Republic of Mozambique
First Review Under the Policy Support Instrument: Staff Report; Press Release on the Executive Board Discussion; and Statement by the Executive Director for the Republic of Mozambique
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International Monetary Fund
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Publication Date:
14 Jan 2008
eISBN:
9781451827323
Language:
English
Keywords:
ISCR; CR; support instrument informational annex; policy; instrument; support; policy support instrument informational annex; priority expenditure; headline inflation; expected return; T-bill yield; net credit; IMF staff estimate; foreign currency borrowing
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The strong macroeconomic performance and the implementation of prudent fiscal and monetary policies and a flexible exchange rate regime have helped Mozambique to perform well under the Policy Support Instrument (PSI). Executive Directors advised to maintain macroeconomic stability and accelerate structural reforms to sustain rapid growth. Directors stressed the need for fiscal transparency and adopting regulations to the Mining and Petroleum Fiscal Regime laws. Directors appreciated the principles of the Extractive Industries Transparency Initiative, welcomed its monetary policy stance, and encouraged authorities to embark on revenue efforts to achieve the MDGs.

Abstract

The strong macroeconomic performance and the implementation of prudent fiscal and monetary policies and a flexible exchange rate regime have helped Mozambique to perform well under the Policy Support Instrument (PSI). Executive Directors advised to maintain macroeconomic stability and accelerate structural reforms to sustain rapid growth. Directors stressed the need for fiscal transparency and adopting regulations to the Mining and Petroleum Fiscal Regime laws. Directors appreciated the principles of the Extractive Industries Transparency Initiative, welcomed its monetary policy stance, and encouraged authorities to embark on revenue efforts to achieve the MDGs.

I. Economic Resilience is Increasing

1. Despite exogenous shocks, economic performance is still strong and inflation is under control. Real GDP grew an estimated 7.6 percent in the first semester, notwithstanding the impact of floods, down from 8.0 percent in 2006. Though there was an expected return to trend growth in the construction sector, buoyant agricultural activities kept GDP growth above the 2007 target.1 Reflecting a more than 20 percent rise in domestic fuel prices, headline inflation accelerated temporarily but is expected to remain in the single digits. Core (nonfood and energy) inflation has been contained in the 5–7 percent range as programmed, but higher food prices and a further rise in fuel prices pose some inflationary risks.

2. The external position strengthened, with strong capital inflows offsetting the effects of oil price and climatic shocks. The trade balance deteriorated in the first semester of 2007 as climatic shocks hurt traditional exports and oil imports increased. Meanwhile, foreign aid and private capital inflows surged, and on balance, the net international reserve (NIR) targets for end-June and September 2007 were met; the NIR target for end-year 2007 is likely to be exceeded by a comfortable margin.

uA01fig01

The trade balance is deteriorating as a result of lower traditional exports and higher oil imports.

Citation: IMF Staff Country Reports 2008, 015; 10.5089/9781451827323.002.A001

Sources: Mozambican authorities; IMF staff estimates; and IMF, Information Notice System.1/ Imports of gasoline, gasoil, and others subcategory.

3. Base money was higher than projected because of an unanticipated increase in money demand (Figure 1). Broad money aggregates are trending higher because economic activity was unexpectedly strong and foreign currency deposits increased as donor-financed project disbursements through commercial banks picked up. Meanwhile, unexpectedly good cash crops (cotton and sugar) and additional provincial branches opened by the central bank boosted demand for currency in circulation. These factors contributed to a marginal breach of the adjusted base money assessment criteria for the end of June 2007. Because the higher monetary aggregates appear to be driven by a permanent increase in demand, and core inflation is within target, staff supports the authorities’ request for a waiver and modification to the assessment criterion on base money at end-year.2

Figure 1.
Figure 1.

Recent Economic Development, 2005–2007

Citation: IMF Staff Country Reports 2008, 015; 10.5089/9781451827323.002.A001

Sources: Mozambican authorities; and IMF staff estimates.

4. The Bank of Mozambique (BM) has continued to reform its monetary and exchange rate operations. It restored exchange rate flexibility when it removed the temporary band on the interbank foreign exchange market (MCI) in June 2007. Markets have remained calm; the spread between MCI rates and those quoted by banks has narrowed to less than 1 percent, and the real effective exchange rate (REER) is stable. However, one September structural benchmark has been delayed to November 2007 (agreement to shift the cost of monetary policy to the budget to enhance the BM’s operational independence).

uA01fig02

Foreign exchange markets remained calm while exchange rate spreads have narrowed.

Citation: IMF Staff Country Reports 2008, 015; 10.5089/9781451827323.002.A001

5. Financial intermediation continues to deepen (Table 7). Growth in credit to the private sector stayed strong (at about 20 percent year-on-year) but has moderated in 2007, possibly because of higher domestic debt issuance for sterilization purposes. The banking system is sound (the share of nonperforming loans in the total is below 5 percent). The profitability of the banking system is high, albeit moderating over the last few quarters. Capital adequacy ratios remain comfortably above minimum requirements. Since July 2005, when a prudential measure calling for banks to provision 50 percent of their foreign currency-denominated loans to nonexporters took effect, foreign currency borrowing has continued to give way to domestic currency bank borrowing.

Table 1.

Mozambique: Selected Economic and Financial Indicators, 2005–10 1/

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Sources: Mozambican authorities; and Fund staff estimates and projections. Note: Takes into account IMF delivery of MDRI in January 2006 and reflects changes in quantitative targets in line with projected program adjustors.

2004 and 2005 data incorporate revisions in GDP. Projections exclude several megaprojects such as the Moatize coal mine project, Cahora Bassa transfer, and petroleum exploration.

Minus sign indicates depreciation.

Includes the issuance of government securities for the central bank recapitalization in years 2005-07.

Includes movement in the government account set abroad with the proceed of the Moatize coal mine concession.

Table 2.

Mozambique: Government Finances, 2005–10

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Sources: Mozambican authorities; and IMF staff estimates and projections. Note: Takes into account IMF delivery of MDRI in January 2006 and reflects changes in quantitative targets in line with projected program adjustors.

Revenue minus noninterest current expenditure minus locally financed capital expenditure and locally financed net lending. Unallocated revenue and expenditure are included in the primary balance.

Residual discrepancy between identified sources and use of funds.

Includes the transfer of both MDRI and HIPC assistance from the central bank to the budget in 2006.

Tracks the movements in the government account set up abroad with the proceeds of the Moatize coal mine

Excludes recapitilization bonds issued to the Bank of Mozambique and proceeds of the Moatize coal mine concession.

Assumes a constant level of foreign aid disbursements in US$ from 2008 onwards.

Table 3.

Mozambique: Monetary Survey, 2005–10

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Sources: Bank of Mozambique; and IMF staff estimates and projections. Note: The new family of meticais (MT) was introduced in July 2006. Values in this tables have been thus converted to MT for ease of comparison.

Mozambique’s liability to the Fund rests with the Bank of Mozambique. MDRI assistance is immediately transferred to a government blocked deposit account at the Bank of Mozambique.

Balance declines from MDRI assistance by 0.5 percent of GDP corresponding to an agreed increase in government expenditures contingent on MDRI assistance.

On an annual average basis from December 2006 to December 2007, reserve money growth is 15.5 percent.

Table 4.

Mozambique: Balance of Payments, 2005–10

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Sources: Mozambican authorities; and IMF staff estimates and projections.

Since this presentation still follows the fourth balance of payments manual, MDRI and HIPC grants from the IMF are included in the current account.

The large amortization in 2006 reflects the repayment of IMF debt with MDRI resources.

Private borrowing, not guaranteed by the government or the Bank of Mozambique.

Tracks the movements in the government account set up abroad with the proceeds of the coal mine concession.

Table 5.

Mozambique: Balance of Payments of Megaprojects, 2002–12 1/

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Sources: Mozambican authorities; and IMF staff estimates and projections.

Megaprojects include Mozal (aluminum production), Sasol (gas production and pipeline), the Cahora-Bassa dam (hydro-power), and two titanium ore projects.

This line significantly overestimates the contribution of megaprojects to international reserve accumulation because most financial operations related to such products are conducted outside the domestic banking system. Only a small fraction of foreign exchange proceeds are actually repatriated in Mozambique. However, information on repatriation proceeds is not available.

Table 6.

Mozambique: Expenditure in PARPA Priority Sectors, 2005–2008 1/

(Millions of MT, unless otherwise indicated)

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Source: Mozambican authorities (Ministry of Finance); and staff estimates and projections.

PARPA stands for National Action Plan for the Reduction of Absolute Poverty, which is the Portuguese acronym.

Table 7.

Mozambique: Financial Soundness Indicators for Banking Sector, 2001-07

(Percent unless otherwise indicated)

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Source: Bank of Mozambique (BM).

Data as of September 2007.

Includes credit cards and consumer credit lines for vehicle and durable goods.

