Ghana - International competitiveness - opportunities and challenges facing non-traditional exports

Report No. 22421 -CH Ghana International Competitiveness Opportunities and Challenges Facing Non-Traditional Exports June 21, 2001 Macroeconomics 4 Africa Region Document of the World Bank  CURRENCY EQUIVALENTS Currency Unit = Cedi (0) US$1.00 = 7750.0 (May 31, 2001) WEIGHTS AND MEASURES Metric System FISCAL YEAR January 1-December 31 ABBREVIATIONS AND ACRONYMS ACP African, Caribbean and Pacific States ADB Agricultural Development Bank APDF African Project Development Fund CEPS Customs, Excise and Preventive Service CFA African Financial Community (Coinmunaut6 Financiere Africaine) CMT Cut Make and Trim CPI Consumer Price Index ECOWAS Economic Community of West African States EPZ Export Processing Zone ETI Ethical Trading Initiative EU European Union FDI Foreign Direct Investment FOB Free on Board FORIG Forestry Research Institute of Ghana FPIB Forest Products Inspection Bureau GAFCO Ghana Agro-Food Company Ltd. GAP Good Agricultural Practice GCAA Ghana Civil Aviation Authority GDP Gross Domestic Product GEPC Ghana Export Promotion Council GFZB Ghana Free Zone Board GIFF Ghana Institute of Freight Forwarders GIPC Ghana Investment Promotion Centre GLSS Ghana Living Standard Survey GPHA Ghana Ports and Harbours Authority GSL Gateway Services Limited GSP Generalized System of Preferences HAACP Hazardous Analysis and Critical Control Point ICC Intemational Chamber of Commerce ISO lntemational Standards Organization NCA National Communications Authority OECD Organization for Economic Co-operation and Development PEED Private Enterprise and Export Development PURC Public Utilities Regulatory Commission RPED Regional Private Enterprise Development SPEG Seafreight Pineapple Exporters of Ghana SSNIT Social Security National Insurance Trust TEDD Timber Export Development Division TIP Trade and Investment Program TUC Timber Utilization Contracts UNCTAD United Nations Conference on Trade and Development USAID US Agency for Intemational Development VAT Value Added Tax WIR World Investment Report WTO World Trade Organization Vice President: Callisto Madavo Country Director: Peter C. Harrold Sector Manager: Charles P. Humphreys Task Team Leader: Rocio Castro  Table of Contents Acknowledgements Executive Summary ..................................................................i Introduction ..................................................................I Chapter I - Macroeconomic Overview ..................................................................2 A. International Price Competitiveness ................................................................. 2 B. Investment and Financing ..................................................................5 C. Export Performance in the 1990s ..................................................................7 E. Summary and Conclusions ................................................................. 16 Chapter 2 - Microeconomic Competitiveness ................................................................. 17 A. Case Study 1: Natural Resource-Based Exports ................................................................. 17 B. Case Study 2: Efficient Import Substitution and Expansion into Regional Markets ............. 31 C. Case Study 3: Labor-Intensive, Light Manufactures and Services ........................................ 34 D. Case Study 4: Culture and Arts Manufactures ................................................................. 38 Chapter 3 - Lessons Learned from Case Studies and Cross-cutting Policy Issues . . 42 A. Implementation of the Import/Export Regime ................................................................. 42 B. Government Policies Relating to Factors of Production ........................................................ 47 C. Trade Support Infrastructure and Services ................................................................. 48 D. Technical Capability of Exporters and Technology Transfer ................................................ 58 E. Public Sector - Private Sector Relationship ................................................................. 60 Epilogue - A Strategic Framework for Export Development .............................................................. 62 Boxes Box 1. The U.S. Africa Growth and Opportunity Act ................................................................. 35 Box 2. Customs Reform in Peru and Jamaica ................................................................. 45 Box 3. Slim Green Beans in the Supermarket ................................... .............................. 51 Box 4. The "TIP Fund": A Successful Case of Export Finance ............................ ....................... 57 Box 5. Learning Mechanisms in Technology Transfer ................................................................ 59 Figures Figure 1. Ghana: Real Exchange Rate and Terms of Trade, 1990-2000 ..............................................3 Figure 2. Investments Registered by GIPC ..................................................................6 Figure 3. Ghana: Non-Traditional Exports, 1993-1999 .................................................................. 9 Figure 4. Freight Cost as Share of Import Values ................................................................. 52 Tables Table 1. Ghana: Key Non-tradable Costs, 1992-1999 ..................................................................4 Table 2. FDI Inflows to Africa ..................................................................6 Table 3. Ghana: Domestic Credit and Interest rates, 1995-99 ...............................................................7 Table 4. Ghana: Contribution of Non-Traditional Exports, 1993-99 .....................................................8 Table 5. Ghana: Value and Composition of Non-traditional Exports, 1993-99 ....................................9 Table 6. Ghana: Agro-Processed Exports, 1993-99 ................................................................. 