Senegal - An economy under adjustment (Vol. 2 of 2) : Main report

Report No. "M-SE Senegal An Economy under Adjustment Executive Summary February 13,1987 Western Africa Region FOR OFFICIAL USE ONLY -A g N;ir ,4. yZ I IT Wlkv J w v- V P 's z Z K" 713X k7-Z t 7P -j-
'! r V . . . . ...... tw_L, n 406 IC 14 . 7 --V M vz'; t fft At W' W-0 L q,, w X, D  CURRENCY EQUIVALENTS Currency Unit - CPA Franc (CFAF) US$1.00 CPA 320 1/ CFAF 1 million US$3125 CFAF/US$ (Arnual Average) (End Period) 271.7 1981 287.4 328.6 1982 336.3 381.1 1983 417.4 437.0 1984 479.6 449.3 1985 378.1 346.3 1986 322.8 MEASURES AND EQUIVALENTS 1 meter (m) 39.3' inches (in) 1 square meter (m) - 10.9 square feet (sq ft) 1 kilometer (km) 0.62 mili (ml) 1 hectare (ha) - 10,000 i or 2.471 acres 1 acre 4,047 m or 0.405 ha 1 kilogram (kg) - 2.2 pounds (lbs) 1 pound (lb) 0 0.454 kg 1 tonne (metric) 2,205 lbs or 1,000 kgs FISCAL YEAR Government of Senegal a July 1 - June 30 DEVELOPMENT PLANS IVth Plan Fiscal years 1973/74 - 1976/77 Vth Plan Fiscal years 1977/78 - 1980/81 VIth Plan Fiscal years 1981/82 - 1984/85 VIIth Plan Fiscal years 1985/86 - 1988/89 1/ The CFA Franc (CFAF) is tied to the French Franc (FF) in the ratio of FF I to CFAF 50. The French Franc is currently floating. An Exchange rate of CFAF345 - US$1.00 is used for projection purposes in this report.  FOR OFCIL USE Ony SENEGAL - AN ECONOMY UNDER ADJUSTMENT EXECUTIVE SUMMARY I. Background 1. The last economic memorandum on Senegal (November 1984) highlighted the needs for adjustment and for concessional a.d to allow for the resumption of sustainable economic growth. It also served as the framework of discussions between the Government of Senegal and the international donor community at the first Consultative Group (CG) meeting in December of that year. This country economic memorandum examines Senegal's economic devs aopments and significant adjustment efforts since then and identifies the broad objectives for the next phase of the adjustment process. The report also reviews Senegal's medium-term prospects in light of the changes which have occured in the international scene since 1984 and ita needs for external financing during the next five to ten years. II. Overview of Recent Developments A. AdJustment Efforts 2. In the face of the country's serious structural and financial problems, the Government has, since the late 19709, adopted a number of corrective programs with the assistance of the International Monetary Fund and the World Bank and with the support of official creditors and commercial banks. The first major "adjustment effort" as such was Initiated with the announcement of the Widium-term Program for Economic Adjustment (1980-84) in December 1979, which provided the framework for various IMF programs and the World Bank's first Structural Adjustment Loan. However, due to a variety of factors, including severe droughts in 1980 and 1981, the results of these programs were mixed. 3. The Government, recognizing the need to intensify the adjustment effort then formulated the Economic Adjustment Program in the Medium and Long-Term (PAML, after its French title) which detailed Senegal's adjustment objectives and broad policy framework for the period 1985-92. This program was endorsed by the international donor community at the first CG meeting (December 1984). The Government also prepared a shorter-term action plan for the three years 1985-87, which was supported by two IMF Stand-by arrangements and the second IDA Structural Adjustment Credit. The program aimed to achieve viable balance of payments and public finance positions and to create an environment conducive to economic growth. To accomplish these objectives, the Government undertook to progressively withdraw from direct involvement in production activities, promote private sector initiative through a change in incentive policies, and achieve greater efficiency In the management of public sector expenditures and Investments. 4. More recently, the Government of Senegal has, in close collaboration with the Fund and the Bank, decided to set out for the This documet has a resled dbuto and may b ued Wby ecpents onl i the peom of the offiel dutes Ifs contents my not othwie be dbscosd whout World lak aut lsn  adjustment effort, an overall policy framework. The basic objectives, detailed In the Policy Framework Paper, 1987-90 (SacM86-1143), Include achieving an average real GDP growth rate which would allow a gradual improvement In real per capita incomes, curbing the rate of inflation, and reducing the deficit on the external current account. The Policy Framework Paper reiterated key strategies adopted earlier, such as the promotion of private sector initiative through appropriate pricing and other incentive policies, and the achievement of greatar efficiency in public resource management. 5. The Policy Framework Paper provided the basis for the finalization of a one-year Stand-by arrangement for SDR 34.0 million with the IMF which began last November and a three-year Structural Adjustment Facility (SAP) projected ,t SDR 40.0 million. The adjustment program will also be supported by a new Structural Adjustment Credit which is under preparation by Bank staff. B. Economic Developments 6. Following the severe drought of 1983/84, the Senegalese economy suffered a decline in real output of 4.62 in 1984. As a result, in spite of the moderate recovery in 1985, estimated at 3.81 by the Government, the average annual economic growth rate in the first half of the decade fell to under 21. Given that provisional GDP estimates In Senegal have tended to be generally over-optimistic, the actual growth performance may be even lower than depicted by the above figures. 