Rising investment and improved policies diversifying Djibouti's economy

Located along a strategic international trade route that connects Africa, the Middle East, Europe and Asia, Djibouti’s economic development has been linked with rising global commerce. In order to fully harness its geographic advantages and maintain its competitiveness, the country is now focusing on infrastructure improvements and a gradual diversification of its economy. This will require considerable amounts of foreign investment over the coming years, but it will also depend on support measures for private sector development, as well as a careful balancing of the state budget. However, so far the small country has managed to successfully maintain a robust growth rate – in spite of the turbulence of global markets, including the low oil price, the rising US dollar and the slowing Chinese economy – which bodes well for its near- and medium-term outlook.

Drivers & Bottlenecks

Economic expansion of the Djiboutian economy is being galvanised by a set of factors that are sustaining a dynamic of growth and improving the country’s attractiveness for foreign direct investment (FDI). Growth in neighbouring Ethiopia – for which Djibouti is the primary gateway, handling 90% of its 95m-person neighbour’s trade – along with the rise of Chinese investment in Africa and a strategic location that has prompted the US, French, Japanese and Chinese militaries to establish permanent bases, are all positively impacting growth. Combined, these three elements are set to drive the country’s economy and international positioning over the coming years. Economic expansion will be essential for the country of 850,000. Poverty reduction continues to require robust government attention, and securing sufficient water and energy distribution will be key for long-term development.

The government has sought to tackle these issues, rolling out a number of ambitious infrastructure and human development plans, which aim to improve on Djibouti’s natural assets to broaden the number of economic sectors the country can depend on in the future. The plans all form part of the Djibouti Vision 2035 strategy, launched by the government in 2014, with the aim of maintaining the current growth momentum and developing the country into a regional trade and financial centre. This overarching development structure is set to be implemented in successive five-year plans. The first of these, the Strategy for Accelerated Growth and Employment Promotion (Stratégie de Croissance Accélérée et de la Promotion de L’Emploi, SCAPE), was launched in 2015 and aims to frame the current assortment of investment and growth schemes under a broader approach, with a focus on boosting development by improving employment, health provision and basic services delivery for the 2015-19 period.

Indicators

While the global economy has suffered from a rising measure of uncertainty in recent months, Djibouti’s economy has been posting robust growth figures, which have pointed to a steady acceleration of activity. Between 2006 and 2014 GDP climbed from $768m to $1.6bn, according to World Bank Figures. According to figures by the IMF, the Djiboutian economy grew 5% in 2013 and 5.9% in 2014. Growth for 2015 is estimated to settle at 6%, and maintain an upwards trend. The IMF expects GDP to expand by 6.5% in 2016, and grow at an annual rate of 7% between 2017 and 2019. Securing adequate living standards for all Djiboutians has so far remained a challenge, as 42% of the population lives in extreme poverty and 48% of the population is unemployed. The gross national income per capita was $1045 in 2015, although the authorities hope to raise it to $12,746 by 2035. The informal sector plays an important role in the economy, with informal enterprises comprising 60% of all business activity in the country, according to the African Development Bank (AfDB).

Main Sectors

In contrast to many other markets in the region, the tertiary services sector, mainly those linked with transportation and port activities, remains the largest driver of the Djiboutian economy, accounting for 79.2% of economic activity in 2014, according to recent figures by the AfDB, employing over 70% of Djibouti’s active population. Transport operations have benefited significantly from the establishment of a free trade zone (FTZ), with tax exemptions catering for foreign and local companies. This model is being strengthened, namely through a planned new 3500-ha FTZ area.

Overall, the secondary sector represents close to 18% of the country’s economy, with the majority of this – equivalent to 15% of national GDP – accounting for non-manufacturing activities. Construction accounts for 11.8% of the national economy, according to 2013 figures by AfDB, while the utilities sector, including electricity and water, account for 3%. Manufacturing has traditionally been constrained to a great extent by the high costs of production inputs such as labour and electricity.

The primary sector represents less than 5% of total GDP – an unusual occurrence in Africa. The agricultural sector accounts for 3.1% of GDP, and an additional 0.3% of national activity is derived from fishing. The country’s arid landscape and scarcity of water have limited capacity for large-scale agricultural development. Summer temperatures can surpass 50ºC, and average annual rainfall is 188 mm. This is, however, expected to change over the coming years. Authorities have announced plans to improve management and distribution of water resources and develop both husbandry and fishing (see analysis). Subsistence fishing already exists, for example, with around 600 people currently employed in the sector, but authorities want to quintuple that by 2019.

