Uruguay
Second Review Under the Stand-By Arrangement, Requests for Modification and Extension of the Arrangement, and Waiver of Nonobservance and Applicability of Performance Criteria, and Exchange System — Staff Report; Staff Supplements; Press Release on the Executive Board Discussion; and Statement by the Executive Director for Uruguay
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International Monetary Fund
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Publication Date:
25 Apr 2003
eISBN:
9781451839227
Language:
English
Keywords:
ISCR; CR; debt; financing; government debt exchange; Uruguay; debt exchange; debt service; IDB program disbursement; renewed deposit outflow; nonresident deposit; economic activity
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This paper examines Uruguay’s Second Review Under the Stand-By Arrangement, Requests for Modification and Extension of the Arrangement, and Waiver of Nonobservance and Applicability of Performance Criteria and Exchange System. Progress on the structural front has been mixed. The macroeconomic framework is based on a return to economic growth. Notwithstanding the risks to the program, the IMF staff recommends completion of the second review and approval of the authorities’ requests for waivers, extension of the arrangement, and rephasing of purchases.

Abstract

This paper examines Uruguay’s Second Review Under the Stand-By Arrangement, Requests for Modification and Extension of the Arrangement, and Waiver of Nonobservance and Applicability of Performance Criteria and Exchange System. Progress on the structural front has been mixed. The macroeconomic framework is based on a return to economic growth. Notwithstanding the risks to the program, the IMF staff recommends completion of the second review and approval of the authorities’ requests for waivers, extension of the arrangement, and rephasing of purchases.

I. Background and Recent Developments

1. Since 1998, Uruguay has experienced a severe downturn in economic activity—the sharpest in Latin America, after Argentina. Following average annual rates of growth of 3½ percent during 1990-98, real GDP contracted by 7½ percent during 1999-2001 and by a further 11 percent in 2002 (Table 1 and Figures 1 and 2). This decline reflected primarily the weakening in the regional economy, the Argentine crisis, and the lack of access to credit. While inflation reached 26 percent in 2002, private sector wages remained virtually flat in nominal terms, in a context of high unemployment rates (18.6 percent by year-end).1 Imports contracted sharply in U.S. dollar terms (36 percent), and the external current account balance shifted from a deficit of 2.9 percent of GDP in 2001 to a surplus of 1.2 percent (Table 2).

Table 1.

Uruguay: Selected Economic and Financial Indicators

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Sources: Data provided by the Uruguayan authorities; and Fund staff estimates.

Evaluated at the accounting exchange rate of Ur$29/US$ for2003.

Defined as changes in reserve assets.

Defined for combined public sector.

Excludes nonresident deposits.

Residual maturity. Does not include nonresident deposits.

Figure 1.
Figure 1.

Uruguay: Selected Economic Indicators

Citation: IMF Staff Country Reports 2003, 116; 10.5089/9781451839227.002.A001

Figure 2.
Figure 2.

Real Exchange Rate Indicators

Citation: IMF Staff Country Reports 2003, 116; 10.5089/9781451839227.002.A001

Table 2.

Uruguay: Summary Balance of Payments, 2000–04

(In millions of U.S. dollars)

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Sources: Central Bank of Uruguay and Fund staff estimates.

2. In 2002, the economic recession was compounded by a financial crisis. Initially confined to non-residents, deposit outflows accelerated in March, spreading to resident depositors as a result of problems at two local banks and events in Argentina. Growing concerns about financial sustainability led to a sharp downgrade in Uruguay’s sovereign credit rating. To help stabilize the banking system, in June and August the Fund approved two substantial augmentations of access (totaling SDR 1.5 billion) under the stand-by arrangement. In early August, the central bank suspended the operations of four private domestic banks; reprogrammed foreign currency time deposits in public banks by up to three years; and established a Fund for the Stabilization of the Banking System (FSBS) designed to fully back existing foreign currency sight deposits at domestic banks. This strategy, supported by additional financial assistance from the Fund, the IDB, and the World Bank, helped stop the deposit outflows during the remainder of the year. Private sector deposits with the banking system bottomed out in early October 2002 and rose by US$235 million (3 percent) in the last quarter. The end-December NIR and NDA performance criteria were observed (Table 3).

Table 3.

Uruguay: Performance Under the 2002 Economic Program 1/

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Sources: Ministry of Economy and Finance; and Central Bank of Uruguay.

As defined in the Technical Memorandum of Understanding.

Indicative target.

Cumulative from end-June 2002.

Adjusted for upwards/downwards for any increase/decrease in disbursements from the World Bank and IDB.

All maturities. Adjusted for debt issued for recapitalization of banks.

Cumulative from end-December 2001.

Uruguay: U.S. dollar deposits (changes)

(In millions of U.S. dollars)

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Sources: Central Bank of Uruguay.

3. A new round of deposit outflows took place in late January, but it has now stopped. Concerns about the status of the government’s economic program as well as rumors of pesification of bank deposits and loans prompted renewed deposit outflows, partly reversing the reflows registered in the last quarter of 2002. Reflecting these outflows as well as public sector market debt payments, gross official reserves fell to about US$540 million by end-February 2003, equivalent to only half the domestic reserve liabilities of the central bank. Despite the recent volatility in deposits, the exchange rate has remained relatively stable.

4. In recent months, exchange rate stability has led to a steady decline in short-term peso interest rates. Peso bill rates have fallen from over 150 percent last September to 55 percent at end-February 2003. The government has also resumed U.S. dollar bill auctions, albeit of very limited sizes and maturities. Since the beginning of this year, it has built up a stock of US$35 million of the U.S. dollar bills, auctioned at average interest rates of between 6 and 9 percent.

uA01fig02

Urgency: Exchange rate and inflation

Citation: IMF Staff Country Reports 2003, 116; 10.5089/9781451839227.002.A001

5. In 2002, the improvement in the primary balance of the combined public sector was less than expected. The primary balance is estimated to have shifted from a deficit of 1.1 percent on GDP in the first half of 2002 to a surplus of 1.6 percent in the second half (Table 4). However, for the year as a whole, the improvement was lower than envisaged under the program, with an estimated surplus of 0.3 percent of GDP compared with 1.4 percent. Tax collections fell short of program projections despite the adoption of two tax packages in February and May 2002, which included an increase in the tax on wages and pensions, new excise taxes on the tariffs charged by public utilities, and a broadening of the VAT base. The operating surplus of public enterprises was also lower than programmed, mainly because tariff adjustments lagged behind the increases in costs (a large share of which is linked to exchange rate variations). As noted in paragraph 13 and Box 1, significant adjustments in public tariffs are to take place in 2003.

Table 4.

Uruguay: Public Sector Operations, 2000–04 1/

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Sources: Ministry of Finance; and Fund staff estimates.

Program figures including extra budgetary operations.

Excludes contributions that are transferred to the private pension funds.

Includes central government transfers to BPS, Caja Militar and Caja Policial.

Preliminary figures suggest that the PC on the cumulative overall balance was missed. This result might be reverted pending submission of the official below-the-line fiscal data.

6. Expenditure restraint, together with lower interest payments, helped limit the fiscal shortfall. In 2002, public sector wages and salaries were raised by only 1½ percent, compared with an end-of-period inflation rate of 25.9 percent. Total non-wage expenditure declined by an average of 12 percent in real terms, but central government social expenditure (including education, health, and housing) was largely protected, falling only by 7 percent in real terms while real unemployment benefits rose by about 10 percent. Interest payments were significantly lower than expected, in part due to a less depreciated exchange rate than envisaged under the program. Below-the-line data are not yet available to assess the end-2002 performance criteria on the combined public sector deficit and the nonfinancial public sector debt stock. Preliminary data indicate that, during 2002, the public sector debt ratio (including the debt to the Fund) rose sharply, to close to 90 percent of GDP, reflecting in part the additional debt incurred to support the banking system and the depreciation of the peso against the U.S. dollar.

