Following the oil shocks in the 70’s, until the 2000’s many African economies, including Cameroon, have suffered huge balance of payment deficits. This phenomenon made foreign debts necessary. Within this period, Cameroon’s economy has faced difficulties in the repayment of its foreign debt while promoting growth of its GDP (Gross Domestic Product). This situation has been met with numerous programs through which international financial institutions sought to improve the situation either by awarding loans, changing the terms of existing loans, or cancelling loans.
This has led to diverse reactions of the economy in the periods within which each of the programs was carried out. This problem therefore created the motivation to study the reasons why the economy reacted as observed, following the actions initiated through its relations with creditors. This is an internally focused study which is more interested in the internal actions or reactions to stimuli which could influence the country’s foreign debt to GDP relationship over a period which ranges from the 1970 until 2006.
The theories of institutional economics are applied to explain the results of government action. This is done by using the Keynesian concept of government spending. By linking this theory to Minsky’s theory of financial fragility, determinants of government financing are analyzed. This is done by a qualitative 1 analysis of the flow of foreign debt to capital formation, and the government’s ability to trap its spending through fiscal revenues, as the country went through economic changes to enhance the efficiency of foreign debt management.
In general, the country’s long run financial fragility is evaluated by analyzing the degree to which its foreign debt dependency has evolved within each era of the country’s GDP growth, as it responds to actions of international financial institutions regarding the degree of institutional efficiency.
Cameroon falls among the many African economies which fell into a debt trap after the Oil shocks in the mid 1970’s. The world wide rise in fuel prices led to the accumulation of cash reserves in western Banks.
In the face of recession in developed countries, there arose excess supplies over demand of credits, and thus a fall in the cost of loans. The low cost of loans, at the time, represented an opportunity for African economies which later on became a threat. This happened as the western economies emerged from recession and began to compete in the demand for credits. This growth in the demand for credits led to a rise in interest rates which affected the price to be paid by the Cameroonian economy in reimbursement of their foreign loans.
The country’s independence in 1960 came with a lot of optimism, as the average real economic growth of 6% was achieved between 1965 and 1986. The country’s petroleum resources played a key role in the boom experienced in the 70’s, as 2 foreign reserves were positive, in the face of growing domestic investments which rose from 21% of GDP in 1977 to greater than 30% in 1986. This boom was characterized by high inefficiency in the management of state enterprises in charge of non-petroleum products, and thus enhancing the country’s dependence on its oil revenues (Nkama, 2005).
Heightened public sector mismanagement combined with the sudden fall of the prices of Cameroon agricultural and petroleum revenues. This trapped the economy in a crisis which was recognized by the state in 1987. As a consequence, between 1985 and 1992, terms of trade declined by about 55%, while the average GDP growth fell to a yearly of 3. 8% from 1986 to 1994. At the same time, external debt rose from 39% of GDP in 1986 to 65% of GDP in 65% of GDP in 1992. Then the national currency (CFA franc) underwent a 105% in 1994 (Nkama, 2005) .
Cameroon’s economic structure in relation to its foreign debt Among the goals of the HIPC initiative was the achievement of a 150% ratio of net present value of foreign debt to GDP. But this ought to have gotten beyond this single quantitative dimension. It ought to have taken account of other aspects of the economy, such as its structure, the structure of its foreign debt, and the strength of institutions which can make for economic stability in spite of high debt to GDP ratios. 3 Contributors to Cameroon’s GDP (1966-1976) Agric 30% Service 50% Manufacturing 20%
Fig 1 Sectors’ Percentage Contributions to GDP 1966-1976 Source: Aerts, Cogneau, Herrera, de Monchy, & Roubaud, 2000 The heart of Cameroon’s economic boom came in the early half of the 70’s, an era within which the service sector supplied half of the country’s GDP. Given that the majority of this service sector belonged to the civil service, an important component of government revenue could be earned from fiscal sources.
With this GDP contribution structure, the economy fell into a structural crisis (1985-1994) as it depended on unstable oil revenues to finance its growing recurrent expenses. This called for the country’s subjection to the structural adjustment program. Contributors to Cameroon’s GDP (2009) Agric 25% Service 44% Manufacturing 31% Fig 3 Sectors’ Contributions to Cameroon’s GDP 2009 Source: IMF Country Repot No. 10/259 July 2010 After the Structural Adjustment programme, the sectors which contribute to Cameroon’s GDP are classified as shown in figure 3 with resperct to their percentage contribution to GDP.
