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Republic of Madagascar: Request for an Arrangement Under the Extended Credit Facility; First Review Under the Staff Monitored Program—Debt Sustainability Analysis

Author(s):
International Monetary Fund. African Dept.
Published Date:
August 2016
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Introduction

1. This joint DSA has been prepared by IMF and World Bank staff. It is based on the framework for LICs approved by the respective Executive Boards. The framework takes into account indicative thresholds for debt burden indicators determined by the quality of the country’s policies and institutions.2 The assessment comprises a baseline scenario and a set of alternative scenarios.

2. This DSA includes public debt and guarantees of the general government. The DSA does not include the debt of local government or SOEs (other than through direct guarantees). The measure of debt is on a gross rather than net basis. And the residency criterion is used to determine the split between external and domestic debt.

Recent Developments and Current Debt Situation

3. Re-engagement with the international community has broadened access to external financing sources, reducing the need for domestic borrowing. Development partners reduced their lending to Madagascar during the 2008-13 crisis and the government relied more on domestic sources to finance budget deficits. Domestic debt, including domestic budgetary arrears, increased from 7.3 percent of GDP in 2008 to 12.6 percent in 2015. With the government re-engaging with the international donor community, external financing has become more readily available. As a result, external PPG debt, on average about 24 percent of GDP over 2008-14, is projected to increase to over 30 percent of GDP by end-2016, while domestic debt is projected to decrease slightly to 11 percent of GDP by end-2016 (Figure 1 and Table 3). The authorities have largely refrained from borrowing externally on non-concessional terms, which helps support debt sustainability. Overall, total public debt rose from around US$2.5 billion (33 percent of GDP) in 2007 to US$3.7 billion (41 percent of GDP) in 2015 (Table 6). Debt still remains substantially below the pre-HIPC peak of 95 percent of GDP. The debt service to revenue ratio is continuing to increase because of the higher indebtedness, the still high reliance on domestic financing, and poor revenue mobilization.

Figure 1:Debt Level and Service Ratios

4. The exchange rate depreciation in 2015 amplified the burden of external debt. The depreciation of the Ariary, by more than 20 percent relative to the dollar, was the main driver behind a 3.5 percentage point increase in external PPG debt in 2015 (Figure 1 and Table 3). New external loans amounted to about 2½ percent of GDP, which was partially offset by a nominal GDP growth of 10 percent. The current exchange rate remains more depreciated than last year’s average; another, though probably more moderate, valuation effect will add to external debt this year.

5. Most external debt is owed to multilateral creditors on highly concessional terms (Table 1). Slightly below one-third of total debt is held by domestic creditors, mainly in the form of Treasury bills and debt to the central bank3. Domestic arrears remained relatively high, estimated at around 3½ percent of GDP in 2015. The vast majority of external debt is held by multilateral creditors, in particular the World Bank and African Development Bank.

Table 1:Break-down of Total PPG Debt (end-2015)
CreditorAmount (US$m)Percent of GDPPercent of total
Domestic debt, of which:1,12712.630.8
Treasury bills3704.110.1
Debt to the Central Bank3864.310.5
Arrears3193.68.7
Other inc. loans510.61.4
External debt, of which:2,53528.469.2
Multilateral2,00822.554.8
Paris Club1361.53.7
Non-Paris Club3664.110.0
Commercial170.20.5
Total PPG debt3,66241.0100.0

6. Private external debt is mainly issued by local subsidiaries of multinational companies. A number of multinational companies—in mining, banking, and telecommunication—have wholly-owned local subsidiaries with external debt. While the authorities do not have comprehensive data on private-sector obligations, by far the largest of these debtors is the nickel/cobalt mining company Ambatovy.4 This company has external debt just under US$2 billion (20 percent of GDP), which has caused total external debt to increase from 24 percent of GDP in 2007 to 49 percent in 2015 (see Table 3). It is projected that this commercial loan will be fully repaid by around 2030. External debt owed by domestically owned companies and households is negligible.

7. The government could face some contingent liabilities with respect to SOEs, including the nonbank financial sector, while the banking sector is less likely to generate direct fiscal costs. The electricity utility, JIRAMA, had long-term debt corresponding to ½ percent of GDP and short-term debt (suppliers’ credits, overdrafts etc.) corresponding to 5 percent of GDP at end-20145. Air Madagascar is aiming to restructure its balance sheet in 2016 and is seeking a publicly guaranteed domestic loan of US$25 million (0.3 percent of GDP) as well as a MGA 90 billion (0.3 percent of GDP) public capital injection (through the transformation of outstanding tax liabilities). The postal savings scheme and possibly also the Madagascar Savings Fund (CEM) could need a future recapitalization (likely less than 1 percent of GDP combined). While the government has stakes in several major commercial banks, these banks also mostly have foreign parents. Moreover, bank resources are largely composed of deposits, which exceed loans significantly. Dollarization of deposits (let alone credit) is not pronounced and banks generally maintain foreign assets that are larger than their foreign liabilities.

