A. General Assessment

6. Morocco’s overall economic performance has been strong. After a difficult 2012, macroeconomic conditions improved in 2013 and 2014, though growth remains affected by weak external demand. The external and fiscal deficits have narrowed considerably from their 2012 peaks. Reserves have increased close to five months of imports or 93.6 percent of Fund’s reserve adequacy (ARA) metric for emerging markets. Inflation remains low. The financial sector has been stable. Over the medium term, growth is expected to remain high and sustainable in a context of low inflation. Both public and external debt levels, though on the rise initially, are expected to come down and are assessed to remain sustainable.

7. Morocco has made significant strides toward addressing vulnerabilities and rebuilding policy space. Policy action has significantly contributed to reduce fiscal and external vulnerabilities. In particular, for 2014, the authorities achieved a deficit of 4.9 percent of GDP, as expenditures, especially subsidies, continued to be reined in. Progress with the subsidy reform helped achieve a substantial reduction in subsidy cost and related fiscal risks. External stability has improved and the strategy of diversification of exports is yielding positive results.

8. The authorities are committed to maintaining sound policies, including ensuring medium-term fiscal sustainability. The authorities have laid out a comprehensive medium-term strategy in the written communication of the request for the PLL arrangement, which they confirmed in the attached written communication (W-COM.) signed on January 23, 2015.⁴ They are targeting a fiscal deficit of 3 percent of GDP by 2017, consistent with a gradual reduction in public debt. The authorities are also implementing ambitious reforms to promote higher and more inclusive growth. Their main objectives are to improve competitiveness and productivity; reduce the unemployment rate to 8 percent over the medium term; and improve access to education and vocational training, health, and social protection.

9. The policy and institutional framework is sound and has been responsive to shocks. The track record of strong economic performance has been supported by a sound policy framework. In particular, the authorities have also been able to adapt to unforeseen difficulties by taking appropriate remedial actions. The fiscal framework is being strengthened though the adoption of the new OBL, which is expected to address some weaknesses in this area. Other institutional quality indicators also show that Morocco has a sound policy framework. Indicators of the ability to undertake countercyclical policy in the event of shocks show that Morocco performs well in the implementation of fiscal policy.⁵ Morocco scores lower on countercyclical monetary policy, a result that is consistent with a pegged exchange rate regime.⁶ Morocco performs within the 25^th–75^th percentile range for the anticorruption and government effectiveness indicators of the World Bank’s World Governance Indicators.

Distribution of Institutional Indicators in Emerging Markets

(Based on the average of 2001-12 for each country)

Citation: IMF Staff Country Reports 2015, 044; 10.5089/9781498316552.002.A001

Note: The bars represent the maximum, 75th percentile, median, 25th percentile, and minimum points in the distribution.Source: WEO, WB WGI and IMF Staff Calculations.

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Distribution of Institutional Indicators in Emerging Markets

(Based on the average of 2001-12 for each country)

Citation: IMF Staff Country Reports 2015, 044; 10.5089/9781498316552.002.A001

Note: The bars represent the maximum, 75th percentile, median, 25th percentile, and minimum points in the distribution.Source: WEO, WB WGI and IMF Staff Calculations.

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Distribution of Institutional Indicators in Emerging Markets

(Based on the average of 2001-12 for each country)

Citation: IMF Staff Country Reports 2015, 044; 10.5089/9781498316552.002.A001

Note: The bars represent the maximum, 75th percentile, median, 25th percentile, and minimum points in the distribution.Source: WEO, WB WGI and IMF Staff Calculations.

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B. Assessment of Specific PLL Criteria

10. Morocco continues to perform strongly in three out of the five PLL qualification areas, namely financial sector soundness and supervision, monetary policy, and data adequacy. The country does not substantially underperform in the remaining two areas, namely, external position and market access, and fiscal policy.

11. Morocco does not substantially underperform in the external position and market access area.

• Criterion 1. Sustainable external position. The external position has strengthened. The current account deficit continued to narrow in 2014. It is expected to have reached about 5.8 percent of GDP, down from its peak of 9.7 percent of GDP in 2012. Preliminary data show that, in dirham, the trade balance improved in January–December by 6 percent relative to the same period in 2013, reflecting a surge in exports (6.1 percent, in nominal dirham) against a slight decline in imports (-0.2 percent). The EBA methodology indicates that the exchange rate is in line with fundamentals. The debt-to GDP ratio has been rising but remains relatively low at 32.1 percent at end-2014. It is expected to stabilize around that level over the medium term. The debt-sustainability analysis shows the external debt to be sustainable and robust to standard stress tests.

