Democratic Republic of the Congo: Staff Report for the 2003 Article IV Consultation, First Review Under the Poverty Reduction and Growth Facility, and Request for Waiver of Performance Criteria

This paper examines the Democratic Republic of the Congo’s 2003 Article IV Consultation, First Review Under the Poverty Reduction and Growth Facility (PRGF), and Request for Waiver of Performance Criteria. Through September 2002, overall performance under the PRGF-supported program was broadly satisfactory, with good progress in the structural area. The annualized rate of inflation for the first nine months of 2002 reached 11 percent, down from 135 percent in 2001. Economic growth is expected to be positive for the first time in 13 years.

Abstract

This paper examines the Democratic Republic of the Congo’s 2003 Article IV Consultation, First Review Under the Poverty Reduction and Growth Facility (PRGF), and Request for Waiver of Performance Criteria. Through September 2002, overall performance under the PRGF-supported program was broadly satisfactory, with good progress in the structural area. The annualized rate of inflation for the first nine months of 2002 reached 11 percent, down from 135 percent in 2001. Economic growth is expected to be positive for the first time in 13 years.

I.Introduction

1. Discussions for the 2003 Article IV consultation and the first review under the three-year arrangement under the Poverty Reduction and Growth Facility (PRGF) were held in Kinshasa during October 29-November 12, 2002.1 In the attached letter of intent dated February 4,2003, signed by his Excellency President Joseph Kabila, and memorandum on economic and financial policies (MEFP) (Appendix I), which also includes the technical memorandum of understanding, the authorities review progress made so far under the 2002 program and outline the policies to be implemented in 2003. The letter also requests waivers for the nonobservance of one out of nine quantitative performance criteria for end-September 2002, i.e. the ceiling on net domestic assets of the BCC, which was missed by a small margin, as well as two of the three structural performance criteria, namely those on the placement into receivership of a commercial bank, the BCCE (to be implemented at end-January 2003), and the publication of a Code of Ethics and Good Conduct for the public service (observed in November 2002) (Appendix I, Attachment I, Tables 5 and 6). Table 1 summarizes the Fund position during the program period, and Table 2 indicates the phasing of remaining purchases. A debt sustainability analysis (DSA) is being finalized, and the Executive Board’s discussion of the enhanced HIPC Initiative decision point document is scheduled to take place in March 2003.

Table 1.

Democratic Republic of the Congo: Fund Position During the Period of the PRGF Arrangement, 2002–05

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Sources: International Monetary Fund, Treasurer’s Department; and staff projections.

Before possible enhanced HIPC Initiative assistance.

Table 2.

Democratic Republic of the Congo: Proposed Schedule of Disbursements Under the PRGF Arrangement, 2002–05

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Source: International Monetary Fund.

Other than the generally applicable conditions under the Poverty Reduction and Growth Facility (PRGF) arrangement.

2. At the conclusion of the 2001 Article IV consultation with the Democratic Republic of the Congo (DRC) (EBM/01/73, 07/13/01), the first such consultation since 1996, Directors commended the authorities for having embarked, since late May 2001, on a bold and front-loaded staff-monitored program (SMP). In approving the DRC’s request for a three-year arrangement under the PRGF, on June 12, 2002 (EBS/02/76 Sup. 1, 5/29/02), and in considering the interim poverty reduction strategy paper (I-PRSP) (EBD/02/81, 5/28/02), the joint staff assessment of the I-PRSP (EBD/02/82, 5/28/02), and the preliminary HIPC document (EBS/02/88, 5/24/02), Directors welcomed the clearance of the DRC’s arrears to the Fund and the World Bank, and commended the authorities’ efforts to restore normal relations with the international community after a long interruption. Directors considered the PRGF-supported program an important step toward reconstruction and the revival of economic growth, which would reduce widespread poverty in the country. Most Directors agreed that with continued strong performance under the PRGF-supported program, a decision point under the enhanced HIPC Initiative could be envisaged at the time of the completion of the first review under the PRGF arrangement, expected in early 2003, and that the completion point could be reached in early 2006.

3. On September 13, 2002, Paris Club creditors agreed to provide an exceptionally comprehensive (flow) rescheduling of Paris Club debt on Naples terms, with the expectation of comparable treatment for the DRC’s debt outstanding to non-Paris Club bilateral and commercial creditors.

