Kingdom of Morocco.Private Sector Assessmen Utpdate

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					Public Disclosure Authorized

                               ReportNo 19975-MOR

                               Kingdomof Morocco
                               Fulfillingthe Promise of PrivateSector-LedGrowth
Public Disclosure Authorized

                               December15, 1999

                               Provateand Financial Sector Development Department
                               Middle Eastand North Africa Region
Public Disclosure Authorized
Public Disclosure Authorized

                               Document of the Worfd Bank
                         (as of June 30, 1999)

                     Currency Unit = Dirham (DH)
                          US$1.00 = DH 9.98

                            FISCAL YEAR

                           July 1 - June 30


ANRT     Agence Nationale de Reglementation du Secteur des T6lecommunications
AMC      Associations de Micro Credit
AMITH    Association Marocaine des Industries Textiles et de I 'Habillement
BAJ      Barnamaj al Aoulaouiyat al Ijtimaiya (social priority program)
BAM      Bank Al-Maghrib (Central Bank)
BCP      Banque Commerciale Populaire
BMCE     Banque Marocaine du Commerce Exterieur
BNDE     Banque Nationale pour le Developpement Economique
CDG      Caisse de Depot et de Gestion
CDM      Charbonnage du Maroc
CDVM     Comite Deontologique des Valeurs Mobilieres
CEN      Caisse d 'Epargne Nationale
CGEM     ConfiM&ration  Generale Economique Marocaine
CIH      Credit Immobilier et H6telier
CIOR     Cimenterie de l'Oriental
CNCA     Caisse Nationale de Credit Agricole
CPI      Consumer Price Index
CRAPP    Comite de Reflection, d 'Accelration du Processus de Privatisation
CSDP     Contractual Savings Development Program
CTM-LN   Compagnie de Transports au Maroc-Lignes Nationales
DEPP     Direction des Etablissements Publics et des Participations
DH       Moroccan Dirham
EPICS    Etablissements Publics a Caractere Industriel et Commercial
EU       European Union
ESNITH   Ecole Superieure Nationale de Textiles
FDI      Foreign Direct Investment
FTA      Free Trade Agreement
GDP      Gross Domestic Product
GATT     General Agreement on Tariffs and Trade
GIAC     Groupements Interprofessionnels d 'Aide au Conseil
GPBM     Groupement Professionel des Banques Marocaines
IAM      Itissalat al-Maghreb
IBRD     International Bank for Reconstruction and Development
IMF      International Monetary Fund
INEJ      Institute for Judicial Studies
IPO       Initial Public Offering
MENA      Middle East and North Africa
MSTQ      Metrology, Standards, Testing, and Quality Management
NGO       Non-governmental Organization
OCP       Office Cherifien des Phosphates
ODI       Office de Developpement Industriel
ODEP      Office d 'Exploitation des Ports
OECD      Organization for Economic Cooperation and Development
OFPPT     Office de la Formation Professionelle et de la Promotion du Travail
ONCF      Office National des Chemins de Fer
ONDA      Office National des Aeroports
ONE       Office National de l 'Electricit6
ONEP      Office National de l 'Eau Potable
ONPT      Office National des Postes et T6l6communications
ONT       Office National du Transport
PE        Public Enterprise
PEP       Plancher des Effets Publics
PERG      Programme d'Electrification Rural Groupe
PAGER     Programme d 'ApprovisionnementGroupe en Eau Potable des Populations
PHRD      Policy and Human Resources Development
PSA       Private Sector Assessment
PSD       Private Sector Development
PSDAL     First Private Sector Development Adjustment Loan
RAM       Royal Air Maroc
REER      Real Effective Exchange Rate
RME       Ressortissants Marocains a 1'Etranger
SAL       Structural Adjustment Loan
SAMIR     Societe Anonyme Marocaine de I 'Industrie du Raffinage
SBVC      Societe de la Bourse de Valeurs de Casablanca
SEFERIF   Societe d' Exploitation des Mines du Rif
SONASID   Societe Nationale de Siderurgie
TA        Temporary Admission
TFP       Total Factor Productivity
UJNCTAD   United Nations Conference on Trade and Development
USAID     United States Agency for International Development
WTO       World Trade Organization

              Vice President:        Kemal Dervis
              Country Director:      Christian Delvoie
              Sector Director:       Wafik Grais
              Task Team Leaders:     Michel Kerf,
                                     Clemencia Torres
                                               KINGDOM OF MOROCCO

                                    PRIVATE SECTOR ASSESSMENT UPDATE:


                                                 TABLE OF CONTENTS

EXECUTIVE SUMMARY_                                                                                             i
CONSTRAINTS           TO PRIVATE SECTOR DEVELOPMENT                                                            i
1.   INTRODUCTION                                                                                              1
2.   RECENTECONOMICPERFORMANCE                                                                                 1
3.   ECONOMIC POLICIES IN THE 1990s                                                                            5
3.1. Foundation      for private sector development                                                            5
3.2. Institutional and Sector-specific Reforms                                                                 8
4.   CONSTRAINTS TO PRIVATE SECTOR DEVELOPMENT                                                                15
4.1. Results of the 1998 Enterprise           Surveys                                                         15
4.2. Comparison       with 1994 PSA results                                                                   18
S. ANAGENDA FOR PRIVATE SECTOR DEVELOPMENT                                                                    20
5.1. Strengthening       the Foundation      for Private      Sector Development                              20

5.2. Addressing      First-tier   Issues:   Administration,      Labor,   and Finance   Constraints           23

5.3. Addressing Second-tier Issues: Industrial             Land and Infrastructure,     Technology Support,
     and Market Information Constraints                                                                       27

Principal contributors to this paper include: Hamid Alavi, Saad Belghazi, Ferid Belhaj, Judith
Brandsma, Olivier Fremond, Luis Guillermo Hakim, Eric Haythorne, Michel Kerf (Co-Task Team
Leader), Axel Peuker, Valerie Reppelin, Andrew Stone, Clemencia Torres (Co-Task Team Leader),
and Luc de Wulf. Extensive comments were received from the report's peer reviewers: Hassane
Benabderrazik, Andrew Ewing, Ahmed Galal, and Charles Humphreys. Support and comments were
also received from Denis Chaput, Joumana Cobein, Fran,ois Corfmnat,Christian Delvoie, Karim El-
Aynaoui, Mourad Ezzine, Youssef Fehry Fassy, Stephanie Gober, Pierre Guislain, John Page,
Mauricio Saavedra, Manuel Schiffler, Nemat Shafik, Elisabeth Sherwood, Vera Songwe, Rene Vaurs,
and Paolo Zacchia. Deborah Davis edited the paper and Nicole Wautiez De Blaye translated the
document into French. Ebru Engin, Richard T. Carter, Maude Jean-Baptiste, Ernest Forkpah and
Liliane Vert helped with production of the document.
                                         EXECUTIVE SUMMARY
This report is an update of the private sector assessment(PSA) for Morocco undertaken by the World Bank in
1994. During the last four years, the country has clearly demonstrated its choice in favor of economic
liberalization and opening to the global economy, as evidenced, for example, by the signing of important
international trade agreements. In the resulting environment,firms will need to become more efficient in order
to enhance their competitiveness, and the Government has a crucial role to play in facilitating that transition.
The recommendationslaid out below are intendedto contribute to the development of Governmentpolicies that
will support a more competitive,private sector-led economy. This report draws on extensive consultationswith
the Moroccan Government and on the views of private entrepreneurs, as captured by two field surveys of 370
enterprises carried out in seven cities in March and April 1998.


The Governmenthas done much to promote private sector development (PSD), and these reforms have
paid off. A decade of successful macroeconomic stabilization, progressive economic liberalization and
deregulation,and the launching of the privatization program have created a solid foundation for PSD. Sector-
specific reforms - such as the developmentof a new legal and regulatory framework in the financial sector, the
launching of on-the-job training programs, and the promotion of private participation in infrastructure (PPf) -
have also improved the conditions for PSD. As a result, the private sector's contribution to GDP went from 64
in 1985to 73 percent in 1997,and its share in total exports went from 60 to 75 percent between 1985 and 1995.
Foreign direct investment (FDI) has also increased significantlyover the same period.

However, the performance of the private sector has fallen short of the high expectations generated by
the achievements of the 1980s. The private sector's share in investment has remained below 60 percent
over the past decade and private savings have not risen. In addition, recent estimates show that total factor
productivity (TFP) growth has slowed considerably during the 1990s. Low private savings, investment, and
productivity, along with droughts and shortcomings in the performance of the public sector, have negatively
affected the economy in general and the private sector in particular in recent years: non-agricultural real
GDP grew at an average annual rate of 2.7 percent over 1991-97, in contrast with an average 3.9 percent
growth per year over 1986-90.


The modest performance of the private sector suggests that the macroeconomic,trade, and privatization
policy reforms designed to establish a solid basis for PSD have not gone far enough. Key policies
favorable to PSD have been maintained in the 1990s,but public savings are low and the fiscal deficit has been
financed through extensive borrowing from the rest of the economy. Two financing mechanisms, in particular,
have been used by the public sector and have reduced the pool of resources available for private investment:
governmentbonds, and accumulation of public arrears and late payments. In addition, fiscal prudence has been
achieved mainly through reductions in public investment that would have been complementary to PSD. On
another policy front, the appreciation of the real effective exchange rate (REER) in the 1990s has hindered
Morocco's competitiveness. At the same time, while the Government has taken significant steps to open the
economy, trade liberalization has not been rapid or uniform, and domestic competition has been limited by
inappropriate regulations. Finally, the achievementsof the privatization program have been relatively modest,
leaving Morocco with a public sector larger than that of other countries at a similar stage of development.

This modest private sector performance is also due to institutional and sector-specific constraints that
affect the business environment. The findings of the two firm-level surveys indicate that in addition to slow
economic growth, which has had a dampening effect on demand, and to other factors discussed above,
entrepreneurs consider the following to be the most binding constraints to PSD: costly administrative
procedures, scarcityof qualified and flexible human resources, and lack of access to and high cost of credit.

The administrative procedures about which entrepreneurs complain, in their answers to the surveys, concern
both impediments to the creation of new enterprises and difficulties encountered by existing firms. While
procedures for the establishment of new enterprises are less time consuming than they were in the 1980s,
they are still cumbersome by international standards and do not promote FDI for small and medium
enterprises. Concerning existing enterprises, difficulties relate mostly to tax administration and the judicial
system. Procedures in these areas are considered inefficient, time consuming, and costly. Until recently,
entrepreneurs also complained about customs procedures, but interviews in 1998 indicate that they are
beginning to notice positive changes due to computerization, streamlining of procedures (e.g., reliance on
sample controls, which reduce clearance time), and a progressive change of the culture of customs, with
authorities taking the needs of users better into account.

The lack of appropriate skills is also at the forefront of entrepreneurs' worries. An unemployment rate of 25
percent among young university graduates suggests that the main problem is a mismatch between the skills
of graduates and the needs of firms. The Government, through l'Office de la formation professionelle et de
la promotion du travail (OFPPT), has launched a series of actions to make vocational training more
responsive to firms' requirements, but further efforts are needed in that direction, and a long-term solution
will require going beyond vocational training to correct the shortcomings of the formal education system.
The slowdown of Moroccan exports demonstrates that having lower wages than the OECD countries is not a
sufficient condition to maintain competitiveness. High illiteracy rates and poor preparation of unskilled
workers are becoming serious burdens for firms attempting to survive in a more competitive environment.

Financial constraints appear to be less binding than in earlier years, reflecting the progress toward formal
liberalization of the financial markets. These constraints do persist, however, and affect firms differently
according to their size. For smaller firms, including microenterprises, the problem is, as it was in 1994, the
lack of access to credit: these firms are frozen out of the formal financial system, and financial NGOs can
cater only to the needs of a limited number of businesses (an issue that is being addressed, in part, through
the recently approved law on micro-credit). For larger firms that have established formal relations with
banks, the main problem is the paucity of medium and long-term financial instruments, and to a lesser extent
the cost of credit. Banks still prefer to acquire widely available low-risk government bonds rather than to
lend to the private sector; and even though capital markets are developing, they are not yet a real alternative
to the banking system in supplying private sector financing.

Finally, there is another set of constraints, less severe than the ones already discussed but likely to become
more important as the economy grows and economic globalization progresses. These constraints include:
the lack of well-equipped industrial land; the high price and poor quality of infrastructure services in
general, as well as the lack of such services in rural areas; and the lack of technology and market
information support services. The specific nature of these constraints and possible measures to alleviate
them are not further discussed in this Executive Summarybut are elaborated in the main text.


