Eastern Caribbean Currency Union: Selected Issues

This Selected Issues paper analyzes the competitive threats to the tourism sector in the Eastern Caribbean Currency Union (ECCU). The paper concludes that the ECCU countries have lost competitiveness globally and vis-à-vis newly emergent Caribbean tourist destinations as a result of both price and nonprice factors. The short-term measures implemented by the countries seem to have been insufficient to prevent further declines in 2002. The paper also describes strengthening fiscal discipline through fiscal benchmarks.


This Selected Issues paper analyzes the competitive threats to the tourism sector in the Eastern Caribbean Currency Union (ECCU). The paper concludes that the ECCU countries have lost competitiveness globally and vis-à-vis newly emergent Caribbean tourist destinations as a result of both price and nonprice factors. The short-term measures implemented by the countries seem to have been insufficient to prevent further declines in 2002. The paper also describes strengthening fiscal discipline through fiscal benchmarks.

III. Strengthening Fiscal Discipline Through Fiscal Benchmarks27

67. The participation of the ECCU member states in the currency union has provided benefits of monetary stability and credibility enhancement well recognized in the region and beyond. It also confers obligations on individual members, not least of which is the need for fiscal prudence and policy coordination. This is especially true in the context of a currency union pegged to another currency, which exerts even more stringent constraints on national economic policies required for the region’s competitiveness and sustained growth. The fixed peg to the U.S. dollar anchored by a currency board arrangement (CBA) severely limits the scope for independent monetary policy and the ability to use interest rates as policy instrument, putting added weight on members’ fiscal policies.

68. Against the background of the sharp deterioration in the budgetary positions and uncertain economic prospects for ECCU members over the last two years, and in light of the structural adjustments that will follow pending trade liberalization, the ECCB has designed a set of policy rules in the form of fiscal benchmarks. These aim to ensure long-run fiscal sustainability, in addition to limiting negative spillovers, external vulnerability and to support the integrity of the CBA. Well-designed criteria can limit “free-rider” problems by binding members through their pre-commitment to good fiscal behavior. Such rules-based regimes have been instituted in the context of monetary unions in Europe (the European Monetary Union’s Maastricht Treaty and Growth and Stability Pact), and in West and Central Africa—the West African Economic and Monetary Union (WAEMU), and the Central African Economic and Monetary Community (CEMAC). Like the ECCU, WAEMU and CEMAC are comprised of smaller, developing countries, with a currency that is pegged to a major currency (in this case the euro). The scope for independent monetary policy in each of these unions is therefore limited, and fiscal policies are of prime importance. Convergence criteria of WAEMU and CEMAC are described in Box 1.

A. The ECCB fiscal benchmarks

69. The fiscal benchmarks are as follows: 28

  • Government current account surplus of 4–6 percent of GDP;

  • Overall government budget deficit of no more than 3 percent of GDP;

  • Total central government debt outstanding of no more than 60 percent of GDP;

  • Debt service payments of no more than 15 percent of current revenue.

WAEMU and CEMAC Convergence Criteria

Convergence criteria have recently been adopted by two African regional monetary unions—the West African Economic and Monetary Union (WAEMU), and the Central African Economic and Monetary Community (CEMAC). Both unions use a common currency—the CFA frane—which has been pegged to the French franc since 1948 and to the euro since 1999, and issued by a common central bank—the Banque Centrale de I’Afrique d’Ouest (BCEAO) for WAEMU, and the Banque des Etats de I’Afrique Centrale (BEAC) for CEMAC:

WAEMU convergence criteria

The union, which was created in 1994, consists of eight member governments (Benin, Burkino Faso, Côte d’lvoire, Guinea-Bissau, Mali, Niger, Senegal and Togo). The convergence criteria were established in 1999 within the framework of the Convergence, Stability, Growth, and Solidarity Pact. In addition to the convergence criteria, WAEMU countries have taken other important steps toward greater regional integration and coordination of macroeconomic policies, including establishing a common external tariff and harmonizing taxes. There are four primary convergence criteria and four secondary criteria, supplemented by a host of other indicators recommended by the Council of Ministers. The norms established with respect to these criteria had to be met by end-2002, but the target date has been extended to end-2005. The primary criteria are the following:

