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Suriname: 2013 Article IV Consultation

Author(s):
International Monetary Fund. Western Hemisphere Dept.
Published Date:
December 2013
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Constructing a High-frequency Economic Growth Indicator for Suriname1

1. An assessment of the current state of the business cycle is of crucial importance to policy makers. However, most economic data for Suriname are available only with a substantial time lag and on a low frequency basis, impeding such analyses. For example, GDP is only available on an annual basis, and with a long lag. This note presents a simple econometric model that closely approximates GDP in recent years. We use our model estimates to construct a monthly indicator of economic activity for Suriname. The indicator provides information about the pace of economic activity close to real time, typically with a one to two month lag.

2. For Suriname the construction of a timely indicator for economic activity is particularly challenging. Data inputs for the indicator need to be available on a monthly basis with a sufficiently long time series, released on a timely basis, and have a close relation to GDP. These requirements limit potential model inputs to global economic and financial indicators, credit data, commodity prices and production quantities, and inflation. More direct proxies for economic activity such as industrial production and activity surveys are not available. In addition, structural breaks in Suriname’s macroeconomic development, for example, related to the start of large-scale gold production around 2004, episodes of very high inflation in the mid-1990s and around the turn of the millennium, and internal armed conflict between 1986 and 1992, limit the analysis to a relatively short time series.2

3. A parsimonious model including credit and a proxy for global conditions describes real GDP growth since 2005 well. The model explains about 83 percent of the variation in real GDP growth (adjusted R-squared). The explanatory variables are significant at conventional levels and have the expected sign. The model specification is:

where ΔrGDPt is annual real GDP growth, Δcreditt is the impulse from credit growth over the year, and VIXt is the annual average level of the VIX.3 Credit is positively related to economic growth, capturing both banks’ confidence in the economy (supply of credit) and the need for financing of investment and consumption (demand for credit).

4. We measure credit impulse based on the change in the flow of credit and not the stock of credit.As Biggs et al. (2010) show, GDP (a flow variable) will be a function of new borrowing, or the flow of credit, to the extent that spending is credit financed.4 By scaling the flow of credit with nominal GDP we capture the size of the credit impulse relative to the size of the economy. For a particular month t, the credit impulse is calculated as the difference between the change in credit stock between month t and month t-12 and the change in credit stock between month t-12 and month t-24. This difference is scaled by nominal GDP over the period t to t-12. The model indicates that a one standard deviation increase of the credit impulse is associated with a 0.45 percent increase in real growth.

Real GDP Growth – Actual and Fitted Values

(percent)

Sources: IMF staff estimates, and national authorities.

5. The VIX represents financial market expectations of global financial and economic conditions. Global conditions affect a small, open economy through various channels including trade, commodity prices, financial linkages, and sentiment. The model suggests that a one standard deviation increase in the VIX (a higher VIX means higher risks) is associated with a 0.57 percent decrease in real growth.

Real GDP Growth, Credit Impulse, and VIX

Sources: IMF staff estimates, national authorities, and Bloomberg.

6. Plots of real GDP growth, the credit impulse and the VIX indicate the following. Strong growth in 2006 coincides with a rapid expansion of credit and benign global conditions (low VIX). Growth decelerates in the following years and hits a low of 3 percent in 2009 as global conditions worsen and credit growth slows. In 2010 and 2011 growth recovers along with credit and an improvement in external conditions.

7. With a substantial portion of credit in foreign currency, the devaluation of the Suriname Dollar (SRD) in January 2011 affected the stock of credit in SRD terms. At the time of the devaluation the foreign currency portion of credit (about 35%) increased in SRD terms, falsely suggesting an expansion of credit. We address this issue in two ways. First, our baseline model uses the credit impulse over 12-month rolling windows, so that the one-time revaluation effect is spread out over time. Second, we calculate a devaluation adjusted credit series. However, without information about the maturity of loans at the time of the devaluation an exact adjustment is not possible. Thus, the adjustment potentially biases the growth of credit downward. The first chart above presents the model estimates with adjusted and unadjusted credit. In both cases the model underpredicts 2011 growth, but the prediction error is larger for the devaluation adjusted model. In 2011 the model probably underpredicts because it does not capture the boost to exports from the REER depreciation.

8. Surprisingly, the correlation between GDP growth and mining output (and prices) in Suriname is low. The direct share of mining in GDP is only 6 percent. However, the indirect impact on the economy through processing (the share of mining related manufacturing is not available), secondary spending, and fiscal revenues is likely to be much higher. That said, bauxite and oil production are significantly positively correlated with growth, as expected. Gold, Suriname’s dominant export commodity, does not have a significant relation with GDP growth. As the global financial crisis intensified in 2008 and 2009, Suriname’s gold production expanded rapidly and gold prices reached record highs. However, the positive impact of gold on the economy was likely offset by an indirect negative effect related to the negative correlation of gold prices with global financial conditions (the safe haven status of gold).

Real GDP Growth and Mining Output Growth

(percent)

Sources: IMF staff estimates, and national authorities.

9. To obtain the monthly economic activity indicator we apply the coefficients ß and γ from equation (1) to monthly credit and VIX data. Both variables are used on a 12-month rolling basis, which allows for time lags for movements in credit and the VIX to influence activity. For example, the VIX is based on expectations and hence forward looking. It would take time for developments captured by the VIX to impact the Surinamese real economy.

