July 15, 2014    9 minute read

Linking Commodity Prices to African Development

   July 15, 2014    9 minute read

Linking Commodity Prices to African Development

Overview of Commodity Prices:

The World Bank’s April 2014 issue of Commodity Markets Outlook indicate that commodities and agriculture prices can impact the development of the region in various ways. With this in mind, considering Figure 1 and 2 below, we can make a general statement that a few of the indices are on a rising trend e.g. food, beverages and agriculture. Although the extent to which they continue to rise is merely a prediction, we can analyse the impact, in terms of advantages and disadvantages, of rising commodity prices with regards to Sub-Saharan Africa.

Rising commodity prices can affect the Sub-Saharan African economies in various ways – the effects can be positive and negative towards development. Commodities seem to primarily affect aggregate demand of the economy (economic development) – through balance of payments and exchange rates. Deaton suggests that there is a strong correlation between growth in real GDP and growth in commodity prices (Deaton, 1999, 37). However, in terms of human development, rising commodity prices effect food costs and increase costs for both consumers and producers e.g. farmers – rising food prices have been problematic for Sub-Saharan Africa’s development, with the risk of people being “dragged into poverty” (African Development Bank Group, 2009, 22).

Advantages & Disadvantages of Price Rise for Sub-Saharan Africa:

An advantage of rising commodity prices for Sub-Saharan Africa is highlighted by a “strong correlation between GDP growth and commodity price growth” (Deaton, 1999, 37); which is illustrated in figure 3.

Figure 3 indicates that in 1992 the percentage growth in commodity prices was -4%, while the percentage growth in real GDP was approximately -1.8% in Sub-Saharan Africa. However, the increase in the percentage growth of commodity price and real GDP, to 4% and 1.2% respectively, in 1994 illustrates that Sub-Saharan African Economies “do better when the prices of commodities are rising than when they are falling” (Deaton, 1999, 38) – demonstrating that rising prices help economic development. In addition, rising commodity prices can help development in Sub-Saharan Africa through increased income for their exporters i.e. farmers. Most commodities have inelastic price elasticity of demand; thus if prices increase, revenues (income) for the exporter increases dramatically. For example, Nigeria are specialised in exporting crude oil – which accounted for 85.7% of total exports in 2002 (Marinkov and Burger, 2005, 279) – consequently a rise in the price of crude oil will result in higher revenues; helped further by high global demand for oil. This is good for the exporters as the rise in income (revenue) can be used to achieve a dynamic agricultural sector that can start the early process of industrialisation – this is done by producing a surplus over the subsistence needs of the agrarian population; which is necessary for industrialisation to begin. Industrialisation will in turn increase development further as the structural transformation indicates a movement from the sector with the lowest productivity, agriculture, to the industrial sector where productivity is much higher. Therefore, rising commodity prices can help an economy like Nigeria to gain more revenue to prepare for the early stages of industrialisation. 

This transformation is evident for Nigeria, to some extent, as the share of agriculture in total GDP declined from 66% (1950) to 39% (2000) while the share of industry in total GDP increased from 6% (1960) to 33% (2000) (Szimai, 2005, 112, Table 3.9) – the growth indicated by the increase of GDP (in current US$) from $4bn (1960) to $46bn (2000) (Source: The World Bank). Furthermore, rising commodity prices will lead to better net barter terms of trade. Therefore, the rise in crude oil price, for instance, will help Nigeria achieve a higher export price relative to their import price. This indicates development through the opulence approach, as the price of exports will buy more imports, thus helping Nigeria in this case, to import goods which they are dependent on. For example, some countries within Sub-Saharan Africa are “traditionally dependent on cereal imports” (African Development Bank, 2011, 6) – where in 2010 the “aggregate wheat production dropped by 11.8% to 17.3 million tonnes” (African Development Bank, 2011, 6) – thus being able to sustain their huge demand for cereals by being able to import more and not hinder development in the process. Additionally, the increase in foreign exchange can be used to import capital goods and thus help achieve technical progress, leading to future economic development – high commodity prices can “stimulate the increased flows of investment in agriculture” (African Development Bank Group, 2009, 23). Consequently, it will help increase the supply and production of food, like cereals, which have been decreasing due to “extreme weather conditions” such as “drought and erratic rain” (African Development Bank, 2011, 6) – therefore rising prices can help development. 

On the other hand, rising commodity prices does incur disadvantages which hinders the prospect of Sub-Saharan African development. In this case, economic development may be deterred through the idea of the “Dutch disease” (Avendano, Reisen and Santiso, 2008, 14) – where a “primary commodity boom may cause the domestic currency to appreciate, thereby crowding out” (Marinkov and Burger, 2005, 282) all other exports and production. This “creates problems of competitiveness” (Avendano, Reisen and Santiso, 2008, 15), which relates with the income terms of trade concept. Commodity prices affect exchange rates because in Sub-Saharan Africa they account for “over 80 per cent of the variation in the real exchange rates” (Avendano, Reisen and Santiso, 2008, 12). The rise in commodity prices therefore effects economic development negatively, as it leads to the worsening of current account, as lowered competitiveness results to smaller units of exports being sold and imports becoming cheaper, as their domestic currency can purchase more. However, studies from Marinkov and Burger show that there was “very limited evidence…in support of Dutch disease” (2005, 288) with the case of Nigeria and the rising price of crude oil. Rising fuel prices and food prices will effect development in a negative way due to rising commodity prices. For example, figure 4 (Avendano, Reisen and Santiso, 2008, 11) illustrates the trend of prices increasing in both soft and hard commodities – showing how it can affect both consumers and producers in Sub-Saharan Africa.

This is significantly concerning as “poverty is still highest in Africa compared to other regions” and thus “households across Africa have had to reduce their food intakes” (African Development Bank Group, 2009, 16). This could lead to an “increase in child malnutrition” which could have “additional negative effects” (Wodon and Zaman, 2008, 3). Rising commodity prices will affect the Sub-Saharan African region as majority of households are low income earners and thus “spend a significantly large proportion of their income on food” (African Development Bank Group, 2009, 1). The rise in hard commodities also effect the producers as higher oil prices and other commodities cause the “cost of inputs such as fertilizers” (Wodon and Zaman, 2008, 9) to increase – thus adding to the “number of undernourished people in Sub-Saharan Africa [which] represents one-third of the population” (Africa Development Bank, 2011, 8). This demonstrates that human development is affected negatively as rising food prices may lead to an “increase in poverty of close to 30 million persons” (Wodon and Zaman, 2008, 10) – highlighting that rising commodity prices worsens development as it risks “many people being dragged into poverty” (African Development Bank Group, 2009, 22) thus “food price-related riots” (African Development Bank Group, 2009, 16) have occurred in the region, such as in Cameroon and Niger.

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