Malawi Case Study Political Economy Determinants of Economic Growth

Malawi Case StudyPolitical Economy Determinants of Economic Growth Effective States for Inclusive Development Seminar – Cape Town 28th April 2014 Jonathan Said jonathan@imanidevelopment.com

Objective • To present findings of Malawi Case Study

Overview • Introduction • Malawi’s Growth and Structural Transformation Experience • Political History • Evolution of Deals Space and Situation Today • Political Dynamics of Growth Acceleration • Political Dynamics of Growth Maintenance • Conclusion

Introduction • Study of institutions & growth • Why do growth-impeding institutions persist in many LDCs • Inadequate understanding of political dynamics of economic growth • 3 unanswered questions: • some countries initiate episodesof rapid growth while others suffer extended stagnation • some countries sustain growth episodes while other episodes revert to stagnation or collapse? • what characterises feedback loops between growth & institutions? • Malawi case study to contribute to literature on political determinants of growth • Application of conceptual framework developed by Sen (2012) & Pritchett/Werker(2012) • Qualitative assessment of political factors that explain past & current growth processes in Malawi • Analyses roles played by product space, structure of rents around product space & incentives of political & business elite in Malawi’s growth regimes & structural transformation process since 1954

3 Structural Growth Breaks since 1955 Malawi’s GDP per Capita (1955-2010), US dollar prices, and breaks filtered from 4 possible Bai-Perron Breaks 2nd Growth Regime 1st Growth Regime Source: Penn World tables 7.1 – PPP Converted GDP Per Capita (Chain Series), at 2005 constant prices

First two growth regimes: stagnation then acceleration • 1954 - 1964: Stagnation • Final years of British Colonial Rule • Monetary and Fiscal Policy ill-suited to Malawi. E.g. British Pound too strong • Infrastructure expenditure focused on South Rhodesia (Zimbabwe) • 1965 – 1978: Growth Acceleration • Hastings Banda’s dualistic development strategy • Government intervention: • construction of hospitals, capital city, schools, universities, roads etc • 2 Government Companies • ADMARC to buy agricultural products • Press Holdings; involved in many sectors eg retailing, wholesaling, tobacco, banking, fuel, property, transport, pharmaceuticals, estate farming. Accounted for 1/3 of GDP at peak. • Strategic Partners: targeted private sector investment; i.e. one ‘winner’ (foreign companies) picked in each key sectors such as tobacco, sugar, tea, cotton, textiles, beverages etc

Export-led growth up to 1978… Percentage of Exports and GDP per Capita, US Dollar Prices Source: Penn World tables- PPP Converted GDP per Capita (Chain Series), at 2005 constant prices and World Bank World Development Indicators

…and economic complexity increased, before collapsing Economic Complexity Index, Malawi Source: The Observatory of Economic Complexity. Dotted lines represent Malawi’s growth breaks. Note: 2.5 represents maximum level of complexity & -2.5 the minimum.

1979 – 2002: Decline • External shocks triggered decline • Oil price shock; collapse of commodity prices; structural adjustment programmes • Exposed underlying structural constraints that gradually developed since 1960s • Weak & deteriorating state capacity: emergence of predatory state • Exclusion of majority of population from productive economy due to estate agriculture • Weak market structures: monopolies & oligopolies • Aid & debt dependence for social welfare • Multi-party democracy from 1994further weakened civil service due to less-centralised corruption at top, political appointments & poor wages • Spread of HIV/AIDS & fiscal ill-discipline reduced capacity even further • Debt undermined spending on public services & infrastructure • Inability to deal with rain failures, so droughts were common • Foreign investment, manufacturing, job creation & food security all undermined • Private investment slowed: lending rate increased from 17% in 1980 to 56% in 2001

2003 – to date: Another Attempt at Growth Acceleration • New President centralised & controlled rent-seeking behaviour, got macroeconomic policy right & opened up to private sector • Change in government served as conducive basis for growth factors to kick in from 2004 • Return of development partners following the ousting of previous Govt • Debt relief: total aid inflows equalled 93% of GDP in 2006 & 50% in 2007 • Large fertiliser & seed subsidy programme which created maize surplus for 1st time since 1980s • Health sector improvements • Good rains & tobacco boom • Fixed exchange rate above market equilibrium which incentivised consumption & imports • Caused overvalued exchange rate, structural trade deficit & aid cuts; led to forex crisis in 2011 In conclusion Malawi has failed to structurally transform in past 50 years: remains highly dependent on export of tobacco (58% in 2010); productive economy still in infancy