Includes credit to all other sectors not discriminated above or yet to be identified.

Nonperforming loans are defined according to Mozambican accounting standards (they include only part of the past-due loans).

uA01fig03

Credit growth has remained strong in 2007.

Citation: IMF Staff Country Reports 2008, 015; 10.5089/9781451827323.002.A001

Sources: Mozambican authorities; and IMF staff estimates.1/ Includes three-month Monetary Authority bills (TAM) up to May 2006.

6. Fiscal performance through September 2007 is in line with the program. Revenues are 0.1 percent of GDP above target, buoyed by tax collections, particularly on personal and corporate income. Expenditures were roughly as programmed despite emergency spending related to floods. Net credit to the government kept to the upward-adjusted target for June and was far below target in September because foreign aid disbursements, while delayed, exceeded expectations (MEFP Table 1). Priority expenditures as a share of total spending in June—while slightly below the 65 percent target in the PARPA—are expected to exceed the 2007 target once donor-financed project execution picks up toward the year’s end. Overall, the fiscal program for 2007 is largely unchanged; higher revenues and program aid should offset the administrative costs related to the upcoming elections, approved this October by the Assembly in a supplementary budget (Table 2).3

7. The fiscal structural program is ahead of schedule (MEFP Table 2, and ¶6–¶8). All but one of the tax policy measures for the 2008 budget has already been submitted to the assembly. PFM reforms have been implemented ahead of schedule, and the multicurrency treasury single account (CUT) is operational since September. The new mining and petroleum fiscal regimes are being put in place; the model contract for mining concessions and the petroleum sector were adopted on time (assessment criteria for end-June and end-September). For the transfer of ownership of Cahora Bassa dam from Portugal to Mozambique, an agreement has been reached with a consortium of international banks in October 2007. According to the World Bank, the agreement includes a nonrecourse financing clause (i.e., financing will not increase the government’s liabilities to commercial creditors). Other structural measures have also advanced (MEFP ¶11–¶14).

II. Policy Framework4

A. Strengthening Fiscal Policy and Institutions to Manage Scaled-Up Aid

8. Scaled-up foreign aid will mostly go toward achieving the MDGs (Table 2 and MEFP ¶22). In the 2008 budget, aid is expected to be about US$350 million (about 5.5 percent of GDP) more than originally programmed (partly because of the euro’s appreciation against the U.S. dollar). Priority public investments will increase significantly as a result (Table 6).5 Expenditures cover costs related to upcoming municipal elections, the hiring of 12,000 teachers and 5,000 health workers, the reinforcement of security forces, and sufficient counterpart funds to ensure that donor-financed projects are executed smoothly. The budget also targets a domestic revenue effort of 0.5 percent of GDP (MEFP ¶22). A revenue loss related to the Southern African Development Community Free Trade Area Protocol (0.4 percent of GDP) will be offset by bringing a number of off-budget line items on budget in line with IMF technical assistance. As permitted under the PSI, which allows priority expenditures to increase if revenues or program aid outperform targets, the 2008 budget includes 0.5 percent of contingent spending.

9. Medium-term measures to mobilize revenue and enhance PFM systems will help consolidate fiscal and macroeconomic stability (MEFP, ¶23–¶25). Given domestic and foreign investor interest in Mozambique—which recently surged to about US$20 billion—the tax system for small and medium-sized enterprises will be simplified and the 2002 code of fiscal benefits will be revised to rationalize tax incentives across key sectors, including agriculture and special economic zones. The authorities are also undertaking audits of VAT refunds and any related arrears payments to large infrastructure contractors.6 In addition, the strategic plan of the AT to be supported by a common donor fund is being initiated; the plan calls for the entire chain of revenue collection to be computerized. The authorities medium-term PFM action plan and budget (APB) for 2008 also includes the following measures:

  • Salary payments via e-SISTAFE will start in early 2008 (end-March benchmark) based on an integrated payroll database verified by all sectors. Validation of the database by the Administrative Tribunal will continue.

  • The rollout of e-SISTAFE to 27 districts will be initiated in January 2008, and a business case with the additional districts and municipalities that will receive e-SISTAFE will be defined by June 2008 (structural benchmark).

10. Improving public service delivery and accountability are key pillars of the public sector reform program (MEFP, ¶38). A strategy to decentralize the revenue and expenditure responsibilities encompassing all government tiers will be defined by end-2007; this should improve public service delivery while maintaining fiscal control. A new wage policy to sharpen incentives and increase accountability is also being designed with the help of the World Bank. Action plans developed with the help of the World Bank will address concerns about governance results since the anticorruption strategy was adopted last year.

B. Fine-Tuning Monetary and Exchange Rate Policy

11. A key monetary policy challenge is to sterilize the liquidity injected by government spending of foreign aid. With a view to achieving its inflation target of 5–6 percent and anchoring expectations, the BM will limit base money growth to 14.4 percent in 2008 (MEFP, ¶26). Excess liquidity will be mopped up mostly through foreign exchange sales (up to a maximum of the NIR floor); treasury bill issuances would smooth seasonal liquidity fluctuations. The authorities recognize that they may have relied excessively on treasury bill issuance for sterilization purposes in 2007 and are increasing sales of foreign exchange (MEFP, ¶27). A net redemption of treasury bills is programmed for 2008. The volatility of net capital flows (particularly foreign aid) and government spending patterns highlights the importance of closely monitoring liquidity and external conditions, and responding flexibly to changing circumstances. Now that the first generation of reforms has been successful, the BM can consider gradually moving to an inflation targeting framework as conditions permit in line with recent IMF technical assistance. The BM agreed on the following intermediate steps: (i) intensifying reliance on repurchase operations for short-term liquidity management; (ii) strengthening research and forecasting capacity; and (iii) measures to deepen debt markets, including allowing for outright operations in the secondary treasury bill market (structural benchmark for June 2008).

Monetary Policy Mix

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Source: Bank of Mozambique (BM)

C. Acceleration of the Second Wave of Reforms

12. Second-generation reforms in 2008, with the help of the World Bank and other development partners, will include private sector development and stronger management of natural resources and megaprojects.

  • Improving the business environment. While Mozambique is emerging as a regional reform champion, the staff encouraged the authorities to timely implement the action plan and reduce the costs of doing business (MEFP, ¶33–¶34). Financial sector reforms are also advancing, especially to introduce the International Financial Reporting Standards (IFRS) and risk-based supervision in the banking system, and deepen the nonbank financial sector (MEFP, ¶27–¶29).7

  • The fiscal and transparency regime will need to be strengthened further given the number of megaprojects and concessions in the pipeline. The authorities are committed to adopting the regulations needed to implement the new mining and petroleum fiscal laws (structural benchmark for end-February 2008). The government reiterated that it would adhere to the principles of the Extractive Industries Transparency Initiative (EITI) (MEFP, ¶21). The process by which the Council of Ministers approves new projects, public-private partnerships (PPPs), and concessions will be strengthened to ensure that fiscal revenue are maximized and fiscal risks minimized (MEFP, ¶15).

D. Other Issues

13. Progress was made in reaching debt rescheduling agreements in the context of the enhanced Heavily Indebted Poor Country (HIPC) Initiative and reducing external vulnerability (Table 8 and MEFP, ¶18).8 The authorities completed the buyback of its commercial debt (US$153 million) in October 2007 at the price of 9 cents per dollar with the assistance of the international community. Discussions are ongoing with Russia on mechanisms to cancel debt. In the context of the enhanced HIPC initiative, the government advanced bilateral debt rescheduling by concluding negotiations with Hungary and Romania. Negotiations with Bulgaria and Libya are ongoing, and discussions with Iraq and Portugal have been scheduled. 9

Table 8.

Mozambique: Indicators of External Vulnerability, 2005-08

Percent of GDP, unless otherwise indicated)

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Sources: Mozambican authorities; and IMF staff estimates and projections.

Domestic public debt and private sector external debt are valued at par in the net present value calculation.

Historical NPV estimates are based on previous debt sustainability analyses.

Cash interest and amortization payments, after HIPC assistance.

Official exchange rate.

Minus sign indicates depreciation.

14. Mozambique has committed to introduce current account convertibility. A new foreign exchange law was submitted to the Assembly in September 2007. After it is approved and related regulations are issued, the authorities intend to accept their obligations under Article VIII sections 2, 3, and 4 of the Fund’s Articles of Agreement (MEFP, ¶30).

15. The statistical agency has revised its historical national accounts series, and is seeking further assistance to improve statistics through a sector-wide financing approach.

III. Program Monitoring and Risks

16. The second review of the PSI is expected to be completed by end-June 2008, conditional on the authorities meeting the end-December 2007 quantitative and structural assessment criteria (MEFP, Tables 1 and 3). The government intends to continue to monitor its program through the multidisciplinary committee. A centralized unit will also be created to collect and disseminate information on megaprojects and state-owned and public-participating enterprises by end-March 2008 (MEFP, ¶35).