7. Progress on the structural front has been mixed. The government only took gradual and partial steps to increase private sector participation in areas previously reserved for public enterprises (including port management, construction and operation of toll roads, cellular phone services, and insurance). Progress was made toward reforming the public bank BROU, with the launching of a long-term restructuring program, alignment of its capital requirements with those of private banks, and a strengthening in its management. Structural benchmarks on the presentation to congress of a reform of the pension system for the military and a reform to rationalize and simplify the tax system were observed, the former with a delay. However, other benchmarks (weekly publication of bank data, reform of the pension fund for bank employees, and measures to foster competition in the telecommunications and oil sectors) were not met, and have been included in conditionality for 2003.

8. The political and social situation has remained calm, despite the hardship caused by the economic recession. In this context, the existence of a relatively broad social safety net, and the government’s efforts to shield priority social expenditure from adjustment have helped mitigate the adverse impact of the recession (Box 1). Although in November 2002 the National Party withdrew its ministers from the cabinet, the government has been able to garner congress’ support for its main policy initiatives. While no longer in the cabinet, the National Party has reaffirmed on a number of occasions its willingness to continue supporting the government in Congress. However, as the date for the presidential elections (scheduled for late 2004) approaches, the political environment is expected to become more challenging for the government.

Uruguay: Poverty and Social Safety Nets

Uruguay, with a population of 3.3 million, has traditionally enjoyed strong social indicators: 90 percent of the population has access to primary education; infant mortality (14.1 per 1,000 live births) is among the lowest in Latin America; and poverty levels declined during the 1990s while income distribution improved. Estimates for 2001 show that only 12 percent of the Uruguayans were living below the poverty line1 and less than 2 percent in conditions of extreme poverty. However, poverty increased in 2002, due to the sharp decline in output and income.

Uruguay has a wide range of social protection schemes. Social spending is explicitly protected by law from budgetary cuts, and the authorities have aimed at prioritizing spending towards the programs that are best targeted. Protection of social spending is also a key element of ongoing World Bank and IDB loans.

  • In education, emphasis is being placed on: (i) enhancing the school food program (PAE) which currently provides coverage to 45 percent of children in public schools; (ii) ensuring the provision of adequate preschool and primary education to children living in poor environments (via longer school days, improved school infrastructure and equipment, teacher training and the purchase and distribution of educational material); and (iii) a program to improve secondary education, favoring youth employment.

  • The public health system targets the poor, by classifying users by income levels. Unlike the private system (financed through social security contributions and direct fees), the public system is financed with government revenue. Priorities include: (i) health facilities, specifically those for primary and secondary care; (ii) spending under the Family Medicine Program that targets the poorest mothers and children; and (iii) public health programs such as the Expanded Immunization Program (PA1), the Program for Epidemiological Control, and the AEDES Campaign to prevent dengue fever.

  • Social security is administered by the BPS, with a range of programs targeted at both contributors and noncontributors. The BPS spends over 5 percent of GDP a year on social benefits (excluding normal pensions) to protect the most vulnerable groups: low-income households, single-parent households headed by women, low-income adults without access to the contributory pensions system, and the unemployed. Coverage includes; (i) unemployment insurance; (ii) family allowances and healthcare services, which originally covered only affiliated workers and their families but have recently been expanded to the unemployed, low-income households, and single-parent households; (iii) old age and disability pensions, available to low income adults over the age of 70 or with handicaps; and (iv) social development programs for retirees and pensioners. There is also a minimum pension of Ur$l, 344 a month, equivalent to 112 percent of the minimum wage.

1/ Data obtained from the Economic Commission for Latin America and the Caribbean (ECLAC).

II. Policies for the program

A. Macroeconomic Framework

9. The macroeconomic framework is based on a return to economic growth. Although most economic indicators remain depressed and real GDP is projected to decline by 2 percent in 2003, the most recent export data (for December) are encouraging and there are early signs that the economy will bottom out this year. The recovery is expected to gather strength during 2003, leading to projected real GDP growth rates of 4-4½ percent in 2004-05. The monetary program aims at limiting inflation to about 26 percent in 2003, taking into account projected increases in utility prices, and targets a decline to single-digit level beginning in 2004. A key objective of the program is to reinforce the basis for medium term debt sustainability.

Text Table A.

Macroeconomic Framework. 2002-05

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Sources: Uruguayan authorities; and Fund staff estimates.

B. Monetary and Fiscal Policies

10. Following the move to a floating exchange rate regime in mid-2002, the central bank has adopted base money growth as its intermediate monetary target. Consistent with the inflation objective, base money is projected to rise by 25 percent during 2003 (Table 5). Building on progress made so far, the central bank plans to strengthen its open market operations, with a view to creating a deeper and more liquid market for short-term peso debt instruments. Over time, the authorities intend to move to an inflation-targeting framework for the conduct of monetary policy.

Table 5.

Uruguay: Summary Accounts of the Banking System, 2000–03 1/

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Sources: CentralBank of Uruguay; and Fund staff estimates.

Includes the Bank of the Republic (BROU), the National Mortgage Batik (BHU), private banks and cooperatives. Does not include off-shore banks.

Text Table B.

Monetary Program, 2003

(In billions of Uruguayan pesos

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As defined in the Technical Memorandum of Understanding end evaluated at program accounting rates.

11. The authorities’ economic program seeks to credibly improve public finances in 2003, and to provide the basis for a sound medium-term fiscal position. The authorities are committed to raising the primary surplus of the combined public sector to 3.2 percent of GDP in 2003, consistent with a reduction in the overall deficit from 4.3 percent of GDP to 3.1 percent. They agreed with the staff that achieving these objectives will require both an enhanced revenue effort and expenditure restraint. Over the medium-term, the primary surplus is projected to grow to about 4 percent of GDP.

12. In 2003, the authorities intend to firmly control the growth of primary spending, especially wages and pensions. Overall, primary spending is projected to rise by only 14 percent in nominal terms, or about half the rate of inflation. Goods and services outlays will be streamlined under recently-established centralized procurement mechanisms for the purchase of medical supplies and food. Savings under these schemes (0.2 percent of GDP) will be used to make room for an increase in public investment, which has been sharply retrenched since 1999. As in 2002, the authorities plan to protect non-wage expenditure in priority social programs.

13. In 2003, public sector revenue is conservatively assumed to decline by ½ percent of GDP. Part of this decline would reflect lower tax collections on income and profits associated with weak economic conditions. The projections also take into account weaker-than-expected tax collections in the second half of 2002 and the full-year impact of the fiscal packages approved last year. The decline in tax revenue will be partially compensated by adjustments in public tariffs which, together with cost savings, would lead to an improvement of 0.7 percentage point of GDP in the operating surplus of public enterprises (Box 2). The authorities also plan to enhance revenue collection by reforming the tax refund scheme to exporters, and by taking steps to strengthen revenue administration and control.

14. The authorities are committed to strengthen the tax reform package submitted to Congress in December 2002. The current draft law aims at increasing efficiency and facilitating tax administration, through a broadening of the VAT base and a gradual reduction in rates; eliminating several low-yielding taxes to incorporate them into the main excise tax; and generalizing the corporate income tax to all productive sectors. Assuming that the envisaged reduction in rates were to be handled with caution, the reform would be broadly revenue neutral. In an effort to improve the revenue outcome, staff suggested that the authorities strengthen the proposal through: (a) expanding the VAT base to agricultural inputs and real estate rentals, and unifying the two main VAT rates; (b) incorporating the taxes on bank assets and net worth into the generalized enterprise income tax; and (c) eliminating revenue earmarking. The authorities have requested technical assistance from FAD in the design of a revised tax reform proposal, and will not push for passage until there is a revised proposal. Presentation to congress of revised tax reform legislation by end-June is a structural performance criterion under the program.

