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The Brookings Institution POLICY BRIEF July 2003 Policy Brief #121 Related Brookings Resources ’s Economic Morass—

A Strategic Vision for Africa: Will a Common Currency Help? The Movement Francis M. Deng and PAUL MASSON AND HEATHER MILKIEWICZ I. William Zartman (2002) frica, like other regions of the , is fixing its sights on creating a common currency. Already, Transatlantic Perspectives on the A there are projects for regional C. Randall Henning and Pier monetary unions, and the bidding process for Carlo Padoan Brookings/European an eventual is about to Community Studies Association begin. Is it worth the effort, and will it provide (2000) an important solution to Africa’s problems? African Reckoning: Most observers judge that those problems are A Quest for Good Governance Francis M. Deng and linked to civil conflicts, , absence of Terrence Lyons rule of law, undisciplined fiscal policies, poor (1998) infrastructure, and low investment—the last of Managing Ethnic Conflict which is due in part to foreign investors’ in Africa: Pressures and Incentives mistrust of African governments. for Cooperation In , a man stands in Donald Rothchild Monetary union can in fact address very front of a poster explaining the (1997) few of Africa’s fundamental ills. At best, it can exchange between the CFA and the euro—no longer produce low inflation, but it cannot guarantee as simple as converting to growth, and at worst, it can distract attention French . The launch of the euro has stimulated interest from essential issues. A more promising in a single currency for Africa. initiative is the New Partnership for African Development (NEPAD), through which African countries hope to exert peer pressure to correct governance failures and thus make progress in correcting Africa’s problems. It is too early to see how effective that process will be, but if it succeeds, monetary union can crown that achievement. If not, monetary union will almost certainly fail, and highlight Africa’s more fundamental policy failures.

Africa has suffered from decades of economic policies, civil wars, and The decline and marginalization, as the kleptocratic rulers. This tragedy has Brookings early hopes of rapid development and led, first, to a reexamination of the Institution enlightened government after effectiveness of aid by the major donor 1775 Massachusetts Ave., N.W. Washington, DC 20036 were dashed by poor countries, and second, a recognition

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by Africans that they need to take charge to be completed by approximately of their own destiny. Two years ago 2028. In the early stages, regional NEPAD was launched as a vehicle for cooperation and integration within improving economic and political gover- Africa would be strengthened, and this nance by Africans, and thus of assuring could involve regional monetary donors (and private investors) that unions. The final stage involves the resource flows to Africa would not be establishment of the African Central wasted. Its importance for continuing Bank (ACB) and creation of a single aid flows from the rich countries was African currency and an African reiterated at the June 2003 summit of Economic and Monetary Union. the G-8 countries in Evian, . However, if African countries do not get In addition to establishing the African their macroeconomic policies right, they Union, the 1999 calls will not benefit from better economic for shortening implementation periods and political governance and the in order to speed up the process for associated capital inflows. Instead, they creating institutions such as the African will continue to stagnate, and rich Central Bank. Though the bank would countries will draw lessons from past aid not be created until around 2020, the ineffectiveness and increasingly shun bidding process for its location is likely the continent. to begin soon, and and are among those that would like to host One important aspect of macroeco- it. In the meantime, there are plans for nomic policies is the choice of the creating various regional monetary Paul Masson is a exchange rate regime and the associated unions, which would presumably form visiting fellow in Economic Studies at . In this context, a policy building blocks for the single African the Brookings proposal currently receiving much central bank and currency. However, the Institution. attention addresses the creation of a various subregional groupings currently common African currency. The project, in place (and which do not necessarily though not explicitly linked to NEPAD, correspond to those that would is intimately associated with the newly- ultimately form the single African formed (AU), which is the currency) have very different starting larger institutional framework within points with respect to macroeconomic which NEPAD operates. A common stability, and there is even more diversity currency was also an objective of the within the regions. This calls into Organization for African Unity and the question whether a common currency is African Economic Community, the possible, even over the fairly long Heather Milkiewicz is predecessors of the AU. horizon embodied in the AU Treaty. a senior research assistant in Economic Studies at the The 1991 Treaty establishing the WHY MONETARY UNION? Brookings Institution. African Economic Community outlines There are two principal reasons for the six stages for achieving a single enthusiasm for monetary union in Africa. monetary zone for Africa that were set First, it is clear that the successful

