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Djibouti Aims to Be Regional Hub

Workers at Djibouti’s port, which lies at the center of the country’s strategy for becoming a regional hub (photo: Marco Longari/AFP/Getty Images)

GROWTH IN THE HORN OF AFRICA

Djibouti Aims to Be Regional Hub

IMF Survey online

February 2, 2011

  • Service economy holds potential for Djibouti
  • Growth must now translate into higher employment, lower poverty
  • Djibouti must guard against excessive buildup of public debt

The Red Sea country of Djibouti has achieved strong growth in recent years through large foreign direct investment inflows and brisk port activity. But the country must become more attractive to private investment—while maintaining macroeconomic stability—if it is to realize the ambitious goal of becoming a regional transport, trade, and financial hub, IMF economists say.

Djibouti’s growth remains strong despite the global economic crisis, the IMF says in its latest country analysis, with only a modest decline—from 5 percent to 4.5 percent—expected in 2010 (see Chart 1).

But the former French colony is now seeing the indirect effects of the global crisis through lower foreign direct investment and a possible decline in aid flows, the IMF said. Moreover, unemployment remains stubbornly high, at 60 percent, and poverty is pervasive.

“The authorities have a vision of becoming an important logistical and strategic hub for the region,” said Carlo Sdralevich, IMF mission chief for Djibouti. “Djibouti should seize the opportunity to build on recent achievements to attain sustainable growth, decrease unemployment, and reduce poverty.”

Djibouti’s service-based economy has considerable potential, but the country faces many serious problems, Sdralevich noted. Lagging in many social indicators, the country ranked 147th out of 169 countries in the United Nations Development Program’s Human Development Index for 2010. The drought-prone country has seen its food security situation deteriorate sharply owing to low rainfall over the past four years, and malnutrition has risen.

Strategic location

Djibouti has long exploited the advantages of its position on the Bab El Mandeb straits, at the entrance of the Red Sea, halfway between the Mediterranean Sea and the Indian Ocean. The port of Djibouti is neighboring Ethiopia’s only access to sea. And the country’s location has made it a major strategic outpost, hosting French and U.S. military bases as well as international anti-piracy operations, such as the European Union’s operation Atalanta.

The Djibouti authorities have accelerated economic expansion in recent years by successfully undertaking a foreign investment-financed transformation of their economy, the IMF report notes. A new container terminal at Djibouti’s port built recently by Dubai World and the Djibouti government in a public-private partnership expanded the port’s capacity many times over, while the new five-star Djibouti Palace Kempinski—owned by Nakheel, a Dubai World company—has given a boost to tourism and business.

Broadening the benefits of growth

Despite progress on infrastructure development, Djibouti’s high growth has thus far not succeeded in significantly reducing poverty or unemployment. High production costs faced by domestic companies—relating mainly to energy, telecommunications, and labor—have limited the benefits of foreign investment. Economic activity has been largely confined to the free trade zone and the port, with limited positive spillovers on the rest of the economy.

To address these challenges, both old and new, and successfully develop its regional hub strategy, Djibouti must now diversify the investor base and develop a strong local private sector by improving the economy’s competitiveness through better business environment and lower production costs. At the same time, the authorities should work closely with official donors to secure the needed concessional financing to support social spending and infrastructure investment, the IMF says.

These efforts will be supported by the $20 million, three-year Extended Credit Facility (ECF) IMF loan secured by Djibouti in September 2008. The ECF program includes measures aimed at improving the economy’s competitiveness through lower input costs and a better business environment. More fundamentally, the ECF is helping foster macroeconomic stability and improve fiscal discipline.

This latter objective will be an important focus for 2011, IMF economists note. The authorities incurred a larger-than-expected fiscal deficit in 2009 to address security issues stemming from a border conflict with Eritrea and a social emergency arising from a prolonged drought. The authorities are now taking corrective measures to strengthen their fiscal shortcomings, particularly by enhancing the budget process.

Banking potential

Djibouti’s banking sector has expanded rapidly since 2006, say IMF economists, with increased competition leading to a wider offer of financial products, more attractive deposit terms, and strong credit growth (see Chart 2).

This expansion may point the way for Djibouti to become a relatively low-tech, bank-based financial hub for the region, the IMF report notes. Djibouti could take advantage of its openness and stability in a highly unstable region, including by exploiting the opportunities offered by electronic and mobile banking. The government could also explore the potential for the integration of banking services with port and trade related financial services, such as insurance and trade credit.

But for this to succeed, IMF economists say, the country will need to update its banking regulatory framework and build greater supervisory capacity, an area where the IMF is supplying technical assistance.