Fiscal Legacy of France – Pegged to the euro, the CFA Franc, created by France in 1945 to stabilize its African colonies’ economies, remains in use in 14 countries in West and Central Africa. Despite its benefits of economic stability, low inflation and facilitated trade, it faces criticism for limiting monetary sovereignty. The French Treasury guarantees convertibility and controls monetary policy, while member countries must deposit foreign reserves with France. Reforms, including the introduction of the ECO currency, have been proposed but not implemented, highlighting ongoing debates about the currency’s impact on African economic development. 

History:

• In December 1945, following the end of World War II, General Charles de Gaulle created the CFA Franc as part of France’s effort to stabilize the economies of its colonies and facilitate trade. At the time, the currency was pegged to the French franc.
• The term “CFA” originally stood for “Colonies françaises d’Afrique” (French Colonies in Africa), which underscores its controversial nature. After independence, it was redefined to mean “Communauté financière africaine” (African Financial Community) for West Africa and “Coopération financière en Afrique centrale” (Financial Cooperation in Central Africa) for Central Africa.
• Despite independence movements in the second half of the 20th century, countries throughout west and central Africa continued to use the CFA franc. The continuity was part of broader economic and political agreements between France and its former colonies. However, many countries left the franc zone post-independence. These included Tunisia (1958), Morocco (1960), Guinea (1959), Algeria (1964), Madagascar and Mauritania (1973). Guinea-Conakry set up its own currency and central bank in 1960. The different growth trajectories of these groups, those that stayed in the franc monetary zone and those that did not, presents an opportunity for further analysis.
• The monetary unions (West African Economic and Monetary Union, WAEMU, and the Economic and Monetary Community of Central Africa, CEMAC) were established in the 1960s to manage the currencies.

Read More: African Business

Implications:

• Pegging to the Euro: Originally pegged to the French franc, now both the Central African CFA franc (XAF) and the West African CFA franc (XOF) are pegged to the euro at a fixed exchange rate of 1 euro = 655.957 CFA francs. This stability helps mitigate currency risks and facilitates economic cooperation among the member nations? (SuperMoney)?.  
• Guarantee of Unlimited Convertibility: The French Treasury guarantees the unlimited convertibility of the CFA franc. This means that the French Treasury ensures the CFA franc can be exchanged into euros and other major currencies at the fixed rate, which can make international trade? easier (Brookings)?? (SuperMoney)?.
• Centralization of Foreign Exchange Reserves: Both the Central Bank of West African States (BCEAO) and the Bank of Central African States (BEAC) are required to deposit at least 50% of their foreign exchange reserves with the French Treasury. This policy was scheduled to be abolished with the rollout of the new ECO currency designed to replace the XAF. However, to date planned reforms are yet to be implemented. (SuperMoney)??(BCEAO)?(Reuters)(Africa News).
• Foreign Exchange Cover for Sight Liabilities: Both central banks must maintain foreign exchange cover of at least 20% for “sight liabilities,” which ensures sufficient liquidity and financial stability within the currency zones? (Brookings)?.
• Lending Ceiling for Governments: Each government within the CFA franc zone is limited to a lending ceiling of 20% of that country’s revenue from the previous year. This rule aims to prevent excessive borrowing and maintain fiscal discipline? (Brookings)?.

Benefits:

• Economic Stability: The CFA franc has historically provided lower inflation and more stable economic conditions compared to non-CFA countries on the continent. This stability has been beneficial for long-term planning and investment.
• Currency Convertibility: The guaranteed convertibility of the CFA franc to the euro reduces the risk for foreign investors and importers/exporters, facilitating investment and economic integration with European markets.
• Trade Facilitation: A fixed exchange rate with the euro has helped stabilize domestic prices and reduce uncertainty in trade transactions, making it easier for CFA countries to engage in international trade. Interestingly, however, little intra-African trade occurs within the Franc zone, especially in central Africa. Most franc zone countries export a small selection of commodities including cocoa, cotton and coffee.
• Inflation Control: The strict monetary policies tied to the CFA franc have helped maintain low inflation rates in member countries, which is critical for economic stability.

Critiques:

• Limited Monetary Sovereignty and French Veto Power: France possesses a de facto veto on the boards of the two central banks within the CFA franc zone, limiting independent decision-making. Many argue this undermines the African nations’ sovereignty.
• Monetary Policy Control: Since 2010 reforms of the Central Bank of West African States (BCEAO), a monetary policy committee that includes a voting French representative controls monetary policy, while the president of the West African Economic and Monetary Union (WAEMU) Commission only has an advisory role.
• Dependence on France and the Euro Limits Development: The fixed exchange rate between the CFA franc and the euro means that the monetary and exchange rate policies of the franc zone nations are determined by the European Central Bank, which follows anti-inflation policies that can hinder growth and industrialization. Additionally, any monetary policy decisions or economic shocks in Europe reverberate in Western and Central Africa where economies are much less resilient.
• Mandatory Deposits in French Banks: Countries within the CFA franc zone must deposit at least 50% of their foreign exchange reserves with the French Treasury, which limit the African countries’ ability to develop their own banking industries.