4. Summaries of the DRC’s relations with the Fund and the World Bank Group are presented in Appendices II and III, respectively. The Fund and World Bank staffs have been cooperating closely in assisting the DRC. On April 25,2002, the World Bank’s Executive Board considered a multicountry demobilization and reintegration program (MDRP) for the Great Lakes region, in support of which World Bank lending could contribute US$150 million, with another US$350 million likely to be made available by bilateral donors. On June 13,2002, the World Bank’s Executive Board approved an Economic Recovery Credit of US$450 million. Subsequently, on August 6, 2002, the World Bank’s Executive Board approved IDA’s Emergency Multisector Rehabilitation and Reconstruction Project (EMRRP) in the amount of US$454 million over two years. Cofinancing of about US$1 billion has already been confirmed. Additional IDA resources may become available. A World Bank fact-finding mission in the provinces to be reunified took place, with Fund and UN participation, during January-February 2003.

5. The Fund and World Bank staffs have maintained close contacts with the African Development Bank (AfDB) Group and other multilateral creditors. On June 26, 2002, the Board of Directors of the AfDB Group approved the clearance of the DRC’s arrears with the AfDB through a partial payment/partial consolidation approach. Concerning the other multilaterals, they have all agreed that the existing arrears, totaling US$200 million as of end-2001, will be consolidated, with zero net transfers in the first year of the consolidation period.

6. The Fund and the World Bank have also closely coordinated their activities relating to the DRC with other members of the international community. Staff of both institutions participated in meetings of the Working Group of the Planning and Management Task Force on the DRC, which functions under the auspices of the Department of Peace Keeping Operations of the United Nations (UN), to discuss political, military, and economic developments. In addition, four donor information and consultation meetings (CGMs) have been held since 2001. During the most recent meeting in Paris in December 2002, donors confirmed pledges to the DRC of more than US$2.5 billion over the coming three years in support of the EMRRP, the budget, the demobilization and reintegration of combatants, HIV/AIDs-related programs, and capacity building. They also agreed, in principle, on the establishment of a multilateral donor trust fund to ensure timely debt service payments to IDA, the AfDB Group and the International Fund for Agricultural Development (IFAD). Also in Paris, on December 6,2002, a DRC business forum (attended by more than 150 private-sector investors) and a meeting on the PRSP process with about 80 NGOs took place.

7. The government intends to formally accept the obligations of Article VIII, Sections 2 (a), 3, and 4 of the Fund’s Articles of Agreement before completion of the first review under the PRGF arrangement. (See the forthcoming Board paper on this acceptance, which includes a timetable for the elimination of the remaining restrictions.)2

8. A Fund on-site safeguards assessment was conducted at the BCC during October 7–18, 2002 (Appendix IV). The assessment benefited from the finalization of an external audit of the BCC by a reputable international firm. The assessment reviewed the preliminary conclusions of an earlier off-site assessment, using documentation provided by the BCC. The on-site safeguards assessment concluded that significant vulnerabilities exist, especially in the BCC’s external audit mechanism, its financial reporting framework, and its internal control systems, thereby exposing the Fund to potential misuse of its resources and the risk of misreporting. The measures recommended to strengthen the safeguards framework have been included in a detailed action plan, which the BCC has started to implement (para. 36 and Table 3 of the MEFP).

Table 3.

Democratic Republic of the Congo: Selected Economic and Financial Indicators, 2000–05

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Sources: Congolese authorities; and staff estimates and projections.

Change in annual average. Minus sign indicates depreciation. For 2002. as of October.

For 2002, as of December.

Including interest due on external debt (before rescheduling) and. from 2003 onward, expenditure financed by resources released under the enhanced HIPC Initiative.

Revenue (excluding grants) minus expenditure (excluding interest on debt and foreign-financed expenditure).

Cash balance after interest rescheduling (including enhanced HIPC Initiative). Before 2002, excludes central bank operations.

From 2003 onward, includes investment financed by resources released under the enhanced HIPC Initiative.

From 2003 onward, includes capital projects financed through nongovernmental organizations.

After possible debt relief from bilateral creditors and enhanced HIPC Initiative related assistance. Reflects staff estimates of the impact of the September 2002 Paris Club agreement.

End-of-period debt stock, including arrears and before enhanced HIPC Initiative related assistance.

The net present value of external public debt is about 94 percent of the nominal value, reflecting the significant stock of arrears.

For 2002, as of December 30.