To enable the private sector to become the main engine of growth in the Moroccan economy, there is need for
further reforms on several fronts. Many of those have already been outlined in the Government's "Economic
and Social Reform Program," which accompanied the World Bank's 1999 Policy Reform Support Loan (see
Report No. 7287-MOR, May 5, 1999).


Implementingsound macroeconomicpolicies and removing barriers to competition and to private participation
in economic activities currently in the public domain are essential to create the foundation for vigorous private
sector development. This involves several measures:

Increase public savings and use public resources more efficiently to facilitate private investment. A
lower deficit will reduce the public sector's need for credit from the rest of the economy and will free up
resources for PSD. Contrary to past practice, however, the deficit reduction should not come at the expense of
investment expenditure(see section 2); instead, it should be achieved through an improvement of public sector
efficiency and a reduction of current expenditure, as the civil service wage bill now absorbs almost 45
percent of fiscal revenues, and the debt service absorbs 23 percent. (see section 3.1). In this context, the
commitment of the current Governmentto achieve additional budgetary savings of 2.5 to 3 percentage points
of GDP over the next 4-5 years is a cornerstone of a sound macroeconomic policy. In addition, improving
public investment expenditure within a multi-yearplan to complement rather than substitute private investment
is also an importantrequirement.

Improve the competitiveness and productivity of firms by accelerating and broadening trade liberalization,
by preventing further appreciation of the dirham in the short term and moving toward a more flexible
exchange regime in the medium term, and by strengthening laws and regulations to promote domestic
competition. A more flexible management of the exchange rate would make Moroccan products more
competitive and provide some degree of uniform protection to local producers during the phasing out of
tariff protection under the Free Trade Agreement (FTA) with the EU. Advancing the FTA schedule of duty
reductions, applying such rules to all trading partners, and extending the agreement's scope to include
agriculture and services would yield further benefits. Finally, to promote domestic competition, the draft
Competition Law should be enacted and price controls reduced. To be effective, however, the Competition
Law will need to be complemented with other measures, such as creating a credible enforcement authority,
reforming the judicial system, and restructuring monopolistic sectors.

Accelerate the implementation of the privatization program to improve efficient use of productive
resources and create a leaner, more efficient State. Parliament has approved new legislation that modifies
and complements the current Privatization Law (No. 39-89), including a provision to replace the principle of
a global "positive" list with an annual identification of firms to be privatized within a given fiscal year. The
Government has also established ambitious targets for privatization and liquidations to be achieved during
its tenure. It is now critical to accelerate the preparation of the privatization dossiers and advance the
implementation of the program.


A series of measures needs to be taken to remove the most binding institutional and sector-specific
constraints affecting the business environment.

Reduce the administrative burden on enterprises by streamlining tax administration, making the judicial
system more efficient,minimizing late payments by the public sector, and simplifyingprocedures for starting
new businesses. Tax administration procedures are still cumbersome. The simplification of the system,
along with the publication of clear procedures, would go a long way toward reducing the scope for arbitrary

Two sets of measures are needed to speed up judicial processes. First, the modernization of the overall legal
framework needs to be completed by enacting the various draft laws: the Competition Law (currently before
Parliament), the Labor Code, the Customs Code, the Mining Code, and the Insurance Code. Second, the court
system needs to be strengthened and the quality of judicial decisions in commercial areas needs to be
improved through proper staffing of the new commercial courts, updating of the commercial law curriculum
in universities, timely publication of judicial decisions, and extension to judicial support staff of the incentives
and skill-upgradingopportunitiesalready availableto judges.

To minimize the occurrenceof late payments by the public sector, corporatizationcould be used to increasethe
financialaccountability public entitiesthat performcommercialfunctions. As forthe administationitself,thereis
                           budgetingand for designingincentives promote goodfinancialperfornance.
no substitutefor appropriate                                  to

Finally, further streamlining of the relevant procedures and consolidation of investment promotion agencies
with overlapping responsibilities are essential to facilitate the creation of new domestic enterprises and
attract foreign direct investment, especially into small and medium enterprises.

Promote the development of a well-qualified and flexible labor force by providing better education and
training to a larger portion of the population, and enhance labor mobility by removing legal and regulatory
rigidities. The Government should give priority to literacy programs and to improving basic education, with
special attention to rural areas. In addition, the content of higher education and vocational training programs
should be revised to better tailor the qualifications of skilled workers to the real needs of the economy.
Private participation in these areas could yield substantial benefits but would require a revision of current
legislation. Finally, to facilitate the transition toward a more competitive and dynamic environment, the
Government and associations of private entrepreneurs could assist smaller firms in improving their
managerial skills through training programs. At the same time, firms need to be well informed about the
implications of current labor rules and regulations, and about any subsequent changes in these rules.

Several legislative measures could also encourage firms to invest in a stable labor force. Adopting a modern
Labor Code - with emphasis on facilitating flexible arrangements - would be a first step. In addition,
strengthening the capacity and efficiency of courts and promoting effective out-of-court settlements
would expedite the resolution of conflicts. The current system of severance pay should also be revised
to improve labor mobility while providing a safety net during job search. One possible alternative
would be to replace the firm's obligation to pay the worker at the time of dismissal with an obligation
to make regular contributions to a fund owned by the worker, who could carry this fund across jobs
and access the money at the time of his or her dismissal or retirement.

Facilitate the access of small enterprises to financial resources, help larger firms obtain longer-term loans
under more favorable conditions, and strengthen capital markets as an alternative source of long-term
financing. Key measures to help small firms include: (i) increasing the lending capacity of financial NGOs,
(ii) developing awareness and expertise among banks on how to make microfinance a profitable undertaking,
and (iii) exempt from the current guidelines on taux d'usure and other prudential regulations those financial
institutions that are seriously committed to micro and small firm finance. To increase the availability of
longer-term credit from banks, it will be important to: (i) enhance competition among banks by completing
the liberalization of interest rates, (ii) design better creditor protection, and (iii) promote the provision by
firms, and the use by banks, of transparent financial information. Equally important will be to promote the
development of capital markets, which could provide an alternative to bank credit. To this end, further
deepening of the insurance sector and the development of sound pension funds, which under prudent
regulations could invest in these markets, are two important initiatives that could broaden the range of
institutional investors in the capital markets.

This is a complex reform agenda. Morocco has shown its commitment to support private sector
development and has already implemented a series of difficult reforms to improve the macroeconomic,
fiscal, and trade foundations for private economic activities. It has also implemented other institutional and
sector-specific reforms to improve the business environment. The challenge now is to build on these
substantial achievements so the Government can provide the best possible support to the efforts of the
private sector to become the engine of growth in an open and dynamic economy.
                                        1.       INTRODUCTION
The private sector assessment published in 1994 (the 1994 PSA) provided a wide-ranging assessment of the
private sector in Morocco and suggested actions to remove identified constraints to private sector
development(PSD). Much has changed since that time. New policies have been adopted and the external
economic environment has been rapidly evolving. Nevertheless, the performance of the economy in
general, and of the private sector in particular, have not lived up to the expectations that developed over the
previous decade. This report attempts to take stock of the economic changes, identify the key constraints to
PSD, and propose a reform agenda to eliminatethose constraints and enable the private sector to contribute
more fully to the welfare of the Moroccan people.
This report draws on inputs from numerous colleagues both within and outside the Bank and on
consultationswith Moroccan Governmentofficials,private sector investors and operators, and academics. It
also builds on two 1998 surveys of 370 private firms. The main volume presents a synthesis of the
diagnostic and recommendations,which are further elaboratedin a series of annexes.
Followingthis introduction, section 2 concisely describes the economic performance of the economy during
the 1990s. Section 3 describes the main achievementsand shortcomings of the economic policies over the
last decade and their impact on PSD. Section 4 complements this analysis by highlighting the key
constraints to private sector activities as perceived by the entrepreneurs themselves. Finally, section 5
proposes key components of a short and medium-term reform agenda to facilitate private sector
                           2.       RECENTECONOMICPERFORMANCE
This section summarizes the performance of the economy in general and the private sector in particular
during the 1990s. Key performance indicators show that, while the economy grew at a high rate in the
1980s owing to the development of exports, there has been an overall slowdown in the 1990s. These results
suggest that, although the private sector is an importantactor in Morocco, it has yet to become the country's
engine of growth.

GDP growth has been slower than expected and also more volatile.
Over 1991-1997, real GDP growth averaged 2.2 percent, compared to an average growth of 4.5 percent
during 1986-1990. Average annual per capita income growth was 2.3 percent during the earlier period but
only 0.2 percent during the more recent one. Weak growth partly reflected the effects of the droughts on
agricultural output, but non-agricultural production also slowed, from an average annual growth of 3.9
percent during 1986-90 to 2.7 percent during 1991-1997. With 49 percent of the population living in rural
areas, bad agriculturalyears have a particularly damaging effect on the economy, not only because of the
direct impact on GDP, but also indirectly because of the general reduction of demand due to lower
disposable income in the countryside.
Unemploymentcontinues to be high in this slowly growing economy.
After having reached 23 percent in 1995, urban unemployment has been declining, largely because rural
migrants who came to the cities during the drought are now returning to the countryside. However, urban
unemployment is still high at 18 percent, and current trends are disturbing, with the urban labor force
growing consistently at about 5 percent. In contrast, employment in urban areas is growing at only 4
percent. While the data on unemployment may overstate the problem because many Moroccans work in
the informal sector and in rural areas, the fact is that these jobs often are a form of underemployment due
to their low productivity. Sustained economic growth of 7 to 8 percent would be required to bring urban
unemployment below 10 percent by 2010 (World Bank, 1998a).

Slow growth reflects low investment and low savings.
Morocco's current investment rate of about 20 percent of GDP is too low to fuel rapid economic growth (an
estimated 27 percent or more is needed for a 3 percent increase in the rate of growth of GDP). The
dominance of the public sector in productive activitieshas had a detrimental effect on investment,not only
because public investment tends to be less productive than private investment, but also because of the
drastic reduction of investment expenditures that came with the fiscal austerity program (see section 3.1).
Investment growth is also hindered by the paucity of financing resources, with the low level of domestic
savings (15 percent of GDP) due to low growth in recent years, the limited penetration of the banking
sector, and the Government's large borrowing requirements. In addition, the high level of external debt
(around 50 percent of GDP) severely constrains the country's capacity to borrow on international markets.

Morocco has become more attractive to foreign investors.
Foreign investors' perceptions of Morocco have certainly improved, and foreign direct investment (FDI) as
a percentage of GDP has recovered from a temporary low in 1995,reaching 1.5 percent in 1997 (excluding
privatization receipts; see Table 1). In addition, credit rating agencies have been upgrading their
assessments of Morocco slowly, but constantly, since 1987. And although the ranking of Morocco by the
Institutional Investor relative to other countries temporarily declined in the period 1993 to 1997, it has
recovered to its previous level.

                  Table 1: FDI in Morocco and Other Countries (percent of GDP)
              FDI as % of GDP       1992       1993      1994      1995       1996      1997
              CzechRepublic         3.59       1.82      2.16      5.03       2.53      2.50
              Greece                1.16       1.06      0.99      0.92       0.86      1.25
              Hungary               3.95       6.06      2.76      9.97       4.39      4.56
              Israel                0.82       0.88      0.84      2.28       2.57      3.47
              Jordan                0.80       -0.62     0.05      0.20       0.24      1.00
              Morocco               1.49       1.84      1.82      0.88       0.85      1.49
              Pakistan              0.69       0.67      0.80      1.17       1.19      1.30
              Philippines           0.43       2.28      2.48      1.97       1.83      1.53
              Portugal              1.98       1.83      1.44      0.65       0.65      1.69
              Spain                 2.30       1.70      1.94      1.11       1.11      1.05
              Tunisia               3.38       3.15      2.76      1.47       1.29      1.90
              Turkey                0.53       0.35      0.47      0.52       0.40      0.32
              Sources:UNCTAD,                                        Report),
              GDFand WDIIndicators,WorldBank 1998.

Productivity growth has been slow and falling.
Weak GDP growth in recent years has been accompanied by lower productivity in the use of resources.
Recent estimates of the change in total factor productivity (TFP), which indicates the percentage of
growth that is not due to an increase in the use of capital or in workers hired, show that increased
productivity accounted for 38 percent of overall growth in 1984-90, when significant progress was made
toward structural adjustment, but has accounted for practically zero during the 1990s (Belghazi and
Bouhia, 1997).