10. The economic growth indicator suggests real growth between 4.7 percent (no devaluation adjustment to credit) and 5.1 percent (devaluation adjustment) in 2012. The prediction with unadjusted credit data is lower due to a base effect when comparing 2012 credit with 2011 credit, as the latter is inflated in SRD terms by the devaluation. The economic growth indicator suggests a pick-up in growth in the second half of 2012, reflecting a normalization of global conditions following European policy action to address the Euro Area crisis and stronger credit growth in Suriname. Credit growth in the second half of 2012 was particularly strong in the trade, transport, and housing construction sectors. In addition, government borrowing has increased.

11. Estimates for the first five months of 2013 suggest growth around 5 percent. In February the annualized monthly economic growth indicator decelerated to below 5 percent as month-on-month credit growth turned negative for the first time since 2009. This more than offset a slight improvement in external conditions as the VIX continued to decline. The decline in credit in February was mainly due to the manufacturing, trade, and transport sectors. However, in March and April credit growth picked up strongly accelerating to 20 percent yoy in April. The main driver of credit growth was the category “other” which includes government borrowing. Strong credit growth coupled with accommodative external conditions (low VIX) caused the economic growth indicator to accelerate to 5.5 percent in May.

Monthly Economic Growth Indicator

(in percent)

Source: National authorities, IMF staff estimation

12. While economic and statistical models provide useful information about the state of the business cycle, judgment based on an in-depth knowledge of the economy is perhaps most important. The economic process is more complex than any model can capture. Our simple approach focuses on two aspects, credit and external conditions, but ignores for example foreign direct investment projects, or remittances flows. As with any empirical model, the validity of predictions going forward depends on the stability of estimated relationships. The economic activity indicator can be further refined as longer time series and new data on activity indicators such as housing construction starts, retail sales, and electricity usage become available.

Monetary and Financial System of Suriname1

A. Financial Institutions and Infrastructure

1. Commercial banks play a dominant role in the financial system, holding about 77 percent of total financial sector assets. Nine commercial banks currently operate in Suriname, including one wholly foreign owned commercial bank, four private domestically owned banks (government has 10 percent shares in one of them) and four state-owned banks. The three fully state-owned small commercial banks are non profit-driven institutions with social development aims. The banking system is also highly concentrated as the three largest banks (De Surinaamsche Bank, RBC Royal Bank Suriname, and Hakrinbank) account for 78 percent of the total banking assets.

Structure of Commercial Banking System: end-2012 (in percent)
State ownershipForeign ownershipPrivate ownership
Large banks
De Surinaamsche Bank10090
RBC Royal Bank Suriname01000
Hakrinbank51049
Small banks
Surinaamse Volkscredietbank10000
Lanbouwbank10000
Surinaamse Postspaarbank10000
Finabank00100
Surichange Bank00100
Cooperatieve Spaar-en00100
Kredietbank Godo G.A
Source: Central Bank of Suriname
Source: Central Bank of Suriname

2. Nonbank financial institutions comprise mainly pension funds and insurance companies. There are 34 pension funds (29 are operational, 4 are under judicial dissolution, and 2 have not responded to the central bank) and 12 insurance companies, which account for 14 percent and 8.7 percent of total financial assets respectively. Other financial institutions hold around 0.3 percent of financial sector assets, including 5 investment and finance companies (3 are not operational), 28 savings and credit unions (2 are in the process of dissolution), one savings fund, the National Development Bank, 5 provident funds, 25 foreign exchange bureaus, and 6 money transfer houses.

3. The largest insurance institution, Assuria, plays an important role in Suriname’s financial market. Assuria, as a group company, holds 7 percent of the shares of Hakrinbank and 49 percent of the shares of De Surinammsche Bank. It also holds an investment company. Assuria was one of the founding members of the stock exchange in Suriname in 1991 and its Managing Director is the current Chairman of the stock exchange as well. Assuria established the first overseas insurance company in Guyana in 1998 and bought Gulf Insurance Ltd in Trinidad and Tobago recently.

4. Central Bank of Suriname (CBvS) is the monetary authority and sole financial supervisor in Suriname. CBvS was established in 1957, in line with the Bank Act, which took effect in 1956 and has been amended seven times with the latest in December 2010. Four other laws govern Suriname’s financial sector: (1) the Banking and Credit System Supervision Act 2011, governing depository institutions2 (banks, investment companies, finance companies, and credit unions); (2) the Pension and Provident Fund Act 2005,(3) the Banking and Credit System Supervision Act 1968(for insurance companies, and currently no independent insurance Act), and (4) The Foreign Exchange Houses and Money Transfer Companies Act 2012.

5. The financial sector infrastructure requires further development. Suriname has no T-bill market, and the ministry of finance issues bonds through bilateral contact with commercial banks. No electronic inter-bank payment system operates and all clearing and settlement of inter-bank payments (including cheques) is carried out semi-manually. Moreover, the inter-bank market is not active with only sporadic trading activities and small transaction volumes. The stock exchange is a self-regulated organization with 12 listed companies currently. Given the limited capacity, there have been no IPOs and the turnover in the market is very low. Although investors are reportedly keen to invest in the capital market, transactions take place only twice monthly and most of shareholders don’t sell their shares except in rare cases.

B. Monetary Policy Framework and Financial Supervision

6. According to Article 9 of the Bank Act, the key objective of the central bank is “to promote the stability of the monetary unit of Suriname”. Therefore, in practice, the exchange rate is the nominal anchor of Suriname monetary policy. In pursuit of such a goal, Article 10 (a) requires the Government to “establish regulations on exchange rate arrangement applicable to Suriname Dollar”. Article 10 (f) grants the central bank authority to regulate exchange rate and “this may imply setting maximum and minimum rates”.

