand column shows the change in real producer output prices. 88

94 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Table 7: Changes to South Africa s production, trade and output prices GTAP code Change in output % Change in quantity US$ million % Exports Imports Change in price primary agriculture P_agr secondary agriculture S_agr natural resources nat textiles tex apparel wap leather (footwear) lea lumber lum paper products, publishing ppp petroleum, coal p_c chemicals, rubber, plastics crp other mineral products nmm iron & steel i_s metals, etc. nfm vehicles mvh metal products fmp other transport otn electrical goods ele other machinery ome other manufacturing omf services serv Total Source: GTAP results The outcome from Table 7 shows significant gains for primary, but more especially, secondary agriculture but virtually no changes in natural resources. The focus of this report is on manufacturing and the results show big increases in the output of chemicals, rubber and plastics, vehicles and other machinery in particular, but a heavy decline in the other metals sector as resources are diverted away from this sector. Increased production and exports of the crucial textile, clothing and footwear sectors in response to price increases of just over 1.0% are very pleasing. Except for petroleum and coal products all manufacturing sectors see an output price of around 1.0%, and generally but not invariably the increase in exports is higher than the comparable change in imports. Services exports decline and imports increase as attention is focused on substantial growth internally because of the growing economy. 89

95 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts The examination now turns to trade, and Tables 8a and 8b show the increased imports from South Africa into the respective countries. In Table 8b the importers are aggregated as follows: non-sacu T-FTA members are in non-sacu, other African are in othafri, and all countries outside Africa are in nonafri. In Table 8a the data in the cells refers to the increased in imports from South Africa as a result of the SADC FTA. This highlights the changes in imports from South Africa into Angola/DRC (xac) in secondary agriculture in particular and the increases into Mozambique (moz) across all sectors. Note that imports into Botswana decline as South African products become marginally more expensive and there is no compensating tariff decline. Table 8a: Changes in imports from South Africa with SADC FTA, 2007 US$ million at 2020 Sector bwa xsc xac mdg mwi mus moz primary agriculture secondary agriculture resources textiles apparel leather lumber paper products petrol, coal chemicals, rub, plastic other mineral products iron & steel metals, etc vehicles metal products other transport electrical goods other machinery other manufacturing services Total Source: GTAP output Table 8b continues with the changes in imports from South Africa, and this also includes the total change on the right-hand side. Note that in GTAP language these imports are virtually the same as South African exports as the trade must balance, in contrast to the real world where reconciliation between exports and imports is problematic. Almost half of the total 90

96 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts change in South African imports is in secondary agriculture, with significant contributions from chemicals, plastics and rubber and other machinery. Other metal products decline significantly, while natural resources, iron and steel and services also decline as the relative prices facing imports change as a result of (a) SADC tariff changes where these changes are applicable and (b) slightly higher output prices for South African merchandise on the world market as shown in Table 7. Imports decline into both other Africa and non-africa except for the petroleum and coal sector where they increase imperceptibly. Note also from the two (continued) tables that the politically sensitive textile, apparel and leather (footwear) sectors all see encouraging increases into SADC countries. Table 8b: Changes imports from South Africa with SADC FTA, 2007 US$ million (continued) Sector Tanzania Zambia Zimbabwe nonsacu othafri nonafri total primary agriculture secondary agriculture resources textiles apparel leather lumber paper products petrol coal chemicals, rubber, plastics other mineral products iron & steel metals, etc vehicles metal products other transport electrical goods other machinery other manufacturing services Total , Source: GTAP output Continuing with the trade theme we examine the changes to South African imports with the SADC FTA. Most of the imports from SADC into South Africa were at two percent, the figure used to proxy the trade facilitating benefits of an FTA, but not all, as the tariff base was at 91

97 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts 2004 levels with 2007 trade flows. There may be a slight overestimate of the increased imports from SACU into South Africa in that case. However, these imports are mostly minor, as an examination of the tariff data shows that only in the cases of textiles and clothing would this make a difference as the GTAP database has not quite kept tariffs and trade in lockstep here. All other significant changes to imports from SADC are based on zero tariffs and therefore it is the two percent non-tariff trade facilitation that is making a difference. Overall, some 16% of the effective increase in imports of agricultural products, 19% in manufacturing, 14% in services and 26% in total, derived from SADC countries. The exception was in natural resources, where 112% of the increase (with the negative or declines in some sources challenging the simple maths here) was from SADC. Table 9 shows that the main increases from SADC were: in agriculture from Malawi and Zambia; natural resources from Angola/DRC and Zambia; textiles and apparel from Madagascar and Mozambique and outside Africa; other metals from Tanzania, Zambia and Zimbabwe; and services from Mozambique. There are few trade gains to SADC as measured by exports to South Africa from the FTA, but SADC countries already have effectively duty-free access to that market. 92

98 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Table 9: Changes in South African imports with the SADC FTA, 2007 US$ million Sector xsc xac mdg mwi mus moz tza zmb zwe othafri nonafr total primary agriculture secondary agriculture resources textiles apparel leather lumber paper products petrol, coal chemicals, rubber, plastics other mineral products iron & steel metals, etc vehicles metal products other transport electrical goods other machinery other manufacturing services Total Source: GTAP output 3.2 Decomposition of the welfare changes Output from the GTAP model allows us to examine the relative contribution to welfare changes to each country/region in the model from both (a) every other Tripartite country/region, including own liberalisation as shown in Table 9, and (b) the commodity sectors as shown in Table

99 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Table 10: Welfare decomposition by SADC countries, 2007 US$ million Contributions from reducing AVE tariffs and NTB to EV by region (2007 US$m) zaf xsc xac mus moz tza zmb xec nonsadc nonafr total zaf bwa xsc xac mdg mwi mus moz tza zmb zwe Total Source: GTAP output. See Table 1 for the country codes used, and note that omissions mean the data shown in the cells may not reconcile with totals. Reading the table for the welfare contributions by country we find that for South Africa (zaf) the overwhelming contribution is from tariff reductions into xac (Angola/DRC, US$1 922m), with additional contributions from liberalisation in Mozambique, Zambia, Zimbabwe, Tanzania and Mauritius in particular. The big losers are (a) Angola/DRC from losses within its own economy and (b) non-africa with major losses in all SADC countries except Angola/DRC as South Africa moves into the SADC markets under the new preferences. Overall gains to the Rest of SACU are driven by gains from better access into Angola/DRC, while the Rest of East Africa (read Kenya) gains from an expanded economy in Tanzania. Most countries except for Angola/DRC gain from own liberalisation, and this is the usual pattern in a country that generally gains from own liberalisation. For South Africa (Column 2), Table 11 can be read in conjunction with Table 7 which shows the changes in output, trade and prices in South Africa (that level of detail for the other SADC economies has not been provided). The largest sector contribution to South Africa s gains is from the aggregated secondary agriculture (US$1408 million), and this is followed by other manufacturing and the individual chemicals, rubber and plastics sector (both 94

100 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts around US$600 million each). Vehicles and metal products also make substantive contributions to South Africa s gains. Gains to the Rest of SACU also derive from secondary agriculture (which includes sugar), while Angola/DRC lose from import competition to their secondary or processed agricultural sectors. Non-Africa and the world also gain from better allocation in the secondary agricultural sector. A mirror pattern of losses to non-african countries against gains to South Africa can be seen in the manufacturing sectors as South Africa displaces these producers/exports, and this is especially so in the vehicle sector. Services are effectively neutral, but there are some individual gains and overall losses from natural resources as production and trade patterns readjust. Table 11: Welfare decomposition by commodity, 2007 US$ million zaf xsc xac moz tza zmb xec nonsadc nonafr total primary agriculture secondary agriculture resources textiles apparel leather lumber paper products petrol, coal chemicals, rubber, plastics other mineral products iron & steel metals, etc vehicles metal products other transport electrical goods other machine other manufacturing services Total Source: GTAP output 95

101 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts 3.4 Labour market changes In this model, the labour market closure is one whereby skilled labour is fixed, but unskilled labour is a function of the unemployment rate. In a developed country with generally (but not always) low unemployment rates we would expect that the benefits to unskilled labour flow through in the form of higher real wages. In a country that has a high unemployment rate (South Africa s is an official 25.5% but the higher unofficial rate is possibly the world s highest among countries at a similar level of development) we would hope that the changes are reflected in increased employment. Table 12 shows the outcome for employment, with the closure used in this chapter shown in the middle in bold. With this closure used the employment and real wage outcomes are both positive for South Africa: employment increases by 0.54% and real wages by a greater 1.80%. At the same time, the Consumer Price Index (CPI) increases by 1.03%, meaning that unskilled workers would be able to buy more with their wages. Finding employment for the unskilled is a real priority for South Africa, and Table 12 provides more confirmation that the SADC FTA supports this objective. Note shown is that the results are also for Botswana (employment up by 0.13% and real wages by 0.60%) and for the Rest of SACU where employment is up by 0.68% and real wages by 2.66%. Essentially, South Africa becomes more efficient with better capital utilisation in response to enhanced exports to mostly SADC countries in both manufacturing and agriculture. This increased demand for South African exports leads to an appreciation of the real exchange rate in South Africa, resulting in a terms of trade gain. In the SADC FTA scenario South African income increases by 2.187% while prices only increase by 1.043% which is equivalent to an increase of US$4 755 million in South Africa s income (EV) when measured in fixed prices. 96

102 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Table 12: GDP, CPI and employment changes with different closures for SADC FTA South Africa with SADC FTA EV Real GDP CPI US$ million % % % change in fixed Employment Real wage U Employment (1-U) Real wage Employment Source: GTAP output fixed Real wage As emphasised above, the unskilled labour market closure used in our version of the model is a function of a labour supply elasticity which is calculated from initial unemployment rates. There are, of course, two extreme alternatives to this. The first is the third (bottom) option above which makes wages fixed and forces adjustments in the labour market to come through changes to the employment rate. In this instance, the results are that the welfare gains to South Africa more than double to US$ million or 2.9% of GDP as a result of an increase of 4.2% in the workforce. The other alternative is to fix the number of persons employed this could be thought of as a trade union position, as any adjustments come through as changes to their wage rates (the first option above). Here the result of US$3 587 million following the big increase of 2.1% in the real wage rate is more or less a 20% decline in welfare relative to the scenario used. Hence, the policy of promoting employment rather than increasing the wages of those already in employment is clearly a superior option for South Africa to pursue and a SADC FTA would make a significant contribution to this objective. At this stage we will move ahead to the employment outcomes for South Africa from the other three FTA scenarios, that of COMESA, the EAC, and the full Tripartite FTA. The macroeconomic and employment data for this complete end point is shown below. Almost all of the extra gains derive from the Tripartite FTA, as can be seen from the very small GDP gains to South Africa from the EAC and COMESA FTAs as shown in Table 3 above where slight 97

103 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts negatives are registered for South Africa from both COMESA and EAC. The same pattern as for the SADC FTA can be seen, where fixing real wages and directing all the employment benefits into getting more people into work are apparent. The data shown in the middle case as the labour market closures modelled for the FTAs in this chapter is almost identical with the same data shown in Sandrey et al. (2011) where the Tripartite FTA is modelled once the other three FTAs are in place. The minute difference is due to different sector aggregations used. Table 13 reinforces Table 3 in that the large gains to South Africa are from the SADC FTA once it is fully operational. The EAC and COMESA FTAs are of interest only as political-economic steps necessary to reach the full Tripartite FTA. Essentially, the effort must be directed at operationalising the SADC FTA and every consideration must be given to finding employment for more people rather than to increasing the wages of those in jobs and so widening the income gaps. Table 13: GDP, CPI and employment changes with different closures for SADC FTA FTA South Africa additional changes with EAC, COMESA and Tripartite FTAs EV Real GDP CPI US$ million % % % change in fixed Employment Real wage U Employment (1-U) Real wage Employment Source: GTAP output fixed Real wage Tariff reductions and the implications for the SACU revenue pool Sandrey (2007) explores the implications of SACU trade agreements with respect to changes in tariff revenues, and highlights that there are large welfare transfers to the BLNS countries (Botswana, Lesotho, Namibia and Swaziland) which arise from these countries obtaining revenues over and above what they would have collected at their own borders if they were not part of SACU. This has been reinforced by the recent study by the Centre for 98

104 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts International Economics (CIE) (2010), as these revenue transfers represent a direct aid support payment from South Africa to BLNS. 10 The objective of this subsection is to explore the implications for BLNS countries in particular of the tariff revenue changes that would result from the series of FTAs. There are two ways in which tariff revenues would be reduced through an FTA. The first is the obvious one in that with an FTA the vast majority of merchandise goods from the FTA partner(s) would now enter SACU duty-free, and in reality almost all imports from SADC were already entering SACU duty-free. The second relates to trade diversion. This takes place when trade is deflected away from previous sources that were paying duty to the sources which now benefit from duty-free access under the FTA. The overall tariff revenue effect of an FTA has a much larger impact on BLNS than the direct production and trade impacts, and of interest is what happens in South Africa rather than what happens in the individual BLNS countries. The way in which the revenue is distributed is an important and sensitive issue in SACU. Revenues are effectively collected by South Africa and then distributed to the BLNS according to a formula that bears no resemblance to the way in which the revenues are collected. Therefore, given the welfare transfer effects, South Africa's welfare will be slightly lower than that given in this chapter and the BLNS countries welfare will be slightly higher. Table 14 shows this data, expressed in US dollars (million) and not in rands. The second column shows the changes in SACU tariff revenue following the first FTA, that of the SADC community. The third and fourth columns show the addition impacts sequentially of the EAC and COMESA FTAs respectively, while Column 5 shows the addition changes from the final Tripartite FTA. The final outcome once all four FTAs are in place is shown in the right-hand column, and tariff revenue into the pool actually increases marginally as South African manufacturing imports in particular increase. 10 The levels of these grants are confirmed by the data in IMF (2009: Table SA20), which reports official grants to Lesotho of 37.5 and 32.0% of GDP for 2007 and 2008 respectively. The comparable data for Swaziland was 20.8 and 20.5% respectively, while that for South Africa s was -1.0 and -1.1% for the two years. 99

105 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Table 14: Revenue changes following Tripartite FTAs (US$ million, 2007) Change in tariff revenue, 2007 US$ million SACU EAC COMESA Tripartite Final Primary agriculture Secondary agriculture Resources Manufacturing Total Source: GTAP results This result is in contrast to the substantive tariff revenue losses from a SACU-Mercosur and SACU-China FTA as outlined in Sandrey et al. (2010). 4. The EAC and COMESA FTAs This section will examine the sequential impacts of firstly the EAC FTA and then the COMESA FTA, with special emphasis on the implications for South Africa. We caution that this section is not as exact a representation of the FTAs as the previous SADC FTA came into existence for a variety of reasons. The first is the overlapping membership problem. This is exemplified by Tanzania (where Tanzania was included in the SADC FTA and its economy underwent the changes outlined in Section 3 from that FTA) and perhaps more importantly by the serious overlapping with COMESA where the DRC, Madagascar, Malawi, Mauritius, Seychelles, Swaziland, Zambia, Zimbabwe, Burundi, Kenya, Rwanda and Uganda are all members of either SADC or EAC. Thus, the sequencing of the FTAs will make a difference. This problem is accentuated by the GTAP country/region aggregation, as we have put the Rest of East Africa into EAC on the basis that Kenya, Burundi and Rwanda are all in that aggregation. But so are Comoros, Djibouti, Eritrea, Mayotte, Reunion, Seychelles, Somalia and Sudan, and most of these countries belong to COMESA. Furthermore, the GDP of Sudan is almost double that of Kenya s, and this will overestimate the impacts of the EAC FTA as Sudan gets placed into this aggregation. Only in the final Tripartite FTA will this problem solve itself. There is also another aggregation problem in that for the Rest of North Africa, Libya belongs to COMESA but Algeria does not, and a decision was made to place this aggregation into COMESA and the Tripartite FTA albeit with tariffs adjusted to a weighted average to partially overcome the problem. 100

106 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts 4.1 EAC The reader is referred to Column 3 in Table 3 where the welfare implications for the countries and regional aggregations used are shown for the EAC FTA, an FTA that takes place among the EAC members after the SADC FTA is in place. This data is replicated in Table 15 along with the factors contributing to this welfare change. Only the three EAC countries/regions of Tanzania (already in SADC FTA), Uganda and the Rest of East Africa (the aggregation that contains Kenya, Burundi and Rwanda along with others that include Sudan) benefit from the FTA. All other countries/regions including South Africa and non- Africa lose. The EAC is able to use its capital stocks more efficiently, but this is at the expense of the global capital use, and finally the FTA detracts from overall global welfare. Table 15: Welfare implications of EAC FTA, US$ million EAC FTA only EV US$m Allocative Efficiency Labour Capital Terms of trade South Africa Tanzania Uganda Rest of East Africa Rest of SADC EAC COMESA Rest of Africa Non-Africa Total Source: GTAP output 101

107 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Table 16 expands on the welfare gains for the EAC economies to show on the left-hand side what the actual percentage changes are in terms of trade, real GDP and factor income. The right-hand side of the table provides some insights into where the contributions to changes in factor income come from, and the individual contributions of land, unskilled labour, skilled labour, capital and resources shown must add to the total factor income as shown in Column 4. In terms of welfare expressed as a percentage of GDP Uganda is the winner with an increase of 0.385%. Table 16: Change in welfare (EV of income) from EAC FTA only (US$ million) EAC FTA only Total Factor TOT QGDP Income Land Unskilled labour Contributions from Skilled labour Capital Natural resources Zaf Tza Uga Xec Source: GTAP output Table 17 shows where the gains for the EAC countries come from. The outlined box in the centre of the table highlights the intra-fta gains, or, in the case of the Rest of East Africa (xec), the losses from own liberalisation. Countries from outside Africa lose significantly as trade diversion replaces more efficient import sources. Table 17: Contributions from reducing AVE tariffs and NTB to EV by region (2007 US$ million) FTA zaf tza uga xec rest Africa non Africa total Tza Uga Xec Source: GTAP output 102

108 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Table 18 continues from Table 17 but this time shows the sector contributions to the changes. For the Rest of East Africa (in bold) these are spread through the manufacturing sectors with the chemicals, rubber and plastic sector as the main contributor. There is minimal contribution in the agricultural, natural resources or service sectors. For Tanzania, the more limited gains are spread across the economy, while, for Uganda, there are solid gains in agriculture and iron and steel (i_s). South Africa has minor losses through most sectors, as does the Rest of Africa which in this case consists of all other African countries other than the EAC and South Africa. Table 18: Contributions by GTAP commodity (2007 US$ million) EAC only South Africa Tanzania Uganda rest East Africa rest Africa non-africa total p_agr s_agr nat tex wap lea lum ppp p_c crp nmm i_s nfm mvh fmp otn ele ome omf serv Total Source: GTAP output. See Table 7 for sector abbreviations 103

109 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts The minimal impact on South Africa is confirmed by the data shown in Table 19 where the changes in output for each sector by both dollar value and percentage are shown first, followed by the changes to exports and imports, and finally output prices. These latter output prices as shown in the right-hand column do not even register. Note also that the largest impact in South Africa is on services as output shrinks marginally in response to the minimal GDP loss. Table 19: Changes to South Africa s production and trade, US$ million and % change EAC RSA changes Change in output % Change in quantity US$ million % Exports Imports % Change in price primary agriculture secondary agriculture resources textiles apparel leather lumber paper products petrol, coal chemicals, rubber, plastic other mineral products iron & steel metals, etc vehicles metal products other transport electrical goods other machinery other manufacturing services Total Source: GTAP output 104

110 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Overall we can conclude that this EAC has a modest impact upon Tanzania, Uganda and the Rest of East Africa aggregation but almost no effect upon South Africa. Recall, however, that Tanzania already belongs to the SADC FTA, so this somewhat limits the bilateral impacts between South Africa and Tanzania. Overall, the FTA is not globally welfare enhancing as regional imports are diverted away from the global low-cost suppliers at the margin. 4.2 The COMESA FTA The reader is again referred to Column 3 in Table 3 where the welfare implications for the countries and regional aggregations used are shown for the COMESA FTA, an FTA that takes place among the COMESA members after the SADC and EAC FTAs are both in place. This data is replicated in Table 20 along with the factors contributing to this welfare change. This is the third of the regional FTAs, and the overlapping membership issue continues here. Those COMESA members in the FTA are indicated in bold, and these are Tanzania and Uganda along with much of the Rest of East Africa aggregation other than Kenya in the EAC FTA plus Swaziland in the Rest of SACU, Madagascar, Malawi, Mauritius, Seychelles, Zambia and Zimbabwe in SADC. Other than for the Rest of SACU, gains to SADC members are minimal. For the EAC members Uganda and the Rest of East Africa (which also includes non-eac but COMESA members) make meaningful gains. Egypt and Ethiopia are the other significant gainers from the COMESA FTA. Again, and as generally expected, those outside the FTA lose, and especially the EU, the largest supplier of regional imports and destination of regional exports. The FTA is not globally welfare enhancing as the negative overall impact of just over half a billion shows. 105