The Djiboutian economy remains highly dependent on the country’s public sector. The state plays a considerable role in some of the main areas of the economy, such as transport, telecommunications and construction. Some state-owned companies include the Société Immobilière de Djibouti (SID), in charge of urban development and housing; É lectricité de Djibouti (EDD) and the Office National des Eaux de Djibouti (ONED), water and electricity utilities; as well as Djibouti Télécom (DT), the country’s only telecommunications provider. The state and state-owned companies employ about 17,000 people, or 44% of Djiboutians working in the formal economy,according to government figures. This represents a total weight of public salaries in the economy that amounts to 20% of GDP.

FDI

Since the mid-2000s, Djibouti’s position on one of the world’s most important trade routes has led to a steady increase in FDI inflows. According to the IMF, FDI as a percentage of GDP reached a record 19.7% in 2013, going down to 9.1% in 2014 and 8.6% in 2015. The Gulf states have been at the helm of FDI activity into the country, with countries such as Saudi Arabia, Kuwait and the UAE channelling financing into transport infrastructure, banking and hospitality over the past decade, according to the World Trade Organisation (WTO). Foreign investment levels are expected to remain relatively stable for the coming years, according to IMF projections, and even climb back up again to reach 10.6% of GDP by 2019.

Money Supply

Positive economic performance has supported a rise in money supply, with M3 increasing from DJF192.5bn ($1.1bn) in 2010 to DJF239.7bn ($1.3bn) in 2014, according to figures provided by the Central Bank of Djibouti. M3 rose 6.5% in 2014, versus a 6.7% growth in 2013. Djibouti’s gross foreign assets were expected to decrease from $411m in 2013 to $388 by 2014, according to the IMF, but the fund also estimated a 30% increase in gross foreign assets over the 2015-17 period, triggered by the influx of grants from GCC countries.

The Djibouti franc has a fixed-exchange rate to the US dollar, at DJF177.63:$1. Because of this, the central bank is charged with ensuring coverage for base money, which the IMF estimates will remain around the 105% mark over the 2015-19 period. Monetary stability has helped to attract foreign investors into the services sector. “The fixed-exchange rate, with the Djiboutian franc’s value fixed to the dollar is a great advantage for the country, and a relief for international investors, because they do not have to worry about currency devaluation when planning a major project. Also, there are no limits to capital transactions. These are rare elements in African economies”, Marcello Mezzedimi, director-general of Cosmezz, a construction company, told OBG.

Inflation has been kept relatively low in recent years. After a worldwide spike in 2008 which saw inflation in the country hit 12%, the rise in consumer prices has been markedly lower, coming in at 2.4% in 2013 and 2.9% in 2014. The IMF expects inflation to climb up to 3% to 3.5% range for the 2016-19 period. The rise will be the likely outcome of current capital spending, set to push demand for transport, housing and other services in the Djiboutian economy.

Trade Imbalance

Like so many emerging and frontier markets in Africa, the country is dependent on imports, and Djibouti has traditionally run successive trade imbalances. In 2013 for example, the country imported goods at a total value of $719m, whilst exports of merchandise reached a mere $119m. According to the AfDB in its 2015 African Economic Outlook report, the country’s external position remains vulnerable, with Djibouti’s trade deficit reaching an estimated 39% of GDP in 2014.

Djibouti’s largest export partners as of 2014 are its neighbours in the Horn of Africa and in the Gulf. Its biggest export partner is Yemen, where Djibouti exports $32m worth of goods, followed by the UAE with $29m, Ethiopia with $15.7m, the US with $10m and Sudan with $4.4m. The country’s major exports include gold, livestock, petroleum oils and coffee, according to UNCTAD.

One of the main drivers of the country’s growth, neighbouring Ethiopia not only accounts for a large percentage of Djibouti’s exports, but is also the primary destination for much of the transit goods coming in through Djibouti’s port. Ethiopia, with a population of 95m, has had average annual growth rate surpassing 10% throughout most of the past decade, and lacking access to the sea, it relies on Djibouti for virtually nine-tenths of its trade.

On the other hand, the country’s major import partners as of 2014 are China, with Djibouti importing $327.7m worth of goods and services, followed by India at $97m, Indonesia at $88.7m, the US at $39.6m, the UAE at $37.8m and Pakistan at $35.1m, according to UNCTAD. The major imports into the country are vegetable oils, wheat, footwear, sugar and motor vehicles designed for the transport of goods. Djibouti’s status as a major trans-shipment centre can affect how its export and imports are calculated.