7. Suriname has multiple currency practices (MCPs). CBvS set up the maximum and minimum rates of Suriname dollar (SRD) at 3.25-3.35 SRD per US dollar after the 20 percent devaluation in January 2011. The official rates are the exchange rates for government transactions, i.e. central bank will buy U.S. dollars at 3.25 SRD per U.S. dollar from the major state-owned companies who pay taxes and royalties in U.S. dollar and sell U.S. dollar to government for purchasing designated goods and services including medical products and baby milk powder at 3.35 SRD per US dollar. Commercial banks and the foreign exchange bureaus (cambio) are allowed to quote their bid and ask rates within the official band. In addition, cambios are also required to surrender 15 percent of their purchased foreign exchange to the central bank. The MCPs arise from (i) the existing spread of more than 2 percent between the buying and the selling rates in the official market for the government’s foreign exchange transactions; and (ii) the potential spread of more than 2 percent between the official rates for government transactions and those in the commercial markets. While the exchange rate is akin to a peg, it also has features of an exchange rate band.

8. The central bank supplies foreign exchange in the market periodically. Most importers in Suriname buy foreign exchange from commercial banks who then request supply of foreign exchange from the central bank with authenticated import verification. After approval, central bank transfers foreign exchange to commercial banks who then pay foreign suppliers directly on behalf of their clients. However, the central bank does not supply foreign exchange to cambios. They buy foreign exchange (mostly Euros) from foreign tourists and remittances from Surinamese abroad.

9. With regard to domestic monetary policy, CBvS only has reserve requirement ratio (RRR) and foreign exchange intervention in its monetary policy toolkit at present. RRR on domestic and foreign currency deposits was introduced in 2001 and 2003 respectively. The RRR for domestic currency deposits is 25 percent (but effective RRR is at about 17 percent as up to 7 percent of reserved deposits could be used for financing low-interest mortgages) and 45 percent for foreign currency deposits at present. The RRR for domestic currency was kept unchanged since 2006, while the RRR for foreign currency deposit was raised from 17.5 percent in 2003 to 33.3 percent in 2005, to 40 percent in 2011 and to 45 percent in January 2013. In addition, the required reserves on foreign currency are not required to be placed in the central bank, so commercial banks deposit foreign exchange reserves in an overseas corresponding bank’s account and earn interest, but those in domestic currency are unremunerated.

10. Unsterilized foreign exchange intervention has monetary implications. Central bank’s buying and selling foreign exchange without tools for sterilization results in increasing or decreasing of reserve money and the money supply. It has a pro-cyclical effect on domestic economy by increasing liquidity in the financial system when accumulating foreign exchange reserves, stimulating bank lending and driving up aggregate demand, potentially increasing vulnerabilities.

Growth of International Reserves and Money Supply

1/ Data adjusted for devaluation in January 2011.

Source: Central Bank of Suriname

11. CBvS is developing a Treasury bill auction system to pave the way for adopting indirect monetary policy tools. In line with Fund technical assistance, the central bank is preparing to introduce regular Treasury bill auctions in early 2014 as the main vehicle for the development of an interbank money market and a government securities market. Afterwards, the central bank plans to use T-bills to conduct open market operations to adjust financial market liquidity. It will help the central bank to manage financial market liquidity and sterilize foreign exchange market intervention.

12. CBvS is strengthening banking regulation as well. With the passage of the new Supervision Act, the central bank is about to strengthen prudential regulations through increasing capital requirement, NPL provisions, tightening limits on large exposure and insider-trading before the end of 2013. The central bank is also preparing to strengthen bank’s corporate governance, introduce risk-based regulation and intensify on-site examination.

13. Regulation on nonbank financial institution is in the early development stage. Due to the capacity constraints, supervision over nonbank financial institutions is light. Communication between central bank and nonbank financial institutions is infrequent and no regular data are sent to the central bank. Currently, the central bank has drafted the Insurance Bill and it is expected to be enacted by the end of 2013. The central bank is also making efforts to strengthen financial infrastructure. For example, currently a credit bureau and a deposit insurance scheme are being contemplated.

14. Progress in improving the AML/CFT regime is ongoing. The most recent follow-up report to the 2009 assessment indicates improvements, including recent legislation covering the identification requirements for service providers, and the reporting of unusual transactions. However, some gaps remain, including in areas related to the risks of smuggling of precious minerals and combating corruption. The authorities are considering the next steps forward and are also improving AML/CFT supervision of financial institutions to strengthen the implementation of the requirements already in place.

C. Financial Soundness Analysis

15. Commercial banks are sound and profitable in general. The capital adequacy ratio for the banking system (12.3 percent) is above the regulatory 8 percent minimum but lower than the regional average (20 percent). In line with the new Supervision Act, the central bank proposes to increase the minimum capital adequacy ratio to 10 percent with likely higher requirement for large banks. The return on equity (ROE) was 29.1 percent as of March 2013, higher than regional average. But return on asset (ROA) was 2.1 percent in March 2013, which is lower than some countries in the region. Thus, the higher-than-regional-average ROE is partly due to lower capital than other countries in the region. Three small state-owned banks are under consideration by the government to be restructured. The government also plans to reduce its holding in the large majority-state-owned bank and restructure one small nonbank financial institution.

16. Asset quality is comparatively higher than the regional average, though the NPL ratios remain high. The NPL ratio for the banking system increased slightly from 6.2 percent in December 2012 to 7.1 percent in March 2013. The proposed new guideline aims to increase provisions for NPLs by forbidding netting-out of collateral value in calculating the NPL ratio. To improve asset quality, the supervisory authority also plans to tighten limits on large credit exposure and insider-trading.