17. The risks to the program include natural calamities, a surge in international oil prices, and spending pressure during election times.

18. The mission had a retreat with the Mozambique World Bank team in Maputo to update the joint work programs for 2008. Staffs discussed macrocritical sectoral issues; shared recent analytic and diagnostic work; and coordinated work programs, including TA missions and the timing of the next Debt Sustainability Analysis. The staffs agreed that the retreat was useful and should be repeated in the future.

IV. Staff Appraisal

19. The 2007 program has been implemented satisfactorily through September 2007; all but one of the quantitative assessment criteria for end-June 2007 and all structural assessment criteria through end-September 2007 were observed. Base money narrowly missed the end-June target because of increased money demand. All but one of the structural benchmarks through September 2007 were also met.

20. Economic performance has been strong so far in 2007, despite climatic and oil price shocks. Economic growth slowed to 7.6 percent in the first semester. Thanks to prudent fiscal and monetary policies, inflation is expected to stay in the single digits, albeit somewhat higher than programmed in line with higher international oil prices. Despite a marked decrease in traditional exports and higher oil imports, NIR should remain at a comfortable level.

21. Economic prospects for 2008 and the medium term are good. Growth should continue to be robust and inflation should decelerate, though natural calamities, an increase in international oil prices, and spending pressures during election times pose some risk. The external current account is expected to widen as aid is scaled up.

22. To sustain growth as aid is scaled up, the authorities’ strategy is to consolidate macroeconomic stability while accelerating the second-generation of reforms. Fiscal policy will be strengthened so that additional priority spending is sustainable and to ensure that aid-financed expenditures reach the most productive sectors. Reforms to reduce the cost of doing business and buttress the management of natural resources also figure prominently. Monetary control will need to anchor inflationary expectations; the flexible exchange rate regime will help cushion against exogenous shocks.

23. The 2008 fiscal framework envisages a continued revenue effort and spending most of scaled-up foreign aid. To maintain economic stability, it targets a 0.5 percent of GDP rise in domestic revenue. Priority expenditures will make up more than 65 percent of total spending, significantly above the 2007 level. The budget also identifies 0.5 percent of contingent priority spending that could be executed if revenue or program aid outperforms expectations. The rollout of e-SISTAFE to all public entities (central and provincial) and a number of districts in early 2008 should improve expenditures monitoring. Now that the multicurrency CUT is operational, staff supports the authorities’ call on the international community to bring their projects, including common funds on CUT and e-SISTAFE (MEFP ¶8).

24. Public sector and governance reforms need to be monitored closely. As the authorities seek to increase the revenue-raising and spending responsibilities of subnational units, it would be important to define a decentralization strategy that ensures macroeconomic stability as well as takes into account the capacity of districts and municipalities to absorb and account for resources. In addition, borrowing by the provinces should be ruled-out and reporting mechanisms should be established to facilitate fiscal coordination with the center. A new wage policy is needed to retain and recruit frontline workers including economic and financial managers but must be fiscally sustainable. The authorities’ commitment to decisively carry out their anticorruption strategy would ease governance concerns.

25. With fine-tuning, the monetary policy framework should help consolidate price stability. In this regard, the staff encourages the BM to rely more on foreign exchange sales to mop up excess liquidity. Given its success with first-generation reforms, the BM could consider gradually moving to a monetary policy framework that targets inflation as conditions permit.

26. To create a level playing field for investors, it will be important to timely execute the action plan to reduce the costs of doing business.

27. Mozambique’s expanding financial system is sound. Risk-based supervision and the IFRS should foster bank stability. Steps to restructure the national pension fund (INSS) and better supervise the growing nonbank financial sector are also important.

28. More fiscal transparency in megaprojects, public-private partnerships, and concessions would enhance their economic returns. Regulations to the new Mining and Petroleum Fiscal Regime laws must be issued on time to ensure that all new projects are subject to the new fiscal regime. The staff welcomes the authorities’ commitment to adhere to the EITI principles. Megaprojects, PPPs, and concessions must be selected and monitored more systematically to safeguard fiscal sustainability.

29. The staff welcomes advances in debt rescheduling and exchange system reforms. It looks forward to the approval of the new foreign exchange law and regulations consistent with Article VIII, Sections 2, 3, and 4 of the Fund Articles of Agreement. The authorities are encouraged to continue to negotiate with external creditors and agree on terms consistent with those of the Paris Club.

30. Based on performance to date and the strength of the program, the staff recommends completion of the first review of the PSI, a waiver for the non-observance of the quantitative assessment criterion on base money, and modification of the assessment criterion on base money for end-year 2007.

31. The staff welcomes the authorities’ intent to make public the staff report, the letter of intent, and the MEFP.

Table 9.

Mozambique: Millennium Development Goals, 1990–2004

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Source: World Development Indicators database, April 2006; and Mozambican authorities.

Figures in italics refer to periods other than those specified.

A household survey was conducted between 1996–97 and 2002-03 to determine poverty incidence. The methodology included a basket of goods that satisfies basic calorie needs. The cost of this basket represents the food poverty line in each domain; a nonfood poverty line was also obtained. Households are defined as poor if their daily per capita expenditure is less than the total poverty line (sum of food and nonfood poverty lines).

Appendix I

Maputo, Mozambique

November 12, 2007

Mr. Dominique Strauss-Kahn

Managing Director

International Monetary Fund

Washington, D.C. 20431

U.S.A.

Dear Mr. Strauss-Kahn:

1. The Government of Mozambique is implementing a financial and economic program with support from the Fund through its Policy Support Instrument (PSI). We recently held discussions with the Fund staff on the first review of the new program approved by the Executive Board of the Fund on June 18, 2007. On behalf of the Government, we hereby transmit the attached Memorandum of Economic and Financial Policies (MEFP), which reviews recent economic developments, progress in the implementation of our 2007 objectives and policies, and sets out the policies that are consistent with our Plano de Acção para a Redução da Pobreza Absoluta II (PARPA II) and that the Government intends to pursue covering the period 2007–2010. The attached technical memorandum of understanding (TMU) defines the terms and conditions of the program.

2. Implementation of the 2007 program has been satisfactory through September 2007, with all but one of the quantitative assessment criteria (AC) for end-June 2007 and all structural assessment criteria through end-September 2007 observed. The end-June AC for base money was missed by a narrow margin because of an unanticipated increase in money demand. Because of the permanent nature of this increase, the government requests the modification of the related AC for end-December 2007. All structural benchmarks through September 2007 were met with the exception of the one related to the memorandum of understanding between the Ministry of Finance and the Bank of Mozambique for the shifting of the cost of managing monetary policy which will be agreed before end of November 2007. In light of the progress achieved in the implementation of our program, the Government of Mozambique requests a waiver for the non-observance of the quantitative AC on base money and the completion of the first review under the PSI.

3. The resources released as part of the MDRI have been incorporated in the execution of the 2007 budget and included in the medium-term fiscal framework (CFMP) to be spent on poverty-reducing priority expenditures identified in the PARPA II.

4. Looking ahead, the policies set out in the MEFP continue to aim to consolidate macroeconomic stability and sustain strong broad-based growth through a second wave of reforms in order to achieve the Millennium Development Goals (MDGs). The ACs for end-December 2007 for the second review (expected to be completed by end-June 2008) remain unchanged, except for the one on base money, set out in Tables 1 and 3 of the MEFP. Our PSI supported program also proposes ACs for end-June 2008 for the third review, which is expected to be completed by December 2008.

5. The Government of Mozambique intends to accept its obligations under Article VIII, Sections 2, 3, and 4, of the Fund’s Articles of Agreement following the approval of the new foreign exchange law which was submitted to the Assembly in September 2007, and issuance of related regulations. The government remains committed to a flexible exchange rate regime.

6. The Government of Mozambique will provide the Fund with such information as the Fund may request in connection with the progress made in implementing the economic and financial policies and achieving the objectives of the program.

7. The Government of Mozambique believes that the policies set forth in the MEFP are adequate to achieve the objectives of our PSI program; it will take additional measures to that end if deemed necessary. During the implementation of the program, the Government of Mozambique will consult with the Managing Director on the adoption of these measures and in advance of revisions to the policies contained in the PSI, at the initiative of the Government or whenever the Managing Director requests such a consultation.

Sincerely yours,

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Attachments: Memorandum of Economic and Financial Policies Technical Memorandum of Understanding

Attachment I Memorandum of Economic and Financial Policies of the Government of Mozambique for the First Review of the PSI Supported-Program (June 2007-June 2010)

November 12, 2007

1. The Government of Mozambique is committed to continuing to consolidate macroeconomic stability and to achieve sustained economic growth and poverty reduction through the pursuit of prudent macroeconomic policies and a second wave of structural reforms. The strategy to achieve these goals is set out in the Plano de Acçãao Para a Redução da Pobreza Absoluta II (PARPA II) for which a Joint Staff Advisory Note was approved by the Boards of the International Monetary Fund (IMF) and World Bank (WB) in December 2006. The current Government’s economic program is supported by the IMF with a three-year Policy Support Instrument (PSI) approved on June 18, 2007. This Memorandum of Economic and Financial Policies (MEFP) reviews the performance under the PSI program through September 2007 and describes the policies and targets for the rest of 2007 and for 2008.

