Blog: Mauritius miracle or just Spain in the making?

If you really want to upset an African trade minister, comparing his economy to that of Mauritius is really a good place to start for the simple fact is that the comparison is rarely, if ever, a pleasant one.

For many years, Mauritius has been the darling of both World Bank types as those like Nobel Laureate Joseph Stiglitz who, for quite different reasons, see it as model that other small developing countries ought to be copying. Right at the moment, Africa's 'miracle economy' - which has undergone a transformation from dependence on sugar exports to export of services like tourism, financial services and IT in one generation - is starting to look very vulnerable. In Port Louis, there is now a strong scent of Spain in the air.

For those who ever get off the beach in Mauritius and look at what is behind the great economic success story, it is more complicated than the Mauritian political and academic elite would have the world believe. Mauritius has been unique amongst African countries in the generosity that the international community has foisted upon it. In part as a result of the pessimistic assessment of another Nobel Laureate, Meade, who at independence thought Mauritius would be a hopeless basket case, the EU gave the country a huge sugar quota that allowed Mauritius to export sugar at two to three times the world price. This was offered to several countries, including Fiji, Jamaica, Guyana but no-one got as big a quota as the 500,000 tonnes offered to Mauritius under the Lome Convention of 1975.

This created huge profits in the hands of the country's largely white 'Sugar Barons' or 'Grand Blanc,' as they are known in Mauritius. This was equivalent to 5-6% of the country's GDP every year. Unlike other countries like Jamaica and Fiji, in Mauritius the benefits accumulated in the hands of a few large farmers who then, because of the change in commercial laws ushered in during the 1980s, started investing in tourism and to a large degree in garment factories.

For years, successive EU ambassadors have bleated that the reason that they wanted to get rid of the  Lome/Cotonou Convention is that it had not benefitted Africa at all and they needed to replace them with the now infamous Economic Partnership Agreements which are free trade agreements. In fact, Mauritius is proof that transformation occurred in only one African country precisely where Europe was most generous and where the local elite did not squander it in corruption while permitting viable business to thrive.

Mauritius also benefited from American generosity as well through AGOA and was able to export garments duty free helped by a push factor in the 1990s of Hong Kong Chinese who fled the then British Territory and were granted Mauritian residence easily as the  colony was about to be reabsorbed into China. This increased the size of the local elite and created a very international and cosmopolitan business elite. The shift in the 1990s with the development of export processing zones saw Mauritius move from an agricultural to an industrial exporter in the space of a decade.

But what is less known is the crucial role India is now playing in the transformation of Mauritius from an industrial to a service exporter. Some 42 percent of India's foreign direct investment in 2010 came from Mauritius, which is surprising for such a small country. However, this is not as it appears. Almost all of this is a direct result of the Double Taxation Agreement between India and Mauritius which exempts Mauritian firms from Indian Capital Gains Tax.

The cost of this exemption, provided to Mauritius a time long ago when foreign investment in the Mumbai Stock Exchange was practically impossible, is estimated to be at least USD 600 million per annum. Others suggest much greater losses to India. The Indian treasury wants out but the Mauritians are fighting tooth and nail to keep the DTA intact, but they will soon lose and they know it. Unlike other tax havens that were used simply as a post box, Mauritius took full advantage of this treaty and required those firms investing in India using it to 'treaty shop,' as it is called in the tax haven business, to first do certain things before they would get a Mauritian residency certificate. Amongst the obligations is the use of at least two Mauritian directors, board meetings held annually in Mauritius, and auditors to be Mauritian residents.

In a recent interview in India, former Mauritian Deputy Prime Minister Rama Krishna Sithanen said "financial intermediation accounts for 6 percent of GDP, 25 percent of tax collections and employs 3 percent of the population". According to 2010 statistics, financial intermediation has grown to some 12.3 percent of 2010 GDP.

Realising just how vulnerable they are, the Mauritius government has worked to further diversify its economy into a host of sectors. The fastest growing is probably the most risky - the sale and development of real estate for largely foreign buyers. As anyone knows from the advertising on board Air Mauritius, the new focus of the economy has been selling real estate to foreigners. They are converting former sugar estates and farms to shopping malls and gated communities at a frenetic pace. It seems fairly obvious to everyone in Mauritius that this is not a sustainable development path because one day they will either run out of good land or prices will collapse. The latter now seems more likely.

The developments include numerous luxury gated communities where those escaping Johannesburg feel perfectly at home. Speaking to real estate agents in the luxury resort town of Grand Baie (irreverently dubbed Rand Baie for all the South African residents and property owners), prices of beachfront land have been skyrocketing over the last few years. Even local property has been rising in the area at double-digit rates over the last few years. There has also been the development of several South African look-alike shopping malls to cater both for locals as well as the foreigners. All this is starting to resemble the Spanish real estate bubble that plunged that country into a long and deep recession in 2007/8 from which it has yet to recover.

In its transformation from a goods to a service exporter, the Mauritian balance of payments has begun looking very wobbly with the trade balance having worsened seriously as exports decline. The current account deficit now stands at slightly under 12 percent of GDP in 2011, well above what most economists consider to be sustainable in Africa. Despite the development of new commodity exports such as jewellery and medical devices, the economy has suffered from a serious relative decline in its traditional exports of sugar and textiles while imports, including oil, have been rising rapidly.

The only thing keeping Mauritius afloat has been a capital account surplus and the significant exchange reserves.Ultimately this economy now rests on land and property deals, which are making the country look more like a Spanish bubble, and on the India DTA, which may not have much life if New Dehli has its way. Mauritius is on a risky path, and while devaluation of the Mauritian rupee is strongly opposed by some government economists, more of Mauritius' ministers are now openly saying that it is living beyond its means. The structural change in its economy from a goods exporter to that of a service exporter has moved Mauritius from having a relatively balanced current account to unsustainable deficits.

But Mauritius has done what no other country in Africa has succeeded in doing - transforming its economy from that of an agricultural exporter to a manufacturer to a service exporter in one generation. It has done this with unprecedented levels of trade assistance from Brussels, Washington and Delhi. Mauritius has been both lucky and clever in taking full advantage of the assistance that was provided. Mauritians are right to be proud of their achievements, but the  'Mauritian Miracle' has given rise to an enormous amount of hubris in Port Louis, and what is needed now is more modesty as the assistance runs out and with it, quite probably, the luck.