  • the ratio of the basic fiscal balance (revenue excluding grants minus expenditure excluding foreign financed investment outlays) to nominal GDP (key criterion), which must be in balance or in surplus;

  • the ratio of outstanding domestic and foreign debt to nominal GDP, which must not exceed 70 percent;

  • the average annual inflation rate, which should not surpass 3 percent a year, and

  • the nonaccumulation of domestic and external payment arrears.

The secondary criteria are as follows:

  • the ratio of the wage bill to tax revenue, which cannot exceed 35 percent;

  • the ratio of domestically financed public investment to tax revenue, which must be at least 20 percent,

  • the ratio of the external current account deficit, excluding grants, to nominal GDP, which cannot exceed 5 percent; and

  • the tax-to-GDP ratio, which must be 17 percent or more.

CEMAC criteria

CEMAC groups six countries (Cameroon, the Central African Republic, Chad, the Republic of Congo, Equatorial Guinea, and Gabon), but in contrast to WAEMU, CEMAC’s integration efforts in other areas are not very advanced, including implementation of a common external tariff, harmonizing tax policies, and adopting common sectoral and structural policies. At end-2001, a framework was introduced that includes three-year forward looking convergence programs, an annual report on the convergence strategy prepared by the CEMAC secretariat, and the adoption of convergence criteria. Starting in July 2002, the CEMAC evaluates the degree to which each member country respects four convergence criteria in the previous year:

  • a non-negative basic fiscal balance (excluding grants and externally financed investment expenditures);

  • consumer price inflation of no more than 3 percent;

  • a level of external and domestic public debt of no more than 70 percent of GDP;

  • and the non-accumulation of external or domestic payments arrears.

B. Status of the fiscal benchmarks

70. A fiscal framework that includes the benchmarks was agreed in principle by the ECCB’s Monetary Council, which is comprised of the finance ministers of member states, implying acceptance by the national fiscal authorities. However, the ECCB has no formal jurisdiction or legal mandate over national fiscal matters, and the benchmarks are not binding on member states. ECCB member states have not integrated the benchmarks into their national budgets or laws. Furthermore, neither the central bank nor the national authorities have formal surveillance or enforcement mechanisms to ensure compliance.

C. Development of the ECCB benchmarks

71. The starting point for the ECCB’s benchmarks is recognition of the need for public sector investment.29 They stem from a target for public sector investment of 12 percent of GDP, centered within the Caribbean Development Bank’s (CDB) recommended range of approximately 10 to 15 percent of GDP for member countries. Based on further assumptions derived from historical ratios of capital expenditures of the central government and public enterprises, and the shares of external and domestic financing, member countries would need to generate central government savings of approximately 5 percent of GDP. A range of 4 to 6 percent is used as the target.30

72. The target for the overall central government balance (maximum deficit of 3 percent of GDP) combines the central government capital expenditure and current account surplus targets.

73. The approach to the debt sustainability benchmarks takes the historical performance of ECCB members on the above two measures, and picks as a target the ratios for those countries which, given their experience, were able to generate public sector savings that fell within the targeted levels for central government savings of 4-6 percent described above. St. Lucia and St. Vincent and the Grenadines were the only countries to meet the targeted savings ratio, during the period 1990 to 1998. Their debt to GDP ratios averaged 51 and 34 percent respectively (within a range of 26 to 76 percent), and debt service payments to current revenue, 2 percent and 7 percent, respectively (over the same time frame, and ranging from 1 percent to 10 percent).31 Based on this backward-looking evidence, the analysis concludes that the “ideal” debt to GDP ratio would be between 30 and 45 percent, given the size of these countries. However, an outer bound of 60 percent is used for the benchmarks, with a debt service to current revenue ratio not exceeding 15 percent.