17. Liquidity in the banking system is substantial. Liquid assets account for 30 percent of total assets, above the regional average. Besides, commercial banks’ excess reserves almost tripled at end 2012. In April 2013, excess reserve declined below the level in December 2012, but it remains high.

D. Recent Developments in the Credit Market

18. Real credit growth has picked up gradually since 2011. Real credit growth dropped sharply from the peak of 23.7 percent in August 2009 to -2.3 percent in April 2011 along with the deteriorating market confidence due to global financial crisis and the devaluation of Suriname dollar in January 2011.3 Between 2004 and 2011, real credit grew by 15.8 percent on average, which is higher than Latin America (9 percent) and some neighboring countries in the same period. The rapid credit growth has been accompanied by strong deposit growth. During 2006-2012, the ratio of deposit to GDP rose from 23 percent to 41 percent of GDP. The rapid credit growth could reflect deepening of the shallow credit market. From 2004 through 2012, the credit-to-GDP increased by 11 percentage points from 15 percent to 26 percent, which is still relatively low.

Bank Credit and Deposit Growth,2006-2012

Source: Central Bank of Suriname

19. On sectoral basis, during 2006 to 2012, trade and housing construction sectors are the largest two in terms of credit allocation, followed by manufacturing and services sectors. On average, credit to trade and housing construction sectors account for 25 percent and 15 percent of total credit respectively. The share of credit to the agriculture sector is 4 percent. In terms of credit growth, mining and transport, and manufacturing (including processing of mining products) sectors have substantially faster growth than other sectors, but from a low base.

Credit Growth by Sector

Source: Central Bank of Suriname

20. Credit growth in foreign currency loan accelerated after the devaluation in 2011, and surpassed credit growth in domestic currency in 2012. The faster growth of foreign currency loan is partly a recovery from the sharp decline from declining of market confidence since the onset of the global financial crisis and also the expectation of Suriname dollar devaluation in 2011. However, foreign currency credit growth is still below historical average at present.

Suriname: Dollarization Indicators

(percent)

Source: Central Bank of Suriname, IMF staff calculation

Credit to the Private Sector

(12-month growth in %)

1/ Data adjusted for the devaluation in 2011

Source: Central Bank of Suriname, IMF staff calculation.

21. Although strong credit growth from 2012 looks benign in general, potential vulnerabilities especially related to the housing sector warrant vigilance. Credit growth in housing construction grew by 28 percent on average in the past 6 years. Given the shallow financial market in Suriname, insurance companies and pension funds, as well as banks, invested heavily in mortgages. For example, preliminary data indicate that out of a total of 1.3 billion Suriname dollars in pension fund assets in 2012, around 70 percent was invested in mortgages. High concentration of financial institutions in housing sector and the interconnection among major players might create contagion risks if the housing market experiences a sharp correction. Given the significant economic outlook exposure to gold prices and limited fiscal buffers, the housing market could come under pressure in an adverse scenario. However, commercial banks typically have a conservative approach to lending, and generally maintain loan-to-value ratios up to 60 percent, mitigating risks.

Suriname: Financial System Structure and Financial Soundness Indicators 1/
2009201020112012Mar-13
Number 2/
Banks89999
Large banks33333
Small banks56666
Reporting non-bank financial institutions
Pension funds2621177
Insurance companies11997
Credit unions and cooperatives5554
(In percent of total)
Assets100.0100.0100.0100.0100.0
Banks74.976.977.2
Large banks61.879.178.4
Small banks13.120.921.6
Pension funds1515.113.9
Insurance companies7.77.88.7
Credit unions and cooperatives2.40.30.3
Deposits
Banks100.0100.0100.0100.0100.0
Large banks82.580.079.178.377.4
Small banks17.520.020.921.722.6
Capital adequacy17.520.020.921.722.6
Regulatory capital to risk-weighted assets (*)10.812.212.112.612.3
Regulatory Tier I capital to risk-weighted assets (*)9.510.810.911.511.2
Capital (net worth) to assets5.66.26.36.36.2
Asset composition
Sectoral distribution of loans to total loans (*)
Agriculture4.34.33.73.23.1
Manufacturing7.87.78.38.58.1
Commerce26.223.926.329.83.0
Housing construction18.217.916.817.31.7
Other43.546.244.941.141.9
Asset quality
Foreign currency loans to total loans41.237.140.742.241.6
NPLs to gross loans (*)7.97.98.06.27.1
NPLs net of provisions to capital (*)50.144.644.030.637.0
Large exposures to capital (*)105.198.1106.88390.3
Earnings and profitability
ROA (*)2.52.21.91.92.1
ROE (*)45.336.927.224.829.1
Interest margin to gross income (*)69.473.371.774.669.6
Noninterest expenses to gross income (*)57.458.357.958.655.3
Personnel expenses to noninterest expenses59.259.958.962.259
Trading and fee income to total income31.928.830.726.630.9
Spread between reference loan and deposit rates8.08.28.08.08.0
Liquidity
Liquid assets to total assets (*)29.829.226.428.429.7
Liquid assets to total short-term liabilities (*)52.954.449.254.659.1
FX liabilities to total liabilities50.347.051.548.847.1
Net position in foreign currency to capital 3/28.719.2
Source: Central Bank of Suriname.

Included in the “core set” of financial soundness indicators identified by the IMF’s Executive Board.

Indicators refer to banks, which comprise over 70 percent of financial system assets at end-2008.

