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Monetary Unions among Developing and Emerging Markets By Temitope W. Oshikoya, PhD, FCIB Director General, West African Monetary Institute, Accra, Ghana 1 Outline Introduction Optimal Currency Area WAMZ VS GCC -Structural Convergence -Nominal Convergence -Economic Distance Common Market Financial Integration Conclusion 2 Introduction While the world has been fixated on the global financial meltdown, the WAMZ and the GCC will soon decide on the merits and timing of a single currency each for their respective countries and regions. The WAMZ was formally launched by the Heads of State and Government of The Gambia, Ghana, Guinea, Nigeria and Sierra Leone, in December 2000, with the objective of establishing a common central bank and introducing a single currency by 2003 later postponed to 2005 and 2009 The authorities of the GCC countries comprising Bahrain, Oman, Qatar, Saudi Arabia, Kuwait and United Arab Emirate decided in 2001 to establish a monetary union by 2010. The GCC had a long term horizon for monetary union while WAMZ had a short term 3 Monetary Union and OCA . Benefits Allows exchange rates (ER) to be fixed and therefore reduces ER uncertainty that hampers trade and investment. Reduces transaction costs associated with multiple exchange rates. Allows economies of scale Reduces the ability of speculators to affect prices and disrupt the conduct of monetary policy and economize on reserves Reinforces discipline and credibility of monetary policy especially in inflation-prone countries. Expands bilateral trade among the countries of the Union 4 Monetary Union and OCA Costs Loss of independence of monetary and exchange rate policies The cost of policy autonomy could be very high in countries relying on seigniorage revenues Cost of coordinating policies and those associated with the possible break down of the currency union 5 Monetary Union and OCA Requirements Openness Factor Mobility Degree of Commodity Diversification Similarity of Production Structure Price and Wage Flexibility Similarity of Inflation Rates Degree of Policy Integration Homogeneity Political Factors 6 WAMZ VS GCC-Structural Convergence West African Monetary Zone: Selected Indicators The Gambia Nominal GDP (US$ bn) 2.30 Real GDP growth rate 6.1 Population (mn) 1.80 Per capita income (PPP in US$) 1,300 Gross foreign reserves (mnthsof imports) 5.30 Fiscal balance (% of GDP) 4.6 Exchange rate/US$ 25.80 Ghana 34.00 5.5 23.90 1,500 3.80 12.4 0.90 Guinea 10.40 2.9 10.10 1,100 0.70 2.1 3465.00 Nigeria Sierra-Leone 338.10 4.30 6.3 11.9 149.00 6.40 2,300 700 14.20 4.30 0.8 7.9 127.00 2710.00 Structural Convergence Relative size WAMZ Countries: Population, GDP Growth and Size of Economies (2008) 8 Bubble size: scaled to population Real GDP Growth (%) 7 Gambia 6 Sierra Leone Ghana Nigeria 5 Guinea 4 3 2 1 0 -100 -50 0 50 100 150 200 250 300 350 400 Size of Economy (US $'bil) PPP 8 Sources: The World Factbook, CIA, April 2009 edition, World Development Indicators: 2008 WAMZ VS GCC-Structural Convergence Gulf Cooperation Council: Selected Indicators Bahrain Kuwait Oman Qatar Nominal GDP (US$ bn) 19.80 111.40 42.40 65.80 Real GDP growth rate 6.6 4.6 6.9 14.2 Population (mn) 0.80 2.60 2.70 0.90 Per capita income (PPP in US$) 23,604 19,909 18,841 33,049 Gross foreign reserves (mnthsof imports) 3.60 13.70 5.40 6.50 Fiscal balance (% of GDP) 1.6 33.2 17.7 12.1 Exchange rate/US$ 0.38 0.29 0.38 3.64 KSA 375.30 4.1 24.30 16,744 5.60 20.2 3.75 GCC and WAMZ Comparison In WAMZ the structure of production is static, the GCC achieved massive progress in the past three decades resulted in a 30 to 35 percent decline in oil's contribution to GDP, compared to 65 to 70 percent in the mid1970s. Saudi Arabia constitutes about half of GDP of GCC, Nigeria, represents about