D. Timeframe for Convergence

74. A clear and realistic time frame for “convergence” would be important for any rules-based regime, fiscal or otherwise. As with the choice of benchmarks themselves, the timeframe should balance the need to be ambitious enough, but also be realistic, to remain credible. The Monetary Council did not specify a timeframe for convergence when it approved the fiscal benchmarks. However, the ECCB regards January 2007 as a critical juncture, following the lapse of preferential treatment for exports to the EU and culmination of trade liberalization initiatives under the WTO and FTAA. In this regard, the Monetary Council has endorsed the stabilization and transformation plans for members for the four- year period through 2007.

75. At the same time, it is clear that several member states are a long way from reaching the suggested targets (Table 1). For example, in the case of St. Kitts and Nevis, meeting the proposed debt ceiling of 60 percent of GDP, over a 4-year horizon would require debt pay downs in the order of more than 20 percent of GDP in each year, given its extremely high level of outstanding debt (projected at 161 percent of GDP in 2002). Of the six Fund members, only one (St. Lucia) would currently meet the 60 percent of GDP benchmark. No country would meet the benchmark for the current account surplus, and only St. Vincent and the Grenadines satisfied the overall budget deficit target at end-2001.

76. A four-year timeframe for convergence would be longer than those adopted by WAEMU and CEMAC countries. WAEMU’s Convergence, Stability, Growth, and Solidarity Pact, which was formally adopted in December 1999, identified two periods: a convergence phase (2000-2002), at the end of which member countries were expected to be in compliance with the criteria, and a stability phase (from 2003 onward).32 For CEMAC countries, at end-2001, a framework was introduced that includes three-year forward looking convergence programs, an annual report on the convergence strategy prepared by the CEMAC Secretariat, and the adoption of the four convergence criteria.

Table 1.

ECCU AREA; Compliance with Proposed Central Government Fiscal Benchmarks 1/

(In percent of GDP, unless otherwise indicated)

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Sources: ECCU member country authorities, and Fund staff estimates.

Excludes the territories of Anguilla and Montserrat.

Includes external arrears.

Excludes domestic debt amortization.

77. The European experience under the Maastricht Treaty may argue for a somewhat longer but more realistic timeframe than rushing to an arbitrary deadline. While the credibility and hence the effectiveness of the fiscal benchmarks depends on balancing the setting of ambitious targets, and establishing realistic targets and a timeframe, it is clear that immediate actions are needed to address the current fiscal difficulties, which should be placed within a convergence context as soon as possible. Given the widely differing starting positions of the ECCU countries on the fiscal benchmarks, along with differing growth and budget projections for each country, consideration may need to be given to implementing country-specific paths for convergence to the criteria.

E. Surveillance and Incentives for Compliance

78. To be effective, the fiscal benchmarks need to be supported by a framework of incentives, or sanctions against noncompliance. None has yet been specified. In addition, the incentive framework will need to be supported by a system of monitoring and surveillance of members’ compliance. Ideally, this should be performed at regular intervals by a regional institution.

79. The Council of Ministers and the WAEMU Commission perform regional surveillance under the WAEMU Pact. Countries submit semiannual performance reports to the Council, which monitors progress on convergence. A member country not satisfying one of the primary criteria will prepare a program of corrective measures, in cooperation with the WAEMU commission and within 30 days of notification of the Council of Ministers’ resolution. The WAEMU Commission has the responsibility to verify that the proposed measures are consistent with the Council of Ministers’ resolution and the union’s economic objectives. If implementation of the program of corrective measures does not result in the desired progress on primary criteria other than the key criterion, a new series of appropriate measures prepared by the WAEMU Commission for the member country in question will be approved by Council directive.

