60111 Towards a Regional Africa Trade Policy Notes Integration of Professional Note #10 Services in Southern Africa Nora Dihel, Ana M. Fernandes and Aaditya Mattoo November, 2010 Professional services are vital for development in Southern Africa. professional services is associated with Accounting, legal and engineering services higher labor productivity for firms - contribute directly and indirectly to particularly small firms - across countries in economic growth, including by lowering Southern Africa. Finally, professional transactions costs, being key inputs and services can become an important source for creating spillovers of knowledge to other export diversification in Southern Africa. sectors. Accountancy is critical for accountability, sound financial management, While professional services are among the and good corporate governance (Trolliet and fastest growing services sectors in Southern Hegarty, 2003). Effective law and justice Africa1, their weaknesses and systems and access to legal services improve underdevelopment are dwarfing their current the predictability of the business contribution to growth in the region. environment, facilitate engagement in Southern African countries have initiated contracts and mitigate investment risks regional integration in the context of the (Cattaneo and Walkenhorst, 2010). Southern African Development Community Engineering services is a knowledge- (SADC) but negotiations on the intensive sector essential to the productivity liberalization of services - professional and sustainability of other economic services in particular - have made little activities. For example, civil engineering is progress. critical for the development and maintenance of a country's physical infrastructure, while electrical engineering is 1 The available data for South Africa and Zambia important to the operation of public indicates that the average annual growth rates of networks such as utilities or commercial business services outputs (of which professional facilities and communication systems services constitute an important part) were of 7% in (Cattaneo et al., 2010). Greater usage of South Africa and 21% in Zambia over the 2000 to 2009 period. 1 This policy note examines the current state opportunities to some of the Southern Africa of accounting, engineering, and legal countries (Development Network Africa, services in Southern Africa. It analyzes the 2009). reasons for the underdevelopment of those services and for the limited trade in those services, particularly at a regional level. It also provides policy recommendations for Figure 1: Availability of accounting and enhancing growth and development of these legal professionals professional services sectors in Southern Africa through deeper regional integration. Number of Accountants per 100,000 inhabitants Regional integration could bring gains Mozambique 0.2 given the differences in endowments and Rwanda 0.9 levels of development of professional Uganda 2.3 Malawi 2.6 services within Southern Africa Tanzania 7.7 Zambia 10.2 Spain 13.1 The heterogeneity of professional Kenya 14.0 Botswana 37.4 endowments and differences in sectoral South Africa 48.0 UK 86.7 earnings and the capacity for professional Mauritius 110.0 training across countries suggest that there is 0 20 40 60 80 100 120 substantive scope for increased regional trade in professional services in Southern Africa. Increased cross-border exchange of Number of Lawyers per 100,000 foreign professionals and foreign inhabitants professional firms could help address the Malawi 2 underdevelopment of the sectors and the Tanzania 2 Mozambique 2 unmet needs in Southern Africa. Uganda 4 Rwanda 5 Zambia 6 The potential for regional trade in Botswana 12 Kenya 19 professional services is significant. Mauritius 42 South Africa 43 Countries in Southern Africa exhibit striking UK 63 differences in the level of development of 0 20 40 60 80 their professional services sectors. A relative abundance of professionals characterizes South Africa and Mauritius, for example, Source: World Bank Regulatory Surveys in Eastern while there is relative - or in some cases Africa, 2009, World Bank Regulatory Surveys in acute - scarcity in the smaller countries such Southern Africa, 2010, Paterson et al (2003), and CEPEJ (2008). as Malawi and Mozambique (Figure 1). In Regional integration could help address the South Africa, although the absolute numbers underdevelopment of professional services of available professionals are large, the markets. Evidence from recent firm-level needs from its growing and increasingly surveys in Southern Africa suggests that sophisticated economy are also very large. demand for professional services is highest Hence, the country is suffering from acute for large firms regardless of their sector in net shortages of chartered accountants, all countries. But interestingly, usage of auditors, and engineers. Labor scarcity in the accounting services by small firms is not engineering and construction sectors have negligible: more than 50% of small and resulted in delays and lost business 2 micro firms in Southern African countries in accountancy, accounting technicians can (except Mozambique) indicate that they provide basic record-keeping services outsource these. The usage of externally needed by small firms. Skills mismatches outsourced legal services is high for medium are a serious issue across Southern Africa. and large firms but is much less prevalent For example, accounting associations in among smaller firms, and the same is true Malawi and Mozambique report that there for engineering services. The monotonically are jobless accountants despite high demand increasing relationship between the degree for qualified accountants. The Big Four in of external usage of professional services Mozambique indicate that they face and firm size observed in Southern African shortages of professionals because many countries for all services confirms anecdotal applicants have poor academic evidence that the prices of professional qualifications. services are prohibitive for many small firms. The continued implementation of international financial reporting standards Regional integration could help reduce the (IFRS) will most likely accentuate the skills