Public Information Notice No. 05/151

Public Information Notice: IMF Executive Board Concludes 2005 Regional Consultation with the Central African Monetary and Economic Union (CEMAC)

November 1, 2005

On June 17, 2005, the Executive Board of the International Monetary Fund (IMF) concluded the Regional Consultation with the Central African Monetary and Economic Union (CEMAC).¹

Background

Five out of six CEMAC members are oil producers and the effects of oil windfalls dominated economic developments in 2004. Region-wide real GDP growth in 2004 reached 8.3 percent, the highest level in 10 years, driven by growth in the oil sector. Real oil GDP grew by more than 21 percent, mainly as oil output in two member countries—Chad and Equatorial Guinea—increased markedly. Oil prices increased by over 30 percent during the year and oil now accounts for nearly 80 percent of the region's exports.

Growth developments in the non-oil sector were less encouraging. Region-wide non-oil GDP growth slowed from 3.6 percent in 2003 to 3.2 percent in 2004, the lowest level in five years. This performance resulted from a drought and locust-related decline in non-oil output in Chad, and roughly constant or only slowly improving non-oil growth in the remaining oil-exporting CEMAC member countries. The Central African Republic, a post-conflict country and the sole non-oil exporter in the CEMAC region, halted its two-year economic decline but grew by less than 1 percent.

Broad money growth was moderate, and inflation in the region declined further to 1.7 percent—below euro-area levels. Money growth was contained as the strong increase in the central bank's net foreign assets was offset by the increase in oil-producing countries' government deposits with the BEAC. The favorable inflation performance—in spite of the overall high growth and significant reserve inflows—was helped by positive agricultural developments in almost all countries, as well as by the appreciating nominal exchange rate vis-à-vis the U.S. dollar. Yet, inflation performance differed significantly across the region. In Chad and the Central African Republic, both countries with stagnant or declining domestic demand, the price level dropped. Inflation in Equatorial Guinea reached 8 percent, reflecting mainly supply bottlenecks in the country's fast-growing economy.

In line with higher oil output and increasing oil prices, the region-wide fiscal position further improved in 2004. The CEMAC as a whole posted an overall fiscal surplus (excluding grants) estimated at 3.1 percent of GDP. The positive fiscal outcomes were in part due to windfall revenues from higher oil prices. For the region as a whole about one-fourth of oil windfall receipts associated with the price increases accrued to the budgets of oil producers. Different structures and ownerships of oil sectors led to different budgetary impacts across member countries, ranging from about half of the additional revenues in Cameroon to less than 10 percent in Chad. As a result of improved non-oil revenue collection in some member countries, the region-wide non-oil overall fiscal deficit (excluding grants) also improved slightly, even though in Cameroon, the largest CEMAC economy, the non-oil fiscal balance deteriorated by 1 percent of non-oil GDP. At more than 12 percent of non-oil GDP, the non-oil deficit remains sizeable, underscoring the fundamental dependence of the region on oil receipts for government finance.

External sector developments in 2004 were favorable. Despite a strengthening of the CFA franc by about 3 percent in real effective terms, the current account deficit declined from more than 5 percent in 2003 to about 2 percent of GDP in 2004, and the reserve position strengthened. In line with differing inflation performance, real exchange rate (REER) appreciation was most pronounced in Equatorial Guinea, whereas REERs in other member countries stayed largely constant or appreciated slightly. The region's exports (in U.S. dollars) increased sharply, mostly reflecting oil windfalls, which are estimated at more than 17 percent of region-wide GDP. Non-oil exports as a share of GDP remained constant at 13 percent. Imports also increased albeit at a somewhat lower rate. Import demand is partly determined by oil-related equipment imports, which tend to move with production and investment cycles. Intraregional trade stayed unchanged at 1.3 percent of total exports, significantly lower than in other regional groupings, including in the West African Economic and Monetary Union (WAEMU). Given the BEAC's repatriation and reserve pooling arrangements, the strong oil-related inflows in 2004 almost doubled the BEAC's net foreign assets to more than US$3 billion.

The region's economic prospects continue to be dominated by developments in oil markets. Growth in 2005 is forecast to remain strong at about 5 percent, yet below the 2004 rate, which benefited from the strong impetus of Chad's oil production coming on-stream. The overall fiscal balance, including oil, is forecasted to remain roughly constant. However, with oil prices expected to remain high, there could be a further round of favorable oil export and budget windfalls. The prospects for a strengthening of the non-oil sectors in the short term appear to be slight.