Underlying Assumptions

8. Apart from the increasing current account deficit, most key variables driving debt dynamics are forecasted to improve over the coming years (Box 1 and Table 2). The DSA projections are consistent with the authorities’ plan to scale-up much needed infrastructure investment and social spending. A large part of this investment will be financed through concessional external borrowing and grants, although some semi-concessional and very limited non-concessional borrowing is incorporated in projections throughout the forecast horizon. Consistent with the ceiling in the program, non-concessional borrowing (with an average negative grant element of minus 12 percent6) is foreseen at US$100 million over the 2016-19 period. Additionally, the share of the remaining financing gap that is financed by semi-concessional loans (with a grant element in the range of 20 and 35 percent) is set such that disbursements over the 2016-19 period are equivalent to what could be expected if the authorities signed the maximum amounts allowed under the quantitative performance criteria7. Over the medium term, the importance of non-concessional borrowing would increase, reducing the average grant element of new borrowing from an average above 40 percent over the next three years to 30 percent in 2036. Apart from the additional amount of short-term non-concessional borrowing, these assumptions are roughly unchanged from the previous DSA.

Box 1.Baseline Macroeconomic Assumptions

Real GDP growth. Growth is projected to accelerate gradually to about 5.0 percent a year over the forecast horizon. Differences to the 2015 DSA are small; the acceleration is slightly slower this year (mainly due to a more challenging international environment), but more dynamic in the years 2017 to 2019 (due to increased investment expanding production capacity and export potential). Medium-term growth remains driven by improved confidence, further re-engagement of development partners, and increased mining exports.

Current account. The decline in global oil and rice prices led to an improvement in the current account, which was only partially offset by lower than expected mining revenues. In the coming years, imports are projected to increase, as investment and domestic consumption recover. Over the medium term, the noninterest current account deficit is expected to decline gradually after a peak at 3.7 percent of GDP in 2018. The differences relative to the 2015 DSA are due to a slightly faster scaling up of investment related imports and a more persistent deterioration of terms of trade8.

Grants. Donor grant support has been revised down since the 2015 DSA, based on the currently uncertain outcome of negotiations between the authorities and donors. Grants may increase faster in the medium-term, if the IMF-supported program catalyzes other resources, but will likely decrease in the long-run as the country matures and gains access to alternative sources of financing.

Revenues. Revenues (excluding grants) are projected to evolve similarly as in the previous DSA, increasing by roughly ½ percent of GDP per year over the forecast horizon. Revenue collection is a leading source of vulnerability for the debt sustainability and laying the foundation for the projected increase is a key priority in the authorities’ reform program.

Expenditures. Expenditures in 2016 and the medium term are comparable to the 2015 DSA. However, the primary deficit is expected to increase in the near term in order to accommodate the scaling up of capital investment and social spending.

Table 2:Madagascar; Baseline Macroeconomic Assumptions
201620172018201920202021
Real GDP growth (percent)2016DSA4.14.54.85.05.05.0
2015DSA4.34.44.54.75.0
Non-interest CA deficit (percent GDP)2016DSA2.03.33.73.73.63.5
2015DSA1.51.83.13.23.1
Primary deficit (percent of GDP)2016DSA2.33.43.33.12.92.7
2015DSA1.73.62.82.62.5
Total revenues, excl grants (percent of GDP)2016DSA11.011.211.712.212.713.2
2015DSA10.911.311.812.212.7
Grants (percent of GDP)2016DSA2.02.81.72.02.11.8
2015DSA3.12.72.82.52.6
Non-Interest Expenditure (percent of GDP)2016DSA15.317.316.617.017.217.3
2015DSA15.317.517.117.117.3
Source: IMF staff projections.
Source: IMF staff projections.

9. The main risks to the baseline scenario relate to revenue generation, limited donor grant support, possible exchange rate shocks, and contingent liabilities related to SOEs. Continued weak revenue performance and limited donor grant support could accelerate the accumulation of new debt, while faster-than-expected depreciation of the Ariary would increase the real value of the existing stock. However, these risks are largely symmetric. The exchange rate may also surprise on the upside (by depreciating more slowly than expected), the potential for higher revenues is significant (given the low starting base), and structural fiscal reforms could stimulate greater donor support. This would increase fiscal space and facilitate a more rapid attainment of development objectives. The risks from SOEs are more asymmetric, however, with little upside. Forceful action to improve their management and control is essential to reduce the need for future transfers.

External DSA

Baseline scenario

10. The level of PPG external debt was just over US$2.5 billion at end-2015 and is projected to grow gradually throughout the forecast horizon. PPG external debt is forecast to increase from 28½ percent of GDP in 2015 to a peak of 37½ percent of GDP in 2021 (Table 3). A temporarily rising trade deficit and outflows from the mining sector (profit repatriation)9 are balanced by increasing transfer inflows, relatively strong growth, and a moderate increase in net FDI inflows10, consistent with the authorities’ National Development Plan. As domestic debt markets deepen (see below), PPG external debt is projected to decline as a proportion of GDP to 27 percent of GDP in 2036.