7. FollowinS the disastrous drought conditions of 1983/84, climatic conditions for agricultural production have improved significantly in the past two years* The output response has, however, been slow; agricultural output in 1984/85 was barely better than the previous year. The situation sharply improved in 1985/86 when good rainfall in most reglions translated into above-average yields for most crops. A record 1.23 million tons of grains were produced, or 771 more than previous yesr's level. Groundnuts, however, have dons less well. Over the two seasons 1983/84 and 1984/85, the acreago devoted to groundnut cultivation has shrunk by an estimated 500,000 ha. This development was accounted for by severe drought conditions which have shifted groundnut production to better rainfall areas in the south, by the need for farmers to replenish their stocks of grains and by the fact that groundnut prices have remained practically unchanged since 1981/82. Although the declining trend in the are devoted to groundnut cultivation was reversed In 1985/86, groundnut acreage In 1985/86 was still 300,000 ha smaller than In 1982/83. 8. Output in the secondary sector as a whole was directly affected by the fall of agricultural production in 1983/84. As a result, industry, which accounted for about 272 of GDP In the 1983-85 period, barely grew during that period. Production Increased by an estimated 41 in 1986, however, lod by a sharp rebound in the oil mill sub-sector following the good groundnut harvest. Based on the Improved agricuZtural performance,  - 3 - real GDP is tentatively estimated by the Gdnvernment to have grown by 4.6X in 1986. 9. The rate of inflation has fallen noticeably in the past three years. Helped by the sharp decline in the import prices of rice and petroleum, the substantial strengthening of the CPA franc vis-a-vis tha US dollar, aad the continuation of tight domestic credit and monetary policies, inflation, measured by the GDP deflator, declined to an estimated 7.5% in 1986 compared with 13.2% in 1984. Nevertheless, acbLeving a further reduction in the rate of inflation - which continues to exceed that of Senegal's major trading partners - remains an important policy objective. 10. After increasing by more than 20% on average per year during the 1981-84 period from the very low level to which they had fallen iu 1980, Senegal's export earnings fell significantly in 1985. Although export volume recovered strongly in 1986, much weaker commodity prices have kept the value of exports at roughly its 1983 level. Import volume has fallen steadily as the consequence both of the stagnation of economic activity and of the restrictive demand policies. As a result, the trade balance has been iaproving since 1985. The current account deficit (excluding official transfers) has thus declined from CFAF 183 billion in 1983 to CFAF 128 billion in 1986. Expressed as a share of GDP, the improvement is even more dramatic, falling from 19.5% to 9.8% during the same period. 11. Senegal's public finance situation has also improved significantly over the last two years, with the overall fiscal deficit on a commitment basis declining from 4.6% of GDP in 1983/84 to 2.3% in 1985/86. Most of this has been achieved through the containment of expenditures, particularly development expendStures and transfers and subsidies. Measures to achieve an adequate growth in revenues will require more focus in the next phase of the adjustment program. Tax revenues have been constrained by the stagnation in economic activity and weaknesees in tax administration. III. The Medium-Term Adjustment Program and Growth Prospects A. Medium-Term Adjustment: Objectives and Progress 12. The explicit assumptions and objectives of the Government's medium/long-term adjustment program for 1985-92 were set out in the General Policy Statement (DPG, after its French title) it presented to the first Consultative Group meeting in December 1984. The same assumptions and objectives were adopted for the macro-economic framework of the Seventh Development Plan (FY86-89) issued in July 1985. According to these documents, adjustment with growth is to be sought through policies to increase food self-sufficiency and to encourage production for export. To re-establish balance in the economy, the growth of consumption will be contained while the marginal efficiency of investment will be raised to over 20% in the 1985-89 period.  - 4 - 13. The Government's progress In Implementing its adjustment program since 1983 has been generally good. In agriculture, the Government has taken steps to assign greater responsibilities to the producers, gradually withdraw the State from production and marketing operations, and implement an appropriate pricing policy. Concurrently, It is implementing a new industrial policy, designed to improve the long-run competitiveness of Senegal's industrial sector. To this end, the system of protection is being rationalized by reducing and harmonizing tariffs, phasing out quantitative import restrictions, reducing Government controls on private enterprises, and revamping export promotion Incentives. In the public sector, the Government has embarked on a vigorous reform of parapublic enterprises by working out a timetable for their liquidation, privatization or rehabilitation. To improve the public investment programming process the Planning Ministry has completed the first three-year "rolling" investment program for the 1987/90 period. 1/ 14. Except for the noticeable turnaround in the Government's fiscal performance, the implementation of new policies is still at an early stage, and it is too soon to observe their impact on the economy at large. It is, nevertheless, evident in the light of the experience of the last two years that the adjustment efforts will need to be intensified, as set out in the Policy Framework Paper. There are three reasons for this. First, the poor growth performance in recent years means that the "growth with adjustment" effort has to start from a lower base. Second, the supply response expected from Senegal's traditional export sectors like groundnuts, phosphates and fish may turn out to be lower than assumed in the 1984 DPG. And third, the recent decline in international prices for most of Senegal's exports and the reappearance of an appreciating real effective exchange rate (due to higher inflation in Senegal compared to that in its main trading partners and the fall in the dollar) will prove to be major obstacles for Senegal to regain competitiveness and dynamism in its export and import-substitution sectors. B. Nedium-Term Growth Prospects 15. The Government's overriding objective as set out in the Policy Framework Paper is to achieve a higher rate of economic growth commensurate with sustainable fiscal and external account deficits. The specific objectives are three-fold: (i) to achieve an average annual growth rate of real GDP of about 3.5% p.a., which would help improve real per capita incomes; (ii) to reduce the annual rate f inflation from about 9% 1i 1985/86 to around 5X in 1988/89; and (iii) to reduce the current account deficit, (including official transfers) to around 3% of GDP in 1990, thereby ending the recourse to exceptional financing. Associated 1/ Senegal - A Review of the Three-year Public Investment Program 1987/88-1989/90 (Report No. 6450-SE).  -5- objectives are to eliminate the Government's overall fiscal deficit and to clear all domestic arrears by the end of 1988/89. 16. The attainment of the above growth rate in GCD assumes that the agricultural sector will grow at an annual rate of about 3.5%; total cereal production, as stipulated in the Cereal Development Plan, will reach an average of 1.4 million tons in the 1991-95 period, implying an annual growth rate of almost 5%. Grouudnut production is projected to recover and stabilize at the level achieved in the early 1980s, or about 825 thousand tons. The Senegalese economy is projected to gradually become more industrialized with growth of the manufacturing sector projected to accelerate from about 3.5X in the second half of the 19809 to slightly over 52 in the first half of the next decade. But the mining sector will lag behind GDP because of both demand and supply constraints on phosphate expansion. Finally, the conscious effort to restrict the size of the Government service sector will contain the growth of the tertiary sector. C. Potential Growth Constraints 17. Even given the relatively successful launching of the adjustment program, the achievement of the target growth rate of 3.51 per annum is predicated on the convergence of a number of favorable developments, particularly concerning the supply response in agriculture and industry and the capacity of the economy to generate resources for rehabilitation and new investment. For example, recent experience in the agricultural sector shows that the large scale introduction of irrigation investments, which will constitute the foundation or achieving the targets of the Cereal Development Plan, is yet to be fully justified on a strict cost/benefit analysis basis because of the heavy capital and management cost involved. Also, technical and environmental factors represent important blockages to expanding groundnut production, the prospects of which have brighthened somewhat following the recent rise in domestic producer pTices. Groundnut production must in the long run depend on a sustained recovery in international prices. Finally, there are deep-seated supply constraints to the expansion of the fishing and mining sectors; major efforts will likely be required to overcome these. Even assuming that the Government will be relatively successful in modernizing the industrial fishing fleet and providing better services for the small-scale fishermen, foreign competition for the more valuable offshore resources will remain a iajor constraint. 