IMF praises managed float of rufiya, “unpredictable” and “high risk” warn local experts

The International Monetary Fund (IMF) has praised the Maldives’ decision to effectively devalue its currency, allowing the rufiya to be traded within 20 percent of the pegged rate of Rf12.85 to the dollar.

“Today’s bold step by the authorities represents an important move toward restoring external sustainability,” the IMF said in a statement. “IMF staff support this decision made by the authorities. We remain in close contact and are ready to offer any technical assistance that they may request.”

The Bank of Maldives was today trading the dollar at the maximum selling price of Rf15.42 and buying at Rf12.75 while the Bank of Ceylon was selling it at 13.80 and buying at Rf13.60.

At a press conference this afternoon, newly-appointed Finance Minister Ahmed Inaz explained that the government decided to change the fixed exchange rate to a “managed float” to shape government policy towards increasing the value of the rufiya and ultimately bring the exchange rate down to Rf10 – an oft-repeated pledge of President Mohamed Nasheed.

The worsening balance of payments deficit could not be plugged without allowing the market to set the exchange rate, Inaz continued, adding that through lowering the fiscal deficit and spurring private sector job growth “a path would open up for us to reach the lower band (Rf10.28).”

“My estimate is that it will take about three months for the market to stabilise and reach a balanced [exchange] rate,” he said.

MMA Deputy Governor Aishath Zahira acknowledged on state television last night that the fixed exchange rate in effect since July 2001 had been “artificial.”

Economic Development Minister Mahmoud Razee argued that as a result of the artificially fixed exchange rate, “we do not really know, based on the breadth of the domestic economy, what the value of the Maldivian rufiyaa is right now.”

The managed floating rate, said Razi, would allow the government to decide specific measures that would be needed to improve the exchange rate – such as the extent to which foreign exchange reserves should be increased.

State Minister for Finance Ahmed Assad told press that TGST (tourism goods and services) receipts in February had revealed that previous estimates of the amount of dollars that enter the country were well below the actual figure. The government now estimates a minimum annual income of US$2.5 billion.

Assad urged citizens to use banks to purchase and exchange dollars to avoid “becoming prey to [black market operators].”

A senior government source said the decision was made based on the government’s speculation “that people are hoarding dollars. We hope this will send a signal to the market. It also shows our commitment to a market economy.”

“High risk”

The government has struggled to cope with an exacerbating dollar shortage brought on by a high budget deficit – triggered by a spiralling public sector expenditure – in comparison with the foreign currency flowing into the country. Civil service expenditure has increased in real terms by 400 percent since 2002.

Banks subsequently demonstrated reluctance to sell dollars at the pegged rate, and high demand for travel, commodities and overseas medical treatment forced most institutions to ration their supply.

A watershed moment last week – a crackdown on the hitherto ignored blackmarket sale of dollars at rates of up to Rf14.5 – led to increasing desperation among the lower-paid of the country’s 100,000 expatriate workers, who found themselves blocked from trading currency and unable to remit money home to their families.

The government’s decision yesterday is effectively a ‘rose-tinted’ devaluation of the currency, at least in the short-term, but according to one financial expert could have unpredictable consequences once the market catches up in 4-6 weeks.

“Other countries have a maximum band of eight percent. I have not come across any countries with 20 percent. I think it’s too wide,” said Ahmed Adheeb, a local financial expert working in the private sector. “Why did the government overshoot the blackmarket rate of Rf14.5, and why did it take them two years to come to this decision?”

Adheeb predicted that the construction industry would be among the hardest-hit, “as ongoing projects will now face additional costs. In addition, smaller and medium-sized enterprises supplying resorts may find that their commission and profit is gone if their contracts are in rufiya.”

The public would also be impacted, Adheeb said, as importers passed on the rising cost of goods.

The devaluation came at the same time as the tourist season was winding down for the year, and pilgrims were searching for dollars for the upcoming Hajj. Pilgrims could be called on to make additional payments, Adheeb speculated, while Ramazan importers could face additional challenges this year.

The general public would be also be impacted as the cost of commodities rises to fill the new exchange rate, Adheeb said, while the government’s commitment to projects such as harbour construction could be delayed due to the risks of taking on even more debt.

“This will also affect business contracts, particularly [those concerning] foreign employment, and students studying overseas,” Adheeb said, predicting that “if the market does not stabilise then in three months time we will see a further devaluation. The government is taking a huge risk.”

Structural adjustments

The move will put the government on good terms with the IMF, which spent last year trying to encourage the government to make difficult political decisions for the sake of the economy, and just stopped short of calling for a devaluation of the currency on conclusion of its Article IV consultation.

