Public Information Notice No. 03/60

Public Information Notice: IMF Concludes 2003 Article IV Consultation with Morocco

May 9, 2003

On April 28, 2003, the Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation with Morocco.¹

Background

Morocco has achieved macroeconomic stability over the last decade. The fixed exchange rate provided an anchor for the economy, monetary policy was prudent, and fiscal policy was mostly adequate. Since 1999, however, fiscal policy has been expansionary and the authorities have used part of the privatization receipts to finance increased expenditure. Nevertheless, inflation has remained at levels consistent with that of partner countries, the current account has turned into a surplus, while foreign exchange reserves reached eight months of imports at end 2001.

Morocco's growth performance over the last decade has not been strong enough to reduce poverty. Growth has also been volatile because of the impact of recurrent drought conditions on agricultural output. While non-agricultural growth has been relatively steady in recent years and has shown signs of revival, structural rigidities have constrained potential growth. Thus, unemployment has remained high and social indicators still indicate needs for significant improvement.

In recent years, key structural reforms have been implemented including in the areas of privatization and trade liberalization. Two major achievements in privatization included the sale of a significant block of the government shares of Maroc Telecom in 2000-01, together with the sale of a cellular telephone license in 1999. Trade liberalization moved forward according to the schedule under the Association Agreement with the European Union and reference prices for import valuation were eliminated in 2002. Customs procedures have also been improved resulting in marked efficiency gains in customs administration. Tax revenues experienced a decline as a percent of GDP because of the impact of the trade liberalization but also because of erosion of the tax base.

Economic conditions improved in 2002 despite a less favorable international environment which was marked by a decline in tourism and external demand. Real GDP growth reached 4.5 percent reflecting a further rise in agricultural output and somewhat higher growth in the nonagricultural sectors. The external position strengthened further with an increase in foreign exchange reserves to the equivalent of 9.4 months of imports, external debt indicators improved markedly while inflation remained subdued. The fiscal deficit (excluding privatization receipts and including Hassan II Fund expenditures) dropped significantly to 4.5 percent of GDP from 5.8 percent of GDP in 2001 and against a budget target of 6.8 percent of GDP. The Government debt-to-GDP ratio continued to decline.

This favorable fiscal outcome together with the advent of a new government following elections in September 2002 vowing to revive economic reforms have improved business confidence and brightened Morocco's economic outlook. Steps have been taken to open the largest public bank, BCP, to private sector investment and to privatize the tobacco company, Régie des Tabacs, in 2003 and many structural reforms are in preparation. Market reactions to the new environment have also been favorable.

With the improvement in business confidence and more favorable weather conditions since late 2002, the ongoing economic revival could gain momentum and speed up growth in 2003 to 5.5 percent in 2003. The external current account surplus should narrow somewhat, reflecting higher imports linked to a recovery in private investment. Proceeds from privatization would help external reserves to remain close to nine months of imports. Money growth is prudently projected at 7 percent and inflation is expected to fall to about 2 percent, while continued fiscal consolidation would result in a 2003 fiscal outcome somewhat better than in 2002. However, the war in Iraq could have negative consequences on Morocco's external economic outlook. With a drop in tourism receipts, and a rise in oil prices, growth could be lower and external reserves could decline somewhat.

Executive Board Assessment

Executive Directors commended the Moroccan authorities for maintaining macroeconomic stability despite adverse weather conditions and a difficult international environment. Inflation was kept well under control, non-agricultural output accelerated, official foreign exchange reserves rose to comfortable levels, and both the fiscal deficit and the debt-to-GDP ratio declined. Progress with structural reforms in recent years includes, among others, the modernization of the customs administration, the privatization of public enterprises, the liberalization of the edible oils sector, telecommunications reform, and trade liberalization in accordance with the Association Agreement with the European Union.

Notwithstanding these achievements, Directors agreed that Morocco's growth performance remains insufficient to generate a significant decline in unemployment and poverty, and that its fiscal position needs to be further strengthened. They therefore welcomed the new government's resolve to accelerate the pace of structural reform and private sector development in a context of continued macroeconomic stability and fiscal consolidation. Directors were encouraged that the reform measures which the government has taken in its first months in office have already resulted in an improvement in business confidence and market perception, and looked forward to further confidence building measures in the period ahead.

