On March 26, 2018, the Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation with WAEMU.

Economic activity remains strong but vulnerabilities persist. Despite lower terms of trade, social tensions, and security challenges within the region, real GDP growth is estimated to have exceeded 6 percent in 2017, underpinned by strong domestic demand. Inflation remained subdued. However, external and internal imbalances widened. Preliminary data point to an increase in the fiscal deficit to 4.7 percent of GDP in 2017 from 4.5 percent in 2016, and the external current account deficit to 6 percent of GDP in 2017 from 5.6 percent in 2016. International reserve coverage rebounded somewhat to 4.2 months at end-2017, helped by sizable Eurobonds issuances by Côte d’Ivoire, Senegal, and the West African Development Bank.

The tightening of monetary policy since end-2016 stimulated the interbank market, reduced banks’ appetite for government debt, and contributed to Eurobond issuances by the two largest WAEMU sovereigns. However, since September 2017, renewed liquidity pressures have pushed up the interbank market rate and maintained the average refinancing rate at the ceiling of the BCEAO’s policy corridor. An ambitious set of reforms were also undertaken in 2017 to modernize financial sector regulations, including a gradual increase in minimum capital requirements in line with the Basel II/III principles. Other reforms include introducing a new accounting plan, moving to consolidated supervision of bank groups, strengthening the resolution framework, and setting up a deposit guarantee fund.

The outlook remains positive but hinges critically on the planned fiscal consolidation and implementation of structural reforms by member countries. Growth is projected to stay above 6 percent with continued low inflation over the medium term. Risks are tilted to the downside and stem from potential delays in fiscal consolidation, slow progress in the implementation of the structural reforms, persistent security concerns in the region, higher international oil prices, as well as tightening of international financial conditions and a slowdown in world growth.

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Staff Report

Policy Discussions

Sustaining the growth momentum and the currency peg will require continued macroeconomic stability, anchored on credible fiscal consolidation, appropriate monetary policy, and accelerated structural reforms to promote financial stability and competitiveness.

Macroeconomic policies: Sustaining the growth momentum while preserving debt sustainability and external stability

The growth momentum of recent years has been accompanied by an erosion of policy buffers. Growth has been largely driven by domestic demand, particularly public investment. As a result, internal and external balances have been widening. Securities challenges within the region combined with wage demands have increased pressures on government spending, while the fiscal space has remained limited and public debt service has increased in several member countries. The persistence of large fiscal and external current account deficits has maintained pressure on foreign exchange reserves.

Staff’s Recommendations

International reserves should increase to provide higher buffers against shocks. The recovery in reserves in 2017 masks continued underlying pressures on reserves, which would have continued their slide that started in 2016 were it not for the extraordinary level of Eurobond issues in 2017. This warrants a reinforced effort to strengthen external competitiveness through structural reforms and reduce fiscal imbalances to build reserves towards at least 5 months of import cover.

Growth-friendly fiscal consolidation is needed to lower public debt and lift pressures on monetary policy and reserves. Effective fiscal consolidation is essential to preserving external viability over the medium term. It must also be supported by a more comprehensive accounting for risks to fiscal and debt sustainability, stronger regional surveillance efforts, and improved debt management. Staff urged the authorities to pursue the following policy priorities:

• Building fiscal space: Governments should bolster revenues and prioritize spending to meet the WAEMU fiscal deficit criterion of 3 percent of GDP by 2019 and beyond while creating fiscal space for priority infrastructure and social spending. In the event of deviations from current program targets, additional fiscal measures would be needed. Tax policy measures could include hiking rates on excises, VAT on exempted products and real property tax, and reducing the scope for tax exemptions. Spending measures could include bringing wage bills within 35 percent of domestic revenue (WAEMU convergence criterion) and better targeting subsidies and social assistance to protect the most vulnerable. Several key WAEMU convergence criteria remain unobserved, and current projections suggest that breaches will persist for second-order criteria in most countries over the medium term. The mission encouraged the WAEMU Commission to increase dissemination of the Union countries’ convergence criteria efforts and bring its views of fiscal risks to the attention of the next meeting of the WAEMU Head of States.

• Capturing fiscal risks: Governments should expand the fiscal account coverage and implement the WAEMU Directive on the transition to the GFSM 2001 fiscal reporting standards. There is also a need to better capture contingent liabilities arising from troubled public entities, including banks, and from increasing recourse to PPPs.

• Increasing the efficiency of public investment: WAEMU member governments should improve public investment management, focusing on priority areas identified by recent PIMA missions, such as the planning and selection of public-private partnerships, the preparation of multiyear budgeting, the effectiveness of project appraisal and selection, the monitoring of project during implementation, and the accounting of infrastructure assets.

• Strengthening debt coverage and management: With rising public debt in recent years, the authorities should closely monitor all public contracted and guaranteed debt, including by widening coverage to state-owned enterprises and refraining from pre-financing operations. WAEMU sovereigns should continue to seek the best possible terms on new borrowings, with a view to limiting debt service costs and FX risks. Issuing Eurobonds in euros (to which the CFA franc is pegged), including for liability management, would lower FX risks. While not a substitute for the criticality of lowering the fiscal deficits to improve the regional FX reserves, Eurobonds could contribute to the latter.

