The project for a single currency in Africa seems closer than ever. The fifteen countries of the Economic Community of West African States (ECOWAS) recently agreed to abandon their monetary sovereignty in 2020 and introduce a new common currency: the ECO.
This isn’t the first shared currency in post-colonial Africa. The CFA franc is now used by around 150 million people in fourteen African countries, most of which are former French colonies. Yet the ECO differs from the CFA franc in three crucial aspects. First, the CFA franc is currently pegged to the Euro, which reduces the autonomy of national central banks to conduct monetary policy. In contrast, the ECO is expected to be managed by a single central bank with capacity to make monetary-policy decisions under an inflation-targeting regime.
Second, there doesn’t exist a single monetary union encompassing all CFA franc users. Instead, there are two different currencies that go under the same name: the West African CFA franc and the Central African CFA franc. By comparison, the ECO will be the single currency of fifteen countries, bringing together 380 million citizens under a common monetary framework. Finally, and most importantly, the new monetary union will include the largest economy in Africa, Nigeria.
There are many potential advantages to the new monetary union. For one thing, as the Eurozone countries have generally found, a shared currency led by an autonomous central bank tends to keep inflation under control. In the twenty years prior to joining the Euro, Spain’s inflation rate averaged 8.5 per cent as opposed to 2 per cent between 1999 and 2018.
Furthermore, trade under a common currency becomes more efficient as exchange-rate-related costs disappear, boosting commercial transactions among members. It is estimated that trade between Eurozone countries increased by between 5 and 20 per cent after the introduction of the Euro. Another positive aspect of a monetary union is that it prevents members from resorting to continuous currency devaluations to become more competitive externally, forcing them to introduce productivity-boosting reforms to achieve the same objective.
As the Euro has also shown, a single currency also has some significant drawbacks. Countries with fragile institutions might be tempted to take advantage of lower financing costs resulting from sharing currency with higher-credibility countries, incentivising them to increase their fiscal deficits and public debt. The most dramatic example of this Greece joined the Euro, bringing about a debt crisis that threatened the integrity of the entire Eurozone.
In addition, a monetary union has short-term costs. Countries willing to join the ECO must meet some convergence criteria aimed at maintaining macroeconomic stability. These criteria aren’t very different from those contained in the Maastricht Treaty. ECOWAS demands that members maintain a fiscal deficit no higher of 3 per cent of GDP, and inflation rate of below 5 per cent, a stable exchange rate, and a public debt below 70 per cent of GDP, among other things.
Unfortunately, no ECOWAS country has been able to fulfil all criteria in recent years, which suggests that the 2020 deadline might have to be postponed once again. It is no surprise that those ECOWAS economies that currently share a common currency (the CFA franc) already meet most of these requirements, whereas countries with monetary sovereignty have struggled to get their house in order.
A monetary union with an independent central bank that carries out a price-stability-orientated monetary policy is a conditio sine qua non for African countries to pave the way for economic growth. However, monetary stability isn’t a panacea. The Euro experiment shows that countries need much more than a stable currency to continue growing and increasing the living standards of the population.
ECOWAS countries will have to implement structural reforms aimed at reinforcing their political and economic institutions, attracting foreign investments, and creating a business-friendly atmosphere that allows entrepreneurs to develop all their potential. Only then will the engine of fast economic growth that has worked so well for Asian countries pull African countries out of the poverty trap they have been immersed in for decades.
In any case, the ECO represents a significant improvement on the status quo where highly politicised national central banks struggle to conduct monetary policy in an independent manner. Time will tell if the new currency succeeds to achieve its objectives or is just another failed experiment on the bumpy road to prosperity.