10  Table 7. Ghana: Wood Exports, 1993-999 .................................................................... 11 Table 8. Duty applicable to Ghana's Exports under the Cotonou Agreement (as at Sept 2000) ......... 13 Table 9. Ghana: FDI in Selected Export Categories 1999 ................................................................... 14 Table 10. Ghana: Poverty Status by Crop Category .................................................................... 15 Table 11. Ghana: Exports of Wood Products, 1993-99 .................................................................... 18 Table 12. Estimated Timber Yield Efficiency of Tropical Logs...............19.......................................... l9 Table 13. Ghana: Estimated Total Annual Felling of Industrial Roundwood ..................................... 21 Table 14. Ghana: Canned Tuna Exports, 1993-99 .................................................................... 24 Table 15. Ghana: Fresh Pineapple Exports, 1993-99 .................................................................... 26 Table 16. Ghana: Exports to ECOWAS, 1993-99 .................................................................... 31 Table 17. Ghana: Exports of Garments, 1993-1999 .................................................................... 34 Table 18. Unit Labor Cost in Standardized Garment Production (Men's Casual Shirts), 1996 ........... 35 Table 19. Scale and Competitiveness of African Handicrafts Exporters (1996/97) ............................ 40 Table 20. Destination Inspection Regime .................................................................... 44 Table 21. Estimated West African Port Charges for a 20,000 GT Container Vessel Call ................... 50 Table 22. Cost of Motor Carrier Services .................................................................... 54 Annexes Annex 1: Ghana's Gateway Program ................................................................... 66 Annex 2: Export and Investment Data in Ghana ................................................................... 68 Annex 3: Export Diversification Index ................................................................... 70 Annex 4: External Credit Lines, Dec. 1999 ................................................................... 72 Annex 5: List of Firms Interviewed ................................................................... 74 Annex 6: Selected Non-Traditional Exports (1993-1999) ................................................................... 76  ACKNOWLEDGEMENTS This report is based on the findings of two multi-sectoral World Bank missions which visited Ghana in May and November 2000. Earlier versions were discussed extensively with representatives from the private sector and relevant government agencies; and a complete draft was formally presented to Government on May 22, 2001. The report was prepared by Rocio Castro (Team Leader and Sr. Country Economist for Ghana), Tyler Biggs (Sr. Economist), and Camille Nuamah (Economist). Tyler Biggs, with the assistance of Gerald Tyler (Consultant), was responsible for the firm survey and the case studies. Background notes were also prepared by John Nellis (Adviser) on the interviews with firms and government agencies, Gerald Tyler on the wood sector and handicrafts, Ahmet Soylemezoglu (Sr. Financial Sector Specialist) on export finance, Ron Kopicki (Lead Private Sector Development Specialist) on trade infrastructure and services, Chad Leechor (Sr. Economist) on investment and export promotion. Afef Haddad (Research Analyst) assembled the export data and estimated the export diversification index. Theresa Jones (Country Program Coordinator for Ghana) provided useful comments on several versions of the report. Daniela Gressani (Sector Manager) was the peer reviewer. The team wishes to acknowledge the excellent collaboration of the Government of Ghana Ministry of Trade and Industry, the Ghana Export Promotion Council, the Federation of Associations of Ghanaian Exporters, the Association of Ghanaian Industries, and Amex International (Ghana). The team also wishes to thank Ann Martinov for her invaluable assistance in processing the report, and Lydia Sam for her tireless efforts in coordinating the various missions and consultations.   EXECUTIVE SUMMARY A. Macroeconomic Overview 1. Ghana has made important strides in developing its non-traditional' exports during the 1990s, albeit from a small base. At US$403 million in 1999, non-traditional exports have tripled since 1993, thereby increasing their contribution from 10 percent to about 20 percent of total exports. In spite of this rapid growth, non-traditional exports account for less than 10 percent of GDP and provide direct employment to only about 70,000 people. Nonetheless, the poverty impact of both traditional and- non-traditional export activities appears to have been significant, particularly for rural households involved in export crop production and handicraft activities. 2. A flexible exchange rate policy throughout the 1 990s, coupled with a continued liberalization of the trade and investment regime, has contributed to the steady and broad-based expansion of non- traditional exports. Diversification has, however, been limited and Ghana continues to rely on a few traditional primary commodities as the main source of foreign exchange earnings. While exports of light manufactures, especially to regional markets, are growing, the bulk of Ghana's so-called non- traditional exports consist of resource-based products (unprocessed and semi-processed) whose prices tend to fluctuate with those of primary commodities. 