high costs of accessing professional shortages and skills mismatches in services.... Although professionals in accounting in Southern Africa. In South Southern Africa receive low nominal wages Africa, the mismatches in accounting are of relative to their counterparts in developed a different nature: some firms in the private and other developing countries, once their sector hire chartered accountants (CAs) wages are adjusted for purchasing power, registered with the South African Institute of professionals in South Africa, Botswana, Chartered Accountants (SAICA) because of Mozambique, and Malawi are comparatively their perception of quality but in reality the well paid ­ reflecting their scarcity relative work that they hire the chartered accountants to the demand for their services. However, to perform could be performed by a less in legal services, the very high wages earned highly qualified accountant. This by professionals are not necessarily inappropriate (too high) standard is likely to indicative of their scarcity but rather of the reduce access to services by many firms, power of professional bodies which impose especially SMEs. strict entry and conduct regulation that enable incumbents to capture high rents and Regional trade in professional services thus limit the potential contribution of the remains limited due to complex market sector to growth in the region. structures and market fragmentation Data on the presence of foreign Regional integration could help alleviate professionals in Southern Africa suggests skills shortages and skills mismatches in that in Malawi and Zambia registered professional services. Some similarities in foreign professionals represent less than 3 the development of professional services percent of the total number of registered sectors across Southern African countries accounting professionals, while in Malawi relate to the limited availability of middle- and Mozambique registered foreign level professionals in all sectors that hurts professionals represent less than 5 percent of access to services, and to skills mismatches. the total number of registered engineering Middle-level professionals can play a crucial professionals. However, for some countries role in providing services to often trade in professional services is more underserved groups of clients. For example 3 important. For example, in Botswana and multinational firms.3 The engineering and Mauritius foreign professionals account for legal sectors are dominated by domestic substantive shares of the total number of providers, which are often small firms and accounting and engineering professionals.2 microenterprises. The combined capacity of these small firms, though large, is too Similarly, in terms of commercial presence, scattered to meet demand for large possibly in accounting and auditing services firms more sophisticated projects in their home with foreign affiliation dominate the markets countries or in other countries in the region. but there is only a limited presence of All markets for the three professional foreign engineering firms operating across services are characterized by vertical the region. Evidence from World Bank fragmentation and are heavily fragmented at supported civil works procurement contracts the bottom. since 1994 reflects a lack of integration in the Southern African market for engineering What are the obstacles to the emergence services. Domestic companies generally win of strong professional services sectors and most of the contracts, except in energy and increased regional trade in professional mining and transportation, and, for some services? countries non-African companies have the lion's share in sectors such as water and First, skill shortages and skills sanitation. There is virtually no regional mismatches persist at the regional level participation in these contracts with the limited exception of South African firms Despite the demonstrated need for having projects in several Southern African professional services from an economic countries and some Malawian projects in development perspective and the demand for Mozambique. A significant presence of those services by formal sector firms, foreign law firms is verified in Mauritius, Southern Africa currently experiences skills Mozambique, and to a lesser extent shortages and skills mismatches in Botswana but not in South Africa nor professional services region-wide. Some key Zambia. As of 2008, in a universe of 8200 reasons for these shortages and mismatches registered law practices in South Africa only that hurt access to services are as follows. 3 were foreign-owned. Educational costs: First, professional In general, the market structures of education is very expensive in all Southern professional services sectors in Southern African countries. While skills premia for Africa show elements of both oligopoly and professionals exist and internal rates of competition. Accounting and auditing return to education are high in the region, services are dominated in most countries by the average cost of acquiring a professional the large affiliates of the "Big Four" degree across all countries and professions is more than USD 22,000. These costs represent more than four, and for a few 2 It should be noted, however, that a high level of countries more than six, times the countries' emigration (very high even by African standards) of GDP per capita in 2008. This makes tertiary graduates from Southern African countries to attaining professional qualifications OECD countries also contributes to the skills shortages of professionals identified in the region. 3 The emigration levels of university-educated citizens The Big Four firms are Deloitte Touche Tomatsu, from Mauritius and Mozambique are particularly Ernst & Young, Klynveld Peat Marwick Goerdeler, high. Price Waterhouse Coopers. 