9. During the discussions in October-November for the 2003 Article IV consultation and first review under the PRGF arrangement, the staff discussed with the authorities recent political and security developments (Section II), key economic issues, developments under the SMP and the program supported by the PRGF, as well as measures needed to keep the program on track for the remainder of 2002 (Section III). On the basis of this review, and mindful of the particular circumstances of the post-conflict situation faced by the DRC, lessons from the past and challenges for future reconstruction and development were surveyed, not only with the authorities, but also with a broad spectrum of civil-society representatives (Section IV.A). Building on these discussions, the medium-term growth and balance of payments prospects were updated and a preliminary macroeconomic framework was designed (Section IV.B), as well as policies for 2003 (Section IV.C), which will be finalized during the mission scheduled for May 2003 to conduct the second review under the PRGF arrangement. Social, structural, and sectoral reforms were also discussed (Section IV.D). The monitoring of the PRGF arrangement is presented in Section V and the staff appraisal in Section VI. The circulation of this report to the Executive Board awaited the verification by an international audit firm of the end-December 2001 and end-September 2002 monetary survey and related performance criteria.

II. Recent Political and Security Developments

10. Remarkable progress has been made in consolidating the peace process culminating in the agreement signed in Pretoria on December 17,2002. In line with the Lusaka accords of 1999, peace agreements were signed with Rwanda (end-July 2002) and Uganda (early September 2002), and these countries have all but completed the withdrawal of their troops. On the government side, Angola is also completing the withdrawal of its troops, while Namibia and Zimbabwe have already done so. On November 11, 2002, Presidents Kabila and Kagame agreed to extend the period envisaged in the original peace agreement by three months to allow for the disarming and repatriation of ex-Rwandan Hutu soldiers. Meanwhile, Phase III of the United Nations Observation Mission (MONUC) to the DRC continues and the regional demobilization and reintegration program is gradually being put in place, with the help of the United Nations (UN) and the World Bank. On December 5, 2002, the UN Security Council passed Resolution 1445, raising the number of authorized peacekeeping troops assigned to MONUC from 5,500 to 8,700 (some 5,000 MONUC troops were stationed in the DRC as of end-2002). This will help fill the security vacuum that has emerged from the withdrawal of foreign troops, particularly in the eastern region, with tragic humanitarian consequences. The authorities noted that they had tried to remedy the situation by increasing security-related expenditure beyond what had been envisaged in the program.

11. Given the progress made with the peace process, there has been a renewed sense of optimism, both domestically and in the international community, intense consultations have ensued with representatives of civil society, the unarmed political opposition, and all rebel movements, including the Mouvement de Libération du Congo (MLC), supported by Uganda and the Rassemblement Congolais pour la Democratic (RCD-Goma), supported by Rwanda. The inter-Congolese dialogue in Pretoria, hosted by South Africa’s President Thabo Mbeki and under the auspices of the UN Secretary-General’s Special Envoy, Moustapha Niasse, resulted in the Pretoria agreement on power sharing in an all-inclusive transition government, which is to assume office shortly, to be followed by free and transparent elections after two years. A new constitution is expected to be finalized in the next few months.

12. The recently released UN report on the illegal exploitation of natural resources in the DRC revealed intensive illegal activity in both rebel- and government-controlled areas. Following up on the report, President Kabila suspended three cabinet members and three senior officials (including the director of the public diamond mining company) who were named in the report. A cabinet shuffle took place on November 17,2002; the international community welcomed President Kabila’s quick response to the UN report.

III. Recent Economic Developments and Performance Under the 2002 Program

13. The last Article IV consultation discussions (EBS/01/94, 6/22/01) focused on the most urgent economic challenges that the government of the DRC faced while starting the peace process. The first task was to stop hyperinflation and restore macroeconomic stability through a decisive tightening of fiscal and monetary policies. Second, a range of critical structural and sectoral policy reforms were needed to stimulate private sector activity, and support economic recovery. Third, a concerted effort to improve governance was essential, both to promote efficient management of public resources and boost private sector confidence. In addressing these challenges, the DRC has made remarkable progress over the last two years, not only in the peace process, but also in stabilizing the macroeconomic situation and in initiating conditions for sustainable economic growth, first through the SMP, and subsequently through the PEG supported by an arrangement under the Fund’s PRGF.

A. Performance Under the Staff-Monitored Program

14. The implementation of bold measures under the SMP (covering June 2001-March 2002) marked a turnaround in the conduct of economic policy that has produced significant results, especially by breaking the vicious circle of hyperinflation and currency depreciation (Figure 1). The macroeconomic situation stabilized following the implementation of bold measures. Important progress was made in strengthening public finances via a return to normal budgetary procedures, including the centralization of revenue and expenditure, and a reduction in the use of extrabudgetary channels. A monthly treasury cash-flow plan was strictly implemented.

Figure 1.
Figure 1.