• Criterion 2. A capital account position dominated by private flows. Notwithstanding lower FDI inflows than in 2013, financial inflows were buoyed by corporate and sovereign bond issuance in the second quarter of 2014, together with the delivery of financial assistance by development partners. Public flows continue to be sizable, but private flows now constitute the largest share of the capital account. However, access to international financial markets by Moroccan nonfinancial corporations remains modest in size compared to other emerging markets, and private external debt is small (about 3 percent of GDP).

• Criterion 3. A track record of steady sovereign access to capital markets at favorable terms. Morocco’s market access was reconfirmed when it raised €1.0 billion at favorable terms in June 2014. In April 2014, the National Phosphate Company successfully tapped the international market with a US$1.5 billion eurobond. The approval of a second PLL arrangement was perceived by investors as a signal of confidence and as significant leeway to lead the reform process in the presence of hypothetical external shocks. Some market analysts also noted that the reduction of the line to about US$5 billion signaled that the vulnerability of Morocco had gradually reduced.

• Criterion 4. A reserve position that—notwithstanding potential BOP pressures that justify Fund assistance—remains relatively comfortable. Reserves have continued to increase. As a result of buoyant financial inflows, and with the improvement in the current account, they stood at end-December at about 93.6 percent of the ARA metric for emerging markets. Considering existing controls on capital outflows that partially insulate them from capital account vulnerabilities, reserves remain adequate. However, reserves would not be comfortable enough should the country be hit by severe external shocks, but they are expected to gradually increase and exceed 100 percent of the ARA metric over the medium term. The end-September indicative target on net international reserves was met by a large margin.

12. Morocco does not substantially underperform in the fiscal area.

Criterion 5. Sound public finance, including a sustainable public debt position.

• Morocco remains committed to a sustainable fiscal path and has a track record of sound public finances, despite the challenges that emerged in 2012. The authorities have taken commendable actions to strengthen Morocco’s fiscal position and address the weaknesses identified in their fiscal framework in 2012, thereby reducing vulnerabilities in that area. In line with their medium-term target of a fiscal deficit of 3 percent by 2017, the authorities have continued their fiscal adjustment in 2014. Although the end-September 2014 deficit indicative target was missed by 0.7 percent of GDP, this mostly reflected a frontloading of transfers to public entities and of reimbursement of VAT credits (W-COM.-¶15) as well as higher spending on investment, and the annual fiscal deficit objective of 4.9 percent of GDP was met. Continuing on the path to the medium-term anchor, the 2015 budget, which is based on relatively conservative assumptions, aims at a deficit of 4.3 percent of GDP. The cyclically-adjusted primary balance is projected to improve by ½ percent of GDP in 2015. The strengthening of public finances is expected to come mainly from a reduction in expenditure, with the subsidy and wage bills set to decrease by 1.3 percent of GDP and 0.2 percent of GDP respectively, as tax revenue is already among the highest in the region.

• The pace of fiscal reform has picked up since end 2013. Significant progress continued to be made on subsidy reform (W-COM.-¶6). Following its gradual reduction, the residual subsidy on diesel, which was the last remaining subsidy on liquid petroleum products, was eliminated starting January 1, 2015. This has considerably reduced risks to the budget from commodity price fluctuations. Furthermore, the authorities have decided to fully liberalize the price-setting mechanism of all liquid petroleum products in 2015. As of early 2015, only butane, sugar, and some wheat flour remain subsidized, and the authorities are exploring options to reduce their cost. The 2014 budget introduced further steps toward a broad tax reform (W-COM.-¶5) while the parametric reform of the main civil public pension system progressed and is expected to be implemented in 2015 (W-COM.-¶9).

• The budget framework is being strengthened through the adoption of the new OBL (W-COM.-¶8). A new OBL was adopted by parliament in November 2014. However, the Constitutional Council ruled on December 23 that some of its provisions were unconstitutional, partly for procedural reasons. These relate to the dates of implementation of the new law as well as a provision that stated that only finance laws could modify tax or custom legislation. The government intends to resubmit a revised draft law to parliament in its Spring session to address the Council’s comments, thus allowing the implementation of the law starting 2016 as scheduled. Once definitely adopted, the new OBL is expected to significantly improve and modernize the previous 1998 organic law as it will: (i) introduce multiyear budgeting, program budgeting, performance management; (ii) increase fiscal transparency; (iii) introduce a golden rule, which will limit new net borrowing to the financing of capital spending, and (iv) address previously identified weaknesses by making binding the ceiling on wage expenditure appropriations and limiting the carryover of investment appropriations. Staff noted that some provisions could have been further strengthened to meet best international practices, for example through tighter restrictions on the use of special treasury accounts or adding an escape clause to the golden rule. The new provisions of the OBL are expected to be introduced gradually between 2016 and 2020. In the meantime, the measures taken in 2013 to limit risks related to the carryover of investment appropriations and the wage bill will be rolled over until the entry into force of the relevant OBL provisions. A strong implementation of the new OBL will be important to ensuring that it successfully reduces fiscal risks. The Fund stands ready to provide technical assistance in this area.