I. Recent Performance and Policy Agenda for the Remainder Of 2007 Under the PSI-Supported Program

2. In 2007 economic performance has remained strong so far, despite exogenous shocks. Economic growth remains robust and is expected to reach the program target of 7 percent for the year as a whole. Thanks to prudent fiscal and monetary policies inflation is expected to remain in the single digits, albeit somewhat higher than programmed, on account of food and international oil prices. Despite a marked deceleration in traditional exports net international reserves (NIR) are expected to remain at a comfortable level and exceed the program target at end 2007 mainly on account of an increase in net capital inflows.

3. In response to the floods along the Zambezi River and the cyclone Favio that affected Mozambique in early 2007, the council of Ministers endorsed in July the findings of an assessment for the national food security and nutrition situation in May 2007 prepared by the Vulnerability Assessment committee (VAC) of the Technical Secretariat for Food Security and Nutrition (SETSAN). According to the study 520,000 people are highly food insecure and need humanitarian assistance until March 2008. An additional 140,000 people are at risk of food insecurity and will need assistance from October 2007 to March 2008. The government, with the financial assistance of the donor community, is assisting the affected population and enterprises with their basic needs and reconstruction of damaged infrastructure. However, in the event that donor-financing is inadequate to cover the reconstruction plan, the Government may consider using the program adjustor to accommodate emergency fiscal outlays (up to a maximum of about MT500 million).

4. The Bank of Mozambique (BM) has stepped up its efforts to strengthen monetary and exchange rate policy and operations. The exchange rate showed greater flexibility but remained relatively stable following the removal in June 2007 of the temporary band on the interbank foreign exchange market (MCI) introduced in November 2005. The spread between the different foreign exchange markets has narrowed to about one percent and the real effective exchange rate has remained stable.

5. The fiscal position at end-June and end-September 2007 was better than programmed and fiscal targets for end 2007 are well within reach. This notwithstanding the administrative cost related to the forthcoming elections that were included in a supplementary budget that was approved by Parliament in October 2007. Tax collections were slightly higher than targeted through end-September 2007 led by the buoyancy in corporate and income taxes (including collection of tax arrears). Domestic current and capital expenditures were as programmed, but the share of priority expenditures were slightly below 65 percent PARPA target due to delays in disbursement of donor-financed projects, which is expected to pick up towards the end of the year. Net credit to the government (NCG) at end-June (assessment criteria) remained negative and within the upward adjusted target taking into account lower than projected foreign aid due to a delayed disbursement by one donor.

6. A number of administrative measures have been implemented to increase tax collection and widening the tax base, including (i) an increase of registered tax payers by 138,472 at end-September exceeding the objective of 100,000 by end-December 2007; (ii) an increase of tax audits of large tax payers, including mega projects, in line with the 2007 target of 675 audits; (iii) a simplification of tax declaration forms; (iv) intensification of fiscal education and communication campaigns at central and provincial levels; and (v) a reduction in average time to release imported goods at the border to a maximum of two hours. In addition, the Information Technology Master Plan (PDTI) for 2007–2010 was approved by Government in June and a business case (BC) for a revenue collection network, that electronically consolidates all classified revenues and links them to e-SISTAFE (e-Tributação) has been developed and awaits the approval of financing from the development partners by end-January 2008. A study on operationalizing an “electronic one-stop-window” through an integrated IT system in which both customs and tax IT systems are incorporated will be finalized by end 2007.

7. In the area of tax policy a number of draft laws were submitted to Parliament: (i) on the Municipal Finances and Property; (ii) on the Inheritance and Donations; (iii) amendments to the personal and corporate tax income laws (IRPS and IRPC); and (iv) amendments to the VAT law. The proposed changes in the VAT law grant a limited exemption on public works as a transitory solution but the government remains committed to the full taxation of services related to public works and will seek to gradually reduce the deduction from the tax base and eliminate the limited exemption in due course. Following the approval of the new mining and petroleum fiscal regime laws in June 2007, model contracts for the mining and petroleum sectors were approved in June and September 2007 respectively (structural assessment criteria). A draft law updating excises taxes on alcoholic beverages, beer and tobacco will be submitted to the Council of Ministers by end-December 2007 and submitted to Parliament by end-February 2008 (structural assessment criteria).

8. Public Financial Management (PFM) reforms are progressing well.

  • An integrated and e-SISTAFE compatible payroll database was developed in June following the completion of the civil services census (structural benchmark). The validation of the database by the Administrative Tribunal (TA) is now expected for early 2008. However, the salary payments via e-SISTAFE will start in early 2008 (end-April benchmark) while the validation process continues. The institutional responsibilities for keeping the payroll system updated will be decided by the authorities before end-December 2007.

  • Ahead of schedule, e-SISTAFE has been successfully rolled out in September to all remaining ministries at the central and provincial levels (structural benchmark for end-December). The roll out of e-SISTAFE to 27 districts originally envisaged for October will now be initiated on January 1, 2008 to coincide with the new fiscal year. The progressive roll-out of e-SISTAFE to State organs at the central level will start in 2008.

  • Phase II of the budget formulation module has been developed and successfully implemented for the preparation of the 2008 budget.

  • In close coordination with the ATM and Treasury Directorate, a fully articulated BC was approved in July 2007 by the Government to implement a revenue collection network (RCN) with which all government revenues collection will be automated and classified before being transferred to the Treasury Single Account (CUT).

  • The module for a multi-currency CUT has been finalized (structural benchmark for September 2007) and the pilot case with UTRAFE external funds has been initiated for salary payments and allowances. In order to maximize the benefits from e-SISTAFE the government encourages donors to rapidly put all their projects on-CUT.

  • A tender for the implementation of the asset management system and procurement interface to e-SISTAFE will be launched by December 2007, pending financing from the international community.

  • Well ahead of schedule, the direct budget execution of e-SISTAFE has drastically improved from 5 percent in 2006 to more than 80 percent in 2007 (structural assessment criteria for end-December 2007).

9. Monetary policy has remained prudent. At end-June, NCG remained negative and within the upward adjusted target (assessment criteria), and net international reserves exceeded the floor by US$69 million (assessment criteria). In June 2007 the BM lifted all remaining bands in the foreign exchange markets. Since then, both interest rates on government securities and the exchange rate are market determined. Credit growth to the economy has remained strong and has almost doubled in the last three years, albeit starting from a low base. Base money at end-June (assessment criteria) and end-September was higher than programmed because of a structural increase in money demand. In June, the BM issued new regulations for repo operations and a new facility was added to the main money market instrument system (Metical net), allowing the BM to perform reverse repo auctions. An initial stock of treasury bills for repo operations of about 1.75 billion meticais was issued in July. The BM has started using reverse repo auctions in July 2007 to mop up aggregate liquidity excess. Monetary policy transparency and credibility were enhanced with the approval and electronic dissemination of a long-term monetary policy strategy document and the creation in June 2007 of a new Monetary Policy Committee whose meeting communiques are published. In order to strengthen the balance sheet of the BM, securities in an amount of MT 1.5 billion were issued to BM in June 2007 as envisaged in the program. An agreement between the BM and the treasury to shift the cost of monetary policy to the budget to enhance the BM’s independence will be finalized before end-November 2007 (an end-September 2007 structural benchmark).

10. Prudential ratios of the banking system have continued to improve. Bank profitability remains high. Nonperforming loans (NPL) have fallen to less than 5 percent of all loans. By end-December 2007, the BM will complete an assessment of the impact of IFRS on banks’ nonperforming loans and on prudential regulations. Banks are also becoming more efficient with non-interest expenses to gross income and to a lesser extent personal expenses to non-interest expenses declining since 2004. Greater confidence in the banking system and regulatory measures introduced in May 2005 requiring the provision of 50 percent of their foreign currency-denominated loans to non-exporters have led to a significant decrease in liability dollarization and thus less financial vulnerability.

11. The BM has continued to strengthen the regulatory and supervisory framework in order to comply with Basel I principles. In March 2007, the BM issued a set of regulations related to International Financial Reporting System (IFRS) implementation in the financial sector, including risk management, maximum limit exposures, consolidated supervision, capital ratios, and connected lending. Banks with non-bank holdings are now required to publish consolidated accounts using IFRS by October 31, 2007, and all banks by January 2008. To strengthen risk-based banking supervision the banking supervision department is reviewing the Inspection Manual with the assistance of IMF technical assistance. Furthermore, the positions of “Chief Inspector” responsible for a group of financial institutions were created in the banking supervision department (BSD). In the context of the implementation of the Anti-Money Laundering Law, the Government created a financial intelligence unit in June 2007.