2 Policy Brief #121 July 2003 POLICY BRIEF launch of the euro has stimulated currency may be the symbol of interest in other regions. From weakness, not strength—as was the America to the Middle East and East case for the ruble in the dying days of Asia, monetary union is seen as a way of the and at the time of reinforcing regional cohesion and the creation of the Commonwealth of demonstrating a commitment to Independent States. A currency that is regional solidarity. However, it is ill-managed and subject to continual sometimes forgotten just how long the depreciation is not likely to stimulate “It is sometimes road to monetary union in pride in the region or give the member forgotten just how actually was. The transition was fraught countries any clout on the world stage. long the road to with obstacles and missteps, and even in Moreover, as Robert Mundell, the official circles there were doubts until 1999 Nobel Prize winner in monetary union in the ultimate day of the changeover economics, emphasizes, it is great Europe actually whether the replacement of national countries (or regions) that make great was. The transition currencies by euro notes and coins in currencies. While the countries in the was fraught with January 2002 would go smoothly. euro zone are important enough Designing new institutions that were economically for the euro eventually obstacles and able to deliver stability-oriented to rival the dollar, that is not likely to missteps.” monetary policy—particularly the be the case for an African currency European System of Central Banks— even in the best circumstances. Africa’s was complicated, as was creating the (GDP) is, and Solidarity and Growth Pact, which is likely to remain, only a small fraction provides for regional coordination of of that of Europe or the United fiscal policies. Despite the intense States—in fact, at present it is roughly planning process, the institutions are equal to ’s. still the object of considerable contro- versy and contention. If the process was THE STATE OF AFRICAN so difficult for a set of rich countries CURRENCIES with highly competent bureaucracies Africa already has two functioning which have cooperated closely for more monetary unions: the CFA franc zone than fifty years, then realistically, the (composed mainly of former French challenge for African countries must be colonies, with the currency linked to the considered enormous. euro) and the Common Monetary Area, (CMA, centered on ’s The second important motivation in rand). Both are longstanding and have Africa has been the desire to been generally successful in providing counteract perceived economic and low inflation. However, both have also political weakness by putting in place suffered from periods of instability. In regional institutions, of which a 1994, the CFA franc was devalued by common currency and monetary union 50 percent, while the rand has experi- would be potent symbols. What is less enced a marked depreciation against well understood is that a common major currencies since 1990, and a

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recent period (1998-2002) of especially would find undesirable. Without an high volatility. Moreover, trade remains effective way of disciplining countries’ low in the CFA zone—intra-CFA trade fiscal policies and in the absence of is only 7 percent of total trade—and the similar shocks to the prices of zone has not grown noticeably faster countries’ exports and imports (or than neighboring countries. In southern “terms of trade”), a single currency for Africa, the smaller CMA members have ECOWAS would not seem advisable. tended to converge toward South “A common Africa’s higher per capita income, but In , countries that the same is even more true for comprise the Southern African currency may be Botswana, which left the monetary Development Community (SADC) the symbol of union in 1976. intend to form a monetary union, weakness, not though this is a much vaguer and more strength—as was PROSPECTS FOR REGIONAL distant project. Many SADC members MONETARY UNIONS are in any case very far from macroeco- the case for the As mentioned above, there are already nomic stability. The southernmost ruble in the dying several projects for new regional countries, South Africa and other days of the monetary unions in Africa. members of the Southern Africa Soviet Union.” Customs Union, are reasonably The West African Monetary Zone is to advanced and stable. However, their be created in July 2005 and is to lead neighbors to the north include in 2006 to a merger with the West countries with recent or continuing African part of the CFA franc zone to problems of civil unrest (, produce a single currency for the Democratic of the , and Economic Community of West African ) as well as some facing States (ECOWAS), which counts severe drought and poverty ( and fifteen countries among its members, , for instance). Their financial including the eight members of the systems are generally much less CFA franc zone plus , the developed than those of the south- Gambia, Ghana, , , ernmost countries and the shares of , and . However, manufactures in production and exports Nigeria will make a difficult partner are low. for the rest of . Given Nigeria’s much larger size, large budget The Commonwealth of Eastern and deficit, generally undisciplined fiscal Southern Africa (COMESA), a group of policies, and an export structure that countries that cuts across two differs greatly from its neighbors geographical regions, also is developing (which export other primary a monetary union project, and three of commodities while Nigeria exports oil), its members—, , and Nigeria has the potential to influence —plan to revive the East African monetary policies in ways that Community that dissolved in the decade potential partners in a monetary union following independence. Indeed, these