80. The ECCB has no formal mandate or jurisdiction over fiscal policies of its members. Nevertheless, given the central bank’s key role in developing the benchmarks, the composition of the ECCB’s Monetary Council (comprised of the eight finance ministers of its member states), and its regional perspective, the ECCB is a logical choice to undertake surveillance and assess compliance with the benchmarks. The ECCB could gather and review country data and compile progress reports on convergence with the benchmarks. The progress reports could be submitted to the Monetary Council and published at regular intervals (minimum of semi-annually). Regular publication of progress reports would provide a strong incentive for compliance, through peer and market pressures. Such peer pressure has reportedly been an effective incentive in supporting the WAEMU Pact. Transparency with respect to performance against the benchmarks could be bolstered by differentiation of sovereign credit spreads in the regional government securities market (RGSM), when this market becomes fully operational.33

81. Official sanctions, similar to those under the WAEMU Pact,34 could also be envisaged. Under certain conditions, central bank credit facilities, or lending by the CDB could be made contingent on, or priced according to, country compliance with the benchmarks.35 The ultimate sanction for a member that exhibits persistent poor fiscal behavior would be to envisage a process of expulsion from the currency union, recognizing that each member’s performance affects the credit standing of other members in the union through the common currency. However, changes to the ECCB charter require unanimous approval by members of the Monetary Council.36

F. Scope of coverage and accommodation of shocks

82. The ECCB benchmarks pertain only to the accounts of the central government; public enterprises and government guaranteed debt is excluded. The broader public sector position should ideally be incorporated into the framework; however, this is subject to the constraint of government’s inability in some cases to produce accurate and timely data for these debts.

83. Unlike some other fiscal rules, the benchmarks include no provisions for the accommodation of exceptional circumstances.37 Given their small size and openness, and the lack of the exchange rate buffer, the ECCU economies are prone to external cyclical shocks—the downturn in tourism in the wake of the September 11 terrorist attacks is a recent example. Furthermore, ECCU members are particularly prone to natural disasters, such as hurricanes and volcanoes. Consideration should be given to allowing some short-term flexibility in the measurement of progress against the benchmarks, and before application of possible sanctions. However, the benchmarks are specified as ceilings, implying that countries should on average be well below the thresholds, and allowing too much flexibility would undermine the credibility of the fiscal rules.

G. Conclusions

84. There is a pressing need for ECCB members to take strong measures to reduce the large fiscal imbalances, particularly under the fixed exchange rate regime supported by the CBA. Credible fiscal rules can be helpful, but do not obviate the need for prompt action under the current circumstances. The benchmarks must balance the need to be stringent enough to reduce vulnerability, be realistically attainable, and need to be supported by a framework of surveillance and incentives for compliance.

85. While economic theory offers little guidance on whether or which benchmarks should be chosen or what constitutes an appropriate level of public debt or deficit targets, a small number of simple benchmarks are preferable, as these would be easier to monitor, more transparent, and less likely to be mutually inconsistent. The four ECCB benchmarks would appear to broadly satisfy such criteria. The benchmarks must be consistent with other regional objectives, such as commitments toward trade liberalization and the harmonization of domestic taxation.

86. The ECCB’s preliminary work to identify appropriate fiscal benchmarks is grounded in a target for public sector investment. It relies on past debt and deficit figures for those ECCU members that have met the assumed public sector investment target to justify the quantitative norms. The derivation of targets as essentially residual items does not address the fundamental issue of debt and fiscal sustainability, which should be taken as the appropriate starting point in the design of appropriate and mutually consistent fiscal benchmarks.38 Nevertheless, the derived benchmarks may seem broadly appropriate in light of experience. If formally integrated into the national budget and planning processes, the benchmarks would mandate vigorous fiscal action and commitment.


Prepared fay Robert Price, PDR.