Table 3.Madagascar: External Debt Sustainability Framework, Baseline Scenario, 2013-361(In percent of GDP; unless otherwise indicated)
ActualHistorical 6/Standard 6/Projections
AverageDeviation2016-20212022-2036
201320142015201620172018201920202021Average20262036Average
External debt (nominal) 1/43.845.048.641.08.448.848.648.447.747.146.147.840.035.438.1
of which: public and publicly guaranteed (PPG)22.824.428.424.71.830.432.634.535.836.937.434.636.827.433.6
Change in external debt−0.51.23.73.116.30.2−0.2−0.2−0.7−0.7−1.0−0.4−1.50.4−0.7
Identified net debt-creating flows−2.2−2.91.7−4.7−3.4−3.3−3.2−3.2−3.3−4.9−6.0
Non-interest current account deficit5.60.11.68.77.22.03.33.73.73.63.53.32.30.91.9
Deficit in balance of goods and services8.74.43.512.77.13.95.55.95.95.85.95.54.83.64.5
Exports30.032.832.133.032.232.032.032.131.831.831.331.6
Imports38.737.235.536.937.737.937.938.037.836.635.036.1
Net current transfers (negative = inflow)−6.0−6.9−5.4−5.71.8−5.6−5.8−5.8−5.8−5.8−5.9−5.8−5.9−5.9−5.9
of which: official0.0−0.8−1.5−1.71.9−2.0−2.7−1.5−1.3−1.2−1.1−1.6−1.0−0.8−1.0
Other current account flows (negative = net inflow)2.92.53.61.71.23.73.73.63.63.53.53.63.53.23.3
Net FDI (negative = inflow)−5.2−2.9−4.5−5.61.9−5.0−5.1−5.2−5.1−5.1−5.1−5.1−5.1−5.1−5.1
Endogenous debt dynamics 2/−2.60.04.6−1.73.8−1.7−1.7−1.7−1.7−1.7−1.6−1.7−2.2−1.8−2.0
Contribution from nominal interest rate0.30.30.30.30.10.30.40.50.50.50.60.50.60.50.5
Contribution from real GDP growth−0.9−1.4−1.5−1.11.3−2.0−2.1−2.2−2.3−2.2−2.2−2.2−1.9−1.6−1.8
Contribution from price and exchange rate changes−1.91.15.8
Residual (3-4) 3/1.74.11.9−4.114.14.83.23.12.52.52.33.13.56.34.5
of which: exceptional financing0.00.00.00.00.00.00.00.00.00.00.0
PV of external debt 4/35.335.334.433.833.132.531.627.126.4
In percent of exports110.2107.0106.9105.5103.3101.199.285.184.4
PV of PPG external debt15.116.918.419.921.222.322.923.918.4
In percent of exports47.051.157.162.266.369.372.075.258.7
In percent of government revenues146153164171174176174158123
Debt service-to-exports ratio (in percent)1.82.32.13.13.43.63.94.04.35.25.7
PPG debt service-to-exports ratio (in percent)1.82.32.13.13.43.63.94.04.35.25.7
PPG debt service-to-revenue ratio (in percent)5.57.46.59.39.79.910.210.210.510.911.7
Total gross financing need (Millions of U.S. dollars)98.7−227.5−211.0−189.8−68.7−38.5−25.0−31.8−34.1−212.3−891.3
Non-interest current account deficit that stabilizes debt ratio6.1−1.1−2.01.83.63.94.34.24.53.80.6
Key macroeconomic assumptions
Real GDP growth (in percent)2.33.33.12.83.44.14.54.85.05.05.04.75.05.05.0
GDP deflator in US dollar terms (change in percent)4.5−2.6−11.54.511.3−4.01.91.42.12.12.31.01.91.91.9
Effective interest rate (percent) 5/0.60.60.60.90.40.60.81.01.11.21.31.01.51.61.5
Growth of exports of G&S (US dollar terms, in percent)10.79.8−10.710.017.02.93.95.67.47.56.45.66.97.56.9
Growth of imports of G&S (US dollar terms, in percent)6.9−3.4−12.77.222.43.88.86.87.27.46.86.86.46.66.5
Grant element of new public sector borrowing (in percent)32.639.637.531.633.834.935.033.631.332.7
Government revenues (excluding grants, in percent of GDP)9.610.110.410.61.011.011.211.712.212.713.212.015.214.015.0
Aid flows (in Millions of US dollars) 7/134246144351522439363484466434480
of which: Grants134246144195281177200214198216292
of which: Concessional loans0.00.00.0156.0241.5262.1162.9269.3267.9218.1188.0
Grant-equivalent financing (in percent of GDP) 8/3.44.53.43.13.12.83.42.11.51.9
Grant-equivalent financing (in percent of external financing) 8/54.261.953.350.552.952.654.252.349.151.3
Memorandum items:
Nominal GDP (Millions of US dollars)10602106749744974010372110211181712668136011909537634
Nominal dollar GDP growth6.90.7−8.70.06.56.37.27.27.45.77.07.07.0
PV of PPG external debt (in Millions of US dollars)1347.41599.21857.22149.42467.92778.03073.84502.16819.9
(PVt-PVt-1)/GDPt-1 (in percent)2.62.62.82.92.62.32.61.50.61.2
Gross workers’ remittances (Millions of US dollars)
PV of PPG external debt (in percent of GDP + remittances)15.116.918.419.921.222.322.923.918.4
PV of PPG external debt (in percent of exports + remittances)47.051.157.162.266.369.372.075.258.7
Debt service of PPG external debt (in percent of exports + remittances)2.13.13.43.63.94.04.35.25.7
Sources: Country authorities; and staff estimates and projections.