Public Enterprises

The fiscal program includes an increase in the operating surplus of public enterprises from 2.3 percent of GDP in 2002 to 3 percent in 2003. This improvement would return the operating surplus to the level registered in 2001, correcting for the weak performance observed in 2002 (mostly due to tariff adjustments that lagged behind the rise in operating costs). Two main factors will support the projected recovery:

Tariff adjustments. The four main public enterprises increased their tariffs by 10-26 percent in January and February 2003, and are scheduled to implement two further adjustments in May and August, to reach cumulative increases of 23-49 percent by year-end. These adjustments will help improve revenue by the equivalent of 1.5 percent of GDP.

Tight controls on operating expenditure. Total current outlays of public enterprises are expected to increase only by about 0.6 percent of GDP from 2002 to 2003, supported by wage restraint and implementation of early retirement programs.

15. Over the medium term, the consolidated public sector primary surplus is targeted to gradually rise to about 4 percent of GDP. The authorities explained that they plan to rely on the revenue improvement associated with the gradual recovery in economic activity, expenditure restraint, and the dampening effect on outlays deriving from the 1997 social security reform to achieve this objective. The staff noted that achieving and sustaining such primary surplus would also require additional efforts on the revenue side. As noted in paragraph 7 of the MEFP, the authorities are committed to broaden the forthcoming tax reform to yield additional revenue over the medium term, and to complement it through a significant strengthening in tax administration.2

C. The Banking System

16. The authorities are proceeding with the resolution of the four banks suspended in August 2002. In the discussions, staff emphasized the risks associated with reopening weak banks in the current difficult economic and financial environment, and the importance of ensuring that any reopened bank was viable. The authorities generally agreed, but also noted that they attached a high importance to minimizing the disruption in credit flows to the economy and to the need to protect depositor confidence. The main steps of the action plan of the government are as follows:

  • In December 2002, congress approved several amendments to the banking law, aimed at strengthening the powers of the central bank in the area of bank resolution and establishing that the government would attempt to protect deposits in the liquidated banks up to US$100,000.

  • In the coming weeks, the authorities plan to create a new bank (Nuevo Banco Comercial-NBC) with the good quality assets of three suspended banks. These banks were placed in liquidation in January 2003, and trust funds have been created to manage their assets. In late February, the NBC purchased the good quality assets of the liquidated banks from the trust funds, in a competitive bidding process. It will pay for the assets with its own CDs, carrying a 2 percent interest rate and repayable over six years and, in turn, the trust funds will distribute these CDs to all the general creditors, including the government.

  • The authorities are firmly committed to ensure that any new or reopened bank will have to be viable and meet all prudential norms, so that it does not pose risks to the rest of the banking system or to public finances. To that effect, over the next two-to-three weeks, the government is committed to evaluating—jointly with Fund staff—the business plan and viability of NBC before it is allowed to operate.

  • To partially cover the losses of depositors, the government plans to give up part of its claims. It will transfer part of the CDs that it will receive to private depositors (some US$215 million), to help meet the US$100,000 protection, and use the remaining proceeds (US$125 million) to capitalize the new bank. As a result, the recovery of assets by the government will be significantly lower than envisaged earlier (the government had lent US$1 billion to the three banks).

  • The new bank will be government-owned, although it will operate under the legal framework of private banks. The government plans to sell its equity shares in the bank as soon as conditions permit. However, with the new bank initially fully government-owned, over 55 percent of total banking system assets would be in the hands of the government.

  • Discussions with the minority shareholder on the resolution of the fourth suspended bank have stalled, and on February 28 the government announced the liquidation of the bank and the creation of a trust to facilitate the disposal of its assets. The staff remains in close touch with the authorities for appropriate and timely disposal of the bank’s assets and other aspects of liquidation.

17. In the rest of the banking system, progress has been mixed. The restructuring process for the mortgage bank BHU has been slow. In December, congress approved a new charter transforming the BHU into a nonbank housing institution. As part of the reforms undertaken under the World Bank SAL I operation, BHU is developing and implementing a plan to reduce its operational costs, improve asset recovery, and complete a comprehensive audit of its portfolio.

18. Beginning in August 2003, repayment of the first tranche of reprogrammed deposits will become due. The government has reaffirmed its intention to repay deposits on schedule (US$510 million fall due during August-December), which will require the public bank BROU to have sufficient liquidity to cover potential deposit withdrawals. In recent months, BROU has been accumulating liquid assets for that purpose. The deposit reprogramming gives rise to an exchange restriction under Article VIII, as it captures nonresident deposits that could have been derived from current international transactions.

D. Financing Assurances

19. A large part of the 2003 financing requirements is to be covered by program loan disbursements from the World Bank, the 1DB, and bilateral creditors. Total financing requirements for 2003 are estimated at US$1.4 billion, of which US$660 million are to be covered by the World Bank and the IDB. Program loan disbursements from the World Bank are projected to amount to US$250 million, under both the ongoing SAL I operation and a new operation in support of reforms to foster competition and improve efficiency in the provision of public services. This new operation (SAL II) is expected to be presented to the Executive Board of the Bank in April 2003. IDB program disbursements are projected to amount to US$325 million, in support of reforms in the social, financial, and health sectors. Disbursements from bilateral creditors are projected to amount to US$50 million.

20. The remaining financing needs for 2003 (USS700-720 million) are expected to be met through a debt operation and modest bond placements in the domestic markets. The authorities are presently working to fill this gap. As part of these efforts they are preparing a debt proposal with their financial and legal advisors—the details of this proposal will be provided after the authorities have made a shelf filing with the U.S. Securities and Exchange Commission and consulted with bondholders. The authorities have agreed that, before Board consideration of this review, they will issue a supplementary LOI elaborating on the debt proposal. Based on this LOI, a supplement to the staff report will provide an assessment of the medium-term outlook and debt sustainability. In addition to the debt operation, gross debt placements in the domestic market, including to the private pension funds, are expected to amount US$250 million in 2003 (just over 2 percent of GDP).

III. Program Modalities and Risks

A. Access to Fund Resources and Program Monitoring

21. Access. The current 24-month stand-by arrangement, in an initial amount equivalent to SDR 594.1 million (193.8 percent of quota), was approved in March 2002 and augmented on two occasions (June 25, 2002 and August 8, 2002), to SDR 2,128 million (694.4 percent of quota). Undisbursed access under the stand-by arrangement, which total SDR 1,016.6 million, would, under the proposed rephasing, be disbursed over the extended period through March 2005 (Table 6). Upon completion of the current (second) review, a purchase of SDR 218.5 million (71 percent of quota) would become available. In addition, it is proposed that repurchase expectations under the SRF arising in 2003 (SDR 128.7 million) be converted to an obligations basis.3 Repayment of the SRF could cause undue hardship at a time when the authorities are taking firm action to strengthen the balance of payments.

Table 6.

Uruguay: Proposed Availability of Purchases 1/

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Source: Fund staff estimates.

Of which, SDR128.7 million under the SRF.

Augmentation equals SDR376 million (123 percent of quota) and SDR 257.4 million cancellation (84 percent of quota) of remaining SRF resources (EBS/02/141, Table 11).

22. Reviews and performance criteria. The program envisages quarterly reviews during the remainder of the program (see Table 6). As specified in the Memorandum of Economic and Financial Policies (EBS/03/27), performance criteria have been established for March 31, 2003 and June 30, 2003 for central bank net international reserves and net domestic assets, the primary balance of the combined public sector, and the debt stock of the nonfinancial public sector. Indicative targets in these areas have been set for end-September and end-December, which will be converted into performance criteria at the time of the third review. In addition, there are indicative targets throughout 2003 for the overall balance of the combined public sector and the monetary base.

23. Structural performance criteria. Presentation to congress of revised tax reform legislation is a performance criterion for end-June—as noted, this is a crucial reform to support medium term fiscal sustainability. A continuous structural performance criterion has also been specified in the banking area, under which no banks are to be opened or reopened unless they are viable and meet all prudential norms. Strict adherence to this requirement will serve to underpin the authorities’ restructuring efforts while ensuring the stability of the banking system.