4 unaffordable for the majority of the often undermines competition and constrains population in these countries, especially the growth of strong professional services given the underdeveloped nature of the sectors in Southern Africa. Entry regulation markets for educational loans. covering licensing requirements, quantitative restrictions on the number of Education quality and capacity: Secondly, suppliers of professional services exclusive weaknesses in secondary education across rights granted to professional services Southern African countries limit the ability suppliers in certain activities, as well as of students to acquire professional skills. regulations on the operations of firms, such The general erosion of mathematical skills as restrictions on prices and fees, in all countries explains the declining advertising, form of business, and inter- number of applicants in science, professional cooperation, are particularly engineering, and technology courses, heavy in Southern African countries when leading to shortages in the engineering compared to those in emerging economies sector, for example. and in OECD countries in all three sectors. For example, in Zambia - the most heavily Furthermore, the capacity and quality of regulated Southern African country in professional education institutions are accounting services - prices are regulated, limited. In several Southern African and there are restrictions on the business countries, institutions that offer specialized structure of accounting firms as well as post-graduate courses, as well as institutions restrictions on multidisciplinary practices. that offer academic and professional training courses for middle-level professionals are Firm-level surveys of private providers of entirely absent. professionals services in Southern Africa reveal that disproportionate accreditation Education-Private sector links: Fourthly, and qualification requirements are an there is an absence of links between important constraint in the accounting educational systems, employers, and users sector, while regulations on fees and prices of services. This in turn leads to unmet and advertising restrictions are the major needs and unemployed professionals, constraints in the legal sector. Non- explaining the attrition of skills in several transparent procurement procedures also professions in Southern Africa. Stakeholders hurt accounting and engineering services from the private sector across countries providers while slow licensing and emphasize the severe lack of coordination accreditation procedures hurt engineering between employers, professional services providers. associations, and education institutions with regards to the content of educational ... and finally significant services trade programs for accountants and engineers. barriers and labor mobility restrictions are in place Second, domestic regulation limits entry and competition and further segments the Trade barriers limit competition and the regional market for professional efficiency of professional service providers services... in Southern Africa. Countries in the region differ importantly in their openness to trade: Domestic regulation on the entry and on the Mauritius, South Africa and Zambia exhibit operations of professional services firms generally the most restrictive policies on 5 trade in professional services while Malawi law, audits, as well as tax representation and and Mozambique's regimes are relatively tax advice. more open. Trade in legal services is more heavily restricted than trade in accounting or Policy reform at the national and regional engineering services, with South Africa levels is key to better integrate the exhibiting the most restrictive trade policy regional market for professional services affecting legal services. The Southern African regional market for Trade in professional services through the professionals remains generally movement of natural persons across national underdeveloped and fragmented by borders (mode 4 in GATS) is restricted in restrictive policies and regulatory Southern Africa by explicit trade barriers, heterogeneity. Given these limitations and and by stringent regulatory requirements and constraints, policy action is necessary. An immigration policies. Chief among them are effective reform agenda will require policy discretionary limits through labor market action in four areas: education, regulation, tests imposed on the entry of any type of trade policy and labor mobility at both the foreign professionals by all countries except national and the international level. Mauritius, de jure or de facto nationality requirements to practice domestic law in all Reforms at the National Level countries except Botswana and Mozambique, and limited recognition of Reforms at the national level should focus foreign licenses for accounting and on the development of framework engineering professionals as well as work conditions that address skills shortages and permit issues in several countries. skills mismatches and attempt to facilitate the growth of professional services across Trade in professional services through the the Southern Africa region. establishment of foreign commercial presence (mode 3 in GATS) is also limited Reforms related to education should focus by different types of restrictions across on the following issues: Southern African countries. The restrictions on the entry of foreign accounting and law Financial constraints prevent individuals firms are generally more stringent than those from acquiring an professional applied to foreign engineering firms. The education, so developing new and entry of foreign law firms is not permitted in expanded means of financing higher South Africa, whereas ownership by education such as student loans schemes foreign-licensed professionals is prohibited should be a priority. in Zambia and is limited in Mozambique. Weaknesses in the education systems Ownership and control of accounting firms mean that students are ill-equipped to by foreign-licensed professionals is acquire professional skills, therefore prohibited in Malawi, Mauritius, enhancing the quality of and capacity of Mozambique, and Zambia. schools, especially in mathematics, sciences, and technical studies, should All Southern African countries restrict be a key item on the policy agenda. cross-border trade (mode 1 in GATS) in Given the capacity constraints and certain types of professional services, such quality limitations of professional as advice on matters relating to domestic education institutions, improving 6 existing institutions and encouraging the o Restrictions on the ownership creation of new ones is necessary. structure of