Introductory Remarks by Rodrigo de Rato Managing Director of the International Monetary Fund, At the Conference on Financial Sector Reforms and Prospects for Financial Integration in the Maghreb Countries
December 20, 2006by Rodrigo de Rato, Managing Director of the International Monetary Fund
December 20, 2006
As Prepared for Delivery
1. Ministers and Governors of the Maghreb countries. I am pleased to meet all of you again in the context of this second regional conference on how to make Maghreb economic integration a reality. Let me in particular extend a warm welcome to the delegations of Libya and Mauritania, whose presence here gives this initiative its full regional dimension. It is in the common interest of all Maghreb countries to work together to create a zone of shared economic prosperity. I would also like to thank the Moroccan authorities for hosting this important conference here in Rabat.
2. As we agreed in Algiers last November, this year's conference focuses on financial sector reforms and financial integration in the Maghreb. Before sharing with you some of my thoughts on these issues, I would like to take a moment to reflect on the progress achieved over the past year in the area of trade facilitation, the subject of the last year's conference. Without anticipating Minister Djoudi's presentation, I would like to congratulate you on the work of the various technical committees, in which the Fund participated, that were established to develop an action plan that will be formally adopted by the Ministers of Finance of all five countries. By reducing transaction and information costs, removing distortions and tackling informal trade, I am confident that this action plan will help bolster trade among countries in the region. Building on this achievement, I would encourage you to make greater efforts to remove remaining impediments to regional trade, which unfortunately still represents only 2.5 percent of total trade of the five Maghreb countries. Further progress on such key issues as eliminating tariff and nontariff barriers, extending the tariff preferences accorded to European Union countries on an intra-Maghreb basis, and adopting Maghreb rules of origin based on the pan-Euromed system will enable regional trade to reach its full potential and boost its impact on growth.
3. Like trade, by facilitating the exchange of goods and services, and reducing transaction and information costs, efficient and well-integrated financial systems provide a vital underpinning to sustained growth. Experience has shown that failure of the financial system to keep pace with increasingly complex and diversified economies can seriously inhibit growth.
4. Because of the critical importance of financial sector issues, we, in the Fund, are intensifying our efforts to integrate our financial sector work, including on capital and financial markets, in our regular surveillance activities. The increased importance of financial markets for growth and development for all countries is a major feature of the new world of globalization. It is of particular importance for emerging market countries, which have a lot to gain from financial integration but may also become more vulnerable in integrated global markets. To reflect this, in our surveillance of the global economy, we have already begun to devote more attention to the linkages between the financial sector and real economy. Meanwhile, in our surveillance of individual countries' economies, we are enhancing the analysis of financial sector vulnerabilities and ensuring that this is reflected in our macroeconomic analysis and policy advice.
5. I believe there is broad agreement among us here that the central challenge faced by the Maghreb countries is to reach a higher sustained growth path that would enable them to reduce unemployment, and, in time, to close the development gap in the Euro-Mediterranean region. In my view, and without underestimating the substantial transformation that financial systems in the Maghreb region have undergone over the last decade, which I will turn to in a moment, accelerating financial sector reform and deepening financial integration are key to increasing the region's economic potential. Beyond their role in facilitating the exchange of goods and services, modern financial systems promote investment and growth by helping economic agents identify and finance good business opportunities; mobilize and pool savings; strengthen corporate governance; and improve the management of risks. These functions result in a more efficient allocation of resources, a more rapid accumulation of physical and human capital, and faster technological progress, all of which in turn are good for growth.
6. Accelerating financial sector reforms and deepening regional financial integration are mutually reinforcing processes. Greater regional financial integration would provide added impetus to financial sector reform by spurring financial deepening, and lowering financing costs for households and firms, including by increasing competition. At the same time, the existence of healthy market-oriented domestic financial sectors will facilitate the integration process. Regional integration can also prepare regional financial systems for global competition while minimizing the risks of financial instability. A well-integrated Maghreb region, with a large market of more than 80 million producers and consumers, would appreciably enhance the Maghreb's attractiveness to both domestic and foreign investors, and help the region maximize the benefits of existing Association Agreements with the European Union by reducing the "hub-and-spoke" effects. Indeed, progress in this area has to be a key component of the region's broader strategy of realizing the benefits of globalization. I am aware that deepening financial integration is already high on your reform agenda, and I was happy to learn that a meeting of central bank governors took place in Tripoli in early August to discuss the way forward. The March 2006 adoption of the draft statutes of the Maghreb Bank for Investment and Foreign Trade is also an important step forward.