Directors urged the authorities to build on recent progress by taking further actions that will signal a durable strengthening of Morocco's fiscal position. They recommended a reduction of the fiscal deficit to about 4 percent of GDP in 2003 and to below 3 percent of GDP over the medium term, consistent with a further substantial decline in the public debt-to-GDP ratio. Directors welcomed the authorities' decision to broadly stabilize the number of civil servants in 2003, and encouraged them to carry on with a comprehensive civil service reform that will allow a further reduction of the wage bill over the medium term. This should include a review of the remuneration and promotion system, and the establishment of an early retirement scheme. To help offset revenue losses resulting from the ongoing trade liberalization, Directors also stressed the need for streamlining VAT and direct tax exemptions, as well as tax incentives, and strengthening the VAT administration.

Directors recommended that the authorities take steps toward further reducing food subsidies, while at the same time ensuring that an adequate safety net is put in place to alleviate the impact on the poor. More broadly, they were of the view that developing a medium-term expenditure strategy would help improve prioritization as well as the quality and effectiveness of key public services, including health and education spending. A few Directors encouraged the authorities to consider the consolidation of the Hassan II fund's operations with the central government budget accounts. A few Directors also suggested that the authorities should channel future privatization proceeds toward debt reduction.

Directors underscored the importance of sustained structural reforms in a wide range of areas, and supported, in this context, the priority given by the new government to public sector and judiciary reform, strengthening governance, improving the business environment, and labor market, trade, and financial sector reforms. They welcomed the actions already taken to liberalize the land transportation sector and to integrate public enterprise pension schemes in the public pension system, as well as the work being undertaken in several other areas. Directors urged the authorities to press ahead with their reform agenda, and, in this context, looked forward to rapid progress on the new labor code. They also encouraged the authorities to maintain their commendable record on trade liberalization, including by lowering and rationalizing the multilateral external tariff.

Directors welcomed the recent steps to improve the business environment, and the close consultation with the private sector on further measures to improve the competitiveness of the economy (mise à niveau). Going forward, it would however be important to avoid special incentives and/or tax privileges that could distort the allocation of resources.

Directors noted that Morocco's financial system is unlikely to be a source of risk in the short term, and that the commercial banks are in a reasonably good position to withstand adverse shocks. The recent Financial Sector Assessment Program has nevertheless revealed vulnerabilities which require the authorities' close attention, especially in light of increasing international integration. Directors welcomed the preparation of a revised legislative framework to help address these weaknesses. They urged the authorities to press ahead with their plans to deepen financial sector reforms, in particular in the area of banking supervision for which the Fund is providing technical assistance. Another priority is the acceleration of the restructuring of the troubled specialized banks, and the elimination of their exemption from prudential regulations and reserve requirements, while, over the medium term, further reducing the role of the state would foster the competitiveness of the financial sector. Directors also encouraged the authorities to press ahead with adequate legislation and provisions to prevent money laundering and the financing of terrorism, in line with international standards.

Directors commended Bank Al-Maghrib's skillful monetary management, which, by mopping up excess liquidity, has been instrumental in keeping inflation at a low level, and looked forward to upcoming legislation that will strengthen the Bank's operational independence. They observed that Morocco's exchange rate policy has so far served the country well by providing a helpful nominal anchor, and that there are no signs of a misalignment of the exchange rate. Directors discussed the medium-term challenges for monetary and exchange rate policy posed by Morocco's increasing trade and financial integration, and were generally of the view that a more flexible exchange rate regime would improve Morocco's resilience to external shocks and growth prospects. They welcomed the authorities' willingness to consider the opportunity of modifying the current exchange rate regime and the role of monetary policy over the medium term, once the prerequisites of a strengthened monetary framework with price stability as the primary objective, further fiscal consolidation, and an enhanced financial sector are achieved, and encouraged careful further analysis of all issues involved.

Directors commended the authorities' efforts to improve transparency and governance in the public sector, and looked forward to further progress in these areas. They also welcomed their intention to further strengthen the statistical system in line with recent Report on the Observance of Standards and Codes recommendations, with the objective to subscribe to the Special Data Dissemination Standard by end-2003.