18. The expansion of the industrial sector will rely to a large extent on the revival of private sector activity and the privatization of a number of parapublic enterprises. The success in promoting the private sector, in turn, requires the availability of adequate credit, which, under the difficult financial position of Senegal's banking system, is not assured. It is possible that the forthcoming restructuring of the banking sector would, in the next year or two, lead to much tighter credit conditions which impede the expansf=n of private enterprises. While the restructuring of the industrial sector has already begun, there remain uncertainties as to which industries will be the first to respond to the  -6 new industrial incentives and new labor policy measures which are being implemented. The difficulties of developing new export products and markets cannot be minimized. In spite of the Government's relative success in reducing the cost of labor, this has yet to translate into greater job creation. It is thus conceivable that the concern to minimize any worsening of the already worrisome urban unemployment situation may slow the implementation of the required adjustment measures. 19. in summary, the various supply side policy measures and the progressive liberalization of the economy have laid the framework for a more rapid rate of economic growth in the medium term. Nevtertheless, institutional weaknesses, supply side rigidities, the limited capacity of the enterprises to quickly reorient toward export promotion, and the weak banking seetor could prove to be serious obstacles to achieving the target growth rate. D. Resource Mana ement in the Public Sector 20. The structural adjustment of the real sectors of the economy has, in the last three years, been accompanied by a sustained effort to improve the management of resources in the public sector. Most noteworthy are efforts to limit the growth of wages and salaries of the civil service and to improve public debt management and procurement guidelines and practices. In addition, subsidies and transfers to the public sector are being reduced and are subject to performance criteria, while transactions with Treasury correspondents (notably the stabilization funds for agricultural commodities and petroleum products) are being more closely monitored. 21. A new system of programming and budgeting of public investments was introduced in 1986 and is expected to gradually reorient the allocation of aid resources to well-prepared development projects of high priority. This replaces the old "shopping list" approach adopted in previous development plans. The Government has adopted an action plan for accelerating the reforms of the parapublic sector. Use of performance contracts ("contrats-plans") will be intensified and the monitoring of their implementation strengthened. A number of enterprises already identified for divestiture will be privatized; a thorough inventory of direct subsidies and transfers and cross arrears between the Treasury and enterprises has been completed; and a timetable for the settlement of these arrears is being finalized. 22. As mentioned in para. 13 above, although the overall fiscal performance has improved greatly since 1982/83, revenue mobilization, particularly of tax revenues, has deteriorated. This trend has forced increased reliance on non-tax revenues, notably the windfall surplus from rice and petroleum imports, thus introducing great uncertainty in the budgetary process. The resulting high cost of energy has been detrimental to key industries slch as phosphate and fisheries. In recognition of these issues, the Government has initiated a series of measures to increase revenue mobilization including a revision of the Tax Code, extending the  -7- tax base, and discontinuing the system of special tax agreements ("conventions speciales"). IV. External Resource Requirements A. External Assistance and Debt 23. During the period 1981-85, commitments of medium and long-term loans and grants averaged CFAF 190 billion, or US$520 million a year. Loans, which accounted for over two-thirds of total commitments in 1982, have since played a more mincv role. During the same period, bilateral sources have increased their share of total loan commitments to almost one half in 1985 (multilateral sources and financial institutions accounted for one quarter of the total each). The bulk of grant commitments have also come from bilateral sources. The substantial improvement in the balance of payments over the past several years has reduced the need for INF purchases, which declined from CFAF 19.3 billion in 1981 to CFAF 17.1 billion in 1986, including CFAF 5.9 billion from the Structural Adjustment Facility. Finally, transfers have become the fastest-growing external receipts of Senegal, averaging some CPAF 40 billion in recent years. 24. Between 1981 and 1985, Senegal's total public debt outstanding increased by almost 2.5 times to reach CFAE 950 billion in 1985, or nearly 82% of GDP. In 1985, bilateral sources accounted for almost half of Senegal's total debt as a consequence of a larger share of total disbursements but also of the repeated rescheduling exercises. Thanks to this relief, the debt service ratio has remained manageable, although it has risen from 10.8% in 1981 to 22.1% by the end of 1985. B. Balance of Payments Prospects 25. Whether or not Senegal will succeed to achieve the growth target discussed earlier depends, to a large extent, on its ability to expand its export earnings. Commodity-by-commodity projections indicate that growth in axport volumes will likely slow after 1990. The slowdown is due mainly to the stagnation in the groundnut sector once production has regained its peak reached in the early years of the 1980s and to constraints facing the phosphate sector. The modest export outlook will mean that efforts to contain imports will need to continue in order to maintain the externsl deficits at sustainable levels. Assuming a constant exchange rate of CPAF 345 - US$1 2/ and thie most recent World Bank commodity projections, the resource gap (exports of goods and non-factor services minus imports) under the target growth scenario is projected to remain basically unchanged in nominal terms although, as a proportion of GDP, it would decline from 5.4% 2/ The dollar has since our latest forecast revision fallen further to CPAP 300 - US$1.  - 8 - in 1986 to around 3% by 1995. By assuming that new comwitments of both loans and grants will continue to grow at historical rates, the deficit on the external current account (including official transfers and grants) would fall to about 2.9% of GDP in 1995. 26. The above projections suggest two important conclusions as far as external financing is concerned. The first is that debt rescheduling atter about 1988 is no longer a necessary feature of the total aid package - if Senegal succeeds in its structural adjustment program. Rescheduling will probably still be needed in 1987 and 1988, partly to help get over the hump of repayments due as a result of the earlier reschedulings. But by 1990 Senegal would have achieved an overall balance, and could handle its external debt commitments without further rescheduling. Should the current adjustment program, however, take substantially longer to raise output and exports, given the capital account position as projected, the deficit in the overall balance of payments would not only require continuing debt reschedulings in the future but would necessitate drastic measures to control imports, which will also have a detrimental impact on growth performance. 27. The above figures underline the fact that it is clearly essential that the bulk of external capital assistance to Senegal be applied to productive -- i.e., income generating - uses. Also, neither the short-term problems of economic policy nor the long-term goals of resource development should distract attention away from this obvious truth: if Senegal is to survive economically and to pay its way, then a major effort is needed to improve its export production capacity and export competitiveness over the next five to ten years. V. Priorities for Economic Policy 28. The most recent phase of Senegal's adjustment efforts has placed emphasis on financial stabilization, improved investment programing, and the strengthening of incentives to encourage growth. While it may take some time before the expected supply response becomes visible, the implementation of further financial stabilization policies is necessary; this will inevitably have the effect of restraining domestic demand and overall growth in the short run. Senegal would, however, be well-advised to stay on its present course rather than seek to create stronger growth by artificially stimulating domestic detmand which could lead to a less favorable external sector and to growing debt servicing problems. 29. In agriculture, the Government should press ahead with its VAw Agricultural Policy, its Cereal Development Plan, and the donor-backed program to strengthen agricultural research. The rationalization of rural development agencies and the further liberalization of the marketing of cereals and the reorganization of the groundnut sector should continue to receive high priority. In industry, besides the continuation of the incentive policy reforms, a further harmonization of tariffs and the implementation of a more attractive export incentive scheme, the Government  -9- should make the effort to restructure a number of important existing industries, notably textiles and bankint. In the area of public management, efforts will be required to strenthening the management of the civil service with a view to facilitate a reduction in its number and to redeploy those remaining. Finally, the next round of adjustment should encompass the need to strengthen policy planning particularly as it relates to the long run development issues in such areas as irrigation development, desertification, education and manpower planning and population policy. On this last point, the Government must rapidly articulate a well-defined policy because the implications of a rapidly growing population on the demand for food, social services and physical infrastructure among others are extremely serious. Even assuming some decline in the fertility rate, Senegal's population would most probably double in the next 30 years. 30. In summary, Senegal has pursued a far-reaching program of economic reforms since 1983. The new realism of Senegal's economic policies and its search for greater effectiveness and coordiiution of external assistance have made it a leader among African countries which have embarked a process of structural adjustment supported by a close partnership with the international donor community. Yet, after four years of economic austerity, which has a major impact on the population at large, the above analysis suggests that Senegal still has a long way to go in achieving a sustainable growth path and a viable balance of payments.