Guinea-Bissau: 2002 Article IV Consultation–Staff Report

This 2002 Article IV Consultation highlights that in 2001, Guinea–Bissau suffered a substantial slowdown in economic activity, with real GDP growth estimated at 0.2 percent, as a result of a sizable loss of foreign program financing, a drop in the international market prices for cashew nuts of about 30 percent, and delays in implementing the demobilization and pre-2000 domestic arrears settlement programs and receiving the concomitant disbursements. Delays in implementing required structural reforms have contributed significantly to Guinea–Bissau’s current difficulties.

Abstract

This 2002 Article IV Consultation highlights that in 2001, Guinea–Bissau suffered a substantial slowdown in economic activity, with real GDP growth estimated at 0.2 percent, as a result of a sizable loss of foreign program financing, a drop in the international market prices for cashew nuts of about 30 percent, and delays in implementing the demobilization and pre-2000 domestic arrears settlement programs and receiving the concomitant disbursements. Delays in implementing required structural reforms have contributed significantly to Guinea–Bissau’s current difficulties.

I. Introduction

1. The 2001 Article IV consultation discussions with Guinea-Bissau were held in Bissau during March 7-20, 2002.1 The mission met with Mr. Sousa, the Minister of Economy and Finance, Mr. Borges, the National Director of the Central Bank of West African States (BCEAO), and other senior officials in charge of economic policy issues, as well as with business and labor representatives. The mission worked closely with a parallel World Bank mission.

2. At the end of a protracted period of conflict, in May 1999, the authorities of Guinea-Bissau adopted an economic recovery strategy and, in support of the accompanying program, the Fund’s Executive Board approved emergency post-conflict assistance in two tranches (September 14, 1999 and January 7, 2000) for a total of SDR 3.55 million (25 percent of quota)2. Guinea-Bissau’s satisfactory performance under its post-conflict arrangement created an opportunity for taking advantage of the drive in 2000 to advance countries to the decision point under the HIPC Initiative. An updated preliminary document under the Initiative for Heavily Indebted Poor Countries (HIPC Initiative) was discussed by the Boards of the World Bank and the Fund, respectively, on November 16 and 20, 20003. Guinea-Bissau reached the decision point under the enhanced HIPC Initiative on December 15, 2000.

3. A three-year arrangement under the Poverty Reduction and Growth Facility (PRGF), totaling SDR 14.2 million, was approved by the Executive Board on December 15, 2000 (EBS/00/246, 12/1/00). The first disbursement, amounting to SDR 5.08 million, was made on December 15, 2000. However, the program immediately went off track, and the first review—based on end-December 2000 performance—could not be completed. In an effort to bring the program back on track, Fund staff and the authorities agreed on a short-term macroeconomic program (STMP) for August-November 2001, but the STMP targets were missed generally. As a result, the Fund’s interim debt relief under the HIPC Initiative lapsed at end-2001.

4. Guinea-Bissau is on the standard 12-month consultation cycle. At the conclusion of the 2000 Article IV consultation (EBS/00/246,12/1/00), Directors welcomed the adoption by the government, after a protracted period of armed conflict, of an interim poverty reduction strategy paper (I-PRSP), framing the authorities’ efforts to implement a medium-term program to reestablish the basis for durable peace. They also emphasized that the attainment of the authorities’ objectives required the pursuit of prudent macroeconomic policies, a reorientation of fiscal policy away from military spending toward poverty reduction, and adequate support from the international community.

5. At end-May 2002, Guinea-Bissau’s outstanding use of Fund resources amounted to SDR 14.74 million, equivalent to 103.8 percent of quota. Guinea-Bissau is current on its obligations to the Fund. Although the authorities intended to use SDR 3.55 million (25 percent of quota) of the first disbursement under the PRGF to repurchase existing obligations in the General Resources Account under the Fund’s policy on emergency assistance to post-conflict countries, the repurchasing was not implemented. While the country has been current on its obligations to the Fund until now, uncertainties remain concerning the government’s capacity to meet its future payment obligations, in light of the fiscal situation. The next payment, in an amount of SDR 210,000, is due on June 13, 2002. Guinea-Bissau accepted the obligations of Article VIII, Sections 2, 3 and 4, with effect from January 1, 1997.

