There is an old joke in East Africa that the EAC (East African Community) will succeed only when Tanzanians learn English, Ugandans learn Swahili, and Kenyans learn manners. Fortunately language barriers and old stereotypes are not the main drivers of the current policy agenda. The priority is instead to speed-up economic integration and establish (actually, “re-establish”) a common currency –the East African Shilling – across the 5 EAC countries: Kenya, Uganda, Tanzania, Rwanda and Burundi. Is this is a good idea?
Let’s start with a little theory first –a primer on economic integration as I studied in my undergrads. Look at the figure below (source)
Stages of economic integration
Theory says that there are 5 steps to economic integration: you start with free trade area, which abolishes partially or completely the custom tariffs between member countries. In the second step, a Custom Union is formed when member countries agree to uniform external tariffs towards third countries. The common market adds the free movement of the factors of production, including services, capital and labor. In the fourth step, the economic union introduces a common currency as well as common monetary, fiscal and budgetary policy. Usually this is complemented by the harmonization of tax and welfare policies. Finally, the very last step is the full political integration with the establishment of a common government.
Where is the EAC?
The EAC established a customs union in 2005, a common market in 2010 and now it aims at the fourth step with the establishment of an economic union. I must admit that I am excited about the idea but also very worried. Here’s a list of my concerns:
First, the EAC is only half way through to the third step (common market), and it is jumping already into the fourth (economic union). The truth that everybody knows is that free movement of capital and labour is far from being achieved. Labour cannot move freely because of long-standing legal and regulatory barriers. Goods cannot move freely as well, especially because non-tariff barriers are still a huge burden. Just a silly example, I’ve learnt from personal experience that many bus companies ship packages from Uganda to Kenya, but not the other way around. Reason? I was told it was “a problem at the border with Uganda”. Who knows what that means…
Second, you cannot create a common currency without creating common fiscal and budgetary policies. The EAC governments seem aware of this issue, and in fact they proposed the establishment of an “East African Financial Services Authority”, “East African Surveillance and Enforcement Commission” and the “East African Statistics Bureau”. This all sounds wonderful, but the real issue is whether national governments are willing to give up sovereignty over such important matters. Let me borrow some sentences from an article on Columbia Communique:
Is the wish for closer relationships a good thing? Absolutely. Does it have to be achieved as fast as possible and through the handcuffs of a currency union? Absolutely not. Not only will this process take many years, it will also require full commitment. They can’t have their cake (the currency union) and eat it too (maintain sovereignty in all areas).
Currently the EAC countries have very different import-export mixes, making them vulnerable to changes in world goods prices to different degrees. Without strong fiscal centralization including a counter-cyclical mandate and no adjustment mechanisms such as inflation or devaluation, a currency union can have devastating effects on countries hit hard by an external shock.
My last point is that the EAC has to learn from the experience in the EU: a monetary union must be able to deal with both periods of economic growth as well as periods of crisis and recession. How will the EAC act in case of fiscal mismanagement? What will it do if a country enters a period of financial and economic crisis? Will the regional powerhouse (Kenya) step in and help the “periphery”? I know that using these terms is quite a stretch in the EAC context. But the region cannot ignore the experiences in other parts of the world. And more importantly, the EAC cannot ignore that it already failed in forming a monetary union in the past – neglecting its own history would be the worst of the mistakes.