The three largest banks hold more than 57 percent of total financial system assets.

Net position in foreign currency (total assets minus total liabilities) as a proportion of banks’ shares and other equity.

Source: Central Bank of Suriname.

Included in the “core set” of financial soundness indicators identified by the IMF’s Executive Board.

Indicators refer to banks, which comprise over 70 percent of financial system assets at end-2008.

The three largest banks hold more than 57 percent of total financial system assets.

Net position in foreign currency (total assets minus total liabilities) as a proportion of banks’ shares and other equity.

Financial Soundness Indicators

Source: National authorities.

Suriname’s Exposure to Gold Price Fluctuations1

A. Background

1. Gold mining has become very important in the Surinamese economy. In 2012, gold constituted an estimated 67 percent of merchandise exports. Approximately 40 percent of gold was produced at a single large mine (Rosebel), with the rest produced in small-scale operations. About 10 percent of government revenues are directly linked to gold production at Rosebel in the form of corporate income taxes, royalties and dividends. Direct fiscal revenues from the small-scale gold mining sector are small, but indirect effects through secondary spending add further to the fiscal impact of the gold sector.

2. Large-scale gold mining at the Rosebel mine started in 2004, while small-scale informal mining activities have been significant since the 1980s. The Rosebel mine, owned by Canadian mining company IAMGOLD Corp. and in which the Surinamese government holds a 5 percent equity participation, produced 382,000 ounces of gold at a cost of US$671 per ounce in 2012.2 Without major expansion projects in recent years, production growth at Rosebel has been flat since 2009. Small-scale informal mining is an important source of revenue and employment in the interior of Suriname. Data on the sector is sparse, but the central bank estimates that gold production of small-scale mining was 591,900 ounces in 2011. Growth of the small-scale sector has been high in recent years, with production up by 17 percent since 2009.

3. New projects could substantially boost gold production in the future. IAMGOLD recently agreed with the government of Suriname to expand its existing operations.3 IAMGOLD will maintain its existing entitlements and establish a joint-venture with the government for new mining activities in the area. Under the terms of the agreement the government will acquire a 30 percent participating interest on a fully-paid basis and may provide electricity at a subsidized rate for the new operation. The impact of the new concession on gold production volumes is unclear at this point, as some substitution away from the old mine to the new concession may occur. A second large-scale project, the Merian gold mine, has been agreed between Surgold, a joint-venture between U.S.-based Newmont and Alcoa, and the government of Suriname. The agreement includes a 25 percent equity participation of the government in this mining project.

B. Gold Market Developments and Price Forecasts

4. The start of large scale gold mining operations in Suriname coincided with a strong rise in gold prices. Gold prices rose from about US$260 per ounce in 2001 to a nominal all-time high of above US$1900 per ounce in August 2011. In constant US$, gold prices have come close to, but remained below the peak reached in the early 1980s. The increase in the gold price since 2001 coincided with net buying by the official sector (non-advanced economy central banks) and strong demand from financial investors.4 In fact, a distinctive feature of gold in comparison with other commodities is the high share of investment driven demand (one-third excluding jewelry demand for investment purposes). Analysts point to various explanation for the increase in investor demand: gold has served as a safe haven asset with low correlations with other assets during the financial crisis; gold is seen as a hedge against potential inflation in light of expansionary monetary policy and high debt burdens in advanced economies; low real interest rates have decreased the opportunity cost of holding gold; a long-term downtrend in the U.S. dollar; investing in and trading of gold has become very easy via exchange traded funds (ETFs).5

Sources:IMF staff estimates and IFS.

5. Since 2011 gold traded range-bound between US$1600 and 1800 per ounce, until a sharp drop below US$1400 per ounce in April 2013. On April 15, gold registered its largest one day loss in 30 years, declining more than 9 percent. Analysts cite as reasons speculation about Cyprus selling part of its gold reserves and this setting a precedent for other European countries in crisis, continued subdued inflation in advanced economies despite unconventional monetary policies, speculation about a phase-out of quantitative easing in the U.S., greater risk appetite and a strengthening U.S. dollar. In recent months the gold price has weakened further and dipped briefly below US$1200.

6. Given the importance of investment demand for gold, the gold price is volatile when investor sentiment changes and longer-horizon price forecasts are not reliable. The price correction in April was not anticipated by professional forecasters in Bloomberg’s consensus estimates and demonstrates how rapidly gold prices can change. In addition, gold futures are poor predictors of subsequent price changes (Chinn and Coibion, 2013).

C. Stylized Links between the Gold Price and the Surinamese Economy

7. As a result of gold’s prominent role in Suriname’s economy, changes in the price of gold can substantially affect the macroeconomic outlook. The figure below presents the main direct linkages in stylized form, not including second round effects and policy responses. In the following discussion it is assumed that lower gold prices do not affect the quantity of gold produced or planned mining projects. However, a very large fall in the gold price could result in production cuts at existing mines and the cancellation or downsizing of new projects. In such a scenario the impact on the Surinamese economy would be far larger. While it is difficult to pin down the price level of gold at which this would unfold, current production costs at the Rosebel mine (US$671 per ounce in 2012, expected to rise to US$900 in 2013) provide some indication.