Independence from colonisation in 1964 • 1964 – 1994: Malawi Congress Party led by Hastings Banda • Created republic & one-party state in 1966 • Opposition leaders & dissenters imprisoned, detained or driven into exile • In 1980s succession politics emerged, with John Tembo, Banda’s deputy, strengthening his position • State capacity declined from 1980s due to succession politics & end of active development strategy • Poverty, drought, economic crisis & limited freedoms led to first multi-party elections in 1994 • 1994 – 2004: United Democratic Front led by BakiliMuluzi • Former Minister in MCP but had broken away to establish United Democratic Front • Backed by politicians interested in short-term gains: used state resources, aid & development process to stay in power & get rich • Unlike Banda, did not balance development & personal enrichment

Dominant party settlement; with big boss competition • 2004 – 2012: Democratic Progressive Party led by BinguwaMutharika • After failing to get 3rd term, Muluzi chose Mutharika as successor • Once elected, broke away from Muluzi to establish new party • Prioritised food security; opened to private sector • Balanced patronage & short-term growth strategy • Cut links with private sector in 2nd term & lost interest in development; focused on succession • 2012 to date: People’s Party led by Joyce Banda • Vice President when Mutharika died in 2011; had fallen out with Mutharika in 2010 • Only had 1 supporting MP; prior to becoming President but then numerous MPs joined her party • Some signs of developmental strategy, but priority has been re-election in 2014 • Accused of stealing from state to finance political campaign, as done by 3 preceding Presidents • May 2014 – elections • Over 30 parties, but 4 serious contenders: MCP & 3 parties that emerged from it • Element of competitive clientelist: leaders manage system of patronage & compete for clients • But no real competition in regime changes: new governments came about by accident • So its a dominant party settlement with neopatrimonallogic that drives behaviour of ruling elite • No strong ideology: though strategists point to Hastings Banda’s model as optimal one

Hastings Banda – patronage & clientelism • Hastings Banda • Used patronage to promote loyalty; clients dependent on his largesse (Harrigan, 2001) • His clientelism was conservative, capitalist, support-the-strong development policy • Provided benefits like land, credit & training to ‘strategic winners’, based on unfulfilled expectation that this would create middle class that would develop nation • Closed but orderly deals; became disorderly in 1980s/early 1990s • Lack of freedoms & unsustainable macro & micro economic policies led to multi-party democracy • Lack of openness created negative feedback loop on rent space • BakiliMuluzi • Rent space more disorderly but more open – particularly for private traders (importers) • Rent space also opened up for smallholder farmers, though negligible rents • Deterioration of rent space caused by: • Muluzi’s clients being largely importers • Dismantling of Press Holdings (Hastings Banda’s primary source of rent) • Lack of growth & development strategy; poor macroeconomic policies • Loss of control over corruption & rent-seeking activities by government officials

Muluzi, Mutharika & Joyce Banda all prioritised clientelism • BinguwaMutharika • Deals space more orderly & to certain extent more open • Centralised rent-seeking activities at top of government such that contracts, though corrupt, better supervised & controlled • Rampant corruption & creation of rents for patronage purposes • Companies expected to perform against contracts, unlike in Muluzi’s time, in return for long term relationship with President who they funded • In 2nd term deals space closed (as Bingu focused on fewer clients; e.g. Mota-Engil, Mully Brothers & Chinese); & less orderly as caused forex crisis • Joyce Banda • Following similar approach: initially opened up & improved orderliness of deals space; but disorderliness increased as targeted Govt budget to finance re-election campaign • Established parallel structures outside of Ministries to meet political goals • Perception of weak control over government rent-seeking behaviour • Maintained some of Mutharika’s clients, e.g. mining, Mota-Engil, Chinese • Wants to follow Hastings Banda’s approach of strategic private sector players in each sector