Promoting financial stability and inclusion

Progress has been made by WAEMU countries on financial development and inclusion, although they still lag their peers. Mobile payments have picked up in recent years and should help large segments of the population participate in the market economy. Monitoring committees were put in place at the national and regional levels in 2017 for implementation of the regional strategy for the promotion of financial inclusion approved in June 2016 by the WAEMU’s Council of Ministers. The implementation of this strategy is expected to benefit from financial support from bilateral and multilateral donors starting in 2018, as well as technical assistance from the World Bank.

The banking system is stable and profitable overall, though there are pockets of vulnerabilities. The overall capital adequacy ratio (CAR) for the sector under Basel I was 11.4 percent at mid-2017, indicating that large groups are stable and sound. However, some banks remain under-capitalized, while several smaller banks had not met the minimum social capital of FCFA 10 billion required at end-June 2017. The authorities have asked banks to comply with their capital obligations at end-June 2018, and are closely monitoring some of these banks, expected to rebalance their assets and resources by raising additional capital and/or deleveraging.

Fostering sustainable growth

Sustaining the growth momentum will require efforts to improve competitiveness and promote diversification. Medium-term growth will continue to be driven by domestic demand but with an increasing role of private investment as fiscal consolidation takes hold and the business climate improves with structural reforms.

• Background. Survey-based indicators show that regional structural competitiveness improved in 2017, but less than in other African and Asian benchmark countries with strong growth. The WAEMU region scores low in business climate and global competitiveness indicators with significant obstacles persisting in, for instance, registering property, dealing with construction permits, getting credit and electricity, paying taxes, and the availability of infrastructure, technology, and specialized labor. In addition, governance indicators remain weak while logistics performance needs improvements. Despite high public investment spending during the past decade, the infrastructure gap remains important compared to other regions, reflecting large initial gaps as well as low public investment efficiency.

• Policies. Improving competitiveness and resilience to shocks and sustaining the recent growth performance in the WAEMU would require efforts to maintain macroeconomic stability, improve trade performance, promote efficient public and private investments, and lower costs of inputs such as transport and electricity. The national authorities should take steps to improve the efficiency of public investments as well as the investment climate by easing the above-noted impediments to doing business. At the regional level, the WAEMU Commission is taking steps to enhance the effectiveness of regional structural funds in cross-border infrastructure projects.

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Selected Issues

Growth acceleration in the West African Economic and Monetary Union

The West African Economic and Monetary Union (WAEMU) member countries have experienced growth acceleration since 2012. Relative to an earlier reference period in the 1990s, the WAEMU’s recent strong growth has coincided with an increase in macroeconomic stability and investment, improvement in political institutions, improvement in the terms of trade, and increase in productivity.

The WAEMU has experienced its longest episode of rapid economic growth since 2012 and member states’ national development plans stress the importance of sustainable growth. Achieving the latter objective calls for an understanding of the factors that have likely contributed to WAEMU’s recent strong growth performance.

This paper examines the fundamentals behind WAEMU’s recent economic growth acceleration in comparison to the group of low income developing countries (LIDCs). The paper first presents some stylized facts on growth performance in the WAEMU before providing a survey of the literature on growth regressions and growth accelerations models. It then undertakes a benchmarking exercise to compare changes in key macroeconomic variables in the WAEMU and in its peers during the last six years relative to an earlier reference period in the 1990s. Finally, the paper explores the empirical relationship between the same variables and average GDP growth during growth acceleration episodes.

Growth experience in the WAEMU: Some stylized facts

The growth performance in WAEMU countries has been variable. The average growth rate (growth volatility) during the period 1960-2017 has been 3.4 percent (4.1 percent) in the WAEMU, compared to 4.0 percent (3.6 percent) in LIDCs. The WAEMU has experienced distinct phases of peaks and troughs in economic growth and growth turning points have been abrupt. Growth fell sharply in 1972, 1983, 1992, 2000 and 2011, corresponding to the periods preceding and following the two oil price shocks of 1974 and 1981, the period preceding the CFA franc devaluation in 1994 and the more recent period of civil conflict in Côte d’Ivoire. The region has experienced a short-term peak in growth in the years 1970, 1976, and 1996. Since 2012, the WAEMU’s real GDP has grown by more than 6 percent a year, that is well above the average growth rate in Sub-Saharan-Africa (SSA) and other developing countries.

Real GDP per capita in WAEMU countries has remained mostly stagnant while it has increased in other LIDCs. Income per capita in the WAEMU was close to that of the group of low and middle-income countries or low income developing countries or SSA in the early 1960s.3 However, since then, in terms of per capita income, WAEMU’s countries have experienced a widening gap relative to other LIDCs. While the share of the WAEMU income per capita in purchasing power parity (PPP) was 108 percent of that of the group of low-income developing countries in the early1960s, it dropped to 65 percent in 2017.

