Lessons missed in the case for EAC monetary union
Posted Sunday, January 15 2012 at 17:51
An East African Safari: We hear the EAC is bracing for a monetary union from March 2012; that if the European Union did it with the euro and a one-size-fits-all monetary policy, well who are we?
A market of 127 million people flaunts a combined gross domestic product (GDP) of $73 billion set to grow with recent oil and gas discoveries. The case for a currency area and the East African Central Bank (EACB) seems tightly sealed. Why do I see a risk and cracks?
Are the conditions right to surrender sovereignty in monetary policy (the exchange rate in particular) even where members face country-specific shocks? True, the classic benefits are substantial: cheaper transactions, safe cross-border investments, capture of a quantity known as seignorage.
Yet, to avoid ditching EAC’s vehicle into a gully, take driving lessons, please. A good start is the European Union, its unfolding euro-crisis.
Lessons in good driving: It proves the deepest questions come from financial sector preparedness. Markets demand credible domestic macro-policies to move capital among member countries. When financial risks escalate, markets dig deeper potholes on the road, starving credit to some members even if there is enough savings to go around in the union.
Yet financial markets are weak and savings is scarce in deficits-ridden EAC. Ignore the facts of imbalances and the markets will punish even booming currency areas. The system wobbles especially when not backed by another key ingredient.
The latter is the grease oiling winners in currency areas – UK and US. As if this lacuna is not enough, in the euro’s case, rival currency areas wait in the wings to wage currency wars.
The Fed’s vow to keep US interest rates near zero to 2013, for example, confirms a prolonged devaluation of the US dollar, adding fuel into the euro’s bonfire of troubles.
Two main indicators gauge the health of a county’s balance sheet that financial markets watch closely: aggregate domestic savings and investments. These are catch-all identities in national accounts that rope in financial health of the government, the private sector and external transactions. Excessive divergence of investments from savings cannot persist before the markets spoil the party.
Running on empty
For decades, integrating Africa has pursued trade benefits while aspiring to merge international finance with the potential of regionally co-ordinated macro-policies. But the twin headaches of matching domestic policies with regional objectives on one hand and achieving credible savings/investment balances that minimise financial risks are underplayed.
The EAC – having died in 1977 then reincarnated to promise a monetary union – raises questions, but rarely on the imbalances. The Bujumbura Summit at the end of November 2011 revealed that political leaders are more optimistic about the federation than citizens. The technocrats, again, were not reading the fuel gauge of regional capital markets!
A laughable paradox of the experiment is the role of the European Central Bank (ECB).
In the midst of drip-feeding the euro on its deathbed, it commissioned the study that the EAC hopes to use to steer ahead with monetary union. Its raft of EAC indicators to be harmonised misses the point on political will and collective commitments on savings/investment balances.
It underplays the rudimentary capital market of EAC’s financial sectors dominated by banks for moving savings and borrowing. The indicators, GDP growth rates, inflation and budgetary deficit face critical measurement and comparability problems across EAC borders.
Take the matatu industry. Up to the moment when the next vehicle crushes on the roads killing dozens, the authorities waffle.