## sipea2024013

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---

### Introduction and recent developments
- Monetary policy in the WAEMU faced simultaneous challenges: a short-lived but significant inflation spike, a persistent erosion of external reserves, and strains in the regional financial market.
- BCEAO operational actions:
  - Gradual policy rate increases from mid-2022 onward.
  - Shift from fixed to variable-rate refinancing (FRFA → FQVR) in early 2023 to ration liquidity.
  - Secondary-market sovereign security purchases and emergency bank lending facility use in the second half of 2023.
- Implication: constrained conduct of monetary policy and a need for enhanced monetary-fiscal policy coordination to meet medium-term reserves objectives.

### Monetary policy objectives and institutional framework
- Primary objective: maintain price stability as defined in Article 8 — year-on-year CPI inflation rate of 2 percent with a margin of +/- 1 percentage point over a 24-month horizon.
- Secondary objective: support sound and sustainable economic growth, subject to the primary objective.
- Additional mandates (Article 9): preserve banking and financial system stability and manage pooled FX reserves to ensure viability of the hard peg of the West African CFAF to the Euro with a convertibility guarantee from France.
- Main authorities:
  - Monetary Policy Committee (MPC): defines stance and instruments (Article 66).
  - Governor: implements policy, regulates bank liquidity, sets minimum refinancing amounts, and decides on fixed vs. variable rates (Article 62).
- Reserve adequacy trigger: Article 76 requires reassessment of policies when FX reserve coverage of BCEAO sight liabilities falls below 20 percent for three months.

### Timeline and magnitudes of key macro-financial indicators and policy actions
- Inflation:
  - Peaked at 8.8 percent in August 2022.
  - Declined to 7 percent at end-2022.
  - Returned within the BCEAO’s 1-3 percent target band since August 2023.
  - Non-food inflation: peaked at 5 percent (y/y) in February 2023 and fell to 2.9 percent in November.
- FX reserves:
  - US$24.2 billion at end-2021.
  - US$18.5 billion at end-2022.
  - US$17.6 billion in February 2023.
  - US$17.4 billion by end-February 2023 (covering only two-thirds of BCEAO sight liabilities at that time, down from about four-fifths at end-2021).
- BCEAO refinancing and liquidity:
  - Outstanding BCEAO refinancing at end-2022 was 49 percent higher than one year earlier, with 89 percent of that increase occurring in the second half of 2022.
  - BCEAO provided more liquidity while raising interest rates in 2022.
- Policy rate movements and operational changes:
  - FRFA rate lowered by 50 basis points to 2 percent in June 2020.
  - Policy rate hikes of 25 basis points each in June, September, and December 2022 (total 75 basis points from June 2022 to end-2022).
  - Shift from FRFA to FQVR in mid-February 2023; additional 25 basis points hike in March 2023.
  - Average bank refinancing rate rose toward the ceiling of the policy corridor (5 percent) by end-March 2023, implying an effective tightening of 300 bp from June 2022 to March 2023 if interpreted cumulatively in context.
  - Under FQVR, average interest rates in weekly/monthly refinancing auctions remained stuck at the ceiling of the monetary policy corridor between late March 2023 and end-June 2023; the average interbank rate exceeded the same ceiling.

### Shift from FRFA to FQVR: rationale, mechanics, and consequences
- Pre-Covid practice: variable-rate refinancing (FQVR) with fixed quantities; money market marginal rate equals last bid served.
- March 2020 shift to FRFA aimed to mitigate liquidity risk and support bank access to central bank funds.
- Fund staff recommended making FRFA permanent because FRFA:
  - improves monetary policy effectiveness by aligning the policy rate and average rate across bids;
  - is useful where interbank markets are segmented and illiquid and prevents funding market freezes;
  - avoids need for central bank to forecast bank liquidity precisely under fixed exchange rate regimes;
  - can reduce liquidity premium on sovereign bonds by providing funding-cost certainty to banks.
- Mid-February 2023 reintroduction of FQVR to curb FX reserve erosion; FQVR considered “normal functioning” and potentially more effective in limiting reserve outflows.
- Consequences of FQVR reintroduction:
  - Excess demand led average bank refinancing rates to rise above the minimum bid rate and reach the ceiling (5 percent) by end-March 2023.
  - Quantitative cap supplied less liquidity than banks demanded, undermining steering of operational interest-rate targets.
  - BCEAO used discretionary deviations from strict prorating to preserve financial stability, increasing uncertainty about access to central bank liquidity and boosting liquidity premia.
  - Given limited transmission channels and a relatively closed capital account, policy rate hikes had limited short-term efficacy in quickly restoring FX buffers.

