Building Integrated Economies in West Africa

Part III: Fiscal Policy and Coordination

Alexei Kireyev
Published Date:
April 2016
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West African Economic and Monetary Union (WAEMU) countries conduct independent fiscal policies but coordinate some aspects of these policies within the regional institutional framework. National ministries of finance are in charge of the formulation and implementation of fiscal policies. The WAEMU Commission coordinates fiscal policies, including tax policies and observance of fiscal convergence criteria among member states. In WAEMU countries, as in any other country, “fiscal policy” generally refers to the government’s use of taxation and spending to regulate the aggregate level of economic activity. The use of fiscal policy consists of changes in the level or composition of taxation or government spending, and hence, in the government’s financial position relative to the rest of the economy. Key policy variables include government deficits and debt, as well as tax and expenditure types and levels, fiscal deficits, and public debt. The peculiarity of the WAEMU is that this fiscal policy is conducted within the framework of a regional monetary union in which certain provisions for fiscal policy coordination are spelled out in more detail than is the case in most other monetary unions of the world.

Fiscal policy is the main policy tool available to WAEMU countries and is critical to the stability of the monetary union. Chapter 9, Fiscal Rules and Institutions, argues that in the WAEMU, national fiscal policies are the main stabilization instrument in a region where macroeconomic volatility remains high and asymmetric shocks are frequent. Fiscal policies also need to contribute to addressing member countries’ large development needs. Fiscal rules and institutions in the WAEMU can be strengthened based on international experience. The WAEMU has a set of regional fiscal rules that try to balance stability and development needs. These rules, in practice, have proven to be of limited effectiveness, either because of noncompliance (for example, the fiscal deficit convergence criterion) or because they are not binding in the short term (for example, the debt convergence criterion).

When coupled with market discipline, fiscal rules can be an effective additional tool for ensuring fiscal sustainability in the WAEMU. Chapter 10, Fiscal Discipline: Rules and Markets, suggests that fiscal rules should be supported by market discipline. While sovereign interest rates are broadly responsive to governments’ fiscal behavior, further development of the regional financial market is needed to improve the effectiveness of market discipline in the WAEMU. In addition, fiscal aspects of the WAEMU’s regional surveillance framework could be reconsidered to improve both design and enforceability.

Fiscal rules can help deal with the procyclical nature of public investment in the WAEMU. Chapter 11, Public Investment and Fiscal Rules, documents WAEMU governments’ trend toward cutting domestically financed investment more in “bad times” than expanding them in “good times.” Such policies may contribute to enhancing exogenous shocks. The procyclicality of public investment in the WAEMU leads to the fact that fiscal deficits have been largely uncorrelated with GDP growth. The procyclicality of public expenditure and the high asymmetry of shocks that affect WAEMU countries justify exploring options for greater countercyclicality of rules-based fiscal frameworks and for risk sharing. In this area, WAEMU fiscal rules can become important anchors for the medium-term fiscal policy so as to preserve fiscal discipline at the aggregate level. Some flexibility to fiscal convergence criteria, such as a countercyclical fiscal rule, could help mitigate the procyclicality of public expenditure, including of public investment. The rule would allow for some positive correlation, with smaller deficits (larger surpluses) in booms and larger deficits (smaller surpluses) in contractions. There is room for fiscal federalism or for a risk-sharing (or group insurance) arrangement to mitigate the incidence of asymmetric shocks. Risk-sharing arrangements would aim to allocate financial resources to the WAEMU members exposed to negative shocks. As WAEMU countries seem compelled to drastically cut back investment in bad times, such arrangements would also help preserve investment levels and growth.

WAEMU countries face an important common challenge of creating sufficient fiscal space to finance ambitious development and poverty-reducing programs. Chapter 12, Fiscal Space and Investment Scaling Up, looks at the options to generate such additional fiscal space. In principle, it can be created by either enhancing tax revenue or improving the efficiency of spending. While WAEMU countries are broadly in line with comparator countries in total tax collection, WAEMU’s tax revenues rely heavily on trade taxes, which will inevitably be reduced with impending trade liberalization. Also, high reliance on trade taxes makes WAEMU’s revenue base vulnerable to the fluctuation of international prices. Panel regression and stochastic frontier analyses suggest that there is substantial room to improve domestic tax collection in the WAEMU. The effort should be country-specific, with each government focusing on its underperforming taxes. On the expenditure side, WAEMU countries have significant scope to improve the efficiency of their spending in education and health. If all WAEMU countries achieve the highest spending efficiency of the top performer among them, the cumulative fiscal savings can add 1–3 percent of GDP to the available fiscal space of the region.

Fiscal space can also be created through better tax coordination, which is the statutory objective of the WAEMU. Better tax coordination has large potential but limited success so far. Chapter 13, Tax Coordination and Tax Competition, assesses in detail the current state of the WAEMU tax coordination framework against the main tax policy coordination objectives of the WAEMU Treaty of 1994. These objectives include reducing distortions to intracommunity trade and mobilizing domestic tax revenue. The process of tax coordination in the WAEMU is one of the most advanced in the world de jure, but remains in many areas ineffective de facto. The framework has broadly succeeded in converging tax systems, particularly statutory tax rates, and has contributed to improving revenue mobilization. From the experience of the WAEMU, important lessons can be drawn for other regions that are contemplating coordination of their tax policies. The leaders in the WAEMU underestimated the difficulties and challenges of tariff and tax coordination and did not take sufficiently into account the implementation and enforcement implications at the regional level, particularly the need for effective surveillance. The credibility of the coordination framework depends in large part on the credibility of its regional institutions. Having borrowed extensively from the European Union model of economic integration and tax coordination, the WAEMU has yet to provide its regional institutions with the necessary resources to undertake effective surveillance. The tax coordination framework may have had the unintended effect of contributing to the fragmentation of policy making at the national level by providing countries with the incentive to enact special tax regimes outside their tax laws. The coordination framework has allowed some convergence of countries’ tax systems (notably statutory tax rates), which in turn may have contributed to the positive revenue performance observed in WAEMU member states. In the future, WAEMU countries could deepen harmonization through a stronger political commitment to the process and by granting sufficient authority and resources to regional institutions so that they can effectively monitor compliance.

The WAEMU is undertaking an ambitious program to develop the regional market for government securities as a means to mobilize additional financing for development. Chapter 14, Regional Sovereign Debt Market, takes stock of its development and highlights key reforms undertaken by regional authorities. In the past decade, the sovereign debt issuances have increased rapidly. However, the development of the sovereign debt market has been held back by the absence of the infrastructure for the secondary market, market fragmentation of procedures and instruments, lack of a structured issuance policy and other problems. To address these issues, the regional authorities established the WAEMU Securities Agency with the mandate to assist member countries with resource mobilization needed to finance growth at manageable cost and consistent with debt sustainability. The agency has undertaken a number of important initiatives—coordinated issuance calendar, organized securities auctions, provided market oversight and distributed market information through internationally recognized platforms, prepared market guides and provided training to market participants. These efforts allowed reinvigorating the market and making it more transparent and accessible for potential investors. The regional sovereign debt market still remains at an early stage of development. Substantial further reforms are planned for the near future.

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