External factors have also contributedto the economicslowdown.
Periodic droughts and the economic slowdown in Morocco's main trading partners explain to some extent
the poor performance of the private sector. In addition, while economic liberalization offers great potential
benefits from the access to larger markets, it also has increasingly exposed the economy to outside events
and is forcing Moroccan firms to confront a larger array of competitors. For example, as a result of the

GATT Uruguay Round, Morocco's preferential access benefits will be reduced. Furthermore, quotas under
the Multifiber Agreement are to be phased out and Morocco will face increased competition in its
traditional EuropeanUnion textile markets.

It is therefore not surprising that economic results in Morocco are being increasingly affected by the
economic policies and outcomes of its principal trade partners. In particular, after 1991, the EU, a major
market for Moroccan exports, experienced an economic slowdown that reduced its capacity to import and
altered its expenditure patterns.' At the same time, the opening of Eastern Europe provided the West
with new opportunities to invest in countries with cheap labor closer to the EU markets. Cheaper Asian
textiles also began to compete with Moroccan exports. Finally, EU trade policies created a series of
quotas for products that favored traditional competitors of Morocco, such as Spain and the Canary
Islands. All these factors contributed to the slower growth of Moroccan exports.

Private sector activity lacks diversification away from agriculture, despite strong potential in other
areas such as tourism.
The flexibility to channel economic resources toward more productive activities has been a characteristic
of rapidly growing economies. Morocco's economic structure, however, has remained largely unchanged
for 25 years, with not much increase in the non-agricultural sectors of the economy (see Table 2). The
chronic susceptibility of agriculture to periodic droughts makes this lack of diversification even more of a
burden as the country attempts to achieve sustainable long-term growth. Production pattems also have
not changed in other sectors, such as manufacturing, since 1985.

                          Table 2: Morocco - Composition of GDP (percent of GDP)
                                                            1980          1985             1990    1995        1996    1997
       GDPat marketprices                                   100.0         100.0            100.0   100.0       100.0   100.0
       Agriculture                                            18.4         16.6            17.7     14.6       19.3    15.4
       Industry                                               30.9         33.4            32.4     33.0       31.0    33.0
       Manufacturing                                          16.8         18.6            18.4     18.4       17.1     17.7
       Mining & quarrying                                      4.6          4.3             2.5      1.8        1.8      2.2
       Construction                                            6.3          5.7             5.3      4.4        4.2      4.6
       Gas, elect. & water                                     3.2          4.8             6.1      8.4        8.0      8.4
       Services                                               50.7         50.1            49.9     52.4       49.7     51.6
          of which Administrations                            11.9         11.5            11.9     13.2       12.8     13.6
       Source: Office des Changes, 1998.

The lack of diversificationis also apparent in
the country's failure to develop activities  activities                          Figure1 Tourism
                                                                                    ~~~(Percentage  Receipts
                                                                                                 of GDP)
that have strong economic potential.               6.0%

Tourism is one case in point. The country                   5.0%
has exceptional tourism potential, still
largely unexploited, with a wealth of                       4.0% -

attractions (cultural and wild nature sites,                3.0   -          /

resorts, golf courses, convention centers)                  2.0% -

appealing to various types of tourists. In                  1.0% _
addition, its year-round tourist season sets
Morocco apart from its closest competitors,                  Source: Office des Changes.

  Nevertheless, the fact remains that the reduction in Moroccan exports was larger than the reduction in the rate of growth of the EU
   economy, indicating that the loss of export revenues also reflected a loss in market share to more competitive exporters (Riordan,

Tunisia and Turkey, which have more seasonal variations. But even with these advantages, Morocco has
failed to exploit its tourism potential. With receipts that represented 4.7 percent of GDP in 1998,tourism is
the second most important source of foreign exchange, after transfers from Moroccans working abroad (see
Figure 1). Yet this contributionto GDP is well below that of Greece at 15 percent, Turkey at 10.6, and 10
percent of GDP worldwide. Morocco also attracts far fewer intemational tourists than other similar
countries: 1.7 million in 1997, compared to 4 million in Turkey and 3.7 million in Egypt. In addition,
Morocco's share of the world tourism market has declined steadily, from 0.53 percent in 1985 to 0.36
percent in 1994. A recent study (Tomatis, 1998) identifies the following causes of this poor performance:
the absence of a clear strategy to develop the sector, the inefficiency and multiplicity of institutions in
charge of the sector, the lack of maintenance of tourism infrastructure (hotels built during the 1970s and
until recently operated by the Government), and higher transportation costs to Morocco than to alternative

Export growth, while slower than in the 1980s, continues to play a leading role in growth and
The export industry is key to generating growth and employment in Morocco: comprising only 25
percent of industrial enterprises, it employs 60 percent of manpower and produces more than 50 percent
of industrial output. Overall, exports have contributed 27 percent to GDP during 1990-97. However,
with an annual average increase of 5.3 percent in 1992-1996, which was below the world level of 6.8
percent over the same period, the overall growth of exports has not matched the expectations created by
the increasing globalization of the Moroccan economy.

However, efforts have not gone far enough to realize the full potential of export-led development. A
significantshare of exports remains concentratedin a few markets and products, although there have
been some efforts toward greater diversification.
Clearly, Moroccan firms are trying to adapt to the new international environment (Belghazi, 1998d).
First, more than half of Moroccan exports belong to markets where Moroccans have been gaining market
share, even though Moroccan firms have also lost shares in various markets to more efficient competitors
(e.g., exports of shirts, where China has displaced Morocco in the French market). Second, not all
exports have lost dynamism in the 1990s. Exports produced under the regime of "temporary admission
without payments" (TA), where raw materials are temporarily imported and processed and final outputs
re-exported, grew at an annual average of 21 percent between 1992 and 1996 (see Figure 2). Finally,
while patterns of production in the economy as a whole have remained essentially unchanged, the
composition of exports itself has experienced a significant evolution away from primary products toward
manufactured items during the last two decades: in 1996, manufactures accounted for 38 percent of total
exports, up from 16 percent in 1980.

Nevertheless, much work remains to be done if
Moroccan exports are to become again, as in the late                                2         of
                                                                              FigLre: Structure Expot(DHmillion)
1980s, the key source of growth. The TA exports that         sooo-
are drivingexportgrowthtodaydemonstrate ability              40000-
of Moroccan entrepreneurs to respond strongly to             30000-

favorable incentives. However, they tend to have low         25,0000                                   -

domestic value-added, and, as tariff exemptions benefit          -L
only the final output, generate only limited backward         50O      T-
links to other domestic industries. Moreover, it remains                i9s       1ssa     o19
                                                                                         1994              .99s   1997   199
true that the process of export diversificationneeds to be                  Exports Goods(FOB), TA
                                                                                  of         excl.
deepened. Exports remain concentrated in a few items                                 under
                                                                            Exportabons temporary        (TA)
and a few markets. For instance, in 1996 there were only                    OdesC
four main manufacturingexports: fertilizers,knit fabrics, clothing, and electronic products. For two of these
products, a single country, France, accounted for the large majority of demand: 61 percent for clothing and
71 percent for electronics.

                               3.              POLICIES THE1990S
                                        ECONOMIC      IN
By the early 1990s, after a decade of successful macroeconomic stabilization, progressive economnic
liberalization, and deregulation of the economy, a solid foundation for PSD had begun to be established.
Since then, the Moroccan authorities have broadly maintainedmacroeconomic stability; they have launched
a privatization program and implemented other microeconomic and institutional changes favorable to PSD.
They have also pursued the integration of the country into the global economy by signing various
international agreements. Nevertheless, the disappointing performance of the Moroccan private sector in
recent years, even accounting for the influence of exogenous events, suggests that policy reforms have not
gone far enough. An effective incentive frameworkhas yet to be built to induce Moroccan firms to become
more efficient and enable them to successfullyperform in larger, more competitive markets.

3.1. Foundation for private sector development
The 1980s witnessed successful macroeconomic stabilization and progressive liberalization and
deregulationof the economy, which translated into strong growth.
Morocco's impressive stabilization effort in the 1980s, supported by large debt relief and structural
adjustment lending, led to a reduction of the fiscal deficit from an average of 11.6 percent of GDP in 1980-
 1985 to 5.3 percent in 1986-1991. In addition, a 40 percent real depreciation in the early 1980s increased
the attractiveness of Moroccan products. The gradual shift from an inward-looking, public sector-led
economy toward a more outward-lookingone, with an increasing role for private entrepreneurs, was also
reflected in progressive liberalization and deregulation of the economy. By 1993, trade barriers had been
reduced: quota coveragewent from 66 to 15 percent of imports, the range of import levies was substantially
decreased, and most export taxes were eliminated. Foreign exchange controls were relaxed, achieving full
convertibilityof the current account in early 1993. Price and margin controls were lifted for many goods,
and, after a slow start, the privatization program took off in 1993. GDP grew at an annual average rate of
4.5 percent over the 1986-90 period (compared to 2.1 percent for the world and 0.3 percent for the Middle
East and North Africa region). Exports grew at an impressive 9.3 percent during the same period. Foreign
direct investmentalso grew exponentially, from about US$1 million in 1986 to US$317 million in 1991.

Key policies favorable to PSD have been maintained in the 1990s, but low public savings have
reduced the pool of financial resources available for private investment. In addition, efforts at fiscal
prudence have come at a cost to PSD, as there has been a drastic reduction in public investment to
achieve budget equilibrium.

The fiscalburden has been progressivelylightened,from 27 percent of non-agriculturalGDP in 1993to about
24 percent in 1997. A particularlyimpressiveachievement been the reductionof the effectivecorporatetax
rate for domesticfinms,from 50.3 percent (manufacturing) 44.2 percent (services)in 1986to 24.2 percent
and 19.9 percent, respectively, in 1995 (Sewell et al, 1996). Fiscal prudence has been preserved with a
relativelylimitedfiscal deficit,averagingabout 3.7percent of GDP in 1992-1997(see Table 3).

                   Table 3: Morocco - Selected Economic Indicators (percent of GDP)
                                   1991       1992       1993      1994 1995        1996       1997    1998
GrossDomesticInvestment          22.6% 23.2% 22.5% 21.3% 20.7% 19.6% 20.70%. 22.6%
GrossNationalSavings             21.6% 22.1% 20.9%                19.0% 17.3% 19.7% 20.4% 22.3%
Budgetdeficit(1)                  -3.1%      -2.2%      -3.3%     -3.9% -5.6% -4.4% -3.7% -4.7%
(1) Excludes           receipts.Fiscaldata are in calendaryear andincludesVAT transferto local municipalities.
Source: Statistics Office; Ministry of Finance.

Reducing Morocco's fiscal deficit has been sound policy, but its positive impact on economic activity has
been reduced by the way cut in spending were achieved. Rather than reducing current expenditures,
Morocco has relied on drastic cuts in public investment, which was supporting the development of the
economy and complemented private sector investment. Accordingly, this reduction contributed
significantlyto the slowdown in total investment (see section 2). Furthermore, the civil service wage bill
now absorbs almost 45 percent of fiscal revenues, and the debt service absorbs 23 percent. The current
structure of public expenditure (mostly wages and debt service) makes it difficult to absorb exogenous
shocks, because reducing the debt service would require restructuring the stock of debt, and reducing the
wage bill would require difficult negotiationsamong groups with conflicting interests.
The current level of the budget deficit is still significant, however, and has a negative impact on the
resources available to the private sector. The abundant supply of low-risk government bonds financing the
deficit has meant that banks and other financial institutions feel less pressure to expand their base of private
clients or to develop new financial products. Most importantly,the considerable public arrears and late
paymentsof the public sector to both private and public enterprisesamount, in fact, to a form of credit granted
involuntarily by these firns, which takes away resources that could be put to more productive use. The
importance of the problem is confirmed by the PSA surveys, in which entrepreneurs said that public and
private payment delays are among their main binding constraints.
The appreciation of the real effective exchange rate (REER) over the 1990s has hindered firms'

The decreasein inflation,from 6 percent in 1992to an estimated1 percent in 1999,has been accompaniedby a
18 percent real appreciationof the dirham in the 1990s (see Figure 3). This problem has been exacerbatedby
the fact that the real exchangerates 6f a number of Morocco's competitorshave depreciatedfaster over the last
few years. The appreciation of the REER reflects a combination of factors linked to the evolution of the
nominal exchange rate and the slow growth in productivityof Moroccan producers. This deteriorationin
relative prices clearlycontributedto the slower growth of Moroccan exports during the 1990s (see section2).
Sales to African countries that had been opening to Moroccan products in the 1980s have been particularly
affectedbecausethese countries exhibit a greater sensitivitythan the OECD marketsto price changes.Finally,
the appreciationof the dirham has also favored imports of capital equipment, increasingthe capital-laborratio
to the detrimentof labor.