### Policy trade-offs and constraints
- Trade-off faced by BCEAO:
  - Maintain accommodative FRFA to support banks and activity versus cap refinancing via FQVR to limit FX reserve erosion without dramatically raising FRFA rate.
- Concerns:
  - Aggressive FRFA rate hikes could be excessive given receding headline inflation and projected return to target, and could undermine support for growth.
- Operational constraints:
  - FQVR cap prevented steering of operational interest rates and required discretionary allocations for stability.
  - Shallow and segmented interbank market, illiquid secondary sovereign debt markets, and small equity markets impair transmission of monetary policy.

### Market disruption and bank exposures (rollover and interest-rate risks)
- Banks buy about 90 percent of WAEMU sovereign securities; these are main collateral for BCEAO refinancing.
- Reintroduction of FQVR in early 2023 was sudden, contracting bank access to refinancing while liquidity needs rose.
- Auction and market disruptions:
  - Subscription rate on the auction segment plunged from near 100 percent to about 50 percent in March 2023 and five auctions were postponed or cancelled.
  - Overall financing raised through sovereign security auctions fell significantly.
  - Average yield rose by 150 bp in February-March 2023 to reach 6.2 percent.
  - Average maturity was more than halved to 13.1 months.
  - By June 2023 average yields for issuances on the auction segment reached 7.3 percent.
  - Yield increase particularly pronounced for maturities between 3 months and 3 years, causing inversion of primary yield curve, notably for Côte d’Ivoire (accounts for more than 40 percent of the stock of sovereign securities issued in the WAEMU).
- WAEMU banks’ sovereign claims as a share of total assets:
  - 29 percent at end-2019.
  - 38 percent at end-2022.
- More than four fifths of banks’ sovereign exposures are securities; about two-thirds were issued at relatively low yields and increasing tenors under FRFA.
- Less than 1 percent of security portfolio is recorded as for trading purposes, implying valuation-loss concerns had marginal effect on appetite for sovereign exposure.
- Lower bank appetite raised concerns about member-States’ ability to cover funding needs, including debt rollover.

### BCEAO secondary purchases, concomitant primary issuances, and magnitudes
- BCEAO secondary market purchases:
  - June 27, 2023: announced purchase of CFAF 1 trillion of sovereign securities with residual maturities between 3 months and 3 years.
  - September 21, 2023: announced purchase of CFAF 933 billion.
  - Secondary market tenders closed June 30 and September 26; maturities of securities bought by BCEAO averaged around 2 years (21 and 25 months respectively).
- Concomitant primary issuances (UMOA-Titres):
  - Primary issuances for 12-month T-bills and sovereign bonds with maturities of 3 and 5 years organized simultaneously with BCEAO purchases.
  - Accepted bids exceeded amounts sought by 10 percent for all sovereign issuers, totaling CFAF 2.1 trillion, with:
    - Average maturity slightly above 3 years (38.7 months).
    - Average yield of 7.3 percent.
  - Monthly primary issuances reached record levels:
    - CFAF 1.7 trillion in June 2023.
    - CFAF 1.4 trillion in September 2023.
- BCEAO total government debt purchases in 2023 amounted to CFAF 1.9 trillion and did not translate into a significant narrowing of sovereign yields when controlled for issuer and tenor.

