Why Don't African Firms Create More Jobs?

This is a joint post with Leonardo Iacovone (World Bank). 

The UK Secretary of State for International Development Justine Greening has announced a "radical shift" to focus DFID's work program on economic growth and job creation. The European Union has also embarked on a process of redefining how it plans to engage and integrate the private sector into its development strategy.

The challenge of job creation is particularly serious in Africa. The post below and related working paper investigate the constraints contributing to under-employment in Africa that must be addressed to spur economic growth. See this blog post for Owen Barder's take on DFID's announcement.

Many countries in Africa suffer high rates of under-employment or low rates of productive employment; many also anticipate large numbers of people entering the workforce in the near future. It is estimated that the working age population will rise to almost 800 million in 2030, up from the current number of 466 million.  In our new paper , we ask the question— are African firms employing fewer people than firms located in other parts of the world? And if so, why? 

Figure 1: Number of People Employed by Age of Firm (median)

Using data from 41,000 firms across 119 countries, we examine the drivers of job creation, with a special focus on African firms.  We divide our sample into five age quintiles, using the age distribution of the entire sample of firms. Figure 1 shows that African firms, at any age, tend to have 20 percent fewer employees than firms in other regions of the world.  The distribution of firms by size in Figure 2 shows that a high proportion of African firms are small—the distribution for Africa peaks at about 7 employees per firm.  The problem of the “missing middle,” described variously in the literature with regard to the middle class and/or the business sector, is clearly visible in this distribution.

Figure 2: Distribution of firms by region

Why don’t African firms hire more workers?  We find that the poor business environment--including limited access to finance, and the lack of availability of electricity, land, and unskilled labor—provides a partial explanation.  Foreign ownership, export status of the firm, and the size of the market also have some explanatory power in determining the number of employees per firm.  However, even after controlling for the business environment and for characteristics of firms and markets, we find that about 60 percent of the size gap between African and non-African firms remains unexplained.

The high cost of living in Africa (which may translate into higher wages), a greater likelihood of increased harassment by government of larger firms, a lack of trust between employers and employees, and/or the need to share profits with extended family members may be driving our results; these issues are in need of further research.  Constraints imposed by the business environment can likely be addressed by regulatory reform and investments in power and roads.  But in order to design policies to address Africa’s jobs challenge, we need to fully understand all of the factors that are limiting job creation in African firms.