The IMF, which has shown resounding disinterest in local politicking, in February 2011 criticised the government for “significant policy slippages” claiming that its failure to reduce its expenditure had undermined the country’s capacity to address its crippling budget deficit.

“On the expenditure side, there have been no net fiscal savings from public employment restructuring, public sector wages will be restored to their September 2009 levels earlier than expected, and the new Decentralisation and Disability Bills will lead to considerable spending increases,” the IMF stated. “Also, the Business Profit Tax will come on stream eighteen months later than planned.”

It did however praise the government for getting much-needed business profit tax and tourism goods and services tax legislation through parliament, signalling that this was a major step towards long-term economic maturity. The bills had faced obstacles in parliament, which includes among its MPs some of the country’s wealthiest figures in the resort industry, and who were instrumental in increasing the budgets sent to parliament by the Finance Ministry.

Opposition Dhivehi Rayyithunge Party (DRP) MP Ali Waheed this morning proposed a motion without notice condemning the government’s decision to relax the dollar exchange rate.

Waheed said that he was prompted to submit the motion out of concern for the plight of Maldivian students in foreign institutions and patients who need to fly abroad for treatment.

The DRP MP for Thoddoo also accused the government of compromising the independence of the country’s central bank by trying to influence monetary policy.

In the ensuing one-hour debate, opposition MPs argued that the immediate consequence of the new floating exchange rate would be a 20 percent rise in inflation.

DRP Leader Ahmed Thasmeen Ali explained that government revenue from import duties would increase by 20 percent but the affected businesses would pass the cost to customers.

“We are in this state because the government increased the [amount of rufiya] in circulation by printing money and taking on credit,” said Thasmeen, in a statement likely to raise political hackles among the ruling party, considering that the IMF has stated that the economic crisis in the Maldives was triggered by “expansionary fiscal policies” from 2004 – under the former administration.

This left the country especially vulnerable to the decline in tourism during the 2008-2009 recession. However the financial deficit exploded on the back of a 400 percent increase in the government’s wage bill between 2004 and 2009, with tremendous growth between 2007 and 2009.

On paper, the government increased average salaries from Rf3000 to Rf11,000 and boosted the size of the civil service from 24,000 to 32,000 people – 11 percent of the total population of the country – doubling government spending from 35 percent of GDP to 60 percent from 2004 to 2006.

While preliminary figures had pegged the 2010 fiscal deficit at 17.75 percent, “financing information points to a deficit of around 20-21 percent of GDP”, down from 29 percent in 2009, the IMF reported.

Adheeb said today that parliament, independent institutions, civil service and political appointees had continued to make salary demands on the state “but nobody is thinking about the economy.”

“Economic decisions are being politicised when the economy should be the first priority – we cannot survive without it. Only then can political stability be achieved,” he said.


Maldives can learn from India, says Nasheed

President Mohamed Nasheed has claimed the Maldives can learn from India’s economic success and the way the country has brought large segments of its population out of poverty.

Speaking at a dinner last night in honour of India’s Republic Day, the 60th anniversary of its freedom from British rule, Nasheed described India as “the world’s largest and most vibrant democracy, shining a beacon of freedom and hope around the world.”

The country was rising “peacefully” to take its place “as one of the 21st Century’s superpowers,” he said.

The founding of India’s news constitution had many parallels with the Maldives, Nasheed said.

“India took the bold decision to found a republic based on the principles of democracy and freedom. The new constitution enshrined democratic rights and fundamental freedoms, vesting power in the people.”

But he added that it would be “foolish to pretend that India’s transition was all plain sailing,” and suggested that the Maldives could learn from India’s experiences.

“I believe that the Maldives has much to learn from India. Just as India faced growing pains after Independence, so the Maldives has teething problems of its own.

“The new administration has inherited crippling levels of debt, stacked up in the last years of the former regime, our youth have been plagued by rampant drug abuse, and many in our society remain scarred by the torture and cruelty of the past thirty years.

“India overcame its growing pains by embracing its new democracy and respecting fundamental liberties,” he said. “Despite its faults, history shows us that democracy is the best guarantor of freedom, peace and prosperity.”

In particular, Nasheed said, “the Maldives can learn from India’s economic transformation.

“For too long, the Maldives’ economy has been centrally planned, heavily regulated and micro-managed by the government. This has prevented growth, repelled investment and thwarted people’s aspirations. By opening up our economy to the world, the Maldives can also enjoy economic success. ”

Indian High Commissioner to the Maldives Dnyaneshwar Mulay said India was “fortunate” to have a friend in the Maldives, “and I happy this partnership is now going into an economic, clultural and academic phase with the strengthening of health and education services.”

Mulay added that he saw “a huge large number of new things happening between India and Maldvies in next few years.

“We do feel India has a stake in the success and prosperity of the Maldives,” he said.