111 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Table 20: Welfare implications of the COMESA FTA, US$ million Welfare Total US$m Allocative Efficiency Labour Capital Terms of trade South Africa Botswana Rest SACU Egypt, Libya/Algeria Angola/DRC Ethiopia Madagascar Malawi Mauritius Mozambique Tanzania Uganda Zambia Zimbabwe Rest East Africa Rest Africa China EU United States India Brazil Russia Rest of the world Total Source: GTAP output 106

112 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Table 21 expands on the welfare gains for the EAC economies to show on the left-hand side what the actual percentage changes are in terms of trade, real GDP and factor income. The right-hand side of the table provides some insights into where the contributions to changes in factor income derive from, and the individual contributions shown that must add to the total factor income. In terms of welfare expressed as a percentage of GDP, Uganda is the big winner with an increase of 1.12%, followed by Ethiopia s 0.48%, the Rest of SACU s 0.24% and Egypt s 0.18%. Table 21: Change in welfare (EV of income) from COMESA FTA only (US$ million) Total Contributions from TOT QGDP Factor Income Land Unskilled labour Skilled labour Capital Natural resources zaf bwa xsc egy xnf xac eth mdg mwi mus moz tza uga zmb zwe xec Source: GTAP output 107

113 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Table 22 shows where the gains for the COMESA countries are derived from. Both South Africa and the Rest of SACU along with Ethiopia gain from better access into the Rest of West Africa ; Egypt makes big gains in fellow COMESA countries; the Angolan/DRC aggregation loses rather heavily while Uganda, the Rest of East Africa and the countries outside of Africa gain there; and the Rest of East Africa gains in COMESA other than from its own liberalisation. As expected, countries from outside Africa lose significantly as trade diversion replaces more efficient import sources and this in turn leads to a global welfare loss. Table 22: Contributions from reducing AVE tariffs and NTBs to EV by region (2007 US$ million) zaf xsc egy xnf xac eth uga xec nonafr total egy xnf xac eth zmb xec Total Source: GTAP output. Note that some minor changes are not presented. 108

114 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Table 23 continues from Table 21 but this time shows the sector contributions to the changes. For the Rest of SACU these are from secondary agriculture, sectors where Egypt, Ethiopia and Uganda gain but Angola/DRC and the Rest of East Africa lose. Egypt s big manufacturing gain derives from the other mineral products (nmm) sector. Most other changes, be they gains or losses, are spread relatively evenly across the table. Table 23: Contributions by GTAP commodity (2007 US$ million) xsc egy xnf xac eth uga xec nonafr orld p_agr s_agr Nat Tex Wap Lea Lum Ppp p_c Crp Nmm i_s Nfm Mvh Fmp Otn Ele Ome Omf Serv Total Source: GTAP output 109

115 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts The very minimal impact on South Africa is confirmed by the data shown in Table 24 where the changes in output for each sector by both dollar value and percentage are shown firstly followed by the changes to exports and imports and finally followed by output prices. These latter output prices as shown in the right-hand column barely register. Table 24: Changes to South Africa s production and trade, US$ million and percentage change South Africa Change in output % Change in quantity US$ million % Exports Imports % Change in price primary agriculture secondary agriculture Resources Textiles Apparel leather lumber paper products petrol coal chemicals, rubber, plastics other mineral products iron & steel metals, etc vehicles metal products other transport electrical goods other machinery other manufacturing services Total -13 Source: GTAP output 110

116 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts We can conclude that this COMESA FTA has a solid impact upon most of the COMESA countries but virtually no effect upon South Africa. In general there are few welfare gains for those SADC members who are overlapping COMESA members except for the Rest of the SACU aggregation. There are some resource changes in secondary agriculture in particular, while the manufacturing changes are generally spread across the different sectors. The FTA is not welfare enhancing for the world as regional imports are diverted away from the global low-cost suppliers. The impacts on South Africa are virtually zero. 5. The Tripartite FTA In this final section we model the impacts of bringing the three regional trade blocs into one comprehensive FTA. This means that now all problems of overlapping membership become irrelevant in our assumed world of no complications such as rules of origin, and in general the GTAP country/region aggregations are no longer an issue. The focus of interest is now: what are the gains from further integration and where will those gains come from? Again, we refer the reader back to Table 3 where the welfare gains from the three regional FTAs are shown along with the final step FTA of Cape to Cairo integration as shown in the Tripartite FTA. These are reproduced in the second column of Table 25, and for the Tripartite FTA the welfare gains to the world of only US$91 million were at least positive in contrast to the EAC and COMESA FTAs, but paled into insignificance when compared with the SADC FTA. However, this was not the situation for South Africa, as the welfare gains of US$1.3 billion for the Tripartite FTA, while not as large as the US$4.7 billion from the SADC FTA, are still very impressive. Unfortunately for the region, only Egypt and Mozambique come close to matching these gains, while the Rest of East Africa loses, as do all non-tripartite countries/regions. The individual contributions to welfare are shown in Columns 3 to 6 inclusive for allocative efficiency, labour related gains, capital related gains and terms of trade respectively. 111

117 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Table 25: Welfare gains from the Tripartite FTA, US$ million Tripartite FTA Total Allocative Efficiency Labour Capital Terms of trade South Africa Botswana Rest of SACU Egypt, Libya/Algeria Angola/DRC Ethiopia Madagascar Malawi Mauritius Mozambique Tanzania Uganda Zambia Zimbabwe Rest of East Africa Rest of Africa China EU United States India Brazil Russia Rest of the world Total Source: GTAP output 112

118 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Table 26 expands on the welfare gains for selected Tripartite economies to show on the lefthand side what the actual percentage changes are in terms of trade, real GDP and factor income. The right-hand side of the table provides some insights into where the contributions to changes in factor income derive from, and the individual contributions shown that must add to the total factor income. South Africa s real GDP increases by 0.26%, marginally above the GDP of Zimbabwe and Mozambique. Note that the big gains to Mozambique and South Africa are due in part to the overlapping membership situation of regional blocs that results in only these two countries having an exclusive membership of only one FTA, as even Angola/DRC are linked to COMESA through the DRC s membership. For many other Tripartite FTA countries the welfare results are disappointingly low, and for some they are negative as South Africa with its industrial power joins the earlier more exclusive party. Table 26: Percentage changes in terms of trade, real GDP and factor income, 2020, Tripartite FTA TOT Real GDP Total Factor Income Land Unskilled Contributions from Labour Skilled Capital Natural resources zaf bwa xsc egy xnf xac eth mdg mwi mus moz tza uga zmb zwe xec Source: GTAP output 113

119 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Table 27 shows how the welfare gains are derived by country. For South Africa, they are strongly concentrated on the Rest of East Africa, with minor contributions from Uganda, Egypt and Ethiopia. Note that Mozambique also gains in the Rest of East Africa, a region which loses significantly from regionalisation of the group s economies. Table 27: Decomposition of the welfare results by country/region, US$ million zaf bwa xsc egy xac moz tza xec othtri nontri nonafr Total zaf bwa xsc egy xac eth moz tza uga xec Total Source: GTAP output. Note that some countries are omitted and the grand total will not reconcile. 114

120 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts In Table 28 the decomposition of the changes are given by sector for the countries/regions that are most affected. For South Africa, the gains are focused on secondary agriculture with solid results for chemicals, rubber and plastics, iron and steel, and vehicles in the manufacturing sectors. Secondary agriculture in the Rest of East Africa loses to the tune of one-third of a billion dollars as a result of these economies opening up to South African imports. Table 28: Decomposition of the welfare results by GTAP sector, US$ million zaf bwa xsc egy xac moz tza xec othtri nontri nonafr world p_agr s_agr nat tex wap lea lum ppp p_c crp nmm i_s nfm mvh fmp otn ele ome omf serv Total Source: GTAP output 115

121 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Following from the previous set of tables the consequential changes to production and trade are given in Table 29. As expected from these previous results the big increases in production by value are in secondary agriculture and services, with the former (secondary agriculture) significantly increasing exports while the converse happens in services where exports decline and imports increase by around one percent each as more attention is focused on services within South Africa s expanded economy. Output prices in manufacturing (and services) all increase by either 0.2% or 0.3% in response to the changes, while the prices rises in agriculture are 0.7% in secondary agriculture and 0.4% in primary agriculture. The impacts on resources are minimal. Table 29: Output, trade and price changes in South Africa from the Tripartite FTA Change in output % Change in quantity US$ million % Exports Imports % Change in price primary agriculture secondary agriculture resources textiles apparel leather lumber paper products petrol, coal chemicals, rubber, plastics other mineral products iron & steel metals, etc vehicles metal products other transport elect goods other machinery other manufacturing services Total Source: GTAP output 116

122 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Table 30 details the changes in trade and the final balance of payments for countries in the region. The trade balance is fixed in the model to savings investments in GTAP. When the FTA increases investments more than savings in South Africa, these investments have to be financed from abroad. This in turn reduces the South African balance by US$956 million. The converse takes place in Angola/DRC as exports expand more than imports and the balance of payments improve. Table 30: The trade and balance of payments summary from the Tripartite FTA Imports % Exports % Balance US$m South Africa Botswana Rest SACU Egypt, Libya/Algeria Angola/DRC Ethiopia Madagascar Malawi Mauritius Mozambique Tanzania Uganda Zambia Zimbabwe Rest of East Africa Non-Africa 659 Source: GTAP output 117

123 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts The changes in trade flows as measured by imports from South Africa into the countries of most significance are shown by the GTAP sector in Table 31. Again, the flow of secondary agriculture into the Rest of East Africa is highlighted, and research from Sandrey et al. (2011) on the agricultural sector results from the Tripartite FTA shows that sugar is a major contributor to this result. Agricultural imports into Egypt increase, while vehicles are a major gainer from the FTA with better access into COMESA. In general, imports are diverted away from SADC destinations to the new opportunities further north, but other than chemicals, plastics and rubber, and vehicles, the gains to manufacturing are not very significant overall once the trade diversion effects are factored in. In fact, the metals, etc. sector representing the general metal processing sector sees a significant fall in its global trade as the reallocation impacts work through the economy. Table 31: Changes in the imports from South African, US$ million egy xnf eth uga xec SADC nonafrica Total primary agriculture secondary agriculture resources textiles apparel leather lumber paper products petrol, coal chemicals, rubber, plastics other mineral products iron & steel metals, etc vehicles metal products other transport elect goods other machinery other manufacturing services Total Source: GTAP output 118

124 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts 6. The full Monty This is an end note on a complete Tripartite FTA ignoring the intermediate steps. Again, Table 3, in the right-hand column, shows the welfare gains to all participants of such an FTA. Recall that these and other gains can be accumulated across the three intermediate FTAs and added to the Tripartite FTA. The aggregate results are duplicated in Table 32, along with the welfare results shown as a percentage of GDP, and on the right-hand four columns show the contribution of the different factors to these welfare changes. For South Africa, these gains are just over six billion US dollars in real terms, and this figure completely dominates the global results. Other significant gainers of around the half billion mark are the Rest of SACU, Mozambique, Tanzania, the Rest of East Africa and Egypt. All countries outside of the region lose, but not heavily enough to result in a global loss, as the final global gain is around one and a half billion dollars. Internally, the big loser is the Angola/DRC aggregation, while Botswana loses marginally. Expressed as a percentage of GDP the big gainers are the Rest of SACU, Malawi, Mauritius, Mozambique, Tanzania, Uganda, Zambia and Zimbabwe along with South Africa. These countries are all members of SADC except for Uganda. 119

125 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Table 32: Welfare results for the complete regional integration, US$ million and % of GDP Country / region Total % Real GDP Allocative Efficiency Labour Capital Terms of trade zaf bwa xsc egy mar tun xnf nga sen xwf xcf xac eth mdg mwi mus moz tza uga zmb zwe xec chn EU usa ind bra lam rus row Total Source: GTAP output 120

126 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts The real price of outputs in South Africa generally increases by close to 1.5%. The exceptions to this include (a) natural resources and (b) petroleum and coal products. This is so because in general there are no tariffs on these products and both are effectively traded on an international market, therefore limiting South Africa s abilities to alter prices. The other exceptions are (c) secondary agriculture where prices rise by a slightly higher 1.7% and more significantly (d) in secondary agriculture where the prices rise by 2.9% as South Africa gains a significant advantage in a regionally and indeed globally distorted market. Table 33: The full results for production in South Africa Change in output % Change in quantity US$ million % Exports Imports % Change in price primary agriculture secondary agriculture resources textiles apparel leather lumber paper products petrol, coal Chemicals, rubber, plastics other mineral products Iron/ steel metals, etc vehicles metal products other transport electrical goods other machinery other manufacturing services Total Source: GTAP output 121

127 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Finally, we present the full set of changes for South African exports as proxied by imports into partner countries. This is displayed in two tables, with SADC partners shown first in Table 34a. The largest increase is in secondary agriculture to Angola/DRC in particular. Next are exports in other machinery, chemicals, rubber and plastics, and vehicles. The destinations of these exports are spread through many of the cells in the table, although note that in all cases Botswana records slightly lower imports as South African prices rise in response to the better opportunities elsewhere and there are no compensatory tariff reductions. Table 34a: Increases in imports from South Africa as recorded by SADC partners, US$ million bwa xsc xac mdg mwi mus moz tza uga zmb zwe SADC primary agriculture secondary agriculture resources textiles apparel leather lumber paper products petrol, coal chemicals, etc other mineral products iron & steel metals, etc vehicles metal products other transport elect goods other machinery other manufacturing services Total Source: GTAP output 122

128 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts In the second table (34b) the same data for the other countries/regions is shown. Note that Brazil and Russia have been included in the Rest of the world (row) in order to simplify the table as these changes were minor. Firstly, Columns 2 and 3 report on the EAC changes (recall that Tanzania is included in SADC), and the big increases into the Rest of East Africa are notable. Columns 4 to 6 inclusive report the changes into the wholly COMESA countries, and these are relatively minor. There are declines of US$169 million in exports to African countries outside the Tripartite group, and all exports to the world outside of Africa decline. Table 34b: Increases in imports from South Africa as recorded by other partners, US$ million EAC COMESA nontri 11 chn EU usa ind Outside Africa uga xec egy xnf eth row primary agriculture secondary agriculture resources textiles apparel leather lumber paper products petrol, coal chemicals, etc other mineral products iron & steel metals, etc vehicles metal products other transport elect goods other machinery other manufacturing services Total Source: GTAP output Total 11 Where non-tri refers to those African countries outside the Tripartite FTA. 123

129 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts In the body of the report we have not discussed increased imports into South Africa, mainly because SADC imports are largely duty-free 12 in any case, so there is not as much interest in the imports as a result of the SADC FTA in particular. Imports from both the EAC and COMESA would be mainly in response to tariff changes while those from outside the Tripartite region are in response to changing production patterns and increased wealth in South Africa. It can be seen that most of the increased imports of nearly five billion dollars are from sources outside Africa as those in the grouping other Africa decline by US$201 million. We have shown both China and the EU as separate from our new Rest of the world as imports increase by around one and a half billion from each of these sources. By sector, the big increases are in the other machinery sector, equally from China, EU and the Rest of the world, and in chemicals, rubber and plastics, vehicles and services from EU and the Rest of the world. Not shown is that the increase in resources from SADC are mostly from Angola/DRC and Zambia; apparel derives somewhat equally from Madagascar and Mauritius; and the non-ferrous metals are from Zambia and Zimbabwe (and West Africa for other Africa ). It is the imports from outside the Tripartite region that are actually increasing tariff revenue for the SACU pool as discussed, and these results confirm that there is a slight downside to South Africa from trade diversion. 12 The exception here is that while this situation currently holds as of the time when the tariffs were set for GTAP there have been adjustments to zero on these tariffs. Accordingly, the data given for imports into South Africa from SADC will be an overstatement of what actually may occur. However, in general these imports are not that high and the main import of resources was facing zero tariffs in any case. 124

130 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Table 35: Increases in imports into South Africa, US$ million SADC EAC COMESA othafri chn EU row Total primary agriculture secondary agriculture resources textiles apparel leather lumber paper products petrol, coal chemicals, etc other mineral products iron & steel metals, etc vehicles metal products other transport elect goods other machinery other manufactures services Total Source: GTAP output 125

131 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts 7. Implications for the BLNS countries (Botswana, Lesotho, Namibia and Swaziland) The SADC FTA Changes in trade flows The welfare results for the BLNS are shown in Table 3 above, enabling us to go directly into the specific trade results for the BLNS. Also, the tariff revenue implications for the SACU pool have been discussed above, and this is a very important part of any regional FTA involving SACU. It will not be reintroduced here, but rather we will concentrate upon trade and production in the BLNS. Table 36 introduces the aggregate overall changes to trade flows for the SACU members in 2020, expressed as percentage changes in both exports and imports, and then in US dollars (million) for the trade balance. The trade balance is fixed in the model to savings minus investments. This means that the FTA increases investments more than savings in South Africa, thus reducing the trade balance by US$758 million as these investments are sourced from abroad. The Rest of SACU sees both exports and imports increase, while there is little difference to Botswana. Table 36: Percentage changes in quantity of total import/export & trade balance, 2020 % change in Change in trade Exports Imports Balance US$m South Africa Botswana Rest of SACU Source: GTAP results The individual GTAP sectors in BLNS This section presents the production, trade and relative price changes in the main GTAP sectors for BLNS. Table 37 shows the changes from the sectors used, namely of primary agriculture, secondary (processed) agriculture, natural resources, and the 16 manufacturing sectors and services for Botswana. Column 1 shows GTAP sectors, with Column 2 showing the output increase in US dollars (million) values and Column 3 that output change in percentage terms. The next two columns show firstly the percentage changes in exports, 126

132 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts then imports, and finally the right-hand column shows the change in real producer output prices. The left-hand side of the table shows the changes for the SADC FTA, while the righthand side shows the complete changes for the full Tripartite FTA which include the EAC and COMESA FTAs. Therefore, the minor difference that the EAC, COMESA and Tripartite FTAs make to Botswana can be seen by subtracting the SADC FTA on the left from the final total on the right. Following the SADC FTA the remaining changes are of little interest to Botswana. The only important changes to output are in non-ferrous metals and services with increases of US$25 million and US$43 million respectively. Table 37: Changes to Botswana s production, trade and output prices Change production SADC FTA only % change in Change production Full Tripartite FTA % change in US$m % exports imports prices US$m % exports imports prices p_agr s_agr nat tex wap lea lum ppp crp nmm nfm mvh fmp otn ele ome omf serv Total Source: GTAP output 127

133 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Table 38 shows the same data for the Rest of SACU aggregation (Lesotho, Namibia and Swaziland). Here there is a bigger change from the SADC FTA gains of US$1 494 million in output through to the final increase of US$1 971 million. Much of this increase is in agriculture and secondary agriculture in particular, although services are the big gainers (by US$760 million from SADC and US$1 010 million from the full Tripartite FTA). Note that there are significant increases in the price of outputs from the full Tripartite FTA in particular, as these increases are around two percent in most sectors. Most of the increases from the SADC FTA through to the full Tripartite FTA actually accrue from the COMESA FTA, as there are increases on US$103 million in secondary agriculture and US$192 million in services from COMESA due to Swaziland s membership of COMESA. Table 38: Changes to Rest of SACU s production, trade and output prices SADC FTA only Full Tripartite FTA Change product % change in Change product % change in US$m % exp imp prices US$m % exp imp prices p_agr s_agr nat tex wap lea lum ppp crp nmm i_s nfm mvh fmp otn ele ome omf serv Total Source: GTAP results 128

134 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Table 39 reports on the changes to imports into other countries from Botswana following the SADC FTA. These extra imports (Botswana s exports) total US$59 million, with most being recorded as increased imports into Zimbabwe (natural resources and non-ferrous metals) and Zambia (natural resources). The concept of trade diversion can clearly be seen, as imports into non-african countries decline as they are diverted to SADC destinations. The overall gainers are natural resources (US$24 million) and non-ferrous metals (US$26 million). The changes in Botswana s exports from subsequent FTAs are minimal, as they actually decline by US$3 million in total from the SADC FTA following the Tripartite FTA. Table 39: Changes in imports from Botswana with SADC FTA, 2007 US$ million at 2020 zaf xac zmb zwe chn EU row total p_agr s_agr nat tex wap lea lum ppp crp nfm mvh fmp otn ele ome omf serv Total Source: GTAP output (totals may not reconcile with cells as some minor data is omitted) 129