### Liquidity impacts, sterilization, and subsequent developments
- Monetary and liquidity impacts:
  - BCEAO’s CFAF 1.9 trillion public debt purchases injected 22 percent of additional bank liquidity relative to the outstanding amount of CFAF 8.8 trillion provided by BCEAO through refinancing windows at end-June 2023.
  - Average residual maturity of securities purchased by BCEAO was about 2 years, much longer than average maturity of refinancing through its windows (about 2 weeks).
- Use of injected liquidity:
  - Additional liquidity was exclusively used for banks’ sovereign financing; banks invested additional lending capacity back into primary sovereign issuances.
- Sterilization and reduction of refinancing:
  - From end-June to end-October 2023, BCEAO lowered bank liquidity provided through refinancing windows by CFAF 1.4 trillion, offsetting more than ¾ of liquidity injected through June and September secondary purchases.
  - An additional CFAF 85 billion of liquidity was withdrawn in the second half of 2023 as some purchased securities matured.
- Renewed tensions and year-end reversal:
  - Banks’ structural liquidity position deteriorated to CFAF 6.8 billion at end-2023, up from CFAF 5.5 billion at end-2022.
  - Average weekly refinancing rate:
    - Stuck at the top of the policy corridor (5 percent) since end-March 2023.
    - Declined to 4.3 percent on June 27, 2023, upon announcement of first debt purchases.
    - Averaged around 20 bp above the minimum bid rate in July.
    - Rose again in November to reach 4.7 percent on December 5, 2023.
  - MPC action on December 6, 2023: raised floor and ceiling of the corridor by 25 bp to 3.50 percent and 5.50 percent respectively; the hike proved insufficient to prevent the average refinancing rate from being stuck at the top of the new corridor.
  - Interbank rate finished the year about 50 bps above the ceiling of the monetary policy corridor.
  - BCEAO emergency lending facility: provided an unprecedented liquidity injection of CFAF 1 trillion in response to renewed banks’ reluctance to rollover sovereign debt.

### Policy findings and recommendations
- If future debt purchases are unavoidable for financial stability, ensure they do not undermine monetary policy stance:
  - Secondary market purchases should be undertaken as plain open market operations and not be closely linked to new sovereign bank financing (unlike June and September 2023 operations).
  - Impact on overall liquidity should be reasonably soon offset by lower bank refinancing on BCEAO regular windows, including through higher policy rates, to ensure consistency with monetary policy operations and the need to restore external reserve adequacy.
- Restore external reserve adequacy and align liquidity management with policy rates:
  - Gross reserves rose by almost US$1.7 billion in December 2023 to US$15.6 billion, or 3.3 months of prospective imports.
  - Reserves rebounded further to US$17.5 billion, or 3.5 months of imports at end-January 2024, aided by Eurobond issuance by Côte d’Ivoire.
  - Côte d’Ivoire placed a US$1.1 billion 9-year sustainable bond at 7.875% and a US$1.5 billion 13-year conventional bond at 8.50% in January 2024.
  - In February Benin issued a US$750 million 14-year bond at 8.375%.
  - Recommendation: BCEAO should raise policy rates to rebuild external buffers, while ensuring alignment between liquidity management and policy rates; tightening liquidity to contain reserve losses while interbank and marginal rates are at the ceiling suggests a need to raise policy rates.
- Enhanced monetary-fiscal coordination:
  - Intensify coordination of national and regional authorities to ensure individual countries’ financing needs are compatible with the aggregate absorptive capacity of the regional banking system.
  - Aggregate NDA should be compatible with NFA to bring back reserves to adequate levels, consistent with BCEAO Statutes.
- Establish a baseline path for Net Domestic Assets (NDA) as a monitoring and coordination tool:
  - NDA baseline could assess likely evolution of Net Foreign Assets (NFA) and consistency of government financing plans with reserve adequacy.
  - It is impossible for the BCEAO to rebuild NFA without ensuring that NDA grows by less than base money.
  - As a first approximation, the NDA baseline could be anchored to a projection for underlying base money (currency in circulation and required reserves), assumed to grow in line with historical trends (somewhat faster than nominal GDP).
  - Policy rate would need to be consistent with the NDA path to keep the effective rate for refinancing within the policy corridor.
  - Regular presentation of an NDA baseline to national fiscal authorities would:
    - Inform fiscal authorities about the level of liquidity injection consistent with reserve adequacy.
    - Help governments formulate realistic projections on the availability of domestic financing.
    - Incentivize governments to seek alternative financing sources, including access to international debt markets.
    - Ease fiscal pressure on the regional banking sector if non-bank participation in the regional market increases.
    - Encourage coordination among national authorities on their ability to tap the regional market without placing undue pressure.

### Feasibility of limiting NDA growth to a pace consistent with reserves objectives
- Limiting NDA growth depends on:
  - successful fiscal consolidation in member states, and
  - avoidance of debt creating SFAs.
- Returning reserves to adequate levels will require:
  - slowdown in increases in refinancing afforded to commercial banks, and
  - avoidance of new debt purchases by the central bank.
- These measures limit a traditional avenue for governments to secure domestic financing; fiscal discipline by WAEMU member states is essential to rebuilding BCEAO reserves.