12. Progress was also made to increase access to finance, in particular for rural financing. In order to promote the physical presence of banks in rural districts and direct bank lending to the agriculture and rural sector, the authorities have launched a package of initiatives targeted to reduce the operational costs of providing banking services in rural areas through infrastructure improvements, and by relaxing reserve requirements in rural branches so as to include cash in vault. Transport costs related to the constitution of legal reserves and cash in vault for immediate withdrawal have been further minimized with the opening of five BM branches (with due regard to its cost) in selected provinces. Progress was also made in improving the institutional lending environment. In order to accelerate dispute settlement and improve contract enforcement, the Parliament approved in October 2007 a new bankruptcy and insolvency law for banks. Furthermore, the Parliament also approved a new national payment system law consistent with the SADC payment system initiative. The BM has launched a survey in the banking sector on the rationale of the fees and charges structure.

13. Progress on structural reforms also accelerated, particularly in the areas of the cost of doing business. Several measures helped to improve the investment climate resulting in an improvement of its ranking in the ease of doing business, as assessed in the Doing Business report 2008, by 6 positions to 134th place. The authorization to publish the bylaws of firms electronically approved in early 2007 has helped reduce the time it takes to start a business from 113 to 29 days, while the costs of business registration has decreased by two-thirds and the number of procedures declined from 13 to 10. The Decree on Simplified Licenses for Micro and Small Business will be submitted to the Council of Ministers by end of 2007. The new restructuring plan of PETROMOC will be submitted to the Council of Ministers by end-December 2007 to improve its operational and financial performance.

14. With regard to the Justice sector, several important laws were approved recently, including (i) the Law on Judiciary Organization, which increases the district tribunal competencies bringing the justice system closer to the citizens; and (ii) the Organic Law of the Public Ministry and the Statute of the Magistrate, which improves their organization and functioning and contributes to better access to justice. The draft Integrated Strategic Plan will be submitted to the Council of Ministers before end-December 2007. The Law revising principles and regulation of Institute for the Provision of Judicial Assistance (Instituto de Patrocínio e Assistência Jurídica—IPAJ) will be submitted to the Council of Ministers before end-December 2007.

15. The government intends to strengthen the selection and monitoring of all major investment projects, Public-Private Partnership (PPPs) and concessions with the help of the World Bank, particularly ensuring non-recourse financing clauses to the Government. Importantly, the process leading to the approval by the Council of Ministers of new projects and concessions will be strengthened to ensure that the fiscal regime, the maximization of fiscal revenue, and minimization of fiscal risks are duly taken into account before end-December 2007. The MPD will also develop standards and guidelines, including mandatory cost-benefit analysis for public investment projects and concessions in key sectors. To strengthen the management and transparency of natural resources, the government will issue regulations to the new Mining and Petroleum Fiscal Regime laws by end-December 2007 (structural benchmark for end-February 2008) and start publishing transactions relating to natural resource concessions. A list of megaprojects and concessions together with their related fiscal regime will be published in the budget execution documents starting in March 2008. The Government remains committed to ensuring that any new mineral resource project agreements and Exploitation and Production Concession Contracts (EPCs) in the petroleum sector will adhere to the principles of the new fiscal laws and its proposed regulations. The Moatize coal mine contract has been signed and is broadly in line with the new mining fiscal regime. The model contracts for mining and petroleum will be used in the current round of negotiations of new projects.

16. A number of large infrastructure projects in the pipeline will be carefully managed to maximize the benefits to the economy. For the purchase of shares in Cahora Bassa, an agreement has been reached with a consortium of international banks in October 2007 which includes a non-recourse financing clause (i.e., the financing package does not increase liabilities of the Government to commercial creditors). While strengthening the investment planning capacity of the Ministry of Energy, the Government, with the assistance of its financial advisors, is now in the process of selecting strategic investors for: (i) Temane gas-fired generation project (about 1100 MW); (ii) Moatize coal power project (about 1,500 MW); and (iii) Mphanda Nkuwa hydropower plant (about 1,500 MW). To support these new generation projects, there would be a need to build a major transmission line to distribute the power to the Mozambican market and for export. For all these projects, the Government will ensure, with the help of the World Bank and other partners, that: (i) financing is non-recourse and does not increase central government liabilities; and (ii) maximizes private sector investments through the use of public-private partnerships with any equity stake by the state-owned electricity company (Electricidade de Mozambique, EDM) raised through concessional borrowing or without government guarantees. Aeroportos de Moçambique (ADM) is now seeking to mobilize funds for its Investment Plan, estimated at US$94 million, including the Modernization of Maputo Airport Infrastructure (about US$46 million) through only concessional borrowing.

17. In order to improve the trade regime, the government will continue in 2007 Economic Partnership Agreement (EPA) negotiations, with technical advice under the Integrated Framework. The government is also pursuing bilateral free trade arrangements as recommended in the Diagnostic Trade Integration Study (DTIS). The government is continuing its negotiations with Angola, Tanzania, and Zambia in order to reach trade agreements similar to the ones concluded with Zimbabwe and Malawi in 2005.

18. With the financial assistance of the World Bank and the Government of Norway the Government completed the buyback operation for its commercial debt of US$153 million in October 2007 at the price of 9 cents per dollar. Discussions are ongoing with Russia on mechanisms of 100 percent debt cancellation. The Government recognizes the importance of reaching rescheduling agreements with all bilateral creditors in the context of the enhanced HIPC Initiative. It has made significant progress in the bilateral debt rescheduling with non-Paris club creditors by concluding bilateral negotiations with Hungary and Romania. Negotiations are ongoing with Bulgaria and Libya and are scheduled with Iraq and Portugal. The Government has also invited Angola, Poland and Algeria to negotiate and awaits confirmation of dates. In this regard the Government of Mozambique looks forward to the continuing support of the Bretton Woods institutions.

19. The Government is continuing its efforts to improve the quality of macroeconomic statistics in order to improve policy formulation and the monitoring of economic developments. The National Institute for Statistics (INE) launched in June 2007 a new national accounts framework, including the revision of annual GDP data and quarterly estimates in real term. With regards to monetary statistics, the BM is committed to aligning the chart of accounts with the Monetary and Financial Statistics Manual, including a breakdown between local and foreign-currency denominated accounts. The BM is also aiming at improving the quality of its external sector statistics, including by improving the coverage of megaprojects with the help of the research department of the MF. The BM also aims at providing timely information to the public on monetary and economic developments through its monthly bulletins. With regards to government finance statistics, significant improvements have been made as a result of the launch of e-SISTAFE. However, the Government understands that further work is needed to expand the institutional and transactional coverage sufficient for compilation of the Funds in accordance with Government Finance Statistics (GFS) manual of 2001.

II. Objectives and Policies for 2008

20. Economic prospects for 2008 and the medium term remain favorable with continued strong economic growth and inflation in single digits, albeit with risks related to natural calamities, a resurge in international oil prices, and spending pressure during election times. Central to achieving these objectives will be the continuation of a prudent fiscal and monetary policy in the context of a flexible exchange rate regime. The external current account is targeted to widen on account of a scaling up of aid while international reserves will remain at comfortable levels.

21. We are committed to continue to timely implement the second wave of our reforms. Particular emphasis will be on implementing the second phase of the public sector reform program (2006–11) which consists of four pillars: (i) improving service delivery to the citizen and the private sector; (ii) strengthening the capacity of local governments, with special emphasis on the Districts (including the decentralization strategy); (iii) professionalization of the public sector (including payroll systems, performance evaluation and wage policy); and (iv) strengthening good governance systems and the fight against corruption. We continue to be determined to make Mozambique’s business environment one of the most competitive in Africa to benefit from Foreign Direct Investment (FDI) and technology spillovers. We will also ensure that our natural resources are managed transparently following the principles of the Extractive Industries Transparency Initiative (EITI) and with due regard to fiscal risk so that future generations reap the maximum benefit of Mozambique’s rich endowment. The fight against pandemics, and the improvement of human and physical capital, particularly infrastructure would continue with the help of the international community. The Government intends to continue to monitor its program with the existing multi-disciplinary committee, especially through reinforced coordination between the BM and the MF.

