Resilience and Growth in the Small States of the Pacific
Chapter

Appendix 9. Timor-Leste

Author(s):
Hoe Khor, Roger Kronenberg, and Patrizia Tumbarello
Published Date:
August 2016
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Timor-Leste, the eastern half of the island of Timor, has a land area of about 15,000 square kilometers. Its territory also includes the nearby islands of Atauro and Jaco, as well as Oecussi, an exclave in the Indonesian side of the island. Timor-Leste has a population of about 1 million.

A former Portuguese colony, Timor-Leste became a sovereign state in 2002 after gaining independence from Indonesia. The president is the head of state, elected for a five-year term. The president appoints the leader of the majority party or coalition as prime minister. The National Parliament’s legislative chamber has 65 elected members.

Timor-Leste has made considerable progress in recent years, overcoming many severe challenges. It achieved lower-middle-income status in 2011 and the Strategic Development Plan (2011–2030) aims for upper-middle-income status and a substantial reduction in poverty by 2030. Nominal GDP per capita is US$4,974, but nonoil GDP per capita, in 2013, is significantly lower, at US$1,172.

Sources of Growth and Economic Profile

Main sources of growth. The economy is heavily reliant on the oil sector, which accounts for nearly 70 percent of total GDP and for almost all overseas-sourced income. Oil production started around 2005 and rapidly grew in importance; it now dominates the economy. High growth in nonoil GDP has been driven by public spending financed largely by withdrawals from the Petroleum Fund, the country’s sovereign wealth fund. Construction, government services, and public administration have been the main sectors contributing to nonoil growth in recent years. Agriculture and manufacturing made only very small contributions.

Production, employment, exports, and imports. Sectors with a high dependence on government spending, such as construction, have led growth. Labor-intensive sectors such as agriculture have been weak and unemployment remains widespread, with a high share of the labor force either in informal or vulnerable employment (that is, unpaid family workers and the self-employed). A large current account surplus reflects the dominance of oil receipts but, given little domestic production, there is a heavy dependence on imported goods. Coffee exports account for about 90 percent of nonoil exports, but are small in absolute terms. There is a large structural deficit in the nonoil trade balance.

External income. Earnings from oil and gas reserves are Timor-Leste’s major source of external income. Oil revenues are channeled into the Petroleum Fund, established in 2005, which stands at over US$16 billion (approximately four times the current estimate of GDP and 11 times the current estimate of nonoil GDP).

Development aid. Official development assistance was especially important in the years after independence, but has fallen in significance as oil revenues have grown. Development aid financed about 17 percent of expenditures in 2014. The major donors are Australia, United Nations agencies, the World Bank, the Asian Development Bank, and the European Union. Foreign aid is concentrated in governance, health, education, agriculture, and public works. Technical assistance has been provided by several institutions including the IMF as part of the international community’s efforts to assist in the initial reconstruction and development of the economy. Technical assistance has focused on establishing key economic institutions and public financial management (including the fiscal regime for petroleum), and on developing statistical infrastructure.

Public finances. Government expenditure has grown sharply since independence, with the government focusing on development targets and nation building. Capital expenditure accounted for 20 percent of the budget in 2015, a reflection of severe infrastructure needs, and recurrent spending has risen strongly in recent years due to transfers and subsidies. Government finance is sourced primarily from oil and gas revenues, interest from the Petroleum Fund, and grants and concessionary loans. The Petroleum Fund Law requires the calculation of an estimated sustainable income level for each fiscal year; this represents the level of withdrawal that will ensure the stabilization of the real value of the fund. The law permits withdrawals in excess of this level if they are in the country’s long-term best interest.

Financial sector. The financial sector remains small, with low penetration rates and limited access to finance for the private sector. The banking sector comprises four banks, two “other deposit-taking institutions” (supervised institutions that work on microfinance principles), a large number of small financial cooperatives, and two foreign-owned general insurers. Three of the banks are branches of international banks; the other is government owned and was recently upgraded from a microcredit institution. It is the only bank in Timor-Leste with its own capital base. Banks maintain substantial excess liquidity that is placed abroad, because lending is limited by a number of structural impediments. Reflecting high risks, interest rate spreads are wide. Safeguarding the banking system’s soundness will become increasingly important as the financial sector develops.