four-fifths of the GDP of WAMZ. GCC Nominal GDP (US$ bn) WAMZ Nominal GDP (US$bn) The Gambia, 0.75 Ghana, 14.4 Bahrain, 19.80 Kuw ait, 111.40 UAE, 159.70 Sierra Leone, 1.95 Guinea, 4.13 Oman, 42.40 Qatar, 65.80 Nigeria, 193.29 KSA, 375.30 GCC Nominal GDP (%) UAE, 20.62241736 Bahrain, 2.556818182 WAMZ Nominal GDP (%) Kuw ait, 14.38533058 Sierra Leone, 1.180637544 The Gambia, 0.619834711 Ghana, 9.238488784 Guinea, 2.863046045 Oman, 5.475206612 Qatar, 8.496900826 KSA, 48.46332645 Nigeria, 86.09799292 10 GCC and WAMZ Comparison GCC are wealthier than WAMZ countries. With the largest oil and gas reserves, and very small populations average per capita income for the GCC is US$23,548.2 against WAMZ of US$1,286.8 In WAMZ there is only one major oilproducer, all GCC countries are oilproducing. WAMZ Population (mn) GCC Population (mn) Bahrain, 0.80 Kuw ait, 2.60 Sierra Leone, 6.3 Oman, 2.70 UAE, 5.20 The Gambia, 1.7 Ghana, 23 Guinea, 10.2 Qatar, 0.90 Nigeria, 148 KSA, 24.30 WAMZ Per capita income (PPP in US$) GCC Per capita income (PPP in US$) 2500 35000 30000 2000 25000 1500 20000 1000 15000 10000 500 5000 0 The Gambia 0 Bahrain Kuw ait Oman Qatar KSA UAE Ghana Guinea Nigeria Sierra Leone 11 Economic Distance Economic Distance Output Growth: Nigeria as target Country 0.80 0.60 Gambia 2001-2008 Sierra Leone Gambia 1993-2000 0.40 1993-2000 Ghana 2001-2008 Correlation Coefficient 0.20 Ghana 1993-2000 Guinea 1993-2000 Sierra Leone 0.00 Nigeria 0.00 -2.00 2.00 2001-2008 4.00 6.00 8.00 10.00 12.00 -0.20 -0.40 -0.60 -0.80 Guinea 2001-2008 -1.00 12 Standard deviation Economic distance Economic Distance Output Growth: Saudi Arabia as target Correlation Coefficient country 1.00 UAE 2001-2008 Kuwait 2001-2008 0.80 Bahrain 2001-2008 0.60 UAE 1993-2000 Qatar 1993-2000 0.40 Qatar 2001-2008 Oman 1993-2000 0.20 -1.00 0.00 Saudi Arabia 0.00 1.00 2.00 3.00 4.00 5.00 Bahrain 1993-2000 -0.20 Oman 2001-2008 Kuwait 1993-2008 -0.40 Standard Deviation 6.00 Economic Distance Economic Distance Inflation:Nigeria is the Target Economic distance reduces with integration process Country 1.20 1.00 Ghana 2001-2008 Ghana 1993-2000 0.80 Gambia 2001-2008 Correlation Coefficient Gambia 1993-2000 0.60 0.40 Sierra Leone 0.20 1993-2000 0.00 -1.50 -1.00 -0.50 Guinea 1993-2000 Nigeria 0.00 -0.20 0.50 Sierra Leone 1.00 1.50 2001-2008 -0.40 Guinea 2001-2008 -0.60 Standard Deviation 14 Economic Distance Economic Distance Inflation: Saudi Arabia as target Correlation Coefficient Country 1.20 1.00 Oman 2001-2008 Kuwait 2001-2008 0.80 UAE 2001-2008 Qatar 2001-2008 Bahrain 2001-2008 0.60 UAE 1993-2000 Bahrain 1993-2000 0.40 Kuwait 1993-2000 0.20 Qatar 1993-2000 -0.80 -0.60 -0.40 -0.20 0.00 Saudi Arabia 0.00 -0.20 Oman 1993-2000 -0.40 Standard Deviation 0.20 0.40 0.60 0.80 Direction of Trade with the World in US$ 2003 – 2007 G A MB IA 2 ,0 50 ,9 77.0 9 , (1%) (W A M Z) Common Market 3 2 ,4 3 2 ,50 7.1 6 (9 %) (ECOW A S) 3 0 9 ,756 ,515.7 6 90% (W ORLD) 8 3 7,3 6 4 ,8 16 . 9 7 (10 %) (ECOW A S) 3 72 ,9 6 6 ,0 9 2 . 0 1 (4 %) (W A M Z) 7,52 2 ,6 6 9 ,0 9 1.0 2 (8 6 %) (W ORLD) N IG E R IA G U IN E E 6 ,6 6 7,16 2 .0 9 (0 %) (W A M Z) G H ANA 16 1,52 3 ,3 0 4 . 4 1 (9 %) (ECOW A S) 1,58 9 ,6 2 9 ,53 3 .51 (9 1%) (W ORLD) 8 9 6 ,4 9 3 ,0 71. 75 (1%) (W A M Z) 2 ,6 0 7,2 79 ,8 2 3 .4 7 (4 %) (ECOW A S) 6 8 ,6 2 1,3 2 7,1 0 4 .79 (9 5%) (W ORLD) S IE R R A L E O N E 12 6 ,9 13 ,2 0 4 . 