3. Much of the recent rapid expansion in non-traditional exports reflects sporadic foreign investments in key agro-processing activities (i.e., cocoa processing, canned tuna, palm oil) which enjoy preferential access to European markets. Value-added in some of these agro-processing activities seems at best marginal which poses questions about their long-term sustainability should preferences be removed. In the case of cocoa and wood processing, it would appear that government policies to move the industry into downstream production has not resulted in increased export earnings for the country as a whole. Moreover, just to retain market shares, Ghana will need to comply with a growing number of EU regulations on environmental and food safety standards. Against this background, it is critical that a favorable business environment is in place both to attract increased foreign investment and to raise the competitiveness of exporting firms. B. Microeconomic Competitiveness: Case Studies 4. In order to identify microeconomic factors affecting exporters, about 50 non-traditional exporting firms were interviewed. On the basis of these interviews, four case studies representative of Ghana's spectrum of export opportunities were prepared. * Case 1: Resource-based Exports. 5. Wood products. Wood processing in Ghana is inefficient by international standards. Inefficiencies reflect under-priced wood resources, low task-level efficiency of workers, use of older equipment, and poor management. As a result, efforts to encourage downstream production have not increased overall export earnings from wood. Moreover, Ghana is in danger of running out of wood resources in the very near future unless key policies are implemented and enforced. Ghana may be eventually shut out from European markets unless it can certify that utilization of its forests is sustainable. ' This report uses Ghana's official definition of non-traditional exports, adopted in 1995, which includes all merchandise exports except for cocoa beans, logs and lumber, and mining products.  ii 6. Pineapples. Ghana has potential for horticultural exports given the quality of its land and proximity to European markets. Exports of pineapple have been expanding slowly over the period, mostly through local efforts, but are yet to reach a critical mass, about double current levels to become profitable. Growth is constrained by supply-side problems and not by market demand conditions. Main issues include: (i) access to land, especially for foreign investors; (ii) lack of a 'cold chain' system, including a cold storage facility at the airport; (iii) impending enforcement of EU standards; and (iv) lack of cooperation among exporters. 7. Canned Tuna. Canned tuna became the leading export during the 1990s, following the establishment of a joint venture with Heinz. After a rapid increase, exports have now leveled off as production is at full capacity. There are some indications that supplies of tuna may be reaching sustainable limits. Ghana's competitiveness in canned tuna depends importantly on EU trade preferences whereby Ghanaian exports enter the EU duty-free, while Asian exports are subject to a 24 percent duty. This duty differential is quite important because Ghana's costs are higher. With its competitive position under pressure from lower cost Asian rivals and entrenched EU competitors, it is imperative that Ghana take every opportunity to improve the business environment and reduce costs for exporters. Key areas for improvement are: (i) the import/export regime; and (ii) reliability of energy supplies. * Case 2: Efficient Import Substitution and Exports to the Region 8. The West African region has a potential market of over 200 million people. Ghanaian exports to this market have been growing faster than average and represented over 20 percent of non- traditional exports in 1999. Although these exports include a significant amount of transshipment, there are a number of domestically-produced goods, which are making inroads into neighboring markets. Export development has been led by indigenous private firms producing low-value manufactures (i.e., plastic and aluminum products) and, more recently, by foreign investors who see Ghana as a good location to capture regional markets (i.e., cosmetics and pharmaceuticals) because of its political stability and safety. Several problems constrain Ghana's ability to take full advantage of these regional export opportunities: (i) lack of implementation of the ECOWAS trade agreements, which result in discriminatory treatment of Ghanaian exports; (ii) transport logistics, including innumerable check-points within neighboring countries; and (iii) inefficient import regime, particularly regarding duty drawbacks. * Case 3: Labor-Intensive Manufacturing and Services 9. Ghana's low wages and competitive unit labor costs provide an additional advantage for the development of labor-intensive manufacturing industries. However, labor regulations and practices have so far prevented the development of a first generation starter activity such as garment production. An important example of this is the case of Volta Garments, an Hong Kong-based firm, which was forced to close operations because of problems with unions and labor, notably, over the adoption of a piece-rate payment system. The recent establishment of a foreign data processing firm to service the US market offers Ghana a new exciting opportunity to develop a second generation starter industry (equally labor absorbing), which over time could lead to a stream of more added value services, such as software development and other IT services. To take advantage of this opportunity: (i) firms should be allowed to adopt flexible labor practices; (ii) the quality of electricity and telecom services needs to be improved; and (iii) an IT platform developed.  