135 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Table 40 shows the changes in imports from SADC partners following that FTA for the Rest of SACU. These changes are more significant, with an overall increase of US$430 million. Most of this is the big increase of US$861 million to Angola/DRC (secondary agriculture, natural resources and non-ferrous metals in particular) but with offsets to the Rest of the world for natural resources in particular. The concept of trade diversion and trade creation is clearly shown in Table 8. The former means that imports of natural resources from Rest of SACU into xac (Angola/DRC) increase by US$144 million, but the overall increase is a mere US$1 million as trade of US$148 million is diverted away from the Rest of the world. On the other hand, imports into Angola/DRC in non-ferrous metals increase by US$107 million and that is precisely the overall increase which shows this to be 100% trade creation. Table 40: Changes imports from rest SACU with SADC FTA, 2007 US$ million at 2020 zaf xac mdg mus moz tza zmb row tot p_agr s_agr nat tex wap lea lum ppp p_c crp nmm i_s nfm mvh fmp otn ele ome omf serv total Source: GTAP output - totals may not reconcile with cells as some minor data is omitted 130

136 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Table 41 extends the trade analysis as measured by imports from the Rest of SACU following the Tripartite FTA, with the data shown as the changes from the base of the SADC FTA. The big increase is to Rest of East Africa (Kenya probably) in secondary agriculture, other transport and textiles, with these three being the only real overall winners. Imports into Angola/DRC, China and the EU decline while those into Rest of North Africa, Uganda and Ethiopia increase. Note in particular the large declines in secondary agriculture into the EU and the Rest of the world as defined by non-africa, except for EU and China in this instance. Egypt is not shown as the differences there were minor. Table 41: Changes imports from Rest of SACU with Tripartite FTA, 2007 US$ million at 2020 xnf xac eth uga xec EU row total p_agr s_agr nat tex wap lea lum ppp p_c crp nmm i_s nfm mvh fmp otn ele ome omf serv total Source: GTAP output - totals may not reconcile with cells as some minor data is omitted 131

137 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Continuing with the trade theme we examine the changes to the BLNS countries own imports with the SADC FTA. Most of the tariffs on imports from SADC into the BLNS were at two percent, the figure used to proxy the trade facilitating benefits of an FTA, but not all as the tariff base was at 2004 levels with 2007 trade flows. There may therefore be a slight overestimate of the increased imports from SACU into BLNS in that case. These imports, however, are mostly minor, as an examination of the tariff data shows that this would make a difference only in the cases of textiles and clothing since the GTAP database has not quite kept tariffs and trade in lockstep here. Changes to imports into Botswana were minor. There were increases from Zimbabwe within SACU and non-african countries but a decline from South Africa of US$50 million for an overall increase of US$22 million (recall that Botswana actually suffers a small loss in welfare and therefore becomes marginally poorer and less able to afford imports while, conversely, the price of South African merchandise increases). Completing the full FTA suite with the Tripartite FTA makes little difference to this result. Imports from South Africa marginally decline again while those from other sources increase with no overall difference to the total imports. In contrast, the Rest of SACU becomes wealthier and their increases in imports following the SADC FTA are shown in Table 42. Increases of US$121 million are reported from South Africa, US$99 million from the EU and US$51 million from China; and these are the main contributors to the overall increase of US$416 million. These increases are spread through most of the GTAP sectors, and effectively no significant trade diversion losses are reported. Extending the analysis to the full Tripartite FTA shows an overall increase of another US$144 million in total. Some US$29 million comes from South Africa, US$48 million from the EU and US$20 million from China and again this is purely trade creation. 132

138 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Table 42: Changes in Rest of SACU imports with SADC FTA, 2007 US$ million zaf moz zwe chn eu usa row total p_agr s_agr tex lum ppp crp nmm mvh fmp ele ome serv total Source: GTAP output Decomposition of the welfare changes Output from the GTAP model allows us to examine the relative contribution of welfare changes to each country/region in the model from both (a) every other Tripartite country/region, including own liberalisation as shown in Table 10, and (b) the commodity sectors as shown in Table 43. Table 43 shows the sequential total changes for the BLNS countries from the four FTAs. Reading across the table Columns 2, 4, 6 and 8 show the results for Botswana from SADC only, SADC plus EAC, SADC plus EAC plus COMESA, and finally the full Tripartite FTA on the right-hand side. From viewing the bottom row, for example, it is clear that Botswana loses US$38 million from both SADC and EAC, meaning that EAC has no real impact. Adding COMESA increases the loss to US$40 million while the final Tripartite FTA increases this again to US$57 million. Results for the Rest of SACU are more interesting. These are shown in Columns 3, 5, 7 and 9. SADC and SADC plus EAC have virtually the same results, meaning that EAC has no impact. However, introducing the COMESA FTA into Column 7 shows the increased welfare coming from the Rest of East Africa and, to a smaller degree, Uganda. Recall that Tanzania is already a member of SADC. Taking the final step to a Tripartite FTA increases the overall gains by US$17 million, with this essentially also deriving from the Rest of East Africa. Note that the 133

139 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts gains into Angola/DRC reduce marginally across the table row for the Rest of East Africa, but not by much. Table 43: Welfare decomposition for BLNS by SADC countries, 2007 US$ million SADC only SADC+EAC SAD+EAC+COM Full Tripartite bwa xsc bwa xsc bwa xsc Bwa xsc zaf bwa xsc egy xnf xac eth mdg mwi mus moz tza uga zmb zwe xec total Source: GTAP output Table 44 for the sector decomposition can be read in conjunction with Tables 5 and 6 which show the changes in output, trade and prices in Botswana and Rest of SACU respectively. Changes to both concentrate on secondary agriculture, with Botswana losing from each FTA and the Rest of SACU gaining strongly. Botswana loses consistently across all other sectors, while the Rest of SACU makes some solid gains from the manufacturing sectors. Services are effectively neutral, but there are some gains from natural resources as production and trade patterns in the region readjust. Here, the aggregation problem means that we cannot really decompose these changes further into Lesotho, Namibia and Swaziland, but some of these changes can be inferred from an understanding of the structure of the trade and production patterns in each country. It is likely but not certain that sugar from Swaziland is a major factor in the COMESA FTA while much of the manufacturing gains may be concentrated in Namibia. 134

140 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Table 44: Welfare decomposition for BLNS by commodity, 2007 US$ million SADC only SADC+EAC SAD+EAC+COM Full Tripartite bwa xsc bwa xsc bwa Xsc bwa xsc p_agr s_agr nat tex wap lea lum ppp p_c crp nmm i_s nfm mvh fmp otn ele ome omf serv Total Source: GTAP output For the BLNS countries, the results for the SADC FTA show that Botswana s loss is 0.05% of GDP while the Rest of SACU gains US$323 million or 1.15% of GDP. Botswana loses across all sectors of the economy except for natural resources which expand marginally. For the Rest of SACU, secondary (processed) agriculture is the big gainer from better access into Angola/DRC, and most manufacturing sectors gain. We can conclude overall that the next step of EAC regional integration has virtually no impact upon the BLNS countries. However, there are solid gains to the Rest of SACU from the third step of the COMESA FTA. These come about because Swaziland is a member of COMESA and consequently granted better access for sugar into the Rest of the East African 135

141 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts aggregation in particular. There are virtually no other changes, however, but these gains effectively carry through to the final Tripartite FTA. Conversely, there are no impacts on Botswana from either COMESA or the full Tripartite FTAs. In summary, Botswana loses marginally from the SADC FTA and that situation does not change with the other steps to full regional integration, whereas the Rest of SACU gains from (a) the SADC FTA and then again (b) from the COMESA FTA by virtue of its linkage to COMESA through Swaziland s membership. Importantly, following each of the sequential FTAs, total revenue for the SACU tariff revenue pool actually increases by a final end result of an extra US$179 million following the full Tripartite FTA. This is as a result of South Africa manufacturing imports from non-sadc countries increasing in response to a more buoyant South African economy. 8. Overall Summary and conclusions The SADC FTA The results for this FTA show that there are significant gains for South Africa in particular, and this is mainly because SADC members virtually have duty-free access into South Africa although the privilege is not reciprocated. Therefore South Africa, with its agricultural and industrial capacity dominating the region, is the big winner as its welfare increases by some US$4 755 million or 0.95% of real GDP. These welfare gains are significantly more than the gains from either an FTA with China or with Mercosur as inferred from earlier tralac research. Botswana s loss is 0.05% of GDP while the Rest of SACU gains US$323 million or 1.15% of GDP. Other significant gainers are Mozambique, Tanzania and the Rest of East Africa although the latter is outside SADC. The big losers are Angola/DRC and the countries outside SADC except the Rest of East Africa, an aggregation centred on Kenya. For agriculture, the SADC FTA benefits the South African secondary (processed) agricultural sector, while it provides a solid stimulus to primary agriculture as well. In manufacturing, the big gainer is the chemicals, rubber and plastics sector, and other machinery, vehicles, petroleum and coal products, and metal products all do well. Services are a big gainer, but from an expanded South African economy rather than from trade. Both exports and imports increase in most sectors, and output prices generally rise by around one percent. The largest 136

142 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts increase in exports is in secondary agriculture, followed by chemicals, rubber and plastics and other machinery, while iron and steel exports decline. The exports are primarily directed to Angola/DRC, Mozambique, Zambia, Zimbabwe and Tanzania at the expense of reduced exports to non-african destinations. Revenue for the SACU tariff revenue pool actually increases by US$179 million as a result of South Africa manufacturing imports from non-sadc countries to replace increased exports to the SADC countries. Therefore the 2002 formula from the SACU Agreement is at least not working against the BLNS countries and tariff revenue loss is not an issue here. This is in complete contrast to the SACU tariff revenue losses from the SACU-Mercosur and SACU- China FTAs. Employment and real wage outcomes are both positive for South Africa: employment of unskilled workers increases by 0.54% and real wages by a greater 2.1%. The unskilled labour market closure used in our version of the model is a function of a labour supply elasticity which is calculated from initial unemployment rates. We model two extreme alternatives to this. The first is an option which has wages fixed and forces adjustments to the labour market through changes to the employment rate. This time the welfare gains to South Africa increase by around two and a half times to US$ million or 2.9% of GDP as a result of an increase in unskilled labour of 4.2% in the workforce. The second alternative is to fix the number of persons employed with adjustments as changes to wage rates. Here the result is a 20% decline in welfare relative to our standard closure of US$3 587 million following an increase of 2.1 in the real wage rate. Hence, the policy of promoting employment rather than increasing wages is clearly a superior option for South Africa to pursue and a comprehensive SADC FTA would make a significant contribution to this objective. Finally, it is notable that the overall services output in South Africa increases by US$12.5 billion, with this mainly being driven by increased demand for services as the production of capital goods and other industries expand the South African economy. Trade in services sees South African exports decline by 4.0% and imports increase by 3.6% in order to provide for these increased services. 137

143 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Policy implications from the SADC FTA The SADC FTA is beneficial for the South Africa, with gains from manufacturing and secondary agriculture in particular. Given our labour market closure assumption, the FTA leads to an increase in employment and wages for unskilled workers. It also produces an increase in the SACU tariff revenue pool monies as there are tariffs to pay on increased manufacturing imports since most imports are from outside Africa. The policy implications for South Africa are clear: there are no downsides to this FTA such as the decimation of South Africa s manufacturing sectors that would result from an FTA with China or the challenges that a full FTA with Mercosur would present to agriculture. Every effort must be made to facilitate this regional initiative. The EAC, COMESA and Tripartite FTAs Overall we can conclude that this EAC regional integration has a modest impact upon Tanzania, Uganda and the Rest of East Africa aggregation but almost no effect upon South Africa. As Tanzania is already a member of the SADC FTA the bilateral impacts between South Africa and Tanzania are very limited. The FTA is not globally welfare enhancing as regional imports are diverted away from the global low-cost suppliers at the margin. The COMESA FTA has a solid impact upon most of the COMESA countries but virtually no effect upon South Africa. In general there are few welfare gains for those SADC members who are overlapping COMESA members, except for the Rest of the SACU aggregation. There are some resource changes in secondary agriculture in particular, while the manufacturing changes are generally spread across the different sectors. The FTA is not welfare enhancing for the world as regional imports are diverted away from the global low-cost suppliers at the margin and global capital is not optimally reallocated. The impacts on South Africa are virtually zero. The Tripartite FTA is almost as beneficial for South Africa as the SADC FTA, in part because South Africa is virtually the only regional economy that does not have a direct linkage into more than one FTA through overlapping memberships, and, perhaps more importantly, South Africa has significant industrial power and a well developed secondary agricultural industry to capitalise on these new opportunities. And it is this secondary agricultural sector that benefits the most from a Tripartite FTA, and, in particular, from better access into the 138

144 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts GTAP aggregation entitled the Rest of East Africa including Kenya, Rwanda, Burundi and Sudan. Gains for South Africa are generally spread across the manufacturing sectors, with the vehicles and the chemicals, rubber and plastics aggregated sectors doing well but the metal processors losing somewhat as resources are readjusted within the economy. Full integration the summary, conclusions and policy implications The Tripartite FTA is advantageous for South Africa. As a country belonging exclusively to SADC, South Africa has much to gain from finally obtaining better linkages into the countries further to the north. Finally, the overlapping membership controversy that afflicts the region is made redundant as all members of the three regional groupings become one. We also add that this overlapping question is made more difficult in this GTAP modelling exercise in so far as the regional aggregation used also contributes to the overlapping despite some mitigation through trade weighting of the tariff eliminations. South Africa is accentuated in as much as it is the only real economic powerhouse in Africa with significant industrial capacity and a secondary agricultural sector that has real presence worldwide. The step by step initiation of the three FTAs before the final Tripartite FTA is brought to fruition clearly highlights where South Africa s priorities lie. The main objective must be to fully operationalise the SADC FTA, as currently the concessions made by SACU for what effectively boils down to duty-free access to its markets are not reciprocated by other members of SADC. Thus, the trade opportunities are biased towards South Africa in this FTA. In the final Tripartite FTA South Africa gains almost as much as it does from the full SADC FTA as its secondary agriculture in particular is able to benefit from better access into COMESA and EAC, access that some of its SADC competitors such as Swaziland s sugar sector are able to access before South Africa by virtue of overlapping regional memberships. Our analysis clearly also highlights that the EAC and COMESA FTAs are of very little direct interest to South Africa in the strict economic sense, although it needs to be kept firmly in mind that the full regional integration would not take place without these intermediate steps. We have, of course, ignored the political realities that would have to be overcome in order to achieve each of these intermediary steps, but add that perhaps the greatest of these hurdles lies closer to home with the SADC FTA. The gains from the four FTAs discussed here are additive, and the full values to South Africa from integration can be seen from the welfare and trade results presented in the chapter. 139

145 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts These comprehensive results are significant, and fully support the political ambitions of operationalising the SADC FTA and then integrating the rest of eastern Africa into a cohesive region. This study as seen in conjunction with other tralac research examining South Africa s way ahead in trade policy clearly confirms that the regional and African emphasis is economically sound for the region. References Badri, N.G. and Walmsley, T.L. (eds.) Global Trade, Assistance, and Production: The GTAP 7 Data Base. West Lafayette: Center for Global Trade Analysis, Purdue University. Bouët, A. et al A consistent, ad-valorem equivalent measure of applied protection across the world: The MAcMap-HS6 database. CEPII Working Paper No. 2004, 22 December (updated September 2005). [Online]. Available: CIE Study on the Review of the Revenue Sharing Arrangement for SACU. Paper prepared for the SACU Secretariat. Sydney and Canberra: Centre for International Economics. IMF Regional Economic Outlook: Sub-Saharan Africa. Washington: International Monetary Fund. Nielsen, C. and Anderson, K GMOs, Trade Policy, and Welfare in Rich and Poor Countries. Paper presented at the World Bank Workshop on Standards, Regulation and Trade, Washington, D.C., 27 April Sandrey, R Living in the shadow of the mountain. In Bösl, A. et al. (eds.), Monitoring Regional Integration in Southern Africa Yearbook Volume 7. Stellenbosch: tralac. [Online]. Available: /. Sandrey, R. et al Cape to Cairo An Assessment of the Tripartite Free Trade Area. Stellenbosch: tralac. [Online]. Available: Walmsley, T.L A Baseline Scenario for Dynamic GTAP Model. Revised March 2006 for GTAP 6 Database. West Lafayette: Center for Global Trade Analysis, Purdue University. 140

146 Chapter 3 Manufacturing and regional free trade agreements: a computer analysis of the impacts Annex 1 Membership of the Regional Blocs Country SADC EAC COMESA Angola Botswana X X DRC X X Lesotho X Madagascar X X Malawi X X Mauritius X X Mozambique Namibia X X Seychelles X X South Africa X Swaziland X X Tanzania X X Zambia X X Zimbabwe X X Burundi X X Kenya X X Rwanda X X Uganda X X Comoros Djibouti Egypt Eritria Ethiopia Libya Sudan (now two countries) X X X X X X X 141

147 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area Mark Pearson 1. Background and introduction 1. Africa accounts for less than 2.5% of world trade, and non-oil exports have accounted for about 1% since 1992 half of their 1980 value. The level of intra-african trade is also low: 10% compared to about 40% in North America and about 60% in Western Europe. In addition, Africa has the highest export product concentration of any continent, coupled with a high export market concentration. This reflects continued reliance on primary commodity exports mainly to the European Union, United States of America and China. 2. Africa also ranks low on trade policy and facilitation performance, with seven African countries listed in the bottom ten most restrictive trade regimes. In general, and compared to other countries, African countries have performed poorly in terms of logistics. Markets remain fragmented and borders are difficult to cross, which prevents the emergence of regionally integrated industries and supply chains. 3. In the COMESA-EAC-SADC Tripartite region the costs of transport, in particular road transport (which accounts for about 95% of the volume of cargo transported in the region), is directly related to the time taken for the journey. The typical charge for a stationary truck is between US$200 to US$400 a day. Therefore, if a truck takes three days to clear a border (which is not excessive in the COMESA-EAC-SADC region) the transporter will pass on an additional cost of between US$600 to US$1 200 for the cost of the truck sitting idle at the border to the importer. This, in turn, will be passed on to the importer s client and ultimately to the consumer. 4. Similarly, it costs US$5 000 to US$8 000 to ship a 20ft container from Durban to Lusaka, compared to the costs of US$1 500 to ship the same container from Japan to Durban. This means that a producer that relies on imported components for his manufacturing business that is based in Lusaka would need to absorb this extra transport cost compared to his 142

148 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area competitor near the port. It is often more economical to export a raw material, or a semiprocessed raw material (such as copper concentrate as opposed to copper wire, or sugar as opposed to confectionery) than to import the materials needed to process the material and to then export the processed good. 5. Until the underlying causes of these high costs of transport are addressed African countries will remain high-cost producers, with no major direct investments in non-mineral sectors, restricted economic growth opportunities and slow progress in poverty alleviation. In an effort to address these challenges and to improve market access for producers and traders in the eastern and southern African region the member states of the three regional economic organisations of the Common Market for Eastern and Southern Africa (COMESA), the East African Community (EAC) and the Southern African Development Community (SADC) launched the COMESA-EAC-SADC Tripartite Free Trade Area on 12 June The Tripartite Free Trade Area (T-FTA) aims to reduce tariffs imposed on goods originating and traded in the region. However, in addition to tariff barriers, the region s producers and traders also face a number of non-tariff barriers (NTBs) and high cross-border trade and transport costs. An integral part of the Tripartite Free Trade Area is the design and implementation of a programme that is aimed at improving trade and transport measures and reducing NTBs to trade. The aim of this chapter is to describe the main components of the T-FTA trade facilitation and NTB programmes and put these programmes into a regional and a multilateral context. 2. Brief description of the COMESA-EAC-SADC Tripartite 6. The COMESA-EAC-SADC Tripartite was created in 2006 to assist in the process of harmonising programmes and policies within and between the three regional economic communities (RECs) of COMESA, EAC and SADC and to advance the establishment of the African Economic Community. 7. The Tripartite structures comprise the Summit of Heads of State and Government, the Council of Ministers (supported by sectoral ministerial committees), senior officials and the Tripartite Task Force (TTF). Day-to-day management of Tripartite activities is done by the TTF which is made up of the Secretary Generals of COMESA and EAC and the Executive Secretary of SADC, supported by a subcommittee on trade and a subcommittee on infrastructure. 143