8. A decline in the price of gold would reduce real GDP growth through a contraction in domestic demand. With a lower gold price small-scale mining operations generate less income for owners and wages are likely to decline in the formal and informal gold sector. The reduction in domestic demand is expected to primarily hit construction, retail trade, restaurants and hotels, transport, and financial intermediation. Investment in gold mining and processing equipment would also fall. If gold production quantities remain unchanged, the contribution of the external sector to real GDP would be positive as imported quantities fall, while export quantities remain unaffected. The positive contribution of the external sector to real GDP growth is expected to be smaller than the negative effective of lower domestic demand. If the government would reduce spending in response to lower revenues as gold prices fall, this would further contract domestic demand. Any adjustment of gold quantities would directly affect real GDP growth in addition to the indirect effects through lower domestic demand. Nominal GDP growth would decline due to lower real growth and a lower GDP deflator.

9. The current account would deteriorate in response to lower gold prices. Assuming no change in export volumes, export values would decline in proportion with prices. Imports would decline as lower domestic demand results in lower import volumes. The reduction in exports can be expected to exceed the reduction in imports, because a significant portion of imports related to FDI projects and the operation of large-scale oil, aluminum and gold projects does not directly depend on domestic demand. Foreign exchange reserves would decline in response to a lower current account, assuming no additional capital inflows and a fixed exchange rate.

10. With a lower gold price, fiscal revenues decline as corporate taxes, taxes on small scale mining, sales taxes, gold royalties, and dividends are lower. The higher fiscal deficit in combination with lower nominal GDP results in a higher ratio of debt to GDP. With more than 10 percent of fiscal revenues directly linked to gold production, significantly lower gold prices could necessitate contractionary fiscal policy.

Simplified first-round impact of lower gold price

D. Gold Price Scenarios for Suriname—Assumptions

11. Two gold price scenarios are presented. The first with a gold price of US$1200 from Q3 2013 to 2018 and the second with a gold price of US$1000 over the same horizon. Given the historical development of the gold price, these scenarios appear well within the range of possible outcomes and more pessimistic outcomes would materialize should gold prices revert to their long-term historical average. In the scenarios it is assumed that lower gold prices do not affect the quantity of gold produced or planned mining projects.6

12. To model the impact of lower gold prices the following key assumptions are made. The scenario analysis in section E. presents only first-round effects of a lower gold price; fiscal tightening in response to the lower gold price is incorporated in section F. For the first round projections it is assumed that central government expenditures are not reduced while revenues decline. Specifically, taxes and royalties from the gold sector are assumed to decline proportionally to the gold price and other tax revenues are modeled as a function of GDP growth.7 For the balance of payments (BoP) under the gold at US$1200 scenario, it is assumed that exported quantities, FDI-related imports, and imports of major exporters (gold, oil, bauxite) are unchanged, while other non-FDI related imports are assumed to grow in line with the historical import/GDP elasticity. Services exports are assumed to grow with expected advanced economy GDP and services imports are projected to grow in line with non-FDI imports of goods. Private sector income debits are modeled as a function of bauxite and gold revenues.

13. In the gold at US$1000 scenario, additional assumptions are made to account for the severity of the price drop. Specifically, it is assumed that imports of goods are on average about 5 percent lower than based on the historical import/GDP elasticity as the economy adjusts to falling gold receipts. It is also assumed that other investment outflows by banks are about a third lower as the economy is less flush with liquidity.

Gold Price Assumptions
201320142015201620172018
Baseline (Current WEO)138612511267128413081336
WEO—Early 2013168216991721174117691810
Gold at US$1200135412001200120012001200
Gold at US$1000125410001000100010001000
Sources: World Economic Outlook, and staff calculations
Sources: World Economic Outlook, and staff calculations

E. Gold Price Scenarios for Suriname—Results

14. Under the scenario with gold at US$1200, we project only a small impact on growth (Table 1). Real GDP growth is expected to be 0.1 percent lower than under the WEO gold price baseline. Growth is lower due to slightly weaker demand, in particular from the important small-scale mining sector. As a result of lower gold prices and slightly lower CPI inflation, the GDP-deflator is projected to be between 0.1 and 0.2 percent lower.

Real GDP Growth

(in percent)

Citation: 2013, 341; 10.5089/9781475562354.002.A001

Source: IMF staff projections

Central Government: Overall Balance

(in percent of GDP)

Citation: 2013, 341; 10.5089/9781475562354.002.A001

Source: IMF staff projections

15. With gold at US$1200, the fiscal balance will decline moderately if no policy measures are taken. On the revenue side, we expect corporate income taxes and royalties from the Rosebel gold mine to decline by about 30 percent over two years compared to 2012. Government expenditures are assumed to remain unchanged in absolute terms, but increase as a percentage of nominal GDP, as nominal GDP is lower than in the baseline due to lower real GDP growth and a smaller GDP deflator. The overall fiscal balance is projected to decline by 0.2 percent in 2014 versus the baseline and by 0.5 percent in 2018. The slightly higher fiscal deficit and lower nominal GDP would translate into somewhat higher government debt levels of about 42 percent of GDP in 2018 compared to about 40 percent under the baseline.

Current Account Balance

(in percent of GDP)

Citation: 2013, 341; 10.5089/9781475562354.002.A001

Source:IMF staff projections.

Gross international reserves

(US$ millions)

Citation: 2013, 341; 10.5089/9781475562354.002.A001

Source:IMF staff projections.

16. The impact of lower gold prices is strongest on the external side. With gold at US$1200, we project a current account that is 1 percent weaker than the baseline from 2014 onwards. In this scenario international reserves would stabilize around US$800 mn or 4 months of imports in the medium term.

