Ethiopia recently experienced its severest drought since 1984/85, which affected almost 13.2 million people. Its impact on the economy was widespread; real GDP declined by 3.8 percent in 2002/03, and inflation, primarily as a result of food shortages, rose to 15.1 percent. Thanks to efforts of the authorities and substantial donor support, the hardship suffered by the Ethiopian people has considerably been eased.
Despite the many difficulties posed by the drought, however, the authorities have managed to keep the program on track, and all structural performance criteria and benchmarks through end-November 2003 were observed. The authorities have, consequently, looked to the prospects of reaching the completion point early in 2004. They are, therefore, naturally disappointed that the completion point could not coincide with today’s discussion. They expressed the hope that the issues surrounding the delay in the Executive Board completion point discussions will be resolved as early as possible to minimize possible disruption to their reform agenda.
Growth performance over the last fiscal year has been far below the original program target of 6 percent, mainly as a result of the drought. The slowdown is attributed to the 12.2 percent decline in agricultural production, although, modest growth rates were achieved in the non-agricultural sector. A growth rate of 6.7 percent is projected in the program, given the good rains during the current season, and the authorities are optimistic that the growth performance could even be higher than projected.
Fiscal performance suffered as a result of the drought in 2002/03. Both tax and non-tax revenues were lower than projected and the authorities lowered the revenue estimates in the 2003/04 budget to reflect this occurrence. Various measures have been implemented to ensure that the revenue for the current fiscal year is met; including efforts to enhance collection of tax arrears, providing additional resources to improve enforcement and audit, and strengthening customs administration. The authorities expect indirect taxes to improve as they implement the needed reforms, especially in the area of VAT by strengthening the functions of the large taxpayer unit, and implementing the computerization of the tax identification numbers.
Since the revenue performance was weaker than programmed, the authorities have lowered expenditures; particularly military expenditures to ensure the overall fiscal position remains broadly on track. The authorities have reiterated their commitment to pursue a prudent expenditure policy, while increasing poverty reduction expenditures, identified in the SDPRP. The expenditure program for 2003/04 will ensure resources for food assistance, increased poverty-targeted spending, while reducing military expenditure, and limiting the wage bill to 7.8 percent of GDP.
The authorities have finalized the consolidation of federal and regional budgets for 2002/03 and 2003/04. Reconciliation of monetary and fiscal accounts has been done for 2001/02 with technical assistance from the IMF while reconciliation of 2002/03 accounts has also been started.
Monetary and Exchange Rate Policy
Inflation rose sharply to 15.1 percent, compared to negative 7.2 percent last fiscal year, as the drought continued to affect food prices. Non-food price index, however, after rising to 1.2 percent in August 2002, dropped to 0.5 percent by the end of the fiscal year.
As regards foreign exchange market operations, the daily inter bank foreign exchange market, which began in October 24, 2001 has continued to operate smoothly. Accordingly, US$160.4 million was traded in this market, of which US$51.7 million or 32 percent was transacted among banks. This indicates that despite the growing role of banks, the NBE’s intervention to stabilize the market continues to be an essential element. The Birr continued to steadily depreciate, albeit slowly and, by end 2002/03, the average weighted exchange rate reached Birr 8.5809/US$ from Birr 8.5425/US$ in the preceding year, showing a nominal annual depreciation rate of 0.45 percent.
External Sector Issues
Regarding developments in the external sector, merchandise export is estimated to have reached US$42.7 million during 2002/03 about 7 percent higher than the previous year. Receipts from coffee increased by 1.4 percent largely due to higher volume of coffee exports despite depressed prices in the world market, as a result largely of the existence of large stock from previous year, removal of coffee price differential and waiver of the 6.5 percent export tax on coffee. Non-coffee exports have also shown robust growth of about 10 percent as receipts from oilseeds, sugar and molasses, chat, gold and cotton depicted annual increases, despite slight declines in other types of export commodities.
The external current account deficit (including official transfers) is expected to increase to 7.9 percent of GDP during 2003/04, however, it is expected that the deficit will be fully covered by project loan disbursements, balance of payments support from the AfDB and IDA, aid for special programs, and assistance under the enhanced HIPC initiative. Accordingly, it is expected that reserves would increase to about 4.6 months cover of imports of goods and non-factor services compared with 4.1 months program estimate.
During 2003, the authorities initiated a diagnostic trade integration study (DTIS) with the assistance of donors and are determined to implement the main conclusions of the study to enhance Ethiopia’s integration in the global trade. The DTIS identified opportunities in four key sectors to enhance Ethiopia’s international trade; namely agriculture, livestock manufacturing, and tourism.
Financial Sector Issues
In previous Board discussions on Ethiopia, Directors have encouraged the authorities to open up the financial sector to foreign competition, as well as to enhance the competitiveness of the domestic financial market. The authorities have always stated that they had, in principle, no objection to foreign competition in the financial sector, but that the domestic financial sector and the supervisory capacity of the NBE should be strengthened first. Considerable progress has been made to strengthen the domestic financial sector over the last few years, including the restructuring of the CBE.
The National Bank of Ethiopia’s (NBE) restructuring plan has been approved by the NBE Board towards the end of last year and the management have started its implementation. Meanwhile, all banks are closely monitored and supervised in line with the full provisioning for NPLs and other doubtful assets as per the revised NBE directives.
PRSP Annual Progress Report
The Ethiopian authorities finalized the First PRSP Annual Progress Report during December 2003 following broad-based consultation and support from the donor community. The Joint Staff Assessment (JSA) completed by the staffs of the Fund and the World Bank, indicates that notwithstanding the worst drought since 1984, the authorities made every effort to implement the SDPRP. To this end the SDPRP document became the basis of the government’s policies and programs, and should increasingly be used by donors as a basis to provide support.
In early December 2003, the authorities launched the Partnership for a new Coalition for Food Security in Ethiopia. This initiative became a new pillar in the authorities’ PRSP process, for the purpose of reducing food insecurity and output volatility within five years by increasing agricultural productivity, assisting with voluntary resettlements and providing safety nets. In this regard, the authorities are determined to encourage voluntary resettlement without jeopardizing the welfare of the settlers, and they will provide from domestic sources some of the resources for the food security initiative, while counting on significant donor support for the balance to ensure its success. Weaknesses of the current PRSP as highlighted in par. 25 of the JSA, will be addressed. The authorities view PRSP as a process to be subjected to constant review and improvement based on lessons learnt from its implementation. They are also fully committed to constantly engage civil society, the donor community and all other stakeholders in the process.
The Ethiopians are grateful for the Fund’s support and for staff assistance under the Fund-supported program. They are also extremely grateful to the donor community for all their support and especially during the period of the last drought. The successful conclusion of today’s discussion will, as in previous occasions, serve as a further incentive and encouragement to the Ethiopian authorities to persevere and stay the difficult and painful path of adjustment and reform which they have been following for several years.