6. The World Bank, through the IDA, approved, on March 26, 2002, a US$31 million Private Sector Rehabilitation and Development Credit, building on the US$25 million Economic Rehabilitation and Recovery Credit (ERRC) approved in May 2000. Guinea-Bissau’s relations with the Fund and the World Bank are described in Appendices I and II, respectively. A description of key weaknesses in Guinea-Bissau’s statistics is provided in Appendix III. A table of social indicators is in Appendix IV. A statistical appendix accompanies this report.

II. From Conflict to a PRGF-Supported Program

7. The armed conflict between June 1998 and May 1999 displaced one-third of Guinea-Bissau’s population, and left many administrative buildings, schools, hospitals, and homes unusable. A large number of vehicles, a substantial part of the stock of heavy equipment, the industrial infrastructure, the telecommunications and water systems, and the airport were severely damaged. Thousands of land mines were scattered around the capital, the electricity generating capacity was cut, and the government’s administrative capacity was hamstrung—many civil servants had departed, computers and files had disappeared, and buildings and vehicles were in disrepair. Economic activity contracted sharply—cashew nut output fell by about 30 percent—and, with industry, trade, and services interrupted, overall GDP shrank by about 28 percent in 1998.

8. In May 1999, the authorities of Guinea-Bissau set out a recovery strategy at a UN-sponsored donor roundtable in Geneva, Switzerland. The approach set out included as elements the following: the reconstruction of basic infrastructure, the return of displaced persons, the demobilization and reinsertion into civilian life of the armed forces, the removal of land mines, the rehabilitation of social sectors, support for private sector recovery, the clearance of accumulated government domestic arrears, the organization of democratic elections, and the reestablishment of law and order.

9. Under a program supported by the Fund’s emergency post-conflict assistance, in addition to the objectives set out at the Geneva conference, the government undertook to do the following: ensure the availability of rice seed for the planting season, settle government domestic arrears accumulated through mid-1998, accelerate the payment of obligations contracted during the conflict, become current on civil service wage and pension payments for the first half of 1999, rehabilitate government revenue administration and collection, and restore the strength of the external debt office. For 1999, the program targeted GDP growth of 7.5 percent, with cashew nut production rising by 32 percent to 50,000 tons. Under these assumptions, it was projected that government revenue would reach the equivalent of 11.7 percent of GDP, compared with the 15.3 percent achieved in 1997, while current primary expenditure under the program would rise to the equivalent of 13.6 percent of GDP, as against 9.9 percent of GDP in 1997.

10. Performance under the post-conflict program was judged to be satisfactory. Displaced persons returned home, landmines were removed, and democratic elections were held. In 1999, cashew nut production rose by 45 percent to 55,000 tons, the output of rice and other cereals recovered to or exceeded their 1997 levels, GDP grew by 8 percent, and consumer prices fell by 2 percent. Government revenue collections exceeded projections, reaching the equivalent of 17.8 percent of GDP and, although the primary spending target was exceeded by 2 percent of GDP and new domestic arrears were accumulated, the indicator for the primary current budget balance was met.

11. With an external debt of US$610 million in net present value (NPV) terms (equivalent to 1,200 percent of exports), it was clear that substantial debt relief would be needed to put the country on a sustainable macroeconomic path. Success in resettling refugees and in organizing elections had encouraged broad donor support. Furthermore, the move to a PRGF-supported arrangement and to the HIPC Initiative decision point appeared appropriate, given the progress achieved during the post-conflict period.

