Morocco - Country Assistance Strategy

Document of The World Bank FOR OFFICIAL USE ONLY Report No. 16219-MOR MEMORANDUM OF THE PRESIDENT OF THE INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT TO THE EXECUTIVE DIRECTORS ON A COUNTRY ASSISTANCE STRATEGY OF THE WORLD BANK GROUP FOR THE KINGDOM OF MOROCCO JANUARY 8, 1997 Country Operations I Maghreb and Iran Department Middle East and North Africa Region This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  CURRENCY AND EQUIVALENT UNITS Currency Unit = Moroccan Dirham (DM) US$1.00 = DH 8.777 DH 1.00 = US$.1139 FISCAL YEAR July 1 - June 30 GLOSSARY OF PRINCIPAL ABBREVIATIONS ANI) ACRONYMS AfDB African Development Bank BAJ Barnamaj al Aoulaouiyat al Ijtimaiya (Social priority program) BMCE Banque marocaine du commerce exterieur BNDE Banque nationale pour le developpement economique CAS Country Assistance Strategy CIH Credit iznmobilier et h6telier EDI Economic Development Institute EIB European Investment Bank EU European Union FATIMA Facilitation of Trade and Investment in the Mediterranean Region FDI Foreign Direct Investment FIAS Foreign Investment Advisory Service FTA Free Trade Agreement GATT General Agreement on Tariffs and Trade GDR Global Depository Receipt GEF Global Environmental Facility GOM Government of Morocco ICOR Incremental Capital Output Ratio ICR Implementation Completion Report IDF Institutional Development Fund LIBOR London Interbank Offered Rate LOF Loan Option Facility LSMS Living Standards Measurement Survey MEDA Mediterranean Development Assistance METAP Mediterranean Environmental Technical Assistance Program MFA Multi-Fiber Agreement MIGA Multilateral Investment Guarantee Agency NGO Non-Governmental Organization OED Operations Evaluation Department ONCF Office national des chemins defer OPIC Overseas Private Investment Corporation PE Public Enterprise PHRD Population and Human Resources Development PPII Private Provision of Infrastructure Initiative PSD Private Sector Development RDS Rural Development Strategy REER Real Effective Exchange Rate SAMIR Societe anonyme marocaine de l 'industrie du raffinage Vice President : Mr. Kemal Dervi~ Director : Mr. Daniel Ritchie Division Chief : Mr. Christian Delvoie Country Officer Mr. Rene Vaurs Country Economist Mr. Luc De Wulf  FOR OFFICIAL USE ONLY KINGDOM OF MOROCCO Country Assistance Strategy Contents Page No. Executive Summary ........................................ i Country Context ......................................1I - Economic Developments ...................................... I - Political Developments .......................................3 - Challenges: Internal and External .......................................3 - Development Goals and Reform Priorities .......................................6 - Prospects ...................................... 10 Bank Group Assistance Strategy .......................................11 - Status of Current Program and Dialogue .......................................1 I - Business Framework ....................................... 12 - Assistance Priorities ...................................... 13 - Instruments ...................................... 15 - Exposure ...................................... 21 - Risk Management ...................................... 22 - Performance Monitoring ....................................... 23 Agenda for Board Discussions ....................................... 23 Attachments - Attachment 1: Business Compact - Attachment II: Standard Annexes Map IBRD 24657 This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.   MEMORANDUM OF THE PRESIDENT OF THE INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT TO THE EXECUTIVE DIRECTORS ON A COUNTRY ASSISTANCE STRATEGY FOR THE KINGDOM OF MOROCCO Executive Summary The Chlallenge: Accelerating growth and social development through strong reform within a process of political opening. The next three years will be fundamental in setting the stage for future development, as Morocco embarks on significant economic, political and social reforms. In the past decade the country has made great strides toward economic transformation, achieving growth and macroeconomic stability. During the mid- to late 1980s, GDP and export growth were among the best in the Middle East and North Africa, and well above the average for comparator countries. Fiscal and balance of payments imbalances, which had reached double-digit levels in the early 1980s, were brought under control, and the overall economic environment was stabilized. By most indicators, Morocco qualified as a "star performer" during this period: all the more remarkable an achievement as Morocco 's policy makers in the mid-eighties had inherited a large foreign debt burden and had to stabilize the economy and generate resources for growth without the benefit of an outright debt reduction. More recently, however, Morocco has lost ground, and economic performance has faltered GDP growth has been negative in three of the past five vears, partly because of repeated and severe droughts. The reform process also slowed. This slowdown has highlighted the persistence of a number of structural weaknesses. Macroeconomic balances are still fragile and the debt overhang remains a serious problem. External competitiveness, strong during the 1980s, has been eroding. The economy is overly susceptible to drought and insufficiently diversijied Growth fundamentals are inadequate, as evidenced by low savings and investment rates. The human resource base is unpreparedfor the challenges of the twenty-first century. And disparities between urban and rural areas-the two Moroccos-are large and persistant. Morocco's recent history demonstrates its ability to confront challenges. Now that