Developments since 1987

2. Since the early 1987, Mozambique has implemented, generally well sequenced, market-oriented policies. Price controls and subsidies were eliminated, the trade and exchange rate regime was liberalized, exchange rates were unified and became market determined, and fiscal and external imbalances were reduced. These polices were complemented by an ambitious structural reform agenda, that included an extensive program of privatization of over 1200 state-owned enterprises and the strengthening of the institutional and legal frameworks that have promoted greater private sector participation and increasingly confining the role of the state to that of regulator as well as provider of social services and basic infrastructure.

3. Far reaching reforms in the fiscal sector consisted among others of an overhaul of the tax system embracing a new and streamlined income tax system, and the introduction of a value-added tax, a substantive restructuring of customs administration with temporary outsourcing of the management, the adoption of a medium-term expenditure framework linked to the annual budget, matching expenditure priorities with resource availability, measures to improve fiscal transparency by adopting a new system of accounting as well as publication of quarterly budget execution reports, and the establishment of a new financial management system (SISTAFE).

4. Reforms in the monetary and financial area involved the approval of a new financial institutions law, which set the basis for banking licensing and strengthening of the central bank’s supervision role. State-owned commercial banks were partially privatized and foreign banks were allowed to operate in Mozambique. On the monetary side the central bank increasingly relied on indirect instruments of monetary control.

5. After the long rescheduling process that spanned over nearly two decades, the debt relief provided under the HIPC Initiative at the completion point was instrumental to enabling Mozambique to regain debt sustainability.

6. During the 1987-2002 period, real GDP growth averaged 7 percent a year, inflation decelerated sharply from three digit figures to minus 1.3 percent in 1998 before rising to higher levels in the past four years. Exchange rate has remained generally stable. As a result of improvements in the external current account position, gross international reserves rose to the equivalent of about 6 months of imports of goods and nonfactor services between 1996-2002 from 1.6 months before the adjustment process was initiated in 1987. The strengthening of gross domestic savings, which increased from 14 percent of GDP in 1996 to 33 percent in 2002, has contribute to gradually reduce the country’s reliance on foreign assistance.

7. As stated in the staff report much has been accomplished during this extensive period of reforms in terms of achieving macroeconomic stability and improving the economy’s efficiency. This was essentially due to the consistency in the implementation of policies and strong perseverance on the part of the authorities. To lock in the economic gains already made and to continue to enhance the progress going forward, my authorities have a strong commitment to formulating a new program of economic policies covering the period 2004-06. The program is intended to give continuity to the current economic strategy but with a special emphasis on further consolidating the fiscal position, further enhancing the soundness of the banking system and dealing with the remaining agenda of structural reforms. These measures will further assist in the process of reducing the economy’s still heavy dependence on foreign assistance, which remains a significant element of vulnerability given the volatility of these flows. The authorities trust that this program will continue to earn the support of the international community, including in particular the Fund, as it is considered important to underpin the credibility of the economic policies and assist Mozambique in its steadfast course towards its objective of realizing the economy’s full potential.

8. The authorities acknowledge that Mozambique has applied successively for Fund financial support since the program was initiated and as much as they would have wished to avoid the recourse to yet another PRGF arrangement, they have to do in the absence of a more appropriate alternative vehicle that would provide the Fund’s “seal of approval” of the country’s policies to signal donors to disburse their funds. Accordingly, the authorities are receptive to a PRGF arrangement with a more limited access.

Performance in 2003

9. The overall economic performance in first tree quarters of 2003 was generally encouraging. The trend of a robust real GDP growth of the past years is expected to be repeated in 2003 albeit at slightly lower rate of 7 percent, on account of stronger performance in the manufacturing, construction and services sectors. Inflation which has declined to 9 percent in 2002 from 22 percent in the previous year had resurged in 2003, mainly due to the impact of the regional drought on food prices, the substantive appreciation of the South African rand, and the significant upward adjustments in the prices of the petroleum products. The 12-month inflation fell to 13.6 percent in November from 14.7 percent in October.