17. Under the more pessimistic scenario of gold at US$1000, stresses on the economy are more severe. Real GDP growth is projected to be about 0.4 percent below the baseline and the GDP deflator would also be lower, particularly in 2013 and 2014. The overall fiscal balance is projected to remain in deficit below 4 percent of GDP through the projection period. In 2018 we estimate a deficit of 4.3 percent versus 2.8 percent in the baseline. The larger deficit is the result of lower revenues, in particular from the gold sector, and, assuming unchanged absolute expenditure and lower growth, a higher ratio of expenditure to GDP. With large fiscal deficits in the absence of corrective policy action, government debt levels would increase through the projection period and reach almost 47 percent of GDP in 2018.

18. With gold at US$1000, large current account deficits would lead to a substantial decline in reserves. In this scenario, assuming no policy action, current account deficits would persist throughout the medium term and reserves would be trending down. Even under the baseline the current account is expected to turn negative from 2013-15 as large planned FDI inflows to the mineral sector (predominantly the new IAMGOLD concession and Surgold’s Merian mine) are expected to increase imports. Under the assumption that these FDI-financed projects are realized as planned even with a lower gold price, the current account deficit becomes large in 2014 and 2015 as the value of exports of which gold constitutes almost 70 percent declines. It is expected that the FDI projects are completed in 2016 resulting in a decline in imports and higher gold production in subsequent years. This is sufficient to achieve a small positive current account balance in 2017 under the baseline and the 1200-scenario, but not under the 1000-scenario.

19. A substantial decline of gold prices, possibly below US$1000, constitutes an important downside risk for Suriname. With gold prices falling below US$1000 non-linearities not modeled in this note could materialize. Specifically, some gold mines could become unprofitable and cease operations. At Rosebel mine, the one existing large-scale mining operation, IAMGOLD’s cash cost of mining gold was US$671 per ounce in 2012, but this is expected to increase to about US$900 in 2013, leaving little cushion for price drops below US$1000. The two new large-scale mining projects could also be delayed or even cancelled if gold prices would drop substantially. In addition, according to anecdotal evidence, many small-scale miners operate on slim margins. Gold production cuts would directly lower GDP growth, while widening fiscal and external deficits could require strong contractionary policies.

F. Gold Price Scenarios for Suriname—Incorporating a Fiscal Response

20. The large impact of gold prices at US$1000 on the fiscal and external balance makes a policy response under this scenario likely and necessary. With limited monetary policy instruments and a fixed exchange rate, the government’s main policy tool is fiscal. It is assumed for illustrative purposes that the government engages in pro-cyclical fiscal policy tightening by reducing expenditures to achieve an overall fiscal balance of around zero by 2018.8

Central Government: Overall Balance

Source:IMF staff projections.

21. The fiscal consolidation under this scenario would be substantial (Table 2). Compared to the scenario with gold at US$1000 without a policy response, the improvement in the fiscal balance by 2018 would be more than 4 percent of GDP. Even compared to the baseline, the improvement would be almost 3 percent of GDP. The reduction in expenditure would be relatively evenly spread out over the next 5 years. With much lower fiscal deficits, government debt levels would start declining after 2014 from 39.5 to 33.5 percent of GDP in 2018.

Real GDP Growth

(in percent)

Citation: 2013, 341; 10.5089/9781475562354.002.A001

Source: IMF staff projections.

22. The pro-cyclical fiscal contraction would reduce real GDP growth. Compared to the 1000-scenario without the fiscal response, real GDP growth is projected to decline a further 0.5 percent per year from 2014 through 2018. The GDP deflator also declines as CPI inflation is expected to be lower.

Current Account Balance

(in percent of GDP)

Citation: 2013, 341; 10.5089/9781475562354.002.A001

Source:IMF staff projections.

23. The large fiscal policy response would stabilize the external position under this scenario. Large current account deficits would still occur in 2014 and 2015 as these are mainly caused by imports related to FDI projects in the mineral sector. However, lower growth and less government demand would lower non-FDI related imports, helping to achieve a balanced current account by 2017 versus a deficit of 1.7% without a fiscal policy response. Importantly, international reserves would then stabilize around US$600 mn or 3.5 months of imports in the medium term.

Gross international reserves

(US$ millions)

Citation: 2013, 341; 10.5089/9781475562354.002.A001

Source:IMF staff projections.

G. Conclusion

24. Suriname’s fiscal and external positions are vulnerable to lower gold prices. In recent years the expansion of gold production has coincided with rising gold prices. If gold prices were to fall to levels prior to the financial crisis, the authorities would have to take painful corrective measures to avoid widening deficits. Planned new gold mining projects will further increase the country’s dependence on gold, in particular with the government taking substantial equity stakes in the projects. It is therefore critical to build buffers while gold prices remain high by historical standards and to develop a strategy to diversify the economy.