### Annex I — Purpose, role of NDA, projections, and balance-sheet illustration
- Purpose and approach:
  - BCEAO medium-term reserves objectives can anchor assessment of ability to support domestic financing given reserve constraint within WAEMU macroeconomic framework.
  - Fixed exchange rate regime may require monetary tightening even without excess inflation if there are pressures on reserves.
  - Reserve adequacy requires monetary-fiscal coordination.
- Role of NDA and policy instruments:
  - With fixed quantities of refinancing, NDA growth is a key policy variable to achieve a desired medium-term path for NFA.
  - NFA can only increase if NDA grows more slowly than base money.
  - NDA growth represents net liquidity injections via the banking system.
  - BCEAO tools to influence NDA: refinancing, outright bond purchases, or direct loans.
  - Slower NDA growth implies higher interest rates; BCEAO must keep interest rates consistent with NDA growth.
- Projecting liabilities and underlying base money:
  - BCEAO underlying liabilities: currency in circulation and required reserves.
  - Observed growth over 2013-2022:
    - nominal GDP grew by 90 percent,
    - currency in circulation grew by 136 percent,
    - required reserves grew by 245 percent.
  - “Underlying base money” excludes excess reserves.
- Simple balance-sheet illustration (accounting identity and sequence):
  - Identity: NFA + NDA = base money (MB) (T0).
  - Scenario sequence:
    - T0: NFA + NDA = MB
    - T1: NFA ↔ + NDA ↑ = MB ↑ (initial liquidity injection via refinancing/purchases increases excess reserves and MB)
    - T2: NFA ↓ + NDA ↔ = MB ↓ (over time, excess reserves are drawn down, some exchanged for FX, depleting reserves and lowering MB)
  - Mechanism: increase in refinancing or government debt purchases raises NDA; initially excess reserves and base money increase (T1); over time excess reserves are drawn down, depleting NFA (T2). Dynamic stronger under external deficit conditions.
- Baseline NDA path to inform fiscal policy and regional coordination:
  - Projected growth of total NDA, combined with assumptions about deposit growth and private sector credit, can estimate sustainable capacity of WAEMU banking system to finance governments.
  - Aggregating the eight WAEMU members’ budgetary projections can indicate realism of NDA path and highlight risks if external financing or consolidation underperforms.
  - Exercise should project medium-term path of extra-WAEMU imports as key denominator in reserve adequacy.
  - Benefits: promote policy coherence, provide clarity on impact of policy slippages, and incentivize alternative financing sources.
  - Overall message: securing external stability is a joint responsibility of monetary and fiscal authorities.

*Source: IMF Selected Issues Paper — Recent Challenges to the Conduct of Monetary Policy in the WAEMU (sipea2024013).*

### 1. Auctioned Sovereign Securities-  BCEAO Purchases and Concomitant Primary Issuances

### 1. Auctioned Sovereign Securities-  BCEAO Purchases and Concomitant Primary Issuances

### Introduction and recent developments
- Monetary policy in the WAEMU faced simultaneous challenges: a short-lived but significant inflation spike, a persistent erosion of external reserves, and strains in the regional financial market.
- The BCEAO operated via both policy rates and liquidity management, including:
  - Gradual policy rate increases from mid-2022 onward (aggregate changes detailed below).
  - A shift from fixed to variable-rate refinancing (FRFA → FQVR) in early 2023 to ration liquidity.
  - Secondary-market sovereign security purchases and emergency bank lending facility use in the second half of 2023 to address financial stability concerns.
- These developments constrained the BCEAO’s conduct of monetary policy, implying a need for enhanced monetary-fiscal policy coordination to meet medium-term reserves objectives.

### Monetary policy objectives and institutional framework
- Primary objective: maintain price stability as defined in Article 8 of the BCEAO’s Statutes — year-on-year CPI inflation rate of 2 percent with a margin of +/- 1 percentage point over a 24-month horizon.
- Secondary objective: support sound and sustainable economic growth, subject to the primary price stability objective.
- Additional mandates (Article 9): preserve banking and financial system stability and manage pooled FX reserves to ensure viability of the hard peg of the West African CFAF to the Euro with a convertibility guarantee from France.
- Main authorities:
  - Monetary Policy Committee (MPC): defines stance and instruments (Article 66).
  - Governor: implements policy, including regulation of bank liquidity, setting minimum refinancing amounts, and deciding on fixed vs. variable rates (Article 62).
- Reserve adequacy trigger: Article 76 requires reassessment of policies when FX reserve coverage of BCEAO sight liabilities falls below 20 percent for three months. The BCEAO also assesses reserves in terms of coverage of prospective imports.

