Abstract
This paper examines Cambodia’s 2002 Article IV Consultation and Sixth Review Under the Poverty Reduction and Growth Facility (PRGF). Supported by inflows of development aid, economic activity regained vitality in 1999. The government’s macroeconomic strategy, which was supported by a PRGF arrangement, yielded positive results. Economic performance in 2002 was broadly satisfactory. Real GDP is estimated to have slowed to 4½ percent owing to adverse weather conditions. All end-September quantitative performance criteria and the structural performance criterion for end-October were observed. Progress in structural reforms has been broadly satisfactory, albeit with some delays.
At the outset, I would like to convey the Cambodian authorities’ appreciation to the Fund management and staff for their continuous support and advice. The extensive consultation and discussions during the Fund mission had provided a comprehensive assessment and valuable suggestions on the implementation of the reform measures under the Poverty Reduction and Growth Facility (PRGF) arrangement. As such, the three-year PRGF program was completed successfully, with both quantitative and structural performance criteria observed. Such an achievement required both domestic effort and support from international community. Hence, the Cambodian authorities would like to express their gratitude to their development partners and the donor community for their support.
Notwithstanding a very weak foundation for growth, including severely damaged infrastructure, weak institutional capacity and human resource constraints, the continuous implementation of cohesive macroeconomic policy and structural reform has led the Cambodian economy to a more sustainable economic growth path. The authorities also believe that the successful implementation of the program will not only establish a sound basis for further deepening the reform process, but will also put the Cambodian economy in a much better external position.
Recent Economic Developments
Despite the global economic downturn, the Cambodian macroeconomic performance in 2002 was satisfactory and showed strong resilience. GDP was estimated to have grown by around 5.0 percent compared with 6.3 percent in 2001, due mainly to the slowdown of the global economy and the adverse impact of weather conditions on agriculture production. The annual inflation rate for 2002, based on 12-month average increased to 3.3 percent. The increase reflected the drought in some areas and insufficient rice stockpiling by farmers. Gross official foreign reserves increased steadily to US$ 665 million at the end of 2002, equivalent to 3.4 months of imports. The current account deficit improved; the ratio of current account deficit to GDP declined from 13.4 percent to about 10-11 percent (excluding grants), reflecting strong export and tourism performance, as well as capital inflows. Cambodia continues to face enormous challenges, given the weak global economic recovery, shrinking export markets, and unfavorable climatic conditions, all of which have dominated the recent macroeconomic landscape in the country.
Fiscal Policy
The Cambodian authorities have continued to implement fiscal reforms to ensure a fiscal position that would underpin macroeconomic stability. Under the PRGF-supported program, several structural measures have been implemented to strengthen tax and customs administration, including broadening the tax base and preventing leakages. Consequently, the overall fiscal performance in 2002 has been broadly satisfactory, as government revenue rose to 12.1 percent of GDP. These improvements reflect the effectiveness of several revenue measures introduced during the past two years, including the revenue recovery from Post Telegraph and Telecommunication (PTT) and the lease of government assets. The revenue target for fiscal year 2003 has been set at 12.7 percent of GDP. Hence, the current budget surplus is expected to increase to 1.4 percent of GDP compared with 0.9 percent of GDP in 2002. To meet the revenue target for 2003, the government will continue to implement vigorously fiscal measures, focusing in particular on the collection of tax arrears, and the improvement of tax and customs administration.
On the expenditure side, the government has exercised prudence, putting in place significant expenditure restraints in order to provide scope for priority spending and budget reallocation. Budget management had been streamlined through reallocation of spending to the social and economic sector. In line with its commitment to a pro-poor fiscal policy, the Cambodian government will carry out the second phase of military demobilization to divert more resources from defense and security to the social sector, which is expected to be completed by the third quarter of 2003. As a result, defense and security spending is expected to decline from 2.8 percent to 2.5 percent of GDP in 2003, while social sector spending is budgeted to increase from 3.6 percent to 3.8 percent of GDP. Administrative procedures and public sector governance would also be enhanced to ensure that social sector spending targets are achieved. Moreover, to further strengthen budget management, the government accounts have been centralized at the National Treasury.
Monetary Policy and Financial Sector Reforms
To facilitate economic development in Cambodia, maintaining price stability has been the main objective of the monetary policy framework. In addition, monetary policy remains tight to inhibit bank financing of the budget. However, the central bank’s ability to use traditional monetary instruments in its conduct of monetary policy is limited, due to high dollarization in the economy. The Cambodian authorities agree with staff that de-dollarization should be a long-term objective through maintaining macroeconomic stability. With respect to the exchange rate policy, the National Bank of Cambodia (NBC) continues to pursue a managed float exchange rate regime. Over the past two years the Riel has been stable against the US dollar in real terms. The foreign exchange intervention policy adopted by the NBC is also aimed at strengthening the official foreign reserve position.
Turning to financial sector reform, the NBC has furthered its efforts to strengthen banking sector soundness, in accordance with the blueprint for financial sector development drawn up with the assistance of ADB. In 2002, the liquidation of ten insolvent banks was completed and unclaimed deposits were fully transferred for reimbursement. The NBC is now in the process of strengthening banking supervision and issuing uniform accounting and disclosure requirements for commercial banks and specialized banks. Consequently, the banking sector has regained public confidence and deposits have increased by around 22 percent in 2002. The need to enhance credit extensions by the banking sector and credit to the rural area by micro-finance institutions has also received priority attention from the NBC. Further, the establishment of an association of banks recently would help promote market discipline, further strengthen the spirit of private-public sector partnership in the banking sector, and build up capacity.