10. The authorities remain committed to the goal of further strengthening the public sector finances to continue reducing reliance on foreign assistance. Revenue enhancing and expenditure containment measures lead to a substantive reduction in the domestic primary deficit from 6.3 percent of GDP in 2001 to 3.6 percent last year, and is envisaged to decline further to 3.4 percent in 2004. Revenue to GDP ratio is expected to rise to 14.7 percent in 2004 as a result of the strengthened tax enforcement and improved tax administration. Special attention is being accorded to press ahead with the ongoing reforms in the area of customs with a view to ensuring a smooth integration of customs within the soon to be established Central Revenue Authority. Expenditure control and monitoring will be strengthened to ensure the achievement of the fiscal target. In this context, the authorities are committed to limit the wage increase of the civil servants to the projected inflation. They are also considering a number of measures that will allow reducing the wage bill in relation to GDP in the medium-term. To this effect they intend to undertake several measures starting with a detailed analysis of the payroll data, in particular those related to the education sector that employs 50 percent of the government employees. The planned implementation of the SISTAFE in 2004 will contribute to improving financial management in the public sector. The process of integrating extrabudgetary revenues and expenditures in budgetary execution procedures and reporting is already being carried out and will assist in the effort to further improve fiscal transparency.

11. The authorities are strongly committed to implementing their poverty reduction strategy to benefit the most needy segments of the population and are confident that with continued process of fiscal consolidation, additional resources will continue to be channeled to priority social sectors. Spending on PARPA priority sectors will be accounting for 65 percent of primary expenditures in 2004. Despite this continued effort to allocate increased resources to these sectors, it is becoming evident that reaching the Millennium Development Goals of halving the poverty levels by 2015, will only be possible with additional substantial resources.

12. The authorities will continue to monitor developments in the monetary area closely and are committed to maintaining liquidity levels consistent with the achievement of the inflation target while maintaining the policy of directing resources to more productive uses. The central bank has continued to make use of open market operations as its main instrument to control money supply. During January-October 2003, broad money growth was limited to 12 percent, which was substantially lower than the 17.2 percent reached during the same period in 2002. The authorities are determined to further strengthening bank supervision and prudential regulations that are consistent with international standards. The banking system has remained generally sound with the banks having an average capital adequacy ratio of over 14 percent, thus well above the standard requirement. The situation of the largest commercial bank (BIM), which was confronted with financial problems in the past, continues to be closely monitored and has shown to improve steadily. The comprehensive diagnostic review of the bank, according to international accounting standards (IAS) was initiated in December, with the financial support of the World Bank to avoid further delays. The terms of reference for contracting the auditing firm that will carry out the comprehensive audit of the other three major banks are being finalized.

13. The authorities are in broad agreement with the conclusions and recommendations of the FSAP mission and intend to take the necessary measures to deal with the identified weaknesses in the financial sector. Given their limited administrative capacity, the authorities are appreciative of the comprehensive technical assistance program to be jointly prepared with the Fund, the World Bank and the African Development Bank to assist them in the implementation of the recommendations, but due consideration should be paid to the existing absorptive capacity.

14. Structural reforms have been progressing in a number of areas including the financial sector, taxation policy, privatization and concessioning of the few remaining public enterprises, particularly in the energy, telecommunications, national airline, water supply, ports and railways. Reform has, however, been slower than expected in judicial sector due to lack of financial resources to implement the projects identified. Where possible, however, measures have been taken to advance the process of reform in this sector, including setting the legislation to establish intermediate courts to speed up the administration of justice, revising the commercial code that could lead to the continuing modernization of the financial system, as well as of the civil and penal codes. In the meantime, an extensive training program is also being carried out.

15. Regarding public sector reform, a comprehensive restructuring of the various ministries have been initiated and a new wage policy is expected to be implemented following the restructuring, which is envisaged to reward good performance. Given the limited administrative and financial capacity at local level, the process of decentralization is expected to be introduced more gradually and provided that the required conditions are met to carry out the responsibilities. The authorities intend to make progress in other areas notably in the labor market. With regard to the issue of land tenure, appropriate measures will be taken, once the study that has been commissioned is ready.

Conclusion

16. My Mozambican authorities have shown very strong commitment and seriousness in tackling the dire economic problems confronted in the early days of this extensive adjustment and reform process, by remaining on course even in the face of the adverse conditions which have threatened to derail the process, including the externally promoted war and prolonged droughts and floods. Experience has demonstrated also that there were no quick solutions to the country’s deep-seated structural problems, and that despite the impressive results achieved thus far, continued support from Mozambique’s development partners will remain crucial to carry out the remaining reform agenda. My authorities look forward to an early negotiation of the new PRGF arrangement.

17. Finally, my authorities have consented to the publication of the staff report, subject to the deletion policy on information of a sensitive nature.