Morocco -- Preliminary Findings of the 2008 Article IV Consultation
June 25, 2008
Describes the preliminary findings of IMF staff at the conclusion of certain missions (official staff visits, in most cases to member countries). Missions are undertaken as part of regular (usually annual) consultations under Article IV of the IMF's Articles of Agreement, in the context of a request to use IMF resources (borrow from the IMF), as part of discussions of staff monitored programs, and as part of other staff reviews of economic developments.
May 30, 2008
1. A mission from the International Monetary Fund (IMF) visited Rabat from May 19 to 30, 2008 to conduct the 2008 Article IV discussions. The mission wishes to thank the Moroccan authorities for their warm welcome, excellent cooperation, and the very constructive discussions.
2. Morocco continues to reap the benefits from its reforms efforts, notably the implementation of sound economic and financial policies. Significant progress has been achieved in recent years in stabilizing the macroeconomic environment, bolstering the capacity of the economy to withstand shocks, and strengthening the fiscal position. These achievements place the country in a relatively favorable position to absorb, in the short term, shocks linked to the deterioration of the global environment and to adopt the appropriate economic policy responses to the sustained increase in commodity prices. This will be necessary not only to preserve the gains already achieved, but also to bring about a lasting improvement in the income and employment of the Moroccan population.
Recent economic performance
3. Recent economic results demonstrate the resilience of the Moroccan economy. Nonagricultural GDP has grown by an average of 5½ percent since 2004, driven by strong domestic demand. While the economy continues to be adversely affected by climatic conditions, as shown by the slowdown in real GDP growth to 2.2 percent in 2007 due to a sharp fall in cereal production, greater diversification of the economy has made growth less volatile and less dependent on the vagaries of the weather.
4. Morocco's external position remains sound. Export performance has been good, although imports have grown even more rapidly due to strong growth in volumes and sharp increases in the world prices of oil and foodstuffs. Tourism receipts and remittances from Moroccans living abroad held up well and almost offset the trade deficit, allowing the current account to be almost in balance in 2007. As a result of strong foreign direct investment, external reserves increased by US$4 billion in 2007 to reach US$24 billion at year end—the equivalent of 6.8 months of imports of goods and non factor services for 2008.
5. Consumer price inflation was 2 percent in December 2007. Despite an upward trend since early 2008, with prices 3.7 percent higher at end-April 2008 (y-o-y), inflation remains relatively low, in part because administered prices have not been adjusted since the beginning of 2007. Full pass-through of the increase in oil and commodities prices would have significantly increased the inflation rate. Against this background, the central bank kept its key policy rate at 3.25 percent.
6. Fiscal performance has improved considerably in recent years. The budget was close to balance in 2007, significantly lower than the deficit of 2 percent of GDP recorded in 2006 and the target of 3.4 percent of GDP set in the 2007 Budget Law. This is due mainly to strong growth in tax receipts, which were 3 percentage points of GDP higher than in 2006. The higher receipts were partly offset by increased expenditure, in particular on subsidies for petroleum products and staple foods, and on investment spending. Outstanding government debt was reduced to 55 percent of GDP, compared with 58 percent in 2006 and 62 percent in 2005. In addition, the Treasury repaid in full the cash advances that BAM had granted it before the 1980s.
7. The marked deterioration in the international environment in 2008 presents new challenges. Although the turbulence on world financial markets has hardly affected Morocco so far, slower world growth, especially in the European Union, could lower growth in Moroccan exports. As well, higher commodity prices could lead to a further deterioration in the trade balance, in spite of the surge in the price of phosphates. However, tourism receipts and remittances from Moroccans living abroad, which constitute the other main current account items, have improved over recent years and their contribution to GDP should remain relatively stable in the medium term. Similarly, foreign direct investment is increasing and this trend should continue. Thus, the balance of payments position should remain comfortable, despite the slight current account deficit.
8. In spite of the more difficult global environment, economic activity should remain strong in 2008. Domestic demand has been the principal engine of growth in recent years and should be only mildly affected by external developments. Accordingly, real GDP growth should be around 6½ percent in 2008, thanks to the rebound in agricultural production and the continuing expansion of the nonagricultural sector. In the medium term, real GDP growth should be around 5½ to 6 percent.
Economic policy issues
9. The strengthening of the fiscal position in recent years, and in particular the significantly lower public debt burden, has improved investors' perception of Morocco's creditworthiness. This enabled Morocco to obtain an "investment-grade" rating on its most recent sovereign bond issue. Moreover, fiscal consolidation potentially opens up fiscal space to meet public policy priorities such as higher investment and education expenditure and continued tax reform.
10. However, soaring world prices for oil and some commodities have drastically altered the budgetary environment. The decision to not pass on the increase in world prices to domestic prices to protect purchasing power has led to a significant increase in spending on subsidies. Such expenditure could double as a share of GDP in 2008 to reach about 5 percent, higher than investment expenditure. Increased spending on subsidies, combined with the impact of the increases in some civil service salaries granted in the spring of 2008, could lead to a marked deterioration in the fiscal position.
11. The notable improvement in the fiscal position in recent years will, in the short term, allow this increased expenditure to be absorbed without jeopardizing macroeconomic stability. But in the medium term, sustained growth in current expenditure, especially on subsidies, could undermine the achievements of recent years, in particularly by leading to higher deficits and slowing the downward trend in public debt. These developments could thus, in the long term, put at risk efforts to boost public investment and strengthen social services and, ultimately, imperil economic growth. A continued upward trend in the world prices of imported products would reinforce the need to adopt economic policy measures to guard against a serious deterioration in the fiscal position.