                                            Figure      3. REAL EFFECTIVE                      EXCHANGE                   RATE AND       EXPORTS
                            1 3 0 .0 --                                                               ---------------------




                                     1984     1985     1986       1987    1988        1989   1990     1991     1992      1993   1994   1995   1998   1997

                                                              +      REER index                              -export            volume index
                      Sourxe:     lMFflxtrx,na,ioxxt    Finaxx/el        Sta Ostixx   end 04 o,cxxx      authoflhixs.

Economic liberalization has continued in the 1990s, albeit at a slower pace. But competitive
pressures remain insufficient, since trade liberalization has not been uniform.
The Govemment has taken several measures during the 1990s to foster economic liberalization. To start
with, the import-weightedtariffs declined from a peak of 20 percent in 19934 to 16 percent in 1996. In
addition, Morocco adhered in 1993 to the GATT evaluation code, and signed the Free Trade Agreement
with the EU in 1996. The Govemment further liberalized the foreign exchange regime by allowing full
convertibility of non-resident investors' capital accounts for portfolio investments, profit remittance, and
repatriationof capital.
Nominal tariff protection is still relatively high, however, compared to some of Morocco's key competitors.
More than 50 percent of agricultural goods are subject to a tariff of 25 percent or higher, and almost 30
percent of non-agricultural imports are subject to a tariff of 32.75 percent or higher. Such levels of
protection are detrimental to the efficiency of domestic producers and to the development of a strong
export-oriented economy. Morocco has also tended to offer the highest degree of protection to some of
the weakest segments of its economy, thereby promoting an inefficient allocation of resources. In
addition,the commitmentsto further decreasetariffs under international agreementswill only take place over
time. The FTA, for example, is to be implementedover a period of 12 years following the agreement's
effectiveness.Further drawbacksinclude the fact that tariff reductionsfor items manufacturedin Moroccowill
be phased out last, while tariffs on raw materials and capital equipmentwill be eliminatedwithin the firstyear
of the FTA's effectiveness,so that the effective level of protection for goods manufactured in Morocco will
actually be higher for up to five years following effectiveness. Although the FTA with the EU is
complemented free trade agreementswith membersof the Arab League and with other countries,and other
free trade agreementsare envisaged,a number of important trade partners will, in all likelihood, not benefit
from import liberalization.The FTA thus could entail trade diversionand might giverise to additionalcontrols
to verify declarationsof origin.Moreover,the FTA does not cover services,and the schedule of tariffreduction
on agriculturalproducts will not be negotiateduntil 2000. Finally, while a new unified InvestmentCode was
adopted in December 1995 with the aim of attractingforeigninvestment,and despite the growing confidence
of intemationalinvestors,the requirementsto establishbusinessesin Moroccoremain cumbersome.
Competitivepressures in domestic markets are still limited.

In view of the high level of concentrationin the economy (see annexes I and 2, and Table 4 below) and the
anecdotal evidence on collusive behaviors (see section 3.2), promoting competition beyond trade
liberalization remains a key objective of policies in favor of private sector development. Since 1994,
significant steps have already been taken. Price controls, which covered about 172 product categories in
1993,now apply to only 29 goods and services. A draft Price and Competition Law to supersede the 1971
legislation is currently awaiting approval by Parliament. The Government has issued new regulations to
enhance transparency in procurement, but contracts are outdated and lack safeguards to ensure transparent
and competitiveprocedures. It is now importantto deepen these reforms.

                Table 4: Structure of Industry in 1997, by Firm Size (no. of employees)
                            Enterprises           Production               Exports            Investment
Firmsize                     No.            %     M. DH            %   M. DH          %     M. DH           %
Small <50                   4737       74.0%        25249      17.0%      4414    12.1%        1668    18.2%
Mediurn >=50, <200          1195        18.7%       44004      29.6%      7849    21.5%       2543      27.7%
Large >=200                  467         7.3%       79456      53.4%    24242     66.4%       4969      54.1%
Total                       6399         100%     148709 100.0%         36505    100.0%       9180     100.0%
Note:. Includes private and public enterprises.
Source.-Ministere du Commerce, de lI'ndustrie et de l'Artisanat.

After a slow start, the privatization program began implementation in 1993. However, 577
enterprises are still in the public portfolio, including minority participations in commercial
enterprises.A vigorous effort to further pursue the program is needed.
The PrivatizationLaw, adopted in 1989,laid the foundation for the privatization program with a list of 113
firms to be privatizedby the end of 1998. After a slow start, the program began to be implementedin 1993,
tallying DH 15.3 billion (of which DH 13.1 billion accrued to the government budget), with 52 EPICS
(etablissements publics a caractere industrielet commercial)and 125 of their subsidiariesprivatizedby 1998.
A number of large enterprises have thus been privatized,resulting in significant fiscal revenues. In addition,
the Governmentis currently implementingthe liquidationof Charbonnagedu Maroc (CDM) and the Societe
d'exploitation des mines du rif (SEFERIF). This is an important and courageous decision on the part of the
Government,which has taken into account both the economicneeds of the country and the social impact of the
liquidationon the region.
Divestituresof the remaining 61 firms from the first list, however,are still pending. Many of the candidatesare
in financial difficultyand need to be liquidated. The human and financial resources needed for liquidationare
relatively modest and postponing liquidationonly increases the waste of productive resources. These firns
also have a negative impact on the financial performanceof other private firms. Other importanttransactions
currentlyin the pipeline are also waiting be completed, which requires that Parliament authorizethe transfer
(e.g.,the Banque commercialepopulaire,BCP) or that the Governmentderegulatethe sector (e.g.,sugar mills).

In spite of advances in the pnvatization program,the relative importance of the public sector in overall value
added and investmenthas, in fact, changed little between 1990 and 1997 (see Table 5). As of end-1998,there
were still 573 enterprises under direct or indirect public ownership (56 EPICs and 517 subsidiaries,all of
which are incorporatedin soci&es anonymes). The persistent direct participation of the public sector in the
economyhinders growth for various reasons. While some public enterprises have improved their performance
in recent years (see section 3.2 below), intemationalexperience suggests that public entities are often less
efficient thanprivate firms, and that their presence decreasesthe overall performanceof the economy. Equally
importantin the case of Morocco, the dominantposition of the public sector in the economy has magnifiedthe
negativeimpactof the drastic cuts in public investmenton the rest of the economy (see above).

                     Table 5: Share of Public Enterprises in the Moroccan Economy
                                                                  1990       1997
                      Valueadded(% of GDP)                         13.4       13.0
                      Salaries (% of GDP)                               4.5            4.6
                      Investment of totalinvestment)                   24.3          22.2
                  Sources:          des                         ext&rieurs,
                          Ministere financeset des investissements               des
                                                                         Direction etablissements
                  publicset departicipation, 1998.

3.2. Institutionaland Sector-specific Reforms

The legal framework for commercial activities has been partially modernized, but the administration
of business regulations is still perceived as slow and cumbersome, increasing transaction costs for
A new Investment Code (1995) has replaced the old sector codes. It covers all commercial activities with
the exception of agriculture, and generalizes key incentives, which, under the sector codes, were available
only to selected enterprises and regions. The new Law on Joint Stock Companies (1996) provides, inter
alia, for minority stakeholder protection and for more rigorous corporate govemance on the part of
managers. The Code des societes (1997) provides businesses with a variety of instruments to choose from
when constituting themselves as corporations. The CommercialCode (1997) makes it possible, for the first
time, to address bankruptcies, liquidations, and reorganizations at an early stage. The Law Creating the
Commercial Courts (1998) gives authority to the newly created courts in all matters related to business
activities. Finally, the Competition Law has advanced to Parliament, and the Cabinet has approved a
revised Customs Code. However, other importanttexts - notably the Labor Code, the Mining Code, and the
Insurance Code - have been in preparation for years, but are stalledpending legislative or executive action.

In addition to these advances in the legal framework, tax rules have been modified to reduce the fiscal
burden on business (see section 2). Finally, the Government authorities have initiated a comprehenisive
reform to modernize customs administration in recent months, resulting in a reduction of clearance time for
imports from several days to some 8 hours in average. This demonstrates the potential for efficiency gains
under strong leadership with clear objectives.

The new laws and the other reforms described above constitutereal progress. Now attention needs to shift to
the application and enforcement of the laws and the streamlining of administrative procedures. The
administration of business regulations remains characterized by a lack of transparency, overemphasis on
controlling business activity, and excessive scope for discretion. The issues that pose the most serious
problems, as shown in the surveys discussed in the next section, relate principally to tax administration
and the judicial system. Procedures in these two areas are considered inefficient, time consuming, and

Despite Government's efforts to modernize and rationalize the system, tax administration remains one of the
main areas of complaint. The national tax administration has introduced a unique fiscal identification
system and reduced the number of tax forms. There remain, however, more than 30 different tax-related
forms at the national level. Entrepreneurs complain about the complexity of the system, the scope for
arbitrary decisions, and the frequency of errors by the tax authorities (about 40 percent of those surveyed
thought they had been charged too much on one or more occasions).

The length and lack of transparency of judicial processes have emerged as the most important issue for the
Moroccan legal system. It is expected that the ongoing reform of the judiciary system, including the
establishment of commercial courts, will help to address this issue. For the time being, however, judicial
processes remain slow and unpredictable, in part because judiciary staff do not have sufficient expertise in
specific areas (labor law, for instance). In addition, laws are often complex and ill suited to the local
context, new laws are sometimes not well publicized, and essential application decrees take years to be
issued, all of which contributes to the lack of transparency.

Finally, although establishing a new business in Morocco takes less time now than in the 1980s,
procedures are still cumbersome by international standards and do not promote FDI for small and
medium enterprises. Late payments by the public sector and corruption (which is the target of a
concerted effort by the new Government) are additional burdens.

The Government has continued to invest in public education and has developed vocational training
programs. These are important steps, but they have not been sufficient to raise the quality and
mobilityof human resources to the standards required in a more competitive environment.
Since independence,the Governmenthas made a systematiceffort to improve the absorptive capacity of the
formal educationsystem, and vocationaltraining has been offered since 1974 by the Office de la formation
professionnelleet de la promotion du travail (OFPPT). Nevertheless,industrial surveys by the Observatoirein
 1994 and the 1994 PSA both identified the shortage of skilled workers as one of the main constraints for
business in Morocco.

To solve this problem, the Government has taken various steps in recent years to strengthen the public
education system and make training programs more responsive to the demands of firms. The Social
Priorities Program (BAJ) adopted by the Government includes the expansion of basic education as a
    Barnamaj al-Aoualaouiyat   al-ljtimaya in Arabic.

main objective. On the vocational training front, OFPPT has started to develop programs to upgrade
workers' skills within firms, and to retrain the unemployed. The Government has also supported, as part
of an overall strategy to facilitate the mise a niveau of the firms, the creation of non-governmental inter-
professional organizations, Groupements interprofessionnels d'aide au conseil (GIACs), to assist
enterprises in defining their needs and to carry out training programs. This program is still at an initial
stage, but GLACs could be an important interlocutor in the private-public dialogue to improve labor
efficiency and the living standards of workers. Finally, the private sector has also started to be more
involved in the design and implementation of programs to upgrade workers' skills. A case in point is the
creation of ESNITH (Ecole superieure nationale de textiles) by AMITH (Association marocaine des
industries textiles et de 1'habillement)with the collaborationof OFPPT and the financial support of the EU.

These measures are an important step to improve the quality and mobility of the labor force in Morocco.
Nevertheless, they appear to be insufficient in view of the slow growth in labor productivity, the overall
modest economic results, and the evidence revealed by the interviews with private entrepreneurs (see
section 4). However, illiteracy remains high, and the mismatch between the profile of higher-education
graduates and the needs of firms persists.

