St. Lucia: External and Public Debt Sustainability Analysis
Author: International Monetary Fund
Publication Date:
06 Oct 2008
eISBN:
9781451823271
Language:
English
Keywords:
ISCR; CR; bottom; deficit; private sector; debt-to-GDP threshold; sustainability analysis; public debt-to-GDP; sustainability framework; financing need; Fiscal stance; Debt sustainability analysis; Debt sustainability
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St. Lucia’s 2008 Article IV Consultation underlies that progress has been made in reducing fiscal imbalances, yet public debt and debt servicing payments continue to rise. Tourism accounts for more than three-fourths of exports, and the import content of both consumption and foreign direct investment is high. Although the share of value added from the traditionally dominant agriculture sector has declined sharply in recent decades, crop exports support the incomes of much of the country’s large rural population.

Abstract

St. Lucia’s 2008 Article IV Consultation underlies that progress has been made in reducing fiscal imbalances, yet public debt and debt servicing payments continue to rise. Tourism accounts for more than three-fourths of exports, and the import content of both consumption and foreign direct investment is high. Although the share of value added from the traditionally dominant agriculture sector has declined sharply in recent decades, crop exports support the incomes of much of the country’s large rural population.

This debt sustainability analysis (DSA) assesses the sustainability of St. Lucia’s public and external debt. The analysis suggests that sound public finances will be key to achieving debt sustainability. Staff estimates show that public debt will remain high in the absence of continued fiscal consolidation. St. Lucia’s risk of external debt distress is moderate.

I. Introduction

1. Macroeconomic performance was mixed in 2007. Growth decelerated from an annual average of 4.2 percent during 2003-06 to 1.7 percent in 2007, largely reflecting the winding down of Cricket World Cup (CWC)-related construction and declines in stayover tourist arrivals. As world food and energy prices soared, annual inflation rose to 6.8 percent by end-2007. However, substantial progress was made in reducing fiscal imbalances. With higher current revenue and lower capital expenditure, a primary surplus of 0.8 percent of GDP was achieved, representing a fiscal adjustment of 3½ percent of GDP from 2006. As a result of this fiscal improvement, the public debt-to-GDP ratio increased only slightly to 70 percent of GDP.

II. Underlying DSA Assumptions

2. The baseline scenario assumes that the authorities will continue the fiscal policy of sizeable overall imbalances that are financed commercially. In the medium term, growth is projected at around 4.4 percent, driven by hotel construction activities and tourism. Under this scenario, the central government primary deficit (including grants) deteriorates gradually, peaking at 1.9 percent of GDP in 2009. Compared to the 2007 Article IV Consultation DSA, growth projections remain similar while fiscal projections are more conservative given the progress in reducing fiscal imbalances in 2007.

Baseline Macroeconomic Assumptions (2008–28)

  • Real GDP growth is projected to average about 4½ percent, consistent with the stronger growth observed in the 2002-06 and reflecting the ongoing large expansion of tourism accommodation capacity. With rapidly rising world food and fuel prices, inflation is projected to remain in the high single digits in 2008 before returning to low historical averages consistent with the quasi-currency board arrangement.

  • The primary balance of the central government (including grants) is projected to deteriorate gradually, peaking at 1.9 percent of GDP by 2009. On the revenue side, new measures would be limited to the introduction of a revenue-positive VAT. On the expenditure side, the wage bill would remain constant (as a share of GDP) and capital expenditure would rise steadily to 14 percent of GDP by 2011, before declining slightly to 13 percent of GDP for 2012 and beyond.

  • Given uncertainty surrounding the disbursements of the European Union assistance, annual grants are conservatively projected at 0.3 percent of GDP.

  • The current account deficit is projected to remain elevated and largely financed by foreign direct investment (FDI) in 2008. However, as FDI-related imports wind down and tourist receipts pick up over the medium term, the current account deficit is expected to return gradually to a more sustainable level. The projected increase in tourist arrivals is underpinned by an expansion of hotel capacity of 40 percent over the medium-term.

  • FDI is assumed to remain high for 2008-10, and gradually return to its historical average of 11 percent of GDP by 2013.

III. Evaluation of Public Sector Debt Sustainability

3. At end-2007 public debt stood at about 70 percent of GDP—nearly twice the level of a decade ago—albeit still the lowest in the ECCU. Expansionary fiscal polices in 2001–02 sharply raised the fiscal deficit and debt-to-GDP ratio. In subsequent years the authorities strengthened revenue administration and tightened capital expenditure, enabling them to slow the pace of public debt build up.