iii * Case 4: Handicrafts 10. Exports of handicrafts have been a success story for Ghana, particularly in terms of their poverty alleviation impact. Development has been market-driven and has been assisted by access to specialized working capital finance. Main constraints for future growth include: (i) consistent access to wood raw materials; and (ii) the need to raise technical design skills. C. Lessons Learned and Cross-Cutting Issues and Recommendations 11. Some of the constraints identified by exporters are industry specific and others cut across several sectors. For example, land, forestry, and fishing policies are critical for resource-based exports; while labor regulations and practices are more important for labor-intensive industries. Main cross-cutting issues relate to the trade regime and the provision of infrastructure. * Import/Export Regime 12. Most exporters reported problems with customs procedures and the new destination inspection system introduced last year. Also, even firms with EPZ status can face undue delays by Customs. Arbitrary changes in tariffs and lack of a functioning drawback system seriously undercut exporters ability to compete, especially of those who are just beginning to export. Main recommendations include: (i) make adequate budgetary allocations to fund duty-drawbacks, or else implement tax credits; (ii) enforce performance standards for the inspection companies, notably, regarding turnaround times for producing valuation reports; (iii) rapidly reduce inspection rates to 20 percent of import consignments, as envisaged under the Gateway program; (iv) implement a "fast track" system to clear imports by registered exporters even if they do not have EPZ status; and (v) eliminate provision to inspect 100 percent of export consignments. * Government Policies Relating to Factors of Production 13. Land. Access to land is a major constraint especially for foreign investors in agriculture. Difficulties include: unclear and long negotiation processes, often with several parties, and insecure tenure. Although these problems cannot be resolved overnight, concerted efforts are needed to address existing bottlenecks. Implementation of the EPZ and Land Bank measures would help. In the area of traditional lands, there is a need to ease searching and negotiating difficulties and to ensure the legality of property rights of the leaseholders. 14. Labor. Provisions of the new labor bill dealing with productivity-based payment, medical expenses, and maternity leave should be aligned with the requirements of international competitiveness. A consensus needs to be reached with labor unions on the importance of having competitive labor laws and practices. Employers and workers involved in firm-level collective bargaining should have access to appropriate training in areas such as labor relations, negotiation, and conflict resolution. 15. Forestry and fisheries. On forest policy, Ghana needs to remove the incentives for under- pricing of wood resources. Forest resources need to be allocated more efficiently, through an auction of timber utilization contracts, and the Government should consider the privatization of enforcement and a revision of the log export ban. Downstream processors need assurance of timely and adequate supplies of wood and assistance in raising their technological capabilities. In addition, urgent efforts  iv are needed to facilitate the certification of wood resources to prevent Ghana being blacklisted on environmental grounds in importing countries. Likewise, more attention to the management of fisheries is also needed to ensure sustainability of the fishing industry. Trade Support Infrastructure and Services 16. Within Africa, Ghana has a relatively well-developed trade infrastructure. The ports, airport and highways are in relatively good condition and an appropriate array of basic cargo handling and transportation services exist. However, trade volumes are rapidly outgrowing existing physical capacity and service arrangements. In addition, transport and logistics services in Ghana are costly and inefficient by regional and international standards. 17. Ports. Ghana's ports are costly because of their limited physical capacity, high tariffs, and congestion. High costs also reflect non-competitive stevedoring arrangements. To address these issues, the Government needs to speed up the implementation of the Gateway program, in particular, the privatization of port services. 18. Airport. Airfreight handling services at Accra have improved, following the divestiture in 1994 to a private operator which has exclusive rights until 2004. However, the lack of a cold storage facility at the airport is a major setback for the development of fresh produce exports. The Government should review carefully the current situation, including the interface between available off-site services and airport operations, and take measures to support a rapid solution to this critical requirement. 19. Feeder Roads. Poor quality feeder roads are a key constraint to resource-based export expansion as they severely limit access to prime agricultural land. Ghana should target feeder road investments to export producing areas. a Public Utilities 20. Telecommunications. Increased competition has resulted in greater access over the past five years. However, by international standards the reliability of long line services and the interconnectivity between long line and cellular networks remain very low. A main factor is the lack of a strong regulator to ensure competition and enforce efficient practices. The National Communications Authority (NCA) needs to be substantially strengthened. 