Abstract
Despite good economic reforms, macroeconomic stability, and a major expansion of the hydrocarbon sector, Bolivia still achieved only modest gains in poverty reduction. Executive Directors stressed the importance of fiscal prudence, domestic taxation, and strengthening of public expenditure management to ensure fiscal sustainability. They commended the central bank for its monetary policy stance. They highlight the need to attain greater equity, transparency, and accountability underpinned by cautious macroeconomic policies. They underscored that Bolivia may face a competitive external environment for its nontraditional exports in the period ahead.
1. The Bolivian authorities share the staff’s appraisal that despite two decades of significant structural reforms—which formed part of the conditionality in successive programs with the Fund—economic growth was insufficient and poverty and inequality remain high. It is imperative to change this situation; the unprecedented and widened majority reached in the general elections gives the new government the legitimacy and the great opportunity to make fundamental economic and social reforms to achieve higher and more equitable growth.
Recent Political and Economic Developments
2. On the political front, the election of constituents for the Constitutional Assembly and the referendum on departmental autonomy were held on July 2. The political party of President Morales reached 50.7 percent of total ballots and obtained 137 of 255 seats in the Constitutional Assembly. The “no” to departmental autonomy won with 57.6 percent at national level, even though the “yes” in favor of departmental autonomy won in four departments.1 The Constitutional Assembly will be installed on August 6 with the objective of discussing departmental autonomy and elaborating a new constitution in the coming twelve months.
3. On the economic front, the satisfactory economic performance observed last year is continuing in 2006, helped in part by favorable external conditions. Real GDP growth was 4.3 percent in the first quarter; inflation is low and is expected to stay within the band envisaged by the central bank in the period ahead; international reserves increased strongly between January and May; fiscal surplus rose to 3.9 percent of GDP during the same period; and the public debt-GDP ratio reduced, reflecting relief under the MDRI. The government has announced a land reform to involve the redistribution of land that is unproductive or was obtained illegally. The authorities concluded the international bid process to exploit and industrialize the great deposits of iron in the east of the country and they are analyzing the winning company’s offer. Furthermore, the government has launched its National Development Plan which covers the next five years and is based on four strategies: an economic strategy aimed to increase productivity and competitiveness; a social-community strategy oriented to improve life conditions and reduce poverty through the enhancement of education, health, sanitation and the social safety net; an international relationship strategy aimed to enhance the external sector in economic, political, and cultural ambits; and a social power strategy oriented to strengthen democracy through promoting social inclusion. The authorities stress that these strategies will be developed in a consistent manner with prudent fiscal and monetary stances and emphasize their commitment to maintain macroeconomic stability, which is considered an asset of Bolivian society.
4. With respect to the hydrocarbon nationalization process, the government has reached a new agreement with Argentina to increase the price and volume of natural gas exports. The new agreement involves an increase in price from US$3.63 to US$5 per million British thermal units (BTU) for the current contract of 7.5 million cubic meters per day. The new price will be in effect from July 15 to December 2006, while a technical commission from both countries will study a formula to establish the price of natural gas for 2007 onwards. Moreover, the agreement includes the sale of an additional 20 million cubic meters per day in the next 20 years once a new pipeline to Argentina has been built. The negotiation with Brazil on the new price is underway and the government is conducing audits in the projects involved to establish whether companies fulfilled their investment commitments in order to evaluate the value of the nationalized assets and determine possible new participations in the new contracts.
Economic Policies
5. The authorities highlight the need to attain greater equity, transparency, and accountability underpinned by cautious macroeconomic policies. They assign a greater state role in mining and hydrocarbons activities and the receipts from these sectors will be used to improve education, health, and infrastructure in order to reduce poverty and inequality and enhance competitiveness. The authorities are aware that private investment is important to growth and job creation, so they emphasize that public investment in other economic sectors will be complementary to private investment. In this vein, the government supports the growth of small and medium companies, through facilitating credit access. These sectors are labor intensive and their expansion would help reduce high unemployment, which is the major cause of the rise in poverty.
Fiscal Policy
6. According to preliminary information, budget execution showed an overall surplus of 3.9 percent of GDP in the first five months of 2006, reflecting a prudent management, strong hydrocarbons revenues associated to higher oil and gas prices, and low seasonal expenditures. A fiscal surplus of 1.4 percent of GDP remains, even if the receipts from the new hydrocarbon law and the nationalization decree are not taken into account. Moreover, the higher natural gas price to Argentina would generate additional fiscal receipts of 0.5 percent of GDP. Therefore, public finance would show an overall fiscal surplus in 2006. However, this exceptional fiscal outcome will not be repeated next year because the state oil company, YPFB2, and sub-national governments will begin to execute their investment prospects. In this regard, the authorities envisage higher deficits of approximately 3 percent of GDP in the National Development Plan for the period 2007–2011, which will be manageable, according to the staff’s evaluation.
