Comment: The Maldivian Economic Situation

Economics is often referred to as the ‘dismal science’, partly because it mostly concerns us when things start to go bad.

In this sense, economics is a lot like medicine or public health. And so it is highly appropriate that we start comparing economic remedies to medicine – like what the President did when he asked the donor community for a ‘spoonful of sugar to help the medicine go down’.

You may find yourself asking what exactly is the sickness for which we have to take such a bitter medicine. So what I will attempt to do in this first part of the article is to try and explain to you exactly what happened to our economy – in as plain, jargon-free, language as I can.

In the second part of the article (to follow soon) I will try and show you the remedies we need to take and to shed light on how to avoid getting into a similar mess in the future.

In order to understand our recent economic history, you must first know the three ways in which a government can affect the economy: fiscal policy (how much it spends from its taxes, revenues or borrowings) or monetary policy (how much money it prints) and exchange policy (how it allows goods and services to come in or go out of the country). So lets look at how our Governments – both Gayyoom and the MDP – have used these levers over the last few years.

The Big Wave

The key defining moment to start is the Tsunami of 2004 where we faced a previously unimaginable event that brought economic activity to a virtual standstill. The tsunami, however, happened in the context of two other very key social phenomena. Firstly, there was an emergence of a movement calling for political change that proved especially resilient and vocal. Secondly, there was a dramatic increase in global prices – food and oil prices especially.

The response to this was naturally a large spending program to rebuild the country. No doubt, the initial spending by the Government went to Tsunami affected purposes. However by 2006-07 the Government started doing two things.

First, it increased the size of the civil service from about 24,000 to about 32,000 people, and secondly increased their average salaries from about MRF3,000 to MRF11,000. As a result, government spending went from 35% of GDP in 2004 to about 60% of GDP in 2006.

I need to take a few more moments just to put this level of spending into perspective. Firstly, it is mentioned above that we expanded the civil service to be almost 32,000 people – that is almost 11 per cent of the total population of the country!

The comparative figure for other small island countries (like in the Caribbean) is at four per cent. Furthermore, the public sector wage bill (ie. all the salaries and allowances paid to this 11 per cent of people) accounted for almost 50 per cent of all our expenditure and almost 70 per cent of all our revenue.

Of course, all this expenditure is fine if we can actually pay for it. The question then becomes – where did the money for all of this increased expenditure come from?

It came from three sources – grants, loans and the additional revenue from leasing out a number of new resorts. The understandable impact this had on the supply of money was a three-fold increase.

One notable side-effect of this was a rising inflation of more than 20 per cent over the years: a factor that contributed to MDP making controlling inflation a major policy pledge. However all of this would have been manageable but for the third policy lever of a government – the exchange rate.

You would no doubt know that we in the Maldives have a pegged exchange rate – ie. it is fixed by a central authority to a specific currency at a specific value (in this case Rf12.85).

A policy of increasing public spending, and thereby increasing our supply of Maldivian rufiyaa AND keeping a fixed exchange rate, can only work if we also keep increasing our foreign currency stock. This is because the pegged exchange rate works on the assumption that if somebody comes to the MMA or Bank with any amount of rufiyya looking to buy US$, we should be able to cater to this.

With increased rufiyaa in circulation there was a large increase in demand for USD, but there was no real increase in supply of foreign reserves. This caused the ‘real’ exchange rate to shoot above Rf12.85, and thereby cause even worse inflation. As trust in the system started to disappear, those who actually had US$ no longer trusted to put the money into local banks.

All of this enormous stress on the system was there well before the greatest global economic collapse since the 1930s struck.

The Global Financial Crisis (GFC)

The two specific impacts of the GFC were two fold.

First there was a ‘credit crunch’ – the flow of finances between international banks stopped because none of the banks trusted each other. Financing to all those many resorts that were given out started drying up so our reserves fell even more. Secondly, tourist numbers started retrenching – and those tourists that did come spent a lot less.

It was about this time that the historic change in government took place and the MDP came to power. To their horror, they soon came to realize that they inherited a fiscal situation far worse than they had imagined.

This was due to the fact that government spending is often done through contracts that have long-term implications. Governments sign contracts that burden future governments to payments – both in terms of principal and interest payments.

The amount that the MDP government had to pay in interest alone – for projects that they themselves had nothing to do with – rose from three to eight per cent of GDP between 08-09.