12. The PRGF-supported arrangement for 2000-03, approved in December 2000, aimed to consolidate and build upon post-conflict achievements—targeting real GDP growth of 8.5 percent in 2001, with inflation limited to 4 percent and an accumulation of net foreign assets at the Central Bank of West African States (BCEAO). Elements of the underlying strategy set out at the May 1999 Geneva conference were retained: the demobilization of armed forces, regularization of pre-2000 government domestic obligations, and restoration of critical infrastructure. Actions to restructure the public enterprise sector and strengthen the banking system, including the troubled International Bank of Guinea-Bissau (BIGB), were added to the critical reform agenda.

13. In consolidating fiscal policies, the program aimed to strengthen revenue collection, better target spending to favor poverty reduction, and improve Financial administration. Revenues were projected to reach 15.9 percent of GDP in 2000 and 16.4 percent of GDP in 2001 To accommodate an expansion in social services, current primary spending was programmed to increase by 2 percentage points (relative to the 1999 program) in 2000, and by a further 1 percentage point in 2001 to 15½ percent of GDP; meanwhile, the wage bill was to be limited to 6.1 percent of GDP in 2000 and to 5.7 percent of GDP in 2001. Domestic arrears were to have been reduced by 4.5 percent of GDP in 2000 and by a further 3 percent of GDP in 2001.

14. While a market-oriented economy remained in place, the conflict was followed by a period of political transition that adversely affected the management and structure of economic institutions. During the political transition, in which the executive party maintained a minority in the legislature, the newly adopted constitution remained unsigned, and the executive faced limits to its authority that constrained its decision-making. 4

III. Performance Under the PRGF and Recent Economic Developments

A. Performance under the PRGF

15. By end-2000, the program was substantially off track. Fund missions in early 2001 found a loss of budgetary control during 2000, as unauthorized expenditures equivalent to about 10 percent of GDP, largely on defense, were financed by credit from the banking system as well as by promissory notes. As a result, the performance criteria for net banking system credit to the government and the primary current budgetary balance were missed by substantial margins, while the structural performance criterion on the adoption of an action plan for the largest commercial bank, BIGB, was not observed (Table 1). These problems continued during the first part of 2001, albeit less dramatically. By end-June, the primary deficit was about 3.5 percent of GDP above the adjusted program ceiling. In order to finance the corresponding operations, the authorities drew CFAF 2.5 billion from a deposit account earmarked for the demobilization program and accumulated civil service wage arrears totaling about CFAF 1.2 billion and nonwage domestic arrears amounting to about CFAF 2 billion.

Table 1.

Guinea-Bissau: Performance Criteria, Indicators, and Structural Benchmarks, December 2000-December

(Cumulative change from the beginning of calendar year, in billions of CFA francs, unless otherwise indicated)

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Downward adjustment by taking into account the shortfall in actual net reduction of domestic payment up to CTAF 1.1. billion

Downward adjustment by taking into account one-half of the shortfall in privatization revenues (Sep. 2000-Dec 2001). Upward adjustment of one-half the excess in privatization revenues (sep. 2000-Dec. 2001) if spent on social sectors.

Upward/downward adjustment by one half the difference in debt relief from programmed amounts; upward adjustments if spent on social sectors.

The data on external debt relief were subsequently revised; the adjusters have been calculated on the basis of the revised figures.

Upward/download adjustment by taking into account one-half of the difference in non-project-related budgetary assistance from programmed amounts. program exchange rate of CFAF 707.6 per U.S. dollar.

In “central government operation” table, privatization revenues are recorded in financing.

16. With the program off track, projected donor program assistance in the first half of 2001, equivalent to about 4 percent of GDP and contingent on reasonable macroeconomic performance, was not forthcoming. Moreover, delays were experienced in implementing the demobilization and pre-2000 arrears settlement programs. Given this, the Fund staff and the authorities agreed on a short-term macroeconomic program (STMP) for August-November 2001 that introduced a strict cash-flow treasury plan and measures to regain control over budget execution, strengthen tax and customs administrations, and avoid the further accumulation of domestic arrears. If fully implemented, the STMP would have brought the primary fiscal deficit and net banking system credit to the government close to the performance criteria set under the PRGF-supported program for 2001.

