Does Africa Need a Single Currency?

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To be more precise, does West Africa need a single currency? I don’t think so! The idea seems to me more like a solution in search of a problem. What is clear to me however is that before a larger currency union is formed, African nations should focus on the fundamental problems at hand (bad governance, lack of fiscal decline, low-intra continental trade, high levels of poverty and bad infrastructure) in Africa.

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Recently the ECOWAS¹ member countries planned to join the CFA² (see appendix for a list of the countries) monetary union, revise some of the terms, and the re-name it from CFA to Eco (Full article here). But ultimately the currency would still be pegged³ to the Euro. This plan was put on ice last year, in part due to COVID19, and due to lack of readiness for these nations to share a common currency.

The European Monetary Union is often hailed as a success and as a template for what a larger African Monetary Union may eventually look like. For now though, the West and Central CFA currency unions will be our main reference point for single currency unions in Africa. There are many reasons for having a common currency, but ultimately what matters are the net benefits accrued to member nations. Below i list some of the potential benefits of having a single currency:

1. A lower and more stable inflation rate

If this was the only objective, then it would be a no brainer for countries to form a single currency bloc. The CFA member countries have enjoyed much lower average inflation rates over the past 10 years. All else equal lower and stable inflation is better than high and rising inflation, but inflation is only one side of the argument. For a nation to prosper, higher real GDP growth is just as important from an economic perspective only. Low and stable inflation do not go hand in hand with rising real GDP.

2. Increased trade within the union

The more the countries trade with each other, the greater the benefits they will enjoy as part of a union. Mainly the significant reduction in transaction costs and exchange rate fluctuation will be a huge factor in increasing trade (in theory at least, or so we hope). The share of exports from Africa to the rest of the world ranged from 80% to 90% in 2000 –2017. Below are the 2019 numbers from UNCTAD and as it stands intra-African trade is at 2%. Prior to the formation of the Euro in 1999, intra-continental European trade was closer to 20% , but the Euro did accelerate trade even further.

Defined as the average of intra-continental exports and imports over 2015 - 2017

You may say the AfCTA will mean intra-Africa trade will explode, which i think is true, however Africa is starting from a very low base. More importantly the success of the AfCTA increasing trade does not depend on having a single currency. Specific trade policies are more important.

The real impediments of trade within Africa are the lack of infrastructure, and the lack of domestic manufacturing capabilities beyond basic commodities processing to name a few. These are some the reasons why Africa exports the raw materials and imports the finished goods from abroad at a huge premium. Much will not change if those issues are not addressed.

3. Greater influence in the global economy

This point has not materialised for any of the CFA countries, in fact the opposite has occurred. Monetary policy⁴ is imported from the European Central Bank, who do not consider the impact on the CFA nations in their monetary decision making. Further the effects of ongoing French imperialism is in many ways a hindrance to development of these countries. The French treasury guarantees to convert the CFA to the Euro at a fixed rate, but it is ultimately free to change this rate (here is a good article) on what happened in 1990 when there was the French treasury devalued the CFA. As a consequence goods imported became close to 100% more expensive.

Let’s contrast with other former French colonies who withdrew from the Franc zone and created their own currency post indepedence. Morocco, Tunisia and Algeria e.g. are much stronger economically than any user of the CFA franc.

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Next, what makes a single currency union more effective and desirable?

1. Convergence

In order for countries to join a currency union, they must meet certain requirements. ECOWAS demands that members maintain a fiscal deficit⁵ no higher of 3% of GDP, and inflation rate of below 5%, a stable exchange rate, and a public debt below 70% of GDP, among other things. No ECOWAS country meets these criteria, and are less likely to do so now after COVID19 shock. The journey to meet all the criteria could be very painful economically, depending on the starting point.

2. Economic Cycles

Countries should have the same economic cycle, or cycles which are highly correlated. Since the bloc will have a single monetary policy, it will not be useful if half of the countries are in a recession, while the other half are in an a booming period. This point kind of applies. Most of the countries in question are commodity exporters, and more or less correlated with the global commodity and business cycle.

3. Economic shocks

COVID19 is an example of a shock which impacted the whole world, but in different proportions. Below are the exchange rates movements since January 2020 for Nigeria, Ghana and West African CFA vs the US Dollar. I am using the official Naira exchange rate, which is disguising the true decline, but it is still enough to make this point. In such an instance what would be the best policy action if all these country were under one monetary union? Looking at just the currency impact, clearly whatever policy action is needed for Nigeria would not be needed for Ghana of the CFA region. Put differently, a one-size-fits-all approach will not be very useful. The impact of economic shocks are reduced if the differences among member countries are small, which is not the case here.

4. Public Opinions Matter

An increasingly large population of African youths are becoming more and more critical of ties between former colonial rulers and the African elite. Criticism has also been found among fellow EU members. Former Italian deputy PM Luigi Di Maio in January 2019 alleged that France maintains its colonial rule on Africa via the CFA.

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Nigeria has the largest economy and political influence in West Africa. The Central Bank of Nigeria would have to give up its control of the Naira and let a supranational institution make its monetary decisions. I do not see this happening in any scenario. I also question what the main benefits would be for Ghana or Cape Verde. Inflation in Ghana has been falling since 2016 (until the COVID19 shock in 2020) and the currency has been fairly stable. Cape Verde’s currency (Escudo) is already pegged to the Euro.

A more useful concept to me is the Pan-African Payment and Settlement System to be launched by the African Export and Import Bank (link). This will allow transactions between African countries to be settled in local currency, and reduce the dependence on the US Dollar or Euro.

In short, West Africa or Africa as a whole need many things in order to develop, but a single currency isn’t one of them. Ultimately the costs of having a peg to the Euro another currency, outweigh the benefits, and it seems there are less restrictive ways of achieving the same goals gradually.

Thanks for making it this far, please send me your feedback (good or bad) and feel free to leave a comment. Also don’t forget to share with others if you have enjoyed reading this.

1. ECOWAS is The Economic Community of West African States. A regional political and economic union of fifteen countries (here is the full list).

2. Established in 1945, it is a currency used by former French colonies

3. This simply means the rate at which the CFA can be exchanged for the Euro is fixed. The French treasury also guarantees to provide Euro whenever needed. They also have to pay interest for keeping the money there. In return though, the member nations have to keep 50% of their reserves at the French central Bank. This would not apply to the Eco though.

4. Policies relating to money and currency

West African Economic and Monetary Union (WAEMU) – Benin, Burkina Faso, Côte d’Ivoire, Guinea-Bissau, Mali, Niger, Senegal and Togo. Central African Economic and Monetary Community (CAEMC) – Cameroon, Central African Republic, Republic of the Congo, Gabon, Equatorial Guinea and Chad.

5. The difference between total revenue and total expenditure of the government is termed as fiscal balance. If it is negative then it a deficit e.g. expenditures are higher than revenues. It is an indication of the total borrowings needed by the government.