Includes both public and private sector external debt.

Derived as [r - g - ρ(1 + g)]/(1+g + ρ+gρ) times previous period debt ratio, with r = nominal interest rate; g = real GDP growth rate, and ρ = growth rate of GDP deflator in U.S. dollar terms.

Includes exceptional financing (i.e., changes in arrears and debt relief); changes in gross foreign assets; and valuation adjustments. For projections also includes contribution from price and exchange rate changes.

Assumes that PV of private sector debt is equivalent to its face value.

Current-year interest payments divided by previous period debt stock.

Historical averages and standard deviations are generally derived over the past 10 years, subject to data availability.

Defined as grants, concessional loans, and debt relief.

Grant-equivalent financing includes grants provided directly to the government and through new borrowing (difference between the face value and the PV of new debt).

Sources: Country authorities; and staff estimates and projections.

Includes both public and private sector external debt.

Derived as [r - g - ρ(1 + g)]/(1+g + ρ+gρ) times previous period debt ratio, with r = nominal interest rate; g = real GDP growth rate, and ρ = growth rate of GDP deflator in U.S. dollar terms.

Includes exceptional financing (i.e., changes in arrears and debt relief); changes in gross foreign assets; and valuation adjustments. For projections also includes contribution from price and exchange rate changes.

Assumes that PV of private sector debt is equivalent to its face value.

Current-year interest payments divided by previous period debt stock.

Historical averages and standard deviations are generally derived over the past 10 years, subject to data availability.

Defined as grants, concessional loans, and debt relief.

Grant-equivalent financing includes grants provided directly to the government and through new borrowing (difference between the face value and the PV of new debt).

11. Under the baseline projection, all PPG external debt indicators remain below the policy-dependent debt burden thresholds (Figure 2). The present value (PV) of the 2015 level of external debt, 15 percent of GDP, is projected to increase to 23 percent by 2021, but then declines again to just below 20 percent in 2036.11 This projection is broadly consistent with the medium term forecast from the last DSA conducted in 2015.

Figure 2.Madagascar: Indicators of Public and Publicly Guaranteed External Debt under Alternatives Scenarios, 2016-2036 1/

Sources: Country authorities; and staff estimates and projections.

1/ The most extreme stress test is the test that yields the highest ratio on or before 2026. In figure b. it corresponds to a One-time depreciation shock; in c. to a Exports shock; in d. to a One-time depreciation shock; in e. to a Exports shock and in figure f. to a One-time depreciation shock

12. Private external debt is projected to decline slowly, as the loans related to a major mining project are repaid. Given the exceptional nature of this project, the DSA does not forecast substantial new external borrowing from the private sector. Furthermore, this debt is not assessed to pose a significant threat to external sustainability, as the ultimate liability of these loans is held by the multinational shareholders, rather than resident entities (such as domestic banks or the government).

Alternative scenarios

13. The two standard DSA stress test scenarios are applied to the baseline external PPG debt projection. First, the standard bounds test applies pre-defined shocks to the key macroeconomic variables that drive external debt (summarized in Footnote 1 of Figure 2). Second, a historical scenario, where macroeconomic variables are assumed to equal their average over 2006-15, is imposed on the baseline projection. These shocks are detailed in Table 4.