stability has been restored, the basis for strong, sustainable growth and social development must be strengthened. Morocco can realize 5 to 6 percent sustained growth, provided it moves forward promptly with its broad reform agenda. This is a prerequisite to reduce urban unemployment and rural poverty. But economic growth alone will not be sufficient. It will need to be accompanied by decisive efforts in accelerating social and rural development to reduce the existing social disparities. Medium-term priorities include enhancing competitiveness and fostering a more dynamic, aggressive private sector; deepening fiscal consolidation; paying special attention to human resources, where Morocco lags far behind its competitors; implementing a coherent rural development strategy; improving natural resource management, particularly for water; and, to support this broad agenda, building a more effective and efficient public administration. Placing the economy on a sustainable high-growth path while simultaneously reducing social disparities is not the only challenge. Morocco is also engaged in political reforms within a new constitulional framework that supports universal suffrage for the lower house of Parliament, decentralization of public authority, and greater legislative involvement in medium-term economic decision-making. Although these developments may slow economic reform in the immediate  -~ II - future, over the long ternl they shoulcd enhance popular participation in development and help ensure its sustainability. The Autlhorities' Response: Builcling consensus for ihe next phase of reform using strong signals an1d visible initial action. The Moroccan aulhorities recognize these challenges and understand the difficult tradeoffs they may entail. They have alreacly taken several major steps that signal their comnmitinent: * the recent free trade agreement with the European Union (Morocco was the second country in the region to sign such an agreen7ent) will lock in " the process of integration with the global economy, * the reforlmi process is being intensified, especially in the areas of public enterprises, privalization, the financial sector and private sector development; and * major new rural development programs have been designed, focusing on basic education, health care, water supply and rural infrastructure, although most of these pr ograms are still at an early stage of implementation. Perhaps most important, widespread public debate over the past eighteen months is building a consensus on future development priorities. Moroccans realize that their economy must become more campetitive and their society more cohesive. Action has begun in several important areas, but a medium-term framework has yet to be finalized, particularly in such sensitive areas as budget reallocations, education reform, rural development and public sector reform. This agenda must be addressed in the coming months, even as the country prepares for its constitutional changes and subsequent elections. The World Bank's Response. Renewed support for economic reform while strengthening social and rural development and promoting new ways of doing business. The World Bank has always enjoyed excellent relations with Morocco, and we have fully participated in the recent public debates in preparing this Country Assistance Strategy. But the new economic environment and the large social agenda facing the country, coupled with the mixed results of our past assistance in this area, callfor a new business compact between the Bank and Morocco. This compact includes. * a new lending approach, with fewer traditional investment projects and renewed support for policy-based adjustment lending, * stronger social and rural development and poverty alleviation programs, accounting for at least one-third of our investment program and conditioning the volume of all our adjustment lending; * new instruments, such as guarantees, pilot projects, new International Finance Corporation (IFC) products, and a unique "connector" role that helps bring together Morocco's private sector and entrepreneurs from other countries; * outreach efforts, to enhance the public debate and build constituencies for reform;  - iii - * increased partnership. especially with the European Union but also with the African Development Bank, the UN agencies and bilateral partners: and * establishment of a resident mnission. The Bank 's efforts will focus on four priorily areas consistent with the Government's reform agenda: encouraging more rapid growth, supporting increased social and rural development, strengthening environmental managenment, and reforming the public sector. The allocation of lending and non-lending services in each of these areas will be calibrated to reflect the progress achieved Progress on social objectives will be the fundamental determinant of Bank support, it will determine the overall volume of Bank support as well as the size of individual adjustment operations. Conclusion: Comnmitnment to reform is essentialfor fulfilling Morocco 's promise. It has become something of a cliche to talk of countries at the crossroads. Still, Morocco is undergoing a significant economic, political and social transition. Integrating with the global economy, developing greater pluralism in political life, and mitigating social disparities will require persistence, a strong commitment to reform, and continued support from the World Bank. In this context it seems that Morocco is poised for a qualitative change toward a more open society, politically and economically, ready to take its place in the global economy. This appears to be the direction set by the head of state, with support from a growing modern, dynamic and outward looking segment of society. The transformation faces many obstacles, however. In some cases progress may be blocked by concerns about social stability-yet genuine social stability will come onlyfrom social integration andjob creation, notfrom attempts to preserve old structures. Change and movement may involve risks-but given the country's poverty and social disparities, too slow a pace of change will entail even more risk. To improve the lives of its people and realize its economic potential, Morocco needs to move forward without delay.   