This is why, despite challenges, Africa can still rise

Is the honeymoon over for African economies? Less than a decade ago, it seemed that the continent’s economic dreams were beginning to come true, with many countries experiencing impressive GDP growth and development. Now, as the harsh reality of the continent’s vulnerability to challenging external conditions has set in, sustaining that growth has proved difficult.

Encumbered by slowing growth in China, a collapse in commodity prices, and adverse spillover from numerous security crises, Africa’s overall annual GDP growth averaged just 3.3% in 2010-2015, barely keeping up with population growth – and down sharply from the 4.9% recorded from 2000 to 2008.

But a deeper look suggests that things may not be as bad as they seem, for two key reasons. First, though average growth has declined, some African economies have thrived in recent years. Indeed, aggregate GDP has been dragged down since 2010 by faltering growth among oil exporters and security-related crises in the Sahel and North Africa; but in the rest of Africa, GDP growth has accelerated, from 4.1% in 2000-2010 to 4.4% in 2010-2015.

Second, Africa is undergoing a profound long-term transformation, characterized by rapiddigitization, urbanization, and growth in the working-age population, which will outnumber the labor force of China and India by 2034. That demographic trend could unlock future growth by advancing economic diversification, spurring domestic consumption, and supporting industrialization.

In fact, today’s high-growth countries – including Côte d’Ivoire, Ethiopia, Kenya, and Tanzania – have made substantial progress in reducing their dependence on commodity exports, in favor of trade, investment, and domestic consumption. And many lower-growth countries could head down a similar path.

New research by the McKinsey Global Institute (MGI) shows that spending by Africa’s consumers and businesses already totals $4 trillion. By 2025, private spending could reach $5.6 trillion – $2.1 trillion by households, and $3.5 trillion by businesses.

This represents a huge opportunity for Africa’s manufacturers. We believe that Africa can almost double its manufacturing output, to nearly $1 trillion, by 2025, with about 75% of that growth tied to production for local markets. The question is whether manufacturers will manage to exploit the growth potential that lies in front of them.

African firms have not yet proved capable of meeting existing domestic demand. Africa still imports about one-third of the food, beverages, and similar processed goods it consumes, whereas the Association of Southeast Asian Nations imports about 20%, and South America’s Mercosur trade bloc imports just 10%. Africa even imports 15% of the cement it uses, despite having abundant raw materials to make it at home.

To be sure, African business has made great strides in recent years. Today, 400 African companies have annual revenue of more than $1 billion, and 700 have annual revenue of more than $500 million. On the whole, these large companies are growing faster – and generating higher profits – than their global peers.

But there is still a long way to go. Large African (excluding South African) firms’ average annual revenue of $2 billion is half that of large firms in Brazil, India, Mexico, and Russia. And Africa only has about 60% of the large firms it needs to put it at the same level as the emerging economies.

One key factor limiting firms’ growth is the fragmented nature of the African market, which currently comprises mostly small economies with only limited economic and political linkages. There are eight partly overlapping regional trade zones, none of which includes more than half of Africa’s countries. Only Egypt, Morocco, Nigeria, and South Africa rank in the top 100 of MGI’s Global Connectedness Index.

Beyond excessive trade barriers, Africa suffers from inadequate transport links and limits on the free movement of people. Africans need visas to travel to more than half the countries on their own continent. The recent launch of the African Union passport is a step in the right direction – but it is only one step.

A more integrated market would not only enable African companies to create the economies of scale they need to compete; it would also be far more appealing to institutional investors. Building such a market must therefore be a top priority for African leaders, as they seek to unleash the continent’s economic potential.

Equally important, Africa’s leaders must work to improve the business environment. Though some progress has been made on this front in the last two decades, non-tariff barriers remain high.

Indeed, regulatory issues are still cited as a serious deterrent to investment. Many African businesses – nearly half of companies in Nigeria, and more than one-third in Angola and Egypt – highlight unreliable electricity supplies as a major challenge. And almost 40% of firms surveyed by the World Bank lament the constraints imposed by competition from informal firms.

Some of these issues could be addressed relatively quickly. Consider the strides Rwanda has made since 2007, when it established a development board to improve its business environment. In less than a decade, that board has led the creation of a “one-stop center” to facilitate investment, has overseen streamlined issuance of construction permits, and has pressed successfully for a fixed fee for property registration, the extension of customs hours, and risk-based customs inspections. As a result, Rwanda’s global ranking for the ease of doing business jumped from 143 in 2008 to 32 in 2014. This success can surely be replicated elsewhere in Africa.

Despite the challenges some African countries face, the continent’s economic potential remains massive, thanks to favorable demographic dynamics, fast-growing cities, burgeoning domestic markets, and a digital revolution. With the right policies, a relentless focus on execution, and a great deal of determination, Africa can still rise.