B. Capacity to Repay the Fund

24. The full use of remaining access under the arrangement would raise the debt service profile substantially, particularly in 2006-07. In 2006, debt service obligations would peak at 7.2 percent of GDP (6.3 percent in 2007), or about 28 percent of exports of goods and services (Table 7 and 8). At its peak, debt service to the Fund would account for close to half of all external debt service due. These high numbers indicate considerable risk to the Fund and imply that continued active Fund involvement beyond the current arrangement may be necessary. To balance these risks and safeguard Fund resources, the program includes comprehensive measures to restore the economy’s growth potential and ensure debt sustainability over the medium term. The staff will continue to closely monitor Uruguay’s capacity to repay the Fund and any need for corrective measures if medium-term projections turn less favorable than currently expected.

Table 7.

Uruguay: Projected Payments to the Fund as of February 25, 2003 1/

(In millions of SDRs)

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Sources: Treasurer’s Department; and Fund staff estimates and projections.

Assuming all scheduled purchases are made and that repurchases under the SBA and SRF are made on an obligations basis.

Projections are based on current rates of charge, including burden-sharing where applicable, for purchases in the GRA. The current SDR interest rate is assumed for net use of SDRs.

Table 8.

Uruguay: Indicators of Capacity to Repay the Fund, 2002–08

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Source: Fund staff estimates.

Gross International Reserves.

C. Program Risks

25. Notwithstanding the progress made so far, Uruguay continues to face major vulnerabilities, and there are significant risks to the program. The combination of the vulnerabilities described below creates a highly fragile outlook that could be derailed by any significant shock or slippage in program implementation.

  • As noted, the situation in the banking system is fragile, and there is a danger that external or domestic developments could prompt another run on deposits. Given the low level of reserves, the central bank has only limited scope to provide liquidity assistance to banks. Additionally, renewed deposit outflows would bring gross international reserves to a dangerously low level (Table 9).

  • In the fiscal area, achieving and sustaining the targeted large increase in the primary surplus is a major challenge. In particular, lower-than-expected revenue collections, or pressure to grant higher wage and pension increases, could reopen significant financing gaps and risk a downward spiral of confidence and renewed loss of reserves.

  • There are risks associated with the financing assurances, which will be described in the forthcoming supplement to the staff report.

Table 9.

Uruguay: Vulnerability Indicators

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Sources: Central Bank of Uruguay; and Fund staff estimates.

By remaining maturity.

For 2003, as of February 25.

For 2000, the data reported are the spread of the 2009 bond and, from 2001 onward, the spread of the 2012 bond. Data for 2003 are at end-February.

D. Safeguards Assessment

26. During 2002, the Treasurer’s Department of the Fund completed an on-site safeguards assessment of the central bank of Uruguay. The assessment identified risks with the external and internal audit mechanisms, and a need for improving transparency in the annual financial statements of the central bank. To address vulnerabilities, staff recommended that the central bank significantly step up the audit mechanisms, including with respect to the FSBS. The authorities are in the process of implementing these recommendations and are committed to completing an external audit of the FSBS by September 30, 2003.4

IV. Staff Appraisal

27. The staff commends the Uruguayan authorities for their sustained efforts to implement sound economic policies and ensure a return to sustained growth, amidst very difficult circumstances. In particular, notwithstanding the sharp decline in activity registered during 2002, the authorities were able to maintain prudent fiscal and monetary policies, and displayed a strong commitment to preserve the integrity of legal contracts in the financial system and the elsewhere in the economy.

28. Despite these achievements, Uruguay continues to face major vulnerabilities—there is no room for slippage, and further measures may well be needed if any of the downside risks materialize. The situation in the banking system remains fragile, and new shocks to depositor confidence could prompt renewed deposit outflows which, in turn, would lead to a further drop in the gross reserves of the central bank. Also, any deviation from the program could have adverse consequences on market sentiment. Finally, the authorities will need to ensure that all the financing assurances are in place for the program and press ahead with their structural reform program to unlock the envisaged disbursements from the World Bank and the IDB. Further progress in the area of structural reforms is key to a return to economic growth.

29. For 2003, achieving the targeted primary surplus will hinge mainly on continued success in containing public sector wages and pensions increases. The staff welcomes the authorities’ commitment to limit those increases, given the tight budget constraint and the minimal wage increases granted in the private sector. The shortfall from last year’s primary surplus target underscores the importance of strictly implementing the fiscal program for 2003.

30. Over the medium term, a sustained improvement in the fiscal accounts will require both expenditure restraint and an improved tax effort. There is a risk that the sharp compression of real wages and pensions in 2002-03 will at least partly unwind over the medium term, which would need to be compensated by savings elsewhere. A sustained strengthening of the public finances therefore calls for structural expenditure reforms and improvements in tax collections. The staff encourages the authorities to reform the revenue administration and take advantage of the debate in congress on the tax reform to broaden the taxpayer base, so that revenue responds buoyantly once the economic recovery takes hold. The authorities will also need to build a consensus and move ahead decisively with their program of concessions and to advance in the area of privatization.

31. After the severe shocks experienced in 2002, restoring a viable banking system is key to Uruguay’s growth prospects. In staffs views, the government’s decision to protect deposits up to US$100,000 in the suspended banks, designed to help reduce the risks of a run on deposits, has high fiscal costs and may, in addition, create an expectation that deposits in other banks will also be insured, in resolving the suspended banks, the authorities will need to adhere strictly to their commitment that any new or reopened banks must be viable and comply with all prudential requirements. Failure to do so would lead to renewed uncertainty in the banking system and entail future fiscal or quasi-fiscal losses. The staff urges the authorities to press ahead with the ongoing reform of the mortgage bank (BHU), in close collaboration with the World Bank.

32. Because of the extraordinary risks associated with the program, close monitoring is essential. The program features quarterly reviews, including of financing assurances, as well as a range of quantitative and structural performance criteria. The staff encourages the authorities to monitor developments closely and to react proactively, in close consultation with the staff, to any emerging deviations or difficulties. The staff recommends extension of SRF repurchase expectations arising during 2003. The staff also recommends approval of the exchange restriction under Article VIII arising from the reprogramming of bank deposits, given that this measure is temporary and does not discriminate among depositors.

33. Notwithstanding the risks to the program, the staff recommends completion of the second review and approval of the authorities’ requests for waivers, extension of the arrangement, and rephasing of purchases. The authorities’ strengthened program for 2003 represents a balanced effort to create the conditions for a resumption of economic growth that merits the support of the international community. The sizable upfront purchases from the Fund are designed to help rebuild the gross reserves position of the central bank, a critical buffer against possible shocks and key to nurturing confidence in the banking system. The prior action on, and subsequent reviews of, financing assurances provide safeguards and incentives as regards the full participation by all parties involved in the financing of the program.

ATTACHMENT I: Uruguay-Fund Relations

(As of January 31, 2003)

I. Membership Status: Joined March 11, 1946; Article VIII

A. Financial Relations

II. General Resources Account:

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III. SDR Department:

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IV. Outstanding Purchases and Loans:

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V. Financial Arrangements:

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VI. Project Obligation to Fund: (Obligation Basis) (SDR millions; based on existing use of resources and present holdings of SDRs):

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B. Nonfinancial Relations

VII. Safeguards Assessment: Under the Fund’s safeguards assessment policy, the Central Bank of Uruguay (CBU) is subject to a Safeguards Assessment with respect to the Stand-By Arrangement that was approved on April 1, 2002 and considered for augmentation on June 24, 2002. An assessment of the CBU’s external audit mechanism to determine whether the CBU publishes annual financial statements that are independently audited in accordance with internationally accepted standards was completed on October 19, 2000. In June 2002, an on-site safeguards assessment was completed. The assessment identified a further need to improve the external audit mechanism, including providing for an independent audit committee to oversee this process, and to conduct an external audit of the FSBS.

