Ethiopia initiated discussions on 28 April and 2 May with neighboring Djibouti and Sudan, respectively, that, if eventually agreed, will result in Ethiopia obtaining shareholdings in the Port of Djibouti and Port Sudan. Ethiopia is diversifying its trade routes by land and air, and is responding to China's influence over regional infrastructure.

• Land-locked Ethiopia is seeking to diversify trade routes and increase leverage over infrastructure development and trade policy in neighboring countries as China's debt-finance Belt and Road Initiative accelerates.
• The Sudanese deal is the less likely to be finalized of the two deals due to greater competition from Gulf investors, which is exacerbated by the country's deteriorating economy.
• A finalized deal with Djibouti would probably facilitate a streamlined customs and pricing regime that gradually improves export performance, although imports - outside of fuel and the industrial parks - face stricter management and will be subject to continued payment delays during 2018/19.

Ethiopian Prime Minister Abiy Ahmed and Sudanese President Omar al-Bashir on 2 May 2018 initiated discussions on Ethiopia obtaining an undisclosed shareholding in Port Sudan. This came after Ahmed on 28 April began discussions with Djiboutian President Ismail Omar Guelleh towards Ethiopia being granted an unspecified stake in the Port of Djibouti, as well as exchanging shareholdings between their respective wholly government-owned airline and telecommunication companies, in order to diversify trade routes by land and air. Ethiopia already owns a 19% stake in Somaliland's Berbera port, which handles livestock exports. Currently, 70% of trading activity at the Port of Djibouti services imports to and exports from land-locked Ethiopia, while Port Sudan primarily handles Ethiopian exports. This diversification of trade routes by land and air will decrease Ethiopia's dependence upon its neighbors, as well as increase the government's leverage in negotiations with China over its Belt and Road Initiative.

The deals are in line with the Ethiopian government's aim to increase capacity at the country's in-land dry ports, which process containers before transport to the Djiboutian and Sudanese ports. Bottlenecks are typical at the four dry-ports: Mojo (which handles 80% of freight cargo), Gelan, Kality, and Semera. Delays are caused by road congestion, inefficiencies in the Ethiopian Revenue and Customs Authority's (ERCA) clearing of tax assessments, and long processes for correcting bills of lading (up to 30 days on average) and approving letters of credit (an average four- to six-month delay in payment after delivery). Port handling capacity is, however, likely to increase following the construction of five new dry ports located in Dire Dawa, Hawassa, Kombolcha, Mekele, and Woreta, which are scheduled to be completed before the end of 2020. Separately, the ERCA's director-general, Umar Hussien, was newly appointed on 19 April and will spearhead reducing those delays caused by inefficient customs and tax assessments. Hussein was granted a cabinet position without portfolio, indicating that reforms to the ERCA are a government priority.

Chinese influence

The ownership stakes would also permit Ethiopia to counter more onerous aspects of China's growing commercial interests in the region through the country's flagship Belt and Road Initiative. Debt-to-equity swaps in Chinese financing arrangements for new infrastructure developments in Djibouti have weakened Ethiopia's control over energy and port infrastructure. Djibouti faces an external debt burden created by Chinese financing of infrastructure development, which accounted for 85% of GDP in 2016, up from 50% in 2014. Djibouti also relies on a narrow revenue base to repay the associated loans. Our sources reported in April that Chinese state-owned enterprise China Merchants Holding (CMH) was acting as a guarantor on behalf of the Djiboutian government for repayments owed to Export-Import (EXIM) Bank of China. Repayments to EXIM total at least USD3.4 billion. CMH owns a 23.5% stake in the Port of Djibouti and completed construction of the new USD590-million Doraleh Multipurpose Port in June 2017. The dominant position of these Chinese state-owned enterprises weakens Djibouti's ability to pay down the loans, especially as it faces resistance to removing tax exemptions in the free trade zones where Chinese investors also dominate.

Chinese influence has also weakened contract sanctity. For instance, on 22 February, Djibouti cancelled United Arab Emirates-based company Dubai Ports (DP) World's 30-year contract to operate the Doraleh Container Terminal (DCT), which is a sub-port of the Port of Djibouti. DP World was in a joint venture with the Djiboutian government. Djibouti claimed DCT was operated at only 56% of full capacity and alleged DP World falsified reports of the port's capacity to re-route freight through Emirati ports. DP World denied all allegations and launched arbitration proceedings, which are ongoing. Since then, on 12 March, Singapore International Lines (SIL) agreed to expand DCT's maximum throughput capacity by 33%. SIL partnered with China Merchants Group (CMG), majority shareholder of CMH, in 2016 to implement Belt and Road Initiative projects - a key indicator that China will increasingly shape Djibouti's trade policy.

Outlook and implications

The Sudanese deal is less likely to be finalized than the Djiboutian one, primarily owing to greater regional competition for participation in Sudanese infrastructure developments involving Saudi Arabia, the United Arab Emirates, Qatar, and Turkey, which is exacerbated by the country's deteriorating economy. A finalized deal with Djibouti would indicate that Ethiopia will be increasingly supportive of liberalizing majority government-owned logistical services and port managements to support trade improvements and expansion, including by facilitating the participation of Chinese state-owned enterprises. For instance, the Ethiopian government in January 2017 approved CMG obtaining a 40% stake in the government-owned Ethiopia Shipping and Logistics Services Enterprise (ESLSE), with plans to expand the number of cargo vessels and product tankers. ESLSE monopolizes Ethiopia's logistics sector. Letters of credit for importers are typically only authorized if ESLSE vessels are used when transporting goods to Djibouti's port, which include fuel and fertilizer shipments.

Separately, an ownership stake in the Port of Djibouti would provide Ethiopia with greater influence to unify customs and pricing regimes, reduce trade barriers, and seek efficiencies in port handling and freight-forwarding. These improvements are essential if Ethiopia is to increase its export performance, which is a primary goal of the government's flagship Growth and Transformation Plan, which ends in 2020. We forecast a gradual improvement in Ethiopia's foreign-exchange earnings from exports. However, payment delays of three to six months for non-priority imports outside of the industrial parks and fuel shipments are unlikely to ease in 2018/19. Therefore, to reduce the current-account deficit, Ethiopia's deal with Djibouti would probably facilitate stricter import management. Most affected are imports perceived to undermine domestic value addition, such as fertilizer and minerals.