149 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area 8. The three main pillars of the Tripartite strategy, as contained in the Vision and Strategy document that was endorsed at the second Tripartite Summit in June 2011 are: i) Market Integration Market integration concerns the removal of tariff and non-tariff barriers and the implementation of trade facilitation measures, all of which are essential for the establishment of a well-functioning Tripartite FTA by the 26 member states (which will increase to 27 when South Sudan becomes a member). ii) iii) Infrastructure Development Infrastructure development concentrates on improving the region s infrastructure so as to improve the efficiency of the internal trade and transport network (road, rail, water and air and including information and communication technologies (ICT) and energy). Industrial Development The intention is to develop industrial development and supply side programmes that can take advantage of improvements in market integration and infrastructure development. 9. The two main components of the market integration pillar are: i) The design, negotiation and implementation of the Tripartite FTA. The decision to develop a Tripartite FTA Roadmap and to roll out this Tripartite FTA was endorsed by Heads of State and Government at their first Tripartite Summit held in Kampala in October Since this decision was taken, the Tripartite, led by the Trade Subcommittee, has prepared a Draft FTA Roadmap and a Draft Agreement establishing the Tripartite FTA. The second Tripartite Summit launched the negotiations for the Tripartite FTA on 12 June ii) The removal of non-tariff barriers and improving trade facilitation programmes to reduce the costs of cross-border trade so as to improve the competitiveness of the region. 10. This chapter provides a description and discussion of the activities and results of the Tripartite programmes aimed at the removal of non-tariff barriers and improving the effectiveness of trade facilitation measures. 144

150 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area 3. Comprehensive Tripartite Trade and Transport Facilitation Programme 11. The economic integration agenda being implemented at the level of the three regional economic communities of COMESA, EAC and SADC has prioritised programmes addressing trade and transport facilitation challenges with the aim of lowering costs of doing business and improving the competitiveness of products from the eastern and southern African region. Such programmes encompass regulatory and policy reforms encouraging the adoption of international instruments and best practices, national and regional capacity building programmes to facilitate cross-border movements, and enhancement of infrastructure facilities at border posts to improve efficiency of cross-border movements. 12. While COMESA, EAC and SADC have had some successes in facilitating trade through such programmes, there have been challenges of limited implementation at national level and the requirements to implement different programmes and different instruments in countries that belong to more than one regional economic community. There is also a multiplicity of international cooperating partners active in the field of transport and trade facilitation. There is a need for the Tripartite Task Force to provide guidance and leadership so as to ensure harmonisation of the programmes of regional economic communities and international cooperation partners so that they complement each other rather than compete against each other. 13. To address these challenges the COMESA-EAC-SADC Tripartite has launched the Comprehensive Trade and Transport Facilitation Programme (CTTTFP) which is a series of initiatives from different regional economic communities that have been brought together into one large integrated trade facilitation programme that includes: i) The NTB Monitoring, Reporting and Removal System ii) iii) iv) Border and customs procedures (one-stop border posts, integrated border management, regional customs bond, transit management); Immigration procedures; Transport procedures (regional third party insurance, vehicle standards and regulation, self-regulation of transporters, overload control, harmonised road user charges, regional corridor management systems; and 145

151 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area v) The establishment of the Joint Competition Authority linked to air transport liberalisation. 14. The objectives to be addressed through the CTTTFP are to: i) Increase trade and promote economic growth in eastern and southern africa by supporting improvements in policies and in the regional regulatory and economic environment; ii) iii) iv) Reduce high costs of trading in the region and help the national administrations, working through the RECs, to address barriers to trade and growth; Reduce transit times and transaction costs along the principal corridors in eastern and southern Africa through better infrastructure, faster border crossings and harmonised trade and transit regulations; and Improve aid effectiveness by coordinating donor funding for priority aid-for-trade programmes. 3.1 NTB Monitoring, Reporting and Removal System (NTB Mechanism) 15. It has been empirically demonstrated that the removal of tariff and non-tariff barriers between countries can lead to trade expansion. Intra-Tripartite export trade grew by over 250% between 2000 and 2008, arguably as a result of liberalisation of trade within each regional economic community. The removal of existing non-tariff barriers (NTBs) will lead to increased levels of regional trade and, as such, identification, removal and monitoring of NTBs is a priority area for policy harmonisation and coordination under the COMESA-EAC- SADC T-FTA framework. 16. Legal instruments of the three regional economic communities, namely Articles 49 and 50 of the COMESA Treaty, Articles 75(5) of the EAC Treaty and Article 6 of the SADC Protocol on Trade, provide for the elimination of non-tariff barriers and further prohibit the introduction of new ones. Article 10(1) of the Tripartite Agreement calls on Tripartite member states to eliminate all existing NTBs to trade with other member states and not to impose any new ones. Nevertheless, although the COMESA, EAC and SADC free trade areas 146

152 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area have removed duties on substantially all goods traded within their territories, trade remains restricted by the existence of non-tariff barriers. 17. There are obvious challenges faced in removing NTBs within the regional trading arrangements that relate to gaps in the regional legal framework and in regional policy implementation at the national level, as member states weigh the costs of implementation against immediate gains and delay putting in place legislation necessary to facilitate implementation of regional commitments to address NTBs. 18. The main objective of the NTB monitoring, reporting and removal programme is to remove all NTBs, or at least the main NTBs 1, that are restricting trade. They are: i) Customs documentation and administrative procedures these include nonstandardised systems for imports declaration and payment of applicable duty rates, non-acceptance of certificates and trade documentation, incorrect tariff classification, limited and uncoordinated customs working hours, different interpretation of the rules of origin (RoO) and non-acceptance of certificates of origin, application of discriminatory taxes and other charges on imports originating from member states, and cumbersome procedures for verifying containerised imports. ii) iii) iv) Immigration procedures including non-standardised visa fees and cumbersome and duplicated immigration procedures. Quality inspection procedures delays in inspection of commercial vehicles, cumbersome and costly quality inspection procedures, unnecessary quality inspections (including of products certified by internationally accredited laboratories), nonstandardised quality inspection and testing procedures, and varying procedures for issuing certification marks. Transiting procedures non-harmonised transport policies, laws, regulations and standards including road user charges, third party (cross-border) motor insurance schemes, vehicle overland controls systems, vehicle dimensions and standards, crossborder road permits and prohibitive transit charges. 1 Most NTBs faced in the Tripartite region fall within the import measures subcategories A,E,F,I,L,M and O of the UNCTAD/World Bank categorisation 147

153 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area v) Roadblocks stopping of commercial vehicles at various inter-country road blocks even where there is no proof that goods being transported are of a suspicious nature, such as smuggled goods or drugs. 19. COMESA, EAC and SADC have, in the past, developed different mechanisms to identify report and monitor elimination of NTBs and resolve disputes. These mechanisms have, to a great extent, identified all the common NTBs encountered in the region and the frequency at which they occur, and attempted to facilitate resolution of the same through resolution at the Council of Ministers level and other consultative processes. The existing mechanisms that are in place were the starting points for the design of the online ( Tripartite NTB Monitoring, Removal and Reporting Mechanism (NTB Mechanism) and the process for elimination is also based on existing mechanisms. 20. The NTB Mechanism establishes a common framework for the systematic elimination of NTBs within the Tripartite FTA arrangements. It is a repository of all reported NTBs (in English, French and Portuguese), allowing information disseminating to all stakeholders (researchers, traders, exporters, importers, policy makers/administrators, etc.) and more importantly, an interactive process for monitoring resolution of barriers by Tripartite member states. It enhances transparency and easy follow-up of reported and identified NTBs. The mechanism is accessible to economic operators, government functionaries, secretariat experts, academic researchers and other interested parties and is administered by TradeMark Southern Africa, COMESA, and SADC NTB Units and national NTB focal points that have been allocated access passwords providing different levels of access into the system according to their responsibilities. 21. At national level, National Monitoring Committees (NMCs) have been established with public and private sector participation that are tasked with defining the process of elimination, defining mandates and responsibilities at the national level, outlining the time periods for the various stages of elimination and removal of NTBs, and resolving reported NTBs. 148

154 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area Box 1 - The Tripartite NTB Mechanism in action The following are some of the NTBs addressed by the NTB system and which are reported on the NTB website at - In December 2010 a Zambian transporter carrying goods worth US$ was subjected to a four-day delay at a faulty electronic weighbridge at the Victoria Falls weighbridge on the Zimbabwe side as well as receiving a heavy penalty for being overloaded. Interventions by the NTB national focal points from Zimbabwe and Zambia facilitated recalibration of the weighbridge in March 2011 by the relevant Ministry (NMC member) and since then no complaints have been received. - Exports of plastics from Kenya to Tanzania have been stopped because Tanzania imposes a 25% duty on these goods as Tanzania does not accept that these imports originate in Kenya. At their NTB online system sensitisation workshop held on 30 August 2011 the private sector reported that this as a NTB and which has cost Kenya an estimated Ksh60m in annual duty payments since The report, logged onto the online system on 30 August, triggered action from NTB national focal points in that they are organising a verification mission. - The Zambezi River Authority and the Ministry of Transport (Zimbabwe) imposed a 3 ton gross vehicle mass limit on vehicles crossing the Kariba dam wall. This forced cross-border buses, and so small-scale cross-border traders between Zambia and Zimbabwe, to use the more expensive Chirundu border crossing. NMC consultations facilitated a meeting between the Zambezi River Authority and other concerned parties which revealed that the engineer s specifications for the dam wall accommodated an 11 ton gross vehicle mass. Based on these findings the maxim gross vehicle mass was adjusted and buses of up to 11 tons are now allowed to cross the dam wall, thus resolving the NTB. - In February 2010 transporters complained that Kenya weighbridges were not accurately calibrated and this resulted in transporters being subject to demands for informal payments before they could proceed on their journeys. This was reported as a NTB and at the NMC meeting held in Nairobi on 29 th August 2011 Kenya reported that the weighbridges had been automated so that axle loads are now recorded online. 22. The mechanism takes into account the regional dynamics at play with regard to various instruments put in place by COMESA, EAC and SADC to address the NTBs in the region. A structured consultative process involving, when necessary, country missions by the Tripartite Secretariat (NTBs Unit) and/or appointed facilitator to resolve outstanding NTBs in a timely manner is an integral part of the mechanism. 149

155 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area 3.2 Border and customs procedures One-stop border posts 23. A number of Tripartite countries have fully embraced the one-stop border post (OSBP) concept and aim to convert most, if not all, of their border posts to OSBPs An OSBP implies that goods and passenger vehicles only stop once at the border and exit from one country and enter another country at the same time. This results in a reduction in time and costs involved in border crossings. 25. The rationale for the establishment of OSBPs is clear in terms of both enforcement and economic benefits. The main benefits of a OSBP are derived from the fact that border authorities from two countries perform joint controls with resulting benefits such as: i) Better resource utilisation through a reduction in the duplication caused by dealing with two identical sets of agencies by having juxtaposed (straddling) common facilities for authorities on either side, with each facility handling traffic going in only one direction on either side of the border; ii) iii) Improved enforcement efficiencies through cooperation; and Sharing of intelligence, improved communication and sharing of ideas, information and experiences that can result in more effectively combating fraud. 26. There are four core elements involved in implementation of an OSBP: i) Legal framework (done nationally although EAC is working on a regional framework); ii) iii) iv) Design of procedures and traffic flows for the whole common control zone; Information and communication technologies; and Design of physical facilities as a common integrated facility by the two countries concerned. 2 Given that conversion of a border post into a OSBP needs significant financial output to make infrastructure adjustments, requires changes in border procedures (and so changes management strategies) and assumes that the appropriate legislation and ICT infrastructure is in place, the implementation of an OSBP is not the optimal economic or financial solution at all border posts, especially for borders with low traffic volumes. 150

156 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area 27. It is essential that the implementation of a one-stop border post involves all four of the above key elements and that the four elements are integrated. The legal framework provides border officers with the jurisdiction to apply their national laws within the territory of the adjoining state. The legal framework also establishes the agreement between countries on the operational practices of the OSBP. ICT is essential to the operation of an OSBP as all agencies need consistent connections to other agencies in the Common Control Zone as well as to their national headquarters. Physical facilities need to be designed according to the planned procedures to allow for a logical and smooth movement of vehicles, persons and documents at the border post. 28. The benefits for border agencies and traders in establishing one-stop border posts can be further enhanced by combining such arrangements with other international coordinated border management arrangements. These include the exchange of data and intelligence and the mutual recognition of authorised economic operators (AEOs). 151

157 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area Box 2 Chirundu One Stop Border Post Chirundu, the main border between Zambia and Zimbabwe, was officially opened as a one-stop border post in December Some of the major success factors of the Chirundu OSBP include: - Very strong political support from the two governments; - Private sector support (importers, agents and transporters); - The establishment of four result oriented Subcommittees (procedures subccommittee, legal subcommittee, ICT subcommittee and facilities subcommittee); - An approved programme of work by the joint steering committee; - The completion and signing of the Bilateral Agreement and the Legal Framework; - The adoption of clear and agreed procedures; and - A successfully implemented change management programme. The results achieved to date have been: - The granting of extra territorial authority to government agencies which is exercised in both territories within the Common Control Zone - Infrastructure upgrading and modifications to make the OSBP operational; - Negotiated OSBP procedures acceptable to both government agencies and the private sector; - Both passengers and commercial traffic stops only once to complete border formalities for both countries in one facility; - Waiting times for commercial traffic have been reduced from 3-5 days to same-day clearances and often to a few hours; and - Clearance times for passengers on buses (76-seater) have been reduced from about six hours to less than two hours Owing to the fact that clearance times are now faster more truck drivers are using Chirundu as their preferred point of entry into, and point of exit out of, Zambia. Despite this increase in traffic volumes the border agencies are still able to clear all trucks arriving at the border in the same day. 29. The Tripartite Task Force, the agencies it works with and the Tripartite countries have gained a large amount of experience 3 when it comes to the design and implementation of OSBPs. Lessons learned at a regional level include: 3 The EAC has recently produced the OSBP Source Book, with support from the Japan International Cooperation Agency (JICA), which addresses the concept and critical issues of OSBPs and uses case studies to illustrate these issues. 152

158 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area i) It is a much simpler exercise to operate an OSBP if it was designed as such from the onset instead of having to modify physical infrastructure after it has been built and to adjust procedures to take account of the limitations of the physical infrastructure. This has implications for the coordination of the process of designing an OSBP. In Chirundu subcommittees dealing with ICT, facilities, procedures and law were established but these should be established even before the design work on an OSBP starts. In Chirundu a coordination committee with members from both sides of the border continues to meet regularly to administer the OSBP. ii) iii) iv) The work of the subcommittees needs to be guided by a work programme with a realistic budget from the setup of the subcommittees. This budget can be financed by the countries concerned, the relevant regional organisations, donors or a combination of these. But it is essential that the budget is available to the subcommittees in a timely and non-bureaucratic manner to allow them to meet at regular intervals. Strong political drivers at the highest levels are essential and there must be an agreed memorandum of understanding or agreement of some sort on the proposed OSBP. This must be accompanied by a legal framework allowing extraterritorial authority for purposes of implementing an OSBP system. Consultative meetings at national level are required before convening a stakeholder meeting involving both countries. The national steering committee meetings enable the public sector and the private sector in each country to deal with their internal issues and bridge their gap before engaging each other at a bilateral level. v) The process of introducing a one-stop border post should also be accompanied by a change management process, and failure to adequately address this issue with the seriousness it deserves could lead to poor or non-implementation of the border as a one-stop border post. vi) The steering committee responsible for the implementation of the one-stop border post needs to sign off on the procedures, preferably by putting these in a memorandum of understanding that has allowed the establishment of the OSBP, and to comply with these procedures. Failure to comply with agreed procedures will delay implementation and necessitate multiple design and works contracts to be awarded. 153

159 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area vii) It is important to involve the private sector in the design of the OSBP and in the subcommittees from the very start of the process. viii) The importance of having effective and efficient ICT in the implementation of an OSBP (and in all trade and transport facilitation measures) cannot be overemphasised. ICT is important for a multitude of modern customs operations including customs automation, cargo tracking, pre-arrival clearance, risk analysis, the electronic submission of documents, information management, terminal operations, and electronic single windows. ICT is equally important in the functions of other border agencies, such as immigration. Not only do efficient ICT systems enable faster processing times, increased revenue collection, reduced red tape and increased capacity and efficiency but it also allows new and innovative systems to be introduced that are not possible without efficient ICT systems. 30. There are a number of challenges to be overcome when establishing a one-stop border post including managing change at the border itself as well as handling the expectations of all stakeholders. Implementing an OSBP involves a radical change in the operations of especially customs and immigration. Customs and immigration officers need to physically relocate to the other side of the border and so work in a different country. The officials usually see no reason to make these changes as clearing goods and passengers more quickly has no direct benefits for them. 154

160 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area Box 3 Kasumbalesa border post Kasumbalesa border post is a very busy border post between Zambia and DR Congo. The Zambians concessioned the infrastructure for the border post to an Israeli-controlled company (ZipBCC) in 2010 and in 2011 the border post physically moved to operate from the new concessioned site. The new infrastructure includes a new building from which the Zambian border agencies operate and a new parking hard-stand where trucks and other vehicles park while the process of clearing the border is transacted. The new buildings have significantly improved the working conditions for border agency officials. In order for the concessionaire to recoup his capital outlay and to pay for maintenance he charges each vehicle a fee to enter and exit the border facility and all vehicles crossing the border are obliged to pay this fee. The charge for trucks is US$19 per axle (meaning that a 7-axle interlink will pay US$133 on entering DR Congo and on exiting DR Congo at Kasumbalesa). The same concessionaire has recently (2011) been awarded the concession for the infrastructure on the DR Congo side of the Kasumbalesa border post and construction of the new buildings is nearing completion. If both border posts had been awarded to the concessionaire at the same time it may have been practical to have established a one-stop border post at Kasumbalesa. But this has not happened and the concessionaire will administer the two borders separately and charge for vehicles crossing the border twice. 31. One of the major challenges faced in implementing one-stop border posts, at least in the southern African sub-region of the Tripartite, is the propensity of Tripartite countries to concession border infrastructure as private concessions on a build-operate-transfer basis over a year period. Concessioning of infrastructure at border posts is taking place in Zambia (with Kasumbalesa and Nakonde already concessioned and plans for the concessioning of four more border posts being finalised), Zimbabwe (with the infrastructure on the Zimbabwean side of Beitbridge concessioned) and Tanzania (with plans for the concessioning of Tunduma at an advanced stage). This has the effect of allowing infrastructure to be improved at the border post and this is in itself a major advantage. However, to date, the design and construction of this concessioned infrastructure has not been done as part of a plan to implement a one-stop border post. The process that has been followed is a national one, so it is not possible to arrive at a one-stop border post solution following this methodology as at least two of the four core elements involved in implementation of an OSBP (these being the design of procedures and traffic flows for the 155

161 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area whole common control zone which straddles two countries and the design of physical facilities as a common integrated facility by the two countries concerned) are not being addressed. 32. Therefore, despite countries in the region committing themselves to a policy of implementing one-stop border posts to reduce the costs of cross-border transactions, this policy is often not being implemented in practice. The concessioning of infrastructure at borders has no doubt improved the work environment for border officials and users alike but these improvements have not necessarily improved the efficiencies of the borders in terms of crossing times. These infrastructure improvements will also not automatically result in a reduction of border transaction costs. 4 The implications are that although infrastructure has been improved, because these improvements have not been done in conjunction with improvements in border processes, this improved infrastructure will be of limited value to the countries concerned in terms of improving the business environment and reducing the costs of doing business. Concessioning borders in the way it is being done at present in the Tripartite region will have limited trade facilitation benefits and an alternative model should be explored Integrated border management (IBM) systems. 33. In the Tripartite region most customs agencies are part of revenue authorities, which reflects the fact that trade taxes collected by customs agencies are an important source of revenue for the national governments and also for the region. Although all governments in the region have reduced the levels of duties over the last 10 to 15 years, both as part of a regional efforts to get national trade taxes in line with proposed common external tariffs 5 of COMESA and EAC (SADC has not set a common external tariff) and as through unilateral efforts, there are a number of governments in the Tripartite region that still derive around 4 The concessionaire at Kasumbalesa charges US$133 for a 7-axle truck to enter the border facility. Effectively the same concessionaire will operate on the DRC side of Kasumbalesa and at Tunduma and Nakonde. One assumes that he will levy similar fees at all these borders, meaning that a trucker will pay US$1 064 in border fees alone on a return journey from Dar es Salaam to Lubumbashi. It could be argued that what is paid in border fees will be saved in time taken waiting at borders, which can be as high as US$200 to US$400 per day. However, as has been shown, improving infrastructure without addressing border processes will not necessarily allow any savings in time to be made. 5 The COMESA and EAC common external tariffs are similar at 0% for raw materials and capital goods, 10% for intermediate goods and 25% for finished goods. 156