### Timeline and magnitudes of key macro-financial indicators and policy actions
- Inflation:
  - Peaked at 8.8 percent in August 2022.
  - Declined to 7 percent at end-2022.
  - Returned within the BCEAO’s 1-3 percent target band since August 2023.
  - Non-food inflation: peaked at 5 percent (y/y) in February 2023 and fell to 2.9 percent in November.
- FX reserves:
  - US$24.2 billion at end-2021.
  - US$18.5 billion at end-2022.
  - US$17.6 billion in February 2023.
  - US$17.4 billion by end-February 2023 (noted as covering only two-thirds of BCEAO sight liabilities at that time, down from about four-fifths at end-2021).
- BCEAO refinancing and liquidity:
  - Outstanding BCEAO refinancing at end-2022 was 49 percent higher than one year earlier, with 89 percent of that increase occurring in the second half of 2022.
  - The BCEAO provided more liquidity while raising interest rates in 2022.
- Policy rate movements and operational changes:
  - FRFA rate lowered by 50 basis points to 2 percent in June 2020 (pandemic accommodation).
  - Policy rate hikes of 25 basis points each in June, September, and December 2022 (total 75 basis points from June 2022 to end-2022).
  - Shift from FRFA to FQVR in mid-February 2023; an additional 25 basis points hike in March 2023.
  - Average bank refinancing rate rose toward the ceiling of the policy corridor (5 percent) by end-March 2023, implying an effective tightening of 300 bp from June 2022 to March 2023 if interpreted cumulatively in context.
  - Under FQVR, average interest rates in weekly/monthly refinancing auctions remained stuck at the ceiling of the monetary policy corridor between late March 2023 and end-June 2023; the average interbank rate exceeded the same ceiling.

### Shift from FRFA to FQVR: rationale, mechanics, and consequences
- Pre-Covid practice: fixed quantities via American weekly and monthly auctions at variable rates (FQVR); money market marginal rate is the rate of the last bid served; variable-rate auctions were the usual procedure per the MPC’s 2010 decision.
- March 2020 (Covid response): BCEAO moved to Fixed Rate Full Allotment (FRFA), satisfying banks’ demand in full at the minimum policy rate conditional on collateral and counterparties’ soundness. FRFA aimed to mitigate liquidity risk and support bank access to central bank funds.
- Fund staff recommended making FRFA permanent (reflected in Fund Staff reports for 2020–2022 and 2022 FSAP), arguing FRFA:
  - a) improves monetary policy effectiveness by aligning the policy rate and average rate across bids;
  - b) is useful where interbank markets are segmented and illiquid and prevents funding market freezes;
  - c) avoids need for central bank to forecast bank liquidity precisely (challenging under fixed exchange rate regimes);
  - d) can reduce liquidity premium on sovereign bonds by providing funding-cost certainty to banks.
- Mid-February 2023: BCEAO returned to FQVR to curb FX reserve erosion. Rationale included: FQVR considered “normal functioning” and potentially more effective in limiting reserve outflows when reserves were rapidly deteriorating.
- Consequences of reintroducing FQVR:
  - Excess demand for refinancing led average bank refinancing rates to rise above the minimum bid rate and reach the ceiling of the corridor (5 percent) by end-March 2023.
  - The quantitative cap resulted in the BCEAO supplying less liquidity than banks demanded, undermining the steering of operational interest rate targets within the policy corridor.
  - The BCEAO applied discretionary deviations from strict prorating in allocations to prevent individual banks receiving insufficient refinancing to ensure financial stability, increasing uncertainty about access to central bank liquidity and boosting liquidity premia.
  - Given limited transmission channels and a relatively closed capital account, policy rate hikes would have limited short-term efficacy in quickly restoring FX buffers.

### Policy trade-offs and constraints highlighted
- The BCEAO faced a trade-off between:
  - Maintaining accommodative FRFA (supporting banks and economic activity) versus
  - Capping refinancing via FQVR to limit FX reserve erosion without dramatically raising the FRFA rate.
- Concerns that an aggressive FRFA rate hike to restrain refinancing could have been excessive given receding headline inflation and projected return to target, and could have undermined the secondary objective of supporting growth.
- Operationally, the FQVR cap prevented the BCEAO from steering its operational interest rate within the intended corridor and required discretionary allocation practices for financial-stability reasons.
- The shallow and segmented interbank market, illiquid secondary sovereign debt markets, and small equity markets impair transmission of monetary policy, complicating efforts to use conventional rate tools to address external buffer erosion.