7. The authorities are concerned that the current revenue sharing and expenditure allocation system creates structural imbalances between central government and sub-national governments and undermines the scope for fiscal management. In this regard, the authorities’ objective is to reduce the earmarking problem and their intention is that part of the receipts from the difference between the new and current prices of natural gas exports to Argentina and Brazil will be deposited in a fund of stabilization and development to partially address the current imbalance and prevent future exogenous shocks.
8. The authorities are working on a tax reform to broaden the tax base, improve equity, and increase revenues. Moreover, the authorities will eliminate the financial transactions tax (ITF) on boliviano deposits and make it permanent for short-term dollar deposits above US$2000. The authorities consider that the FTT and exchange rate appreciation have created incentives for dedollarization; therefore, they prefer maintaining this tax as it was described. The FTT has existed in some neighboring countries for many years and there is no clear and empirical evidence on its negative effects on the financial sector.
9. With regards to spending, the main problem is high fuel subsidies, which have been increasing and the staff stresses the need to phase them out. However, despite the fact that subsidies are inefficient and give rise to smuggling, it is very difficult to reduce subsidies in the near term, particularly when there is a very hard political agenda to undertake. In this respect, the authorities are planning to change the energy matrix over the medium term in order to increase natural gas consumption and gradually reduce fuel subsidies and smuggling.
Monetary, Exchange Rate, and Financial Policies
10. International reserves have continued growing strongly during the first half of the year and they were sterilized by an accumulation of public deposits at the central bank. The base money expansion remains high, but it has been matched partially by an increase in real demand for bolivianos and the central bank has absorbed liquidity, mostly in instruments denominated in domestic currency and with longer maturities. Looking forward, the authorities are conscious that an abrupt change in public finance from a surplus to deficit could jeopardize the central bank’s ability to contain pressures of inflation. Nevertheless, it has demonstrated the capacity and flexibility to adjust the interest rate, despite episodes of great economic and political instability in the previous four years.
11. The crawling peg regime has contributed to maintaining competitiveness and the minor devaluations were prudent and necessary in order to preserve the health of a highly dollarized financial system. Nonetheless, the high cost of transport and deficient basic infrastructure are undermining the competitiveness of nontraditional exports, which will be more affected by the erosion of preferential access to U.S. and Andean countries’ markets. In this regard, a mission led by the Vice-President, Garcia-Linera, will be in Washington, D.C. to try to extend the Andean Trade Promotion and Drug Eradication Act (ATPDEA), which ends in December 2006. Given that there are problems and uncertainty that weaken competitiveness, the authorities consider it prudent to maintain the managed float regime and exercise more exchange rate flexibility, as needed to prevent inflationary pressures. In addition, possible appreciation pressures on the exchange rate arising from high hydrocarbons revenues will be contained through cautious fiscal and monetary policies.
12. Financial sector stability has improved. Nonperforming loans, as a percentage of total loans, have reduced from 18 percent in 2002 to 11 percent in 2005, and provisions, as a percentage of nonperforming loans, have increased from 64 percent to 81 percent during the same period. However, profitability is still low and financial dollarization remains high, even though the latter has fallen between 2003 and 2005 due to the introduction of ITF and exchange rate appreciation. Furthermore, the authorities consider that land reform will not be a source of vulnerability for the banking system since most loans are collateralized with urban real estate rather than rural land.
Medium-Term Outlook
13. The medium-term economic outlook remains favorable, although the fiscal outlook is highly dependent on hydrocarbons-based revenues. To reduce this vulnerability, the authorities are working on a tax reform to widen the base tax and increase revenues. In addition, YPFB is working on new investment settlements in order to sustain production of hydrocarbons at current levels. The government attaches great importance to the diversification of the economy to gradually reduce the high dependence on hydrocarbons and mining sectors and, consequently, to lessen the vulnerability of external shocks.
14. Finally, on behalf of the Bolivian authorities, we would like to thank the Fund for the debt relief under the MDRI. We would also like to underscore that the authorities attach great importance to the longstanding relationship with the Fund and thank the staff for the candid dialogue.