162 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area one quarter of their total tax revenue from trade taxes. It is therefore clear that trade tax revenue is an important source of revenue to the region which means that Tripartite customs systems need to be efficient in ensuring maximum compliance with the minimum amount of trade disruption. 34. All Tripartite member states at least endorse the aims and objectives of the World Customs Organisation s Revised Kyoto Convention of 1999, which aims to provide customs administrations with a modern set of uniform principles for simple, effective and predictable customs procedures that also achieve effective customs control. 6 The Revised Kyoto Convention, coupled with the Istanbul Convention (governing temporary admission of goods), the Arusha Declaration (a non-binding instrument which provides basic principles to promote integrity and combat corruption within customs administrations), the Nairobi and Johannesburg Conventions (enabling customs administrations to afford each other mutual assistance on a reciprocal basis, with a view to preventing, investigating, and repressing customs offences) and the SAFE Framework of Standards (a non-binding instrument that contains supply chain security and facilitation standards for goods being traded internationally) 7 address the requirements of both the trade and customs administrations. 35. The texts of these conventions and frameworks incorporate modern methodologies to provide a balance between the customs functions of control and revenue collection with that of trade facilitation, to ensure that customs are able to carry out their responsibilities more efficiently and effectively, and are able to facilitate the international movement of goods while ensuring full compliance with national laws. 36. Tripartite countries that have signed the Revised Kyoto Convention are Botswana, Lesotho, Mauritius, Namibia, South Africa, Uganda, Zambia and Zimbabwe. It is not clear why other countries in the Tripartite have not acceded to the convention as, by and large, all of these countries subscribe to the principles and guidelines of the World Customs 6 The revision of the Kyoto Convention was considered necessary as a result of the radical changes in trade, transport and administrative techniques since it had originally been adopted in An additional reason was that it had not significantly resulted in the harmonisation and simplification of customs procedures worldwide. 7 The SAFE framework enables integrated supply chain management for all modes of transport, strengthens networking arrangements between customs administrations to improve their capability to detect high-risk consignments, promotes cooperation between customs and the business community through the authorised economic operator (AEO) concept, and champions the seamless movement of goods through secure international trade supply chains. 157

163 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area Organisation (WCO) conventions and other instruments. There is, however, an issue as to how well even the countries that have acceded to the conventions actually implement the provisions of the conventions or follow the WCO guidelines. In assessing the level of conformity in implementing the Revised Kyoto Convention, Justin Zake (2011) states that [f]rom the available information and experience of FAD [Fiscal Affairs Department of the IMF] field missions to some Anglophone African countries, accession by some of the countries appears to be more of a formality than intent to implement the convention s provisions. 37. In order to assist countries to improve the overall performance of customs administrations and meet the growing expectations of society, business and governments the WCO has introduced the Customs Reform and Modernisation (CRM) Programme. The CRM Programme is a collection of management tools available to customs administrations to assist them to better understand the requirements of their changing external and internal environment, and to develop self-assessment abilities and skills to implement a comprehensive and sustainable organisational improvement and change programme. In the Tripartite region the CRM Programme has been implemented in Uganda and is currently under implementation in Mauritius, Namibia and South Africa, and in SADC on a regional basis. 158

164 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area Box 4 Integrated border management (IBM) State interests at the border include protection of national security, enforcement of immigration requirements, enforcement of import and export restrictions and prohibitions, collection of revenue, recording cross-border statistics, and enforcement of international health regulations. The responsibility for protecting these interests is vested in several state agencies. They include police, security, customs, immigration, those responsible for sanitary and phyto-sanitary regulations, and the relevant bureau for standards. Generally, each border management agency carries out its own border management policies and strategies and each agency s border office minds its own processes although initiatives such as single windows and one-stop border posts have resulted in increased cooperation among border agencies. Some countries, like those of the European Union and of the western Balkans, have developed a holistic and coordinated approach to border management. This approach, called integrated border management (IBM), focuses on coordination and cooperation between all actors involved in border management, and in improving a number of key management areas (KMAs) which are critical in border management. By improving communication, information exchange and mutual assistance of and between the different border agencies, the state border can be managed more successfully. There are three pillars in the IBM approach: i) Intra-agency cooperation; ii) Inter-agency cooperation; and iii) International cooperation For each of the three pillars there are 6 key management areas, these being: i) Legal and regulatory framework; ii) Institutional framework; iii) Procedures for cooperation iv) Human resources and training v) Communication and information exchange; and vi) Infrastructure and equipment Typically, the border management agencies in the Tripartite region that need to cooperate within an IBM framework include: immigration; customs; bureaux of standards; environment management agencies; health, food safety and international health regulations enforcement agencies; police, border control and security; road transport and safety agencies (RTSA); vehicle examination departments (VED); and drug enforcement commissions (DEC). 159

165 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area 38. In addition to the efforts of the WCO to assist its members to reform and modernise customs administrations, the Tripartite Task Force has embarked on an IBM programme to assist countries to improve the efficiency of movement of goods across borders. The IBM concept, which, in the Tripartite region, is supported by a number of donor-funded programmes is a multi-agency approach that encompasses the entire transport and supply chain. The ultimate aim is to do as much of the clearing process behind the border as possible and for all border agencies to work together to minimise the disruption to movement of goods and people. 39. The treaties and protocols of COMESA, EAC and SADC have a number of provisions that support trade facilitation and cooperation between government agencies but these do not provide the strategic vision that is now required to implement IBM. Therefore the Tripartite Task Force has formed a technical committee to develop a clearly articulated IBM policy and implementation strategy. In developing this strategy there is a recognised need to clarify roles and establish mechanisms for coordinating the implementation at the regional and national levels which may require the COMESA, EAC and SADC Secretariats to make adjustments to facilitate a collaborative approach in the implementation of the programme and for member states to designate lead (or coordinating) agencies to interface with the Tripartite Task Force in this endeavour. 160

166 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area Box 5 - Integrated border management in the Tripartite region Kenya is in the process of introducing the National Single Window System whereby registered clearing agents, on behalf of their clients, complete all customs documentation and scan all supporting documentation either on entry at Mombasa port or, if possible, before the goods arrive. The authorised agent sends these electronically to a central processing location in Nairobi. At the central processing location well-trained officers assess the declarations and determine what taxes and duties need to be paid. They then deduct these taxes and duties from the bank account of the authorising agent and concurrently notify the port authorities, transporters and local customs offices of the release of the goods. South Africa has also recently announced a similar system. The benefits of this system are: - The opportunity for fraud and corruption is minimised as there is no contact between the importer and the tax assessor; - Staffing at the point of entry is minimised so the amount of infrastructure (housing and office accommodation) that is required at the border is reduced; and - Fewer but better trained staff are required to assess imports. With the improved communication systems that are being installed in the Tripartite region, especially the rapid expansion of fibre optic cable links, these improved border management systems will no doubt be introduced throughout the region and so improve trade facilitation in the Tripartite region and reduce cross-border transaction costs. 40. The processes to be followed at the regional level in the development and rollout of IBM strategies would be broadly as follows: i) Preparation of a policy statement on IBM for consideration by the Tripartite Sectoral Committee of Ministers of Trade. The policy statement will briefly describe the IBM concept and its importance in the implementation of regional integration agenda and total cross-border efficiency. ii) iii) Developing IBM guidelines to be used by member states. The international best practice is considered to be the EU guidelines and SADC guidelines which can be used to promote the concept in the Tripartite region. Promotion of implementation by member states by running sensitising workshops for relevant stakeholders on the IBM concept, facilitating the establishment of project implementation structures and undertaking the initial scoping/gap analyses that would facilitate the development of national IBM programmes. 161

167 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area iv) Assisting member states with securing technical assistance to implement IBM and for capacity building at national level and coordinating this capacity building at the Tripartite level. v) Monitoring and issuing periodic reports on progress in the implementation of IBM in the region. 41. The processes to be followed at the national level in the development and rollout of IBM strategies would be broadly as follows: i) Adoption of a policy statement by the government that will briefly describe the concept of IBM and its importance in enhancing border efficiency, cross-border facilitation, and national efforts to implement regional and international instruments. ii) iii) iv) Carrying out a situation or gap analysis to determine the extent of IBM in the country. Appointment of a national IBM coordinator or coordinating agency with a small secretariat. Establishment of a National IBM Steering Committee, a National Strategy Implementation Committee and specialised working groups as necessary. v) Development of a national IBM strategy to implement the recommendations of the situation analysis. vi) Implementation of the strategy by all border agencies. Box 6 Development of a national IBM system TMSA, with the Tripartite Task Force, has been working with the Government of Zimbabwe to design and implement an improved border management programme. This has involved: i) An assessment of the status of compliance of Zimbabwe s legislative and operational systems to the principles of IBM; ii) Ascertaining and documenting areas that need to be addressed for Zimbabwe s legislative and operational system to conform to the principles of IBM; iii) Proposing a broad strategy for the adoption of IBM by Zimbabwe; and iv) Ascertaining how feasible it is to streamline the number and roles of border agencies at the border posts including simplification of systems, processes and procedures. 162

168 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area 42. Although the IBM system is useful and valid in-country, the challenge for the region is to rollout such a system regionally. If the Tripartite Free Trade Area is to deliver maximum benefits in terms of realising sustained levels of high economic growth, the delivery of efficient business and administrative processes becomes more critical in the pursuit of economic success. Efficient and transparent documentation, statutory approvals and trade facilitation are vital to international trade and can be improved with a higher degree of automation. There are a number of examples that the Tripartite region can use as examples of implementation of national (or a single customs territory such as the European Union) IBM systems and single windows 8 but there are few, if any, multinational single window systems in operation. The challenge for the Tripartite is to develop the multinational single window concept (which is referred to in Chirundu as the Community Platform) and to then get consensus from the many border agencies in the many countries the multinational single window would need to operate in and to then rollout this system Regional customs bond 43. A regional customs bond guarantee would eliminate the avoidable administrative and financial costs that are associated with the current practice of nationally executed customs bond guarantees for transit traffic. At present transporters in the Tripartite region transiting through a country to arrive at another country need to take out a customs bond at least equal to the duty which would be payable on their cargo. When they prove that the cargo has actually left that customs territory, the bond is released. However, the process of releasing bonds takes time with the result that large amounts of money are tied up in the system of national bonds. This, plus the fact that it costs money and takes time to issue a bond, means that the cost of transport is higher than it needs to be if a system were found that would replace the national bond system. 44. Both SADC and COMESA have designed and piloted regional customs bond guarantee systems that allow transporters to take out a single bond covering the entire trip. There are 8 The single window concept enables important stakeholders within the supply chain to access comprehensive and detailed information that will reduce the time needed to facilitate the trade process. With less time spent on processing a single transaction, more transactions can be managed within the same time. 9 In East Africa, because Kenya uses SIMBA and the four other EAC members use ASYCUDA as their customs management systems, there is an interface between the customs management systems called the Revenue Authorities Digital Data Exchange (RADDEx) but this is not a single window. 163

169 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area both slight and fundamental differences between the two systems, and the challenge is to implement a harmonised system so that the end result is a single regional customs bond system. If one country along a transport route operates a different bond guarantee system to that operated by its neighbours, the benefits of the regional system are greatly reduced. 45. There are, however, a number of challenges in implementing a regional customs bond, one of which is the local employment created by using national bonds. At the border between Zambia and Tanzania (for example) there are over 250 registered clearing agents, most of them being briefcase companies with no fixed company address. These agents make a living by assisting mainly transporters of goods in transit from the Tanzanian port of Dar es Salaam to the DRC to obtain a customs bond through Zambia. A regional customs bond guarantee system would significantly reduce the demand for the services these national agents provide but, at the same time, would be beneficial for the regional economy by assisting in reducing costs of transport and transit. 46. The Tripartite Task Force has launched a study that is assessing the various customs bond schemes being used in the region with the objective of making a recommendation on a solution to use the most appropriate customs bond as a region and to discuss this recommendation at a workshop in October Regional transit management system. 47. Within the Tripartite region, and because many of the Tripartite countries are landlocked, management of goods in transit is an important trade facilitation instrument which, if not implemented appropriately, results in excessive delays for transporters and losses to governments as goods in transit are diverted to customers in countries through which the goods are ostensibly supposed to be transiting. 48. The regional economic organisations each have their own transit management regimes. They all work in a similar fashion in that all transit goods and means of transport are presented to the customs office of commencement together with duly completed transit control documents supported by appropriate bonds as necessary for examination and affixing of customs seals. The office of commencement decides whether the means of transport to be used provide enough safeguards to ensure customs security and whether the 164

170 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area shipment may be made under cover of the relevant transit control documents. The means of transport, together with the respective transit control documents, are then usually inspected en route and customs officers satisfy themselves that the seals are intact (and check the seals affixed by the customs authorities of other states) and may also affix additional seals of their own. On arrival at the customs office of destination, the transit control document should be discharged, assuming the seals are intact, and this will allow the customs bond to be released. 49. Computerised customs management systems have transit modules built into the system. For example, ASYCUDA++ has a module for the management of transit procedures (the MODTRS module) that handles three transit documents, namely the T1, the TIR carnet and the First Identification Procedure (FIP). It is usable for all types of transit as defined in the Kyoto Convention covering the movements from the border office of entry to an inland office (import transit); a border office of entry to a border office of exit (through transit); an inland office to a border office of exit (export transit); and an inland office to another inland office (internal transit). 50. The MODTRS system (and other transit management modules) is technically designed to cover the international transit operations (data exchange of messages between countries) but the system itself, including the legal and regulatory requirements, still needs to be designed and the necessary communications hardware needs to be in place before a regional system can be implemented. This is something that the Tripartite is actively working on. 3.3 Immigration procedures 51. To date, the situation as regards computerised immigration systems in the Tripartite region greatly varies from country to country. There are some countries that have a partially computerised system (meaning that the immigration headquarters may have a computerised system but this may not cover all immigration activities and may not cover land borders); some countries have more than one system in operation, with these two 165

171 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area systems not communicating with each other 10 ; and some countries have sophisticated and integrated computerised systems. 52. The Tripartite is currently working with one country on a computerised immigration system that could be used as a standard for other countries that will need to upgrade and modernise their systems. 53. In addition, the community platforms or single window systems being designed will assist to improve the performance of immigration systems and improve trade facilitation. 3.4 Transport procedures 54. It is often though that the Tripartite region has a liberal transport regime when, in actual fact, there are very few rules and regulations that specifically address the transport sector and in particular the road transport sector. The result of this lack of specific transport rules and regulations is that other government agencies and bodies develop their own rules and regulations that affect the transport sector. An example of this is in East Africa where revenue authorities register and license trucks in terms of whether they can carry crossborder freight or whether they can only operate nationally. This legislation is in place for customs purposes but affects the operational efficiency and costs of the region s transport fleet. 55. The Tripartite is addressing market liberalisation of the transport sector by carrying out work on carriage of international road freight, introduction of international regulatory mechanisms, and regional harmonisation of road traffic legislation. The process being followed to achieve a market liberalisation in the transport sector draws on work being done in other areas of the Comprehensive Trade and Transport Facilitation Programme and is being undertaken in five phases: i) Phase 1: An assessment of current regime of bilateral transport agreements (already completed). 10 For example, some countries operate a system at their airports (PISCES) which is designed primarily to monitor travellers who may be considered to be a security risk. This system could be considered to be part of the global war on terror and does not link to the headquarters database that will contain information on what type of authority the traveller has to enter the country, such as whether s/he is a resident, a tourist, a temporary resident on a work permit, and so forth. 166

172 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area ii) iii) Phase 2: Development of Harmonisation Proposals: national and regional legal and institutional arrangements necessary for harmonisation will be defined and described. The investigation shall include an assessment of the preconditions for granting of a permit/licence in the territory of one state to the territory of the other state and in transit across the territory en route to another country. The proposals to be made should also clarify, as relevant, any institutional management arrangements necessary, especially at regional level. Phase 3: Development of Draft Competition Regulations: competition regulations for cross-border road transport that will ensure equitable cross-border road transport opportunities while boosting regional development and reducing the cost of road transport services across the region will be developed. The regulations shall include but not be limited to the following: a. harmonised transit charges systems; b. harmonised arrangements for transportation by road of dangerous and abnormal goods; c. harmonised vehicle operation reforms covering regional vehicle standards, roadworthiness, mass and loading laws, oversize and over-mass vehicles and road rules; d. a regional heavy vehicle registration scheme; e. a regional driver licensing scheme; and f. a consistent and equitable approach to compliance and enforcement with road transport laws. iv) Phase 4: Revision and updating of the SADC Draft Multilateral Agreement developed in 2002 and the EAC Agreement on Road Transport: existing agreements at the regional economic community level, which are now outdated, will be reviewed with a view to achieving the following: a. Allow the unimpeded flow by road of freight and passengers in the region; b. Liberalise market access progressively in respect of cross-border road freight transport; 167

173 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area c. Introduce regulated competition in respect of cross-border passenger road transport; d. Reduce operational constraints for the cross-border road transport industry as a whole; and e. Enhance and strengthen the capacity of the public sector in support of its strategic planning, enabling and monitoring functions. v) Phase 5: Development of an implementation plan: building on the results of the above steps, develop an implementation plan. That will result in the preparation and adoption of a Tripartite multilateral road transport agreement and starting implementation of this agreement by Third party vehicle insurance. 56. The Tripartite region has three different third party vehicle liability insurance schemes, these being: i) Cash payments at the border: these are country-based and they follow the laws and regulations of the country where payment is collected. For example, in Mozambique, payment applies to foreign vehicles only and covers third party vehicle and property damage. ii) iii) The fuel levy system: this involves indirect payments for third party insurance, made whenever there is a purchase of fuel. As foreign vehicles refuel in a foreign country they are automatically covered. The scheme covers injury to third parties and does not cover property damage. The fuel levy is operational in the Southern African Customs Union (SACU) states, namely Botswana, Lesotho, Namibia, South Africa and Swaziland. The COMESA Yellow Card: in 1985 the Preferential Trade Area (PTA), predecessor of COMESA, established a motor vehicle third party insurance system, called the Yellow Card, after noting problems with the cash payment system then in use in its member countries. A network of national bureaux, one in each country, administers the scheme. Each national bureau is responsible for issuance of Yellow Cards, handling settlement claims arising from accidents involving foreign vehicles insured under the scheme, and reimbursement claims paid on its behalf by other national bureaux. 168

174 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area 57. COMESA and SADC established a Working Group (later re-formed as Task Team in 2002) on the harmonisation of third party vehicle insurance schemes. The Task Team, after a review of the status of the systems in place, resolved that the Yellow Card scheme would offer a sound basis for an effective instrument to facilitate cross-border movement of vehicles, goods and persons and to enhance trade and transport development in the region and that there would be considerable benefits to the COMESA and SADC regions should the Yellow Card scheme and the fuel levy system be harmonised. Consequently, the Task Team has recommended that the two systems be interfaced as follows: i) Countries using the fuel levy should issue Yellow Cards to motorists travelling to nonfuel levy countries; ii) iii) iv) Foreign motorists travelling from non-fuel levy countries to fuel levy countries should be excluded from the fuel levy system and instead should carry Yellow Cards; Cash system countries should adopt the Yellow Card scheme; and The current operations of the Yellow Card system should be reviewed to respond to the issues raised by the states during the National Workshops. 58. In order to implement these recommendations the Tripartite Task Force has endorsed a work plan that, once implemented, should produce an interface between the three systems through the development of: i) a framework for harmonisation of third party insurance including the legal and institutional reforms that are necessary for the implementation of regionally harmonised arrangements for motor vehicle third party liability insurance; ii) iii) a system for interfacing the existing motor vehicle third party liability insurance system and the Yellow Card system; and an implementation plan for a harmonised framework, clearly showing responsibilities and time frames Vehicle standards and regulation 59. The Tripartite Task Force and member states are in the process of developing harmonised standards for fitness of vehicles. After the initial working group meeting in April 169

175 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area 2011 it has transpired that there are a number of other smaller studies required on, for example, smoke emissions, vehicle registration standards, training of examiners, bus overloading, and so forth. The EAC is carrying out studies on vehicle standards and regulations, and the outcomes of this work will feed into the Tripartite programme Self-regulation of transporters 60. Many of the region s transport delays can be attributed to bureaucratic delays caused by the need to check on compliance (such as customs inspections, weighing trucks, document checks at police road blocks, etc.). One way to reduce these delays would be to introduce a transporter accreditation system in which a transporter undertakes to comply with a specified package of regulations. In doing so the transporter will be exempt from the usual compliance checks. There would, however, be a system of spot checks which would also apply to accredited transporters and if an accredited transporter was caught contravening the regulations he would face severe penalties and lose his accredited status. 61. Such a system of self-regulation for transporters is being developed and this will be piloted on the North-South Corridor. The pilot is based on the Road Transport Management System (RTMS) which is a South African industry-led, voluntary self-regulation scheme that encourages consignees, consignors and transport operators engaged in the road logistics value chain to implement a vehicle management system that preserves road infrastructure, improves road safety and increases the productivity of the logistics value chain Overload control 62. Given the high costs of transport in the Tripartite region it is not difficult to understand the economic attractiveness of overloading vehicles to reduce the unit cost of transport to an importer. However, vehicle overloading not only significantly accelerates the rate of deterioration of road pavements but, when coupled with inadequate funding for road maintenance, it contributes significantly to poor road conditions and high transport costs According to Pinard (2010), the indicative cost of overloading in East and Southern Africa has been estimated at more than US$4 billion per annum. This exceeds the amounts being spent on road rehabilitation. 170