The largest component is the service sector which earns 44% of the country’s GDP. This sector and the construction sector do not yield direct income for the state by which its foreign debt can be serviced. This is 6 because the state only earns taxes from income earned by individuals rendering services and executing construction contracts. Thus the state’s ability to raise income from this sector tends to depend on how efficiently its institutions can spread its tax base to trap revenue from these sectors.
The state is therefore left with the remaining 56% (Manunufacturing, Oil and mining, Agriculture, Forestry and livestock) from which it expects to earn substancial amounts of foreign income, considering its participation in these sectors, such as its 66% shares in the National Refinaries Company, SONARA (US Department of the interior, 2009). According to AfDB and OECD (2008), the forestry sector realizes income through environmental regulation. Given that this sector’s products are not locally processed, it could earn a deeper component of its potential by adding the value of its products before they get exported.
In the agriculrutal sector, the potential is not exploited, due to inadequacy of financing, road networks, and fertilizers. The non-petroleum manufacturing sector holds 19. 2% of the economy’s GDP. The country’s technological base is relatively weak, as is the case with low income less economically developed countries. The trade liberalization which followed the Structural Adjusment programme opened the country’s markets to competition from foreign manufactured products. It is therefore difficult to perceive this sector as a source of foreign income, considering the recent declining terms of trade in the economy. It is therefore important to understand how an economy whose GDP arises predominantly from the service sector will react to the growing mass of foreign debt, considering the need for externally earned income to finance maturing foreign loans. Also, considering the relative instability of the externally earned income due to export price fluctuations (See Annex) , it is important to assess the means by which such a small economy can generate GDP growth from internal sources, thus reducing its dependence on foreign debt.
Source: IMF Country Repot No. 10/259 2010 Cameroon’s economy owes 50. 7% of its debts to foreign creditors. Figure 4 shows its foreign debt structure with a vast majority of its creditors being multilateral. This leaves the country with a limited percentage of bilateral foreign loans to worry about. In this case, the country’s commitments to commercial bank loans 8 (which have tighter conditionality than multilateral loans) are quite negligible, given that they are not visible in the debt structure. Thus, the bulk of the country’s external debt is highly concessional, leading to more preferential interest rates and longer grace periods.
This inspires the worry on whether the absence of tight loan agreements (such as high interest rates and short maturity terms) lures the economy into the substitution of fiscal revenues with these external debts, thus being permanently dependent on foreign loans and thus getting caught in a debt trap. 1. 1. 3 Evolution of Cameroon’s stock of foreign debt and GDP growth Mass of Cameroon’s foreign debt 25 20 Foreign debt in US$ 15 10 Series1 5 0 -5 -10 1970 1972 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 Fig 5 Mass of Cameroon’s Foreign debt Stock
Source: World Bank Database 9 Cameroon’s GDP growth 25 20 15 GDP growth (%) 10 5 0 1984 2004 1970 1972 1974 1976 1978 1980 1982 1986 1988 1990 1992 1994 1996 1998 2000 2002 2006 -5 -10 Fig 6 Evolution of Cameroon’s GDP growth, Source: World Bank Database The relative instability in the country’s GDP growth rate between 1970 and 1980 arose from the discovery of petroleum resources in the country’s coast line in the early 70’s; and eventually the production which began in 1978. The price hikes in petroleum products during the 80’s “oil boom”, as well as the availability of these resources are temporary.
This had a strong impact on the economy, as it led to investment choices which prioritized petroleum, as well as other non-tradable resource sectors over the agriculture and other tradable resources whose prices were relatively unstable at the time. This investment policy failed to consider the fact that the agricultural sector held a high percentage of the country’s labor force. This instability resulted from the need to return to the country’s initial GDP contributor mix, focusing on agriculture, after the drop in fuel prices (Benjamin & 2008 10 Devarajan, 1985) According to Benjamin & Devarajan (1985), by injecting oil revenues into the economy, inflation levels rose.
This increased the prices of locally manufactured agricultural products, making them less competitive on local and foreign market, following exchange rate appreciation. This was a challenge to the economy’s quest to use import substitution policy as a driver of growth in the late 70’s. Therefore, allowing the contraction of the country’s agric sector in the face of oil discovery was not a proper orientation of the state’s economic policy.