4 Policy Brief #121 July 2003 POLICY BRIEF different projects illustrate a Figure 1: pervasive problem in Africa— Membership in Regional Arrangements overlapping commitments that are not necessarily consistent. Within the five main regional groupings associated with the AU (the three mentioned above along with the Arab Union and the Economic Community of Central African States), ten countries belong to more than one regional grouping, with the Democratic holding three memberships (see figure 1). AMU - ECOWAS - Economic , , , Community of West Attempts to advance on too , African States , , Cape many fronts often result in COMESA - Common Market Verde, Cote d’Ivoire, Ghana, for Eastern and Southern Guinea, Guinea-, inaction. Disparities among Africa Liberia, , , Nigeria, COMESA countries are about Angola, , , , Sierra Leone, Democratic Republic of Gambia, as important as those affecting Congo, , , SADC; but COMESA’s , , Kenya, SADC - Southern African , Malawi, Development Community drawback is that South , , , Angola, Botswana, Democratic Africa—the greatest pole of , , Swaziland, Republic of the Congo, Uganda, Zambia, Zimbabwe , Malawi, Mauritius, monetary stability in the , Namibia, region—is not one of its ECCAS - Economic South Africa, Swaziland, Community of Central Tanzania, Zambia, Zimbabwe members. Various officials African States Burundi, , Central have suggested merging or African Republic, , closing down some regional Democratic Republic of Congo, , groupings, or having each , Rwanda, Sao Tome country choose a single and Principe arrangement to which it would Source: Report on the Third African Development Forum, Economic Commission for Africa. belong. It will be important to rationalize regional commit- ments to maximize their effectiveness. CFA franc zone and the CMA) by adding to them countries that have Rather than aiming for new, ambitious demonstrated their commitment and monetary unions, a more promising ability to deliver sound economic strategy would be to build on the credi- policies by satisfying convergence bility of existing monetary unions (the criteria for a significant length of time.

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Unfortunately, the western Figure 2: African CFA franc zone has Origin and Destination of Africa’s Trade in 2000 been hurt by unrest in Cote Africa d’Ivoire and its central African counterpart is Europe composed mainly of oil- WesternHemisphere producing countries with pronounced terms of trade Asia swings. Extending the CMA, Middle East where South Africa is a fairly Source: Direction of Trade Statistics (International Monetary stable, developed pole, may Fund, 2002) be a more attractive possi- bility in the short run. However, its much smaller than in Europe. Consistent with the gravity model, SADC neighbors are, with a few excep- which posits that a country will trade tions, too far from the macroeconomic more with countries that have higher stability necessary to converge with per capita incomes, most African trade South Africa and share the same is conducted with the richer countries currency, so many will not be candi- of Europe, North America, and Asia (see dates to join for decades. Moreover, the figure 2), and will remain so. strategy of making good policies a precondition for entrance into a A second important reason to create a monetary union is fully consistent with monetary union may be to improve on the principles of NEPAD, namely peer the monetary policies provided by review by African countries. This national central banks, which have approach, if properly applied, can be typically fallen prey to pressures to expected to be much more effective finance government deficits and hence than external pressures exerted by have produced high inflation and depre- donors or by international financial ciating currencies. There may be some institutions. But it is unlikely to favor advantage to delegating monetary policy the quick enlargement or de novo to insulate it from pressures to finance creation of monetary unions. governments. However, unless this occurs in the context of a large, stable IS A COMMON AFRICAN anchor country (e.g., South Africa) or CURRENCY A GOOD THING? existing multilateral institutions with a An important motivation for monetary track record of independence and union in Europe was to reduce the costs sound policies (e.g., the West African of changing money associated with CFA franc zone’s central bank), new trade and tourism. However, intra- institutions are unlikely to provide a African trade is modest, so gains for a durable “agency of restraint.” Instead, monetary union deriving from lower large countries (whose governments transactions costs would necessarily be exert an important influence over