Democratic Republic of the Congo: Selected Fiscal and Monetary Indicators 1/

Citation: IMF Staff Country Reports 2003, 161; 10.5089/9781451841121.002.A001

Sources; Congolese authorities; and staff estimates and projections.1/ The Staff-monitored program (SMP) (June 2001-March 2002). The Government Economic Program (PEG) is supported by an arrangement under the Poverty Reduction and Growth Facility (PRGF) (April 2002-July 2005).

15. Far-reaching structural measures were put in place, resulting in the removal of major economic distortions, notably via the unification of multiple exchange rates and the liberalization of prices; the latter including the introduction of a transparent and automatic mechanism for the pricing of petroleum products. There was also a profound change in the judicial and regulatory environment. This change is illustrated by the adoption of new legislation on the exchange and payments system; a new banking law; new statutes for the central bank that enshrine its independence in the conduct of monetary policy; new investment, mining, and labor codes; a new forestry law; the abolition of the export monopoly and the implementation of certification of origin for diamonds; and the replacement of exceptional military courts for business and economic affairs by civil courts.

B. Performance Under the PRGF-Supported Program

16. Through end-September 2002, overall performance under the program was broadly satisfactory, with good progress in structural areas. However, in October and November, inflation accelerated and there was a noticeable depreciation of the Congo franc, mainly on account of the financing of unforeseen security- and sovereignty-related expenditures and the larger-than-expected financial losses of the BCC. It is estimated that, for the first time in 13 years, economic growth has resumed in 2002. Growth occurred in all sectors, except for manufacturing.3 The annualized rate of inflation for the first nine months of 2002 reached 11 percent against the 13 percent programmed. The floor on net foreign assets of the BCC was exceeded, helped by higher-than-expected budgetary aid disbursements.

17. Overall fiscal performance was broadly in line with program objectives at end-September 2002. The domestic primary balance at end-September showed a surplus of 1.2 percent of GDP instead of the 0.7 percent programmed, and the consolidated overall balance (including larger-than-expected central bank losses) on a cash basis showed a surplus of 0.1 percent of GDP instead of the programmed deficit of 0.3 percent. Total revenue (excluding grants) at end-September exceeded the target by 10 percent, partly reflecting higher-than-expected—and partially exceptional—petroleum receipts. Total expenditure remained lower than envisaged, as a sharp increase in sovereignty- and security-related expenditures was more than offset by a shortfall in domestic- and foreign-financed investments and social expenditure. However, domestic arrears on utilities payments, estimated at 0.5 percent of GDP at end-September, accumulated. At the same time, the public utility companies continued to accumulate tax payments arrears. Taking into account the larger-than-expected budgetary aid disbursements by the World Bank, net bank credit to government and net foreign assets of the BCC at end-September were substantially lower and higher, respectively, than programmed.

18. Progress achieved so far by the Ministry of Finance in revenue mobilization and centralization, as well as in expenditure management, has been encouraging (Appendix V). However, expenditure financed by the central bank without prior authorization by the Ministry of Finance continued, accounting for 10 percent of total outlays at end-September 2002. The authorities explained that the security vacuum left by the withdrawal of foreign troops, as well as higher-than expected expenditure on participation in the peace process, necessitated security- and sovereignty-related expenditure overruns that were augmented by compensation payments related to last year’s abolition of the diamond export monopoly. The mission noted that these outlays were made in violation of the April 2002 presidential decree that forbids the financing of budgetary expenditure without the prior approval of the Ministry of Finance; these outlays also hampered the monitoring of the monthly cash flow plan execution and reduced overall budget transparency.

19. Thus, while overall fiscal performance remains on track, the anticipated shift in the composition of expenditure toward pro-poor spending has not yet materialized. Social expenditure accounted only for 7 percent of government primary expenditure at end-September, instead of the targeted 15 percent (for the whole year), while the combined share of defense, security, and institutional spending (mainly the presidency) amounted to 50 percent of the total.

20. In light of the acceleration of expenditure in October/November, the authorities reached understandings with the staff that immediate corrective measures were necessary to keep the program on track through the rest of 2002 (para. 10 of the MEFP). On the fiscal side, these measures include (i) the freezing of nonessential expenditure, (ii) the elimination of identified “ghost” workers, and (iii) an increase in the prices of petroleum products by 18 percent (consistent with the agreed pricing mechanism) in two steps, the first of which was implemented in early November and the second is foreseen for early 2003. On the monetary side, the BCC has committed itself to (i) no longer finance government expenditure that has not been authorized in advance by the Ministry of Finance (a new continuous performance criterion), (ii) cease the buying of national and foreign currencies at a premium against bank money (also a new continuous performance criterion), and (iii) mop up liquidity through the issuance of central bank short-term paper at positive real interest rates, starting in late December 2002. The implementation of these measures, notably the freeze on expenditure, the halt on the financing of extrabudgetary expenditure by the BCC, and the end to Congo franc and foreign currency purchases at a premium against bank money, resulted in a stabilization of the exchange rate and a sharp deceleration in inflation in the first three weeks of December 2002. Consequently, the program’s broad targets for 2002, including the fiscal targets, are estimated to have been met, except for the inflation rate, which is estimated to have reached 18 percent at end-2002 instead of the 13 percent programmed, still sharply down from 511 percent in 2000 and 135 percent in 2001 (Tables 3 and 4B).

