Taming fiscal deficit “most pressing macroeconomic priority for Maldives”: IMF mission

The International Monetary Fund (IMF) has urged the government to implement a raft of measures to raise revenue and reduce spending to rein in a ballooning fiscal deficit.

In a statement on Monday following a visit by an IMF mission for the 2012 Article IV Consultation – the organisation’s “regular exchange of views with member countries” – the IMF team noted that strengthening government finances was “the most pressing macroeconomic priority for Maldives”.

“The fiscal deficit is expected to rise in 2012 to 16 percent of GDP [Gross Domestic Product] in cash terms, and likely even higher if one accounts for the government’s unpaid bills, accumulated in an increasingly challenging environment for financing,” the IMF mission stated.

In April 2012, the head of a previous IMF mission to the Maldives told Minivan News that the country’s fiscal deficit was “substantially understated” at less than 10 percent of GDP as projected in the 2012 budget, predicting a figure closer to 17.5 percent of GDP or higher.

“The large deficit has implied a rise in the public debt ratio, which now stands at over 80 percent of GDP, and has also helped to boost national imports, thus worsening dollar shortages in the economy and putting pressure on MMA [Maldives Monetary Authority] reserves,” the more recent IMF mission said in its statement.

The forecast for the current account deficit was “nearly 30 percent of GDP this year.”

“Gross international reserves at the MMA have been declining slowly, [and] now account for just one and a half months of imports, and could be more substantially pressured if major borrowings maturing in the next few months are not rolled over,” the IMF mission warned.

Recommendations to formulate “a realistic and prudent budget for 2013” meanwhile included hiking T-GST (Tourism Goods and Services Tax) and “selectively” reversing import duty reductions.

“On the expenditure side, electricity subsidies can be better targeted to the needy, costs of the health programme Aasandha can be further rationalised and reduced, wages should be controlled, including through the establishment of a Pay Commission, and a plan could be laid out for medium-term civil service reform.”

The mission suggested that tighter monetary policy could “help support the exchange rate and the needed external adjustment.”

“Higher Treasury bill yields, in conjunction with some technical changes to the monetary operations framework, may also help to ease the government’s financing difficulties,” the mission noted.

“Finally, resorts’ foreign-exchange licenses could be restricted to small-value amounts to help channel dollars through the formal banking system.”

Economic growth in 2012 was meanwhile expected to slow to three and half percent on the back of “depressed tourist arrivals earlier in the year and weak global conditions,” which have been “only partially offset by strong performance in construction and fisheries-related manufacturing.”

Inflation was “elevated on account of increases to GST and international food prices but is expected to slow to under 6 percent next year and decline further thereafter.”

Following consultations with President Dr Mohamed Waheed Hassan Manik, Finance Minister Abdulla Jihad, members of parliament and MMA Governor Dr Fazeel Najeeb, the mission noted that “the authorities have expressed an interest in a Staff Monitored Programme,” for which further discussions would be held.

In its meeting with parliament’s Finance and Economic Committees last week, the IMF mission urged the Majlis to expedite legislation on fiscal responsibility.

The mission said it would prepare a report for consideration by the IMF Executive Board in January 2013.

“Rationalising”

Following the visit of the IMF team from October 30 to November 12, head of the mission Koshy Mathai met the press at the MMA auditorium on Monday.

Mathai revealed that the mission had recommended increasing T-GST to 15 percent, noting that “the Maldives takes a smaller tax from tourism industry than other small nations such as Fiji, Mauritius, and Seychelles, who are heavily dependent on tourism.”

However, unlike the other countries, Mathai said, “rich tourists visit the Maldives. For them, an increase in prices will not be a deterrent.”

Hiking T-GST and raising import duties on oil and liquor were among drastic austerity measures proposed by the Finance Ministry to parliament’s Finance Committee in August.

Several resort managers told Minivan News at the time that the proposed measures will affect the financial viability of the tourism industry.

However, most of the measures have not been implemented. Appealing for cooperation from government offices to reduce their budgets, Finance Minister Jihad told Minivan News in September that “everyone should tighten their belts.”

Jihad told local media yesterday that the ministry accepted the recommendations and would work with parliament to implement the measures in next year’s budget.

Mathai meanwhile observed that government subsidies on foodstuff imported by the State Trading Organisation (STO) benefited rich and poor alike.

“The resorts are buying these staple foods at highly subsidised prices,” he noted.

Moreover, the government’s universal health programme Aasandha needed changes to reduce costs, Mathai suggested, such as “moving to generic drugs and controlling payments that are made to foreign hospitals.”

“Harmonising” the pay scale

Mathai also stressed the importance of instituting a Pay Commission to streamline the pay structure for government employees.