This challenge arises, in part, from the development strategy adopted by the country, which creates more
jobs but also imposes new demands on the labor force: economic globalization sets higher quality
standards for products and requires better preparation even for unskilled jobs. The latter becomes
particularly relevant since illiteracy rates in Morocco, especially in rural areas, are among the highest in
the region, and rural emigrants constitute an important source of job-seekers in the cities during bad
harvest years.

Problems also arise, however, from the limitationsof the Government's current strategy for formal education
and vocationaltraining. The Governmenthas allocatedconsiderableresources to education,but resources have
not been used efficiently in either area and there has been a bias in favor of secondary education. Similarly,
vocationaltraininghas always been considered an importanttool to upgrade workers' skills, but the programs
still reflect the priorities of absorbing unemployed youth rather than giving workers the skills needed by
enterpnses, and focus more on the insertion of first-timejob seekers than on the reinsertion of displaced
workers. Finally, in spite of the shortcomings of the public-led strategy, the rules and regulations provide
lukewarm supportto the developmentof private alternatives,even though the existingprivate institutesenjoy
considerabledemandfor their services.

There is also a lack of efficient channels for firms to voice their specific needs despite the creation of
GIACs. These institutions are still at the take-off stage, have very limited capacities, and seem to have
adopted a wait-and-see attitude toward the Government. Finally, in spite of the tripartite composition of
the board of directors, OFPPT as an institution has few incentives to become more responsive to its
clients, since its survival does not depend on demand for its services, but on the earmarked proceeds of
the vocational training tax (73 percent of its 1994budget).

In addition,although they are often overlooked,outdated labor laws, and lengthy judiciary processes
increase the cost of managing human resources and discourage firms from hiring a stable work force
and investing in human capitaL
Labor transactions are ruled by 1921 legislationthat puts strong emphasis on job security by making it very
costly to fire pernanent workers. The legislation has, in fact, acted as a deterrent for employers to hire
permanentemployees. Relying on temporaryworkershas given considerableflexibilityto the Moroccan labor
market, but at the cost of stable jobs and investmentin human capital. High social charges in the organized
private sector (from 21.7 to 35 percent of gross salary)also increasethe cost of hiring permanentworkers and
discouragefirms in the informalsector from integratinginto the mainstreameconomy. Finally,the absenceof
quick conflict resolution mechanismsand the judiciary's lack of expertise in labor issues increasethe cost of
managinghumanresources within legal boundaries.

Distorted incentives in the public sector, mostly delinked from economic considerations, also
contributeto luring workers away from the private sector.
Employment conditions, i.e., job security for all workers and inflated wages for unskilled workers, are
still more attractive in the public sector, although the number of new jobs offered has been declining in
line with the program of fiscal austerity and transfer of public enterprises to private ownership. This has
resulted in a rising rate of unemployment among qualified workers, who are willing to endure longer
waiting periods, and in a dichotomy between a protected minority of unskilled public servants, on the one
hand, and a majority of marginalized workers with low wages and scant social protection in the informal
sector, the rural areas, and the traditional export sectors, on the other.

The legal framework for financial intermediation also has improved considerably, but the access to
financial resources, and to a lesser degree the cost of these resources, remain important constraints
that reducethe pool of financial resources available for PSD.
Two new pieces of legislation (the Banking Law and the Securities Law) have contributed to updating and
strengthening the legal framework for financial intermediation. The plancher des effets publics (PEP),
under which banks had to hold a certain percentage of sight deposits in below market rate Treasury bonds,
was eliminated in June 1998. Absolute maximum lending rates also have been abolished and replaced by a
relative ceiling or taux d 'usure, while preferred time deposit rates have been removed, with the exception
of passbook deposits, which still have to be remunerated at 6 percent minimum. Finally, while state
ownershipin the financial sector remains high, it has steadily decreased and is now about 30 percent of total
assets and 24 percent of banking capital.

Moroccan authoritieshave also recently begun to address the urgent need for restructuringof the main public
banks, which are in serious difficulty. The Cabinet has approved legislation that transforms the rural credit
institution, Caisse nationale de credit agricole (CNCA), into a joint stock company. The Cabinet has also
approveda change to the statutesof BCP, to allow divestiture of state-ownedshares to its regionalnetwork of
banks (banquespopulaires). Finally, the authoritiesare fullyaware of the need to conductan intemal review
of the Credit immobilieret h6telier (CIH), which has been severely affected by the lacklusterperfonnance of
the tourism industry,before a restructuringplan can be designedand implemented.

In addition, the authorities are formalizing the status of financial NGOs, or Associations de micro credit
(AMCs). These associationsplay a key role in providingfinancial resources to the tiniest microenterprises
(self-employed  entrepreneurs),although their institutionalcapacityis insufficientto satisfythe existingdemand
of these firms.

The takeoff of the Casablanca Exchange Stock Market (Societe de la bourse de valeurs de Casablanca,
SBVC) is anotherwelcome developmentthat should help increase the availability of long-term funds. As of
December 1997, 49 firms were quoted on the SBVC and market capitalization had increased substantially,
from 5 percent of GDP in 1993 (DH 1.3 billion) to 37 percent of GDP in 1997 (DH 117.9 billion, or

Despite the liberalization of banking regulations, the developmentof the SBVC, and the increased activity
of financial NGOs, the access to and cost of financial resources are still constraints that limit private sector
activities in Morocco, albeit not as much as reported in the 1994 PSA. The nature of the problems vary
significantly,however, by the size of the firm. For smaller and microenterprise -firms,the main problem
remains the mere access to financial resources, especially from the formal banking system, which does not

3 The taux d'usure limits to 1.7 times the weighted average of lending rates the maximum annual effective rate that can be charged by
  any financial institution licensed under the Banking Law.
see these firms as profitable lending opportunities. For larger firms with formal banking relationships, their
main financial constraints are the paucity of medium and long-term financial instruments and the high cost
of credit.

The high cost of credit is due in part to insufficient competitionin the financial sector. Until very recently,
banks appeared to adhere to GPBM (Groupementprofessionel des banques marocaines) guidelines to set
lending rates, and the evolution of rates as well as anecdotal evidence suggest that some collusion did keep
rates at a certain level, although the general trend since 1997 has definitely been downward. In addition,
competitionis hampered by the fact that despite liberalization,various deposit rates remain regulated (sight
depositscannot be remunerated,while interest paid on carnets de dep6t cannot be lower than 6 percent). In
April 1998, banks for the first time published their base lending rates individually rather than adhering to
GPBM guidelines. This is certainly a positive development,but it is too early to say whether it marks the
beginningof a more competitiveera.

Another reason bankers perceive lending to private investors as unprofitable is their lack of experience
managing investment credits. Evaluating the net worth and risks of business projects requires specific skills
that are different from dealing with investment in Treasury bonds. In addition, cumbersomejudiciary
processes (see Annex 5) increase the risk of lendingto private entrepreneursand explain why banks base their
decisionsmore on tangible collateralthan on a cash flow analysis of a project. Banks also lack the financial
intermediationskills to make use of innovative techniquessuch as cash flow-based lending and information
technologyto reduce transactioncosts.

The insufficient availability of medium and long-term banking resources for the private sector is also
explained by the fact that some medium-sized firms have great difficulty adhering to the transparency
requirements of the new accounting plan introduced in 1994. This reinforces bankers' tendency to base
their lending decisions on fixed asset collateral and to discardfinancial accounts and cash flow projections.

These factors may help explaining why bank investments in Government bonds remain high despite the
reduction in the reserve requirement and the elimination of the PEP in June 1998. Banks, in fact, decreased
their holdings of T-bills only marginally, from 28 percent of assets in 1994 to 27 percent in 1997.4 It is not
clear whether their preferences came from the crowding-out effect of a large supply of low-risk T-bills,
which gives these institutions little incentive to compete aggressively for private sector clients, or from the
scarcity of private investment projects worth lending to. Further research is needed to understand the roots
of this problem.

Capital markets in Morocco have yet to become a real alternativeto the banking system, although they have
been very active in recent years. Market capitalization on the SBVC has increased, but this has been
accompaniedby lower liquidity ratios (from 21.7 percent of market capitalizationin 1993 to about 15 percent
in 1997). One problem is the lack of transparencyof the rules governingthe stock market, combined with the
lack of capacity of the supervisory body, the Comite d&ntologique des valeurs mobiliaires (CDVM), to
enforce those rules. High transaction costs imposed by the SBVC on securities trading also deter investors
from participatingin the market and companiesfrom seeking a listing. Bonds and commercialpaper are also in
short supply because, among other reasons, corporationslack an efficient benchmark against which to price
                                                yield curve.
their bonds in the absence of a market-determined

The provision of infrastructure services has increased considerably in the main urban centers.
However, important problems still need to be solved: elimination of shortages of industrial land,
resolution of cross-sectoralissues, and expansionto rural areas.

  Current funds deposited under the PEP have been transformed into I 0-year deposits, and will therefore be gradually released into the
  economy. Funds deposited after June 30, 1998 are not subject to the PEP rule.
An issue related to the provision of infrastructure is the shortage of well-equipped industrial land and
associated services (trade facilitation, marketing, and technical and business services) to support PSD. This
constitutes a critical constraint to private investment in Moroccan industry. Administrative bottlenecks
have contributed to the shortage of well-equipped industrial land. For example, the conversion of
agriculturaland non-titled land into industrial land has proven very difficult. Also, various factors generate
disincentives for the private developmentof industrial land. First, there is the risk of unfair competition by
public agencies, which have traditionally received land free of charge or at nominal prices. Second, the
right of the private sector to occupy and use land belonging to the state is precarious: only leaseholds for a
maximum of twenty years are allowed, and such interests can be canceled by the state with a mere three
months notice and without possibility of recourse. Third, when the Government first turned to private
investors to develop and manage four industrial zones (Tangier, Nador, Nouaceur, and Jorf Lasfar), it could
not attract foreign investors despite international bidding. This suggested that investment conditions were
not sufficientlyclear or favorable to attract private investors. Private Moroccan investors have, since then,
indicated an interest in some of these projects, in particular Tangier and Jorf Lasfar.

Water, electricity, and telecommunications services have clearly improved: a greater mobilization of water
resources has increased the country's hydroelectricity capacity, electricity shortages have all but
disappeared, and the quality of telecommunicationsservices has greatly improved. The financial situation
of some public service providers has improved as well, including stronger performance by Royal Air Maroc
(RAM) and the Office national des chemins de fer (ONCF). Private operators have been involved in
infrastructure activitiessince 1984 in the area of bus transportation,with the concession of urban bus routes.
In 1993 the inter-city bus company, CTM-LN, was privatized, and the trend has since spread to other
subsectors, notably electricity generation (in Jorf Lasfar) and water and electricity distribution (in
Casablanca and Rabat). A modem and procompetitive legal and regulatory framework has been in place
since 1998 in the telecommunications sector, and an active liberalization strategy is actively being pursued
in that sector. Some liberalizationmeasures have also been adopted in the road and air transport sectors.

The country's most important infrastructure problems have to do with a series of issues common across
several sectors (with the exception, for the most part, of telecommunications): lack of overall sector
strategy; inadequate regulatory framework combined with complex and often unclear allocation of
responsibilities, with the same officials generally in charge of both regulatory and operational tasks;
insufficient competition; uneconomic tariffs; and lack of coordination and expertise to design and
implement coherent infrastructure policies. These shortcomings have not prevented significant
improvementsin many infrastructure services in recent years, but they do cause infrastructure performance
to remain below what it could be, even in sectors where progress has been most rapid, such as
telecommunications.They also make it more difficult to expand services toward peri-urban and rural areas.