Table 4A.

Democratic Republic of the Congo: Summary of Central Government Financial Operations, 2000–05

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Sources: Congolese authorities; and staff estimates and projections.

HIPC debt relief corresponds to the additional amount of debt relief stemming from the HIPC operation after arrears treatment and Naples flow operation.

Scheduled interest, excluding interest on arrears before 2002; interest due before Naples from 2002 onward.

In 2001 and 2002, includes a preliminary estimate for accumulation of arrears on utilities (CGF 12 billion). Utilities payments and arrears to be surveyed in 2003

Contingent expenditure that was to be mobilized in 2002 only if the debt rescheduling assumptions materialized.

The domestic primary balance is defined as revenue (excluding grants) less expenditure (excluding interest on debt and foreign-financed expenditure).

Internal and external arrears. External arrears accruing in the first months of 2002 before debt-relief operations are not shown as they are consolidated during the same year.

In 2001 central bank operational net losses amounted to CGF 15.7 billion (1 percent of GDP).

In 2002, arrears include interest and principal.

Debt relief includes rescheduling on interest and principal on Naples flow terms, and consolidation of moratorium interest.

Discrepancy between monetary and fiscal data.

Including the total amount of contingent poverty related expenditure and HIPC expenditure.

Cash balance after interest rescheduling (including HIPC). Before 2002, excludes central bank operations.

Table 4B.

Democratic Republic of the Congo: Summary of Central Government Financial Operations, 2000–05

(In percent of GDP, unless otherwise specified)

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Sources: Congolese authorities; and staff estimates and projections.

HIPC debt relief corresponds to the additional amount of debt relief stemming from the HIPC operation after arrears treatment and Naples flow operation.

Scheduled interest, excluding interest on arrears before 2002; interest due before Naples from 2002 onward.

n 2001 and 2002, includes a preliminary estimate for accumulation of arrears on utilities (CGF 12 billion). Utilities payments and arrears to be surveyed in 2003.

Contingent expenditure that was to be mobilized in 2002 only if the debt rescheduling assumptions materialized.

The domestic primary balance is defined as revenue (excluding grants) less expenditure (excluding interest on debt and foreign-financed expenditure).

nternal and external arrears. External arrears accruing in the first months of 2002 before the debt-relief operations are not shown as they are consolidated during the same year.

In 2001 central bank operational net losses amounted to CGF 15.7 billion (1 percent of GDP).

In 2002, arrears include interest and principal.

Debt relief includes rescheduling on interest and principal on Naples flow terms, and consolidation of moratorium interest.

Discrepancy between monetary and fiscal data.

Cash balance after interest rescheduling (including HIPC). Before 2002, excludes central bank operations.

21. Given the significant slowdown in inflation observed in the course of 2002, the monetary authorities further reduced the central bank’s refinance rate and the monthly rate on certificates of deposit. Based on the adjusted monetary survey4 for September 2002, broad money grew by 19 percent, compared with the 26 percent projected under the program (Table 5). Net domestic credit declined by 29 percent of the beginning-of-period money stock, against an originally programmed decline of 2 percent, on account of much lower net credit to the government, which shrank by 29 percent of the beginning-of-period money stock, instead of the programmed 8 percent decline. Both credit to the private sector and credit to the parastatals decreased slightly, compared with small programmed increases. After several years of decline, net foreign assets of the banking system are estimated to have increased in 2002, albeit more slowly than programmed. For 2002 as a whole, broad money is estimated to have increased by 22 percent, compared with the 35 percent projected in the program. Net credit to the government is estimated to have fallen by 18 percent of the beginning-of-period money stock, compared with the 6 percent decline in the program.

Table 5.

Democratic Republic of the Congo: Monetary Survey, 2000–03

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Sources: Congolese authorities; and staff estimates and projections.Note: The end-2001 and end-Septanber 2002 monetary surveys have been audited by an international firm.

At end-2000 exchange rate (US$1 = CGF 50).

At end-2001 exchange rate (US$1 = CGF313.6).