*Source: IMF Selected Issues Paper — Recent Challenges to the Conduct of Monetary Policy in the WAEMU (March 1, 2024).*

### 17.      The rollover risk and additional interest rate risk on BCEAO refinancing under the

### 17.      The rollover risk and additional interest rate risk on BCEAO refinancing under the

### Market disruption and bank exposures
- Banks generally buy about 90 percent of WAEMU sovereign securities, which constitute the main assets they use as collateral for BCEAO refinancing.
- The FQVR allotment method was reintroduced in early 2023 in a relatively sudden fashion and was not well anticipated by banks, initially contracting banks’ access to BCEAO refinancing while liquidity needs rose due to unfavorable balance of payment developments.
- Subscription rate on the auction segment initially plunged from near 100 percent to about 50 percent in March 2023 and five auctions were postponed or cancelled.
- The overall amount of financing raised through sovereign security auctions fell significantly.
- Yields and maturities during the early disruption:
  - Average yield rose by 150 bp in February-March 2023 to reach 6.2 percent.
  - Average maturity was more than halved to 13.1 months.
- By June 2023:
  - Average yields for issuances on the auction segment reached 7.3 percent.
  - The yield increase was particularly pronounced for maturities between 3 months and 3 years, causing an inversion of the primary yield curve, notably for Côte d’Ivoire, which accounts for more than 40 percent of the stock of sovereign securities issued in the WAEMU.
- WAEMU banks’ sovereign claims as a share of total assets:
  - 29 percent at end-2019.
  - 38 percent at end-2022.
- More than four fifths of banks’ sovereign exposures take the form of securities; about two-thirds were issued at relatively low yields and increasing tenors when banks could use them as collateral for unlimited central bank refinancing under FRFA.
- Banks record securities held for trading at current market value, but less than 1 percent of their security portfolio is recorded as for trading purposes, implying valuation-loss concerns had marginal effect on appetite for sovereign exposure.
- Lower bank appetite for sovereign risk raised concerns about some member-States’ ability to cover funding needs, including for debt rollover.

### BCEAO interventions: secondary purchases and concomitant primary issuances
- BCEAO secondary market purchases announced and executed:
  - June 27, 2023: announced purchase of CFAF 1 trillion of sovereign securities with residual maturities between 3 months and 3 years.
  - September 21, 2023: announced purchase of CFAF 933 billion.
  - Secondary market tenders closed June 30 and September 26; maturities of securities bought by BCEAO averaged around 2 years (21 and 25 months respectively).
- Concomitant primary issuances organized by UMOA-Titres:
  - Primary issuances for 12-month T-bills and sovereign bonds with maturities of 3 and 5 years were organized simultaneously with the BCEAO purchases.
  - Accepted bids exceeded amounts sought by 10 percent for all sovereign issuers, for a total of CFAF 2.1 trillion, with:
    - Average maturity slightly above 3 years (38.7 months).
    - Average yield of 7.3 percent.
  - Monthly primary issuances on the auction segment reached record levels:
    - CFAF 1.7 trillion in June 2023.
    - CFAF 1.4 trillion in September 2023.
- The BCEAO’s total government debt purchases in 2023 amounted to CFAF 1.9 trillion and did not translate into a significant narrowing of sovereign yields when controlled for issuer and tenor.

