Constraints to Growth in Malawi

This paper applies a growth diagnostics
approach to identify the most binding constraints to
private-sector growth in Malawi - a small, landlocked
country in Southern Africa with one of the lowest per capita
incomes in the world. The approach aims to identify the
constraints (in terms of public policy, implementation, and
investments) most binding on marginal investment, and
therefore whose relaxation would have the largest impact on
growth through the investment channel. The authors find that
growth in Malawi has been primarily driven by the domestic
multiplier effect from export revenues. The multiplier
effect is particularly pronounced due to the high number of
smallholder farmers, which produce Malawi s main export
crop, tobacco, and consequently results in the widespread
and rapid transmission of agricultural export income.
Furthermore, despite changes in the structure of
agricultural production from estate to smallholder farming
and liberalization of prices and finance, a longstanding
relationship persists between exports in real domestic
currency and overall gross domestic product. This central
role of exports in creating domestic demand highlights the
importance of the real exchange rate in Malawi s growth
story, which directly increases the strength of the export
multiplier. The most pressing constraint to growth in Malawi
continues to be the regime of exchange rate management.
Despite good progress, there is compelling evidence that the
rate is still substantially overvalued. Furthermore, it is
also likely that the inflow of foreign aid - in excess of 50
percent of exports -contributes to the overvaluation through
its large component of recurrent expenditures.