Here therefore we need to introduce the final basic concept – that of the fiscal deficit. This simply is the difference between what we earn and what we spend divided by our GDP.

In 2008, this was at about -12.5 per cent, but the worrying thing was that given the fall in revenue projected by the GFC, this was projected to rise to almost 33 per cent in 2009.

Once again let’s put these figures in perspective. The highest the fiscal deficit reached in the USA – in 1945 straight after the Second World War – was at about 20 per cent.

Obama’s hugely expensive budget this year will increase his to just over 11 per cent. In Sri Lanka, the IMF refused financing to the current President because his latest fiscal deficit reached 10.5 per cent!

However way you look at it, we are in a desperate, desperate situation.

Don’t Blame it on the Sunshine

A key question you may therefore have is – who is responsible for this mess? Was it pure malice? Incompetence? Or did we just get unlucky?

Those who seek to justify the acts of the former regime would say that yes, they expanded the domestic money supply, but what you must also keep in mind is that they had just successfully bidded out 60+ resorts.

Even if you take a conservative estimate, we are talking about almost US$3 billion of investments.

Even assuming 50 per cent Maldivian staff, this is about 7,200 new jobs in the resorts alone. The total bed capacity increase was expected at 12,000 – so that is about US$4.2 million PER DAY in revenue. As such, an expansionary fiscal and monetary policy was justified on grounds of the revenue, returns and most importantly, reserves from this resort expansion. They could never have been expected to foresee the Global Financial Crisis coming.

On the other hand, critics would argue that in the years of Gayyoom’s presidency, especially in his last two years, rational economics was not the order of the day. Rather, the preoccupation of the regime was to stay in power at all costs.

If that meant bringing 10,000 extra staff and increasing their salary four-fold, as well as signing up to countless and often pointless public expenditure projects by borrowing large sums of money at exorbitant interest rates – so be it.

Critics would argue that if the Government were interested in anything other than self-preservation, they would have at least invested the money more wisely. It was reckless spending for purely political aims with no thought to the future health or wellbeing of the economy.

My own personal viewpoint is that we should leave the blame game for another day – if we take it up at all. The challenges to our economy, and by definition our fragile democracy, are far too great to waste time pointing fingers. I understand that political points have to be scored, but there are no elections in sight for at least 3-4 years.

We have arrived at a situation where we need to politically co-exist if we are to heal our economy. For now, leave aside your talk of past corruption or the future hell that awaits us if we do not veil our sisters. We have jobs to create, youth to educate, industries to develop and opportunities to exploit. I for one would like to look back on these days as a time when we all, blue and yellow supporters alike, did some pretty remarkably constructive things in the Maldives.

All comment pieces are the sole view of the author and do not reflect the editorial policy of Minivan News. If you would like to write an opinion piece, please send proposals to [email protected]


14 thoughts on “Comment: The Maldivian Economic Situation”

  1. Good one Mifzal, the only issue I have with your article is its published in the wrong media, in the wrong language. Anyone who bothered to read this already agrees with you (to some extent), however not one person who has read it thinks Umar Naseer is an intelligent man. Your target readership should be-people who follow Umar Naseer. Then your article could make a difference.

  2. Economics 101 taught in pre-university is hardly the solution for a real nation.

    As a small country, the issue for Maldives is never the management of maco aggregates like debt or inflation or exchange rate, although the IMF may dispute this.

    The real failure in Maldives (and other politics dominated countries) is the lack of policy coordination between key economic ministries due to political actors pushing their own agendas rather than that of the whole nation. Thus, there is no unified economic policy goals and targets.

    No Economics course would teach you this.

  3. Highly enlightening, we are worse off than the African countries.

    As some people has pointed out i agree you should broaden the reader base.(Dhivehi/printed media)

  4. Several points to note:

    This article could have been written in fewer words. You don’t need 500 words to sneeze.

    (1) Printing money is not monetary policy but a function of MMA. Monetary Policy is the mechanism by which the supply of money is managed. There are several instruments most notably interest rate (loosely called cash rate or policy rate) which is set by the monetary authority. Maldives does not have a credible monetary policy. Hence, it’s irrelevant in any macroeconomic analysis and the only macroeconomic tool is fiscal policy.

    (2) The effect of foreign exchange movements and the associated effect on the bilateral exchange rate vis-à-vis the US$ does not make sense and is difficult to understand.