Executive Board Assessment

Directors welcomed the positive macroeconomic developments in the Central African Economic and Monetary Union in 2004, while noting that the situation varies across the member countries. Higher oil output and prices led to a near doubling of the region's aggregate economic growth, a marked improvement in the balance of payments and fiscal accounts and an accumulation of international reserves. In addition, inflation remained low as a result of the peg of the CFA franc to the euro, the improved fiscal performance, and the positive agricultural developments in most member countries.

Directors noted, however, that non-oil growth for the region weakened slightly in 2004. They underscored that the achievement of higher non-oil growth will be necessary to sustain higher overall growth rates. In this regard, the key challenges for CEMAC will be to improve the competitiveness of the non-oil sector and diversify the output base. Directors observed that, while CEMAC shares many of the growth challenges facing other sub-Saharan African countries, its task is more complex given the exchange rate regime, the volatility of oil receipts, and the expected depletion of oil reserves in several member countries over the medium term. They therefore stressed the importance of steady progress on structural reforms to strengthen non-oil growth, diversify exports, and advance toward the Millennium Development Goals. In this regard, they welcomed the broad-based structural measures proposed under ongoing trade initiatives, such as the Economic Partnership Agreement with the European Union, which could lead to important improvements in the business environment in CEMAC member countries.

Directors underscored the importance of fiscal discipline in member countries. They welcomed the prudent management of the increased oil revenue, most of which has been saved in the form of higher foreign exchange reserves. However, as oil prices are expected to remain high in the medium term, and given the overall favourable fiscal and external positions, Directors acknowledged that there could now be scope for some cautious additional spending on infrastructure and poverty-reduction programs. Additional spending must, however, be consistent with medium-term fiscal and debt sustainability of individual members and their absorptive capacity.

Directors welcomed the increase in international reserves, but noted that they may need to increase further in view of the fixed exchange rate regime and the underlying economic vulnerabilities. Directors supported the creation of country-owned oil stabilization funds and "funds for future generations" under the management of the regional central bank, provided that this does not weaken the BEAC's external position and that the funds are managed efficiently and with full transparency. Furthermore, they stressed that any changes in the institutional arrangements for managing oil receipts must take into account the need to maintain an adequate level of reserves. Since oil is by far the predominant export, Directors recommended that a part of the oil export receipts continue to be placed in the common pool of reserves.

Directors observed that monetary policy has been broadly successful in keeping liquidity and inflationary pressures under control. They commended the recent measures by the regional central bank to strengthen its monetary policy framework, and the progress made toward the establishment of a regional payments platform. They stressed the importance of gradually shifting toward the use of market-based instruments in the conduct of monetary policy, but noted the lack of such instruments given the region's shallow and segmented money markets. Directors therefore urged faster progress in finalizing the abolition of statutory advances to member countries and their replacement with treasury bills.

Directors noted the continued weaknesses in the region's banking sector, including a high level of non-performing loans and some banks' failure to comply with capital adequacy standards. Directors stressed the importance of strengthening the regional supervisory agency. Directors also noted the very low level of bank credit to the private sector. They encouraged the authorities to step up their efforts to develop a sound and competitive financial sector, as this will be crucial to the development of the non-oil sector. Directors supported the use of a regional FSAP to help guide a comprehensive reform of the financial sector.

Directors expressed concern that continued obstacles to trade and financial market integration have resulted in low levels of intra-regional trade and capital flows and prevented CEMAC from reaping the full benefits of regional integration. They regretted, in particular, the persistent lack of implementation of agreed regional policies. They stressed that commitment to, and compliance with, the convergence criteria is crucial to the integration process and to the strengthening of investor confidence and the business environment in the region.

Directors encouraged the authorities to increase the effectiveness of existing regional institutions and agreements before pursuing additional regional integration efforts. They cautioned that prematurely integrating CEMAC with a broader group of countries could hamper the necessary deepening of common policies in the existing area. They stressed that changes to the regional integration pattern will need to be consistent with efforts to further trade liberalization.

Directors commended the regional authorities for improvements in the regional surveillance process, in particular the more nuanced review of member countries' fiscal stance. They suggested that further changes should aim at strengthening the effectiveness of the regional surveillance framework, including the introduction of appropriate incentives and sanctions and the strengthening and harmonization of the legal and institutional framework in the region. They supported the formalization of the Fund's regional surveillance of CEMAC and its integration with the Article IV consultations with individual countries, which could help strengthen CEMAC's regional surveillance process. Directors emphasized, however, that the lack of resources in CEMAC for continuous regional surveillance and adequate follow-up on findings needs to be addressed.