7. In order to keep our discussions concrete and focused, I would like to suggest that we concentrate on the main challenges facing the Maghreb countries in building modern and well-integrated financial systems, as identified in the background study prepared by Fund staff. In keeping with the pragmatic approach that has served us well in our discussions on trade facilitation, I would further propose that wherever possible we try to learn from, and build on, successful initiatives in each country, such as the ongoing restructuring of public banks in Algeria, the new central bank and banking laws in Morocco and Tunisia, the reforms to deepen the foreign exchange market in Mauritania, and the ongoing modernization of the payments system in Libya.
8. Over the last decade, all five Maghreb countries have implemented reforms to modernize their financial sectors. Morocco and Tunisia pioneered this effort, and started upgrading their financial sectors in the early 1990s. Reform implementation in Algeria and Mauritania accelerated in the second half of the decade, and Libya followed more recently. As a result, financial systems have developed substantially, although in differing degrees. Major accomplishments across the region include the modernization of legal and regulatory frameworks, progress in the privatization and restructuring of public banks, increased competition in the banking sector, and improvements in the payment systems. The combined financial depth of the five Maghreb countries, as measured by the ratio of bank credit to the economy to GDP, increased over 20 percent over the last ten years.
9. Despite these positive developments, much remains to be done to allow financial systems in Maghreb countries to fulfill their role as engines of growth. I would like to propose, for your consideration, a list of desirable features that would make the region's financial systems more efficient. As individual countries in the region have taken the lead in implementing specific reforms, this will also give me an opportunity to point to the region's successful initiatives and best practices.
10. A first desirable feature is that banking systems should be sound. Healthier banking sectors contribute to lower financing costs, help channel resources to the best firms and projects and ensure the efficient use of these resources. The main challenges in this area include reducing banks' portfolios of nonperforming loans, ensuring adequate loan classification and provisioning, and full adherence to internationally-accepted prudential rules. The high level of nonperforming loans in the Maghreb countries is very costly to the economy. Because they raise the cost of financial intermediation, nonperforming loans are often a drag on investment and growth.
11. A second desirable feature is that banking systems should be competitive. A higher degree of competition increases the efficiency of the banking system and can contribute to greater financial stability. Having a level playing field between public and private banks, as well as between domestic and foreign ones, is key to removing barriers to competition. The restructuring of public banks, through privatization when feasible, has an important role to play in this process. In Algeria, strengthening the governance of the public banks not slated for privatization is a central element of their financial and operational restructuring, and new performance contracts setting clear objectives in terms of profitability and internal controls have been signed between the State and the chief executive officers of these banks. In Morocco, there are no restrictions to foreign banks entry, and foreign investors now control more than a fifth of the total assets of the banking sector.
12. Financial markets should also be deepened to support financial intermediation and improve risk management. On this issue, I would make two points:
• First, abundant liquidity has restricted the growth of money markets in the region. In addition to the appropriate management of system liquidity, increasing banks' incentives to transact with one another, for example by limiting access to central bank liquidity facilities outside of regular market operations, would help develop these markets. Further actions are also needed to deepen foreign exchange markets. In 2005, Tunisia successfully relaxed surrender requirements and started the gradual easing of regulations on capital flows, which spurred the deepening of its foreign exchange market. Mauritania's decision to eliminate the present foreign exchange rationing system and to phase out the partial surrender requirements on fish export proceeds in order to create a sound basis for the development of its foreign exchange market is also a good step in that direction.
• Second, financial systems in the Maghreb remain heavily bank-based. Fixed-income and equity markets are still in their infancy in most countries of the region, except in Morocco and Tunisia. The development of market-based alternatives to bank financing would stimulate competition within the financial sector, lower the cost of financial intermediation, and contribute to strengthening corporate governance. Most capital markets in the region are still concentrated in government paper, which may hamper the efficient allocation of available resources to the private sector. Possible measures to increase the depth and liquidity of Maghreb capital markets include steps to strengthen the regulation and supervision of securities markets, broaden the investor base, and improve transparency to promote participation. Firms with longer-term cash-flows—such as public utilities, other large enterprises and housing finance intermediaries—could be encouraged to issue on the local bond markets. In Algeria, large public enterprises and utilities began to replace bank debt with corporate bonds in 2004, and the first private corporate issuance took place earlier this year. In 2004, Morocco passed a legislation which clarified and standardized the rules governing initial public offerings on the Casablanca stock exchange—the biggest one in the region. By making equity trading more transparent, the new framework has contributed to promote market participation on the sell-side. The recent boom in the Middle East region's stock markets, followed by a sharp correction in some countries, makes the case for greater transparency and more robust supervision even more compelling.