Table 4.Madagascar: Sensitivity Analysis for Key Indicators of Public and Publicly Guaranteed External Debt, 2016-36(In percent)
Projections
201620172018201920202021202220232024202520262027202820292030203120322033203420352036
PV of debt-to GDP ratio
Baseline171820212223232424242424232322212120201918
A. Alternative Scenarios
A1. Key variables at their historical averages in 2016-2036 1/172226303438414448505355575961636466676869
A2. New public sector loans on less favorable terms in 2016-2036 2172022252728293031323232323232313131303030
B. Bound Tests
B1. Real GDP growth at historical average minus one standard deviation in 2017-2018171922232525262627272726262524242322222120
B2. Export value growth at historical average minus one standard deviation in 2017-2018 3/172026282929292929292827262625242322212020
B3. US dollar GDP deflator at historical average minus one standard deviation in 2017-2018172023252627272828282828272626252424232221
B4. Net non-debt creating flows at historical average minus one standard deviation in 2017-2018 4/172024252627272727272726252424232221212019
B5. Combination of B1-B4 using one-half standard deviation shocks172128303131323232313130292827262625242322
B6. One-time 30 percent nominal depreciation relative to the baseline in 2017 5/172528303132333333343333323131302928272626
PV of debt-to-exports ratio
Baseline515762666972747475767574737170686765636159
A. Alternative Scenarios
A1. Key variables at their historical averages in 2016-2036 1/51678295107119130139149158166173180186193199205210214219222
A2. New public sector loans on less favorable terms in 2016-2036 25161707783899395981001011011011001001009998979695
B. Bound Tests
B1. Real GDP growth at historical average minus one standard deviation in 2017-2018515661656871737374747473717069676564626058
B2. Export value growth at historical average minus one standard deviation in 2017-2018 3/517010511011311511711611611411210910610299969390868379
B3. US dollar GDP deflator at historical average minus one standard deviation in 2017-2018515661656871737374747473717069676564626058
B4. Net non-debt creating flows at historical average minus one standard deviation in 2017-2018 4/516375798284868585858381797775737168666461
B5. Combination of B1-B4 using one-half standard deviation shocks516382868991939292919088858381787673716865
B6. One-time 30 percent nominal depreciation relative to the baseline in 2017 5/515661656871737374747473717069676564626058
PV of debt-to-revenue ratio
Baseline153164171174176174173170167163158152149146143139135131127123123
A. Alternative Scenarios
A1. Key variables at their historical averages in 2016-2036 1/153194224249270288303318331341349356370382395406416425434442495
A2. New public sector loans on less favorable terms in 2016-2036 2153176192202211215217218218216212208207206205203201199197194211
B. Bound Tests
B1. Real GDP growth at historical average minus one standard deviation in 2017-2018153169188192194193191188185181175169165161158154150145141136145
B2. Export value growth at historical average minus one standard deviation in 2017-2018 3/153181227226225220216210203195185177171166160155149143138132139
B3. US dollar GDP deflator at historical average minus one standard deviation in 2017-2018153175199203205204202199196191185178174170167162158153149144153
B4. Net non-debt creating flows at historical average minus one standard deviation in 2017-2018 4/153181207208207204200195190183175167163158153148143138133128136
B5. Combination of B1-B4 using one-half standard deviation shocks153190241242241237232227220212203194188182177171165159153147156
B6. One-time 30 percent nominal depreciation relative to the baseline in 2017 5/153227237242245243241237233228220212208203199194188183177171183
Debt service-to-exports ratio
Baseline334444555555666666666
A. Alternative Scenarios
A1. Key variables at their historical averages in 2016-2036 1/3344556778910101112121314141515
A2. New public sector loans on less favorable terms in 2016-2036 2334444566777888888999
B. Bound Tests
B1. Real GDP growth at historical average minus one standard deviation in 2017-2018334444555555666666666
B2. Export value growth at historical average minus one standard deviation in 2017-2018 3/345666778888999998888
B3. US dollar GDP deflator at historical average minus one standard deviation in 2017-2018334444555555666666666
B4. Net non-debt creating flows at historical average minus one standard deviation in 2017-2018 4/334445556666666666666
B5. Combination of B1-B4 using one-half standard deviation shocks334555566677777777777
B6. One-time 30 percent nominal depreciation relative to the baseline in 2017 5/334444555555666666666
Debt service-to-revenue ratio
Baseline91010101010111111111111111212121212121212
A. Alternative Scenarios
A1. Key variables at their historical averages in 2016-2036 1/91010111213131516181920212324252628293034
A2. New public sector loans on less favorable terms in 2016-2036 29101091010121314151515161616171717171719
B. Bound Tests
B1. Real GDP growth at historical average minus one standard deviation in 2017-201891011111112121212121213131313131313131314
B2. Export value growth at historical average minus one standard deviation in 2017-2018 3/91010121212121314141414141414141414131314
B3. US dollar GDP deflator at historical average minus one standard deviation in 2017-201891112121212131313131313141414141414141415
B4. Net non-debt creating flows at historical average minus one standard deviation in 2017-2018 4/91010111111121213131313131313131313131314
B5. Combination of B1-B4 using one-half standard deviation shocks91012131313131415151515151515151515151516
B6. One-time 30 percent nominal depreciation relative to the baseline in 2017 5/91414141415151515151516161616171717171718
Memorandum item:
Grant element assumed on residual financing (i.e., financing required above baseline) 6/313131313131313131313131313131313131313131
Sources: Country authorities; and staff estimates and projections.

Variables include real GDP growth, growth of GDP deflator (in U.S. dollar terms), non-interest current account in percent of GDP, and non-debt creating flows.

Assumes that the interest rate on new borrowing is by 2 percentage points higher than in the baseline., while grace and maturity periods are the same as in the baseline.

Exports values are assumed to remain permanently at the lower level, but the current account as a share of GDP is assumed to return to its baseline level after the shock (implicitly assuming an offsetting adjustment in import levels).

Includes official and private transfers and FDI.

Depreciation is defined as percentage decline in dollar/local currency rate, such that it never exceeds 100 percent.

Applies to all stress scenarios except for A2 (less favorable financing) in which the terms on all new financing are as specified in footnote 2.

Sources: Country authorities; and staff estimates and projections.

Variables include real GDP growth, growth of GDP deflator (in U.S. dollar terms), non-interest current account in percent of GDP, and non-debt creating flows.

Assumes that the interest rate on new borrowing is by 2 percentage points higher than in the baseline., while grace and maturity periods are the same as in the baseline.

Exports values are assumed to remain permanently at the lower level, but the current account as a share of GDP is assumed to return to its baseline level after the shock (implicitly assuming an offsetting adjustment in import levels).

Includes official and private transfers and FDI.

Depreciation is defined as percentage decline in dollar/local currency rate, such that it never exceeds 100 percent.

Applies to all stress scenarios except for A2 (less favorable financing) in which the terms on all new financing are as specified in footnote 2.