Table 1.Gold Price Scenarios: Selected Indicators
201320142015201620172018
Real Sector (Annual percentage change)
Baseline4.74.04.34.54.64.7
Real GDP GrowthGold at US$ 12004.63.94.24.44.54.6
Gold at US$ 10004.43.63.94.14.24.3
Baseline0.63.34.24.34.54.5
GDP deflatorGold at US$ 12000.53.24.14.24.34.3
Gold at US$ 1000-0.12.34.04.24.34.3
Central Government (In percent of GDP)
Baseline25.724.825.325.625.825.7
Revenue and grantsGold at US$ 120025.724.825.325.625.825.6
Gold at US$ 100025.624.625.225.525.725.6
Baseline28.628.828.828.828.728.6
Total expenditureGold at US$ 120028.728.929.029.129.029.0
Gold at US$ 100028.929.529.729.829.929.9
Baseline-2.9-4.0-3.5-3.2-2.9-2.8
Overall balanceGold at US$1200-2.9-4.2-3.7-3.5-3.3-3.3
Gold at US$ 1000-3.3-4.9-4.4-4.3-4.2-4.3
Baseline37.139.640.540.740.540.2
DebtGold at US$ 120037.240.041.141.741.942.0
Gold at US$ 100037.941.743.644.945.946.8
External Sector (In percent of GDP, unless otherwise indicated)
Baseline-3.5-6.1-7.6-0.21.42.1
Current Account BalanceGold at US$1200-4.1-7.0-8.8-1.20.41.2
Gold at US$ 1000-5.1-9.1-10.9-3.5-1.9-1.0
Baseline155-313-108-84-80
Change in reserves (- increase in US$ millions)Gold at US$ 12001902376-38-7-6
Gold at US$ 100025013619891110100
Baseline9109419381,0461,1291,210
Gross international reserves (US$ millions)Gold at US$ 1200875852776813820826
Gold at US$ 1000816680481390280180
Baseline4.34.54.35.45.65.6
In months of importsGold at US$ 12004.14.13.64.24.24.0
Gold at US$ 10003.93.42.32.11.50.9
Sources: National authorities and staff calculations
Sources: National authorities and staff calculations
Table 2.Gold Price Scenarios with Fiscal Response: Selected Indicators
201320142015201620172018
Real Sector (Annual percentage change)
Baseline4.74.04.34.54.64.7
Real GDP GrowthGold at US$ 10004.43.63.94.14.24.3
Gold at US$ 1000 - Fiscal Response4.13.13.33.53.63.7
Baseline0.63.34.24.34.54.5
GDP deflatorGold at US$ 1000-0.12.34.04.24.34.3
Gold at US$ 1000 - Fiscal Response-0.12.03.53.83.93.9
Central Government (In percent of GDP)
Baseline25.724.825.325.625.825.7
Revenue and grantsGold at US$ 100025.624.625.225.525.725.6
Gold at US$ 1000 - Fiscal Response25.624.825.425.826.126.0
Baseline28.628.828.828.828.728.6
Total expenditureGold at US$ 100028.929.529.729.829.929.9
Gold at US$ 1000 - Fiscal Response28.127.827.326.926.325.9
Baseline-2.9-4.0-3.5-3.2-2.9-2.8
Overall balanceGold at US$ 1000-3.3-4.9-4.4-4.3-4.2-4.3
Gold at US$ 1000 - Fiscal Response-2.5-3.0-1.9-1.0-0.20.1
Baseline37.139.640.540.740.540.2
DebtGold at US$ 100037.941.743.644.945.946.8
Gold at US$ 1000 - Fiscal Response37.239.539.438.136.033.6
External Sector (In percent of GDP, unless otherwise indicated)
Baseline-3.5-6.1-7.6-0.21.42.1
Current Account BalanceGold at US$ 1000-5.1-9.1-10.9-3.5-1.9-1.0
Gold at US$ 1000 - Fiscal Response-4.9-8.6-10.2-2.20.01.0
Baseline155-313-108-84-80
Change in reserves (- increase in US$ millioGold at US$ 100025013619891110100
Gold at US$ 1000 - Fiscal Response2391061427-12-43
Baseline9109419381,0461,1291,210
Gross international reserves (US$ millions)Gold at US$ 1000816680481390280180
Gold at US$ 1000 - Fiscal Response826720578571584626
Baseline4.34.54.35.45.65.6
In months of importsGold at US$ 10003.93.42.32.11.50.9
Gold at US$ 1000 - Fiscal Response4.03.62.93.23.33.4
Sources: National authorities, and staff calculations
Sources: National authorities, and staff calculations

References

Prepared by Jochen Schmittmann.

More complex econometric methods to estimate economic activity indicators cannot be applied for Suriname due to the short time series and other data constraints. See Matheson (2011, IMF WP/11/43) for a discussion of growth indicators in advanced and emerging markets.

The Chicago Board Options Exchange Market Volatility Index (VIX) is a measure of the volatility implied in options on the S&P 500 stock index and widely used as a proxy for global financial market conditions and uncertainty.

For a detailed discussion of the credit impulse variable see “Credit and Economic Recovery: Demystifying Phoenix Miracles” by Biggs, Mayer, and Pick (2010) available at http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1595980.

Prepared by Qiaoe Chen.

Under Suriname banking law, a “bank” is a financial institution that can maintain checking accounts. Nonbank financial institutions could take deposits and function as a bank, but are not legally banks.

If considering devaluation effect, real credit growth particularly in 2011 could be lower than current calculation due to the one-off increase of foreign currency loans after devaluation.

Prepared by Jochen Schmittmann.

The cash cost of production is expected to increase as operations have to move to processing harder rock.

The agreement was approved by parliament on April 13, 2013.

Jewelry demand has declined since 2001, while industrial demand has expanded slightly.

ETF holdings in gold stood at about 1800 tons in 2012 from zero in 2004. This compares to global gold productionof about 2700 tons in 2012.

One gold mining company indicated that gold prices below US$1200 become problematic. The first reaction to falling prices will be cost cutting measures which would affect the Suriname’s economy through lower spending, employment, and wages by gold mining companies. If lower gold prices trigger production cuts or the suspension of new gold projects, the impact on the Suriname’s economy would be much larger than presented in this note.

Non-mining tax revenues include income, wealth, rental, dividend, and sales taxes.

Alternatively, the government could increase revenues through tax hikes and improved tax collection. Given the low ratio of tax revenue to GDP in Suriname, a combination of revenue and expenditure measures appear better options than purely expenditure driven consolidation.

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