VIII. Exchange Rate Arrangement: The currency is the Uruguayan peso (Ur$). The peso was floated on June 20, 2002. On January 31, 2002, buying and selling interbank rates for the U.S. dollar, the intervention currency, were Ur$28.35 and Ur$28.40 respectively. Uruguay’s exchange system is mostly free of restrictions on payments and transfers for current international transactions. The reprogramming of time deposits at BROU and BHU gives rise to an exchange restriction under Article VIII, as it prevents nonresidents affected by the reprogramming from transferring abroad proceeds of recent current international transactions.

IX. Article IV Consultation: The 2001 Article IV Consultation was concluded by the Executive Board on February 14 (EBS/01/17). Uruguay is on the standard 12-month cycle.

X. FSAP participation, ROSCs, and OFC Assessments: The ROSC-module on fiscal transparency was published on March 5,2000. A ROSC-module on data dissemination practices was published on October 18, 2001. The authorities have requested participation in an OFC assessment for early 2002. The FSAP exercise started in November 2001; its completion has been delayed until the situation stabilizes.

XI. Technical Assistance: A STA mission on money and banking statistics took place in March 1999. A multisector STA mission took place in November 1999 which developed an overall action plan for statistics management in Uruguay, including detailed recommendations for bringing Uruguay’s data dissemination policies and practices into line with the Fund’s SDDS. Technical assistance in the areas of tax and customs administration had been provided by the FAD in 1996. In June 2000 and May 2001, FAD provided technical assistance in the area of quasi-fiscal activities in the public sector. In December 2001, STA provided technical assistance to help Uruguay subscribe to the SDDS. In September 2002, FAD provided technical assistance in the areas of tax policy and revenue administration to prepare a comprehensive tax reform.

XII. Resident Representative: Mr. Andreas Bauer

ATTACHMENT II: Relations with the World Bank Group

In the past, Bank project lending has been focused on infrastructure and agriculture developments. In addition, in the late 1980s, the Bank began providing support through structural adjustment lending. The first SALs of 1987 and 1989 supported export growth through incentives and tariff reform; strengthening public finances and the social security system; improving public investment programming; and strengthening the banking sector. A stand-alone debt and debt service reduction operation (DDSR) was also approved in 1991.

In the 1990s, the Bank continued to support infrastructure development oriented towards exports of natural resource-based goods (e.g., forestry). In addition, the Bank supported programs in basic education and institutional development of the health sector. An adjustment loan supported reforms that established the multi-pillar social security system.

The Bank’s recent lending has continued to support the social sectors and selected infrastructure investment, with a focus on reforming public enterprises and the regulatory system. During 2000, two loans were approved: a Financial Sector Adjustment Loan (FSAL) that supported actions to strengthen the framework for the functioning of the financial system - and a Water Sector Adaptable Program Loan. In early 2001, a technical assistance loan was approved to help establish a public utility regulatory department. In end-July 2001, the Board approved the Foot and Mouth Disease Emergency Recovery Project, financing livestock vaccinations. In October 2002, the Bank approved a SAL and a SSAL operation. A second SAL and accompanying SSAL focusing on improving public services have been already negotiated and are likely to be presented to the Board for approval in early April 2003.

The last Portfolio Performance Review took place in December 2002. At this time, the portfolio comprised eight investment projects for a total of US$382 million in commitments (of which US$182.9 million are undisbursed) in addition to one SAL and SSAL. The investment projects concentrate primarily in the infrastructure sector, with five out of eight projects totaling an amount of US$293.5 million in commitments (or 76.7 percent of the portfolio). In addition, the portfolio of investment projects comprises two operations in the education sector, and one emergency project in the agriculture sector. The portfolio exhibited a marked fall in disbursements in 2002, indicating growing difficulties in project implementation.

Financial Relations with the World Bank Group

(In millions of U.S. dollars)

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Sources: World Bank (IBRD data); and IFC (IFC data).

ATTACHMENT III: Relations with the Inter-American Development Bank

The most recent IDB’s Country Strategy for Uruguay focuses on the following priority areas for the Bank’s action, by providing support to: (i) initiatives that enhance the regional and international competitiveness of domestic output and encourage private investment, where production is based on the country’s comparative advantages and the use of modern technology, in order to foster healthy competition and allow for integration with both the regional and international markets; (ii) the further reform of the State, its modernization and improvements in governance, with a view to diminishing the role of the State in the economy; increase its efficiency; rationalize expenditure and target its interventions; and reduce its role in the production of domestic goods and services; and (iii) improving social welfare and increasing equity, particularly to those families and children living in poverty, allowing them to participate in the development process; reforming education and the health sectors, as well as developing social safety nets for families at risk, particularly in the poorest sectors. Support will also continue to be given to ongoing actions in the fields of citizen safety, housing, sanitation and potable water supply.

In 2002, the IDB approved four loans: (i) in the competitiveness strategic area, a Multisector Global Credit Program for US$180 million, providing medium and long term financing for investment by private enterprises; (ii) in the public sector reform area, a loan for Improvement in Municipal Management (IMM), for US$3 million; and (iii) in the welfare and equity, a loan for Infancy, Adolescents and Families at Risk, for US$40 million. In addition, the special operation for Social Protection and Sustainability was approved in August 2002, for US$500 million, thus supporting the financial package provided by the multilateral organizations. The Lending Program for 2003 anticipates a Financial Sector Loan for US$200 million, in support of reforms in the sector, as well as a Development and Management Program for the Municipalities for US$60 million.

Financial Relations with the Inter-American Development Bank

(US$ millions)

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Source: Inter-American Development Bank.

As of December 31, 2002

Excludes Program for Social Protection and Sustainability

As of December 31, 2002

ATTACHMENT IV: Statistical Issues

The statistical database in Uruguay is generally adequate for the assessment and monitoring of macroeconomic policies. The multisector mission of November 10–24, 1999 developed an action plan that includes recommendations for bringing Uruguay’s data dissemination policies and practices into line with the Fund’s Special Data Dissemination Standard (SDDS). The authorities have made significant progress in implementing the mission’s recommendations, both with respect to timeliness of dissemination of the SDDS data categories, and in terms of methodological changes to improve data quality. During a recent staff visit to Montevideo (April 5–6, 2001) to present the findings of the data module of the Report on Observance of Standards and Codes (ROSC), the Uruguayan authorities reiterated their commitment to subscribe to the SDDS in the near future. An SDDS mission visited Montevideo (December 5–14, 2001) to assist the authorities in finalizing their work toward subscription to the SDDS. However, Uruguay has not yet subscribed to the SDDS.

1. Real sector

National account statistics have a number of shortcomings, including the use of an outdated benchmark year 1983, limited coverage of the enterprise survey, long publication lags, inadequate information on the informal economy, and incomplete quarterly accounts. The BCU compiles and disseminates annual GDP estimates in current and constant prices by production and expenditure approach, as well as quarterly constant price GDP estimates by production approach. Gross national income, gross disposable income and gross savings are also available annually. The November 1999 multisector mission recommended a range of improvements including the completion of the revision of data and methods that had already been partially carried out, introduction of annually chained volume measures, incorporation of new benchmark survey data, and compilation of quarterly estimates of GDP at current prices.

The authorities do not provide trade price and volume indices for publication in the IFS.

Both the consumer and wholesale price indices are reported on a regular and timely basis for publication in the IFS. The consumer price index has a base period of March 1997 = 100, and the wholesale price index has a base of January 1988 = 100. The coverage of the CPI is limited to the capital city. No producer price index has been reported for publication in the IFS.