### Liquidity, monetary operations, and subsequent sterilization
- Monetary and liquidity impacts of BCEAO purchases:
  - The BCEAO’s CFAF 1.9 trillion public debt purchases injected 22 percent of additional bank liquidity relative to the outstanding amount of CFAF 8.8 trillion provided by the BCEAO through its refinancing windows at end-June 2023.
  - Average residual maturity of securities purchased by the BCEAO was about 2 years, much longer than the average maturity of refinancing provided through its refinancing windows (about 2 weeks).
- Use of injected liquidity:
  - The additional liquidity injected through the BCEAO’s debt purchases was exclusively used for banks’ sovereign financing; banks invested the additional lending capacity back into the primary sovereign security issuances organized concomitantly by UMOA-Titres.
- Sterilization and reduction of refinancing:
  - From end-June to end-October 2023, the BCEAO lowered the amount of bank liquidity provided through its refinancing windows by CFAF 1.4 trillion, offsetting more than ¾ of the liquidity injected through its June and September secondary market purchases.
  - An additional CFAF 85 billion of liquidity was withdrawn in the second half of 2023 as some purchased securities matured.
- Renewed tensions and reversal toward year-end:
  - Banks’ structural liquidity position deteriorated to reach CFAF 6.8 billion at end-2023, up from CFAF 5.5 billion at end-2022.
  - Average weekly refinancing rate timeline:
    - Stuck at the top of the policy corridor (5 percent) since end-March 2023.
    - Declined to 4.3 percent on June 27, 2023, upon the announcement of the first debt purchases.
    - Averaged around 20 bp above the minimum bid rate in July.
    - Started to rise again in November to reach 4.7 percent on December 5, 2023.
  - Monetary Policy Committee (MPC) action on December 6, 2023:
    - Raised the floor and ceiling of the monetary policy corridor by 25 bp to 3.50 percent and 5.50 percent respectively.
    - The hike proved insufficient to prevent the average refinancing rate from being stuck at the top of the new corridor.
  - Interbank rate finished the year about 50 bps above the ceiling of the monetary policy corridor.
  - BCEAO emergency lending facility: an unprecedented liquidity injection of CFAF 1 trillion was provided in response to renewed banks’ reluctance to rollover sovereign debt.

### Policy findings and recommendations
- If future debt purchases are unavoidable for financial stability, they should not undermine monetary policy stance:
  - Secondary market purchases should be undertaken as plain open market operations and not be closely linked to new sovereign bank financing (unlike the June and September 2023 operations).
  - The impact on overall liquidity should be reasonably soon offset by lower bank refinancing on BCEAO regular windows, including through higher policy rates, to ensure consistency with monetary policy operations and the need to restore external reserve adequacy.
- Restore external reserve adequacy and align liquidity management with policy rates:
  - External reserves developments:
    - Gross reserves rose by almost US$1.7 billion in December 2023 to US$15.6 billion, or 3.3 months of prospective imports.
    - Reserves rebounded further to US$17.5 billion, or 3.5 months of imports at end-January 2024, aided by Eurobond issuance by Côte d’Ivoire.
    - In January 2024 Côte d’Ivoire placed a US$1.1 billion 9-year sustainable bond at 7.875% and a US$1.5 billion 13-year conventional bond at 8.50%.
    - In February Benin issued a US$750 million 14-year bond at 8.375%.
  - The BCEAO should raise policy rates to rebuild external buffers, while ensuring alignment between liquidity management and policy rates; tightening liquidity to contain reserve losses while interbank and marginal rates are at the ceiling suggests a need to raise policy rates.
- Enhanced monetary-fiscal coordination:
  - Intensify coordination of national and regional authorities to ensure individual countries’ financing needs are compatible with the aggregate absorptive capacity of the regional banking system.
  - Aggregate NDA should be compatible with NFA to bring back reserves to adequate levels, consistent with BCEAO Statutes (reserves adequacy, price stability, sound and sustainable economic growth).
- Establish a baseline path for Net Domestic Assets (NDA) as a monitoring and coordination tool:
  - A baseline path for NDA could be used to assess the likely evolution of Net Foreign Assets (NFA) and the consistency of government financing plans with reserve adequacy.
  - It is impossible for the BCEAO to rebuild NFA without ensuring that NDA grows by less than base money.
  - As a first approximation, the NDA baseline could be anchored to a projection for underlying base money (currency in circulation and required reserves), assumed to grow in line with historical trends (somewhat faster than nominal GDP).
  - The policy rate would need to be consistent with the NDA path to keep the effective rate for refinancing within the policy corridor.
  - Regular presentation of an NDA baseline to national fiscal authorities would:
    - Inform fiscal authorities about the level of liquidity injection consistent with reserve adequacy.
    - Help governments formulate realistic projections on the availability of domestic financing.
    - Incentivize governments to seek alternative financing sources, including access to international debt markets, reducing competition with the private sector for bank financing.
    - Ease fiscal pressure on the regional banking sector if non-bank participation in the regional market increases.
    - Encourage coordination among national authorities on their ability to tap the regional market without placing undue pressure.