22. The 2008 budget envisages a scaling-up of aid by about 1 percent of GDP mainly due to the appreciation of the euro and an associated increase in priority spending focused towards achieving the PARPA II targets and the Millennium Development Goals (MDGs) including sufficient counterpart funds to ensure a smooth execution of donor-financed projects. There will be no recourse to domestic bank financing. The revenue losses related to trade liberalization (0.4 percent of GDP) is mitigated by bringing a number of off-budget line items on budget. The increase in domestic revenue by 0.5 percent of GDP is expected to come from improvements in revenue administration, and tax policy measures including revisions to the personal income and corporate income tax codes submitted to Parliament (0.2 percent of GDP), reduction in VAT exemptions (0.1 percent of GDP), collection of tax arrears (0.1 percent of GDP), continued adjustment of fuel taxes, and revision of excises taxes on alcoholic drinks, beer and tobacco (0.1 percent of GDP). The expenditure path is in line with the revised CFMP, which takes into account costs related to forthcoming elections. The share of spending on priority sectors (above 65 percent), particularly education, health, and infrastructure will be closely monitored. The wage bill will reach 7.7 percent of GDP, mainly on account of the hiring of 12,000 teachers, 5,000 health workers, and reinforcement of security forces. The 2008 budget also identifies 0.5 percent of GDP contingent priority expenditures that will be executed if revenues or program aid is higher than expected.

23. The Government will continue to improve the efficiency of the tax system by implementing its medium-term tax policy reform program, with the support of the international community. By end-June 2008, the government will submit to the Council of Ministers tax policy measures defined to streamline and simplify the tax system for small and medium-sized enterprises, and rationalize the code of income tax benefits, particularly related to the agriculture sector (including biofuels), industrial free trade zones and rapid development zones benefiting from Fund technical assistance. The central revenue authority (AT) will continue to improve the management capacity and human resources policies. In collaboration with UTRAFE, AT will implement the approved IT Master Plan (PDTI), including the revenue collection network (e-Tributacao) and the single electronic window. Subject to approval by the Partnership Committee a pilot will be implemented with one key tax by September 2008 and will be extended to all other taxes for the 2009 budget. In this context, in the course of 2008 AT will: (i) design and implement a detailed performance indicator framework using a modern management information system to measure performance of the tax administration’s core functions and to guide management decisions; (ii) fully develop and implement a tax collection system through banks; (iii) fully develop and implement an electronic filing and payment system starting with the large tax payers; (iv) bring more informal tax payers in the tax net; (v) create new fiscal areas to bring AT closer to the tax payers; and (vi) continue to strengthen the audit function.

24. The findings of the external audit on the amount of arrears on VAT refund due to contractors of large infrastructure projects, particularly in the road and water sectors, will be approved by the Government before end-April 2008. On the basis of this audit a payment schedule will be defined to clear the arrears. Going forward, the government will ensure that VAT charged on supplies of projects be included in the final price of a contract and will establish clear coordination mechanisms between the relevant departments (Budget Directorate, Planning Directorate, line ministries and ATM), so as to avoid contradicting approaches for the resolution of the VAT issue in the future. To facilitate the Government’s liquidity management and to reduce administrative burden donors are encouraged to wave VAT exemptions for externally financed projects.

25. A number of specific measures aiming at strengthening public finance management will be implemented in 2008.

  • A business case (BC) list of additional district and municipalities for the rollout of e-SISTAFE will be defined by June 2008 (structural benchmark).

  • The census of pensioners will take place in April 2008. Based on the new pension database that will be finalized by end-September 2008, pension payments will be made through e-SISTAFE starting in January 2009.

  • The concept of program budgeting will be further developed on the basis of the current pilot projects for the road program, Proagri Common Fund, and the primary education program and will be rolled out to cover the entire ministries of public works, agriculture and education and culture. In this context, the reports generated will be improved to allow for a more strategic and systematic use of e-SISTAFE data by March 2008.

  • To strengthen the existing control mechanisms of the General Finance Inspection (IGF) for internal control and the Administrative Tribunal (TA) for external control, UTRAFE will facilitate that both institutions can use e-SISTAFE by June 2008 for consulting purposes.

26. On monetary policy, the BM will continue to target base money with a view to achieving its inflation goal of 5–6 percent at end-2008. Base money growth will be limited to 14.5 percent—or higher than nominal GDP growth—to take into account the ongoing financial deepening. In order to enhance the transparency of the Monetary Policy Committee, the BM will publish its regulations before end-December 2007. With the first generation of reforms successfully implemented, the BM will consider the possibility of moving to a monetary framework to better reflect determinants of price stability with the help of Fund technical assistance.

27. The BM will continue to improve liquidity management, and deepen financial markets as part of the Financial Sector Technical Assistance Program (FSTAP). In this context, the MF will improve the preparation of its cash-flow projections and communicate it to the BM in a timely manner. Monetary policy operations will continue to be fine-tuned using repo operations. The deposit auctions will be replaced by reverse repo operations in early 2008. In addition, the BM will gradually be more proactive in the market using repo and reverse repo operations. The Meticalnet will be adapted to allow for outright operations for the secondary market by June 2008 (structural benchmark for June 2008). The BM intends to continue to increasingly use foreign exchange sales to sterilize liquidity and thus avoid a large build-up in domestic debt and crowding-out of the private sector.

28. Based on the results of the FSTAP study, to be completed by mid-2008, the application of IFRS will also be extended to the corporate sector in January 2009 for large companies. A firm that will be selected in early 2008 will help with the introduction of IFRS in the corporate sector. This will improve the ability of the financial system to evaluate the quality of their loan portfolios. In order to buttress its analytical capacity, the BM will strengthen the human resource capacity of its Banking Supervision Department (BSD) (its regulatory division) for updating the regulatory framework, updating internal tools made available to inspectors, providing training to inspectors, researching issues related to banking supervision, preparing and monitoring of Financial Soundness Indicators (FSIs), and reviewing its supervision manuals. Furthermore, the BSD will review by June 2008 the role assigned to external auditors of banks and issue regulations which give the BM access to audit reports, working papers, contracts and other documents produced by the external auditors and related to the audited institutions. The BSD intends by December 2008 to develop a framework for assessing market and operational risks, review banks’ rating system (CAMEL) as a function of the banks’ risks, create an information system within the BM intranet for all the managerial information of banks and financial system in the interest of supervisions, and design a plan for on-site inspections on the basis of banks’ risk profile.

29. The Government is committed to supporting a sound expansion of the non-bank financial sector. The BM will continue to license and supervise microfinance deposit-taking institutions to facilitate enhanced access to finance by rural households and small-and-medium sized enterprises. Both the FSTAP and the IFAD supported Fundo de Apoio à Reabilitação Económica (FARE) and the Rural Finance Support Program (RFSP) will support the government’s efforts to improve access to finance, especially in rural areas. Following the recent adoption of a new law on social protection the authorities intend to strengthen the social security and supplementary pension system. As part of the restructuring of the National Social Security Institute (INSS), an actuarial study will be finalized by early 2008 and an investment strategy taking into account fiscal sustainability will be approved by June 2008. In the meantime, guarantees of minimum benefits will be limited until the full study is carried out. Efforts to strengthen the regulatory and supervisory framework of the insurance sector as well as the institutional capacity of the Inspecção Geral de Seguros (IGS) are under way. The review of the Insurance Law will be finalized to bring it in line with international best practices, revised prudential and solvency requirements for Mozambican insurers are being developed, while new IFRS-compliant Chart of Accounts for insurers would also be designed.

30. Regarding the foreign exchange system, a new foreign exchange law taking into account comments from all stakeholders and the Fund, was submitted to the Assembly in September 2007. Following approval of the new law and implementing regulations, the authorities intend to accept their obligations under Article VIII sections 2, 3, and 4 of the Fund’s Articles of Agreement. The recent regulation (Aviso 2/06) pertaining to the current import and export transactions remains suspended and will be replaced by the issuance of a new one in consultation of all stakeholders including the Fund.

31. In the area of public debt management, the MF will in 2008: (i) restructure the Public Debt Unit (PDU) and strengthen procedures and controls with the help of a resident public debt advisor, under the FSTAP project; (ii) consolidate and reconcile the debt database for all public debt with the assistance of the COMSEC; (iii) strengthen information analysis and reporting with the help of an IT consultant under the FSTAP project; (iv) prepare the debt sustainability analysis and design an integrated debt strategy with support of ASDI; and (v) improve the Treasury cash management policies and procedures. The MF intends also to start to publish debt reports regularly.

32. The Government of Mozambique is keen to accelerate reforms to reduce the costs of doing business to make Mozambique’s business environment the most competitive in SADC by 2015. To address this challenge and significantly improve the investment climate in Mozambique, the Ministry of Industry and Commerce has coordinated the development of a strategic action plan to improve the business environment through an inter-ministerial committee. The World Bank will provide comments on the strategy and technical assistance in concert with other donors for advancing the reform agenda. The inter-ministerial committee will monitor the implementation of this plan.

33. In 2008, the following actions are envisaged:

  • Reducing the cost of inspections and fines while improving compliance. To that, the decree on unified inspections for business activities will be adopted by the Council of Ministers by March 2008;

  • Reducing the licensing burden. To speed up the licensing process, the Ministry of Industry and Trade will transfer the authority to issue licenses to the “One-Stop-Shops” at the provincial level in the first trimester of 2008.

