Private investment under macroeconomic adjustment in Morocco

Policy, Research, and External Affairs WORKING PAPERS Macroeconomic Adjustment I and Growth The World Bank October 1991 WPS 787 Private Investment Under Macroeconomic Adjustment in Morocco Klaus Schmidt-Hebbel -J Tobias Muller Fiscal stabilization, a consistent foreign debt policy, more in- vestment in public infrastructure, and a reform of investment codes would increase private investment and growth in Mo- rocco. And reform of the financial sector. by making financial intermediation more efficienit, could imnprovc the quality of investment. The Policy, Rcnerch. hand hxiern al Afla;'s Compex sio'hies I'RI: 'A orksg Pa.lxr. to- d,sc-,:ale the fndi"S 1}' o1f 1 a orirogcss and to encourage the cxchange of ideas among Balik staff and ai) othc. imtetested in deseiopmncrt isss e w Thc papers dn* thle nd.c.s of rhe authors, reflect only their views, and should hc wsed and ctied accordi,gs [hr finding<, miltcrpretations, adrd ioncos.onc are Lhe authors' own. They should not he attributed ro the 'orld Brak, is Board of Dtr.oco--. ias nanagonen:. or ans of hr i ine ri isct  Policy, Research, and External Affalts i Macroeconomic Adjustment and Growth WPS 787 This paper - a product of the Macroeconomic Adjustment and Growth Division, Country Economics Department -- is part of a larger effort in PRE to understand the behavior of private investment in developing countries. Copies are available free from the World Bank, 1818 H Street NW, Washington DC 20433. Please contact Susheela Jonnakutv, room NI 1-039, extension 39074 (40 pages). October 1991. A significant domestic counterpart of Morocco's of capital, a more stringent credit policy, and vigorous external adjustment in the eighties was reduced public capital a decline in fixed capital formation, of which the private sector bore a sizable share. They further conclude that fiscal stabiliza- tion, a consistent foreign debt policy, more Schmidt-Hebbel and Muller focus on the investment in public infrastructure, and a refonn causes of declining private investment and on the of investment codes would increase private policies required to reverse this trend. Using an investment and growth in Morocco. eclectic framework, they econometrically determnine the main deterninants of private Moreover, reformn of the financial sector - investment in Morocco. even if it would not necessarily increase total resources available for investment - could They conclude that the main causes of the significal'y improve the efficiency of financial decline of private investment in Morocco in the intermediation and therefore the quality of eighties were great uncertainty about policy investment in Morocco. (proxied by foreign debt), a rapid rise in the cost The PRE Working PapeT Series disseminates the findings of work under wan in the Hanks Policy. Research. and External AffairsComplex. Anobjective of the series is to get thcsc findings ot quicukly. c en if l rcCiaiions are les than fully polshed Thc findings. interprctations, and conclusion, in thesc papers do not necessarily represcnt official Blank polic%. Produced by the PRE Dissemination CcnticL  CONTENTS 1. INTRODUCTION 2. PRIVATE AND PUBLIC INVESITMENT IN MOROCCO: MEASUREMENT PROBLEMS AND BEHAVIORAL PATTERN 2.1 Investment in Morocco and Other Highly Indebted Countries 2.2 Major Trends in Investment-Saving P,alances 2.3 Constant-Price Private Investment 3. THE BEHAVIOR OF PRIVATE INVESTMENT, 1970-1988 3.* A Framework for Private Investment 3.2 Major Private Investment Determinants 3.3 Aggregate Private Investment Behavior 3.3.1 Estimation Results 3.3.2. Why did Investment Fall in the Eighties? An Ex-post Simulation 3.4 Private Investment Behavior by Sectors of Origin 4. CONCLUSIONS AND POLICY IMPLICATIONS 4.1 Main Findings 4.2 Policy Implications REFERENCES APPENDIX A: A METHODOLOGICAL NOTE ON THE PRIVATE INVESTMENT SERIES APPENDIX B: THE REAL USER COST OF CAPITAL APPENDIX C: MOROCCO DATA SERIES (1970-1988) *This paper originated from collaboration with EM2CO on Morocco country work. We thank Isabel Guerrero, country economist for Morocco, for very valuable comments and support. We are also indebted to Alberto Antonini, Bela Balassa, Ajay Chhibber, Mansoor Dailami, and Bernard Ziller for useful comments.  