This was responsible for the unstable growth of the economy after the “Oil boom”. In the 80’s the economy faced the effects of the concentration of state investments in the petroleum sector. This can be observed from the sharp fall in GDP growth in 1982 and 1988, following the fall of the prices of the country’s main export commodities: Cocoa, coffee, cotton and petroleum. This led to a rise in the country’s current account and fiscal deficits, as the economy fell into an economic crisis in the late 80’s. These deficits were financed by arrears from civil servants nd local suppliers which escalated into a crisis in the banking sector within which the country saw the peak of recession (Gauthier, Soloage, & Tybout, 2000).
This led to the need to comply with World Bank conditionality, which was characterized by the Structural Adjustment program in 1989, which sought to restructure the economy. This program’s objectives constituted reducing the gap between state revenues and expenses, in order to enhance GDP growth. 11 Within the economic crisis which plagued Cameroon’s economy between 1985 and 1995, the country’s external debt to Gross National Income (GNI) ratio rose to 133% in 1995.
Thus, the programs lunched with the help of the major International Financial Institutions (IFI), seeking to enhance economic rigor went on until the 90’s. These programs had painful effects on those who contributed to the “more costly” part of the economy, as they sought to minimize state spending and increase state revenues. Among these was the more than 50% reduction of civil servants’ salaries in 1993 as a measure to reduce cost. Then in January 1994 came the 105% devaluation of the national currency (CFA Franc). This was a major turning point for the economy following the “oil boom” which led to an overvaluation of the CFA Franc.
For many years, the country has faced the huge challenge of stabilizing its GDP. This goal could be achieved by improving on export diversification in order to reduce its dependence on oil revenues, as well as fighting against falling commodity prices through sufficient processing of raw material exports. (OECD, 2009).
The economic crisis in Cameroon in the 80’s led the country to experience the least growth ever recorded in its history. To reverse the situation, it was necessary 14 o seek external support in the form of loans from the World Bank, the International Monetary Fund (IMF), as well as other multilateral or bilateral creditors. Thus, between the mid 80’s and the mid 90’s the mass of the country’s foreign debt grew rapidly. Considering the fact that these loans were granted to stimulate growth, an issue arises when one considers the fact that the period within which the country’s debt grew fastest was the period within which it recorded the lowest GDP growth. This in mind, the high positive impact of foreign debt on GDP growth has not yet been experienced in spite of the country’s huge debt cancellation.
It is worth noting that after the cancellation of the country’s foreign debt, following the achievement point of the HIPC initiative in 2006, the country’s GDP growth rate has not improved remarkably. The observed impact of the country’s foreign debt on its GDP growth portrays a gap which needs to be filled to achieve foreign debt sustainability through improved efficiency of institutions. It is therefore important to understand why the long term effect of the country’s foreign debt on its GDP growth is still awaited, and to understand the likelihood that the expected growth results would be achieved.
In earlier research works, causes of the observed relationship between the country’s foreign debt and GDP growth, the debt to export ratio has been observed, as well as the debt service to export ratio, to evaluate whether the country spends more of its export revenue on debt repayment. It is therefore important to integrate the percentage of the country’s GDP spent on capital investments, as well as the 15 efficiency of institutions. This will measure the country’s commitment to the use of local institutions in its quest to internally stimulate GDP growth and thus reduce the likelihood of a future debt crisis.
To study the relationship between foreign debt and GDP growth This is an effort to test the significance of the relationship between foreign debt and GDP growth. Here, a number of economic variables are analyzed. By so doing, the changes in the sectors of the economy are assessed. These constitute measures of the country’s debt repayment ability and the efficiency of its foreign debt management in the past. This will be used to make recommendations on how the economy can better manage its foreign debt in the face of an anticipated debt crisis.
To establish arguments on why this relationship exists. To argue reasons for the observed relationship between foreign debt and GDP growth, institutional variables1 will be observed to measure the country’s degree of commitment towards the sustainable monitoring and management of its most valuable sources of income, its ability to effectively utilize its foreign debt, and its ability to recollect the resources spent as fiscal revenues, and the impact of all these on the growth of the country’s foreign debt.
Using these variables it is expected to advance the argument that the “qualitative” strength or efficiency of Institutional Variables are data sets summarized to represent perception-based indicators of governance. These are split into six interdependent dimensions: Accountability, Political Stability, Government effectiveness, Regulatory Quality, Rule of Law, and Control of Corruption. (Kaufmann, Kraay, & Mastruzzi, 2010) 1 16 institutions is as important as the “quantitative” debt to export ratios. These quantitative measures, as suggested by the HIPC initiative, seek to ttain a 150% debt-to-export ratio, which should serve as a debt sustainability benchmark, in spite of the other characteristics of the economy.