21. Electricity and Water. Electricity and water supplies in Ghana have not kept pace with the growing economy. The Government has plans to privatize electricity distribution and to bring in private thermal power generators, but the regulatory environment is still being put in place and tariffs are not yet at economic levels. The urban water services are also being concessioned to private operators to bring in new investments. Ghana must improve implementation of its regulatory reform program, including adjusting prices to economic rates, and speed-up on-going privatization plans. * Financial Services 22. Although most firms complain about the high cost of local currency loans, it appears that access to working capital finance is not as a major constraint for exporters, especially for well- established firms. Some banks have successfully provided targeted, concessional working capital financing to small firrns, primarily in the handicraft sector, through the so-called Trade and  v Investment Program (TIP) fund. However, limited access to long-term investment finance is a serious constraint to the development of non-traditional exports which require new equipment and technological upgrades to compete in global markets. 23. A more stable macroeconomic environment is essential to improve credit conditions in Ghana. In particular, government domestic borrowing should be substantially reduced to ease pressures on interest rates and to release resources for private sector finance. Targeted export funds for working capital channeled through private banks, such as TIP, have worked well and could be followed as a model, provided that transparency and monitoring are improved. In addition, the. Government may want to restructure existing guarantee instruments in order to make them more attractive. The development of a credit information system and enhancing enforcement of rules and contracts will also contribute to expand the banking system's capacity to provide long-term investment finance. * Technical Capability and Technological Transfer 24. In Ghana, technology transfer mechanisms are weak or missing. Concerted efforts are needed to improve the effectiveness of the Technical and Vocational Training, in cooperation with the private sector beneficiaries. In parallel, incentives and assistance need to be provided for firms in key export sectors (e.g., wood products) to acquire in-house training, to interact with buyers, and access consulting firms. Epilogue: A Strategic Framework for Export Development 25. The findings of this report provide key inputs to begin formulating a non-traditional export strategy for Ghana. An export strategy for a country at Ghana's stage of development should be based on two basic principles: (i) maximizing the returns to current comparative advantage; and, (ii) over time, "catalyzing" export diversification toward more sophisticated sources of advantage. * Maximizing Returns to Comparative Advantage 26. Ghana's comparative advantage is shaped by its natural resource base and its supplies of low- cost labor. It is also positively conditioned by the availability of seaports and by proximity to regional and foreign markets. To exploit comparative advantage further and sustain economic growth, much more needs to be done in several key areas. 27. Macroeconomic Management. An important overarching issue is macroeconomic management. As noted earlier, the real exchange rate is a crucial macroeconomic price influencing competitiveness across all potential export activities. Given the importance of resource-based products in total exports, Ghana will remain vulnerable to external commodity price shocks until a more diversified export base is developed. Consequently, it is important for Ghana to maintain a flexible exchange rate policy that would allow it to adjust to external shocks. In light of this, Ghana&s plans to enter into a monetary union with Nigeria under the ECOWAS may be premature and should be carefully considered. Sound monetary and fiscal policies are critical in maintaining a competitive real exchange rate and in preventing excessive exchange rate volatility. Increased fiscal adjustment will be needed to ease pressures on interest rates and make room for private sector credit needed to finance long-term capital investment.  vi 28. Resource-Based Advantage. To further exploit export opportunities and sustain economic growth in resource-based activities, Ghana needs to address important supply-side issues. In terms of priorities, four are paramount: (i) access to land; (ii) forestry policy; (iii) EU environmental and food safety standards; and (iv) supportive trade infrastructure (e.g., "cold chain", feeder roads). 29. Low-cost Labor Advantage. Ghana has not really developed labor-intensive industries for export. There is, therefore, considerable scope for exploiting Ghana's low-cost labor at this early stage of development. This will require increased investments, particularly from direct foreign investors who can raise labor skills and bring the know-how to access global markets. Key conditions include: (i) flexible labor laws, particularly on productivity-based pay schemes, and favorable industrial relations with unions; (ii) well-functioning EPZ; and (iii) effective management foreign trade policies, particularly of the opportunities created by the new US Trade Africa Bill. "Catalyzing" New Sources of Advantage 30. That a country's comparative advantage is on the side of natural resources and low-cost labor means that it lacks the knowledge and flexibility to compete in more advanced markets. Policy makers, however, can induce the development of technical capabilities and of specialized trade infrastructure and services. A good example of such efforts is the development of three EPZ enclaves under the Gateway Program, which is aimed at attracting direct foreign investment for exports. Foreign investors will bring the added benefit of "learning" and positive spillover effects for the rest of the economy. Another example would be supporting the development of a "cold chain", by ensuring the provision of a cold storage facility at the airport, to substantially enhance the export prospects for higher quality, fresh products. Access to prime agricultural land is limited because of inadequate road development; hence, targeting investments on feeder roads is also a priority. The development of an IT platform will also be critical for taking advantage of new export opportunities. * Implementation and Governance 31. Finally, efforts