1. INTRODUCTION Morocco went through a major macroeconomic and external adjustment during the eighties, drastically reducing its current account deficit, from 12.3% of GDP in 1981-82 to zero in 1988. The domestic counterpart of this adjustment was a major increase in gross national saving, which rose from 14.9% of GDP in 1981-82 to 22.6% in 1987-88, and a significant decline in gross fixed capital formation, from 26.7% to 20.2% during the same period. This sizeable investment decline has serious implications for future growth. An important share of the adjustment affort was borne by the private sector. While private saving increased from 20.8% of GDP in 1981-82 to 23.5% in 1987-88, private fixed capital formation dropped from 19.2% to 16.2%. Due to the huge real exchange rate depreciation after 1980 - which supported the external adjustment - the levels and the decline in the constant-pricet private investment rate are even more dramatic: it fell from 17% in 1981-82 to 13.4% in 1987-88. The purpose of this paper is to identify the main determinants of private capital formation in Morocco.' This will help to derive implications for policies supportive of higher investment efforts required for a path of high and sustainable growth. Section 2 describes the performance of private and public investment during 1970-1988. The next section presents a framework for private investment, reviews the evolution of its main determinants, and presents econometric estimates of private investment functions covering the period 1970-1988. Section A atimmari7p- tho mkin findings and draws policv imnlications. 'An analysis of private sector saving in Morocco is carried out in Schmidt-Hebbel and Muiller (1990).  -2 - 2. PRIVATE AND PUBLIC INVESTMENT IN MOROCCO: MEASUREMENT PROBLEMS AND BEHAVIORAL PATTERN This section reviews the evolution of private and public investment rates during the last two decades. Assessing Morocco's investment record both over time and in comparison to other countries suggests patterns and puzzles which are analyzed more systematically in the following section. One word of caution is in order. Due to limitations of data availability discussed at length in Appendix A, national saving and total gross domestic investment could only be broken down into two sector categories: general government' and private sector (including public enterprises). In the following pages, the words public and private refer to this particular breakdown, e.g. public sector capital stock means government sector capital stock.3 2.1 Investment in Morocco and Other Highly Indebted Countries Investment rates have shown large fluctuations over the last two decades in Morocco. Compared to 12 other highly indebted countries (HICs)4, the evolution of Morocco's investment rate shows similarities, but also distinctive features that raise questions (see figure 2.1). 2General governLment is defined as the aggregate of the central goverunent (budget general, budgets annexes, comptes speciaux du tresor), local administrations, public non profit organizations (e.g. universities, hospitals), and the social security system. "This definition of the private sector, encompassing public enterprises, forces to be cautious in drawing conclusions from the data. However, the variability in the investment sample is large enough not to depend too much on public enterprise investment, which accounted for only 28% of non- government investment in 1980-82. Appendix A discusses some limited evidence on the evolution of "pure" private and public enterprise investment. 'The World Bank groups 17 countries as highly indebted countries. Private (and total) investment rates are published by Pfeffermann and Madarassy (1989) for 12 of them, i.e. Argentina, Bolivia, Brazil, Chile, Costa Rica, Ecuador, Mexico, Nigeria, Peru, Philippines, Uruguay, and Venezuela. When comparing private investment rates in the HICs with those for Morocco, one has to bear in mind that the latter includes public enterprise investment, whereas the HICs data does not for most countries. For this comparison investment rates at current prices are used for all countries.  -3 - The broad trends are similar: an increase of the investment rate until the late seventies and a clear decline in the eighties with the outbreak of the debt crisis. The differences occur (i) between 1975 and 1977, when both total and private investment rose to very high levels in Morocco, and (ii) after 1985, when investment picked up in the other HICs, but not in Morocco. However. in 1987 the ratio of total investment to GDP (at current prices) was still higher in Morocco than in the other HICs. This simple comparison raises two questions with important policy implications: why did the private investment rate fall in the eighties in Morocco, and why did private investment not respond earlier to the new incentive structure created by structural reforms, as in other HICs-? The following paragraphs illustrate and comment on the historical evolution of investment and saving in Morocco, without trying to answer the questions raised above. Some answers will be given in the light of the econometric results in sections 3 and 4. 