14. For the standard bounds tests, two scenarios cause a breach of the thresholds for one or more indicators. A one-time 30 percent depreciation shock would cause the PV of debt-to-GDP to peak at 34 percent, slightly above the 30 percent threshold implied by Madagascar’s CPIA rating. Additionally, the PV of debt-to-revenue would peak at 245 percent, compared to a threshold of 200 percent. For this metric, a combination of smaller shocks also causes a significant breach of the threshold (see Table 4). The second scenario that would cause a breach of the thresholds is fixing export growth for 2017-2018 to two standard deviation below the historical average. It would increase the PV of debt-to-export to 117 percent by 2021, above the threshold of 100. However, this scenario should be interpreted with caution, as the coming on stream of large nickel and cobalt plants in 2012 serves to exaggerate the volatility of exports.

15. The historical scenario12projects a rapid increase in all debt metrics and causes a breach for four of the five external debt thresholds. These scenarios cause a substantial breach in the thresholds, especially for the PV of debt-to-GDP and the PV of debt-to-revenue. But there is reason to place less weight on this scenario—the very large current account deficit in 2008 and 2009 (over 20% of GDP in both years) was mainly driven by substantial imports associated with large mining investments, which were financed through non-debt creating FDI. These deficits did not lead to a build-up of PPG external debt, and this period is not representative of the normal economic environment in Madagascar.

Public DSA

Baseline scenario

16. Domestic PPG debt as a proportion of GDP is projected to decline over the next decade, with the authorities substituting away from local borrowing into concessional financing, as donor relations normalize. The importance of domestic PPG debt is then expected to partially recover, as domestic markets deepen and savings become more abundant.

17. The present value of total PPG debt is projected to remain close to 30 percent of GDP throughout the forecast horizon - below the threshold of 38 percent (Figure 3 and Table 5). Madagascar’s relatively weak revenue-to-GDP ratio leaves the authorities somewhat vulnerable on the debt service-to-revenue measure. This risk could further increase over time if interest payments (associated with less concessional financing) increased at a faster rate than revenue mobilization.

Figure 3.Madagascar: Indicators of Public Debt Under Alternative Scenarios, 2016-2036

Sources: Country authorities; and staff estimates and projections.

1/ The most extreme stress test is the test that yields the highest ratio on or before 2026.

2/ Revenues are defined inclusive of grants.

Table 5.Madagascar: Public Sector Debt Sustainability Framework, Baseline Scenario, 2013-36(In percent of GDP, unless otherwise indicated)
ActualProjections
Average 5/Standard 5/2016-212022-36
201320142015Deviation201620172018201920202021Average20262036Average
Public sector debt 1/33.935.841.034.33.041.842.843.744.545.245.744.045.336.942.7
of which: foreign-currency denominated22.824.428.424.91.830.432.634.535.836.937.434.636.827.433.6
Change in public sector debt0.91.95.20.81.10.80.80.70.5−0.6−1.9
Identified debt-creating flows3.61.84.4−0.90.70.60.40.40.3−0.9−1.8
Primary deficit3.21.72.41.31.42.33.43.33.12.92.72.91.40.11.0
Revenue and grants10.912.411.813.53.213.013.913.313.914.414.613.816.314.816.0
of which: grants1.32.31.52.92.62.02.71.61.71.71.51.91.10.81.0
Primary (noninterest) expenditure14.114.114.314.82.215.317.316.617.017.217.316.817.714.917.1
Automatic debt dynamics−1.90.92.5−1.9−2.1−2.2−2.4−2.3−2.4−2.3−1.9
Contribution from interest rate/growth differential−0.8−1.4−1.4−2.0−2.1−2.2−2.3−2.4−2.4−2.5−2.0
of which: contribution from average real interest rate−0.1−0.3−0.3−0.3−0.3−0.2−0.2−0.3−0.3−0.3−0.2
of which: contribution from real GDP growth−0.7−1.1−1.1−1.6−1.8−2.0−2.1−2.1−2.2−2.2−1.8
Contribution from real exchange rate depreciation−1.12.33.90.00.10.0−0.10.10.1
Other identified debt-creating flows2.2−0.7−0.5−1.2−0.7−0.5−0.3−0.20.00.00.0
Privatization receipts (negative)0.00.00.00.00.00.00.00.00.00.00.0
Recognition of implicit or contingent liabilities0.00.00.00.00.00.00.00.00.00.00.0
Debt relief (HIPC and other)0.00.00.00.00.00.00.00.00.00.00.0
Reduction of domestic arrears2.2−0.7−0.5−1.2−0.7−0.5−0.3−0.20.00.00.0
Residual, including asset changes−2.70.10.8−0.31.91.70.40.30.40.40.10.50.3−0.10.5
Other Sustainability Indicators
PV of public sector debt27.728.328.729.029.930.631.232.428.0
of which: foreign-currency denominated15.116.918.419.921.222.322.923.918.4
of which: external15.116.918.419.921.222.322.923.918.4
Gross financing need 2/10.19.310.412.413.811.011.510.810.09.69.310.48.38.38.4
PV of public sector debt-to-revenue and grants ratio (in percent)234.1217.2206.4218.7215.0213.2213.6198.7188.9
PV of public sector debt-to-revenue ratio (in percent)267.5256.7256.3248.8244.7241.6237.3213.6199.4
of which: external 3/145.7153.2164.5170.6173.8175.5174.2157.8131.1
Debt service-to-revenue and grants ratio (in percent) 4/22.320.524.240.767.823.921.321.420.119.519.521.018.923.220.3
Debt service-to-revenue ratio (in percent) 4/25.325.227.664.4131.028.326.424.322.922.121.724.320.424.521.8
Primary deficit that stabilizes the debt-to-GDP ratio2.4−0.2−2.8−0.22.61.52.32.52.32.12.22.22.02.01.6
Key macroeconomic and fiscal assumptions
Real GDP growth (in percent)2.33.33.12.83.44.14.54.85.05.05.04.75.05.05.0
Average nominal interest rate on forex debt (in percent)1.21.11.11.20.21.21.41.51.61.61.61.51.62.01.7
Average real interest rate on domestic debt (in percent)0.7−2.7−1.51.03.4−0.8−1.1−0.5−0.30.40.4−0.30.0−0.40.0
Real exchange rate depreciation (in percent, + indicates depreciation)−4.610.416.43.28.40.2
Inflation rate (GDP deflator, in percent)5.16.67.68.01.96.76.96.46.15.55.46.25.05.05.0
Growth of real primary spending (deflated by GDP deflator, in percent)14.33.24.32.24.511.618.60.47.66.45.58.34.2−5.14.0
Grant element of new external borrowing (in percent)32.639.637.531.633.834.935.033.631.332.7
Sources: Country authorities; and staff estimates and projections.