176 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area 63. The cost associated with vehicle overloading can be avoided through effective control measures. The challenge is to harmonise these control measures throughout the Tripartite region as, at present, there are different regulations on axle load limits, axle combinations, gross vehicle mass (GVM) and vehicle dimensions in the Tripartite region and these adversely affect the costs of regional transport and so also the costs of doing business in the region. 64. COMESA, EAC and SADC have similar regulations as regards axle loads, gross vehicle mass and vehicle dimensions but there are some countries in the region that have, in the recent past, either adjusted their rules and regulations so that they do not conform to the recommendations of the regional economic organisations or these rules and regulations have not ever been aligned to regional norms. 65. The economic consequences of arbitrary national decisions on trade facilitation measures can be very high and can make industries in neighbouring countries uncompetitive, resulting in the closing down of industry, job losses and higher levels of poverty. Therefore, if there is to be a change in regulation on axle loads, GVM or axle combinations, this change should take account of all the scientific, technical and economic data necessary to show that the economic costs of higher GVMs and various axle combinations (in terms of road safety and the damage being done to the road pavement) are higher than the economic costs (in terms of the effects of the higher costs of imported and exported goods on the regional economy). 66. The Tripartite Task Force commissioned the Centre for Scientific and Industrial Research (CSIR) in South Africa, a leading research institution in Africa, on pavement design and loading, to analyse 11 vehicle combinations and five pavement structures using their mepads programme to determine the road wear caused by different vehicle combinations. This analysis gives details of the payload efficiency of 11 vehicle combinations. The graph (Figure 1) shows the road wear caused by the various vehicle combinations to transport one tonne of payload for one kilometre. The values in the graph are in US cents and are the average per vehicle over the five pavements and for wet and dry climatic conditions. The Therefore, unless the problem is tackled head on, it will negate the expected benefits from the huge amounts of resources that countries and donors are investing into improved road infrastructure across the continent. 171

177 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area graph clearly illustrates that the longer vehicles are more payload effective and also confirm that it is a misconception that 56-tonne interlinks do more road damage than 56-tonne truck and trailer combinations. 67. The Tripartite/CSIR study was followed by a study on overload control undertaken by the EAC, with inputs from the COMESA-EAC-SADC Tripartite. This EAC report was presented at an EAC/Tripartite meeting of Permanent Secretaries, officials and technical experts held in Nairobi on August At this meeting the following, inter alia, was agreed: i) Overload fines, fees and charges should be decriminalised and fees should be set according to the costs of road damage; ii) iii) iv) Regional axle load limits should be set at 10t (single), 18t (tandem) and 24t (tridem), with a tolerance of 5%; A 56 tonne GVM standard on seven axles with no quadruple axle units allowed and no tolerance; Interlinks would be allowed on defined corridors of the Regional Road Network without extra permits with the length limited to 22m; v) A bridge formula; vi) vii) Vehicle dimensions would be discussed further and would be based on the Tripartite study being carried out; Mass limits for super-single tyres would be limited to 8.5t for 385/65R22.5 tyres provided weighbridge software can be programmed to detect different tyre widths; and viii) Self-regulation should be promoted. 172

178 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area Figure 1: Road wear caused by various combinations of vehicles on road pavements 68. The Permanent Secretaries stressed the need for strict enforcement of overload control measures and directed the respective technical experts to effect these changes. A rapid process will be undertaken to develop a road map and subsequent steps to assure that agreements are effected within the conditions highlighted. This issue can now be brought to the attention of the ministers to harmonise these aspects and make the regional transport system more efficient Harmonised road user charges 69. Efforts are underway to harmonise cross-border road user charges in the eastern and southern African region. COMESA and EAC are to review the 2007 SADC Road User Charges study findings and recommendations with a view to examining whether these recommendations could be extended to cover all Tripartite member states. 173

179 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area Regional corridor management systems 70. A number of the Tripartite region s corridors have their own management structures that are usually established through a memorandum of understanding between the countries the corridor transits through. However, not all corridors have their own management structures; the functions and responsibilities of existing management structures are different; and there are no formal linkages between the corridor management structures and the secretariats of the regional organisations. The Tripartite will assist to develop a regional corridor management system that will involve clustering corridors geographically. 3.5 Joint Competition Authority 71. The need for the Joint Competition Authority for air transport in Africa was first recognised in the 1990s when African airlines started to face increasing competition from European airlines. In response African states started to cooperate much more effectively in the area of air transport rules and regulations. This, in turn led to the development and adoption of the Yamoussoukro Decision (YD) of 1999 on the liberalisation of air transport services, which entered into force in 2000 after the requisite ratifications. 72. It is recognised by eastern and southern African states that dual membership by COMESA, EAC and SADC is an impediment to the effective implementation of the YD and, as such, the member states of COMESA, EAC and SADC agreed on a common framework for the joint implementation of YD. This led to the development of the Competition Regulations which were adopted by the ministers in The Competition Regulations provide for the establishment of the Joint Competition Authority (JCA) to oversee the implementation of the Competition Regulations. Guidelines, provisions and procedures for implementing the Competition Regulations that were developed and adopted in 2007 by COMESA, EAC and SADC and the First COMESA-EAC-SADC Tripartite Summit of 2008 launched the JCA and also decided that the JCA Secretariat would be hosted at the SADC Secretariat and that COMESA would chair the JCA. 73. The Tripartite Task Force has proposed to operationalise the JCA through the implementation of a roadmap that involves the review and evaluation of existing relevant 174

180 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area documents on air transport and air transport liberalisation. This roadmap is being implemented and involves the development of: i) the legal and institutional framework to give effect and mandate to the JCA; ii) iii) iv) the organisational and management structure for the JCA Secretariat; the business plan and budget; sustainable mechanisms for funding the JCA ;and v) an Air Services Agreement (ASA) template for the implementation of the YD in the Tripartite region. 3.6 Linkages between Tripartite regional trade facilitation and the WTO trade facilitation programme 74. Negotiations on trade facilitation in the World Trade Organisation (WTO) in Geneva, Switzerland, started in 2004 and were based on a revision of the General Agreement on Tariffs and Trade (GATT) Articles V (Freedom of Transit), VIII (Fees and Formalities connected with Importation and Exportation), and X (Publication and Administration of Trade Regulations). For a number of reasons, including the fact that developing countries and least developed countries do not want to make legally binding commitments in trade facilitation that will open them to incurring penalties for non-compliance, progress in the negotiations has been difficult. 75. In December 2009, the WTO Negotiating Group on Trade Facilitation (NGTF) issued a draft consolidated negotiating text. The consolidated text reflected the progress made in the negotiations since Although it contained multiple square brackets, which indicate nonagreed language, it was widely expected that delegations would only have to clean up the text and replace the bracketed text with agreed language. However, this has not happened and WTO members have begun diverging over various details of the proposed rules, such as their structure, and negotiations on principles have been reopened. There is also disagreement on the legal status conferred on the rules in that the language being used is mainly best endeavour language, which means that the rules are considered to be nonmandatory. 175

181 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area 76. Although developing countries and least developed countries (LDCs) are well aware of the need to implement trade facilitation measures, they have shown a great deal of reticence in agreeing to binding rules on trade facilitation in the WTO, partly owing to their concerns about their capacity to implement the new obligations. When the trade facilitation negotiations were launched, many developing countries were in full support of the negotiations in the expectation that their implementation needs would be addressed. This expectation was partly based on the agreement of the developed countries to assist developing countries and LDCs to build their capacity in trade facilitation. For example, Paragraph 6 of Annex E (on Trade Facilitation) of the WTO Ministerial Declaration of Hong Kong (2005) states: To bring the negotiations to a successful conclusion, special attention needs to be paid to support for technical assistance and capacity building that will allow developing counties and LDCs to participate effectively in the negotiations, and to technical assistance and capacity building to implement the results of the negotiations that is precise, effective and operational, and reflects the trade facilitation needs and priorities of developing countries and LDCs. Recognizing the valuable assistance already being provided in this area, the Negotiating Group recommends that Members, in particular developed ones, continue to intensify their support in a comprehensive manner and on a long-term and sustainable basis, backed by secure funding. 77. WTO members have attempted to draft special and differential treatment (S&DT) provisions, which use the concept of graduation coupled with access to technical assistance. This means that if developing countries require capacity building to comply with the proposed provisions of the trade facilitation text they would be provided with a longer time period and would have access to adequate technical assistance to undertake necessary reforms before being subjected to compliance with the rule. However, developing countries remain unconvinced of this approach and of the lack of guarantees of technical assistance delivery, 12 so they remain insistent on the use of best endeavour language as a means to include flexibility into the draft text. 12 Despite this lack of guarantee UNCTAD reports that technical assistance funds dedicated to trade facilitation increased from US$28.4 million in 2002 to US$ million in 2008, with an increasing proportion assigned to LDCs 176

182 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area 78. Despite the stalling of the negotiations on trade facilitation in the WTO, member states of the Tripartite remain fully committed to developing and implementing trade facilitation measures regionally and fully recognise the positive impacts trade facilitation measures can have on trade and trade-led economic growth. 79. The Tripartite is proactively developing new trade facilitation measures, harmonising trade facilitation measures across COMESA, EAC and SADC and building capacity in the region to implement trade facilitation measures. Although the gap between the positions taken in the WTO negotiations by Tripartite WTO members and the measures being implemented in the region, is widening, the referencing of Tripartite trade facilitation measures to the provisions of the WCO, WTO and other international bodies ensures that there is little danger of developing conflicting trade facilitation measures. This suggests that regional trade facilitation efforts not only contribute to regional integration, but may also be conducive to the convergence of trade and customs procedures worldwide. 3.7 Conclusion 80. The economic integration agenda being implemented by the COMESA-EAC-SADC Tripartite has prioritised programmes addressing trade and transport facilitation challenges with the aim of lowering costs of doing business and improving the competitiveness of products from the eastern and southern African region. Significant progress has already been made in design and implementation of the trade facilitation programmes and the benefits of these programmes are being realised. The longer-term success of the Tripartite trade and transport facilitation programmes will depend on the political, administrative and technical commitment of the Tripartite member states to design and implement the full Comprehensive Trade and Transport Facilitation Programme, on establishing the appropriate institutional and coordination structures at regional and national level, and obtaining the necessary technical and financial support for the design and implementation of the programme. To date all of these conditions for success are largely in place. There are a few issues that need to be addressed, such as the method of concessioning infrastructure facilities at border posts but, by and large, progress in implementing trade and transport facilitation programmes in the Tripartite region is progressing well. 177

183 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area 81. The benefit (and also challenge) of the WTO trade facilitation negotiated text is that it implies a precise and obligatory commitment that is legally binding and enforceable. Although the COMESA-EAC-SADC Tripartite is not able to offer that legally binding regime as yet, the work being done by the Tripartite and its member states, supported by international organisations and bilateral donors, is of major importance to the harmonisation, strengthening, improvement and development of new trade facilitation measures that will go a long way to making the Tripartite Free Trade Area a more competitive business environment. References CDC. One Stop Border Post Source Book. Doyle, T. March Collaborative Border Management. World Customs Journal, Volume 4, Number 1. EC Guidelines for Integrated Border Management in the Western Balkans. Kieck, E. Coordinated Border Management: Unlocking Trade Opportunities through One Stop Border Posts. World Customs Journal, Volume 4, Number 1 Mazorodze I.V. Final Report on Assignment Commissioned by the Task Force of the COMESA-EAC- SADC Customs and Trade Subcommittee to Develop a Common Trade Facilitation Programme. Pinard, M.I Guidelines on Vehicle Overload Control in Eastern and Southern Africa. SSATP. Tripartite Tripartite Vision and Strategy. July UNCTAD Review of Maritime Transport Geneva: United Nations Conference on Trade and Development. UNCTAD Technical Notes on Trade Facilitation Measures. Geneva: United Nations Conference on Trade and Development. UNCTAD Emerging challenges and recent developments affecting transport and trade facilitation. Geneva: United Nations Conference on Trade and Development. TD/B/C.I/MEM.1/8. September

184 Chapter 4 Trade facilitation in the COMESA-EAC-SADC Tripartite Free Trade Area World Bank Trade and Transport Facilitation Assessment. Washington D.C.: World Bank. Teravaninthorn, S. and Raballand, G Transport Prices and Costs in Africa: A Review of the Main International Corridors. Working Paper 14. Africa Infrastructure Country Diagnostic. Washington D.C.: World Bank. WTO Negotiating Group on Trade Facilitation Draft Consolidated Negotiating Text TN/TF/W/165/Rev.10. Geneva: World Trade Organisation. 20 July. Zake, J Customs Administration Reform and Modernization in Anglophone Africa Early 1990s to Mid IMF Working Paper (WP/11/184). August. Websites: - World Trade Organisation World Customs Organisation TradeMark Southern Africa UNCTAD Unpublished documents from the Tripartite Task Force, the Infrastructure Sub-Committee of the Tripartite Task Force and TradeMark Southern Africa. 179

185 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states Paul Kruger Introduction Many services play a key role in the manufacturing industry from the electricity being used in the production process to the branding and marketing of the final product and everything else in between. Business services, and, in particular, research and development, have the ability to make firms more competitive while creative advertising can disrupt traditional buying patterns. Professionals such as accountants, lawyers and engineers are intimately involved in the operational environment by advancing financial stability, compliance, good governance, systems integrity and innovation. Efficient supply chain management in the area of retail and distribution services creates optimal value by coordinating demand and delivering products regionally or globally. Proper roads and railways, developed ports, good air connections, and telecommunications infrastructure such as fibre optic lines, undersea cables and wireless technologies enable closer connectivity between the producers and markets. Firms also need financial institutions to provide a range of services including banking, insurance, and advisory functions to support business transactions and expansion. As firms become more sophisticated and specialised, proper education and training is necessary for improving the skills and capabilities of the employees. Even health services play a part in enhancing the quality of human capital which can lead to a more productive workforce. In the last few decades, technological advances have changed the way businesses operate, and as a consequence, services are becoming further embedded in other economic sectors. This chapter considers the extent of these advances and shows how services have become a fundamental part of product design, the manufacturing process and the final product. It highlights some of the most innovative firms in the world by exploring the ways in which they have integrated services into their products. The chapter also takes a look at how the reach of services continues to evolve and the opportunities this creates for developing countries. 180

186 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states Services act as essential inputs into the productivity processes of all firms, something which becomes increasingly critical as countries move towards more specialised sectors. Today, no product can be made or distributed without the contribution of services. It is also unlikely that firms can become internationally competitive by using substandard services, as these inputs will affect the final product. It is a fact that integration into global and regional production chains requires efficient and timely delivery, as poor execution at a high price not only affects the current operations of companies but also discourages potential investment by lowering profitability (Hodge, 2001). Despite the acknowledgement of the role services play in an economy, the regional configurations of the Common Market for Eastern and Southern Africa (COMESA), the East African Community (EAC) and the Southern African Development Community (SADC) have been slow to reap the benefits services can bring to their development processes. This chapter highlights some of the challenges these configurations have encountered during the last few years and offers some insights into the role services play in the Tripartite member states. It looks critically at the liberalisation method employed by the regional configurations and discusses the World Trade Organisation (WTO) framework within which this process takes place to draw attention to some of these challenges. Services are inextricably connected to all three development pillars of the Tripartite Free Trade Agreement (T-FTA). The linkages between infrastructure development and the other two pillars namely market access and industrial development are well recognised by the Tripartite member states, but it is important that the connection between services and the development of the three pillars is also acknowledged. This chapter shows the linkages between services and the pillars and singles out the most crucial services sectors necessary to drive development in the Tripartite region. It reviews these core sectors to illustrate their importance and relevance to an overall growth and development strategy. Finally, it considers both issues of services liberalisation and services development and examines how these two processes fit into the Tripartite industrial development strategy. Services are imbedded in industry Technological advances and the rise of social networks have changed the way firms operate and new development in these areas will continue to influence business decisions and 181

187 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states strategies. Firms are constantly innovating in their quest to conquer a greater share of the market, and adding value through services inputs makes up a large part of this creative process. Apple Inc. (Apple), for example, is the most valuable company in the world today and is also considered to be one of most innovative companies of all time. Apple started out as a manufacturer of personal computers but gradually branched out into other fields. Apple now manufactures a wide range of electronics including music players, mobile phones and tablets. Even more remarkable is the services industries that Apple built on top of their manufactured products. Today Apple is not only the largest music retailer by selling songs online through itunes but also the world s largest software distributor with developers creating hundreds of thousands of applications Apps which have been downloaded billions of times with Apple s operating systems. In 2011, Apple created a subscription service where publishers of magazines, newspapers, video and music can charge consumers for their content. More recently, Apple entered the digital textbook space by creating a platform for dynamic academic content. This is a good example of how services are becoming an integral part of the product; without the services of itunes and the App Store, Apple would not have reached the same success. Online retailer Amazon is following a similar strategy with its range of Kindle readers and tablets. It has been reported that Amazon sells its products at a loss with the hope of turning a profit by selling electronic content and services to the users of the device. Products are becoming the platforms for delivering services and the use of this model will increase along with advances in technology. Indications are that the broadcasting and health care sector is the next in line to be disrupted by overlaying services (Ha, 2012; Smith, 2012). Even more futuristic are the plans of real estate developer Gale International and information technology firm Cisco to build a digital city in South Korea on the island of New Songdo. Gail International is responsible for the design and construction of the business district while Cisco is the digital plumber in charge of creating the technological infrastructure for the development. Cisco will be wiring the whole district with synapses from trunk lines running beneath the streets to fibre lines connecting every socket and appliance to the internet. These digital foundations would enable internet monitored and controlled traffic, water, power, transportation and public safety. Every home and office will be able to monitor and orchestrate its own heat, air conditioning, lighting, appliance usage 182

188 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states and energy usage. Each home and office will also have its own TelePresence videoconferencing system through which all types of urban services including health care, education, safety, business services and retail can be accessed. This may read like scenes from a science fiction novel, but New Songdo is currently under construction and the date of completion is estimated to be Gail International also unveiled plans to build 20 more of these cities across China and India using New Songdo as a blueprint, confirming that such a model is seen as viable by investors (Lindsay, 2010). Cisco conceded that it would not only be earning revenue from the installation of the basic infrastructure and hardware, but also from services that are layered on top of the infrastructure. More companies are trying to move away from the typical approach of selling stand-alone products by figuring out how they can tie services to their products in order to add overall value and increase profits. Another important service which is firmly embedded in the process of product design and manufacturing is research and development. This is usually the first business function in the value chain and it can be argued that research and development is the basis of for most of the innovation occurring within firms. In the manufacturing sector, research and development tends to focus on the creation or invention of new products, or on the improvement of existing products. An example of the former is the Nissan Leaf, which the company claims is the only zero-emission electric car on the market. An example of the latter is the efforts of snack and beverage producer, PepsiCo make its products healthier by finding ways to cut the fat, sugar and sodium in its products, without changing the taste. Other companies like Marks and Spencer are even improving the way products are sourced and distributed, by implementing ethical and environmentally friendly supply chains. It would not be possible for these and other firms to present markets with innovative products and logistics without investment in research and development. Companies are increasingly turning to research and development efforts to give them a competitive edge in the market. This has led to a rise in the cross-border trading of research and development services with multinationals outsourcing these functions or setting up research centres in developing countries with a skilled workforce. Israel and Bangalore in India are popular destinations for this kind of investment. At the other end of the value chain is the marketing and sale of the product. E-commerce started to take off the in mid-1990s with most manufacturers today having some kind of 183

189 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states strategy to market and sell products on the internet. The late 1990s also saw the rise of business-to-business market places, in particular that of Alibaba.com, which brings together exporters and importers from all over the world, mostly from the manufacturing sector. The Chinese company which claims to have more than 65 million subscribers was instrumental in connecting low-cost producers in Asian countries such as China, India and Korea with the rest of the world. Naturally, global internet penetration has a direct impact on the growth of e-commerce, and with over two billion people now using the internet, growth has been significant. This has become a global phenomenon as e-commerce is not constrained by national borders with most online companies delivering their products worldwide. The global e-commerce market is estimated to be worth US$1.4 trillion by 2015 with most of the growth originating from the emerging markets. Projected compound annual growth rates for e-commerce in the emerging markets range from 53% in India, to 22% in China, 20% in Mexico and 18% in Brazil. These estimates are significantly higher than the estimated 10% growth for Western Europe and the 9% for the United States. (Forrester, 2011a) One of the big shifts in the e-commerce market during 2010 was the emergence of social e- commerce and mobile commerce. In the next stage of e-commerce evolution, new business models will be made possible by social networks and interactions, consumer insight and tailored applications. Brands have started to realise that social networks such as Facebook and Twitter aren't only useful for extending their online visibility, but also as a way to pull in more revenue. Companies are increasingly using these social networks as a means to easily connect with customers to promote and sell their products. However, it is the social dimension of the networks that is disrupting the traditional e-commerce business model. Groupon was one of the first businesses to exploit the power of social connections by creating a viral distribution platform to boost sales. The company was responsible for the group-buying craze that swept through the world in 2010 and led to the emergence of a whole new industry known as group buying. Groupon initially offered one deal a day at large discounts; if a certain number of people sign up and buy the offer, then the deal becomes available for purchase. Sharing the deals with the social networks was one of the reasons for the rapid rise of this business model. Social commerce has, however, become more defined in the past year with companies increasingly leveraging the reach of social network to nurture customer loyalty and boost revenue. E-commerce is being integrated with social 184