2.2 Maior Trends in Investment-Saving Balances Two general observations can be drawn from the recent evolution: (i) Private and public investment seem to be highly correlated (see Figure 2.1). This cannot be entirely explained by the fact that private investment includes public enterprises, as the latter account for less than a third of non-government investment. It may reflect a strong complementarity between public and private investment; or it can indicate that v !nn^ "a ,^">^v otrani.+v nr%n, %^ s w-. s;. ,}+.s .'- U^ -0-A U., 4-. specification below. Mhere are some indications, such as investment permits given to the manufacturing sector, that private industrial investment has finally started to recover in Morocco in 1989.  Figure 2.1 IPrivate and Total Fixed-Capital Investment in Morocco and 12 Highly Indebted Countries % of GDP (% of GDP, at current prices) 35 __ 30 - 25 - 20 - 1 5 L..-- - -- - - 10 5 I I -I--- I .- _.1 70 71 72 73 74 75 76 77 78 79 80 81 82 83 84 85 86 87 88 Morocco: Private Investment/GDP -- Morocco: Total Investment/GDP 12 HICS: Private Investment/GDP 12 HICS: Total Investment/GDP  -5 - (ii) Figure 2.2 illustrates the current-price saving-investment balance for the economy6. It shows that both the public and private sectors contributed to the significant external adjustment whic'l took place since the mid-eighties. The evolution of investment and saving rates should aiso be seen in the context of external developments and domestic economic policy decisions. In the early seventies private investment (fixed capital formation) and saving rates were relatively low, about 10% and 16%, respectively. The 1973-74 oil and phosphate price shocks led to a strong increase in privatc saving, which was partially reversed thereafter. However, private saving remained during 1975-1981 at levels 5 percentage points of GDP higher than those of the early seventies. From 1975 to 1977 an unprecedented boom in investment rates occurred due to the simultaneous impact of three factors. First, the 1973-1977 five-year plan had already set ambitious targets for public investment. Second, the sudden rise of phosphate prices in 1974, as well as Morocco's claim on the Western Sahara, led to an upward revision of the investment targets. Finally, the private investment rate more than doubled between 1973 and 1977. The government deficit rose massively and the private saving-investment surplus shrunk. Foreign saving therefore reached an all-time high of 15.7% of GDP in 1977. The following 1978-1980 three-year plan aimed at reestablishing macroeconomic balances. The gnyarnmPnt deificit was reduced and public and private investmnent rates fell to 6% and 17% respectivelv. Public investment was slightly revived in the first two years of the 1981-1985 plan, while public saving deteriorated significantly. The ensuing rise in the public deficit was reflected in a similar current account deterioration which, in combination with the 1982 intel.lational debt crisis, led to Morocco's 6See also Table C.1 in the Appendix.  Figure 2.2 Morocco: Saving - Investment Balance (% of GDP, at curreni prices) 20 ------------- --~ 10 ' -20~~~~~~~~~~~~~~~~~~~~~~~~~~- -20 ll * . Al | LL _ i . I 70 71 72 73 74 75 76 77 78 79 80 81 82 83 84 85 86 87 88 7 C(urrent Account Private Saving - Gov't Saving - I)eficit/ GDP Investment/ GDP Irnvestment/ GDP  -7- 1983 balance of payments crisis. No longer being able to finance its current account deficit, the country implemented a stabilization program with assistance from the IMF and the World Bank. On the basis of the IMF stand-by programs the government obtained successive rescheduling of its foreign debt. The strong adjustment effort carried out since 1983 combined expenditure-switching measures based mainly on devaluations with fiscal expenditure-reducing policies. They resulted in continuous improvements in both public and current account deficits during 1982-88 -- Morocco, in fact, achieved a slight current account surplus in 1988. However, both private and public investment levels bore a significant share of this adjustment effort. 2.3 Constant-Price Private Investmnent When interpreting the time series for the private investment rate, one has to bear in mind the importance of the investment deflator. The real depreciation of the Dirham between 1980 and 1985 drove a wedge between the GDP and the investment deflator, reflecting the high share of imported goods in investment. Thus the evolution of private investment appears in a different light whether it is evaluated at current or constant prices. However, the relevant indicator for measuring the increase in the capital stock is the investment rate measured at constant prices. Constar,t-price private investment, as illustrated by figure 2.3, fell from 17% in 1981-82 to 13% of GDP in 1988. In addition, machinery and equipment decreased their share in total private investment, from 43% (or 7.3% of GDP) in 1981-82 to 36%.- (or 4. vf CDfl mfO 19