17. The authorities made a concerted effort to stay within the STMP framework, at least initially. Performance related to the domestic primary current balance and net credit from the banking system was better than targeted during August-September 2001, and the reported accumulation of unpaid bills during this period was moderate. However, the wage bill exceeded benchmarks from the outset, and, with exceptional payouts for unprogrammed items amounting to CFAF 1.8 billion during October-November, the STMP targets were missed generally.

18. In December 2001, the receipt of CFAF 6 billion for fishing licenses and CFAF 1.3 billion in external budgetary support provided an opportunity to reconstitute government deposits, which, in turn, could be used to finance seasonal operating deficits during the first part of 2002. However, increased budgetary and extrabudgetary spending, ad hoc repayments of selected domestic arrears, and the partial reimbursement of borrowing from demobilization accounts limited the restoration of budgetary liquidity to about CFAF 2 billion. Performance criteria, structural benchmarks, and performance indicators for the PRGF-supported program for end-December 2001, with the exception of net banking system credit to the government and the contracting of nonconcessional external debt were not observed.

B. Recent Economic Developments

19. GDP growth in 2001, estimated at 0.2 percent, was substantially below the 8.5 percent that had been projected (Table 2). While cashew nut output increased substantially (7.4 percent), international market prices for cashew nuts, which account for 95 percent of exports, declined by about 30 percent. A drop in rice production (15 percent) combined with the reduced domestic demand resulting from the fall in cashew income and from the delayed disbursement of external transfers led to weaker-than-anticipated growth in the rest of the economy. In this environment, consumer prices fell substantially during November and December 2001, ending the year 1.9 percent below the level of December 2000.

Table 2.

Guinea-Bissau: Selected Economic and Financial Indicators, 1997-2002

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Sources: Guinea-Bissau authorities; and staff estimates and projections.

In 1997, at constant exchange rates and excluding recapitalization of the Central Bank of Guinea-Bissau (BCGB).

In percent of beginning-of-period stock of broad money.

Includes cost of demobilization and public service reform.

For 2000-03, only includes project grants.

After application of traditional debt-relief mechanisms.

20. The substantial slowdown in economic activity and weak prices for cashew nuts led to a shortfall in government tax collections. In 2001, tax revenue collected, at CFAF 14.7 billion, fell 18 percent short of program projections (Table 3). The tax shortfall was, however, largely offset by a public enterprise dividend equivalent to 1.3 percent of GDP, and, as a result, the 19½ percent of GDP in total revenue collected was close to target.

Table 3.

Guinea-Bissau: Central Government Operations, 2000-02

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Sources: Gunea-Bisseu authorities; and staff estimates and projections;

In 2000 the unallocted expenditures include those non authorized and paid with hours de virement (CFAF 10.8 billion) and checks (CFAF 1.3 billion);

In 2001 excludes CFAF 1.5 billion (0.9 percent of GDP in current arrears not reflected in spending data.

Includes the government accounts in the Central Bank of West African States (BCEAO) statistics. At end 2000 the project balances were included in the BCEAO statistics.

The amount in 2001 reflects payment due to bilateral, non-paris Club creditors which are currently under negotiation

21. As current domestic primary spending amounted to CFAF 29.3 billion (20.1 percent of GDP) in 2001, the programmed current primary balance was missed by CFAF 2.2 billion (1.5 percent of actual GDP). The structure of spending, however, varied considerably from the structure that had been targeted: the wage bill exceeded the target by CFAF 1.1 billion (0.7 percent of GDP), while savings (equivalent to 3 percent of GDP) on outlays on goods and services were offset by extrabudgetary spending.