4. External debt represents 46 percent of GDP, while domestic debt represents 24 percent of GDP. Regarding the stock of external debt, the largest share is owed to multilateral and bilateral creditors (around 22 percent of GDP, with the Caribbean Development Bank holding around three fifths of that share), followed by commercial creditors (around 12 percent of GDP). In the future, most of new external requirements are expected to be financed commercially through the ECCU’s Regional Government Securities Market (RGSM). On the domestic front, commercial banks are the most important lenders to the government.

Baseline scenario

5. Under the baseline scenario St. Lucia’s public debt would remain high, at about 73 percent of GDP by 2013. The debt-to-GDP ratio would increase marginally to around 75 percent by 2028. All other indicators of debt sustainability follow a similar pattern of stagnation, with the NPV of debt-to revenue ratio remaining at over 230 percent by 2028.

Alternative scenarios

Adjustment scenario

6. Under this scenario a fiscal adjustment would lead to an average primary surplus of about 1½ percent of GDP over the medium term. This adjustment would restore the primary surplus to its average level during 1985-2000 and would require additional revenue enhancing measures, including the introduction of a market valuation-based property tax and a more flexible fuel pricing regime, as well as wage restraint and prioritization of capital expenditures.

7. Under this adjustment scenario St. Lucia’s public debt-to-GDP ratio would decline to below 60 percent—the ECCB’s benchmark—by 2012. The debt-to-GDP ratio would decline further to around 40 percent by 2028. All other indicators of debt sustainability would show a steady improvement, particularly with debt service as a share of current revenue falling from around 23 percent in 2008 to around 10 percent by 2028.

Changes in growth and primary balance

8. The sensitivity analysis (which is applied to the baseline scenario) shows that economic growth and the primary balance are the two key drivers of St. Lucia’s debt dynamics. If growth is assumed to remain at one standard deviation below the baseline, the NPV of debt-to-GDP ratio will reach 118 percent by 2028 (Table 2, Scenario A3). If both annual growth and primary deficit were to be kept at historical levels (2.2 percent and 0.9 percent of GDP, respectively), the NPV of debt-to-GDP ratio would reach 112 percent by 2028 (Table 2, Scenario A1).

Table 1

St. Lucia: Public Sector Debt Sustainability Framework, Baseline Scenario, 2005–28

(In percent of GDP, unless otherwise indicated)

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Sources: St. Lucia authorities; and Fund staff estimates and projections.

Historical averages and standard deviations are generally derived over the past 10 years, subject to data availability.

Nonfinancial public sector gross debt, government guaranteed debt, and government nonguaranteed debt.

Gross financing need is defined as the primary deficit plus debt service plus the stock of short-term debt at the end of the last period.

Revenues excluding grants.

Debt service is defined as the sum of interest and amortization of medium and long-term debt.

Table 2

St. Lucia: Sensitivity Analysis for Key Indicators of Public Debt 2008–28

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Sources: St. Lucia authorities; and Fund staff estimates and projections.

Assumes that real GDP growth is at baseline minus one standard deviation divided by the square root of 20 (i.e., the length of the projection period).

Assumes that a hurricane hits St. Lucia, increasing its primary deficit by 3 percent of GDP for 2009, 2010 and 2011, and reducing growth to zero.

Revenues are defined inclusive of grants.

9. The sensitivity analysis also highlights the importance of containing expenditure if economic growth were to decline. Alternative Scenario B1, in which growth is assumed to decline to -0.6 percent for 2009 and 2010, indicates that the NPV of debt-to-GDP ratio will increase rapidly, reaching 116 percent by 2028. This is because as output slows, fiscal revenues are assumed to remain constant as a share of GDP while expenditures are assumed to remain constant in nominal terms relative to the baseline scenario, producing a substantial and permanent deterioration of the primary balance. This, in turn, increases debt ratios markedly.

Natural disaster

10. The impact of a natural disaster on St. Lucia’s debt dynamics was also analyzed (Table 2, Alternative Scenario A4). Under this scenario (which is again applied to the baseline scenario) it is assumed that a hurricane increases the primary deficit of the government by 3 percent of GDP in 2009, 2010 and 2011, before reverting to its baseline levels thereafter.1 This shock accelerates the deterioration of the NPV of debt-to-GDP ratio, reaching 90 percent by 2011.