The Government has also made special efforts to increase access to electricity and water in rural areas
through the public PERG (Programme d'electrification rural groupe') and PAGER (Programme
d 'approvisionnementgroupe en eau potable des populations rurales) programs. Nevertheless, progress is
still concentratedmainly in urban areas. Tariff perequationacross regions - cross-subsidizationthat implies
that tariffs in subsidizedregions do not reflect the costs of providing service - combined with low prices for

5     Some numbers illustrate the problems very well: the price of industrial land in Casablanca is more than double that of Tunis, and in
      Tangier it is more than double that of Marseilles and Valencia (Price Waterhouse, 1994). In the metropolitan area of Casablanca, the
      supply of industrial land must increase by 1,300 hectares by the year 2000 to sustain the 235,000 jobs in the industrial sector. For an
      additional 80,000 new jobs to be created by that year, an extra 800 hectares would have to be developed.
6In     some sectors, these problems have seriously constrained the activities of entrepreneurs. A case in point is their complaints, recorded
      in the surveys, about the poor quality of port services. Long delays to process goods through ports is the most common complaint,
      followed by the lack of accountability of ODEP (Office d'exploitation des ports) and the lack of security in the areas outside ODEP's
      warehouses. Entrepreneurs also express dissatisfaction with the price of electricity and with the delays and costs of obtaining
      connections to the water and electricity networks (about 25 percent of the firms surveyed reported connection-related problems during
      the last three years).
residential users have prevented the introduction of competition and have made it very expensive to extend
infrastructure networks in rural areas. As of 1998, only 35 percent of rural households had access to
electricity and 37 percent to a water distribution network, and there was only about one telephone line for
every 185 rural inhabitants. With about half the population (13 million) living in rural areas, this situation
has severe economic and social consequences. Limited availability of basic water and electricity
infrastructure in rural and peri-urban areas constitutes a significant obstacle to providing basic health and
educationservices. This is true for two reasons: first, because provision of such services is more difficult in
the absence of basic infrastructure; and second, and more important, because the opportunity cost for
families to send their children to school rather than having them help with domestic chores is very high in
areas lacking modem water and electricity infrastructure.

Various initiatives have been implemented to enhance the dialogue between Government and the
private sector and to foster private-public partnerships in strengthening the productivity of firms.
However, these initiatives are insufficient, given the large potential of the private sector to be an
active partner in the efforts to increase Morocco's competitiveness.
A tripartite consultative committee, Comite de suivi du projet de developpement du secteur prive,
comprising an equal number of representatives from the public and private sectors, was established in
1994 to advise on the content and implementation of a reform program aimed at developing and
enhancing the competitiveness of the private sector. In addition, an Observatoire de la competitivite
internationale de 1'economie marocaine was set up to provide information to the consultative Comite de
suivi on the impact of the reforms. Both the Comite de suivi and the Observatoire, however, focus
almost exclusively on the formal sector.

The Governmentis well aware of the challenges imposed on Moroccan firms by the transition from highly
protected markets to a much more competitive environment. This adjustment can be expected to be
especially difficult for the smaller firms, which comprisea large majority of the total enterprises in Morocco
(see Table 4 above). To assist industry with the challenges of trade liberalization, the Government in
November 1997 launched an industrial competitiveness (mise a niveau) program aimed at preparing
industry for the challenges of trade liberalization. One componentof the program aims at supplementingthe
efforts of individual firms with diagnostic studies by outside consultants, restructuring plans, and subsidized
credit for implementation of those plans. The mise a niveau program is an important effort to help
enterprises prepare for the fierce competition that will result from trade integration. However, to achieve
sustainable results in the medium run, it is important to maintain the demand-driven character of the
initiative, and to minimize the reliance on guarantees and subsidized loans that might erode the firms'
financial discipline.

The private sector has also been active in this public-privatedialogue. The CGEM (Confederationgenerale
economiquemarocaine)has evolved to become more representativeof the private sector in its dialogue with
the Government:it is now open to smaller firms and to federations of companies outside the manufacturing
sector, and regional offices have been created to expand the scope of the association.

This section presents the results of two field surveys of 370 enterprises, carried out in seven cities and
covering multiple sectors, in March and April 1998. The nature and ranking of the constraints on business
activities that emerged from the interviews with entrepreneurs underlie much of the analysis developed in
the previous sections, and confirm the need for further reforms to improve the business environment in
Morocco and to facilitate firms' efforts to improve their efficiencyand become more competitive.

The survey samples cover firms of different sizes: Large (more than 100 workers), medium (50 to 100
workers), small (6 to 49 workers), and micro (5 workers or fewer). A key finding of the surveys is that
different constraints have different impacts depending on the size of the firm. These differences are most
importantbetween the group of firms with more than five employees (small, medium, and large firms in the
formal sector) and the microenterprises (most firmns the informal sector). But these differences are also
significant among firms of varying sizes within the formal sector itself. Section 4.1 first presents the results
for enterprises with more than five employees, followed by those for microenterprises. Section 4.2
discusses how these constraints have evolved since the 1994 PSA, which drew on various firm surveys to
elaborate a ranking of the problems affectingthe private sector at that time.

4.1. Results of the 1998 Enterprise Surveys

Overall, entrepreneurs employing more than five employees find the following problems to be most
constraining: administrative behavior, lack of qualified workers and good managers, late payments,
and insufficient demand, as well as lack of access to and the high cost of finance.
Entrepreneurs were asked to identify the three most severe problems they face in their daily activities.
Figure 4 ranks their responses according to the number of times a given problem was reported.
The behavior of the administration appears to be the most severe constraint now faced by entrepreneurs.
This behavior includes tax administration, judicial processes, late payments by public entities, and
corruption, which is especially problematic for small firms. Customs procedures are a severe problem for
large and medium firms, while small firms complain more about problems related to company
The next most severe constraint is related to human resources. The lack of qualified workers is one of the
problems most often mentioned, especiallyby large entrepreneurs,who rank it in first position. Small finns
complainmore about the high turnover of unskilledworkers. The scarcityis not limited to the technicalfields;
there also appears to be a scarcity of managerial skills, with fnmnscomplainingabout insufficient internal
capacity to adaptto the changingexternal environment. To a large extent, poor managerial skills are rooted in
an organizationalstructurewith little staff mobility or versatility,which characterizesfamily-runenterprisesas
well as corporate establishmentsin Morocco. Many firms do not make plans to periodically assess their need
for workers, capital, or other resources and do not invest in researchingappropriate technologyand market
information(see below). Finally, although the legal environment is often overlooked,outdated labor laws -
combined with lengthy judicial processes - have been shown in various studies to increase the cost of
managinghumanresources in Morocco.
                       Figure4: MostOftenMentioned        for
                                                  Problems FirmswithMorethanFiveEmployees
                                           of            who
                                 (percentage entrepreneurs mentionedthem)
       Behavior of the administration                                                                   _

                       Human resources ,                 ______________-_...__:-.:-_______'___________________'_

    Late payments         by private clients

           Insufficient    demand/Strong
                                corn petition
             Access to/Cost of finance

                      High level of taxes

            Infrastructure weaknesses

                                                  0                   10                 20                 30       40   50   60
    Source: E.quite   sur les A touts et les Obstacles     au Developpem     ent du Secteur Privi au Maroc (1998).

Late payments by both private clients and public agencies are also an important problem that can be
attributed in part to the recent slowdown of economic activity. Many entrepreneurs have seen their client
base stagnate or decrease, which has taken its toll on their ability to pay debts on time. In addition, despite
the progress achieved, many firms do not have easy access to financial resources: the survey confirms that
many small businesses do not have a relationship with a bank, and often do not accept checks as a means of
payment. As a result, during bad times, these firms, as well as many of their customers, do not have access
to bank credit or to overdraft facilities. Smaller firms thus have difficulty maintaining sufficient liquidity to
pay their own creditors promptly. The problem is less acute for larger firms, which have easier access to
banking facilities.

The high cost of finance and limited access to medium and longer-termresources are also mentioned by
entrepreneurs as relatively important constraints. The recent decrease in lending rates suggests that
competitionamongbanks might be increasingand that entrepreneurs'complaintsreflect past more than present
experience. However, it is too early to determinewhether the downward trend will last or whether collusive
banldngpracticeswill persist.

High taxes are a less critical constraint than those mentioned above. Nonetheless, they are still a heavy
burden for smaller firms, which tend to rank that constraint relatively higher than larger firms.

Finally, infrastructure weaknesses (mainly access to land, but also the price of electricity, quality of port
services, and delays in obtaining connections to infrastructure networks) are also perceived as
constraints. The improvement of services in the main urban areas is evident, but entrepreneurs in other
areas still complain about electricity shortages (mostly in Oujada and Tangier), sewerage problems (in
FRs), and road quality (in industrial zones and some tourist areas). Scant competitive pressures among
producers largely accounts for the lack of motivation to decrease prices or improve quality and attention
to users. The review of sector policies in the previous section indicates that these problems, which are
common to various sectors, could be best resolved by adopting a comprehensive cross-sectoral strategy
rather than through isolated policy measures.

The situation of microenterprises differs substantially from that of other firms. In order of
importance, the main constraints for microenterprises have been the impact of a weak economy on
demand and payments, high worker turnover, and lack of access to financial resources.
As Figure 5 indicates, the problems of microentrepreneursare very different from those of larger operators,
with insufficient demand appearing to be a much more severe problem for microenterprises. This is
consistent with the fact that large enterprises have had a less difficult time in recent years: only about 20
percent reported in the surveys that they had lost market shares, while 55 percent reported gaining market
shares, as opposed to 50 and 40 percent for the smallestenterprises. Microfirmshave less ability to diversify
their markets and therefore strongly feel the impact of an econonic slowdown, both because there is less
demand for their products and because supply increases as unemployed workers from the formal sector
enlarge the number of microfirms fightingfor the same market. In addition, because they have a harder time
upgrading their technical and market skills (see below), the smallest firms are less able to compete to retain
their customers.

Late payments by clients rank second for firms overall, and this problem is much more acute for
microenterprisesthan for larger firms. This is not surprising, since microenterprise customers often include
the less well off and because these firms have less access to financial resources.

7 According to Lejournal   (November 17-23, 1997), 84 percent of Moroccans over 20 years of age do not have a bank account.

                           Figure 5: Most Often Mentioned Problems for Microentrepreneurs
                                                of           who
                                     ( percentage entrepreneurs mentioned them)

                   Insufficient demand, strong competition                                                                     I

                          Payment delays by private clients

                                          Human resources

                                                HiQh taxes

                                         Access to finance

                                            Product quality
                                 Infrastructure weaknesses

                                  Administrative behavior

                                                              o        to          20           30          40       50   60       70

                      Source:Enqute osur. Atous et les Obstaclesau Djveloppemt
                                       les                                       d. Secteur Ptita    M-aroc(1998).

The lack of access to financial resources from the banking sector is an even more important problem for
microenterprises than it is for small firms. Although the tiniest microfirms are generally better served by
NGOs, worldwide experience suggests that for the larger micro firms, the formal financial sector is
normally the most efficient supplier of finance. However, despite their collective economic importance,'
micro businesses, like small businesses, have almost no access to commercial banks. Banks in Morocco -
as in many other countries - do not see the provision of financial services to micro and small enterprises as
profitable ventures: such firms are seen as risky customers that lack collateral, entail high transaction costs,
and are unable to pay the high interest rates needed to cover those costs. (Banks are, in any case, prevented
from charging very high rates in Morocco under the usury rule.) In addition, the absence of strong
competitive pressures gives these institutions little incentive to be innovative or look for new groups of
customers. The banks' lack of familiarity with microfinance lending techniques also plays a role, as does
the inability of small finns to maintain proper accounts and provide the information required to obtain a

The inabilityto access technologyto ensure product quality or to obtain market informationis also mentioned
much more often as a constraintby microentrepreneurs  than by other operators. The relative cost of acquiring
technologicalor informationaltools is higher for very small firms that have few contacts with sophisticated
suppliersor clients.

Administrativeconstraints, on the other hand, are ranked last by microentrepreneurs,reflecting the ability of
very small businesses to avoid some laws and regulations.

4.2. Comparison with 1994 PSA results

Table 6 below compares the most important constraints identified in the 1994 PSA with the constraints
identified in the 1998 surveys." While the 1994 PSA acknowledgedthe "Government's gradual but marked
shift to encouragethe private sector," it also pointed out some importantremaining constraints to PSD. The
largest firms (more than 100 employees) complained mainly about the high cost of finance, lack of skilled
labor, high taxes, high cost of commercial land, and infrastructure weaknesses. Smaller businesses (20 to

8There  are about 700,000 very small and micro businessesin Morocco. The finance market for those businesses is conservatively
   estimatedat betweenUS$200 and US$400million.
9Fewer   than 15percent of micro firms havea checkingaccount, and fewer than 4 percent have ever obtainedan overdraftor credit.
 0 To facilitatecomparisonwith the 1994diagnostic,the results of the 1998 survey are disaggregatedamong firms employingbetween
   20 and 100 persons and those employingmore than 100 persons.This accounts for the minor differencesbetween these results and
   thosereportedin Figure 4, which are aggregatedfor all firmsemployingmore than 5 persons.
100) complained less about the lack of skilled labor but said administrative constraints were among their
most severe problems.