• The public sector debt remains sustainable based on a rigorous and systematic debt analysis. Public debt is expected to peak at about 68 percent of GDP in 2015, and progressively fall close to 63 percent of GDP in the medium term, as a result of the continued fiscal adjustment. The level of debt is generally resilient to various shocks, and vulnerabilities linked to the profile of the debt and to a growth shock are moderate. However, there are risks linked to gross financing needs. The debt remains sustainable under a stress test involving the same shock that would generate the potential financing need under the current PLL arrangement.

13. Morocco performs strongly in the monetary policy area.

• Criterion 6. Low and stable inflation, in the context of a sound monetary and exchange rate policy framework. Morocco continues to maintain low and stable inflation, in the context of the current monetary and exchange rate policy framework (W-COM.-¶10). Inflation averaged 0.4 percent in 2014 and is expected to remain low at about 2 percent in the medium-term. Inflation expectations remain well anchored. In consideration of weak growth, low inflation pressures, and improving reserves position, BAM appropriately lowered its policy rate by 25 basis points each in September and December 2014, to 2.5 percent. The policy rate had remained unchanged since March 2012, although BAM had already lowered the reserve requirement ratio from 4 percent to 2 percent in March 2014 to improve bank liquidity. In staff’s view, the current monetary policy stance is appropriate within the existing monetary and exchange rate framework. As discussed in previous staff reports, the monetary framework will need to evolve in line with the expected move toward a more flexible exchange rate. The Fund is providing technical assistance on options and preparations for a more flexible exchange regime. Once the forthcoming FSAP is completed, which will further assess the preparedness of the financial sector to withstand greater exchange rate fluctuations, the various strands of technical assistance and surveillance work in this area should be pulled together to inform further decisions in this area.

14. Morocco performs strongly in the financial sector area.

• Criterion 7. The financial system is sound and there is no solvency problem that may threaten systemic stability. The aggregate capital adequacy ratio remains well above the Basel III requirement (it was 13.5 in June 2014). Liquidity pressures have abated, helped by the March 2014 cut in the reserve requirement ratio as well as by improved foreign reserves. However, nonperforming loans have risen, reaching 6.9 percent in November 2014, mainly reflecting the weaknesses of non-agricultural activity, but BAM has ensured adequate provisioning and continues monitoring developments in this respect. However, more work is needed on cross-border banking resolution.

• Criterion 8. Effective financial sector supervision. BAM is further strengthening banking supervision in line with Basel III standards (W-COM.-¶11). New definitions of prudential capital and short-term liquidity ratio were adopted in August 2013 and are in the process of being implemented. A new banking law was adopted by parliament in November 2014. It strengthens the regulatory, supervisory and macroprudential frameworks of the central bank. The new law introduces a legal crisis resolution framework, defines the regulatory and supervisory frameworks for participatory banks (Islamic banks), strengthens banks’ governance by aligning the definition of financial conglomerate with international standards, improves the management of the deposit insurance system, and introduces a framework governing systemically important banks at the national level in line with the Basel standards. A new central bank law was submitted to the general secretariat of the government. It aims to strengthen central bank independence, notably by integrating BAM’s strengthened role in financial stability. BAM is closely monitoring risks linked to the expansion of Moroccan banks in sub-Saharan Africa, and reinforcing coordination and the exchange of information with supervisory and regulatory agencies in host countries, including through consolidated supervision of groups and on-site visits.⁷ Other recent legal financial reforms have introduced the creation of new independent supervision authorities for insurance and pensions, and for capital markets. These new authorities will become operational once their management bodies are nominated.

15. Morocco performs strongly in the area of data transparency and integrity.

• Criterion 9. Data transparency and integrity. Morocco subscribes to the Special Data Dissemination Standard, and its data are adequate for surveillance and program monitoring. The authorities are committed to further improving data quality and access, notably through participating in the OpenData Platform (ODP) for which a joint technical assistance mission was conducted by STA and the African Development Bank in January 2014.