Reform of Natural Resources Management
The authorities believe that sustainable management of its natural resources and the protection of the environment are among the main elements of its strategy for combating poverty in Cambodia. Hence, the authorities have reaffirmed that they will not step backward, but will continue to be steadfast and remain committed to the reform of the forestry sector. In this regard, the authorities have temporarily banned logging until after the management plans and agreement on restructured concessions are approved. The authorities have also canceled several concessions, and ceased log transportation.
The latest developments in the forestry sector demonstrates that forest management is a very challenging task. Despite full efforts by the government to conduct consultations with public in a transparent manner, tensions have arisen, leading to a dispute between the government and the independent monitoring unit - Global Witness (GW). The Cambodian government has no intention whatsoever to suspend or cease the process and mechanism of forest crimes monitoring. They remain committed to ensuring the continuity of this mechanism and to the nationwide implementation of a strong, effective, credible and reliable system of forest monitoring. In this connection, the authorities fully recognize the importance of the role played by an independent monitoring unit. Against this background, the authorities have proposed a flexible, constructive and compromise solution to the external donor partners, and requested their assistance in the identification of an alternative monitoring unit.
A new approach of national resources management has also been introduced with the recognition that the authorities alone would not be able to control illegal logging activities, due to a very limited number of staff. Hence, the authorities have decided to allow 132 families in villages of Preah Vihear province to own and manage forested land. They will be granted the right to control the use of their land, so that they can manage the land and help curb illegal logging activities in this sanctuary.
National Poverty Reduction Strategy (NPRS)
In January this year, the Cambodian government adopted the NPRS, which established a framework and policy direction for poverty and inequality reduction over the next three years. The macroeconomic and other key structural policies outlined in NPRS are based on I-PRSP and PRGF supported programs, in particular in the area of fiscal and financial reform, governance, military demobilization and civil service reform. In the implementation of the NPRS, the Cambodian authorities are aware of the risks and challenges including the risk of slower than expected growth. However, with extensive consultation with and participation of all government ministries and agencies, the donor community, NGOs, as well as with the poor, the Cambodian authorities believe that their efforts will be effective in reducing poverty.
Governance and Civil Service Reform
With the recognition that good governance is a prerequisite for sustainable socioeconomic development and social justice in Cambodia, the authorities continue to implement measures contained in the Governance Action Plan (GAP) that was disseminated in December 2001. While significant outcomes have already been achieved in many areas, in particular, public finance, military demobilization, and land management, greater vigilance will be needed in the areas of judicial reform, administrative reform, corruption and forestry. To complement this framework, the National Audit Authority (NAA) has been established and began operation in 2002.
Civil service reform under the three-year PRGF-supported program has also begun to bear fruit. The implementation of the nationwide computerized payroll system and the elimination of “ghost” workers have resulted in annual savings of US$ 2.2 million. Significant progress was also made in the conversion of some officials to teachers, as well as the establishment of a new remuneration grid. The Cambodian authorities agree with staff that the low quality of public services is largely attributed to the low wages in the civil service, which is approximately only one-third of the average wage of private sector employees in the formal sector. In light of this, the authorities have increased salaries for civil servants commensurably with their skills, experience and responsibility, especially for teachers and health workers.
The military demobilization program, which is aimed at transferring demobilized soldiers into productive economic sectors, has been moving forward. The first phase of military demobilization program in 2002, which involve 15,000 soldiers was successful. The authorities will continue with the second phase in which another 15,000 soldiers are expected to be discharged in the first half of 2003.
Debt Resolution
The Cambodian authorities have continued their efforts in seeking a resolution to its outstanding debts with bilateral creditors. With regard to the outstanding debt to Russia, dialogues with the Russian authorities were held twice in 2002, in Phnom Penh in June and in Washington DC in September. The agreement on rescheduling has been reached for pre-cut-off date debt which accounted for one-third of the total debt stock. This has marked significant progress in debt resolution efforts. Further negotiation will be needed for rescheduling of the post-cut-off date debt for the remaining two-thirds of the total amount. In this context, the Cambodian authorities have confirmed in written communication to the Russian authorities that they remain strongly committed to continuing negotiations to find an appropriate solution.
Regarding the outstanding debt to the US, efforts to determine the precise amount of debt have been ongoing. The Cambodian authorities look forward to further discussions on the reconciliation of the outstanding debt. At this stage, the Cambodia’s servicing of their debt will severely affect their fiscal position and put pressure on resources needed to implement their National Poverty Reduction Strategy. In this respect, the authorities would like to express their appreciation to staff for providing technical support in the debt negotiation.
Conclusion
In conclusion, with continuous support from the international community, and the authorities’ strong commitment to the program, Cambodia has made considerable progress under the three-year PRGF arrangement despite its prevailing capacity constraints and unfavorable external factors. Progress had been made in several key areas, namely, in fiscal and financial sector reforms. The authorities have expressed strong commitment to take steps to strengthen governance and build up institutional capacity, the absence of which they fully understand could undermine the investment and business climate in Cambodia. However, the success of economic reform will depend also on continued support from the international community.
With the successful implementation of the program over the past three years, the Cambodian authorities request the Executive Board’s approval for the completion of the sixth review under the PRGF arrangement and the release of the seventh disbursement. Financial and technical assistance will be needed in the years ahead to support the authorities’ ongoing efforts. The Cambodian authorities have also expressed their interest in continued Fundsupport through a successor PRGF arrangement.
Finally, on behalf of the Cambodian authorities, I would like to reiterate our appreciation to the staff, management, and the Board for their continuous support for the reform program in Cambodia.