Mapping of Market Rent Matrix today

Nature of deals face by each group & rent sources • Rentiers • largely centred on agriculture estate concessions secured under Hastings Banda & mining concessions secured since 1999. • rents mainly earned from accessing global commodity markets (e.g. tobacco, tea, coffee, uranium) • no new agricultural concessions recently, limiting scope for deals due to weak land policy • in tobacco deals also characterised by linkage between smallholder farmers & auction floors • Magicians • required for licenses, access to seed, extension services, tax, electricity connection, water access etc. • more formal than informal • rents primarily gained from accessing competitive export markets • Powerbrokers • centred on securing government contracts; limiting competition & new entrants; securing preferential access to inputs; securing preferential licenses; extracting income from government • deals much more informal than formal • rents large & gained from taxpayers &aid (fertilisers, construction, finance) & domestic market (telecoms, poultry, sugar) • Workhorses • characterised by maize subsidy, maize market, farm inputs, securing business permits & evading tax • mixture of formal & informal deals • very low rents & includes majority of population

Political Interest Sectors & Location in Product Space

Matching rent space & product space • Political elite’s rent space mostly linked to sectors with low economic complexity • such as sectors dependent on government welfare spending (e.g. maize), mining & import trading • Elites also tied to construction which is key enabling sector for development. • yet impact depends on what is built: e.g. white elephants vs power plants • Elites also extract rents from key enablers: e.g. finance & energy but limited incentive for growth • Magicians/Workhorses characterised by disconnect between political & business elite rents • Bottlenecks faced by these sectors not political priorities • May explain why structural constraints faced in 1990s largely unaddressed since multi-party democracy • Rent space & product space combination not conducive to long-term growth • Outcome reinforced by low complexity of main exports & rent earners (tobacco, tea) since 1960s

What led to Malawi’s acceleration regimes? • 1964 - 1978 • Independence produced development stance that led to ordered deals after colonial collapse • Development agenda secured investment needed to support growth acceleration • Political elites rallied behind Banda in newly independent African country • 2003 – 2012 • Primarily driven by change in Govt in 2004: led to more orderly & open deals & return of aid • Lack of growth up to 2002 caused positive feedback loop from lack of growth recorded under Muluzi to improved institutions • allowed Mutharika to distance himself from Muluzi & strengthen patronage base • Mutharikaable to consolidate corruption at centre of government & secure commitment of elite • Mutharika’sdevelopment policy in 1st term prioritised fiscal & state reforms driven by President & top civil servants/ministers • Allowed economy to benefit from structural adjustment policies of 1980s as previously Govt got sequencing of economic liberalisation wrong, was fiscally indisciplined & weakened civil service

Can Malawi enter a growth maintenance regime? • What does this analysis suggest about Malawi’s next growth regime? • Acceleration to Maintenance or Acceleration to Stagnation? • We try to answer this question using mapping of product & rent spaces

Product space developing but still in infancy • Product space expanding (eg plastics, dairy, soya, assembly); but too weak to form growth coalition • Despite potential for investor continuity under dominant party system, rent space for remains too heavily tied to powerbroker business elite. • Little alignment of political rents to magicians, rentiers (except mining & cotton) & workhorses • Powerbrokers: little incentive to support export oriented policies & competition, leading to little political interest to drive through economic diversification strategies • Such interest increasing though only comes about when politicians want growth: stop-and-go support to development agenda so structural weaknesses no addressed • Suggests nature of growth going forward will be volatile: a number of booms & crises in short-term growth backed up by a gradual underlying positive long-term trend. • While long-term growth likely to remain positive, driven by improvements in technology (telecommunications, agricultural technology), financial sector development, investment in energy &slight but strengthening pull of regional integration, unlikely to be strong enough in next 8 years to overcome increased demands for welfare improvements

Rent space leaves little space for development agenda • Mutharika’s 1st term (2004-2009) led to negative feedback loop in 2nd term: • landslide election victory in 2009, succession politics & weakness of formal deals & rules led to more disorderly nature of deals in increasingly closed environment • Forex crisis of 2010-11 gave Joyce Banda possibility to become President as drove army to take her side in succession struggle following Mutharika’s death • Banda opened deals space & initially increased orderly nature of deals through formal deals & rules • Restored growth, extending acceleration of 2003-2012 into 2013 • But rent space weakened again as priority shifted solely to re-election (in May 2014 elections) • Alleged to have stolen funds from Govt (cashgate) to finance election campaign giving appearance of increased & less controlled corruption; • Election focus also distorted markets & misallocated state resources; no improvement in state capacity • Suggests another negative feedback loop from growth like that experienced in Mutharika’s 2nd term