General government gross debt

Gross financing need is defined as the primary deficit plus debt service plus the stock of short-term debt at the end of the last period.

Revenues excluding grants.

Debt service is defined as the sum of interest and amortization of medium and long-term debt.

Historical averages and standard deviations are generally derived over the past 10 years, subject to data availability.

Sources: Country authorities; and staff estimates and projections.

General government gross debt

Gross financing need is defined as the primary deficit plus debt service plus the stock of short-term debt at the end of the last period.

Revenues excluding grants.

Debt service is defined as the sum of interest and amortization of medium and long-term debt.

Historical averages and standard deviations are generally derived over the past 10 years, subject to data availability.

Alternative scenarios

18. One of the three alternative scenarios used to stress-test the baseline breaches the risk threshold (Figure 3 and Table 6). The most extreme shock–a one standard deviation reduction of GDP growth in 2017-2018—would lead to persistent breach of the threshold for the PV of debt to GDP, starting in 2021. The historical scenario and the one, where the primary deficit as a proportion of GDP remains unchanged throughout the forecast result in the PV of debt-to-GDP ratio converging to the threshold, without significantly breaching it. However, staff and authorities agree that reducing the current gap between revenue and spending is a priority.

Table 6.Madagascar: Sensitivity Analysis for Key Indicators of Public Debt 2016-36(In percent)
Projections
201620172018201920202021202220232024202520262027202820292030203120322033203420352036
PV of Debt-to-GDP Ratio
Baseline282929303131323232333232323131313130303028
A. Alternative scenarios
A1. Real GDP growth and primary balance are at historical averages282827272727282828292930303132333436373838
A2. Primary balance is unchanged from 2016282827282828292930303131323334353637383938
A3. Permanently lower GDP growth 1/282930313233353637383939404142434445464747
B. Bound tests
B1. Real GDP growth is at historical average minus one standard deviations in 2017-2018283134363739404243444546464747484849494948
B2. Primary balance is at historical average minus one standard deviations in 2017-2018282828293030313132323231313130303030292927
B3. Combination of B1-B2 using one half standard deviation shocks282929303233353637383839393940404041414140
B4. One-time 30 percent real depreciation in 2017283635353536363636363636363535353535353433
B5. 10 percent of GDP increase in other debt-creating flows in 2017283637373738383838383837363635353534343331
PV of Debt-to-Revenue Ratio 2/
Baseline217206219215213214212209208204199193191190190189187185183181189
A. Alternative scenarios
A1. Real GDP growth and primary balance are at historical averages217197201193188185183180179177176176180184192198205212220228247
A2. Primary balance is unchanged from 2016217200206199196195193192192190189190194199206212218224230236258
A3. Permanently lower GDP growth 1/217208223222223227230231235236236236241246254261268275282289315
B. Bound tests
B1. Real GDP growth is at historical average minus one standard deviations in 2017-2018217218250252256263267270275275274273276280285289293296298300322
B2. Primary balance is at historical average minus one standard deviations in 2017-2018217202211208207208206204203199194189187186186185184182180178186
B3. Combination of B1-B2 using one half standard deviation shocks217204215217221227230232235235234232234236240243245247248249266
B4. One-time 30 percent real depreciation in 2017217256263253246243239235232227222216215214215215214213212210222
B5. 10 percent of GDP increase in other debt-creating flows in 2017217261276265260258254249245239231223220217216214211208205202211
Debt Service-to-Revenue Ratio 2/
Baseline242121201920191919191919202020212122222223
A. Alternative scenarios
A1. Real GDP growth and primary balance are at historical averages242221171616171717171718192122232425272830
A2. Primary balance is unchanged from 2016242121181717181818181819202122232425262629
A3. Permanently lower GDP growth 1/242122212021212121222223242526272930313235
B. Bound tests
B1. Real GDP growth is at historical average minus one standard deviations in 2017-2018242224232424242525252626272829303132333336
B2. Primary balance is at historical average minus one standard deviations in 2017-2018242121191819191919191919191920202121222223
B3. Combination of B1-B2 using one half standard deviation shocks242222181821212222222223232425262627282830
B4. One-time 30 percent real depreciation in 2017242325252525252525262626272828293030313134
B5. 10 percent of GDP increase in other debt-creating flows in 2017242125342123202122222222222223232324242425
Sources: Country authorities; and staff estimates and projections.