professional services Policy action to encourage closer firms, the scope of collaboration collaboration and consultation between within the profession and with other employers, professional associations, professions, and, in some cases, the and education institutions could help opening of branches, franchises, or professionals acquire the job-market chains. Southern African countries relevant skills and the crucial practical should eliminate regulations that are training. clearly anti-competitive and may harm consumers by preventing Reforms should also focus on incremental, providers from developing new qualitative improvements in domestic services or cost-efficient business regulation including: models. Relaxing disproportionate entry o Advertising prohibitions imposed by qualitative requirements. For example, several Southern African countries narrowing the scope of exclusive tasks4 on many of their professional in certain professions would contribute services sectors. Southern African to accomplishing this goal. The countries should allow advertising of argument in favor of exclusive rights is professional services that facilitates that they can lead to increased competition by informing consumers specialization and guarantee a higher about different products and that can quality of service. But exclusive rights be used as a competitive tool for new that create monopolies can have adverse firms entering the market. price and allocation effects, especially if they are granted for services for which Reforms at the Regional and Multilateral adequate quality can be provided at a Levels lower cost by middle-level professionals. Eliminating disproportionate The fragmentation of regional markets for restrictions on competition, namely: both professional services and professional o Price regulations often supported by education in Southern Africa by restrictive the Southern African countries' policies and regulatory heterogeneity professional associations which prevent countries from taking advantage of claim that they are useful tools to gains from trade based on comparative prevent adverse selection problems. advantage, as well as gains from enhanced Southern African countries could competition and economies of scale. Policy adopt less restrictive mechanisms action is required in the following key areas. such as increased access to information on services and services Steps must be taken to relax the explicit providers to accomplish the same trade barriers applied by Southern African goals at lower economic cost. countries to the - movement of natural persons, establishment of commercial presence, and cross-border supply of 4 professional services, as well as through Highly skilled professionals in all sectors have discriminatory procurement. exclusive rights to perform certain activities (e.g., auditing, representation of clients before courts, Trade barriers would ideally be liberalized advice on legal matters, feasibility studies, design and planning). on a most favored nation (MFN) or non- 7 preferential basis since that would generate exploit economies of scale in professional the largest welfare gains for the Southern education, and produce a wider variety of African countries. - Examples of possible services. Regional integration brings further reforms to reduce the explicit trade barriers benefits in that a larger regional market is prevailing in Southern Africa are: (i) able to attract greater domestic and foreign relaxing the nationality and residency investment, and regionalization may help to requirements; (ii) developing transparent take advantage of scale economies in criteria and procedures for applying any regulation, particularly where national quantitative restrictions on the movement of agencies face technical skills or capacity professionals such as economic needs tests5; constraints. Regulatory cooperation to (iii) developing a transparent and consistent overcome regulatory heterogeneity within framework for accepting professionals with the SADC would be particularly useful in foreign qualifications; (iv) minimizing the following areas: restrictions on the forms of establishment allowed (for example by replacing the SADC countries should consider steps prohibition of partnerships between foreign towards implementing a regional professionals and local professionals by framework for mutual recognition of joint liability of foreign and local partners qualifications and licensing in and unlimited liability for the partnership's professional services. The model debts). The reduction of explicit trade adopted by the East African countries in barriers should be complemented with a the context of the 2009 East African reform of immigration laws. Community Common Market Protocol could be followed by the Southern Trade liberalization should be coordinated African countries. Inappropriate with regulatory cooperation at the regional standards can stifle demand for services. level. Trade barriers would ideally be In accounting, IFRS (?) are applied to liberalized on a non-preferential basis. But different degrees in the Southern African such liberalization may not always be countries. While the benefits from IFRS technically feasible nor politically are comparability, increased acceptable, especially when impediments transparency and improvements in arise from differences in regulatory governance, complying with IFRS is requirements. Deeper regional integration considered to be excessively costly by through regulatory cooperation with small and medium firms in Southern neighboring partners, which have similar Africa. regulatory preferences, can usefully The development of an appropriate complement non-preferential trade standard may be desirable at a regional liberalization. Deeper regional integration rather than national level in order to would also enhance competition between exploit economies in regulatory services providers, allow these providers to expertise, prevent fragmentation of the market by differences in standards, and 5 An ENT can generally be characterized as a limit the scope for regulatory capture. provision in national regulations, legislation or Common regional standards would administrative guidelines imposing a test which has reduce the costs to market participants of the effect of restricting the entry of service suppliers, operating across national borders. based on an assessment of "needs" in the domestic market. Such measures may operate to restrict access Recent developments in Southern Africa for foreign suppliers to a market based on the level of are already moving in this direction. The existing supply. 