The administration's behavior, already cited as an important problem in 1994, has clearly become a major
binding constraint in 1998. The same is true for human resources. Also, not surprisingly, constraints
reflecting the disappointing economic performance over the last five years - i.e., late payments and
insufficient demand - are much more important in 1998. New constraints among the top eight include the
lack of access to technology and market informnation. Indeed, concerns about these issues are likely to
increase as the country becomes more involved in economic globalization.

On the other hand, while access to and cost of finance remains a significant constraint today, its relative
importance appears to have diminished since 1994. The same is true for infrastructure weaknesses. Except
for the issue of access to industrial land, which remains as much a problem today as it was in 1994,
shortages of infrastructure services in urban areas have been alleviated since 1994. Most of the problems
that remain concernprice and quality of service, as well as connection delays.

High taxes also seem to be a less binding constraint now than in 1994.At 24 percent of GDP (down from 27
percent in 1994), the current tax revenue-to-GDPratio is comparable to that of other lower middle-income
countries. It is important to remember, however, that current levels of taxation imply a relatively high tax
burden on the urban formal sector because income from agriculture and the urban informal sector is largely

                          Table 6: Ranking Constraintsto PSD in 1994 and 1998, by Size of Firms

                   1994                              1998                          1994                              1998
                   Cost of finance                   Behavior of the          ft   Cost of finance                   Behavior of the
                                                     admrinistration                                                 administration
                   Behavior of the admninistration   Insufficient demand      'a   Lack of skilled labor             Human resources (incl.
                                                                                                                     lack of skilled labor)

                   High level of taxes               Late payments by         Q    High level of taxes               hisufficient demand      t
                                                     private clients
                   Access to/poor quality of key     Human resources               High cost/lack of access to raw   Late payments by
                   production factors (land,         (incl. lack of skilled   1 materials                            privateclients
                   equipment, infrastructure)        labor)

       g   g   W   Cost/lack of access to raw        Access to and cost       .    Access to/poor quality of key     Access to and
                   materials                         of finance                    production factors (land,         cost of finance
                                                                                   equipment, infrastructure)
                   Competition from                  Infrastructure                Labor regulations                 Lack of technol. and     Q
                   informal/illegal firms            weaknesses               ,                                      mkt. information
7                  Inflation                         Lack of technol. and          Inflation                         *Ifrtructure weakness
                                                     mkt. information                                                *High taxes
                   Insufficient demand               High taxes                    Behavior of the administration
Arrowsindicatewhetherthe constrainthasbecomemore(e) or less (LI) important, remainedequally(<r) importantin the overallranking
from 1994to 1998.
* Equalrank.
Sources: WorldBank (1994) and Belghazi (1998a).
The relatively slow development of the private sector in recent years suggests a need for action. The main
features of a strategyto address some of the most importantconstraints to PSD are outlined below.

5.1. Strengtheningthe Foundation for Private Sector Development

Implementing sound macroeconomic policies and removing barriers to competition and to
private participation in economic activities currently in the public domain are prerequisites for
vigorous private sector development. This involves several measures to correct the problems

Increasing public savings and using public resources more efficiently would facilitate private

A low fiscal deficit favors PSD because it helps maintain low inflation and reduces public crowding out in
the domesticfinancial markets. In this context, the commitment of the Governmentto significantlydecrease
the budget deficit from its 1998 budgeted level of 3.6 percent of GDP is an important element of a sound

Given the current pattern of public revenues and expenditure, a lower deficit will require that the
Governmentreduce the civil service wage bill and enhance cost recovery in the public provision of services.
To be sure, these propositions are difficult to implement despite their longer-term benefits, but they can be
made less painful if complementedwith other measures, such as promoting public-private partnerships in
education and training, health, and infrastructure services for marginal areas. Moreover, the liquidation of
loss-makingpublic enterprises would cut the loss of public resources, while allowing a redirection of assets
toward more productive activities.

While other options exist in theory, reducing public wage expenditures and promoting private participation
in many areas appear to be the only feasible ways to achieve budgetary equilibrium, given the structure of
the Government budget in Morocco.' On the expenditure side, public investment is already too low, a
restructuring of public debt is unlikely to happen in the short term, and operating expenses in social areas
need to be at least maintained (albeit with more efficient utilization). On the revenue side, increasing the tax
base but not tax rates would support the country's achievement of having reduced the overall fiscal burden
(see section 2.1).

Strengthening public investment expenditure within the context of a multi-year development plan could
also contribute to PSD if public investment is meant to complement rather than substitute private

The exchange rate regime needs to be managedto maintain the competitivenessof the economy.
In the short run, the authorities should ensure that no further appreciation of the REER takes place. In
addition, the trading margins at which banks buy and sell foreign exchange should be broadened. In the
medium term, the Government should move toward a more flexible exchange rate regime responding, in
particular, to changing trends in international trade. This evolution would enhance competitiveness of

  In the caseofMorocco,          results
                        simulations          that
                                       show civilservice                     be
                                                             wagescostscould cut from11 percentof GDPto 9.5
   per centovera four-year                    a minimum
                          periodby undertaking <<                   of
                                                           program»> a one per centannual        in
                                                                                         reduction the overall
          of                          by
   number civilservants-tobe achieved notreplacing           and
                                                      retirees filling       staff
                                                                      priority needsthrough redeployment-and
   simultaneously       annual
                 limiting     wageincreases increase the costof living.Sucha reduction,
                                           to         in                               however            be
              in          of                      for           the
   considered the context a muchwiderprogram restructuring civilservice,            at       a
                                                                               aimed creating leanerandmore
  efficient                  (WorldBank, 1998(b)).
exports and provide some degree of uniform protection to local producers facing tariff reductions in the
context of the FTA.

Acceleratingand broadening trade liberalizationwould provide more efficient production incentives.
Morocco would benefit from advancing the FTA schedule of duty reductions for manufactured goods and
agricultural products, as well as from applying such FTA rules to all trading partners.'2 Extending the
scope of the agreement to include agriculture and services would yield further benefits, although this
would be far from an easy task.

Exposing enterprisesto more competitive pressures would unleash untapped growth potential.

Adopting the draft Competition Law, currently before Parliament, would be a step forward. This law,
however, will be insufficient by itself to subject enterprises to greater competition, for two main reasons.
First, the effectiveness of the law's competition provisions depends on the capacities of the judicial system.
Second, even with a thorough trade liberalization,which would increase the potential for competition from
abroad, competition in some sectors would still be hampered by the existence of public monopolies and by
remaining price controls on certain products and services.

To successfullytackle these issues, additional measures are required, such as: ensuring a strong and credible
competition council to implement the Competition Law; deepening the ongoing judicial reform efforts;
further restructuring monopolistic sectors to promote private participation and competition; and accelerating
the removal of the remaining price controls, replacing them, where needed, with targeted interventions
aimed at helping the poorest segments of the population.

Pursuing the privatization program can foster PSD and strengthen a leaner, more efficient state. It
wfllalso bring one-shot fiscal revenues from divestiture.
Concluding the first round of privatization and setting transparent procedures and a reasonable timeframe
for implementation are key steps to ensure the success of the second round. Of the 113 firms included in
the first privatization list, 61 are still in Government's hands, including key institutions such as the BCP,
the privatization of which is essential to develop a competitive financial sector. Following the liquidation
of CDM and SEFERIF, which is currently underway (see section 2.1), it will be necessary to pursue the
liquidationof the remaining non-viable enterprises.

Parliament has approved new legislation that modifies and complements the current Privatization Law
(No. 39-89), including a provision to replace the principle of a global "positive" list with an annual
identification of firms to be privatized within a given fiscal year. The Government has also established
ambitious targets for privatization and liquidations to be achieved during its tenure. It is now critical to
accelerate the preparation of the privatization dossiers and advance the implementation of the program.

In the past, the Ministry of Privatization relied on donor funds to implement its privatization program, but
this is no longer the case, since implementation costs are now included in the Ministry's regular annual
budget. This is a positive step toward ensuring smooth implementationof the privatization program. In the
medium term, another step would be to adopt a multi-year budget to ensure successful completion of the
tasks over longer periods. This recommendationholds for all Governmentministries.

                  benefits to all trade partners would increase Morocco's GDP by an estimated 1.9 percent - in addition to the
12 This extension of
  estimatedgainsfrom the FTAof 2.3 percent of GDP. See Rutherford,Rutstr6m,and Tarr (1993).

5.2. AddressingFirst-tier Issues: Administration,Labor, and Finance Constraints
5.2.1.    Easing the Administrative Burden on Enterprises

While the legal framework for business activity has been partly modernized, the administration of business
regulations would benefit from substantial simplification to reduce the time and resources spent by
entrepreneursin complyingwith these procedures. Six areas are in particular need of reform.

The tax administrationneeds to be further streamlined.
There is a need to further reduce the number of forms and to consolidate them across fiscal and quasi-fiscal
administrations. Such simplification, along with the publication of written rules on procedures to be
followed,would go a long way toward reducing the scope for arbitrary decisions.

More efficient and more equitable judicial processes would greatly facilitate private sector

Two sets of measures are needed to achieve more efficient and equitable judicial processes. First, the court
system needs to be strengthened and a coherent legal framework created by speeding up enactment of the
various laws that are now stalled (see section 2.2). Second, the quality of judicial decisions in commercial
areas needs to be improved through: (i) the proper staffing of the new commercial courts, not only with
existing judges but through lateral recruitment complemented by appropriate training programs;' (ii)     3

updating of commerciallegal education in universitiesthrough a much-neededrevision of the curriculumby
a committee of experienced practitioners; (iii) the timely publication of judicial decisions to increase
transparency;and (iv) extending the incentives recently granted to judges to judicial support staff, including
a clearer career developmentpath and better remuneration.

The current training program on commercialmatters at the Institute for Judicial Studies (INEJ), in charge of
training magistrates, should be broadened to include judicial support staff and lawyers. INEJ could also
offer continuing education courses as well as initial training programs. Finally, the private sector should
continue to be called upon to make contributions in the field of legal training (a series of banking law
seminarshas already been financed by the banking sector in partnership with 1iNEJ).

Efforts to accelerateand modernize customs procedures, already well advanced, should be sustained.
It is essential to sustain the efforts to better balance the objectives of control and revenue collection with
those of trade facilitation and client orientation. Feedback mechanisms such as independent surveys or a
mixed public-privatesector advisoryboard would help to further strengthen service performance.

Adoption of the proposed Customs Code would represent an important step toward modernizing customs
administration. Adoption of this text will need to be followed, shortly, by the publication of the texts
required to enable its implementation. In addition, specific measures are recommended to simplify
procedures: sample controls should be further reduced;compound imports should be valued as a whole rather
than by components; process of updating the electronicdata interchangesystemneeds to be completed;and
finally, coordination between customs and the Casablanca airport and regional ports and airports must be
improved.In addition,it is necessaryto simplifythe rules pertainingto temporaryadmission if this system is to
play its full role in promotingMoroccan exports.

3 For example, the capacityto enforcejudgments could be strengthenedthrough the creation of a judgeship for the enforcementof
  judicial decisionsin business-relatedactivities.
This streamliningand updating of customs procedures,as well as the integrationof electronicsystemsare also
necessary to promote better use of customs facilities outside of the most congested ports, in line with the
Government'spolicy of decentralizing economicactivities.

The difficult issue of late payments by public entities needs to be addressed.
The surveys revealed that late payments by public entities are a major problem. They directly affect firns
that sell goods or services to public entities, and also have indirect spillover effects on these firms' private
clients. In the short term, corporatization could be used to help increase the financial accountability of
public entities that perform commercial functions. As far as the administration itself is concemed, there is
no substitute for appropriate budgeting and for designingincentives to promote good financial performance.

Simplifying procedures to establish businesses in Morocco would encourage domestic private
investmentby SMEs and promoteFDI.
Further simplification of the procedures, along with the consolidation of agencies that have overlapping
responsibilities for attracting investment, would help to promote FDI, especially for small and medium

5.2.2.   Promoting the Emergence of Well-qualified and Flexible Human Resources

The 1998 PSA survey confirms the findings of the 1997industrial survey conducted by the Observatoirede
la competitivite internationale de l&'eonomiemarocaine,which shows no significant improvement in most
indicators of availability and quality of the labor force. In fact, human resource problems are more complex
in 1998than in 1994 and appear to affect firms of all sizes, albeit in different ways. To a large extent, these
problems reflect the additional demands that modernization and globalization of the economy imposes on
the labor force. Urgent actions are needed to meet these demands.