to maximize comparative advantage or catalyze new sources of advantage will not have much impact without effective implementation and good governance. While government policies in several areas are properly conceived, corruption and poor implementation are recurring problems. To the extent weaknesses in implementation reflects capacity constraints, these could be partly addressed by targeting efforts towards removing critical bottlenecks for exporters based on a better articulated export strategy. The lack of transparency in such critical areas as forestry management, the privatization of important trade services, and trade policy not only damage the relationship between government and business, it also results in the misallocation of Ghana's scarce resources for investment and development. No country ever succeeded in export development in which government and business were not working hand-in- hand. Better and more transparent implementation of reforms will go a long way to improving trust between the Government and the private sector, and putting Ghana on the path to faster and more sustainable development.  INTRODUCTION 1. The development of non-traditional exports2 is a central component of Ghana's strategy to become a middle-income country by the year 2020. To realize this aspiration, Ghana would need to double its growth rate and to sustain it over several years. While traditional exports, such as cocoa and gold, may remain an important source of growth and foreign exchange in the future, export diversification will be necessary to accelerate economic growth and poverty reduction and to decrease Ghana's vulnerability to external price shocks. 2. Export growth is a critical element of economic growth in a small developing country like~ Ghana for several reasons. First, exports can raise employment and incomes, especially when they are labor-intensive. Second, exports earn scarce foreign exchange to finance imports of capital and intermediate goods that are necessary for industrialization. Third, export diversification can reduce vulnerability to external price shocks resulting from reliance on a few products. Fourth, exports can be a catalytic agent for further development through the competitive discipline and economies of scale that international markets afford, as well as the transfer of advanced foreign technologies. 3. Strong export growth requires a dynamic private sector to seek out and realize profitable opportunities, increased foreign investment to supply capital, technical know-how and access to markets and, not least, a supportive regulatory and business environment. Ghana has made important progress in the last decade on all these fronts. The private sector has begun to play a much greater role in development, foreign direct investment has picked up, and non-traditional exports have begun to increase, reaching real growth rates of 22 percent per annum in the last few years, although from a very low base. But for all this progress, non-traditional exports account represent less than 10 percent of GDP while direct foreign investment account for less than one percent of GDP. 4. Ghana has some advantages relative to other developing countries: political stability; geographic location facilitating access to large regional markets, like C6te d'Ivoire and Nigeria, and developed markets in Europe; good arable land; adequate sea ports; and a low-cost labor force, which historically has had a high regard for investments in education. Ghana has also had a competitive exchange rate for most of the past decade, which has helped to keep local costs in line relative to other countries. Why then has Ghana not been able to achieve more in terms of increasing its non- traditional export share of national output? 5. The main goal of this report is to understand the factors contributing to Ghana's recent rapid expansion in non-traditional exports as well as the obstacles to accelerating and sustaining Ghana's integration into global markets. We begin, in Chapter 1, with a review of overall country competitiveness, using indicators of macroeconomic cost competitiveness, and relating these variables with export performance in recent years. Because macroeconomic indicators are not sufficient for understanding all the factors underlying a country's competitiveness, in Chapter 2 we present case studies based on extensive interviews with exporting firms that provide information on the microeconomic factors. In Chapter 3, we discuss crosscutting impediments and specific recommendations on how to address them. Finally, the Epilogue of the report outlines the main elements of a medium-term strategy to accelerate non-traditional export growth in Ghana. 2 Ghana's official definition of non-traditional exports, adopted in 1995, includes all merchandise exports except for cocoa beans, logs and lumber, and mining products.  2 CHAPTER 1- MACROECONOMIC OVERVIEW A. International Price Competitiveness 6. A country's international price competitiveness can be evaluated using the real exchange rate.3 The basic idea is that a country's competitive position is affected by changes in cost-price relationships in comparison with its trading partners and competitors, as well as changes in its nominal exchange rate. The price series used as a deflator can be based on consumer prices, producer prices, the GDP deflator, or unit labor costs. Many studies of country macroeconomic price~ competitiveness favor the use of unit labor cost as a deflator, because it shows the joint effects of changes in labor productivity and in wages. Unfortunately, a consistent time-series on aggregate unit labor cost is unavailable for Ghana. As a substitute, we will use the consumer price index, which offers the advantage of comparability with other countries. 