Regional Bodies

Djibouti is also part of the COMESA, a trade agreement made up of 19 countries in Africa, which includes the Democratic Republic of the Congo, Ethiopia, Egypt, Kenya, Rwanda, Uganda and Zambia. Member countries have been aligning their trade policies to improve the regional business environment, working on measures such as the unification of taxation rates, common competition policy and the establishment of a monetary union.

Djibouti’s status as an international centre for commerce will also benefit from any advancements in the Tripartite Free Trade Area, which aims to create a free trade agreement that includes COMESA, the Southern African Development Community and the East African Community.

Fiscal Pressure

Much of Djibouti’s headline growth at the moment has been fuelled by impressively high levels of public capital spending, which has understandably put pressure on the government balance sheet, leading to a persistent deficits, reaching 2.6% of GDP in 2014 – although this is down from 3.1% in 2013, according to figures by the AfDB (see analysis). To cover these rising expenditures, the government has turned to financing from external sources, as evidenced by China’s involvement in the expansion of the country’s new container terminal and the revamp of the national railway. This has led to a rise in debt: understandably the IMF has estimated that the stock of publicly guaranteed debt as a percentage of GDP is expected to climb from 48.4% of GDP in 2013 to as much as 79.6% of GDP in 2017.

Revenues

National tax revenues in Djibouti are higher than in most sub-Saharan African markets: as a percentage of GDP they have hovered around one-fifth of the total. They eased from 20.3% in 2011 to 18.5% in 2012, before climbing up again to 20.9% in 2013 and down again to 20% the following year. Tax revenues are expected to decline further to 19.7% and 19.6% in 2016 and 2017, according to estimates by the Djiboutian government, a result of continued high GDP growth rates. Tax collection as a percentage of GDP has improved considerably, from about 12.5% in 2000, according to government figures included in the SCAPE strategy report.

A profound revamp of the country’s tax system is expected to improve fiscal revenues over the coming years. The move started in June 2015, with a nationwide assembly meeting dedicated to tax reform. The re-structuring of the tax system is expected to take five years to enact, although the initial measures will begin to be implemented in the 2016 budget. It will be a challenge to enact these reforms, however, in light of the significant role the informal sector plays in the economy. It is hoped that the reform will establish more of a tax culture in Djibouti, one that all its citizens will participate fully in.

Rental Revenues

One sizeable source of revenue, relatively unique to the small country, is rent from foreign governments for military facilities and bases. Djibouti’s strategic location on the Gulf of Aden has made it a preferred location for anti-piracy missions in the Indian Ocean and around the Horn of Africa.

The lease of Camp Lemonnier, the US’s largest permanent military base in Africa, hosting 4000 personnel, has recently been renewed for an additional 10 years, and represents an annual income of $63m in rent payment for use of the base, according to reposts by the international media.

China recently secured a deal to establish its own military base in Djibouti, for which it is reportedly paying $100m annually to Djibouti. France and Japan also have smaller military bases in the country. The presence of military outposts from several nations in Djibouti represents more than the annual revenues for the state budget and has a positive impact on the local economy. It also underscores Djibouti’s image as a stable country in a sometimes volatile region.

Economic Diversification

Given the substantial role that both the state and the transport sector currently play in driving both headline growth and job creation, diversification has become a key priority for the country’s government. “This new development policy came from the understanding that around 80% of the country’s economy is dependent on the port, and this is not a sustainable strategy for the long term,” Samir Aden Cheikh, advisor to the Minister of Economy and Finance, told OBG.

As a result of this new government policy, there are a number of initiatives under way that are designed to encourage investment and activity in a range of other areas, as well as a push to improve private sector development. Among the industries the government is looking to target are mining and hydrocarbons – unsurprisingly given the underground riches of many of the country’s neighbours – as well as geothermal energy and the tourism sector.

Underground

Authorities are making efforts to improve the investment conditions for mining activities, and under the SCAPE are mapping mineral resource areas across the country and establishing a database of known reserve zones, within a country believed to have commercially-feasible reserves of bauxite, aluminium, gold and iron.

The efforts have attracted some upstream exploration, with a joint-venture between AngloGold Ashanti and Stratex International having acquired 10 exploration licenses in two blocks between Lake Assal and Lake Abbe for gold in 2013. JB Djibouti Mining, a subsidiary of JB Group of India was also awarded a gold mining license in 2011, although the firm had still to announce any exploration plans. Proven salt reserves also offer new export opportunities (see Industry chapter). Lake Assal, at 155 metres below sea level, is believed to have the largest unexplored salt reserves in the world at 100m metric tonnes. Salt Investment, formerly a subsidiary of US-based firm Emerging Capital Partners, but now Chinese-owned, is developing a project to market the area’s salt resources.

