Thierry KAME BABILLA University of Yaoundé II African Economic Conference (AEC)

1. Trade and Currency Unions issues for Regional Integration in Africa: Evidence through a DSGE model in CFA Zone Thierry KAME BABILLA University of Yaoundé II African Economic Conference (AEC) Regional Integration in Africa 28-30 October, 2013

2. Outline • Motivation • Contribution • Litterature • Methodology • Main results • Conclusion and Policy implications

3. Motivation(1/2)

4. Motivation (2/2)

5. In this paper • Examine the effects of currency unions to the intensification of regional integration in CFA Zone. • Focussing in two structural breaks, namely, trade and risk sharing according to CFA Zone features. • Apply in CFA Zone a methodology that is largely recommended for the analysis of structural break whithin currency unions for regional integration.

6. Relatedlitterature This research complements recent papers on Currency Unions for Regional Integration, via trade or risk sharing. 1. BeyondTsangarides & Van den Boogaerde (2005), Charalambos et al. (2006), Masson (2008), Batté et al. (2009), Tapsoba (2009), Debrun et al. (2010) ; • Weassess the effect of currency unions on regionalintegrationanalysis in Africausing a two-country DSGE model. 2. Beyond Lama and Rabanal (2012); • Wefeaturestrade and risk sharing to analyse regionalintegrationwhithin a currency in Africa. 3. BeyondPunnoose and Peersman (2012); • Weintroducerisk sharing structural break withspecific application to CFA zone. 3.BeyondBadarau et Levieuge (2011 ); • Weincorporatedtrade structural break withspecific application in CFA Zone.

7. DSGE Model features • Common Currency Areas; • Two Economy sharing common currency; • Bilateral Trade between CEMAC and WAEMU ; • risk sharing between CEMAC and WAEMU; • Bank credit market imperfection; • Financial asymmetries; • Economic agent behavior is analyzed separately for each economy of the currency union; • The model considered seven categories of national agents in each economy, namely households, entrepreneurs, retailers, capital producers, banks, Central Bank and Government.

8. Households • Each Household maximise a lifetime utility funtion to choose consumption basket and supply labor. • Because the model consists of a two-country currency union, consumption is a composite index which depends on the consumption of goods produced in CEMAC and goods produced in the WAEMU, as follow:

9. Production • Producers of wholesale goods • Producers in each economy of the currency union, combine labor and capital as input to produce wholesale goods. • Labor input is a composite index of households laborand entrepreneurial labor to ensure consistency of the credit market modeling. • Capital producers • Capital adjustment costs is introduced • Capital producers buy units of final goods and transform them in physical capital sold to the entrepreneurs • Retailers • Retailers are represented by firms, held by households, which purchase wholesale goods and retail them afterwards. • Their main role is to differentiate final goods. This behavior of retailers justifies the introduction of price inertia in the model.

10. Banks and Financial intermediation • Financial relation betweenbanks and firms: • To produce final goods, the firm acquires, in each period t, a quantity of physical capital. • Firms finance their investment project by borrowing from a bank. • Banks collects funds to household to provide loan to firms, as given: • Financial relation betweenbanks and households • Banks collect a portion of the household savings. • Householdspay an audit cost to have information about thier agent (Bank). • The optimization program that defines the terms of the financial contract between the household and bank leads to the bank external financing premium :

11. Central Bank and Government • Central Bank Program • The common Central Bank conducts a unique monetary policy following a standard monetary policy rule: • Government Program • Governments intervene in the economy by an active policy of public spending, funded by lump sum taxes , expressed in the following general form of national fiscal rule:

12. Result 1: Impulse ResponseFunction of Monetary Policy Shock. CEMAC(blue) vs. WAEMU(green)

13. Result 2: Impulse ResponseFunction of ProductivityShock. CEMAC(blue) vs. WAEMU(green)

14. Result 3: Impulse ResponseFunction of fiscal Shock. CEMAC(blue) vs. WAEMU(green)

15. Conclusion • Currency union didn’t contribute to regional integration in CFA Zone because the effect of trade integration on the synchronization of the cycles is relatively low within the Zone. • Currency union failed to sustain regional integration in CFA Zone because savings are less sufficient to intensify the mechanism of risk sharing within the zone, and moreover, financial asymmetries leads to the amplification of national differences among member countries. • The magnitude of the effect of endogeneity is lower within the CFA Zone to accelerate regional integration process. • The combination of low level of trade integration, low level of cycles synchronization and low level of the phenomenon of endogeneity, does not fundamentally change the configuration of asymmetric shocks between CFA Zone countries members.

16. Policy implication • The establishment of institutions and mechanisms for risk sharing able to offset the impact of asymmetric shocks is needed. • Policymakers should accelerate the real integration within the currency union to mitigate the amplification of product instability. • Since savings are the main channel of risk sharing in CFA Zone, regional policy to raise savings and settle in consumption behavior should be adopted. • The current and upcoming currency unions in Africa should develop regional credit markets and facilitate access to credit markets.