The benchmarks are a subset of a broader group of guidelines—termed “Corridors of Normality”—developed by the ECCB, that include corridors for exchange rate variables (inflation, real effective exchange rate); foreign reserves (reserve cover and import cover); credit (to government and to commercial banks); and liquidity variables (loans to deposits, delinquency and solvency ratios), in addition to the fiscal corridors.


The method used by ECCB staff to develop the levels for the fiscal benchmarks are laid out in two papers. See “The Targeted Public Sector Savings in the Member Countries of the ECCB” (undated, unpublished) and “Developing Sustainable Debt Indicators for the ECCB” (July 2001, unpublished).


Including the rest of the public sector, raises the public sector savings requirement to between 6 and 7 percent of GDP, however, the ECCB’s benchmarks focus on the central government only, partly owing to lack of full data on public enterprise accounts.


ECCB estimates.


During the transitional period from the date of entry into force of the pact to December 31, 2002, member countries were to prepare three-year convergence programs, with the annual objectives of gradually ensuring compliance with these criteria.


St. Kitts and Nevis became the first debt issuers on the RGSM in November 2002, when it sold EC$75 million 10-year bonds at 7.5 percent at par. St. Vincent and the Grenadines is expected to follow with its own issue.


In WAEMU the mechanism of sanctions is specified in the WAEMU Treaty. It ranges from moral suasion (publication of findings) to the withdrawal of financial support from regional institutions, including the withdrawal of West African Development Bank (BOAD) financing and the outright suspension of central bank financing. If the key criterion is not being satisfied, a penalty procedure will be initiated, unless otherwise dictated by extraordinary circumstances. The penalty procedure is initiated only in cases of noncompliance observed during the assessment of results at end-December in the convergence phase. Noncompliance is determined when progress on the key criterion relating to the basic fiscal balance is deemed unsatisfactory. During the stability phase, programs will be assessed on the basis of structural change in respect of the key criterion, after correction for changes in economic conditions. (See Box 2. in West African Economic and Monetary Union—Recent Economic Developments an Regional Policy Issues in 2000, SM/01/246, August 6, 2001.)


Although not actively used as an instrument, ECCB lending to governments under the “partial” currency board arrangement, is restricted to no more than 40 percent of currency and other demand liabilities. As specified in the ECCB charter, temporary lending is further restricted to 5 percent of a government’s recurrent revenue; treasury bill holdings (with a maximum term of 91 days) by the ECCB are limited to 10 percent of recurrent revenue; and long-term bond holdings are limited to 5 percent of currency and other demand liabilities. Because the total of these amounts may exceed the allocation available under the backing ratio (i.e., the 40 percent), in practice the ECCB allocates credit to individual member governments based on the ratio of each government’s recurrent revenue to the total recurrent revenue for all member countries. This allocation scheme is an ECCB operating procedure that is not specified in the charter.


East Caribbean Central Bank Agreement Act, 1983, Article 55.


WAEMU’s Convergence, Stability, Growth and Solidarity Pact provides that sanctions will not be initiated in exceptional circumstances, defined as a temporary recession equivalent to a GDP decline of 3 percentage points from the average of the three preceding years. A recent paper in the context of WAEMU convergence argues further that both the growth performance and the terms of trade need to be taken into account in assessing countries’ progress toward convergence targets. See Paul Masson and Ousmane Doré, Experience with Budgetary Convergence in the WAEMU, IMF WP/02/108, June 2002.


Kufa, Pellechio, and Rizavi (Fiscal Developments and Policy Issues in the East Caribbean Currency Union, forthcoming working paper) analyze fiscal sustainability of ECCU members using the simple budget constraint model, targeting stabilizing the public debt ratio. They question the focus of the current benchmarks on generating public savings to support a high level of public investment, which does not necessarily achieve a strong rate of economic growth. They conclude that the debt-stabilizing primary balance varies considerably across countries, and the aggregate public sector primary surplus should be around 4 percent of GDP for the ECCU to achieve sustainability.