The average per capita income growth in WAEMU hides some heterogeneities across member-countries since the 1960s. A close look at WAEMU’s countries suggests that per capita income increased in Benin, Burkina Faso, and Mali, improved slightly in Guinea-Bissau and Senegal, and decreased in Côte d’Ivoire, Niger, and Togo.

Côte d’Ivoire is WAEMU’s largest economy. Côte d’Ivoire accounts for more than 40 percent of the currency union’s GDP, followed by Senegal with about 15 percent. Mali, Burkina Faso and Benin have approximately similar contributions of about 10 percent individually.

A Benchmarking Approach

This section compares the WAEMU to the group of LIDCs. LIDCs are defined following the World Economic Outlook (WEO) classifications. This group constitutes 60 countries, including the WAEMU countries. Examining LIDCs allows focus on the development challenges faced by these countries, thereby strengthening the quality of the benchmarking.

The benchmarking analysis looks at changes in macroeconomic fundamentals before and during the WAEMU’s recent rapid growth episode. WAEMU member countries are benchmarked against LIDCs peers during two different time periods: 1997-99 and 2012-17. The period 2012-17 corresponds to the recent growth acceleration episode in the WAEMU. The period 1997-99 was chosen to avoid capturing the effects of civil conflict and the 1994 CFA franc devaluation. Using these two points in time may help an understanding of WAEMU’s recent growth acceleration episode, compared to the previous period.

Key macroeconomic fundamentals examined are factors highlighted in the literature as important determinants of a growth acceleration. These fundamentals include (i) macroeconomic stability, (ii) trade performance, (iii) investment, (iv) polity score, (v) terms of trade, and (vi) total factor productivity.

Macroeconomic stability: Macroeconomic stability is an important driver of growth acceleration. Countries with macroeconomic stability are better able to anchor expectations and promote high and longterm investment decisions that may help growth to be sustainable. This finding is confirmed by the Arizala and others (2017). Macroeconomic stability in this paper is captured by the inflation rate and volatility, and exchange rate depreciation and volatility. Data show that the WAEMU region has benefitted from greater macroeconomic stability than its peers in LIDCs

Trade Performance: Trade openness grew less in the WAEMU than on average in LIDCs. On average, the trade openness (measured by the sum of exports and imports-to-GDP) was about 65 percent in WAEMU countries during 2012-17, compared to 96 percent in LIDCs during the same period. In addition, trade openness increased by 12.6 percentage points in the WAEMU, compared to 14.8 percentage points in LIDCs between the two periods of comparison. The level of trade openness in 1997-99 in the WAEMU was 52 percent, compared to an average of 81 percent in LIDCs.

Investment: Growth accelerations are correlated with an increase in investment. Hausmann, Pritchett, and Rodrik, (2005) found that the transition period to a growth acceleration coincides with an increase of the investment ratio, which continues to increase during the growth acceleration episode. Evidence suggests that investment has increased more in the WAEMU than in LIDCs during the recent period of acceleration, compared to the earlier benchmark period. On average, the ratio of total investment-to-GDP increased by 6.7 percent of GDP during 2012-17 compared to 0.6 percent in LIDCs. At the WAEMU’s individual member level, investment increased particularly in Niger, Togo, Senegal and Burkina Faso well above the average level of 6.7 percent in the WAEMU. The increase in investment in the WAEMU was partly driven by the public sector. Public investment-to-GDP increased by 3.4 percentage points of GDP in the WAEMU during the two periods of comparison, compared to 1.4 percentage points in LIDCs. This increase in public investment was particularly important in Togo, Niger, Côte d’Ivoire and Senegal

Terms of Trade: Growth accelerations can be influenced by favorable terms of trade. As highlighted by Singer (1950), terms of trade changes affect funds available to developing countries for capital formation and hence growth. The average change in the terms of trade was 1.2 percent in the WAEMU in 2012-17, compared to -0.3 percent in LIDCs during the same period. Moreover, the terms of trade have somewhat improved between 1997-99 and 2012-17 in the WAEMU. The terms of trade improved particularly in Guinea-Bissau, Burkina Faso, Mali, and Côte d’Ivoire.

Productivity Gains: Productivity gains have been identified as important engines of growth acceleration. This subsection uses a standard growth accounting framework with a Cobb-Douglas production function to disentangle the sources of growth in the WAEMU and LIDCs, looking particularly at the contribution of total factor productivity (TFP). The analysis uses data from Penn World Table during the period 1960-2014 to estimate the contributions of TFP, physical capital, and labor to real economic growth.

TFP contribution was important to economic growth in the WAEMU. The average contribution of TFP for the WAEMU was 1.03 points in 2012-17 compared to 0.57 points in 1997-99. While the contribution of TFP to LIDCs’ economic growth was higher than that of the WAEMU in 1997-99, in 2012-17, TFP contribution turned to negative in this broader group. At the WAEMU’s individual countries level, TFP contribution particularly increased in Togo, Côte d’Ivoire, Niger, and Guinea Bissau.