6 Policy Brief #121 July 2003 POLICY BRIEF monetary policy actions) will continue ● Stop regional conflicts through to use the central bank as a printing regional peacekeeping forces and by press, directly or indirectly financing making concerted regional efforts to their spending. This was the experience prevent armed involvement and before the 1994 devaluation of the CFA material support of rebels by neigh- franc in both western and central CFA boring countries “Monetary union franc zones. Hopefully, reinforced fiscal ● Increase transportation and commu- should not be seen surveillance and the recent agreement nication links to stimulate trade and to eliminate completely central bank competition and to exploit economies as a panacea or be advances to governments have solved of scale driven by a the problem in the CFA franc zone. ● Adopt sustainable macroeconomic grandiose political However, the mere creation of a policies by making currencies regional central bank will not ensure its convertible and monetary policies vision that hopes to independence from fiscal policy. consistent with low inflation, reducing find a symbol of budget deficits, and eliminating central unity and stability Monetary arrangements cannot provide bank financing of when the reality is solutions to the profound development ● Promote and attract investment in problems facing many African infrastructure, health, and education by quite different.” countries. At best, a monetary regime convincing donors and private investors supported by fiscal discipline and good of African countries’ ability to provide a structural policies can provide a stable, non-corrupt environment based framework for low inflation. It cannot on the rule of law. guarantee high growth. Thus, monetary union should not be seen as a panacea NEPAD must prove itself in the above or be driven by a grandiose political four areas, and deliver on its peer review vision that hopes to find a symbol of mechanism. If it does, and a genuine unity and stability when the reality is domestic consensus in favor of sound quite different. policies emerges in African countries, Africa can benefit from more generous THE WAY FORWARD aid flows from donors, as was recently The solution to African economic reaffirmed by the G-8 countries at their problems does not lie with political Evian summit. Moreover, monetary This policy brief is gestures and grand schemes. union should then be easy to achieve, to based on research Appropriately, the creation of NEPAD is “crown” the reality, not just the promise, a recognition that governance problems of African unity. However, if NEPAD from The Monetary are key, and that it is the responsibility and African governments fail, they risk Geography of Africa of African governments to put their own getting lower aid flows than in the past, by Paul Masson and houses in order—but also that peer as donors, noting a history of aid Catherine Pattillo, pressure within Africa can help in that ineffectiveness, pull back further. due out next year process. There are four priority areas Attempts to forge a grand monetary from the Brookings where actions by African countries are union would likely produce yet another Institution Press. most essential:

Policy Brief #121 July 2003 7 POLICY BRIEF failure that harms, rather than helps, however, has yet to be seen. Signals regional solidarity and integration. from heads of state are thus far not promising. If cannot The NEPAD process has just begun. As bring himself to condemn Zimbabwe’s of May 31, 2003, fifteen African excesses in both the political and the countries have agreed to submit economic realm, what hope is there Recent Policy Briefs themselves to the African Peer Review for frank discussion and finger- •“The Promise of National Mechanism (APRM), a self-monitoring pointing at lesser sins, like budget Service: A (Very) Brief organization comprised of African History of an Idea” deficits over 5 percent of GDP or Union member states. The purpose of E.J. Dionne, Jr. and Kayla excessive foreign borrowing? Meltzer Drogosz the peer review panel, which will have (June 2003) between five and seven members, is to •“Greening U.S. Foreign African leaders must recognize and Aid through the promote the implementation of policies assume responsibility for their current Millennium Challenge and standards that will lead to political Account” financial problems in order to pave the Nigel Purvis stability, economic growth, devel- (June 2003) opment, and integration on a regional way toward regional economic • “An Economic Perspective integration. On the contrary, if nations on Urban Education” and continent-wide level. The recently William G. Gale, selected panel consists of six well- throughout Africa continue to be beset Meghan McNally, by civil wars, poor infrastructure, unsus- Janet Rothenberg Pack respected Africans from various disci- (May 2003) plines and includes Graça Machel, tainable fiscal policies, and low humanitarian, former first lady of investment linked to corruption and the •“Financial Conglomerates: The Future of Finance?” Mozambique, and wife of former South absence of rule of law, a monetary Richard J. Herring, Robert E. Litan African President Nelson Mandela. union will only accentuate the failure of (April 2003) Africans to tackle these more funda- How the APRM will be applied, mental problems.

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