22. Investment outlays fell far short of programmed levels in 2001: domestically financed investment was limited to 1.7 percent of GDP, while externally financed projects and programs, including demobilization and restructuring operations, fell short of projections at 12 percent of a lower-than-expected GDP. As substantial external grants for investment financing were not received, the overall deficit, including grants, was limited to 10.7 percent of GDP, as opposed to a deficit foreseen under the program equivalent to 13½ percent of GDP. Financing for the deficit amounted to 11 percent of GDP from external sources, including HIPC Initiative and Paris Club debt relief and project borrowing, with domestic sources accounting for the residual, including 3.8 percent of GDP in accumulation of domestic arrears, and errors and omissions, possibly counterpart to additional spending, accounting for 5.1 percent of GDP.

23. In January 2002, budgetary revenue fell to CFAF 1.1 billion while domestically funded spending amounted to CFAF 3.1 billion, owing to continuing exceptional outlays. As a result, government deposits were drawn down to a negligible level and wage and nonwage arrears were accumulated. With its current operations continuing in deficit during February 2002, the government borrowed CFAF 1.1 billion short term on commercial terms during the last week of that month. While this borrowing allowed the arrears on January wages to be cleared, the average principal payments of CFAF 400 million per month during March-May 2002 for this loan were deducted from current receipts, thereby further preventing the government from meeting its obligations during this period.

24. Monetary and credit policies are conducted by the BCEAO in a regional context. In 2001, the net foreign assets of the banking system increased by CFAF 3.1 billion (equivalent to 4.9 percent of beginning-of-period money) (Table 4). Although net banking sector credit to the government, narrowly defined, declined by CFAF 0.4 billion, after adjustments for the use of demobilization and fishing project deposits the government’s net balance with the banking system deteriorated by CFAF 0.8 billion. Taking account of this adjustment, net credit to the private sector declined by about CFAF 100 million during the year. Because of this decline, as well as the impact of the deterioration in the “other items, net” category of the banking sector on currency in circulation, the money supply increased by 10 percent during 2001.

Table 4.

Guinea-Bissau: Monetary Survey, 1999-2002

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Sources: Central Bank of West African States (BCEAO)-Bissau; and staff estimates and projections.

25. Commercial banking in Guinea-Bissau suffered a serious setback as the second-largest commercial bank, the Banco Tota y Acores (BTA), ended its operations in the country on March 31, 2002, following the takeover of the bank’s Portuguese parent by a Spanish bank. The BTA closure was followed in mid-April 2002 by the liquidation of the largest bank, the BIGB, whose operations had been largely suspended since 2000, as its financial position deteriorated. At present, commercial banking services are provided by a single—and relatively small—bank operating out of its head office in Bissau.5

26. In 2001, Guinea-Bissau’s external current account balance with the rest of the world, excluding official transfers, remained roughly unchanged from the preceding year although income from the export of cashew nuts and other goods fell by almost 24 percent (Table 5). Reflecting both a drop in import prices (-1 percent) and the weak domestic economy, merchandise imports fell by 7 percent, and the balance on services trade improved moderately. There was also a marked improvement in private sector current remittances on account of a US$8.5 million (4 percent of GDP) decline in official balance of payments grants and higher scheduled interest payments. The overall deficit on the external current account, including official transfers, widened by US$9.4 million between 2000 and 2001 (4.7 percent of GDP). Notwithstanding this and a sharp decline in the capital and financial account surplus, there was a modest rise in gross official reserves, which amounted to US$71.6 million in 2001 (equal to 7.4 months of imports of goods and nonfactor services). The latter reflected financing obtained through debt rescheduling and some accumulation of arrears.6

Table 5.

Guinea-Bissau: Balance of Payments, 1997-2005

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Source: Guinea-Bissau authorities; and staff estimates and projections.

This figure takes into account World Food Program (WFP) food aid and technical assistance 10 projects.

In 1997, balance of payments presentation differs from monetary survey as the treasury took over US$23.7 million of external liabilities from the Central Bank of Guinea-Bissau in the context of its recapitalization.

The amount in 2001 reflects payments due to bilateral, non-Paris Club creditors, which are currently under negotiations.