Growth maintenance regime looking unlikely • Despite potential for investor continuity under dominant party system, rent space too heavily tied to powerbroker business elite& product space still underdeveloped • Malawi seems unable to secure permanent transition to orderly & open deals settlement due to incentives for political elites created by 5 year term democratic system • Likely continuation of negative feedback loops of growth, whereby short-term development policies driven by past political failures lead to boom in growth, but then switch to predatory, patronage strengthening, personal-wealth-creating policies • No translation to long-term development strategy; 2nd terms not developmental • So likely growth trajectory in next 8 years is stagnation

Conclusion • Malawi has failed to structurally transform since 1950s • Rent-earning sectors low in economic complexity • Political elite rent-seeking activities concentrated in powerbroker sectors • Lack of political incentive to develop state capacity & improve rent space • Although increasing number of parties competing for power, Malawi effectively has dominant party system with clientelist, patronage basis inherited from Hastings Banda’s time • Dominant party settlement may be good for growth (e.g. 1st 15 years of H. Banda) but Malawi’s dominant party settlement operates in five-year term democracy that means succession politics & patronage-seeking tend to take upper hand over growth policies • This political settlement delivering two types of feedback loops between growth & rent space: • Negative loops: positive growth leads to worsening of rent space through more disorderly deals (e.g. H. Banda’s 2nd 15 years; Mutharika’s2nd term; J. Banda’s 2nd year) • Positive loops from negative growth or slowdowns: negative growth causes reaction in electorate because of drought or shortages of supplies. Drives new governments to deliver short-term growth (e.g. H. Banda in 1964; Mutharikain 2004; J. Banda in 2012) • Positive feedback loops from negative (or weak) growth too weak to deliver permanent gains in orderliness & openness of rent space; no translation to long-term development strategy • Once short-term growth is restored, succession politics & nature of deals between political & business elites kicks in: no sufficient political interest to address structural constraints that prevent long-term growth maintenance & structural transformation

Influence on Malawi Industrial Policy thought process ESID Growth Framework influenced industrial policy thinking by: • Rent space analysis in key growth clusters (oil seeds, manufacturing, sugar cane) & key enabling sectors (finance, energy, transport, farm inputs) which cause binding constraints • Identified disconnect between political elite & key growth sectors • Inability to secure orderly deals so binding constraints remain • Identified many key enabling sectors as powerbrokers • Incentive to maintain closed deals, while ensuring order • Identified strong connection between political elite & powerbrokers, i.e. enabling sectors

Key questions raised by ESID Growth framework • How can rent space among powerbrokers (enablers) be influenced? • Use of investment policy; competition policy; tax policy, energy policy etc to increase openness • How can rent space among key growth sectors be influenced to generate growth coalition? • Exploit Trade Sector Wide Approach & Presidential thinking on strategic partners/forums to create forums to provide platforms for sectors to influence policy makers/donors & increase orderly nature of deals/addressing of their binding constraints • How can understanding of rent space in each sector help improve prioritisation & sequencing of sector or cross-cutting strategies? • E.g. in seed reform how can rents earned by resisters to change be maintained while allowing reform? • E.g. how can distorting transport rents caused by farm input subsidy programme be lowered? • What type of investor in agriculture/agro-processing should Malawi attract & not attract?

Malawi industrial policy framework including ESID thinking Proposed industrial policy based on: • Institutional economics (includes ESID growth framework) • Getting process of policy making right: how to identify & address binding constraints • Formal public-private dialogue & collaboration (Trade Sector Wide Approach) • Strong link to Presidential strategy & goals • Transitioning to developmental state (public sector reform; party funding reform) • Aid effectiveness & reducing donor policy capture • Priority sectors: application of produce space model • Identified achievable clusters that could implicitly allow structural transformation (jumping) • Identified main export sectors to be low in economic complexity • Evolutionary economics • Getting process of learning right • upskilling; access to technology; quality; education policy; population policy

Thank you for your attention Please contact me: Jonathan@imanidevelopment.com Imani Development Tel: +265 991896366

Malawi Case Study Political Economy Determinants of Economic Growth