Improving the productivity of unskilled workers is key to restoring Morocco's international
competitivenessand ensuring that economic globalization delivers long-term benefits for the country.
Economic globalization offers larger markets and new job opportunities, but it also sets higher quality
standards and requires better-trained workers, even among the unskilled labor force. While the larger firms
mentioned the need for better trained workers most often during the surveys, the difficulties that smaller
firms experience in competing and attracting clients also have a lot to do with low labor productivity. The
slowdown of Moroccan exports demonstrates that having lower wages than the OECD countries is not a
sufficient condition to maintain competitiveness. High illiteracy rates and poor preparation of unskilled
workers are becoming serious burdens for firms attempting to survive in a more competitive
environment. A three-prongedapproach should be adopted to address these problems. First, priority must
be given to literacy programs and to improvingbasic education. Resources derived from a leaner secondary
educationsystem (see Annex 4) could provide additionalfunds for these programs. Special attention should
be given to rural areas, where problems are more severe and which, in bad times, provide a large pool ofjob
seekers who migrate to urban areas. Second, access to basic infrastructure services in the peri-urban and
rural areas has to be improved to increase school attendance, especially by girls. Regardless of how many
resources are poured into education programs, the opportunitycosts of sending children to schoolis too high
when basic services are lacking. Third, there is a need for in-service training programs focused on basic
skills, and for retraining programs to help unskilled workers find more productive occupations in an
increasinglycompetitive environment.
It is urgent that the quality of education at all levels be improved and more efficient vocational
training programs be developed to better tailor the qualifications of skilled workers to the needs of
At the same time that firms complain about the lack of qualified workers, unemployment among young
university graduates has reached 25 percent. The Government, through OFPPT, has launched a series of
actions to make vocational training more responsive to the requirements of firms, including special training
contracts and the draft law on vocational training. Additional steps are needed, such as the allocation of the
vocational training tax on the basis of actual provision of training in order to promote private provision.
Similar efforts should be undertaken in higher education, where private provision should play an important
role as well. Fostering the more efficient use of public resources devoted to secondary education would also
go a long way toward creating a better-qualifiedlabor force.

Assisting smaller firms in improving their managerial skills would facilitate their successful
transition toward a unified and more modern economy. Programs channeled through the GIACs
should be strengthened.
It is also important to improve management performance, especially in micro, small, and medium
enterprises operating in the informal sector and in traditional industries. While relatively large, modem
firms can be expected to make the transition to a more competitive environment mostly on their own,
smaller firms in Morocco (and everywhere else) have limited staff, are often overwhelmed by day-to-day
problems, and cannot easily plan ahead. That is why these smaller enterprises can benefit substantially from
assistance programs (channeled through GIACs, for instance) to improve their internal management. A
more flexible and proactive attitude on the part of managers is needed in a competitive environment to
maintain existing customers and attract new ones. Equally important, firms need to plan their demand for
financial and labor resources to meet production goals and survive economic setbacks. Securing these
resources, in turn, requires management time and skills to select training programs, hire new workers, and
developrelations with financial institutions.

Removing legal and institutional rigidities in the labor market would reduce the cost of hiring
permanent workers, expedite conflict resolution, and encourage firms to invest in creating a stable
labor force.
Adopting a modem Labor Code - with emphasison facilitating flexible arrangements- would be a first step
toward increasing transparency, facilitating enforceability, and reducing transaction costs in the labor
market. To this end, it is importantto revise the current draft code (World Bank, 1997b).

The current system of severancepay should also be revisedto improve labor mobility while providinga safety
net during job search. A possible altemative involves reducing severance payments while developing an
unemploymentinsurance scheme. Another possibility, adopted by various Latin American countries, is to
replace the fim's obligation to pay the worker at the time of dismissal with an obligation to make regular
contributionsto a fund owned by the worker,who can accessthat fund at the time of dismissal or retirement.14
Non-wage costs should also be reviewed to identify opportunitiesto lower those costs while maintaining
effectivesocialprotection for workers.

While the objective is to design texts that limit the opportunity for conflict, effective dispute resolution
mechanisms will always be necessary to ensure effective implementation of the law. Strengtheningthe
capacity and efficiency of labor courts is important. In that regard, consideration could be given to
reestablishing some type of elected industrial tribunal made up of a magistrate and employee and employer
representatives. Promoting effective out-of-court settlements could be pursued in parallel by, for example,
strengtheningthe arbitration process conductedby inspecteursdu travail.

14See World Bank (1997b).
The public sector needs to review its labor demandpolicies.
Incentiveregimes in the public sector, now mostly delinked from economic considerations, continueto lure
workers away from the private sector. The solution would involve aligning public pay and benefits with
those prevailing in the private sector, on the basis of economic criteria.

5.2.3.       Facilitating the Access of Entrepreneurs to Appropriate Sources of Finance

It is crucial to increase the access of micro and small enterprisesto financial resources.
In order to build up the institutional capacity of the AMCs to enable them to satisfy the current demand
for loans, it is important to continue to deepen micro-credit programs and assistance to the AMCs, in
coordination with international donors (donors so far have been USAID and the EU).'s

The larger micro firms and small enterprisesare better servedby the formal banking system. In this regard,the
most urgent measure would be to disseminateamong Moroccan bankers the accumulated internationalexpe-
nence, which suggeststhat providinga range of financialservicesto micro and smallfirms (not only credit,but
also savingsand deposit services,retirementplanning, insurance,cash management,tax planning, etc.) can be
very profitable. One bank and one societt definancement that show interest in providing services to micro
and small businesses could also be invited to take part in a pilot program to help develop their capacity to
provide such servicesprofitably. It is also importantto adaptbankingregulationsto the characteristicsof micro
and small business finance. A significant step in that direction would be to exempt financial institutionsthat
are seriouslycommittedto micro and small finance from the current guidelines on the taux d'usure and other
prudential regulations. Finally, providing training programs and advisory services to small businesses in the
areas of accountingand financialplanning would enhancetheir capacityto gain access to formal credit.

Enhanced competition among banks, better creditor protection, and greater reliance on transparent
financial informationwould help larger firms get better loan conditions.
Establishing and enforcing anti-trust rules and deregulating rates on deposits would help promote
competition in the sector and push banks to expand their loan portfolios. Developing a computerized
Register of Interests in Movable Property, as well as rules allowing commercial banks to bypass normal
legal procedures to recover the assets of defaulters, including perishable assets, would facilitate lending
against a broader range of security interests. As suggested above for smaller firms, capacity building is also
needed, both for the banks (to capitalize on opportunities created by deregulation and to evaluate loan
requests on the basis of cash flow analysis) and for the enterprises (to improve financial management and
adherence to accounting rules).

Greater transparency, market-determined yield curves, and additional institutional investors would
make the capital markets more attractive to the largest enterprises.
Active capital markets generally allow smaller investors to participate in the economy, create new
channels to attract foreign capital, and generate competition for the banks. To foster transparencyin the
Casablancacapital market, CDVM's ability to issue regulationsand to sanction market operatorswho fail to
complywith them shouldbe strengthened.In addition,CDVM should upgrade disclosure standardsand require
that accounting practices by companies listed on the Casablanca exchange converge toward international

5 The programs usually start with small short-term working capital loans, which increase with good repayment behavior.         This has
  proven to be a major incentive for repayment.
16   Societes definancement are being established in Morocco to provide consumer loans. They use some of the same techniques as in
      micro finance: they charge high interest rates, track loans very closely, and use a number of methods to ensure payment in case of
      default (e.g., post-dated checks or direct access to wages).
standards. SBVC's charges need to be reduced" and a wider range of market participants should be invited to
become shareholders in SBVC to ensure that its policies consider the needs of issuers and investors. To
encouragenew listings,listing requirementscouldbe made less stringentfor medium and smallerfirms.

A series of structural reforms is needed to facilitate the issuing of corporate bonds. On the supply side, the
main measures include modifying the adjudication mechanisms of Treasury bills to make them more
competitive,the consolidation of Treasury bills currently in circulation, and the developmentof a secondary
market for these bonds to provide a reference for pricing commercialpaper issued by corporationsand other
private institutions. On the demand side, there is a need to develop regulations for the operation of
institutional investors and professional fund managers, to further deepen the insurance sector, and to
develop pension funds that, under prudent regulations, could become an additional source of investment

5.3. Addressing Second-tierIssues: Industrial Land and Infrastructure, Technology Support, and
Market Information Constraints

While the second-tierproblems are less severe than those analyzed in the previous sections, they are likely
to become more important as globalization progresses, since they will make it more difficult for Moroccan
firms to remain competitivein the international arena.

Removing administrative and legal obstacles to identifying industrial land to be developed, and
encouragingprivate participationin such development,would reduce the current shortage of land.
Administrative procedures need to be streamlined, and private participation in industrial land
development should be encouraged. The latter, in particular, would greatly benefit from: (i) clear rules
regarding the financing of infrastructure; (ii) protection against unfair competition by public agencies;
(iii) clear identification of expansion and diversification opportunities available to private developers;
(iv) classification of land in the proximity of ports and airports within the private rather than the public
domain; (v) a revision of the rules pertaining to the management of land within the public domain.

Appropriate strategies and sector reforms favoring competition, including through private provision
of services, are needed to address the remaining challenges in infrastructure.
Various steps should be taken to address these cross-sectoral issues, which, along with the improvement
of services beyond the main urban centers, constitute the main challenges in infrastructure. First, in
sectors such as water, sewerage, electricity, and ports, it is important to go beyond the current deal-by-
deal approach to private participation and devise coherent sector strategies. Much heavier reliance on
competition in the market, wherever feasible, is also crucial. Second, for telecommunications, the
objective must now be to make sure that the potential of the 1997 law, in particular with respect to the
introduction of undistorted competition and privatization, is realized. Third, rebalancing tariffs, targeting
subsidies more precisely to those who need them most, and implementing competitive private
participation schemes compatible with the social objectives of the Government (such as competitively
awarding concessions to operators requiring the lowest subsidies), would greatly facilitate the extension
of services to rural areas.

17 SBVC charges have recently been reduced but remain high by international standards.
An adequate legal and institutional framework for metrology, standards, testing, and quality
management (MSTQ) needs to be finalized and implemented.
Access to appropriatetechnologyand to informationon market opportunitiesis often problematicin Morocco,
where mnany                                                            and
               firmsare small and resourcepoor. Setting an institutional regulatoryframeworkfor MSTQ is
                                                                           of           demanding
thus a first steptoward ensuringthat Moroccanproductsmeet the specifications increasingly        clients.
A 1995 study" identified the major gaps and measures needed to strengthen the current system. Thus, the
standards and the system of testing and certification must be improved to ensure intemational acceptance of
Moroccan exports. The prionty is to accelerate the promulgation of standards by borrowing much more
from intemational standards, especially those applicable in Morocco's export markets.9 A testing and
certification system must also be implemented to ensure the systematic application of these standards.
Intemationally recognized certification procedures need to be issued for key manufactured exports, and a
National Accreditation Council, administeredby the standards body, professional associations, and testing
laboratories should be set up to evaluate testing performance. Most of these recommendations have been
integratedinto new draft legislation, yet to be adopted.

A combination of competitive pressures, private provision of technology and information services,
and adequate forms of public support are key for effective technology dissemination and access to
market information.
Once in place, the MSTQ system would need to be assimilated by enterprises. Increasing competitive
pressures on Moroccan firms is the single most important means of promoting both the assimilation of
technology and an active search for market opportunities. Despite the FTA with the EU and the
accession to the World Trade Organization (WTO), many firms are not yet faced with serious
competition, and demand for improved manufacturing technology in Morocco therefore remains weak.

Private sector initiatives - supported by public policies or assistance in some cases - are key for the
disseminationof technologyand information. The Governmentshould support these initiativesby abstaining
from giving distortionary incentives to public laboratories. An adequate intellectual property regime is
essential, for its part, to foster research and development and the sale of new technologies. Finally,
international experience shows that subsidizing the services of technology support institutions might be
justified, initially,to inform the firms - especiallythe smaller ones - about the benefits that such institutions
can provide. To be effective, however, those institutionsmust begin to cover their costs after a relatively short
period of time.

18DGS Intemational (1995).
19   The surveys revealed that the smallest enterprises identify the lack of standards as the main cause of their problems with respect to
     product quality. The larger enterprises, for their part, point to the lack of a skilled workforce.
20   The 1998 surveys reported a number of complaints about the lack of respect for intellectual property in Morocco.

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