Investment and business climate. The “organic” private sector, not linked to government, remains very small. Enhanced human capital, streamlined procedures, contract enforcement, and increased access to finance would greatly improve private sector development. The government has several initiatives underway to boost the private sector and stimulate entrepreneurship, including establishing a one-stop shop for new businesses and for developing public-private partnerships.

Exchange rate and competitiveness. The U.S. dollar was adopted as the currency in 2000, and Timor-Leste maintains an exchange system free of restrictions on payments and transfers for international transactions. Inflation pressure over 2011–13 (notwithstanding the decline in inflation over 2014) has resulted in a substantial appreciation in the real effective exchange rate, undermining diversification efforts.

Growth Challenges, Vulnerabilities, and Spillovers

Main growth challenges. Converting oil wealth into long-term sustainable growth, boosting the quality of growth, and creating sustainable jobs by catalyzing the private sector are the main growth challenges. Although the oil sector has supported government revenue and expenditure, it has not created a sufficient number of jobs. Social and physical development needs remain large. Good governance and accountability frameworks are in place, but public sector implementation capacity has been weak.

Main vulnerabilities. Key risks are fiscal spending above sustainable levels that boosts inflation and hampers economic diversification and poverty reduction; failure to develop new sources of growth amid falling production in existing oil fields and lack of inclusiveness and poverty reduction, which could result in social discontent and pressures for expansionary policies.

Global and regional economic spillovers. Timor-Leste’s exposure to global financial conditions is limited by low levels of nonoil trade and capital account integration. However, fluctuations in global financial markets directly affect the investment returns of the Petroleum Fund, which will grow in importance as oil and gas receipts decline. Low oil prices would impact future investment and oil revenues and, hence, GDP growth.

Appendix Table 9.1Timor-Leste: Selected Economic Indicators, 2010–15
Nominal GDP (2013): US$5.6 billionGDP per capita (2013): US$4,974
Main export products: Oil, coffeePopulation (2015): 1.2 million
Remoteness (GDP-weighted distance): 8,339 km
Sources: Timor-Leste authorities; and IMF staff estimates as of April 2016.Note: … = data not available.

Public gross fixed capital formation.

Index, 2005 = 100.

Share in total loans, not including small loan scheme.

World Bank, Doing Business reports.

United Nations Development Programme.

1991–20002001–092010–1520142015
AverageAverageAverage2010201120122013EstimatedPreliminary
GDP, GDP growth, employment, and prices
Real GDP (percent change)26.6−2.6−3.312.65.3−13.9−15.8−0.6
Oil88.1−7.1−18.714.6−16.03.9−23.6−3.0
Nonoil5.26.39.49.56.42.85.54.3
Real GDP per capita (percent change)24.2−4.2−3.910.63.4−15.4−17.3−2.4
Unemployment (percent)
Consumer prices (percent change, average)4.56.75.213.210.99.60.80.6
Shares in real GDP (percent)
Largest sector (oil)59.769.274.675.960.673.1
Second largest sector (public administration)5.56.24.34.34.65.9
Third largest sector (construction)3.75.43.85.24.75.0
Tourism
Agriculture, forestry and fishing11.04.74.73.33.94.6
Contributions to real GDP growth (percent)
Largest sector (oil)26.2−5.8−16.610.9−12.22.4
Second largest sector (public administration)0.70.70.50.50.50.5
Third largest sector (construction)−0.30.20.22.0−0.2−0.4
Agriculture, forestry and fishing0.30.0−0.1−0.90.80.0
Sources: Timor-Leste authorities; and IMF staff estimates as of April 2016.Note: … = data not available.

Public gross fixed capital formation.

Index, 2005 = 100.

Share in total loans, not including small loan scheme.

World Bank, Doing Business reports.

United Nations Development Programme.

