Abstract
In recent years, the IMF has released a growing number of reports and other documents covering economic and financial developments and trends in member countries. Each report, prepared by a staff team after discussions with government officials, is published at the option of the member country.
1. My authorities would like thank staff for the fruitful discussions and constructive policy advice during the recent Article IV consultation mission and for the continuous support.
2. Madagascar’s growth momentum is picking up while inflation is steadily declining. The authorities are making progress in their efforts to stabilizing the economy and reaching higher and more sustainable levels of growth to address widespread poverty and raise the population’s living standards. They remain focused on the implementation of their poverty reduction strategy, the Madagascar Action Plan (MAP), and the reforms schedules under the PRGF-supported program.
3. My authorities are grateful to the international community’s financial support and for the debt relief provided under the MDRI that will enable them to continue to allocate important resources to the fight against poverty. They welcome the findings of the recent debt sustainability analysis that indicates that “even under the most extreme stress cases, the [NPV of debt-to-exports] ratio would remain far below the 150 percent threshold from 2010 onward”. They would like to reiterate their commitment to a prudent borrowing strategy.
4. However, substantial additional resources both internal –through a much-needed increase in fiscal revenues mobilization–, and external –through higher foreign aid– will be needed to accelerate progress towards meeting the MDGs and to reach their ambitious development objectives set out in the MAP. Nonetheless, until the resources needed have been identified and secured they will keep a cautious and gradual approach in implementing their development strategy. In particular, they will continue to implement prudent fiscal and monetary policies and a sound management of the economy overall within the current PRGF-supported program. They will also continue to improve the business climate and further develop their infrastructures notably in the electricity sector to address potential growth bottlenecks. Efforts to broaden the exports base and to open up new regional markets through trade integration will help them address other major challenges, including the vulnerability to weather-related shocks that have recently severely affected agricultural output and food prices in a country where the primary sector represents one third of GDP and employs 80 percent of the population.
I. Recent Economic Developments and the Medium-Term Outlook
5. In 2006, the economy grew strongly reaching nearly 5 percent, driven by large infrastructure projects undertaken by the government and, more importantly, by new foreign direct investments in the mining sector. Inflation continued to decrease to slightly less than 11 percent as a result in part of a tight monetary policy and the appreciation of the ariary. The foreign exchange inflows associated with these large FDIs have also contributed to an increase in the money supply, partly mopped up by the central bank to meet the monetary targets under the program. These inflows have, in addition, led to a substantial surplus of the overall balance of payments despite a large current account deficit.
6. Large FDI-related foreign exchange inflows could, in the short-term, have an adverse effect on the exchange rate and widen the current account deficit due the high import content of these foreign direct investments. However, in the longer term, the momentary impact of the large foreign exchange inflows are likely to be offset by the improvement in the current account deficit once exports of the commodities start. Overall, the net impact on competitiveness should be limited. Moreover, my authorities believe that their prudent macroeconomic policies and their far-reaching structural reforms underway along with the important investments in infrastructure will enhance the productivity of the economy. This should help further alleviate the impact of a rise in the ariary on the exports sector. Furthermore, they will continue to modernize and liberalize the foreign exchange market to alleviate the pressure on the exchange rate. They also remain committed to the current floating exchange rate regime and to restricting their interventions in the foreign exchange market to only smoothing daily fluctuations.
II. Policies and Reforms
7. Fiscal Policya. Despite the recent revision of the 2007 budget due to measures that include the recapitalization of the central bank following a recommendation of an MCM mission, my authorities concurred with staff that these revisions will not alter their current prudent fiscal stance. In particular, the increases in expenditures included in the revision will be partly offset by reductions in initially programmed nonprioritary spending. Progress has also been made in strengthening public expenditure management, especially in the areas of budget preparation and execution with the implementation of the budget information system (SIGFP). However, weaknesses remain in budget execution and the application of the Procurement Code that the authorities will continue to address.
8. Raising fiscal revenues continues to be one of the main objectives of my authorities. To this end, they have embarked on strengthening their capacity in fiscal and customs administration. In particular, they are committed to the reform, as scheduled, of the Tax and Customs Codes as part of the 2008 Finance Law, and addressing tax exonerations and exemptions while broadening the tax base.
9. Monetary Policy. Average inflation reached 10.8 percent in 2006 down from 18.4 in 2005 due in part to the authorities’ monetary policy tightening. Despite a highly volatile consumer price index resulting from weather-related supply shocks in the agricultural sector, the authorities are determined to bring inflation down to single-digits by the end of this year. To that end, they will continue to monitor closely the money supply and domestic spending component of the FDI inflows in the mining sector. In monitoring price stability, the authorities will also increasingly shift their focus from headline inflation to core inflation in accordance with staff recommendation. This will be made easier by the securitization of the government’s debt held by the central bank that will enable the monetary authorities to conduct open market operations.
10. External Sector. Exports have been affected in the past couple of years by increased competition from other low cost producing countries in products such as textiles with the termination of the textiles quota in 2005 and a decline in the international prices of certain agricultural commodities such as vanilla. However, exports are also becoming more diversified and have increased as a share of GDP. In particular, the mining sector, where large investments are being undertaken by foreign companies, is booming. My authorities are determined to make further progress in improving the business climate and will continue to diversify the exports base and attract investments in other sectors with strong potential such as tourism and fishing.
11. Financial Sector. The soundness of the financial sector is improving as NPLs continue to decline and capital adequacy ratios are strengthening. Furthermore, microfinance institutions are expanding rapidly. The authorities view the financial sector as a crucial vehicle for economic development and will continue to promote the key role it plays in the expansion of the private sector. Despite the still limited financial intermediation – Madagascar’s performance in this area also lags behind its Sub-Saharan African peers–, the authorities are making progress in improving access to credit and enhancing competition including with the recent granting of a new banking license. The authorities are also making efforts to increase the monetization of the economy and reduce its still high reliance on cash operations.
12. Regional Integration and Trade-Related Issues. Trade liberalization, both at the regional and multilateral levels, is one of the cornerstone of the authorities’ policy agenda. Although they are aware that the phasing out of tariffs on imports would in the short-term adversely affect their already low fiscal revenue levels, they are convinced that in the longer-term they would benefit largely from the opening of new markets and from cheaper sources of imports, especially from South Africa within SADC.
13. Other Structural Reforms. Promoting the development of the private sector and improving the country’s business climate will require the restructuring of the power utility company JIRAMA, as recurrent electricity outages continue to hamper economic activity. The authorities’ medium-term intention is to transfer the management of the company to a private operator once JIRAMA becomes profitable. But prior to that, they intend to phase in electricity tariffs and adopt an automatic pricing index formula in order to address operational losses and their impact on the government’s budget.