8 new set of accounting standards processes for business travelers and developed by South Africa's SAICA - workers and temporary residence of the "Reporting Framework for Non- business people are key areas that need public Entities" - will be applied to be addressed to create a truly domestically but is also scheduled to be integrated market within Southern adopted for small and medium Africa. The SADC has attempted to enterprises by the Eastern Central and regulate labor mobility, but so far has Southern African Federation of not been able to adopt any regional labor Accountants (ECSAFA), a regional body mobility agreements, mostly due to the that serves as a forum for regional disagreements among national cooperation on accounting standards. governments. Measures to enhance labor However, it will be crucial for the mobility by streamlining immigration national professional accountancy bodies and temporary residence processes for of the Southern African countries to foreign workers need to be implemented engage with policy-makers and other in Southern Africa. national stakeholders to incorporate such Regional cooperation to eliminate the regional accounting standards for SMEs fragmentation of the regional market for into their national legislations.6 (this is education would be desired. Regarding repeated in footnote 4). financing of professional education, Differentiated accounting standards for cooperation among countries in terms of different types of firms - say large versus sharing information and experiences to SMEs - may be most efficiently increase the recovery rate of student delivered by different classes of loans while increasing students' access accounting professionals. As such, to higher education could improve the Southern African countries could benefit impact of educational loan schemes in from implementing common training Southern Africa. Regarding capacity standards for accounting technicians constraints, the fragmentation of the such as the Occupational Standards for regional market for education by Accounting Technicians developed by differences in regulation can prevent the ECSAFA or the accounting technician emergence of regional hubs for higher scheme recently introduced by the education that could for example address Association of Accountancy Bodies in the absence of institutions offering West Africa (ABWA). specialized often post-graduate courses Regional cooperation on the reduction (e.g., in legal services on e-commerce, of restrictions on the free movement of technology transfer and multilateral labor including visa and stringent investment, financial services law, immigration laws is crucial for Southern medical law and ethics, arbitration, Africa. Streamlining immigration international litigation) and institutions offering training courses for middle- 6 One important issue that will need to be addressed level professionals noted across is the national definition of an SME that may need to Southern Africa. Smoothing regulatory differ across countries to appropriately reflect the differences in education ­ addressing in level of development of its private sector. To particular issues of portability of course facilitate this process, an ECSAFA ­ World Bank credits and scholarships - can lead to initiative is currently developing training modules for the implementation of regional reporting guidelines higher quality and lower costs for higher by SMEs. education students in Southern Africa. 9 While the economic benefits from regional References integration are evident, the pace of integration is largely dependent upon Cattaneo, O. and P. Walkenhorst (2010). Southern African countries' political "Law and Justice for Development: Trade motivation and conviction that the various Aspects," chapter in the forthcoming reforms are beneficial to their domestic publication Services Trade for Development, constituencies. So far, Southern African The World Bank. countries have initiated liberalization and deeper regional integration negotiations in a Cattaneo, O. , Schmid, L. and P. number of services sectors in the context of Walkenhorst (2010). "Trade in Engineering the SADC Services Trade Negotiations. Services" chapter in the forthcoming However, further work is needed, and the publication Services Trade for Development, policy discussion and recommendations The World Bank. outlined here can form the basis for a revitalized and reformed professional European Commission for the Efficiency of services sector that can sustain long-term Justice (2008). "European Judicial economic growth and development in Systems," Council of Europe, September Southern Africa. 2008. Paterson, I, Fink, M. and Ogus, A. (2003). About the Authors "Economic Impact of Regulation in the Field of Liberal Professions in Different EU Nora Dihel is Trade Specialist with the Member States," Vienna, Institute of Africa Poverty Reduction and Economic Advanced Studies. Management unit. Ana Margarida Trolliet, C. and J. Hegarty (2003). Fernandes is Economist in the Development "Regulatory Reform and Trade Research Group - Trade and Integration. Liberalization in Accountancy Services," in Aaditya Mattoo is Research Manager, Domestic Regulation and Services Trade Development Research Group - Trade and Liberalization edited by Mattoo, A. and P. Integration. Ephraim Kebede, Nicholas Sauve, World Bank and Oxford University Strychacz and Toru Nishiuchi provided Press, 2003. valuable statistical and research assistance. This work is funded by the Multi-Donor Trust Fund for Trade and Development supported by the governments of the United Kingdom, Finland, Sweden and Norway. The views expressed in this paper reflect solely those of the authors and not necessarily the views of the funders, the World Bank Group or its Executive Directors. The authors can be contacted at: ndihel@worldbank.org afernandes@worldbank.org amattoo@worldbank.org 10