COUNTRY ASSISTANCE STRATEGY MOROCCO Country Context Economic Developments 1.0. Morocco has experienced two phases of economic development over the past ten years. In the first, the late 1980s, Morocco had the potential to become a successful emerging economy based on solid adjustment and stabilization. In the early nineties, however, economic activity slowed considerably, because of three severe droughts and reduced adjustment efforts. As a result Morocco's performance has fallen below that of comparator countries (Table 1). Although significant recovery now appears to be under way, efforts will need to be consolidated to recover lost ground. Table 1. Annual Growth and Export Performance, 1986-95 (Percent) 1986-90 1991-95 GDP Morocco 4.5 1.2 High-growth comparator countries a/ 8.5 8.3 Lower-middle income country average b/ 3.4 4.7 Exports Morocco 9.4 5.0 High-growth comparator countries a/ 13.6 18.2 Lower-middle-income country average bl 5.8 9.4 Malaysia, Thailand, and Chile; weighted average. b/ Excludes Eastern Europe and the republics of the former Soviet Union. Source: World Bank data. 1.1. In 1983 Morocco initiated an extensive adjustment and stabilization program with support from the World Bank and the IMF. This program had a dramatic effect on macroeconomic balances between 1984-85 and 1991-92: the budget deficit fell from 10.4 percent of GDP to 2.7 percent; the current account deficit dropped from 7.3 percent to 1.7 percent during this time. In addition, stabilization was accompanied by substantial growth in output and rapidly expanding exports. And with rising per capita incomes poverty went from about 23 percent during the mid- 1980s to 13 percent in 1991. 1.2. During this period, broad structural reforms also reoriented the economy from one with pervasive state controls to one relying mainly on market mechanisms. Key reforms included: - overhaul of the tax system including introduction of a value added and general income tax; - economic liberalization, including major reductions in protection levels as well as rationalization and liberalization of most government-regulated prices; - financial sector reform and liberalization of interest rates; - initiation of a successful privatization program; and - streamlining and reform of the business environment. 1.3. These efforts helped Morocco attract foreign investment once its external debt was rescheduled. Open policies-including current account convertibility for all investors and capital account convertibility for foreigners, a new investment code and the privatization program- boosted direct foreign investment to a high 2.8 percent of GDP in 1994, partly because of the large investment associated with the gas pipeline to Europe.  - 2 - -2-~~~~~~~~~~ 1.4. Since the early 1990s, however, Morocco's economic performance has slowed, mainly because of unfavorable external events including severe droughts as well as sluggishness in Europe, its most important external market. As a result growth has slackened and urban unemployment has increased rapidly, reaching 23 percent in 1995. Meanwhile, poverty has increased significantly, possibly back to its level in the early 1980s. Poverty is essentially a rural phenomenon in Morocco, and the rural poor are particularly vulnerable to droughts. - GDP growth was negative during the drought years (1992, 1993 and 1995); - between 1992 and 1995 the fiscal deficit rose from 2.2 percent of GDP to 5.7 percent; - the current account deficit widened from 1.7 percent of GDP to 4.9 percent, leading to a reduction in the level of reserves; and - external competitiveness has been eroded, with the real effective exchange rate appreciating by about 15 percent since 1990. 1.5. Throughout this period, however, the Government has continued to pursue prudent monetary policies. Inflation has been kept in check because the Government has resisted financing the mounting budget deficits by printing money; domestic debt financing has been used instead. As a result domestic debt now amounts to 43 percent of GDP. 1.6. A strong recovery is expected for 1996. Thanks to abundant rainfall, GDP is expected to grow by more than 10 percent, led by a strong rebound in agriculture. Recovery has been accompanied by a renewed commitment to holding down the budget deficit (the 1996/97 budget targets a deficit of 4 percent of GDP before privatization; 2.5 percent after privatization proceeds are included), maintaining prudent monetary policies, and increasing foreign reserves to four months of imports, thanks to a recovery in foreign exchange eamings (especially tourism and remittances) and a reduced food import bill. 1.7. This short-term recovery remains vulnerable, however, and will need to be consolidated to form the basis for the sustained higher growth that is needed to ease unemployment and achieve rural and social objectives. Such consolidation will require higher savings and investment rates and improved external competitiveness. Figure I . Growth rates Figure 2. Fiscal and current account balances 80 0 8.0 4 C ... . .... .... 60.0- . 160 20 O 40 4.0 0 0 t 4 0 - 0 - 200 . i i:g 0. }000420 rs ................................ n29 35 1 , 8 1989 \ J, _ 199 5 0.? 0 0 45 0. _l I r-___!r't