7. In addition to an assessment of trends in Ghana's real exchange rate, this section will evaluate other aggregate competitiveness indicators, such as the average cost of Ghanaian labor in the manufacturing sector and the relative competitiveness of utility charges. It will also examine trends in the cost of capital and the share of domestic credit available to the private sector. Finally, these competitiveness indicators provide the backdrop for examining the performance of non- traditional exports and direct foreign investment. 8. The Real Exchange Rate. Ghana's trade and foreign exchange regimes were gradually liberalized, following the inception of a structural adjustment program in 1983. By 1990, the exchange rate was market-determined and the bureau and the auction rates had been unified.4 Initially, Ghana also made progress in reducing macroeconomic imbalances and by 1991 the rate of domestic inflation had been reduced to an average of 10 percent. But, over the rest of the decade, macroeconomic stability remained elusive. Inflationary pressures reemerged as a result of fiscal excesses surrounding the presidential elections of 1992 and 1996 and were only contained by 1999 after a period of tighter monetary and fiscal policies. However, a severe terms of trade shock between mid-1999 and mid-2000, compounded by a shortfall in external aid, led to a sharp devaluation of the cedi during that period, making macroeconomic management more difficult. 9. The real exchange rate has tracked these changes in macro policy and terms of trade, although at times with a lag (see Figure 1). Fluctuations in the terms of trade have been particularly important, driven in large part by the evolution of cocoa prices, one of Ghana's major commodity export earners. During 1991-93, the real exchange rate depreciated gradually in line with a decline in terms of trade. In 1994, however, it fell by 20 percent despite a 12 percent improvement in the terms of trade. At the time, the nominal devaluation was fully accommodated by monetary expansion, fuelling inflationary expectations and speculative behavior from the public.5 After a period of improved terms of trade and real exchange rate appreciation between 1995 and mid-1999, Ghana was hit by a severe ternms of trade shock as export prices for cocoa plummeted to 30- year lows and oil import prices nearly tripled. Although the Government initially tried to offset the impact of the 3 Real exchange rate = efrp,/pk, where e is the nominal exchange rate, p price, andj and k denote the countries which are being compared. 4 In April 1990, the spread between the bureau rate and the auction rate had narrowed to 8 percent. At the time, the Bank of Ghana unified both rates and introduced a weekly wholesale auction system. 5 In 1994, money supply growth accelerated to 53 percent and the nominal exchange rate (CediWUS$) jumped by 48 percent on average.  3 shock by raising interest rates and fiscal savings, public confidence weakened and the dollar value of the cedi fell by 40 percent in real terms between September 1999 and July 2000, suggesting a possible overshooting. In the run up to the December presidential elections, the Government decided not to adjust petroleum prices to reflect exchange rate and oil import price changes. This, together with a looser fiscal and monetary stance toward the end of the year led to an acceleration in inflation (to an annual rate of around 40 percent) and a substantial run-down in foreign reserves (to less than one month of imports). The nominal exchange rate stabilized during the last quarter of 2000, bringing the average real depreciation for the year to 35 percent, against a 22 decline in the terms of trade (8 percent decline in 1 999).6 Figure 1. Ghana: Real Exchange Rate and Terms of Trade, 1990-2000 (1990=100) Index 100: 4 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 10. As Figure 1 indicates, Ghana's price competitiveness, measured by movements in the real exchange rate, did not deteriorate in the 1990s. Relative to the beginning of the decade, when a market-based rate exchange rate had been achieved, price competitiveness, in fact, improved 40 percent in 2000, largely due to the substantial nominal depreciation triggered by the termns of trade shock. 11. There has been, however, considerable real exchange rate volatility over the l990s with especially large swings in 1994 and 2000. As discussed earlier, much of this volatility has been due to changes in the terms of trade, but also to poor macroeconomic management. In addition, it would appear that adverse expectations, fueled by an inadequate macroeconomic policy response, led to overshooting whenever the exchange rate was under pressure. Empirical evidence indicates that real exchange rate volatility in developing countries is negatively correlated with growth in manufactured exports.7 A country's share of manufactured exports to GDP is likely to be higher (more than 6 The stabilization of the nomninal exchange rate was supported in part by a further run down in foreign reserves. 7 See Can Africa Export Manufactures? The Role of Endowments, Exchange Rates and Transactions Costs by Ibrahim A. Elbadawi, Development Research Group and Africa Region, World Bank.  4 10 percent) with more stable real exchange rates. One explanation is that greater predictability tends to facilitate production and investment planning, which, in turn, can help sustain higher rates of economic growth.8 Because of its export structure, Ghana's ability to reduce volatility induced by terms of trade fluctuations is limited in the short run. Nonetheless, better macroeconomic management could help to smooth out the impact of adverse external price shocks and avoid episodes of overshooting and loss of confidence. 