190 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states networks, particularly with Facebook, where social promotions, incentive programmes and private sales are being implemented in a targeted manner for the user and his or her group of friends. With the release of tablet computers and the increasing popularity of smartphones, there has been a gradual shift towards a more personalised approach in mobile commerce. Shopping activity on mobile devices exploded during 2011 and analysts believe that this could potentially be one of the biggest technology trends since the introduction of the personal computer. According to Forrester s report, mobile commerce sales are set to quintuple over the next five years, resulting in US$31 billion worth of sales by 2016 (Forrester, 2011b). This is still small compared to the market size of e-commerce, but the possibilities of the mobile market are potentially far-reaching. Mobile devices, especially smartphones are far more personal devices than computers, offering the ability for unprecedented engagement with the users. This creates opportunities for loyalty programmes tied to purchase history, targeted selling through Wi-Fi based location services, mobile coupons and in-store promotions. Most importantly, all of these features can be integrated into payment systems to provide a seamless buying experience. Big players like Google Wallet and PayPal have recently entered the mobile payment market, providing services that enable users to make payments via their mobile phones. Even though mobile payments are new phenomena in the developed world, Africans have been using mobile phone money transfers since A Kenyan company, M-Pesa was one of the first players on the mobile payment scene by pioneering technology which sends remittances by mobile phones and makes certain types of payments. M-Pesa, which was developed by mobile operator Safaricom, can be regarded as the most successful mobile payment system in the world today. In 2010, M-Pesa evolved into a fully-fledged mobile banking service, with the launch of the M-Kesho savings account. Money can easily be moved from the M-Pesa mobile wallet to an interest-bearing savings account. A Visa credit card can also be linked to the account to withdraw funds from ATMs or to make purchases on the internet. This market is set to grow even faster with the adoption of near field communications (NFC) technology, which enables phones to communicate with other NFC enabled devices. This would make paying for goods and services as easy as swiping a phone in close proximity to a 185

191 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states NFC terminal, supplementing or even eventually replacing the credit card as form of payment. The reach of services is becoming wider and their integration into products is becoming deeper. Companies are increasingly trying to adopt and embrace new technologies and services with the goal of pushing them forward in the market and making them more competitive. In a modern economy, the creation and sale of successful products have become dependent on the underlying or overlaying services. Services have become a fundamental part of product design, manufacturing process and final product, even layering the services on top of the product to increase its value. The services dimension is set to become an even larger piece of the products as the adoption and pace of technology grow. For these reasons, the consideration of services industries should play an ever more important role in conceptualising a development strategy for the Tripartite region. The share of the services sector As services are infiltrating more spheres of the economy, so too does the contribution of the services industry rise in relation to a country s total output and employment. Economic literature documents this pattern, where an agriculture base leads to strong expansion in industrial activity which is later partly displaced by services trade. Sheehan (2008) describes how the developmental paths of the United Kingdom, Germany, Japan, Korea and the United States evolved through the last century to become largely services orientated economies. Most developed countries are in this post-industrialisation phase during which they are less reliant on industry, with the services sectors absorbing the largest share of employment. For example, according to 2005 data, nearly 80% of the total employment in the United Kingdom was in services compared to only 20% in industry (Sheehan, 2008). When it comes to emerging nations, the pattern of development is not as linear as that of the traditional developed countries. For developing countries such as China, industry has been a central contributor to its development, but at the same time, services have also grown very rapidly. Compare this to India where growth and development have primarily been driven by services and services exports rather than by the industrial sector (Ibid.). In the past, there was a clear pattern of industrial and post-industrial development but the recent advances in technology and the way in which services are integrated into all parts of 186

192 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states economies are quickly making this model obsolete. As was shown by India, a strong industrial base is not a prerequisite for rapid services or economic development. The idea that an efficient services sector can only be developed on the back of a strong industrial base must be dispelled. This reasoning is evident in the Industrial Policy Action Plan 2 of South Africa where the government has been quite explicit in its belief that the manufacturing sector should be the focus of industrial policy and that it creates the conditions for the services sector to grow (South African Government, 2010). It can be argued that intense global competition and modern technology have also made the reverse true competitive manufacturing industries need to be supported by efficient services sectors. One way to look at the structure of the Tripartite member states is to compare the shares of their main economic sectors to the countries total output. The table below sets out the contribution each of the broad sectors agriculture, industry and services 1 makes to the Gross Domestic Product (GDP) of each Tripartite member state. The data for the services sector includes wholesale and retail trade (including hotels and restaurants), transport, and government, financial, professional and personal services such as education, health care, and real estate services; but the composition is not an accurate reflection of the whole services sector as the industry data includes the subsectors of construction and electricity. It can be argued that both construction and electricity are predominantly services orientated sectors, which can contribute to a stronger performance of the industry sector. For that reason, manufacturing is reported as a separate subgroup, in order to provide additional information on the structure of the industry sector. 1 Agriculture here refers to crop cultivation, livestock production, forestry, fishing, and hunting. Industry includes manufacturing, mining, construction, electricity, water, and gas. Services cover all other economic activities, including trade, transport, and communications; government, financial, and business services; and personal, social, and community services. 187

193 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states Table 1: Contribution to gross domestic product (GDP), % Countries Angola - Services NA Agriculture NA Industry NA Manufacturing NA Botswana - Services Agriculture Industry Manufacturing Burundi - Services NA NA NA NA - Agriculture NA NA NA NA - Industry NA NA NA NA - Manufacturing NA NA NA NA Comoros - Services Agriculture Industry Manufacturing DRC - Services Agriculture Industry Manufacturing Djibouti - Services NA NA NA - Agriculture NA NA NA - Industry NA NA NA - Manufacturing NA NA NA 188

194 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states Countries Egypt - Services Agriculture Industry Manufacturing Eritrea - Services NA NA Agriculture NA NA Industry NA NA Manufacturing NA NA Ethiopia - Services Agriculture Industry Manufacturing Kenya - Services Agriculture Industry Manufacturing Lesotho - Services Agriculture Industry Manufacturing Libya - Services NA NA NA NA NA - Agriculture NA NA NA NA NA - Industry NA NA NA NA NA - Manufacturing NA NA NA NA NA Madagascar - Services Agriculture Industry Manufacturing NA

195 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states Countries Malawi - Services Agriculture Industry Manufacturing Mauritius - Services Agriculture Industry Manufacturing Mozambique - Services Agriculture Industry Manufacturing NA Namibia - Services Agriculture Industry Manufacturing Rwanda - Services Agriculture Industry Manufacturing Seychelles - Services Agriculture Industry Manufacturing South Africa - Services Agriculture Industry Manufacturing

196 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states Countries Sudan - Services Agriculture Industry NA Manufacturing Swaziland - Services Agriculture Industry Manufacturing Tanzania - Services NA Agriculture NA Industry NA Manufacturing NA Uganda - Services Agriculture Industry Manufacturing Zambia - Services Agriculture Industry Manufacturing Zimbabwe - Services Agriculture Industry Manufacturing Source: World Bank (2011a) Overall, the structural changes for the Tripartite region over a 20-year period ( ) do not follow the traditional development path as described by Sheehan (2008). There was a gradual drop in the agriculture contribution, but this seems to have been absorbed by an 191

197 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states increased output in the services sector. Manufacturing and services has basically remained unchanged during the 20-year period. There have been some small upward and downward movements, but this can also be attributed to global and macroeconomic conditions. Table 2: T-FTA sectoral contributions to GDP Tripartite region Services 1990 * 2000 ** 2001 ** 2002 ** 2003^ 2004^ 2005~ 2006~ 2007~ 2008~ 2009~ Manufacturing Source: World Bank (2011a) * Excluding Eritrea, Libya, Mozambique ** Excluding Burundi and Libya ^ Excluding Burundi, Libya and Rwanda ~ Excluding Burundi, Comoros, Djibouti, Libya and Rwanda Over the last ten years ( ), few of the Tripartite member states have noticeably changed their economic structures. In the DRC, Zambia and Zimbabwe, industry has grown slightly over the 10-year period, mainly driven by an increase in mining activity. What is unique about the growth of industry in Zambia and Zimbabwe is that the structural changes have not followed the contemporary development pattern growth in industry has replaced the share of the services sector and not the share of the agriculture sector. In both these countries the share in agriculture has stayed more or less the same. Only Kenya, Malawi and the Seychelles have gradually increased their share of services over the last ten years by partly displacing the share of industry and agriculture. In the case of Kenya and Malawi, services have grown at the expense of the agriculture sector while the agriculture share has given way to services growth in Seychelles. The services share in Kenya grew rapidly and faster than any other Tripartite member state from 50.71% in 2000 to 66.80% in Information and communications technology (ICT) services grew significantly as did tourism. To a lesser extent transport, business and financial services also contributed to the services growth in Kenya. Most remarkable is the growth of the ICT sector during the last decade it has annually expanded by an average 23%, making 192

198 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states the sector six times larger than it was in the beginning of Investment and expansion in the ICT sector during the last ten years was a major contributor to Kenya s economic growth. The country has experienced a triple technology transformation in mobile phones, mobile money and internet; and these are revolutions that can only be driven by robust ICT development (Poverty Reduction and Economic Management Unit Africa Region, 2010). Internet usage in Kenya has also grown from users in 2000 to over 8 million users in 2010, while mobile penetration has reached 22 million subscribers (Ibid). In the last four years M-Pesa has grown to over 14 million users and agents across Kenya. Users can deposit and withdraw money from this network of agents which include airtime resellers and retail outlets acting as banking agents. There is currently a wave of activity around the ICT and mobile business in Kenya and there is a definite ambition to become one of the top 10 ICT hubs in the world by The ICT business has been swiftly emerging during the last ten years; and from the growth in this sector it seems as if the Kenyans are capitalising on this trend. Services growth in Seychelles was mainly driven by tourism where the total contribution of the tourism sector is estimated to be around 57.6% (World Travel and Tourism Council, 2011). As tourism is one of the fastest growing industries worldwide, it is expected that African countries would show strong growth in this sector. African countries have exhibited the highest growth rates of all regions in the tourism industry (Kruger, 2009), so one can argue that it is a sector with promising potential for most Tripartite member states. This is recognised by COMESA, EAC and SADC as the tourism sector was identified as a priority sector for liberalisation by all three configurations. However, analysis has shown that the travel and tourism sector in southern and eastern Africa is already fairly liberalised. In particular, hotels and restaurant services a subsector which is by far the most strategic to investors are completely liberalised in the majority of the southern and eastern African states. This comes back to one of the core problems when liberalising trade in services markets that are being liberalised in the negotiations are already open while markets that are not open will likely stay closed due to vested interests. In a liberalised sector like tourism the emphasis is tilted towards services sector development as most barriers have already been removed. One feature that sets tourism apart from the other priority sectors identified by the Tripartite member states is the quality of its linkages to the rest of the economy. 193

199 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states Although tourism has certain forward and backward linkages to other economic activities, it does not share the same reach and integration as the six backbone services sectors; 2 therefore development in these backbone sectors will be more beneficial for overall economic growth. With the way the world has changed over the past decades and the associated advances in technology, one would expect the share of the services sector to rise faster in relation to the sectors of industry and agriculture. This shift is not apparent from the analysis above. One possible explanation is that the commodities boom during the period under review boosted mining activities under the industry sector and offset the growth of the services sector. In most regions of the world, services have developed more rapidly than other economic sectors, but for many Tripartite member states their economic structures have basically remained unchanged. One would expect advances in technology and communication to lead to an increased share in services production; and therefore one conclusion that can be drawn is that services industries in the region are underdeveloped. Part of the problem can be attributed to the role of the state in supplying essential and network based services and its failure to respond to the growing demand for services. Services are poised for explosive growth in the region, yet this has only really happened for Kenya. Services can be infectious for economies, with the potential to spread quickly and strengthen other sectors. There has to be a process of structural transformation involving a decrease in the share of agriculture and an increase in the share of industry and modern services in output, with a shift between and within sectors from lower productivity to higher productivity activities (UNCTAD, 2011a). The role of services in the Tripartite region The Tripartite member states have recognised the importance of trade in services and the role they would play in the creation of a regional market, in particular the major influence of services such as communications, transport, finance, energy and business logistics (Preamble, Draft Tripartite FTA Agreement). The free movement of services is one of the general objectives of the T-FTA with the liberalisation of the priority services sectors set to start in Phase 2 of the negotiations. The Draft Annex identifies the priority sectors to be 2 These are the sectors of communication, transport, finance, energy, and business logistics. For further information see the section on The role of services in the Tripartite region below. 194

200 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states negotiated first as the seven sectors of business (including professional services), communications, construction, finance, transport, energy and tourism services. The first six sectors are backbone services that link and support development in all economic sectors. This is so because the productivity and competitiveness of domestic firms increasingly depend on access to low-cost and high-quality infrastructure or producer services such as these. These six sectors are important inputs in the production, distribution and sale of goods and it can be argued that greater efficiency in these areas can have a significant impact on the overall development of the region. Market access in these six sectors can also be closely linked to the other two pillars of the Tripartite FTA, those of industrial development and infrastructure. From the draft texts it seems as if the idea of a liberalised services market is firmly entrenched in the ideology of the T-FTA. The debate on services liberalisation in Africa basically originated within the Economic Partnership Agreements (EPAs) after the European Union (EU) pushed for services liberalisation as part of the negotiations. Although the inclusion of services is not a requisite for the EPAs to be WTO compatible, the EU insisted on negotiating binding obligations as part of the broader development component. African countries were divided on the benefits and viability of services integration with a developed region such as the EU; this can be offered as one of the reason why progress on the EPA negotiations has been so slow. All three regional configurations of COMESA, EAC and SADC had plans to negotiate the free movement of services; however, during the time of EPA negotiations, none of the configurations had started negotiating services at the regional level. One argument by the countries opposing services negotiations with the EU was that services integration at the regional level must happen before the negotiation of binding commitments with third countries. Despite best intentions from the member states, efforts to liberalise the services industries in COMESA, EAC and SADC have either been slow or burdened by technical difficulties. EAC member states initially made good progress and negotiated their priority sectors in a very short time frame. The negotiation process was, however, suspended during 2011 to address certain concerns around the delinking of movement of workers from the specific commitments. It is clear from the emerging debate that there are design issues that affect the implementation of the common market provisions. It now seems as if EAC partner states 195

201 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states are going back to the drawing board to decide on a more coherent strategy on the movement of persons (Kruger, 2011a). But technical difficulties are to be expected if countries are negotiating substantial services liberalisation for the first time. In contrast to the fast-paced negotiations by the EAC, SADC member states have not made much progress. The SADC Protocol on Trade in Services was adopted in 2009 by the Ministers of Trade but is still awaiting signature by the Heads of State. The protocol calls for the negotiation of the priority sectors to be completed within three years of signature after which the remaining sectors will be negotiated. After negotiating the schedules of commitments, they still have to be ratified and then implemented; providing that SADC member states do not run into similar technical difficulties as the EAC. During the implementation phase the real work begins as countries will have to adopt their regulatory frameworks to reflect the commitments made in the negotiations. It can therefore be many years before the actual commitments are implemented and only then can the benefits be realised. It cannot be assumed, however, that the liberalisation of services markets alone will lead to stronger or more efficient markets. Cattaneo (2011) argues that there is often a desire to transfer the alleged benefits of goods trade liberalisation to that of services. She makes two important points to support this argument. First, the case for liberalisation of trade in goods as part of a development strategy has itself been subject to extensive theoretical and empirical critique; and secondly, liberalisation of trade in services is more complex than that of trade in goods (Cattaneo, 2011). Liberalisation alone will not realise the associated benefits of an open market without serious efforts to address related issues. A more specific strategy is needed to build and develop strong services sectors, something that won t necessarily happen through liberalising the sectors. As was evident from the EAC process, the emphasis of services negotiations seems to be solely on the liberalisation of services and the movement of workers. This is very much in line with the first round of the General Agreement on Trade in Services (GATS) negotiations at the WTO where the focus was on negotiating the schedules of commitments. SADC and COMESA services regulations are also closely based on the GATS provisions and African countries seem set to follow the positive list and scheduling based approach employed at the multilateral level. There also seems to be a preference for fast-paced negotiations to complete the schedules of all services sectors 196

202 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states within a short time frame. It took the EAC about two years to negotiate all of the sectors, SADC plans to negotiate its priority sectors within three years, while COMESA services process is integral to the formation of its Common Market by The framework for liberalisation is also very ambitious in all three of the configurations. SADC member states are not allowed to introduce new or more discriminatory measures during the negotiations while EAC member states also agree to refrain from introducing new restrictions on the provision of services. The COMESA regulations state that member states must strive to achieve progressively higher levels of liberalisation in each successive negotiating round and the idea is that only minimal limitations are made in the priority services sector. This is very similar to the objective of the T-FTA negotiations where the draft text states that to the extent possible the priority sectors shall not have any limitations or restrictions (Draft Annex 12 to the Tripartite FTA). The focus around the negotiations seems to be on fast and broad liberalisation, and it feels as if the thinking behind the services liberalisation process is inherited from the trade in goods agenda. Two separate tracks are involved in the creation of a buoyant services market: services liberalisation and services sector development. For certain sectors, it is more likely that services sector development, both at the national and regional level, will boost trade in services and support the creation of a more integrated services market. The industrialisation pillar and the debate around the growth of certain industries present the opportunity to contemplate this kind of services sector development. The benefit of formulating a services strategy as part of the industrialisation process is that it can be fed into the Tripartite FTA services liberalisation negotiations. Stronger emphasis can then be placed on the services areas which have the potential to develop more robustly. The challenge of regional services negotiations To a certain extent, GATS rules have put pressure on WTO member states to liberalise services sectors in a specific manner. It is expected of countries involved in regional or bilateral negotiations that they comply with the requirements of GATS Article V and therefore negotiate substantial liberalisation commitments in line with certain thresholds. The provision requires substantial sectoral coverage with regard to the number of sectors included, the modes of supply, and volume of trade affected. The substantial coverage 197

203 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states requirement is qualified by a footnote to GATS Article V: 1(a) which specifically states that agreements should not provide for the a priori exclusion of any mode of supply. Parties are further required to extend national treatment to services suppliers by eliminating substantially all discrimination. This provision calls not only for the elimination of existing discriminatory measures, but also for the prohibition of new or more discriminatory measures. 3 These requirements aim to prevent the negotiation of an agreement with a very limited scope. GATS Article V states that these conditions must be met either at the entry into force of the agreement or within a reasonable and agreed length of time. 4 If one considers the size of the services industry and the large number of sectors and subsectors negotiators have to deal with, these liberalisation requirements appear rather rigorous. This is further complicated by the uncertainty surrounding the appropriate application of GATS Article V - there is no agreement among the WTO members on the interpretation of its provisions. Services liberalisation in COMESA, EAC and SADC seems to follow the same format when plotting the process and progress of the negotiations. According to the services regulations of all three configurations, the idea is to address the priority sectors first after which the remaining sectors will be negotiated. These services agreements can, however, only obtain international legal status once they have been notified to the WTO. None of the configurations have made plans to notify their services agreements, so it is unclear when this will happen. The threshold requirements of GATS Article V cannot be met if the coverage is limited to the priority sectors only, and it is therefore likely that the agreements will only be notified once the successive rounds have addressed the remaining sectors. In general, parties have the obligation to act in good faith and are expected to make a genuine effort to comply with the GATS rules. However, only some services agreements have been notified, a 3 If developing countries are parties to a services agreement, GATS Article V:3(a) states that flexibility must be provided when considering the degree of substantial sectoral coverage, particularly regarding the elimination and prohibition of discriminatory measures. It does not specify how much flexibility must be provided, but such flexibility should be extended in accordance with the level of development of the countries concerned, both overall and in individual sectors and subsectors. When the services agreement only involves developing countries (South-South arrangements) more favourable treatment may be granted to juridical persons owned or controlled by natural persons of the parties to the agreements (GATS Article V:3(b)). 4 GATS Article V: 7 requires member states party to an agreement liberalising trade in services to promptly notify any such agreement and any enlargement or any significant modification of that agreement to the Council for Trade in Services. Parties are further obliged to report on the progress of any phase-in if the agreement is implemented on the basis of a time frame. However, only some services agreements have been notified, a few examined and none pronounced upon by the Council for Trade in Services. 198

