Constraints Facing The African Stock Market Economics Essay

The African stock market is becoming increasingly sophisticated in pricing, isolating and transferring risk. Tools such as derivatives and securitization contribute to this process but pose their own risk. The failure of accounting and regulation to keep abreast of development introduces more risk with occasionally spectacular consequences.

Macroeconomic Factors

Macroeconomic risks include inflation risk, interest rate risk, low reserve and thin financial market which all together affect the performance of a stock market. Macroeconomic policy has a great impact on the performance of the stock market. In 1996, the Zimbabwe stock market which accounted for an overall performance of 86.5%. However, in 1997 its performance decreased by more than 50% in the wake of dramatic government farm and to pay $ 240 million in pensions to veterans of Zimbabwe independence war.

For the last two decades, the growth rate of real per capita output for Africa has been negative, while other regions have been showing strong positive growth rates. For example, while between the 1970s and 1990s East Asia and South Asia moved from an average growth rate of 4.6 percent and 0.7 percent to 6.4 percent and 3.3 percent, respectively, Sub-Saharan Africa’s growth rate declined from 0.5 percent in the 1970s to -0.4 percent in the 1990s.

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Corporate Governance

Coup d’états is quite famous in African history. It appears that constitutional rule are present there and politicians are manipulating constitutions to either seek longer terms in office or perpetuate their stay. Thus, there is a lack of good corporate governance in the countries. In the absence of corporate governance, there is inappropriate policy taken by the government and regulatory frameworks. Moreover, there is no control of corruption, capacity building, and there is an ineffective, inefficient, no transparent and accountable system for mobilizing and allocating public as well as private resources.

High unemployment

In Africa, there is abundance of unskilled labor and this may lead to decline of the working class. The growth in demand for skilled labor does not match the decline of unskilled and semi-skilled jobs. The labor market is shifting towards more skilled workers, professionals and managers. A labor survey in South Africa found that there is more demand for managers in the public sector, especially local government and particular services sectors

Unemployment is stubbornly high and inching upward. In South Africa the expanded unemployment rate is estimated to be as high as 40% with the official rate at approximately 29%. The fact that the labor market is biased against those with less skill is reflected in the higher average pay increases for skilled persons.

Trade Development

Many African countries are faced with a multiplicity of challenges that prevent them from participating in the global economy and reaping the benefits of increased globalization. Africa is the most fragmented continent. Fourteen countries are landlocked, accounting for 30% of Africa’s population. The roots of the problem lie in chronic constraints to competitiveness including, poor infrastructure, small and fragmented markets, undeveloped financial markets, weak systems to facilitate trade, weaknesses in key institutions, and the lack of adequate human resources.

Political Risk

Political instability, institutional incapacity and social unrest inhibit foreign capital inflows. These in turn lower investment appetites and have a negative impact for economic opportunities and investment climate.

Perceptions of political risk arising from particular events, such as those related to the recent elections in Kenya which generate market volatility and discourage investment. Africa is seen as a region of high political risk, and significant risk premium are demanded by equity investors, lenders and insurers.

Currency fluctuation risk

The global economic slowdown in world growth may affect African exports of agricultural products, minerals and hydrocarbons. Africa’s dependence on natural resource exports has made many countries vulnerable to commodity price shocks that are outside their control. Sudden increases in export revenues or import costs can cause currency instability and budget uncertainty. Furthermore, there is strong evidence that currency depreciation has negative effect on the performance of the African stock market.

Crisis of International Confidence

Many countries in sub-Saharan Africa enjoyed robust economic growth in recent years. However, the food and fuel price shocks of 2007-08 that preceded the current global financial crisis weakened the external position of net importers of food and fuel, caused inflation to accelerate, and dampened growth prospects.

A research done by IMF shows that in the past a 1 percentage point slowdown in global growth has led to an estimated ½ percentage point slowdown in sub-Saharan African countries. But the effects may be more pronounced this time because the tightening of global credit compounds the impact of the slowdown, exacerbating risks for trade finance and other capital flows.

Recommendations.

The stock market needs specific attention when it comes to the threats and challenges prevailing. Normally, there are several ways which can lead to the development of the stock market. Automation can be of great help as it reduces costs as well as inefficiencies. It operates faster than the manual system which also increases trading activities and liquidity.

We also have demutualization which is a process that involves a change in ownership structure and a change in legal and organization form. Factors such as competition among exchanges, need for increased capital, need for good corporate governance in exchanges and the urge to open up ownership of exchanges to public investors help demutualization gain popularity. Demutualization is expected to solve mutual structure problems by opening up trading rights, admitting new trading partners, and broadening ownership such that the public can invest in exchanges. It also increases access to services of the exchange and removes excessive investment costs for fund holders.

Another key solution can be to strengthen Financial Regulation and Supervision. Such a measure will boost the confidence of investors as well as protects their rights and hence also encourages them to invest more in the stock market. The development of good quality institutions can also affect the attractiveness of equity investment and lead to stock market development. Good quality institutions such as law and order, democratic accountability, bureaucratic quality are important determinants of stock market development in Africa because they reduce political risk and enhance the viability of external finance.

The increased involvement of investors on the stock market will also help promoting efficient market practices and financial innovation. They typically favor greater transparency and market integrity in both primary and secondary markets, seek lower transaction cost, and encourage efficient trading and settlement facilities.

Enhancing surveillance of the OTC forex derivative markets by systematic processing and analysis of information on offshore activity will also be of great help.

Another proposed solution to problems faced by African stock markets is to integrate stock exchanges. Merging African stock markets into a single regional exchange immediately is no doubt an ambitious and daunting task, given the associated institutional and financial cost complexities. Proponents of this proposition argue that a well integrated regional stock exchange in Africa will be a powerful source and driver of capital flows to Africa. Such an exchange will also, if well structured, solve the current problems of illiquidity, small size, and fragmentation.