2 9 (2 4 %) (W ORLD) 5,0 15,78 2 .3 8 (1%) (W A M Z) 3 9 8 ,111,0 13 .3 3 (75%) (ECOW A S) 16 Financial Integration WAMZ Financial integration - important element of any regional integration process, especially for a monetary union. The financial sector must be adequately prepared to promote financial inclusion and sustain a changeover to a new currency. Some countries in the WAMZ have established stock exchanges but they operate within the confines of the national boundaries and few linkages to other member countries Interbank and money market dominated by banks Institutional investors participation limited Capital market requirements differ significantly Cross listing of stocks is limited. Most countries of the WAMZ are reforming their capital accounts to attain full liberalization 17 Financial Integration GCC Liberal capital flows and pegged exchange rate Well capitalised banking system GCC stock markets outperformed emerging and developed markets Rise in FDI Currency - currently pegged to the US dollar No clear plan for establishing common capital market 18 Financial Integration WAMZ Financial integration is an important element of any regional integration process, especially for a monetary union. Cross-border retail payments are generally non-existent Interest rates are however converging Insurance market growing but penetration low Banking sector integration on the rise- Nigerian banks driving the process 19 Financial Integration Bank Density in the WAMZ Bank Density in GCC 10 3.50 2.87 3.00 2.50 2.13 9.5 8 2.31 6 2.00 4 1.50 1.00 0.72 1.6 2 0.46 0.50 0.6 0.4 Kuwait Oman 1.1 0.1 0 0.00 Barhain Gambia, The Ghana Guinea Nigeria Sierra Leone Qatar Saudi Arabia •Low bank density indicate high degree of concentration for both WAMZ and GCC, •Weak cross border branch activity a challenge for the efficient use of funds United Arab WAMZ VS GCC-Nominal Convergence Convergence Criteria WAMZ GCC Inflation Single digit Weighted average of the six countries plus 2 percentage points Fiscal Deficit/GDP Ratio ≤ -4% ≤ -3% although some flexibility allowed to account for wild fluctuations in states revenue Central Bank Financing of Fiscal Deficit ≤ 10% Not applicable Gross External Reserves (months of import cover) ≥ 3months Not applicable Primary Criteria 21 WAMZ VS GCC-Inflation Convergence WAMZ Inflation Rate (%) GCC Inflation Rate (%) 14.0 14 12.0 12 10.0 10 8.0 8 6.0 6 4.0 4 2.0 2 0.0 0 Bahrain Kuwait Oman Qatar KSA UAE The Gambia Ghana Guinea inflation rate Nigeria Sierra Leone WAMZ VS GCC-Fiscal Convergence GCC Fiscal balance (% of GDP) •GCC Countries Operated Fiscal Surpluses While the WAMZ ran Fiscal Deficits WAMZ Fiscal balance (% of GDP) 35.0 0.0 The Gambia 30.0 -2.0 25.0 -4.0 20.0 -6.0 15.0 -8.0 10.0 -10.0 5.0 -12.0 0.0 -14.0 Bahrain Kuwait Oman Qatar KSA UAE -16.0 Ghana Guinea Nigeria Sierra Leone WAMZ VS GCC-External Sector Convergence GCC Gross Foreign Reserves (monthsof imports) Exchange Rate for the GCC is pegged to the US$WAMZ to a basket of currencies WAMZ Gross Foreign Reserves (months of imports) 16.00 14 14.00 12 12.00 10 10.00 8 8.00 6 6.00 4 4.00 2 2.00 0 0.00 The Gambia Ghana Bahrain Kuwait Oman Qatar KSA gross foreign reserves (mnthsof imports) Guinea Nigeria UAE gross foreign reserves (mnthsof imports) Sierra Leone WAMZ VS GCC-External Sector Convergence GCC Exchange rate/US$ WAMZ Exchange rate/US$ 4.00 4500 3.50 4000 3.00 3500 2.50 3000 2.00 2500 1.50 2000 1500 1.00 1000 0.50 500 0.00 Bahrain Kuwait Oman Qatar KSA UAE 0 The Gambia Ghana Guinea Nigeria Sierra Leone Necessary conditions for successful Monetary Union Economic convergence Structural convergence Market convergence Legal convergence Political convergence Summary GCC has longer time perspective than WAMZ Asymmetric shocks Similarity of production Geographical location Richer in terms of resources and per capita income Stable exchange rate Low inflation Low fiscal deficit More institutionally prepared Establishment of GCC Monetary Council the equivalent of WAMI 27 Conclusion The journey towards a Monetary Union is a marathon and not a sprint race The Euro Zone took over 43 years to achieve the common currency The GCC countries decided in 2001 to establish a monetary union by 2010 but a postponement is being contemplated 28 THANK YOU 29