204 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states few examined and none pronounced upon by the Council for Trade in Services of the WTO, making the precise requirements for compliance rather vague. Negotiations follow the positive list approach and the schedules of specific commitments as pioneered by GATS. Tripartite services negotiations are set to follow the same format. The practical value of such an approach can, however, be questioned. Due to the fixation on the GATS approach, the focus of the negotiations is currently very narrow. The emphasis is predominantly on services liberalisation and how to achieve compatibility with the WTO rules logically follows. In the current negotiating setup, countries are simply reflecting the status quo by scheduling the domestic regulatory framework as it currently stands. One problem of the positive list approach is that countries are too selective in picking subsectors for liberalisation. Countries are, of course, free to choose which sectors to liberalise and countries only list the liberalisation commitments they are willing to undertake; therefore if they omit a sector or subsector, that area is not liberalised. EAC and SADC member states have a standstill clause built in their services regulations, so being given the choice of sectors to liberalise simply does not make any sense. They are not allowed to introduce new or more discriminatory measures on the provision of services, which means that the status quo of the current regulatory frameworks has to be reflected in the schedules. It therefore makes more sense to address every services sector line by line to give effect to the standstill clause and present an accurate impression of the current state of affairs. In the EAC negotiations, member states only committed an average of 56% in the first phase of liberalisation, despite the existence of the standstill clause (Kruger, 2011b). If countries are serious about services liberalisation, every sector and subsector has to be addressed, even if the process takes longer than planned. Countries remain free to schedule restrictions in the areas they do not want to open up, but with such an approach, at least there will be a complete and transparent representation of the regulatory frameworks. Another shortcoming of the current approach is the level of information contained in the schedules. Little information apart from none (open sectors and modes) and unbound (closed sectors and modes) are listed in the schedules. EAC member states have scheduled few specific restrictions making it difficult to determine the limitations that apply in each sector (Kruger, 2011b). If countries have scheduled a sector or mode as unbound, or if they have omitted a sector or subsector, it is impossible to know the applicable conditions in 199

205 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states those areas. The only way to make an accurate determination is to review the domestic legislation to learn the precise parameters for investment and local operations. One objective of the regional services liberalisation is the promotion of transparent and predictable legal frameworks, but at the moment it can be argued that the schedules of liberalisation fall short of this aim. At the moment the purpose of regional services liberalisation is not clear. What are countries trying to achieve? Do they have a strategy in any of the services sectors? Will there be any improvement in the business environment to make it easier for countries trade services? The current style of services negotiations is not providing the right answers to these questions. It appears to be a scramble to negotiate to the minimum GATS threshold without really understanding how the commitments will lead to an improvement of the services market, or how the obligations will be implemented. The schedules of commitments currently sketch a theoretical framework of which the real practical value can be questioned. Does services liberalisation comes first, or should countries develop a services strategy before liberalising services? The relationship of services to infrastructure development Infrastructure development with an emphasis on transport, energy and ICT has been identified by the Tripartite Summit as one of the three key pillars to support sustainable growth and the process of integration. The reasoning behind the infrastructure development pillar is to increase interconnectivity and competitiveness with the hopes of boosting intraregional trade. The linkages between infrastructure development and the other two pillars of market access and industrial development are well recognised by the Tripartite member states despite plans to address these pillars in separate tracks. Development of the physical infrastructure is the first step but this must be supported by a wide range of services to ensure the proper development and utilisation of the infrastructure sources. For example, Tripartite member states can lay the best fibre optic cables to create interregional ICT broadband infrastructure, but that is no guarantee that the countries can produce enough technicians, specialists, programmers and developers, or even provide enough facilities such as computers and laptops to fully enable the broadband infrastructure. Greater speeds and more bandwidth will be of little use if companies and 200

206 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states individuals are not able to maintain, utilise and manipulate the infrastructure. Good infrastructure needs to be in place, but equally important, people must be able to exploit the power of the infrastructure. This assumption might differ slightly from sector to sector, but as technology advances the expertise of the services providers becomes increasingly linked to the performance of the infrastructure. In particular, the sectors of energy and communications require sophisticated skill sets to build, maintain and operate the infrastructure projects; but many developing countries lack these vital skills. There seems to have been a decline in technical skills over the past decade in Africa; however, it can be argued that is not the supply of the skills that is decreasing, but rather the sharp rise in demand that is leading to the shortage. In the context of services liberalisation, the idea of the Tripartite member states is for the priority sectors to have few or preferably no restrictions (Article 18 of the Draft Annex 12 on Guidelines for the Negotiation of Trade in Services). Here the emphasis is on full services liberalisation, but one can question what the effect will be, for example, on the many network-based monopolies in the Tripartite member states that are dominating the priority sectors of communications, transport and energy. Many of these monopolies are state owned and, at the moment, fulfil a very specific economic, political and social role in these countries. If the idea behind the priority sectors is no limitations or no restrictions, how will the state owned enterprises operating in these priority sectors be treated? It is unlikely that these sectors are simply going to be opened up to competition. There will be strong resistance from the incumbent operator to retain its market share. Telkom, Africa's largest telecommunications company, is a case in point. As part of its GATS commitments, South Africa undertook to open up the telecommunications sector in 2003 and introduce a duopoly. In 1997 Telkom was granted a five-year licence in the fixed-line segment that would support strengthening the company to remain competitive after liberalisation. This took longer than expected with a Second National Operator, Neotel, only being licensed in 2005 to boost competition in the telecommunications sector. The understanding was that Telkom would retain control over the certain parts of the infrastructure 5 for two years following the licensing of Neotel, after which the unbundling 5 The local loop is the last section of cable that connects the exchanges to consumers. 201

207 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states process would proceed. Despite the undertaking, this has not yet happened (as of March 2012). Ideally the unbundling should occur around the same time a market is liberalised in order to promote competition on an equal footing, until such a time as the provider can build its own infrastructure. However, in 2007, then South African Minister of Communications, Ivy Matsepe-Casaburri, afforded Telkom an additional four-year window period in which to transfer the infrastructure by postponing the unbundling deadline to November The Independent Communications Authority of South Africa (ICASA) is now in the process of implementing the unbundling plan which will reportedly be phased in during the coming year, although early indications from Telkom raise the possibility of litigation in order to protect its near-monopoly. If Telkom s past anti-competitive behaviour is anything to go by, further postponement of the transfer is more than likely. It remains to be seen what action the regulator will take to create a more competitive environment. In fact, in terms of international law, the government is obliged in terms of its international commitments to maintain appropriate measures... for the purpose of preventing [major] suppliers... from engaging in or continuing anti-competitive practices (WTO 1996). The unfortunate reality is that the behaviour of a monopoly, especially during the formative years of an emerging industry, will have long-term knock-on effects. Liberalising network-based services at the national level comes with its own set of challenges. One key issue is the ownership and maintenance of the infrastructure. If a network is liberalised, who will be the owner and who will be responsible for maintaining the infrastructure? If the incumbent retains ownership and remains responsible for the upkeep of the infrastructure, there may be little incentive to improve or upgrade the infrastructure. The issue surrounding ownership and maintenance is one example of the relationship between the three pillars of the Tripartite negotiations. Infrastructure development is about the coordination of the regional, and in some instances the national infrastructure, and how to manage it in an optimal fashion for the advancement of regional trade. Infrastructure development has more of a regional dimension while market access in services will shift the focus behind the border to liberalise certain sectors for regional competition. A clear link remains between the two because it is likely that the strength of domestic industries will lead to the development of a truly regional market. The Tripartite region has to develop from the bottom up the development process has to be market driven, led by increased 202

208 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states production of goods and services in the individual countries. This can be supported by topdown policy initiatives like the three Tripartite FTA pillars; but the expectations should not be that the T-FTA will be a panacea for development. The addition of the industrialisation pillar has the potential to tie all three pillars together by contemplating development policies and strategies to expand the production of goods and services. Developing competitive services sectors Few Tripartite member states have a focused strategy to develop the export of services, or clear plans to build a competitive domestic services sector. The process of services negotiations is really the first step in understanding the greater role of services in their economies and how it relates to sustainable growth and development. As mentioned in the previous section, there are challenges with the current approach, including concerns around the practical implication of the process and commitments. If countries can take the time to understand each of the core sectors individually, formulate a strategy, and then liberalise based on the aforementioned understanding and strategy, the chances are that the gains from the process will be more rewarding. The regional economic communities (RECs) comprising the Tripartite region have picked several priority sectors to be negotiated first: the EAC has chosen seven 6, SADC six 7 and COMESA four 8 core sectors for initial liberalisation. However, if countries want to select the sectors that best support the process of industrialisation which sectors would they be? Although it can be argued that all services sectors have strong linkages to industrialisation, there are certainly sectors which are more prominent if countries have the objective to become globally competitive. Penetration of global markets should be the goal of the Tripartite process as African industrialisation will only be feasible if it succeeds in breaking into global markets (Collier, 2009). In particular, the network-based sectors of transport, telecommunications and energy have a close and symbiotic relationship to manufacturing industries. 6 Business, communication, distribution, educational, financial, tourism, and transport services 7 Communications, construction, financial, tourism, transport, and energy services 8 Communications, finance, transport, and tourism services 203

209 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states Transport services Transport, at its most basic level, gets goods to market. Without good transportation between producers and consumers, primary industries would collapse. It can be argued that in the Tripartite region, the current challenges are more about the quality and existence of transport infrastructure rather than about the quality of transport services. Liberalising or further developing transport services will not have the desired impact if proper transport infrastructure is not available. One transport area where massive gains can be made with regard to liberalisation is air transport. This subsector is, however, excluded from services negotiations as African countries undertook to liberalise air transport services in line with the Yamoussoukro Decision. 9 One objective of the Tripartite FTA infrastructure pillar is the full implementation of the Yamoussoukro Decision which will hopefully provide some momentum to the process. The development of transport is already receiving serious attention from the Tripartite member states. The infrastructure pillar of the T-FTA focuses predominantly on road transport and trade facilitation measures. There are plans to harmonise Infrastructure Master Plans, the development of a Comprehensive Tripartite Trade and Transport Facilitation Programme, and the further development of several transport corridors. The T- FTA itself also has three annexes dealing with trade facilitation measures: Annex 2 on Customs Cooperation; Annex 3 on the Simplification and Harmonisation of Trade Documentation and Procedures; and Annex 5 on Transit Trade and Transit Facilities. Improvement in road transport certainly has the potential to increase intraregional trade, but inevitably it will also make it easier to for third countries to distribute imported goods in the Tripartite region. One can also argue that it will also facilitate the export of mineral resources to third countries. As a service, transport is not fundamental in developing the actual capacity to produce goods and services. It plays a facilitating role by improving a 9 In the 1980s African countries realised they had to consider a move towards a freer and more unrestricted policy of open skies. This led to a meeting of the African Trade Ministers responsible for civil aviation to Yamoussoukro, Côte d Ivoire, where an intra-african air transport policy was adopted. The idea behind the Yamoussoukro Decision is to revamp the African air industry by liberalising air traffic for all intra-africa air transport. In terms of Article 10 of the treaty, the decision entered into force on 12 August 2000 between the 44 African countries that ratified the Abuja treaty. The Yamoussoukro Decision calls for gradual Africa-wide transition towards the multiple designations of airlines, no regulation of frequency or capacity, and complete liberalisation of nonscheduled and air cargo operations. Member states have however been slow to implement the decision, most likely due to political and policy considerations. 204

210 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states country s linkages to its markets, but only in its capacity to deliver. At this stage in Africa s development, transport is predominantly an infrastructural issue rather than a services issue. Transport issues are comprehensively addressed under the infrastructure development pillar and in the draft Tripartite Agreement itself. The framework for the development of the transport industry has already been created; if member states implement these plans and proposals, the transport sector has the potential to develop sufficiently. Telecommunication services Over the last two decades advancements in telecommunications have revolutionised the way in which people communicate and interact. Telecommunications continue to evolve, finding application in every industry by improving the ways in which people and organisations communicate, collaborate and compete. As technology advances, telecommunications will keep on evolving at a rapid rate further embedding itself in all facets of the economy. Today, communication has become effortless with people being connected to each other from wherever they find themselves. Vast amounts of information are available at one s fingertips, social networks have removed anonymity from web interactions, and location-based services can accurately pinpoint the location of people and places. We have now entered a new era of super-connectivity with regards to our communications ability. The telecommunications sector has changed dramatically since the time it was negotiated at the WTO. Even the WTO Secretariat admits that the distinction between telecommunications and the other GATS sectors and subsectors is becoming increasingly blurred as new transmission technologies are introduced (WTO, 2009b). It has become imbedded in all spheres of the economy leading to greater productivity and innovation. Not only has it improved the underlying foundations for doing business, but it has also opened up access to remote markets. Advances in technology have led to the digitisation of several formats, thereby spurring the emergence of trade in Mode 1 (cross-border supply). The fragmentation of production chains has also created opportunities for specialisation in different locations. The full potential of telecommunications, however, cannot be exploited without proper supply of the service. Having a solid and stable underlying foundation that 205

211 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states enables businesses to trade goods and services with the rest of the world is critical. Röller and Waverman (2001) found evidence of a significant positive causal link between telecommunication services and economic growth. They further found that the presence of telecommunications infrastructure and the derived services allow for productive units to produce better and concluded that telecommunication investment might lead to benefits in other sectors (Ibid.). Although this fact is recognised by many Tripartite member states, the levels of deployment and efficiency of the telecommunications sector differ greatly between the countries. In creating an optimal telecommunications environment, voice and data services are the most important components. Traditionally, voice and data services have been delivered via fixed lines, but these are increasingly being delivered through mobile devices. Internet penetration for Africa, both through fixed line and mobile connectivity, remains the lowest in the world (ITU, 2011). On top of that, Sub-Saharan Africa has the highest data prices in the world. The good news is that during 2010 the greatest price drops in the world occurred in Africa where fixed broadband prices fell by over 55% and mobile cellular prices by 25% (Ibid.). Despite these decreases, prices remain relatively high in most African countries. Fixed line internet access is prohibitively costly and on average, costs as much as three times the monthly average per capita income (Ibid.). In Africa, fixed line networks have always had very low penetration levels, and in many cases, the levels have fallen over time. Mobile networks have provided a ready substitute for the traditional fixed line networks for basic voice services while offering added mobility, lower costs, and more payment flexibility (World Bank, 2011b). Looking ahead, competition from mobile operators through their 3G internet offering has the potential to disrupt the market and force fixed line prices to come down. It is also expected that major infrastructure investment in underground and underwater fibre optic cables will boost connectivity and reduce prices further. Mobile technologies are nevertheless expected to play an increasingly important role in delivering broadband to customers in Africa (Ibid.). The telecommunications market is slowly beginning to evolve in Africa and telecommunications policies must adapt to this new paradigm. Governments which understand these new complexities will be best placed to create sustainable environments for companies and individuals to trade more competitively with the rest of the world. The 206

212 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states usual development strategies will no longer be appropriate. The evolution of the trade agenda and the advances in technology coupled with the ingenuity and creativity of individuals and companies all over the world are making traditional development strategies obsolete. A deeper process of reform is required to transform the telecommunications sector in a much more profound manner. The reform process, can, to a certain extent, be guided and supported by the industrial development pillar of the T-FTA. The challenge is how Tripartite member states can use the industrial development process to make a useful contribution to the development of the telecommunications sector. As a starting point, it is important for the Tripartite member states to recognise that the provision of network services like telecommunications matters for the competitiveness of other parts of the economy, in particular that of manufacturing. The development of a robust telecommunications sector to enhance the tradability of goods and services should be the main objective. A complete development strategy for the telecommunications sector has two components: 1) trade policies aimed at liberalising the domestic market, something which will happen in the second phase of the Tripartite negotiations; and 2) industrial policies aimed at developing the domestic telecommunications providers to be more competitive in the more liberalised environment (Hodge, 1998). These two components are closely connected and both have to be considered simultaneously. To identify the framework within which these policies will function, individual countries have to undertake regulatory and policy audits to determine the structure and conditions of the telecommunications sector. The current environment has to be assessed in terms of the applicable rules and restrictions, the manner in which the sector is regulated, the competitive strengths of the companies operating in the sector including the influence of state owned industries and parastatals, and the current strategic policies of government. This will give countries an accurate idea of the status of liberalisation, the state of competition and the current plans of government to develop the sector. Even if industrialisation refers to the adoption of a truly regional policy, it is still necessary for countries to have a detailed understanding of their domestic frameworks. For now, the purpose of including telecommunications as part of the industrial development plans is not to expand the export potential of the services. The idea is rather to develop a 207

213 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states strong telecommunications base to support and promote the manufacturing industry. It is nevertheless likely that the Tripartite member states with more advanced telecommunications sectors such as South Africa, Egypt and perhaps Kenya will inevitably increase exports of these services to the rest of the region. One concern is that the intraregional investment in Africa is quite limited, with the bulk of investment originating from South Africa. According to the 2011 World Investment Report, intraregional Foreign Direct Investment (FDI) in Africa accounts for only five percent of the total in terms of value. The pattern indicates that aside from South Africa, which has an exceptional propensity to invest regionally, intraregional FDI is particularly underdeveloped in Africa (UNCTAD, 2011b). It can therefore be argued that due to limited intraregional investment capacity, the benefits of regional trade liberalisation will likely accrue to the more developed member states in the Tripartite region. To provide competition for the more dominant providers in the region, member states can consider unilateral liberalisation to complement regional services negotiations. This will give other more developed countries with advanced technologies and experience the opportunity to access the regional market. This might not be the most appropriate strategy for all member states, but it is something that can be considered by countries if the right conditions exist in the domestic market. If trade liberalisation brings about economic benefits and governments are convinced of these benefits, market opening should be pursued regardless of what other countries may do (Krugman, 1997). The purpose of industrial policy in an environment where trade barriers are being lowered is 1) to enhance the competitiveness of domestic producers, and 2) to promote greater investment in and development of the sector domestically (Hodge, 1998). In order to achieve these goals, three areas must be addressed comprehensively: infrastructure, skills development and entrepreneurship. Infrastructure One goal of the Tripartite infrastructure pillar is the implementation of an accelerated, seamless interregional ICT broadband infrastructure network for the region. With African countries receiving attention as a potential consumer markets, there has been a surge in infrastructure investment. In recent years, Africa has seen strong investments in upgrading Global System for Mobile Communications (GSM) networks, installing 3G networks and fibre 208

214 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states optic rollouts. This infrastructure expansion has led to falling prices, bringing basic telecommunications service within reach of the majority of Africans. Greater access to telecommunications services has been most prominent in the mobile market, where the number of users is growing rapidly. Africa is currently the second largest mobile market in the world after Asia, and is the world s fastest growing mobile phone market. Over the past five years, Africa s mobile subscribers have increased by 20% every year and it is estimated that by the end of 2012 there will be 735 million mobile phone users in Africa (GSM, 2011). Such explosive growth has made the telecommunication sector attractive to international investment. A recent World Bank report estimates that the telecommunications industry in Sub-Saharan Africa invests US$5 billion per year and that the annual total revenue generated by the industry is approximately US$39 billion. Between 1998 and 2008 the Tripartite member state that received the most investment was South Africa with US$18.1 billion, followed by Kenya with US$2.8 billion, Sudan with US$1.8 billion, Uganda with US$1.6 billion, Tanzania with US$1.4 billion, DRC with US$1.2 billion and Angola with US$1 billion (World Bank, 2011b). In recent years most of the investment was directed at upgrading the core networks to fibre optic technologies. These high capacity networks lie at the heart of any modern communications system and have developed rapidly in Africa. As of the end of December 2009, the operational terrestrial fibre optic transmission network in Sub-Saharan Africa was km long, with a further km under construction (Ibid.). There are currently (as of March 2012) 12 submarine cables in operation with 5 more that are in the process of being deployed. The map below depicts all 17 undersea cable routes and displays the status of implementation; cables are either marked as active or the anticipated launch date is indicated. The launch date for the West African Cable System (WACS) undersea cable, which was scheduled to become operational in the fourth quarter of 2011, was moved back to the second quarter of

215 Chapter 5 Integrating services into regional industrial strategies: how backbone services sectors support development in the Tripartite member states Figure I: African Undersea Cables Source: Song (2011) According to the creator of the African cable map, Steve Song, every country on the continent has some sort of terrestrial fibre infrastructure project either underway or completed to connect to an undersea cable, or to a country with an undersea cable. He believes that this unprecedented explosion in digital infrastructure investment can only be attributed to the sense of opportunity that the burgeoning African undersea cables represent (Song, 2011). Projects are also underway to crisscross countries in southern and eastern Africa with fibre optics to connect exchanges to the submarine cables (Techcentral, 210