“We have a lot of independent institutions in this country and they are all on different pay scales,” he observed.

“There’s no harmonisation within the public service. There are radically different pay scales. And that has problems in terms of incentivising staff to belong to one institution versus the other. And it also implies a lot of cost for the government. So establishing a Pay Commission that can set up a rational system of compensation for the entire public service seems like a priority.”

On reforming the civil service “in the medium term,” Mathai referred to a programme conducted by the previous government to incentivise voluntary redundancy, which “didn’t work so well.”

As part of an alternative “bottom-up approach,” Mathai revealed that the new government has completed “a detailed jobs analysis in many ministries.”

The analysis was intended to identify “where more staff need to be hired and [whether] some staff can be let go” as well as to determine “the best way of rationalising the size and composition of the civil service to make it deliver services most efficiently for the Maldives.”

In the medium term, said Mathai, a policy of population consolidation could ensure that service provision and administrative costs were “not duplicated.”

“To us that seems like a very logical thing, a very logical way of reducing costs, but of course it has to be done in a voluntary way,” Mathai said.

Economic diversification was also necessary to ensure that the economy has “more than one or two bases to go forward and reduce vulnerabilities to risks,” he added.

According to a report by the World Bank in May 2010 – which identified the dramatic growth of the public sector wage bill as the origin of the Maldives’ ongoing fiscal imbalances – increases to the salaries and allowances of government employees between 2006 and 2008 reached 66 percent, which was “by far the highest increase in compensation over a three year period to government employees of any country in the world.”

“Between 2004 and 2009, the average monthly salary of a government sector worker increased from MVR 3,223 (US$250) to MVR 11, 136 (US$866),” explained a UNDP paper on achieving debt sustainability in the Maldives published in December 2010.

Former President Maumoon Abdul Gayoom responded to growing calls for democratisation with “a substantial fiscal stimulus programme” of increased government spending, “much of which was not related to post-tsunami reconstruction efforts.”

“This strategy led to a large increase in the number of civil servants from around 26,000 in 2004 to around 34,000 by 2008 or 11 percent of the total population. Thus the government simultaneously increased the number of public sector workers as well as their salaries,” the paper noted.

Consequently, recurrent expenditure – wage bill and administrative costs – exceeded 82 percent of total government spending in 2010.

However, the new government’s efforts to enforce pay cuts of up to 20 percent and downsize the civil service – which employs a third of the country’s workforce – were met with “a severe political backlash from parliament,” the UNDP paper observed.

Introducing an economic reform package in late 2011, former President Mohamed Nasheed’s administration insisted that increased revenue from new taxes would match expenditure, and boasted that the 2012 budget was the first in many years to balance income and expenditure.

Monetary policy

Meanwhile, on the recommendation to raise rates on T-bills to finance government spending, Mathai suggested that if the government was “willing to pay higher yields, maybe the banks would be willing to subscribe.”

Mathai cautioned against loosening monetary policy “when dollars are at short supply and the local currency is under some pressure, as it has been for years.”

“Loosening the policy means pushing the economy to grow faster, creating more import demand, creating more demand for dollars – you don’t want to flood the system with rufiyaa so that people can bid many rufiyaa for each dollar in the parallel market,” he explained.

“Rather, you want to absorb the rufiyaa so they can’t bid so many rufiyaa and parallel market rates come down.”

The IMF mission also believed that financial supervision of the banking system “could definitely be strengthened,” Mathai said, suggesting that “some leeway recently given in terms of provisioning requirements for banks could be rolled back and banks should be required to comply with the original rules, which were tougher.”

On regulatory measures that could be taken to alleviate the dollar shortage, Mathai suggested “making sure that resorts that are dealing with foreign exchange don’t have unrestricted licenses to deal with any amount of money.”

Resorts should be “restricted to small value transactions that are appropriate for the visitors that are staying there,” he said.

Mathai also explained that the requested “Staff Monitoring Programme” would not involve disbursement of funds from the IMF.

“We would basically see how the government is doing against its own targets – it would set targets for itself for performance of these different economic areas – and then if the track record is built up and things are going well, then maybe later we could discuss having a programme where money is disbursed,” Mathai said.

Asked about the previous administration’s decision to float the rufiyaa – which the IMF praised as “a bold step” – Mathai said the IMF’s “fundamental suggestion had always been, and remains, to tighten the fiscal deficit.”

The dollar shortage could not be tackled without reducing government spending, he explained, because “devaluation alone will never succeed.”

“What happened last year is basically that the fiscal position didn’t really improve – it improved in cash terms, but you know a lot of bills were not paid,” he said. “So really there wasn’t any tightening of fiscal policy. I think that’s the fundamental reason why devaluation was not as successful as it could have been.”

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