Ethiopia’s economic freedom score is 50.5, making its economy the 144th freest in the 2011 Index. Its overall score is 0.7 point lower than last year, reflecting declines in four of the 10 economic freedoms that were partially offset by gains elsewhere. Ethiopia is ranked 30th out of 46 countries in the Sub-Saharan Africa region, and its overall score is just below the regional average.
Despite the global economic downturn, Ethiopia’s economy has recorded annual economic expansion of around 11 percent over the past five years, facilitated by improved infrastructure and more effective mining and farming techniques. However, growth remains highly vulnerable to external shocks.
Ethiopia underperforms in many of the 10 economic freedoms. The business and investment regime is burdensome and opaque. The quality and efficiency of government services are poor and made worse by the weak rule of law and pervasive corruption. State distortions in prices and interest rates undermine monetary stability.
Ethiopia is Africa’s oldest independent country and is moving toward multi-party democracy, but the abundance of obstacles is demonstrated by the 2005 post-election crackdown on protestors. Prime Minister Meles Zenawi, in office since 1991, won a landslide victory in May 2010. Following war with Eritrea in the late 1990s, a U.N. peacekeeping mission was established on the border. The mission was terminated in 2008, but relations between the two countries remain tense.
Ethiopia invaded Somalia in support of Somalia’s transitional federal government in 2006 and withdrew in 2009 following a peace deal between the Somali government and moderate Islamic factions. Despite frequent drought and famine, agriculture contributes over 40 percent of GDP, accounts for over 70 percent of exports, and employs about 80 percent of the population. Government control of the economy has stunted growth, and the state-run banks are not competitive with private banks in neighboring countries.
Business Freedom 67.4 +1.1
Despite somewhat simpler administrative procedures and increased transparency, the overall regulatory framework needs much more improvement. Obtaining a business license has become less burdensome, but the minimum capital investment to establish a business is high.
Trade Freedom 65.6 +3.7
Ethiopia’s weighted average tariff rate was 9.7 percent in 2009. Tariffs are high in the protected textile and leather industries. Import taxes, import restrictions, restrictive foreign exchange controls, services market barriers, non-transparent government procurement, import licensing, cumbersome customs clearance, and inadequate judicial infrastructure add to the cost of trade. All imports must be channeled through Ethiopian nationals registered as official import or distribution agents with the Ministry of Trade and Industry. Fifteen points were deducted from Ethiopia’s trade freedom score to account for non-tariff barriers.
Fiscal Freedom 74.5 -3.2
Ethiopia has above-average tax rates. The top income and corporate tax rates are 35 percent. Unincorporated businesses are taxed at a rate of 30 percent. Other taxes include a value-added tax (VAT) and a capital gains tax. In the most recent year, overall tax revenue as a percentage of GDP was 9.9 percent. Despite some progress in strengthening tax administration, the large informal sector does not pay taxes.
Government Spending 88.7 +5.8
In the most recent year, total government spending, including consumption and transfer payments, fell to 19.4 percent of GDP. The deficit measures 1 percent of GDP. Privatization has progressed since 2004, with 16 enterprises transferred out of state hands in 2008 alone. Electricity remains under government monopoly.
Monetary Freedom 54.3 -6.1
Inflation has skyrocketed, averaging 31.8 percent between 2007 and 2009, although it began to moderate during the first half of 2010. The government influences prices through its regulation of state-owned enterprises and utilities, subsidizes and controls the prices of petroleum products, and controls the prices of pharmaceuticals and fertilizers. Ten points were deducted from Ethiopia’s monetary freedom score to account for measures that distort domestic prices.
Investment Freedom 20.0 -5.0
Foreign participation is prohibited in domestic banking, insurance and microcredit services, and several other activities. All investments must be approved and certified and may be subject to additional restrictions. The judicial system remains poorly staffed and inexperienced. Foreign exchange accounts, payments, and current transfers are subject to tight controls and restrictions. Investors may remit profits and dividends, principal and interest on foreign loans, and other capital transactions with few restrictions. While no assets may be nationalized except when required by public interest and with adequate compensation, property reportedly has been seized without compensation. All land is owned by the state and can be leased for up to 99 years.
Financial Freedom 20.0 no change
Ethiopia’s financial system remains underdeveloped. The government strongly influences lending and owns the largest bank, which dominates the banking sector. The state has allowed the local private sector to participate in banking, but foreign ownership and branch operations remain strictly barred. There are three state-owned and 12 private banks. The ratio of domestic credit to GDP remains under 40 percent, and the share of non-performing loans has stabilized at just under 10 percent. About 30 microfinance institutions provide significant levels of service. Capital markets are poorly developed, and there is no stock market.
Property Rights 30.0 no change
Enforcement of property rights is weak. The judicial system is underdeveloped, poorly staffed, and inexperienced. Property and contractual rights are recognized, but judges lack an understanding of commercial issues. An international arbitration body’s decision may not be fully accepted and implemented. A highly restrictive land-tenure policy makes it very difficult to register property. Land must be leased from the state. Ethiopia is ranked 101st out of 125 countries in the 2010 International Property Rights Index.
Freedom From Corruption 27.0 +1.0
Corruption is perceived as pervasive. Ethiopia ranks 120th out of 180 countries in Transparency International’s Corruption Perceptions Index for 2009. Despite legal restrictions, officials have been accused of manipulating privatization, and state-owned and party-owned businesses receive preferential access to land leases and credit. The Federal Ethics and Anti-Corruption Commission arrested or conducted investigations of 203 suspects from August 2008 to January 2009. In 2009, several businessmen were arrested for alleged tax evasion.
Labor Freedom 57.1 -4.4
The formal labor market has not been developed. Outmoded employment regulations remain a barrier to business, although enforcement is not stringent.
*The 2011 Index was edited by Ambassador Terry Miller, director of Heritage’s Center for International Trade and Economics, and Dr. Kim Holmes, Heritage’s vice president for foreign affairs. A complete online version of the Index is available free at www.heritage.org/index.