Statement by Mr. Yambaye, Executive Director, Mr. Diallo, Alternative Executive Director, and Mr. Alle, Senior Advisor to Executive Director, on WAEMU, March 20, 2015

KEY ISSUES Context. The region continued to experience strong growth in 2014, led by the continued economic expansion in Cote d’Ivoire. The outlook is for further strong growth, subject to a range of downward risks, in particular political instability ahead of upcoming elections in several countries, and security issues in Mali and Niger. With an elevated fiscal deficit exerting pressure on the balance of payments and the regional financial market, delays in fiscal consolidation or structural reforms pose the main medium-term risks. Policy recommendations: • Fiscal consolidation. Safeguarding external stability in the region will require governments to adhere to their budget deficit reduction plans while maintaining public investment efforts, which will require increasing tax revenue and controlling current expenditure. • Monetary policy. Macroeconomic conditions do not warrant a tightening of monetary policy at this juncture. However, if fiscal deficits do not decline as envisaged, the BCEAO should consider increasing its policy rates. In the mean time, the BCEAO should very closely follow the evolution of the macro-prudential risks flowing from its sharp increase in commercial bank refinancing. • Financial stability. The WAEMU authorities should enforce existing prudential rules and raise standards to international best practice. Ongoing reforms go in the right direction but need to be accelerated. • Structural transformation and regional integration. Policies to promote structural transformation should focus on addressing weaknesses, such as the lack of education and training, finance, and supportive regulatory environments. Countries should refrain from using the possibility to deviate from the common external tariff of the Economic Community of West African States (ECOWAS) in force since January 1, 2015, in order to protect the gains from regional integration in WAEMU.

Abstract

KEY ISSUES Context. The region continued to experience strong growth in 2014, led by the continued economic expansion in Cote d’Ivoire. The outlook is for further strong growth, subject to a range of downward risks, in particular political instability ahead of upcoming elections in several countries, and security issues in Mali and Niger. With an elevated fiscal deficit exerting pressure on the balance of payments and the regional financial market, delays in fiscal consolidation or structural reforms pose the main medium-term risks. Policy recommendations: • Fiscal consolidation. Safeguarding external stability in the region will require governments to adhere to their budget deficit reduction plans while maintaining public investment efforts, which will require increasing tax revenue and controlling current expenditure. • Monetary policy. Macroeconomic conditions do not warrant a tightening of monetary policy at this juncture. However, if fiscal deficits do not decline as envisaged, the BCEAO should consider increasing its policy rates. In the mean time, the BCEAO should very closely follow the evolution of the macro-prudential risks flowing from its sharp increase in commercial bank refinancing. • Financial stability. The WAEMU authorities should enforce existing prudential rules and raise standards to international best practice. Ongoing reforms go in the right direction but need to be accelerated. • Structural transformation and regional integration. Policies to promote structural transformation should focus on addressing weaknesses, such as the lack of education and training, finance, and supportive regulatory environments. Countries should refrain from using the possibility to deviate from the common external tariff of the Economic Community of West African States (ECOWAS) in force since January 1, 2015, in order to protect the gains from regional integration in WAEMU.

1. Our WAEMU authorities thank staff for their engagement with the regional institutions and the candid interactions on a broad range of issues facing the Union. Our authorities are in general in broad agreement with staff’s analysis and policy recommendations, especially as regards the financial sector and structural transformation. They also very much appreciate the quality of the Selected Issues paper which will provide them with important inputs in the design of economic strategies. However, they view staff’s assessment on medium term risks and macroeconomic stability as being too negative and not supported by convincing analysis. They firmly believe that the policies in place and those envisaged both at the member state level and at the Union level are supportive of sustainable growth and macroeconomic stability.

Recent Developments

2. Over the past years, the WAEMU region has experienced strong average growth despite adverse challenges including security issues in some of the member states. This performance is one of the major developments in the region, and 2014 was no different as growth reached a strong 6.1 percent. The rebound that started in 2012 as Côte d’Ivoire began its post-crisis recovery is still firming up, helped by rising public investment mainly in infrastructure, as well as private investment. Our authorities are of the view that all macroeconomic figures displayed by the region should be read under the lens of the major changes unfolding.

3. Over the medium term, real GDP growth is projected to average at least 6 percent with inflation well under control at around 2 percent, as a result of the policies being pursued. The fiscal deficit is projected to decline to 4.1 percent in 2015 and to below 4 percent over the medium term. Total public debt is also projected to stabilize at moderate levels, about 40 percent of GDP. Moreover, the fall in oil prices and the weakening of the CFAF should also lead to a strengthening of the external current account. Overall, these are positive developments which bode well for the future of the region. Our authorities view these developments and projections as validating their policies which are aimed at maintaining macroeconomic stability and raising the status of the countries to emerging market economies in the coming decades. They, therefore, are more optimistic than staff regarding the outlook which they feel is more on the upside.