Energy

The government is also hoping to develop some of Djibouti’s other natural resources, including wind and geothermal sources. Increasing renewables is a key part of the government’s Vision 2035 strategy, and is expected to bring benefits on several fronts, reducing dependence on electricity imports and fossil fuels, as well as reducing end-user costs (see Energy chapter). Electricity in Djibouti costs around $0.28 per kWh, much higher than the $0.14 average cost in Africa, or $0.07 in East Asia, according to figures by Djibouti Free Zone and the AfDB, which reduces the competitiveness of local manufacturing. In 2014 the World Bank estimated that electricity bills accounted for 25% of firms’ expenses.

To help stimulate activity, the government is working to amend the current legal framework to allow for independent energy producers. A number of capital projects are also under way, such as the first phase of a $31.8m geothermal generation project, which will focus on drilling four geothermal steam wells and have an expected capacity of 50 MW. The project will be financed through multilateral institutions including the World Bank and the AfDB. Other projects aim to establish wind-generation capacity. Energy authorities have estimated that the country has the capacity to produce up to 5000 kWh of wind energy annually. Another deal, signed in 2014 between the government and Spanish firm Fotowatio Renewable Ventures, will allow for the establishment of a solar energy production unit with a 50 MW capacity. The project is estimated to cost $132m, and will be located at Iskoutir, in the Ali Sabieh region.

Private Sector

Central to the overall push to maintain the country’s steady headline growth rate is the development of the private sector. According to a report published by the World Bank in 2014, there were a total of 3000 registered private companies in the country. The majority of these firms operate in the service sector, in transport and trade activities, while some sectors, such as ICT, remain largely restricted to public operators. As is the case in many emerging markets around the world, these companies face a number of challenges, where access to banking credit can be difficult, with high interest rates and requirements that cannot be met. Similarly, licensing and arbitration procedures can be time consuming and costly, tax and regulatory frameworks opaque, and skilled labour scarce. According to the US-based Heritage Foundation in their 2015 Index of Economic Freedom, Djibouti – which is ranked 112 out of 165 countries in terms of “economic freedom”, a measure of the openness of a market – imposes high-minimum capital requirements, which according to the study, represents twice the average amount of annual income.

Incoming Reforms

The government has sought to address the existing bottlenecks. A High Council for Private-Public Dialogue was recently established, and the CCD and the Intergovernmental Authority on Development (IGAD), an eight-country regional trade block, are working to establish an International Centre for Arbitration to be based in Djibouti, but operate for the IGAD region at large. The centre is expected to begin operating in 2016.

Steps to ease business creation are being taken by the Djiboutian Industrial and Commercial Property Office (Office Djiboutian de la Propriété Industrielle et Commerciale, ODPIC), created in 2012. In its first year of operation ODPIC was able to help reduce the time it takes to set up a firm in Djibouti from an average of 37 days to four, by determining where bureaucratic procedures could be lightened. The changes were also supported by an overall easing of regulation, such as the simplification of registration formalities and the abolition of minimum capital requirements to establish limited liability companies.

ODPIC, the tax authority and the National Investment Promotion Agency are also working to set up a one-stop-shop for firm creation, which will further reduce the time it takes to open a new business. The new “guichet unique” is expected to be operational during 2016. Other specific challenges to entrepreneurship are also being addressed. Currently underway is a joint programme by ODPIC and the National Union of Djiboutian Women to support 500 women entrepreneurs by helping them to formalise their businesses and access credit facilities to expand.

Outlook

The developments that are taking place in the Djiboutian economy are paving the way for the country to better exploit its geographic position. Through the mobilisation of large-scale investments, authorities are combining natural resources, an increasingly business-friendly environment and monetary stability in order to ensure sustainable growth for the decades to come. Growth rates over recent years attest to the fact that the country’s position as a centre for international commerce can be utilised successfully. However, maintaining this level of economic development will depend on how the infrastructure programme is implemented. The expansion of transport facilities and networks under way will need to be coupled with a careful management of the country’s fiscal position. These factors will determine the degree of impact that the programme will have on the country over the medium and long term.

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The Report: Djibouti 2016

Economy chapter from The Report: Djibouti 2016