Share in real GDP (percent)
Private consumption
Private investment
Public consumption
Public investment1
Exports minus imports
Contributions to real GDP growth (percent)
Private consumption
Private investment
Public consumption
Public investment
Exports minus imports
Public finances
Central government finance (percent of GDP)
Revenue and grants57.963.567.166.661.166.158.661.5
Domestic revenue3.03.12.11.82.02.73.96.5
Petroleum revenue22.654.857.559.855.558.748.548.9
Grants32.45.57.64.93.74.76.26.1
Expenditure41.431.826.324.022.024.037.457.3
Current7.617.412.48.710.413.120.939.1
Of which: wages and salaries2.33.12.21.91.92.53.76.5
Capital2.68.86.210.47.96.310.211.7
Overall balance16.531.740.842.639.142.121.24.2
Nonoil overall balance−6.1−23.1−16.6−17.3−16.4−16.6−27.3−44.7
Financing6.123.116.617.316.416.627.344.7
Petroleum fund withdrawal23.119.918.222.013.016.848.8
Borrowing0.20000.10.40.9
Of which: external
Of which: concessional
Public-debt-to-GDP ratio (percent)0000.10.51.8
Petroleum fund
Closing balance (US$ million)12,6166,9049,31011,77514,95216,53916,218
Closing balance (percent of GDP)294.8169.7160.9173.0267.2379.2619.1
Sources: Timor-Leste authorities; and IMF staff estimates as of April 2016.Note: … = data not available.

Public gross fixed capital formation.

Index, 2005 = 100.

Share in total loans, not including small loan scheme.

World Bank, Doing Business reports.

United Nations Development Programme.

Balance of payments (percent of GDP, unless otherwise indicated)
Current account including official transfers15.734.441.240.640.242.725.116.5
Current account excluding official transfers−14.826.326.829.632.339.422.76.9
Overall balance2.40.63.81.06.2−3.5−8.64.9
External debt service (percent of exports of goods and services)
Foreign direct investment1.81.11.30.20.81.11.41.8
External debt
Main sources of external income (total)25.956.859.661.957.161.049.951.3
Oil and gas23.748.952.056.052.354.441.737.4
Investment income1.66.14.93.83.04.97.612.5
Remittances0.61.72.62.21.81.70.61.5
Contributions to external income growth (percent)
External income growth110.7−0.726.347.88.4−12.2−36.3−38.2
Oil and gas106.7−1.423.846.38.9−13.3−35.9−38.5
Investment income3.00.91.90.7−0.31.71.6−0.2
Remittances1.0−0.20.60.8−0.2−0.6−2.00.5
Real effective exchange rate (period average)2101.1122.6100.0103.2115.5131.6134.9150.1
(percent change)−0.96.7−2.83.211.914.02.511.2
Money, credit, and financial sector
Broad money (percent change)30.215.99.99.326.222.919.97.1
Credit to private sector (percent of GDP)4.23.82.72.32.43.24.48.1
(percent change)12.85.921.120.513.65.510.5
Bank assets (percent of GDP)14.98.37.08.211.918.535.4
Short-term treasury bill interest rate
Nonperforming loan ratio32.741.736.330.828.026.822.9
Foreign bank market share (percent)3
Business climate indicators
Business environment rankings4
Doing business (overall)164.5150159164174167173
Construction permits115.2859199109153154
Sources: Timor-Leste authorities; and IMF staff estimates as of April 2016.Note: … = data not available.

Public gross fixed capital formation.

Index, 2005 = 100.

Share in total loans, not including small loan scheme.

World Bank, Doing Business reports.

United Nations Development Programme.

Getting electricity39.7101515148995
Enforcing contracts181.8172174178189189189
Getting credit163.7163165167165160162
Human development index50.60.60.60.60.6
Memorandum:
Nominal GDP (US$ million)1,976.14,872.94,068.05,787.06,807.05,595.04,360.92,619.6
Oil1,437.23,628.03,134.04,649.05,512.04,276.02,989.71,207.3
Nonoil538.91,244.9934.01,138.01,295.01,319.01,371.21,412.4
Sources: Timor-Leste authorities; and IMF staff estimates as of April 2016.Note: … = data not available.

Public gross fixed capital formation.

Index, 2005 = 100.

Share in total loans, not including small loan scheme.

World Bank, Doing Business reports.

United Nations Development Programme.

Sources: Timor-Leste authorities; and IMF staff estimates as of April 2016.Note: … = data not available.

Public gross fixed capital formation.

Index, 2005 = 100.

Share in total loans, not including small loan scheme.

World Bank, Doing Business reports.

United Nations Development Programme.

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