    (3) The issue of convertibility risk that you’re referring to can happen even in a managed float or a free float, in a small country like the Maldives. It’s even riskier.

    (4) The credit crunch of the GFC occurred not because the banks did not trust each other, but the asset side of their balance sheets were eroding so quickly—particularly the banks which went bankrupt. Look at the Lehman Brothers today… they still operate, doing the same things they did pre-Sept 2008, the in the same building in Manhattan but they belong to Barclays Bank.

    (5) You cannot have expansive fiscal and monetary policies at the same time. That’s the recipe for disaster.

    (6) The problem with Maldives is there is a huge underground economy which needs to be dealt with urgently. The government can very effectively dismantle its influence on the monetary aggregates. Until such time that the underground economy is made less than 10% of our formal economy (which the author is referring to) we will NEVER be able to come of the rut that we are in. They have an evil grip of gigantic proportions.

  5. Spot on article. People need to familiarise with the idea of economic freedom, and why it matters to have economic freedom to achieve political freedom.

  6. The best justification from the point of view of previous regime is that they leased 60+ new resorts. This is rediculous. Why don't MDP lease all other islands and increase public spending by hundreds of times? This is kindergarten economics. You can't commit into millions and millions on the back of pure hope of revenue. If this was so easy why wasn't this done 30 years ago and increased the salary of everyone back then. However you look at it, previous regime's spending spree was done purely purely for self-preservation.

  7. Thank you for a very simply worded article of your own opinion. To me, the article reads as one that presents facts, as opposed to a discussion of the economic situation and perhaps this is the reason why I’m asking this question. I am a bit confused about what you said about our fiscal deficit, following on to say that IMF refused financing to Sri Lanka due to their 10.5% fiscal deficit. If ours was (is) at 33% how did we manage to get $92.5 million from IMF in December 2009? If our current Government is struggling with a major inherited financial crisis already, what does this mean to the next Government (to be elected in a very short 3-4 years)? Is borrowing more money the solution to our own economic crisis at this stage?

  8. kudos to you mifzal for trying to present a simplified view of the economic situation in maldives so that laymen can understand the issue! agree translation to dhivehi would ensure wider readership and better understanding of the current problems by more people.

    I can't help supporting "little learning is dangerous"'s comment that one of the fundamental problems is the lack of policy coordination between key economic ministries due to political actors pushing their own agendas rather than that of the whole nation.

    disappearing trust in the system and people not wanting to put US$ into local banks, is understandable if you look at the way BML behaved during the latter stages of the gayoom government! there must be a direct co-relation between this i'm sure!

  9. Thanks for the comments.

    a) You're right - this could have been shorter but its primarily aimed at people who do not have as advanced an understanding of economic concepts as you clearly do. Thus the need for more words in this particular sneeze.

    b) You're also right that printing money is not technically what constitutes all monetary policy - this was once again an over-simplification for the sake of brevity.

    c) I never questioned why the credit crisis happened - I mentioned the lack of trusts as a consequence of the crisis.

    d) Re: expansive monetary and fiscal policy being a disaster - I think this is the disaster that we are dealing with now.


    Yes. With our high debt at the moment - we need to think of ways of getting out of it while at the same time ensuring the developmental goals of this country are achieved. That will be the subject of my next article...

  10. A very informative article and those who wants to hide the truth would obviously find ways to criticize the writer by use of economic jargons or whatever.The facts presented are very vivid and the people of Maldives are witnesses to it,I'm not an economist like our critic here, SIR.Our economic policy as that of everything until recently revolved around one thing,"protecting the seat of power ".Tourism brought fortunes to some, though it brought an unfair prosperity to all of us.No taxation was levied purposely on resort business and they were allowed to pile up their wealth as long as they leave politics aside.God knows how our trade imbalance was offset, least on paper.And as Mifzal mentioned during the dying days of previous regime we all know lots projects aimed at luring the public were initiated,civil work force was increased , loans paid out to close aids all with the same aim with utter disregard for its consequences.How much was governments spending on civil servants salary......And I didn't say anything about the advance collected from the last resort bidding fiesta :-D.And recklessly overspend during campaign in the form of various deceptive methods,salary increments and etc.....thank God we are alive.

  11. Can the MMA use the Reserve Requirement as a monetary policy tool to fight inflation? If not, why not?


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