Advancing Economic Diversification in Ethiopia

highway in Addis AbabaThe Growth Lab at the Center for International Development and the Government of Ethiopia (GOE) initiated this engagement to advance research, policy engagement, and knowledge sharing toward the planning and implementation of activities to sustain rapid and inclusive growth in Ethiopia. The engagement works across government ministries with senior officials at the GOE to: improve understanding of the structure of the Ethiopian economy and the constraints on its sustained growth; inform a new development strategy that addresses economic growth and transformation; and build a research base to analyze how to identify, prioritize, and implement policies and investment opportunities to drive transformation.

This project works in collaboration with the GOE to apply two core frameworks (Growth Diagnostics and Economic Complexity) as part of a central diagnosis of the economy. It works as collaboratively as possible to better understand and address critical problems through activity “workstreams.” Each workstream involves interaction between Growth Lab researchers and GOE teams in order to work iteratively to understand and address a binding problem and/or latent opportunity. Through workstreams, the activity seeks to relax binding constraints and expand government capabilities through iterative policy research.

Project Theory of Change

schematic of theory of change

In late 2019, Ethiopia launched its Homegrown Economic Reform Agenda to resolve macroeconomic imbalances that threaten the sustainability of economic growth and lay stronger foundations for continued job creation and inclusive development. Project research and capacity building are targeted to support the success of this agenda through core frameworks of Growth Diagnostics and Economic Complexity as well as through problem-based research support and training of policymakers and civil servants.

Key Diagnosis

This diagnosis is made possible by the generous support of the American people through the United States Agency for International Development (USAID). The contents are the responsibility of the Growth Lab and do not necessarily reflect the views of USAID or the United States Government.

Economic growth has slowed in Ethiopia over the past several years and threatens to slow further as a result of a foreign exchange imbalance. The economy is currently unable to generate the amount of foreign exchange that the process of economic growth requires, which has led to a series of increasingly severe macroeconomic imbalances. While Ethiopia’s two Growth and Transformation Plans of the past decade have been targeted to deliver a coordinated push in public infrastructure to allow for more private sector competitiveness, several issues have stood in the way of success. Most importantly, Ethiopia’s access to external sources of government (and SOE) financing has been constrained due to external debt sustainability concerns, which has led to an unsustainable use of domestic financing through financial repression. This has created numerous macroeconomic imbalances, including persistently high and volatile inflation, which have created vicious cycles that have constrained foreign exchange generation further. Without the ability to generate or borrow sufficient foreign exchange to pay for the imports that the economy demands, Ethiopia has been forced to ration imports, which has slowed growth and made the economy increasingly inefficient.

schematic for diagnosis of Ethiopia

Resolving the fundamental constraint of foreign exchange in the short-term is possible with the support of an IMF program launched alongside Ethiopia’s Homegrown Economic Reform Agenda. However, growth in the medium-term will require accelerating diversification of Ethiopia’s exports such that the economy generates sufficient foreign exchange on its own. The project has applied Economic Complexity tools and frameworks to prioritize key opportunities for more rapid export diversification and has identified key challenges that stand in the way of these opportunities materializing.

Rankings of economic reports in Ethiopia

Based on core analyses and continuous collaboration with GOE counterparts, the project works across the following areas to help GOE officials better understand economic challenges and design policies and initiatives to address them. Current workstreams include:

  • Refinement and sequencing of Homegrown Economic Reform Agenda programs and strategic initiatives based on Growth Diagnostic and Economic Complexity findings
  • Macroeconomic policy research to better understand exchange rate, inflation and monetary policy issues
  • Improving investment promotion and export development
  • Research toward improving the delivery of key public goods and the delivery of public services, including through research on partial privatization modalities
  • COVID-19 related research toward coordination of adaptive epidemiological and economic support measures


Pathways for Productive Diversification in Ethiopia

Goldstein, P., 2020. Pathways for Productive Diversification in Ethiopia, Growth Lab at Harvard's Center for International Development.Abstract

Ethiopia will need to increase the diversity of its export basket to guarantee a sustainable growth path. Ethiopia has shown stellar growth performance throughout the last two decades, but, in this period, export growth has been insufficient to finance the country’s balance of payments needs. As argued in our Growth Diagnostic report,1 Ethiopia’s growth decelerated as a result of the increasing external imbalances which have resulted in a foreign exchange constraint. This macroeconomic imbalance is now slowing the rate of economic growth, job creation and poverty alleviation across the country. Although export growth will not be rapid enough to address the foreign exchange constraint on its own in the short-term, the only way for the country to achieve macroeconomic balance as it grows in the longer term is to increase its exports per capita. With only limited opportunities to expand its exports on the intensive margin, the Government of Ethiopia (GoE) will have to strategically support the diversification of its economy to expand its exports base.

This report applies the theory of Economic Complexity in order to describe the base of productive knowhow and assess the opportunities and constraints to diversification in Ethiopia’s economy. The theory of Economic Complexity offers tools to capture and quantitatively estimate the diversity and sophistication of productive knowhow in an economy and to analyze the potential to develop comparative advantage in new industries. These tools provide valuable inputs for informing diversification strategies and the use of state resources by providing rigorous information on the risks and potential returns of government industrial policies in support of different sectors.

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Ricardo Hausmann

Ricardo Hausmann

Rafik Hariri Professor of the Practice of International Political Economy, HKS
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