Preserving Macroeconomic Stability

4. Our authorities do not share staff’s assessment on macroeconomic stability; neither the concerns about macro-prudential risks associated with fiscal policy nor their recommendations regarding the use of the policy mix. First, on risks, the authorities are of the view that for a region of strong growth, the present fiscal deficit is comprehensible and should not be overstated. In addition, recent DSAs concluded that sovereign risk is low in the region. Second, should there be any macro-prudential risk posed by the fiscal stance, our authorities are of the view that fiscal policy rather than monetary policy is best suited to address it; especially in a context where staff concurs to the weak transmission mechanisms of monetary policy. In a region facing still low tax revenue to GDP ratio, improving domestic revenue mobilization could be a good candidate to address the root cause of fiscal deficits.

5. Moreover, tightening monetary policy to restrain liquidity injection as recommended by staff would have minor impact on bank refinancing that can be done through alternative windows. To the contrary, such a move will push interest rates up and hence crowd out private sector investment, which has steadily increased to date owing to the catalytic role played by the public sector’s capital spending.

6. That been said, Fiscal policy and the situation of public finances are the reflection of the planned shifts made by governments towards public investment to support growth. Staff rightly concurs that the overall budget deficit (including grants) of 4.6 percent of GDP in 2014 was due to rising public investment to address the infrastructure gap. Transitioning from the primacy of current expenditures to productive investment outlays was a long overdue endeavor in most of the WAEMU countries. The current momentum therefore goes in the right direction; and coming from very low levels of investment, the sudden rise of the deficit should be seen as temporary and not as a major risk.

7. Our authorities view the present fiscal deficits as fully manageable, but they will step up efforts on the revenue side, within the new convergence framework. The WAEMU Commission is also working closely with the countries’ authorities to address the delays in PFM reforms and to agree on a timeline to implement them. The BOAD and WAEMU Commission are also working together on developing best practices as regards public investment. These actions altogether should contribute to improve the conduct of fiscal policy and maintain deficits in good territories. At the national level, most of the member countries are implementing IMF-supported programs, whereby they have embarked on fiscal reforms encompassing both administrative measures and initiatives to broaden the tax base. The WAEMU authorities are of the view that discipline and conditionality under these programs are strong enough safeguards for dampening risks and ensuring macroeconomic stability.

8. Monetary policy over the past period has also supported growth through the facilitation of credit to the economy. By keeping a low refinancing rate of 2.5 percent since September 2013, the central bank has helped banks to invest part of their high level of liquidity in sovereign bonds on the regional market. Our authorities view the rise of sovereign issuance as a positive development in the region, to be further enhanced as the secondary bond market takes hold. To date, governments in the region have regularly and correctly managed the debt stemming from these sovereign issuances and the WAEMU authorities do not see major risks in this area.

Financial Sector Development

9. Staff and the authorities concurred on the assessment of the financial sector, especially on the weaknesses that need to be addressed. Financial sector development remains one of the main objectives on the WAEMU authorities’ agenda and actions on several fronts are underway accordingly. First, the authorities are cognizant that the deepening of the financial sector will help improve the transmission channels of the monetary policy. The BCEAO, in coordination with national authorities has launched a vast reform program in that regard. This includes the inception of new institutions such as credit bureaus to improve information and boost lending activities, and the development of electronic systems to enhance the interbank market. Second, most governments in the region are implementing financial sector development strategies with the view to boost credit to the economy. Key pillars of these strategies include: (i) attracting new banks - to address the shallowness of the banking sector and associated weaknesses such as low competition, high borrowing costs, and high concentration of credit; (ii) enhancing financial inclusion by lifting bottlenecks and increasing access to banking services and developing microfinance and mobile banking.

10. Sovereign bond issuance is also an important instrument for the development of the regional financial market. A specific agency – UEMOA Titres - has been created with the main task of coordinating the bond issuance among countries, so as to keep yields under control. Alongside this agency, the authorities are stepping efforts to reap the full benefits of sovereign issuance on the regional market, including “licensing primary dealers in government securities to activate the secondary market for government paper.”

11. Regarding the stability of the banking system, the authorities are taking steps to restructure problem banks such as in Côte d’Ivoire and Benin, enhance ratios, and strengthen the regulatory and supervisory frameworks. Furthermore, steps to move to Basel II/III are underway. In the meantime, the second phase of reforms to raise the capital requirement for banks to FCFA 10 billion should be submitted to the Council of Ministers of finance before end-March. The ground work for the supervision of AML/CFT is also completed and new legal rules should be submitted to the Council of Ministers this year.