Assumes that real GDP growth is at baseline minus one standard deviation divided by the square root of the length of the projection period.

Revenues are defined inclusive of grants.

Sources: Country authorities; and staff estimates and projections.

Assumes that real GDP growth is at baseline minus one standard deviation divided by the square root of the length of the projection period.

Revenues are defined inclusive of grants.

Conclusion

19. Breaches of debt thresholds only under stress scenarios result in a moderate risk rating. While the authorities are expected to be able to service current and future debt obligations, debt sustainability is vulnerable to trade and exchange rate shocks, poor revenue collection, and contingent liabilities related to state-owned enterprises. While measures that can help address this vulnerability have been initiated, further progress is needed. They include enhanced revenue collection, improved budgetary execution, strengthened debt monitoring capacity, and improved policy and institutional performance to help secure favorable financing conditions and increase potential economic growth. It is also important to strengthen the monitoring and management of state-owned enterprises, including by publishing their audited financial statements.

20. The DSA was discussed with the authorities during the May/June mission. Staff used the results to illustrate the need for prudence when increasing external borrowing to avoid putting debt sustainability at risk and the need for structural fiscal reforms. Reforms should focus on i) increasing tax revenues to increase the capacity of the state to service debt; ii) ensure that debt continues to be financed on the most concessional terms possible; iii) ensure that investments are carefully prioritized to enhance growth and human capital accumulation; and iv) improve debt monitoring capacity, especially in terms of controlling debt guarantees and potential contingent liabilities.

Prepared by IMF and World Bank staff, in consultation with the country authorities, during the mission in May/June 2016. This DSA follows the IMF and World Bank Staff Guidance Note on the Application of the Joint Fund-Bank Debt Sustainability Framework for Low-Income Countries, November 5, 2013 (available at http://www.imf.org/external/pp/longres.aspx?id=4827).

According to the World Bank Country and Policy Institutional Assessment (CPIA) Index, Madagascar is rated as a ‘low’ performer, unchanged from the last DSA. The indicative thresholds for external debt applicable for that category of countries are: (i) 30 percent for the PV of debt-to-GDP ratio; (ii) 100 percent for PV of debt-to-exports ratio; (iii) 200 percent for the PV of debt to fiscal revenues ratio; (iv) 15 percent for the debt service to exports ratio; and (v) 18 percent for the debt service to revenue ratio. The indicative threshold for the PV of total PPG debt is 38 percent of GDP.

Much of the debt held by the central bank are in marketable debt instruments (titre de credit negociable) and relate to past BCM losses to be covered by the government and irregular government financing that have been regularized in various conventions. Statutory advances, about 30 percent of the debt owed to the central bank, will be gradually reduced to 5 percent of ordinary income starting this year.

Ambatovy is a private sector partnership of Sherritt International Corporation (40 percent) from Canada, Sumitomo Corporation (32.5 percent) from Japan, and Korea Resources Corporation (27.5 percent) from Korea.

Financial statement for 2015 not yet available.

Such a grant element is the outcome of conservative assumption regarding borrowing conditions on commercial loans, only part of which would benefit from a guarantee from an external agency; notably 8.5 percent interest, 7- years maturity and a two-year grace period.

This assumes that the signed semi-concessional projects are disbursed over a 5-year period. On average, 83 percent of the financing gap would thus be financed by semi-concessional loans, far above the 45 percent assumed in the previous DSA, which is still used for subsequent years. Semi-concessional borrowing is assumed to have a grant element of 25 percent on average, consistent with such contracts that have recently been negotiated.

Part of the CA deterioration in the years 2017-2018 is due to the cyclicality of clove harvests. According to the authorities, a multi-year cycle consists of two boom years followed by two meager years, during which exports are reduced by roughly 50 percent. Given that cloves make up around 10% of exports in boom years, the cyclicality has noticeable effects on the county’s overall external position.

The large residual in Table 3 is partly related to mining activity. Mining exports are recorded in full in the balance of payment statistics. However, only a fraction of these receipts actually returns to Madagascar, with the remainder being repatriated to the parent companies.

FDI is assumed to remain substantially below the 2011 and 2012 levels, when major mining projects were being constructed.

The capacity to service public debt is expected to grow faster than GDP considering that fiscal revenues are projected to increase in percent of GDP.

Key macroeconomic variables (non-interest current account, growth, GDP deflator, growth of exports, current official transfers and net FDI) remain fixed at the average of the 2006-15 period.

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