12. Accordingly, the authorities' intention to meet the 2008 Budget Law deficit target, and to gradually unwind the current system of universal subsidies by better targeting them to the poor, is welcome. A radical reform of the subsidy system may be difficult to implement in the short term. However, the authorities are encouraged to adopt, as soon as possible, measures that can be implemented immediately, for example by reducing subsidies for products that are consumed mainly by more well-off households. Rationalizing the price structure of some products, including margins, is also important to reduce some of the inefficiencies inherent in the current subsidies mechanism. Moreover, the reallocation of certain current expenditure within the budget could limit the impact of higher subsidy spending on the deficit.
13. Curbing the increase in current expenditure depends crucially on the evolution of spending on subsidies and the wage bill. Provided that the subsidy system is rationalized and the wage bill gains achieved in 2005 are preserved, the public finance outlook is encouraging. The revenue performance of recent years should continue, albeit at a slower rate, reflecting the importance of the reforms initiated to restore the integrity of the tax system (in particular, by progressively abolishing special regimes and expanding the tax base),strengthen tax administration, and improve taxpayers' compliance. Fiscal policy should continue to be geared toward public finances consolidation in the medium-term, anchored by an objective that would allow the public debt ratio to be progressively reduced while at the same time guaranteeing that sufficient resources are available to finance public priorities. The mission considers that a small primary surplus would reinforce macroeconomic stability and allow Morocco to bridge some of the gap between its public debt ratio and that of the emerging countries with a comparable sovereign rating.
Monetary and exchange policies
14. BAM has managed well the strength of domestic demand. The current level of inflation largely reflects the impact of exogenous factors, and the mission considers that the monetary policy stance remains appropriate in the current economic environment. Monetary policy decisions could be more difficult in the period ahead if import price increases prove to be lasting, and if some administered prices are progressively adjusted upward. The wage increases awarded in the context of the Spring 2008 social dialogue, which come into effect on July 1, could also have an impact on inflation through second-round effects. If these risks do not materialize, the mission projects average inflation at around 3 percent in 2008. BAM is well aware of what is at stake in the new environment, and the mission notes with satisfaction its determination to defend price stability.
15. The current exchange rate arrangement, under which the dirham is pegged to a basket composed of the euro and the dollar, has provided a sound basis for monetary policy and contributed to macroeconomic stability. Furthermore, the mission's analyses suggest that the exchange rate level is in line with economic fundamentals. The mission notes the authorities' intention to gradually move to a more flexible exchange rate arrangement, which should help Morocco to continue to integrate into the world economy. The authorities have made significant progress in preparing for the introduction of a more flexible regime accompanied by an inflation-targeting framework. In particular, progress has been made in the analysis and monitoring of financial markets, and the communication of monetary policy decisions. Moreover, the ongoing deepening of the foreign exchange market is preparing market participants to better manage foreign exchange risk.
16. The authorities continue to pay particular attention to consistency between the pace of capital account liberalization and the pace at which the exchange rate regime becomes more flexible. Although it is still too early to assess the effects of the capital account liberalization measures adopted in August 2007, the liberalization of forward cover facilities led for a short time to increased use of exchange rate risk hedging mechanisms on current account transactions, as a result of the volatility of the euro-dollar exchange rate in the fourth quarter of 2007.
Reform of the financial sector
17. The mission presented to the authorities the findings of the joint IMF and World Bank report on the updating of the Financial Sector Assessment Program (FSAP). The FSAP team found that the banking sector is generally sound and resistant to shocks. It stressed that to continue the strategy of increasing the openness of the economy, it is necessary to step up preparation of all actors—the authorities, central bank and other supervisory bodies, financial sector, and economic operators—for the advent of a more open economic and financial system and, in particular, to increase their capacity to manage the ensuing risks. The team also stressed the need to continue to develop the insurance and capital markets. Finally, although the Moroccan financial sector has hardly felt an impact from the turbulence that has affected international financial markets, it is important that all supervisory agencies remain attentive to ensure that the sector is equipped to cope with a more volatile global environment.
18. The authorities remain vigilant with respect to the rapid credit growth. In this respect, the mission welcomes BAM's intention to raise the capital adequacy ratio to 10 percent at end-2008 and to 12 percent at end-2009, which would bring Morocco in line with the best practices of emerging market countries. Furthermore, the startup of the credit bureau will improve the management of credit risk.
19. The real estate sector requires special attention owing to the spectacular price rises in some segments. Higher demand from nationals, due partly to higher incomes in recent years, and strong foreign demand have contributed to this increase. While the stock of real estate credit remains low in relation to GDP (14 percent at end-2007), its rapid growth over a very short period could constitute a risk to economic activity. In this connection, BAM has strengthened its toolkit for monitoring these risks and, at its request, banks have adopted a code of ethics in line with best practices. These measures have contributed to the slight slowdown in the growth of real estate credit in the first four months of the year.
20. Strong and sustained economic growth will require further reforms to improve the productivity of the Moroccan economy, which has grown less rapidly than in the most dynamic emerging market countries, and to reduce costs in the economy. Continued sectoral reforms—especially in agriculture, energy, and domestic trade—as well as education reform and strengthening of infrastructure and social services, have a key role to play in boosting investment, production and employment, and in improving incomes.
21. Considerable progress has been made in liberalizing trade, particularly as a result of the recent free-trade agreements. The mission welcomes the authorities' decision to continue their liberalization efforts, in particular by reducing most-favored nation import duties to avoid the risk of trade flows diversion. With regard to bilateral and regional free trade agreements, ensuring their coherence is important to maximize their benefits.
22. The authorities are encouraged to continue their efforts to strengthen the statistics system, including by the introduction of intra-annual surveys and the rapid publication of the new consumer price index. These efforts should make it possible to better monitor economic activity in the rapidly changing Moroccan economic environment.