12. As regards the weaknesses in banking supervision noted in the staff report, the authorities would like to point out that they are the result of the socio-political crises which have affected some members of the Union since 2000, in particular Côte d’Ivoire which houses the headquarters of the Banking Commission. As a consequence of the disruptions, some financial institutions were not adequately supervised. However, since 2002, with the re-establishment of the supervisory capacity, a better control system has been put in place. The administrative and disciplinary measures taken have translated into an improvement in banks’ financial situation.

13. The authorities are also putting a particular emphasis on the supervision of pan-African banks, taking stock of the governance issues that recently erupted at ECOBANK. This particular situation is being addressed. All supervisors from countries hosting branches of ECOBANK should meet soon in this regard and the group has been invited to comply with the rules of the Banking Commission. As for the whole banking sector, the BCEAO management has liaised with the supervisory bodies of parent banks to coordinate their efforts and harmonize practices for the supervision of pan-African banks.

Diversification and Structural Transformation

14. Our authorities welcome staff’s analysis on diversification and structural transformation, with an emphasis in the Selected Issues. This analysis builds in a constructive manner on the work done on the topic by SPR and discussed at the Board. Nonetheless, this analytical work should be followed through with more actionable steps capable of meeting countries’ needs. Indeed, embarking on a structural transformation agenda and diversifying the economies of the region are at the forefront of the WAEMU authorities’ demand in terms of development programs at this juncture. It is our authorities’ belief that the strong growth momentum in the region paired with macroeconomic stability and a set of favorable global conditions should be put to profit by member countries to lay the ground for higher potential growth. The authorities are committed to endeavor in that direction as evidenced by efforts on many fronts.

15. First, on the development goals, most countries in the region have designed development plans with the ambition of transitioning to emerging market economies in the coming decades. This is a clear indication of a paradigm shift from fiscal stance-centered plans to ambitious economic transformation plans. This entails bold actions and some short-term costs such as temporary deficits, to achieve long-term goals.

16. Closing the infrastructure gap is one of the first steps of this agenda. In this regard, efforts at the country level are being supplemented by regional programs in the areas of energy and roads. Several corridors have been identified and the project preparation is very advanced for some of them, including the highway Abidjan-Lagos. The implementation of the second phase of the Regional Economic Program (PER) also includes the provision of regional infrastructure and access to energy.

17. Improving the business climate in other aspects such as enhancing the judicial system, reducing red tape and accelerating the process of setting up a business, is also a task being taken on both at the country and regional levels. The WAEMU Commission is also creating the infrastructure to harmonize and disseminate best practices in World Bank Doing Business related reforms among countries.

18. For our WAEMU authorities, getting those basics right should help boost the development of the private sector. In this regard, the Union implements a common industrial policy to supplement national initiatives, with an emphasis on the development of SMEs. The objective is to create a single market for SMEs and establish linkages with bigger companies, especially to sub-contract public procurements across countries.

19. WAEMU countries are exporters of agricultural commodities and intra-sector structural transformation is a major agenda to most of the region’s policymakers. To this end, adding value to agricultural products through processing is a step in countries’ development plans and a part of the Union’s common industrial policy as well. Likewise, governments’ efforts to attract foreign investment are aimed at enhancing the share of the manufacturing sector in the domestic output. This inter-sector structural transformation should help transfer resources from the low-productivity agriculture sector towards the manufacturing and service sectors; and help broaden employment opportunities for educated youths.

20. Promoting regional integration is also a priority to the authorities, as a way to create a large market of 230 million consumers within the Economic Community of Western African States - ECOWAS. The ECOWAS Common External Tariff became effective in January 2015. By liberalizing trade within the whole region, this provides a greater playing field for the private sector to thrive and reap the growth dividends. To accompany these efforts of integration, the authorities would welcome a joint exercise WAEMU-ECOWAS for future consultations. This will help better capture the dynamics in the region and give more consistency to the policy recommendations.

Conclusion

21. Amidst the global slowdown and manifold challenges, the WAEMU region has maintained a strong growth momentum over the past years. Buoyant public investment, especially in infrastructure that has been held back for too long, stood as one of the key drivers of this performance. Recent fiscal figures have reflected these structural changes unfolding in the region. Our authorities value the policy dialogue with the Fund as a contributing factor to these achievements.

22. Going forward, the opportunity for the region to seize the moment and entrench growth lies in the authorities’ unwavering commitment and policies aimed at fostering the structural transformation of their economies. Our authorities view this endeavor as the most sustainable way to diversify economies and create the conditions for long-term macroeconomic stability. As we noted above, our authorities are of the view that the outlook for the Union is quite positive, and that the policies envisaged, in most cases with Fund’s assistance, are taking the countries in the right direction.