2. Government finances

Official data on the central administration, the state enterprises and the social security system are complete and current, but there are problems with the currentness of the data on the local governments; there are also problems with the currentness of the financing and debt data reported for inclusion in the Fund’s statistical publications. The multisector mission that visited Uruguay in November 1999 reviewed the sources used for the compilation of central government financing and identified sources of information for local governments. The mission made recommendations for the compilation of these data and their reporting to STA. The information reported for publication in the Government Finance Statistics Yearbook 2000 (GFSY 2000) included, some data on central government financing and on selected aggregates for local governments; however these data were not updated in the GFSY2001 publication.

3. Monetary accounts

Two STA money and banking statistics missions visited Montevideo in July 1998 and March 1999. The missions reviewed with the authorities the currentness, coverage, and classification of the monetary accounts for the banking system and developed a unified system for reporting data to the Fund. The multisector mission that visited Uruguay in November 1999 continued previous missions’ work on improving the basic source data and the methodology for compiling monetary statistics. The mission developed a database that contains the data needs for publication in IFS and for operational uses by WHD.

The Central Bank of Uruguay (CBU) has adopted the new presentation of the monetary accounts for the central bank and a new call report form for the other depository corporations. The multisector mission recommended adopting the new reporting system which is based on these tables. STA has already received a submission of data based on the new reporting system for the central bank.

4. Balance of payments

Balance of payments statements are compiled and published on a quarterly basis. Data are compiled following the recommendations of the Balance of Payments Manual (5th edition). The authorities have made significant progress in implementing the mission recommendations in order to improve the coverage and quality of the balance of payments estimates. The directory of direct investment enterprises have been updated and measures have been introduced to improve the survey on inward investment; quarterly surveys have been introduced in the case of services, and other activities not currently covered; the coverage of reserve assets has been revised to exclude certain assets that are not available to finance balance of payments needs. Uruguay compiles and reports to STA annual data on the international investment position (HP). The new surveys would also allow for improved coverage of the private sector in the international investment position.

URUGUAY: Core Statistical Indicators

as of February 21,2003

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Montevideo, Uruguay

February 24, 2003

Dear Mr. Köhler

Since the augmentation of the Stand-By Arrangement last August, financial indicators have stabilized. The Government of Uruguay has formulated an economic program to create the conditions for a resumption of economic growth, as described in the attached Memorandum of Economic and Financial Policies for 2003.

In support of these efforts, the Government of Uruguay requests: (i) completion of the delayed second review under the Stand-By Arrangement, and availability of a purchase equivalent to SDR 218.5 million upon completion of the review; (ii) a one-year extension of the current arrangement, through March 31, 2005; and (iii) the rephasing of all remaining purchases under the arrangement, in an amount equivalent to SDR 798.1 million (Table A). We also request that the repurchase expectations arising during the arrangement period be moved to an obligations basis.

Table A.

Phasing under Uruguay Arrangement

(In millions of SDRs)

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Data are not yet available to assess observance of the end-December 2002 performance criteria on the cumulative balance of the combined public sector and the nonfinancial public sector debt. The government accordingly requests waivers of applicability with respect to these two performance criteria. We also request a waiver for the nonobservance of the standard performance criterion on exchange restrictions in connection with the reprogramming of time deposits at BROU and BHU. All other continuous and end-December 2002 performance criteria under the Stand-By Arrangement were observed, as well as all structural performance criteria.

We are confident that the policies set out in the attached Memorandum of Economic and Financial Policies and the continued support of the international financial organizations will provide the needed stability for the sustained resumption of economic growth. Nonetheless, the government stands ready, in consultation with the Fund, to take any additional measures necessary to ensure the success of the program. Reviews under the arrangement in 2003 will be completed by May 31, 2003, August 31, 2003, and November 30, 2003. These reviews will be held in conjunction with financing assurances reviews, and will assess overall performance under the program and observance of the performance criteria for end-March 2003, end-June 2003 and end-September 2003, respectively.

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Mr. Horst Köhler

Managing Director

International Monetary Fund

Washington, D.C. 20431

Attachments:

Memorandum of Economic and Financial Policies

Technical Memorandum of Understanding

ATTACHMENT I: Memorandum of Economic and Financial Policies for 2003

I. Main program objectives

1. Building on the 2002 program, the government has elaborated policies for 2003 aimed at creating the conditions for a resumption of economic growth while keeping inflation under control. The economy is projected to gradually recover during this year, although real GDP is nevertheless projected to fall by 2 percent on a full year basis. The recovery will be led by exports, and the external current account surplus is projected to widen from 1.2 percent of GDP in 2002 to 2.4 percent.

2. The key objectives of the program are to ensure fiscal, monetary, and banking soundness. Its main components are: (a) the 2003 budget, which seeks to achieve a primary surplus of the combined public sector of 3.2 percent of GDP; (b) a monetary program aimed at limiting inflation to about 27 percent by year-end; (c) the deepening of structural measures needed to strengthen the fiscal position over the medium term; (d) to ensure sufficient financing assurances to meet the financing need for 2003; and (e) a comprehensive resolution of the suspended domestic banks.

3. The performance criteria under the program are set out in Table 1 and defined in the attached Technical Memorandum of Understanding. Table 2 presents the prior actions and structural benchmarks under the program. The government will also observe the standard performance criteria against imposing exchange restrictions, multiple currency practices, and import restrictions for balance of payments reasons. There will be three program reviews in 2003, including for financing assurances.

Table 1.

Uruguay: Performance Criteria and Indicative Targets Under the 2003 Economic Program 1/

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As defined in the Technical Memorandum of Understanding.

Indicative target.

Cumulative change from end-December 2002.

Adjusted upwards/downwards for changes in social security contributions, as defined in the TMU.

Adjusted upwards/downwards for changes in interest payments, as defined in the TMU.

Adjusted upwards/downwards for changes in program disbursements from the World Bank and IDB, as defined in the TMU.

Cumulative change from December 2002 average.

All maturities. The 2002 base includes US$294 million of unsecuritized debt arising from an agreement between the Ministry of Finance and BROU.

Table 2.

Uruguay: Prior Actions and Structural Benchmarks under the 2003 Economic Program

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Beginning with data for March 31.

II. Fiscal policies

4. In 2003, the primary surplus of the combined public sector will rise significantly, setting the basis for a sustainable fiscal position over the medium term. Under the current set of policies, the primary surplus will be 3.2 percent of GDP in 2003, to be achieved mainly through expenditure restraint. The primary surplus of the combined public sector is projected to average 3.3 percent of GDP in 2004-05, and to progressively rise to about 4 percent of GDP over the medium term. Over time, improvements in the revenue base will help underpin the primary surplus target.

5. Regarding expenditure policy, the nominal growth of non-interest expenditure will be limited to 14 percent in 2003. The nominal increase in discretionary spending, including wages and pensions, will be restrained to ensure achievement of the program’s objectives. If, however, tax revenue were to be higher than envisaged under the program, consideration will be given to higher increases in discretionary spending, provided there is compliance with the program objectives, in addition, any cash or in-kind salary advances will be avoided. The main elements of the fiscal framework for 2003 are as follows:

Consolidated Public Sector Summary Accounts 1/

(in Ur$ billion)

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As defined in the Technical Memorandum of Understanding, excluding local governments.

Includes pensions and other social security benefits from the BPS and the police and military pension funds.

Expenditure savings equivalent to 0.2 percent of GDP will be achieved under the newly established program for centralization of public sector procurement of medical supplies and food. Social expenditure will be protected and, following significant reductions in recent years, capital expenditure is programmed to recover somewhat in 2003.

6. Revenue of the consolidated public sector is projected to remain at about 30 percent of GDP in 2003. This performance will be supported by: (i) the full-year effect of the tax measures adopted in May 2002; (ii) an increase of the current surplus of public enterprises by 0.7 percent of GDP led by expenditure restraint and adjustments in public tariffs to reflect operating costs; and (iii) a reform of the tax refund scheme for exporters. The government also intends to significantly strengthen tax administration and combat evasion through improved data exchange between collection agencies, the designation of agents of retention for the VAT in activities prone to evasion, and renewed efforts to combat informal commerce and smuggling. The government will not grant new ad hoc tax exemptions to specific sectors of the economy and will develop a framework for reviewing and streamlining existing ones.