13. A fourth desirable feature is that financial sector oversight should aim for full compliance with the Basel core principles. Financial sector oversight in the Maghreb has substantially improved in the last few years. Morocco and Tunisia have recently adopted banking and central bank laws which have considerably extended the central bank's supervisory powers and modernized the legal and regulatory framework for financial supervision, and Mauritania is expected to pass similar legislation soon. In Algeria, banking supervision is being strengthened with Fund technical assistance. In many countries, the autonomy of supervisors could be further reinforced, for example through greater clarification of the respective roles of ministries of finance and supervisory agencies. There is still a need to increase the resources available to supervisory agencies to help them hire, train, and retain qualified staff.
14. Finally, financial infrastructure should be brought in line with international best practice. The extension of ongoing efforts to upgrade financial infrastructure—including through the modernization of the legal, as well as accounting and auditing frameworks, and of the payment and securities settlement systems—would also spur the development of financial systems and contribute to their stability. Establishing commercial courts (which currently only exist in Algeria and Morocco), strengthening corporate governance and fostering a credit culture are major challenges in this area. All countries have already launched, or are at the final stages of preparing, comprehensive plans to modernize their payment systems.
15. Turning to financial integration, we can distill useful lessons from similar endeavors in other regions of the world, such as the European Union, or within the Arab world, the Gulf Cooperation Council. Let me first clarify that our approach to financial integration in the Maghreb is a pragmatic and limited one; it does not extend to the complex issues of monetary or political integration. Financial integration and monetary integration are two different things. As I have had the opportunity to discuss this past year in other parts of the world—notably in East Asia—deeper regional financial integration is crucial to increase countries' growth potential and help them harness the benefits of globalization.
16. The experience in the European Union suggests the adoption of a gradual approach and underscores that a sound macroeconomic environment and healthy domestic financial systems are key to ensure the success of financial integration. Clearly, deepening financial integration is a difficult task, and requires enduring commitment and strong political will. The availability of a regional forum to improve coordination of economic, institutional and legal reforms would facilitate the integration process; possibly a strengthened secretariat of the Arab Maghreb Union could serve as such a forum.
17. The timeline for financial integration involves short- and medium-term actions:
• In the short term, key steps toward regional integration could include pursuing efforts to eliminate financial barriers to intra-Maghreb trade, including by allowing Maghreb banks to set up cross-border branches or subsidiaries, and encouraging the central banks to continue their dialogue to promote closer cooperation. The ongoing reform of the payment systems provides a good opportunity to make progress toward their harmonization. Measures to stimulate the regional integration of domestic equity markets—through greater information and technology sharing and encouragement of cross-listings and cross-border investment—would also strengthen regional financial linkages.
• In the medium term, efforts should focus on harmonizing market infrastructure, including regulatory and supervisory frameworks, financial information, and financial contracts. As economies grow and become more interdependent, restrictions to capital movements can constitute major obstacles to increased financial integration. Experience shows that lifting these restrictions requires careful sequencing in order to preserve macroeconomic and financial stability. Tunisia's three-phase plan for capital account liberalization, which calls for the liberalization of long-term before short-term flows and foreign direct investment before portfolio investment, is very relevant in this regard.
18. I would like to stress that I am convinced of the benefits the Maghreb could reap from enhanced regional financial integration. I also want to reiterate the Fund's commitment to help you in this important endeavor through technical assistance and in the context of our annual consultations with each country. We also stand ready to monitor and follow up on the concrete steps and their implementation.
19. Let me conclude by saying that the consolidation of the region's growth performance is proof of the optimism that I expressed to you last year. The Maghreb's economic outlook remains strong, and continues to provide an excellent environment for the acceleration of economic reforms and the stepping-up of regional and global integration efforts. I am happy that Tunisia has offered to host in 2007 our third conference on the role of the private sector in regional integration and economic development in the Maghreb.
20. I look forward to productive discussions here, and to listening to your views.