  • Simplifying the procedures of closing businesses. Through a new insolvency law for the corporate sector that will be submitted to the Council of Ministers by end March 2008, the Government intends to simplify the business closing process and increase the recovery rate with the objective of helping viable businesses to overcome a short-term cash flow crisis, and insolvent businesses to be rapidly liquidated.

  • Facilitating trading across borders. The Government will carry out a review of the import and export procedures, with financial assistance from the international community and will implement the recommendations of that study with the specific aim of reducing documents, signatures and the amount of time required for both importing and exporting; and

  • Improving the system for VAT refunds. This would be achieved by (1) identifying regular exporters and audit their refund requests; (2) do the same with providers of public work services to the government; and (3) improve coordination with customs regarding information on actual exports.

34. In 2009, the four key actions envisaged are:

  • Consolidate the progress in streamlining and reducing licenses for all sectors;

  • Consolidate the progress in facilitating trading across the borders. By end-2009, Mozambique should be one of the most efficient within SADC in the clearance of goods for both imports and exports. This will require reducing the number of documents filled out by at least half;

  • Simplification of Tax Filing. Electronic filing of taxes should be provided and forms should be simplified to reduce the time required for tax filing; and

  • Property Registration. Amend the relevant legislation to speed up the registration process by improving communication among different government agencies and developing an electronic database for the real estate registry.

35. Aiming at improved overall fiscal risk management and accountability, transparency and revenue forecasting, the MF intends to implement a number of recommendations made by the recent Fund technical assistance. With the help of the international community the MF will buttress the compilation and consolidation of financial data from partial or full state shareholdings in private or public enterprises, State’s autonomous institutions, Public-Private Partnerships (PPPs) and other concessions, and mega-projects. This will help improve its reporting through the systematic compilation and publication of an annex to budget execution documents covering quasi-fiscal activities, contingent assets and liabilities, and sensitivity analysis of fiscal risks.

36. Improving transparency remains a priority for the Government. The Government intends to follow the EITI principles with regard to management of natural resources and other megaprojects. On the basis of the EITI scoping study the government will decide whether to formally solicit the views of all stakeholders on the findings of this review and will convene and participate in a seminar in Maputo in 2008 to discuss these findings and build a national consensus around joining the initiative. The Government may thereafter consider becoming a member of the EITI though the public declaration of its intent, formation of a national multi stakeholder EITI working group, and adoption of an implementation work program to collect, verify and publish all significant payments between the government and the natural resource sector.

37. With regard to judicial reforms the revision of Law of the Community Tribunals will be submitted to the Council of Ministers before end-September 2008. The Penal Procedures Code is expected to be submitted with some delay to the Council of Ministers before end-June 2008 pending the authorization by Parliament.

38. The public sector reform program is being reinvigorated, particularly:

  • A decentralization strategy is being finalized with the help of the World Bank and other partners and will be approved by the Council of Ministers by end-2008. The strategy will propose, among other things, a clear legal, regulatory, and institutional framework for revenue raising and spending responsibilities and functions of subnational units (provinces, districts, and municipalities) and monitoring of subnational fiscal operations. The sequencing of the strategy will pay due regard to the administrative capacity of subnational units and need to maintain fiscal control as well as fiscal sustainability.

  • A preliminary wage policy is being elaborated, by a reference group comprised by the following ministries: Civil Service, Finance, Planning and Development, Education and Culture, Health and Agriculture, with the help of consultants from the World Bank on the on the basis of the recent census of civil servants. This study will be presented to the Council of Ministers and it will include the costing of alternative scenarios duly taking into account fiscal sustainability.

  • Public sector accountability will be improved by reinforcement the capacity of the Tribunal Administrativo and the Inspectorate General of Finances, and conducting more internal and external audits.

  • The government intends to forcefully implement its public sector reform program and anti-corruption strategy to improve governance. To this effect, a committee is working with the help of the World Bank to define by March 2008 a number of measures that will help improve a number of governance indicators.

III. Program Monitoring

39. The semiannual quantitative assessment criteria for end-December 2007 and end-June 2008 and indicative targets for end-March 2008 which will be used to evaluate the implementation of the program for 2007-08 are shown in Table 1 of this memorandum, with further definitions and explanations contained in the annexed Technical Memorandum of Understanding. In addition, the Government has specified in Table 3 a list of structural assessment criteria and benchmarks for 2008.

Table 1.

Mozambique: Quantitative Performance/Assessment Criteria and Indicative Targets, 2007–2008 1/

(Millions of MT, unless otherwise specified)

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For definition and adjustors see the attached Program Monitoring Section of Memorandum of Economic and Financial Polices and the Technical Memorandum of Understanding.

Table 2.

Mozambique: Structural Assessment Criteria and Benchmarks Under the 2007 Policy Supported Instrument (June 2007-December 2007)

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Table 3.

Mozambique: Structural Assessment Criteria and Benchmarks Under the 2007/08 Policy Supported Instrument (December 2007—June 2008)

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40. The Government understands that the completion of the second review is contingent upon the observance of the assessment criteria for end-December 2007 set out in Tables 1 and 3; which is expected to take place before end-June 2008. In reviewing developments under the program during the second review, particular attention will be paid to the implementation of measures aimed at broadening the tax base, further developing e-SISTAFE, improve the overall fiscal risk assessment, the 2008 budget execution, monetary and financial sector reform, reducing the cost of doing business, infrastructure financing with due regard to debt sustainability, and improving the fiscal regime and transparency of natural resource exploitation and megaprojects as well as their net contribution.

Attachment II Technical Memorandum of Understanding on Selected Concepts, Definitions, and Data Reporting Under Mozambique’s Policy Support Instrument Program

November 12, 2007

1. This technical memorandum of understanding (TMU) purpose is to describe the concepts and definitions that will be used in monitoring the Policy Support Instrument (PSI) program, including the following:

  • net claims on the central government by the banking system;

  • government revenue;

  • net international reserves, and reserve money of the Bank of Mozambique;

  • new nonconcessional external debt contracted or guaranteed by the central government or the Bank of Mozambique with a maturity of more than one year;

  • short-term external public debt outstanding;

  • external payments arrears; and

  • foreign program assistance and external debt service.

This memorandum also describes the adjusters that will be applied to certain quantitative assessment criteria of the program.

Net Claims on the Central Government by the Banking System

2. Net claims on the central government (NCG) by the banking system is defined as the difference between the outstanding amount of bank credits to the central government and the central government’s deposits with the banking system, excluding deposits in project accounts with the banking system, recapitalization bonds issued to the Bank of Mozambique and commercial banks, and proceeds from the signing fee for coal exploration. Credits comprise bank loans and advances to the government and holdings of government securities and promissory notes. NCG will be calculated based on data from balance sheets of the monetary authority and commercial banks as per the monetary survey. The limits on the change in net claims on the central government by the banking system will be cumulative beginning end-December 2006 for the 2007 program and end-December 2007 for the 2008 program.

3. The government encompasses all institutions whose revenue and expenditure are included in the state budget (Orçamento do Estado): central government ministries, agencies, and the administration of 11 provinces. Although local governments (33 municipalities or autarquias) are not included because they are independent, the bulk of their revenue is registered in the state budget as transfers to local governments.

Government revenue and financing

4. Revenue is defined to include all receipts of the Domestic Tax Administration (Administração Tributária de Impostos or DGI), the National Directorate of Customs (Direcção Nacional de Alfândegas, DNA), and nontax revenue, including certain own-generated revenues of districts and some line ministries as defined in the budget. Net receipts from privatization received by the National Directorate of State Assets (Direcção Nacional do Património do Estado) and unrealized profits transferred by the central bank to the treasury will not be considered as revenue (above the line) and will be accounted for as other domestic financing (below the line).

5. For the purpose of program monitoring, revenue is considered as collected at the time when it is received by the DGI from private agents or other government collecting agencies, in cash or checks, or through transfers into a DGI bank account.

6. An indicative target consisting of semiannual floors on the resources in the government’s savings fund abroad has been added to monitor the use of the proceeds from the signing fee for coal exploration.

Money supply

7. Base money is defined as the sum of currency issued by Bank of Mozambique (BM) and the commercial banks’ deposits in the BM. The commercial bank deposits include the statutory required reserves and excess reserves held at the BM. The base money ceilings for 2007-08 will be the total stock of base money outstanding at end-December 2007, end-March 2008, end-June 2008, end-September 2008 and end-December 2008, and will be monitored by the monetary authority and provided to the IMF by the BM.