*Source: IMF — "17.      The rollover risk and additional interest rate risk on BCEAO refinancing under the" (sipea2024013).*

### 33.      The feasibility of limiting NDA growth to a pace consistent with central bank reserve

### 33.      The feasibility of limiting NDA growth to a pace consistent with central bank reserve objectives

### Feasibility and fiscal interaction
- Limiting NDA growth to a pace consistent with central bank reserve objectives depends on:
  - successful fiscal consolidation in the member states, and
  - avoidance of debt creating SFAs.
- Returning reserves to adequate levels will require:
  - a slowdown in the increases in refinancing afforded to commercial banks, and
  - avoidance of new debt purchases by the central bank.
- These measures limit a key traditional avenue for governments to secure domestic financing.
- Fiscal discipline by WAEMU member states is an essential element to rebuilding BCEAO reserves.

### Annex I — Purpose and approach
- The BCEAO medium-term reserves objectives can anchor a realistic assessment of the BCEAO’s ability to support domestic financing given its reserve constraint within a broader WAEMU macroeconomic framework.
- Fixed exchange rate regime imposes constraints that may require monetary tightening even without excess inflation if there are pressures on reserves.
- Reserve adequacy cannot be ensured by monetary policy alone; it requires monetary-fiscal coordination.
- Establishing a baseline path for central bank NDA consistent with reserves objectives could:
  - inform national policymakers of constraints to domestic financing, and
  - promote coordination between monetary and fiscal authorities.

### Role of NDA and policy instruments
- Given the BCEAO’s policy choice to set fixed quantities of refinancing, NDA growth is a key policy variable to achieve a desired medium-term path for NFA.
- NFA can only increase if NDA grows more slowly than base money.
- NDA growth represents the net quantity of liquidity the BCEAO injects into the economy via the banking system.
- To influence NDA growth, the BCEAO can use tools it is authorized to manage liquidity:
  - refinancing,
  - outright bond purchases, or
  - direct loans.
- The BCEAO would need to keep interest rates consistent with NDA growth; slower NDA growth implies higher rates.

### Projecting liabilities and underlying base money
- Projecting the BCEAO liability side relies on assumptions about the growth of underlying base money.
- BCEAO underlying liabilities: currency in circulation and required reserves (key components of base money).
- Observed growth over 2013-2022:
  - nominal GDP grew by 90 percent,
  - currency in circulation grew by 136 percent,
  - required reserves grew by 245 percent.
- Rationale:
  - Currency in circulation should be expected to grow somewhat faster than nominal GDP in a region like WAEMU as more people hold cash with development.
  - Banks’ required reserves should grow faster than nominal GDP as they are a fixed fraction of clients’ deposits, which under financial deepening grow faster than GDP.
- Definition note: “underlying base money” excludes excess reserves, as excess reserves are more directly influenced by central bank policy.

### Simple balance-sheet illustration of NDA impact on reserves
- Accounting identity: NFA + NDA = base money (MB) (T0).
- Scenario sequence:
  - T0: NFA + NDA = MB
  - T1: NFA ↔ + NDA ↑ = MB ↑ (initial liquidity injection via refinancing/purchases increases excess reserves and MB)
  - T2: NFA ↓ + NDA ↔ = MB ↓ (over time, excess reserves are drawn down, some exchanged for FX, depleting reserves and lowering MB)
- Mechanism described:
  - An increase in refinancing or government debt purchases raises NDA.
  - Initially, excess reserves and base money increase (T1).
  - Over time, excess reserves are drawn down; part is spent on imports or used to buy government debt that finances imports, which depletes NFA (T2).
- This dynamic is likely stronger under external deficit conditions.

### Baseline NDA path to inform fiscal policy and regional coordination
- Projected growth of total NDA, combined with assumptions about deposit growth and private sector credit, can estimate the sustainable capacity of the WAEMU banking system to finance governments.
- Aggregating the eight WAEMU members’ budgetary projections can:
  - indicate the realism of the NDA path given member state domestic financing assumptions, and
  - highlight risks if external financing or consolidation underperforms.
- The exercise should project the medium-term path of extra-WAEMU imports as a key denominator in reserve adequacy.
- Benefits:
  - promote policy coherence among member states,
  - provide clarity on the potential impact of policy slippages by individual members or others, and
  - incentivize pursuit of alternative sources of financing.
- Overall message: securing external stability is a joint responsibility of monetary and fiscal authorities.

*Source: sipea2024013 - 33.      The feasibility of limiting NDA growth to a pace consistent with central bank reserve*

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_Source: https://www.imf.org/-/media/files/publications/selected-issues-papers/2024/english/sipea2024013.pdf_