7. The government will advance tax reform, designed to increase efficiency, facilitate tax administration, and enhance revenue collections over the medium term. The main objectives of the reform are to: (i) broaden the VAT base; (ii) eliminate several low-yielding taxes by incorporating them under the umbrella of the main excise-type tax; (iii) unify and consolidate existing income tax schedules, which will ensure comparable treatment for all sectors, and expand the taxpayer base; and (iv) rationalize and simplify the tax system. During the first half of the year, the government will seek to build the political consensus needed for reforms that will support the improvement in the primary surplus projected over the medium term. To that effect, the government will, with the support of technical assistance from the Fund’s Fiscal Affairs Department, work on a revised draft law that will be submitted to congress by end-June for approval by end-December 2003. The government will also seek congressional approval of the reforms of the pension funds for the police and the military by end-July and end-September 2003, respectively.

III. The banking System

8. The government is committed to taking all steps needed to enhance confidence in the domestic banking system. In December 2002, congress approved a banking law aimed at facilitating the restructuring of the four banks suspended last August, broadening the powers of the central bank in the area of bank resolution, and extending the coverage of prudential regulations to include state-owned banks. The government will work in close consultation with the Fund’s staff to ensure that any new steps taken toward the resolution of suspended banks are consistent with a further strengthening of the banking system (Table 3).

Table 3.

Principles of Effective Bank Restructuring

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9. In the coming months, emphasis will be placed on the resolution of the four banks suspended in August 2002 and the reform of the mortgage bank BHU.

  • A working plan for the resolution of the four banks is being prepared in close collaboration with Fund staff, to be finalized by end-February 2003. Under this plan, any restructured bank will have to be viable, possess a sound business plan, meet all prudential norms, and demonstrate that it does not pose potential risks to the rest of the banking system or to public finances. This is a structural performance criterion under the program.

  • The reform of the BHU, which is part of the World Bank SAL I operation, will be accelerated. Following congressional approval of its new charter in December 2002, BHU has been transformed into a non-bank institution. Foreign currency deposits have been transferred to the public bank BROU and the government will ensure that sufficient resources are made available to cover the liabilities transferred. The government is working on the business plan of the BHU with a view to reducing its operating costs, improving asset recovery, and completing a comprehensive audit of the bank’s portfolio.

10. The government will continue to use the resources of the Fund for the Stabilization of the Banking System (FSBS) for the purpose of providing backing for the sight and savings deposits of domestic banks, as originally envisaged. The government will continue to invest the funds not yet disbursed in highly liquid and secure international assets. The recommendations of the on-site Safeguards Assessment completed by the Fund in 2002 are being implemented. In particular, the government is committed to conducting an external audit of the FSBS before September 30, 2003.

IV. Exchange rate and monetary policies

11. The government is committed to a floating exchange rate policy with only minimum intervention in the foreign exchange market. Consistent with this approach, in late 2002, the central bank introduced a new framework for the conduct of monetary policy, under which monetary base developments are used to anchor inflation expectations. The monetary program for 2003 seeks to limit inflation to about 27 percent, consistent with a 19 percent expansion in base money during the year. Pre-announced monthly targets are being set to keep base money growth in line with the desired medium-term path, while short-term monetary instruments are being used to minimize intra-month volatility. The NDA and NIR performance criteria of the program are presented in Table 1.

12. The central bank will introduce new instruments of monetary management. It recently initiated weekly auctions of inflation-indexed six-month Treasury bills, in addition to the daily auctions of short-term peso bills with maturities ranging from one week to two months. The Central Bank is committed to broadening further the range of instruments of liquidity management, including the possible issuance of its own certificates of deposit.

13. The government is committed to avoid introducing schemes aimed at providing debt relief to specific sectors of the economy. In January, a facility was launched to ease debt repayments for small debtors in the agricultural sector, through partial debt relief by the public bank BROU. The scope of this facility is limited and it will be implemented with strict control to avoid quasi-fiscal implications and moral hazard problems.

V. Policies for fostering growth and protecting vulnerable groups

14. In recent months, the government took further steps to establish an improved regulatory framework and to open competition in activities previously reserved exclusively to the state. In this context, a multisectoral regulatory unit for energy and water services was created; regulations for the transmission, distribution, and wholesale of electricity issued; and the maintenance of the public railroad separated from the public rail transport company. In addition, authorization was obtained from Congress to divest the remaining stake in the national airline PLUNA; sell the public holding company of a large road infrastructure concession; issue concessions in the mining sector; and auction the concession for the operations at the international airport of Montevideo in the first half of 2003. These reforms are being supported under a new World Bank adjustment loan of US$250 million that was negotiated in December 2002 and is scheduled to be presented to the Board shortly. The government will continue to promote the IDB-supported credit facility that has been helping to restore bank credit to the export sector.

15. The government has taken concrete steps to mitigate the adverse impact of the recession on vulnerable groups. Priority social programs in education, health and social protection have been shielded from expenditure cuts in 2002 and in the 2003 budget under both World Bank and IDB Adjustment Programs. Protected programs include: (i) family support; (ii) the school feeding program; (iii) the national supplementary food program; and (iv) the primary education quality improvement program. Targeting of social programs is being unproved, by integrating databases of beneficiaries of different agencies, cross-checking benefit duplications, and reducing cross-subsidies through the public health system.

VI. Financing Assurances

16. The government is working on the financing assurances for the 2003 program. It is confident that steadfast implementation of its structural reform program will enable disbursements from the World Bank and the Inter-American Development Bank in a total amount of US$655 million in 2003, including US$575 million under program loans (US$250 million from the World Bank and US$325 million from the IDB). Disbursements from bilateral creditors are projected to amount to US$50 million. The government will finalize and provide adequate financing assurances prior to Board discussion of the program.

ATTACHMENT II: Uruguay - Technical Memorandum of Understanding

This memorandum presents the definitions of the variables included in the quantitative performance criteria and indicative targets annexed to the Memorandum of Economic and Financial Policies.

17. Cumulative Primary Balance of the Combined Public Sector. The Combined Public Sector comprises the Central Administration (including as defined in “Article 220” of the Constitution, Salto Grande, and the funds managed directly in the ministries (Fondos de Libre Disponibilidad), the social security system {Banco de Prevision Social), the local governments (Jntendencias), the public enterprises (ANCAP, ANTEL, UTE, OSE, AFE, ANP, INC, and ANCO), and the quasi-fiscal balance of the Central Bank (BCU).

  • The public sector primary balance, excluding valuation adjustments, will be calculated as the overall balance measured from below the line minus interest payments measured from above the line.

  • The below the line overall balance will be measured on the basis of information provided by the BCU on: (a) the change in the nonfinancial public sector debt (defined below), including all short term debt, in foreign currency and pesos; (b) change in net bank credit to the nonfinancial public sector in foreign currency and pesos; (c) other nonbank financing including privatization; and (d) the quasi-fiscal balance of the BCU (defined below).

  • The limit on the primary balance of the combined public sector will be adjusted downward (upward), i.e., the limit on the surplus would narrow (widen), by the amount that the actual social security contributions to the private pension system exceeds (falls short of) the projected amounts in the program, specified in Schedule A.

Schedule A

(in millions of Uruguayan pesos)

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Cumulative basis

18. Cumulative Balance of the Combined Public Sector (indicative target). The combined public sector balance is calculated as the sum of the primary balance of the combined public sector described in 1 and interest payments. The limit on the balance of the combined public sector will be adjusted downward (upward), i.e., the limit on the deficit would widen (narrow), by the amount that the interest payments exceed (fall short of) the projected amounts in the program, specified in Schedule B for end-March, end-June, and end-September. The limit on the balance of the combined public sector will be adjusted upward i.e., the limit on the deficit would be narrowed, by the amount that the interest payments fall short of the projected amounts in the program at end-December.