Net international reserves

8. Net international reserves of the Bank of Mozambique are defined as reserve assets minus reserve liabilities. The Bank of Mozambique’s reserve assets include (a) monetary gold; (b) holdings of SDRs; (c) reserve position at the IMF; (d) holdings of foreign exchange; and (e) claims on nonresidents, such as deposits abroad (excluding the government’s savings account related to the Moatize coal mine concession). Reserve assets exclude assets pledged or otherwise encumbered, including but not limited to assets used as collateral or guarantee for a third-party external liability (assets not readily available.) The Bank of Mozambique’s reserve liabilities include (a) all short-term foreign exchange liabilities to nonresidents with original maturity of up to and including one year; and (b) all liabilities to the IMF.

9. The Bank of Mozambique will publish the exchange rates quoted by commercial banks on average as the market rates.

New nonconcessional external debt contracted or guaranteed by the central government or the Bank of Mozambique with maturity of more than one year

10. The term “debt” will have the meaning set forth in Point 9 of the Guidelines on Performance Criteria with Respect to Foreign Debt adopted on August 24, 2000. Government debt is outstanding debt owed or guaranteed by the central government or the Bank of Mozambique (but does not include debt of any political subdivision or government-owned entity with a separate legal personality that is not otherwise owed or guaranteed by the central government).

11. The central government will limit contracting or guaranteeing external debt up to US$3 million in 2007 and US$5 million in 2008 with original maturity of one year or more with a grant element of less than 35 percent, calculated using currency-specific discount rates based on the Organization for Economic Cooperation and Development (OECD) commercial interest reference rates in accordance with the Budget Laws of 2007 and 2008. This assessment criterion applies not only to debt as defined in point 9 of the Guidelines on Performance Criteria with Respect to Foreign Debt adopted on August 24, 2000, but also to commitments contracted or guaranteed for which value has not been received. This assessment criterion will be assessed on a continuous basis.

Stock of short-term external public debt outstanding

12. The central government will not contract or guarantee external debt with original maturity of less than one year. This assessment criterion applies not only to debt as defined in point 9 of the Guidelines on Performance Criteria with Respect to Foreign Debt adopted on August 24, 2000, but also to commitments contracted or guaranteed for which value has not been received. Excluded from this assessment criterion are short-term, import-related trade credits. This assessment criterion will be assessed on a continuous basis.

External payments arrears

13. The government undertakes not to incur payments arrears on external debt owed or guaranteed by the central government, with the exception of external payments arrears arising from government debt that is being renegotiated with creditors, including Paris Club creditors. This assessment criterion will be assessed on a continuous basis.

Foreign program assistance

14. Foreign program assistance is defined as grants and loans received by the Ministry of Finance through Bank of Mozambique accounts excluding those related to projects (Table 1).

Table 1.

Mozambique: Foreign Program Assistance and External Debt Service for 2007 and 2008

(In millions of MTn; unless otherwise indicated)

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Source: Mozambican authorities; and Fund staff estimates.

Actual external debt-service payments

15. Actual external debt-service payments are defined as cash payments on external debt-service obligations of the government and central bank, including obligations to Paris Club and other bilateral creditors rescheduled under enhanced HIPC Initiative completion point terms, multilateral creditors, and private creditors, but excluding obligations to the IMF (Table 1).

Adjusters

16. The quantitative targets (floors) for the central bank’s net international reserves will not be adjusted for any excess in disbursements of foreign program assistance (and any shortfall in external debt service), compared to the program baseline. These targets will be adjusted downward by 100 percent of any shortfall in external program aid (up to a maximum of US$50 million) and any excess in external debt service payments, compared to the program baseline (Table 1). The quantitative targets (floors) for the central bank’s net international reserves will be adjusted downward/upward for any revision made to the end-year figures corresponding to the previous year. They will also be adjusted upward for the full amount of any external privatization proceeds in excess of those envisaged in the program, unless these proceeds are deposited in the government’s savings account abroad. If they are deposited abroad, the indicative targets on the balance in this account will be adjusted upward for the full amount of the higher than envisaged proceeds, net of any costs related to the privatizations, including severance payments. The quantitative targets (floors) for the central bank’s net international reserves will be adjusted equivalently downward up to a maximum of US$50 million per annum by the amount that the projected fuel import bill is higher due to a rise in the average global oil price (average petroleum spot price of West Texas Intermediate, U.K. Brent, and Dubai Fateh crude). This adjustment will be equal to the difference between the realized and the projected average global oil price, multiplied by the volume of total fuel imports projected for each quarter (Table 2).

Table 2.

Projected fuel import bill 2007-08

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Sources: Mozambican authorities and Fund staff projections

17. The quantitative targets (ceilings) for net claims on the central government (NCG) will not be adjusted for any excess in disbursements of foreign program assistance (and any shortfall in external debt service), compared to the program baseline. These targets will be adjusted upward by 100 percent of any shortfall in external program aid (up to a maximum of US$50 million) and any excess in external debt service payments, compared to the program baseline (Table 1). These targets will also be adjusted downward for the full amount of any privatization proceeds in excess of those envisaged in the program, unless these proceeds are deposited in the government’s savings account abroad. The quantitative targets (ceilings) for NCG will be adjusted downward (upward) for any increase (decrease) in domestic financing from the non-financial private sector. The government expenditures contingent on higher disbursements of foreign program assistance (and lower external debt service) will be used to finance greater “priority” spending identified in the budget.

18. The quantitative target (ceiling) for net claims on the central government (NCG) for end-December 2007, end-March 2008, end-June 2008, end-September 2008, and end-December 2008 will be adjusted upward (and the floors on net international reserves adjusted downward) to accommodate the possible need for higher locally financed government outlays to deal with natural disasters, up to a total limit of MT 500 million.

19. The base money ceiling will be adjusted equivalently upward up to a maximum of MT 500 million at end-December 2007, end-March 2008, end-June 2008, end-September 2008, and end-December 2008 to the extent that the outstanding stock of currency issued by the BM exceeds those projected in Table 3.

Table 3.

Currency issued by the BM

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Source: Mozambican authorities; and Fund staff projections.

Data reporting

20. In addition to providing the monthly and quarterly data needed to monitor program implementation in relation to the programs’ quantitative targets and broader economic developments, the authorities will provide weekly updates of the daily data set out in Table 3 as well as the weekly data set out in Table 4 of the TMU dated May 26, 2005. Monthly updates will also be provided of the foreign exchange cash flow of the Bank of Mozambique.

21. The government will continue to provide Fund staff with the data corresponding to monthly government revenues (in detail according to the fiscal table), with a lag not exceeding one month. In addition, the government will continue to publish and provide Fund staff with the quarterly budget execution reports with a time lag not exceeding 45 days.

22. In addition, the government will provide monthly information on the balance of its savings account abroad and will start developing and providing information on domestic arrears on a quarterly basis.

23. From December 2005 onwards, the monetary survey made available by the Bank of Mozambique will clearly identify donor-financed project deposits (with a breakdown between foreign and domestic currency) included in net credit to the government in both the central bank’s and commercial banks’ balance sheets.
1

Quarterly GDP estimates were released for the first time in August 2007 along with a revised annual GDP series.

2

Base money is now expected to grow by 14.7 at end-year 2007, albeit moderating from 19 percent at end-September 2007.

3

The international community will not finance forthcoming elections (90 percent of past election costs were financed by foreign aid).

4

See IMF Country Report No. 07/262 for more detail on the authorities’ medium-term policy framework.

5

This, combined with the higher increase in NIR, suggests that the authorities, while spending domestically, are smoothing the absorption of aid over a longer time period.

6

The government will develop an arrears payment schedule, if needed, and aim to include VAT charged on supplies of projects in the final price of a contract. The donors could also help by paying for VAT in public works projects and resist seeking tax exemptions.

7

The mission liaised with an overlapping World Bank-led Financial Sector Technical Assistance Program mission on financial sector reform issues.

8

The program for 2008 allows US$5 million of nonconcessional borrowing consistent with the 2008 budget.

9

Libya did not agree on the debt restructuring terms comparable to the Paris Club and considered litigation.

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Cover IMF Staff Country Reports
Republic of Mozambique: First Review Under the Policy Support Instrument: Staff Report; Press Release on the Executive Board Discussion; and Statement by the Executive Director for the Republic of Mozambique
Author:
International Monetary Fund
Volume/Issue:
Volume 2008: Issue 015
Publisher:
International Monetary Fund
ISBN:
9781451827323
ISSN:
1934-7685
Pages:
73
DOI:
https://doi.org/10.5089/9781451827323.002
  • View in gallery

    The trade balance is deteriorating as a result of lower traditional exports and higher oil imports.

  • Figure 1.
    View in gallery
    Figure 1.

    Recent Economic Development, 2005–2007

  • View in gallery

    Foreign exchange markets remained calm while exchange rate spreads have narrowed.

  • View in gallery

    Credit growth has remained strong in 2007.

The trade balance is deteriorating as a result of lower traditional exports and higher oil imports.
Figure 1.

Recent Economic Development, 2005–2007

Foreign exchange markets remained calm while exchange rate spreads have narrowed.

Credit growth has remained strong in 2007.