12. Cost of Non-tradables. The costs of non-tradables (such as labor and infrastructure) play an important role in determining a country's competitive position as a location for footloose foreign investors, particularly in labor-intensive manufactures. As Table 1 shows, cost trends for these key non-tradables generally support the finding that Ghana's international price competitiveness was maintained over the 1990s. 13. Average real wages for unskilled and semi-skilled labor in the manufacturing sector did not increase over the period. Today unskilled and semi-skilled workers are paid US$49 per month, which is the same level paid in 1992. Average real wages for skilled labor, however, rose by 53 percent over the period. In dollar terms, average payments for skilled labor increased considerably from US$104 to US$163 per month. Wage levels for both unskilled and skilled labor, as well as wage differentials, seem consistent with education levels and labor productivity in Ghana. (This is explored further in Chapter 2 of this report.) Table 1. Ghana: Key Non-tradable Costs, 1992-1999 Wages (monthly average) 1992 1993 1994 1995 1996 1997 1998 1999 Real Wages (Index)/a Unskilled and semi-skilled 100.0 99.3 98.5 91.9 80.1 89.6 89.6 98.3 Skilled 100.0 123.8 130.9 128.5 124.8 139.5 139.6 153.1 Nominal (in US$)/a Unskilled and semi-skilled 49 41 34 41 38 44 46 49 Skilled 104 109 97 122 127 145 153 163 Electricity (centskWh)/b 2.8 2.4 3.9 3.1 2.6 2.0 7.0 4.7 Water (cents/m)/c n.a. 27.4 n.a. n.a. n.a. 10.0 42.6 36.8 /a Refers to wages in the manufacturing sector. Data for unskilled and skilled wages for the 1992-96 period were taken from the RPED. The average growth rate for wages in the light manufacturing sector (derived from SSNIT) were applied to obtain estimates for 1997 -99. /b End of period data. /c Annual average data. Source: Regional Program for Enterprise Development (RPED), SSNIT, PURC. 14. A widening in the wage differential between skilled and unskilled labor is to be expected at early stages of development and reflects positive returns to education and other human capital investments as economic growth occurs. However, in the case of Ghana, the rapid rise in skilled labor wages may indicate increasing supply shortages resulting from the failure to expand higher level education services rapidly enough to meet demand.9 Wage data for the 1997-99 period may not be reliable because it is based on estimates from indirect sources, but, taken at face value, the rapid rise in skilled labor wages may signal a bottleneck which could start cutting-off competitiveness 8 The direction of causality is, however, unclear because countries with a higher proportion of manufactured exports would also be less vulnerable to terms of trade shocks. 9 Another factor explaining the shortage of skilled labor may the brain drain of Ghanaians over the period.  5 down the road. Also, it points in the direction of a widening in income inequality among the labor force which may be resulting from the limited access to higher level education. 15. Ghana has kept electricity and water tariffs, in US dollar terms, well below international levels during most of the 1990s. Although this has translated into cheap energy for consumers, service delivery and coverage have been extremely poor. Uneconomic electricity tariffs coupled with weak performance by the state-run public utilities have led to financial losses and prevented needed investments to augment power generation capacity. In 1997, electricity tariff increases were withdrawn amidst social unrest. Following the creation of the Public Utilities Regulatory Commission (PURC), electricity tariffs were substantially adjusted in March and September 1998' and were brought to US$0.07 per kWh, the same as the average for OECD countries. In 2000, however, tariffs were not adjusted to reflect the substantial devaluation of the cedi and increases in oil prices. As a result, the average tariff has dropped to an estimated US$0.02 per kWh. 16. Water charges have also remained well below international levels throughout the past decade, but as in the case of electricity, service delivery and coverage is poor. Despite a substantial increase in 1998, by 2000 water charges in Ghana had fallen to U$0.18 per m3, about half of the average for Africa and one fifth the average OECD countries (US$1.05 per mi3). B. Investment and Financing 17. Investment. Investment levels in Ghana are low by international standards. Having reached an all time low of 6 percent of GDP in 1980, gross investment recovered significantly reaching 14 percent of GDP in 1990 and 20-24 percent of GDP in 1993-99.1o In per capita dollar terms, however, gross investment in Ghana was only about US$100 in 1999, which is somewhat above the average for Africa (US$92), but well below per-capital levels in East Asia (US$252) and Latin America (US$504). The observed recovery in investment levels largely reflects the inflow of donor aid to finance government development programs. Since the mid-1990s, however, private investment has also begun to pick up and its share in GDP has increased over time. In 1999, private investment was estimated at about 50 percent of total investment, or 13 percent of GDP. It is difficult, however, to ascertain the actual level of private investment as reporting is poor and current data include an unidentified proportion of investments by public enterprises. 18. It would appear that external borrowing has been the major financing source for private investment, distantly followed by foreign direct investment (FDI). According to the Ghana Investment Promotion Center (GIPC)," 1,100 investment projects were registered during 1995-1999 at an estimated cost of US$1.5 billion. Of this amount, US$829 million were foreign loans, US$385 million were foreign equity investments, US$192 million local equity, and US$85 million local financing. The average size of the projects (including both equity and debt) was small, about US$1.5 million, with FDI contributing on average US$385,000 per project. The larger projects were infrastructure investments and privatizations. About 70 percent of these projects were joint ventures with Ghanaian finns. Figure 2 shows the evolution of these projects over time.'2 '