Schedule B

(in millions of Uruguayan pesos)

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Cumulative basis

19. The quasi-fiscal balance of the BCU is defined as interest earnings on gross international reserves, as defined below, and other earnings including those on other foreign and domestic assets minus operating expenses, commissions paid, and interest paid on domestic and foreign debt administered by the BCU.

20. Cumulative changes in net domestic assets (NDA) of the BCU is defined as the difference between end-of-period monetary base and net international reserves (NIR) of the BCU as defined in 5 and 6 below. The flow of NIR will be valued at the accounting exchange rate of Ur$ 29 pesos per US$. The limit on the change in the NDA will be adjusted by the difference between actual program loan disbursements by the World Bank and IDB and scheduled loan disbursements as reflected in Schedule C:

  • The NDA ceiling at end-June will be adjusted upwar in the event of shortfalls compared with projected program loan disbursements, up to a limit of US$75 million.

  • The NDA ceiling will be adjusted downward in the event of excesses over projected program loan disbursements by their full amount.

Schedule C

(in millions of Uruguayan pesos)

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Cumulative basis

21. Monetary base is defined as the sum of (1) currency issue; (2) nonremunerated and remunerated peso sight deposits of BROU, BHU, private banks, and other institutions defined below at the BCU; and (3) call deposits of BROU, BHU, private banks and other institutions at the BCU. Other institutions include pension funds (AFAPs), local governments, public enterprises, trust funds of the liquidated banks (FRPB), investment funds, off-shore institutions (IFEs), insurance companies, exchange houses, stock brokers, and the nonfinancial private sector. The monetary base excludes central government deposits held at BROU subject to a 100 percent reserve requirement. The indicative target is defined

as the cumulative change calculated using the monthly averages relative to the base month average.

22. Cumulative changes in net international reserves (NIR) of the BCU. NIR is defined as the difference between the gross international reserves and BCU reserve liabilities. Gross international reserves include all foreign exchange assets that are in the direct effective control of the BCU and are readily available for such purposes of the BCU as intervention or direct financing of payment imbalances. Such assets may be in any of the following forms, provided that they meet the test of effective control and ready availability for use: currency, bank deposits in nonresident institutions and government securities and other bonds and notes issued by nonresidents (with a rating not below “A” in the classification of Fitch and IBCA and Standard and Poor’s or “A2” in the classification of Moody’s). In addition, holdings of SDRs or of monetary gold would be included under gross international reserves (provided they meet the test of effective control and ready availability of use) as would the reserve position in the IMF.

  • Excluded from gross international reserves are all foreign currency claims arising from off-balance sheet transactions (such as derivatives instruments), claims on residents, capital subscriptions to international financial institutions, any assets in nonconvertible currencies, claims on any nonresident Uruguay-owned institutions, or any amounts (in all components of assets, including gold) that have been pledged in a direct or contingent way.

  • Also excluded from gross international reserves are foreign exchange assets in the escrow account at the BCU created to provide backing to sight and savings deposits at the public banks and the closed domestic banks (the escrow account at the BCU). Funds not used to support banks will be invested in highly liquid and secure international assets to be reported daily to the International Monetary Fund and will be subject to periodic special audits.

  • BCU reserve liabilities include all foreign currency-denominated liabilities of the BCU with original maturity of one year or less to residents and nonresidents, the use of Fund resources, any net position on foreign exchange derivatives with either residents or nonresidents undertaken directly by the BCU or by other financial institutions on behalf of the BCU.

  • For the purpose of the NIR calculation, (a) the gold holdings of the BCU will be valued at the accounting rate of US$42 per troy ounce; (b) liabilities to the IMF will be valued at US$/SDR rate of December 31, 2002; (c) gains or losses from gold swaps and other operations will be excluded; and (d) non-U.S. dollar denominated foreign assets and liabilities will be converted into U.S. dollars at the market exchange rates of the respective currencies as of December 31, 2002.

23. The NIR floor will be adjusted by the difference between actual program loan disbursements by the World Bank and IDB, and scheduled loan disbursements by the World Bank and IDB as reflected in Schedule C, in the following manner:

  • The NIR floor at end-June will be adjusted downward in the event of shortfalls compared with projected program loan disbursements, up to a limit of US$75 million.

  • The NIR floor will be adjusted upward in the event of excesses over projected program loan disbursements by their full amount.

24. The nonfinancial public sector gross debt refers to (a) the outstanding stock of gross debt in domestic and foreign currency owed or guaranteed by the public sector as defined in (1) above excluding the BCU1. Debt in the form of leases will be calculated as the present value (at the inception of the lease) of all lease payments expected to be made during the period of the agreement excluding those payments that cover the operation, repair or maintenance of the property. 2

25. The overall nonfinancial public sector debt ceiling will be adjusted upward (downward by (1) the upward (downward) revisions made to the actual nonfinancial public sector gross debt stock at end-2002;3 (2) the difference between the actual and projected amount of social security contributions that are transferred to private pension funds according to schedule A; (3) the difference between the actual and projected interest payments, specified in Schedule B for end-March, end-June, and end-September; the ceiling will be adjusted downwards by the amount that the interest payments fall short of the projected amounts at end-December; (4) the difference between actual and scheduled program disbursements by the World Bank and IDB as reflected in schedule C below; and (5) the overperformance with respect to the targets on the BCU’s net international reserves up to a limit of US$250 million.

26. The data for assessing compliance with the quantitative performance criterio on net international reserves will be provided by the BCU no later than one week after each test date. The data for the assessment of all other quantitative performance criteria and indicative targets will be provided by the BCU no later than two months after each test date.
1

From end-1998 through end-2001, private sector wages remained broadly flat in real terms.

2

Several tax collection agencies have recently begun to exchange taxpayer information, and an integrated database for routine cross-checks of information is being set up. The authorities have also designated withholding agents for VAT in activities prone to evasion, and initiated a drive to combat informal trade.

3

The proposed extensions would cover the repurchase expectations under the SRF arising on June 27 and December 27, 2003, of SDR 64.35 million each. Extension of the SRF repurchase expectations is consistent with the applicable criteria under the SRF.

4

The government is committed to using the resources of the FSBS as initially intended. The undisbursed assets of the FSBS have been progressively reduced, to US$380 million at end-February.

1

The term “debt” has the meaning set forth in point No. 9 of the Fund’s Guidelines on Performance Criteria with Respect to Foreign Debt (Decision No. 6230-(79/140, August 3, 1979), as amended).

2

The suppliers’ contracts of ANTEL with equipment providers Ericsson and NEC, which predate the Fund’s consideration of lease contracts for programming purposes, are expensed under goods and services as rental outlays and, therefore, excluded from the definition of nonfinancial public sector gross debt for program purposes

3

The debt stock at end-2002 includes US$294 million of unsecuritized debt from an agreement between the Ministry of Finance and BROU.

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Cover IMF Staff Country Reports
Uruguay: Second Review Under the Stand-By Arrangement, Requests for Modification and Extension of the Arrangement, and Waiver of Nonobservance and Applicability of Performance Criteria, and Exchange System — Staff Report; Staff Supplements; Press Release on the Executive Board Discussion; and Statement by the Executive Director for Uruguay
Author:
International Monetary Fund
Volume/Issue:
Volume 2003: Issue 116
Publisher:
International Monetary Fund
ISBN:
9781451839227
ISSN:
1934-7685
Pages:
72
DOI:
https://doi.org/10.5089/9781451839227.002
Figure 1.

Uruguay: Selected Economic Indicators
Figure 2.

Real Exchange Rate Indicators

Urgency: Exchange rate and inflation