IV. Evaluation of External Debt Sustainability

11. St. Lucia’s external debt sustainability analysis includes only public sector debt, since data on private sector external borrowing are not available. As a result, the external DSA follows a similar pattern to that of the public sector DSA.

12. Under the baseline scenario the NPV of external debt remains at about 43 percent of GDP, below the prudential threshold of 50 percent, throughout the projection period.2 All other debt and debt service ratios also remain relatively stable and below relevant indicative thresholds.

13. Sensitivity analysis (which is applied to the baseline scenario) shows that the level of external debt is most responsive to a large shock of nominal exchange rate depreciation as the majority of external debt is denominated in U.S. dollars. With a one-time 30 percent nominal depreciation in 2009, the NPV of debt-to-GDP ratio will jump to 60 percent, breaching the debt-to-GDP threshold of 50 percent (Table 4, Scenario B6). Similarly, lower export growth and a shortfall in non-debt creating flows would also breach the debt-to-GDP threshold of 50 percent (Table 4, Scenarios B2 and B4, respectively). The export shortfall would engender a long-lived hump in the debt service-to-exports ratio, which is indicative of some liquidity concerns (Table 4, Scenario B2). The level of external debt is also responsive to a negative shock on growth and costlier terms of financing (Table 4, Scenarios B1 and A2, respectively), but these shocks do not lead to a breach of thresholds.

Table 3

St. Lucia: External Debt Sustainability Framework, Baseline Scenario, 2005–28 1

(In percent of GDP, unless otherwise indicated)

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Source: Fund staff simulations.

Historical averages and standard deviations are generally derived over the past 10 years, subject to data availability.

Includes public sector guaranteed and non-guaranteed external debt. Data on private external debt stocks and flows are unavailable.

Derived as [r - g - r(1+g)]/(1+g+r+gr) times previous period debt ratio, with r = nominal interest rate; g = real GDP growth rate, and r = growth rate of GDP deflator in U.S. dollar terms.

Includes exceptional financing (i.e., changes in arrears and debt relief); changes in gross foreign assets; and valuation adjustments. For projections also includes contribution from price and exchange rate changes.

Assumes that NPV of private sector debt is equivalent to its face value.

Current-year interest payments divided by previous period debt stock.

Defined as grants, concessional loans, and debt relief.

Grant-equivalent financing includes grants provided directly to the government and through new borrowing (difference between the face value and the NPV of new debt).

Table 4

St. Lucia: Sensitivity Analyses for Key Indicators of Public and Publicly Guaranteed External Debt, 2008–28

(In percent)

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Source: Fund staff projections and simulations.

Variables include real GDP growth, growth of GDP deflator (in U.S. dollar terms), non-interest current account in percent of GDP, and nondebt creating flows.

Assumes that the interest rate on new borrowing is by 2 percentage points higher than in the baseline, while grace and maturity periods are the same as in the baseline.

Exports values are assumed to remain permanently at the lower level, but the current account as a share of GDP is assumed to return to its baseline level after the shock (implicitly assuming an offsetting adjustment in import levels).

Includes official and private transfers and FDI.

Depreciation is defined as percentage decline in dollar/local currency rate, such that it never exceeds 100 percent.

Applies to all stress scenarios except for A2 (less favorable financing) in which the terms on all new financing are as specified in footnote 2.

V. Conclusions

14. Absent a fiscal adjustment that would return the primary balance to its historical average, imbalances for the overall public sector would remain, leaving the ECCB’s public debt benchmark of 60 percent of GDP out of reach for St. Lucia. Staff analysis shows that, with a fiscal adjustment bringing the average primary surplus (including grants) to around 1½ percent of GDP over the medium term (close to the long-term average), St. Lucia would reach the ECCB’s target by 2012 and continue to bring down its public debt steadily to 40 percent of GDP by 2028.

15. On the external front St. Lucia faces a moderate risk of debt distress. The baseline scenario indicates no breach of any thresholds. Various stress tests suggest several breaches of the NPV of debt-to-GDP threshold. However, as private external debt data are unavailable, some caution should be used when interpreting these results, which cover public external debt only.

Figure 1
Figure 1

St. Lucia: Indicators of Public Debt Under Alternative Scenarios, 2008-28 1/

Citation: IMF Staff Country Reports 2008, 329; 10.5089/9781451823271.002.A003

Source: Fund staff projections and simulations.1/ Most extreme stress test is test that yields highest ratio in 2018.2/ Revenue including grants.
Figure 2
Figure 2

St. Lucia: Indicators of Public and Publicly Guaranteed External Debt Under Alternative Scenarios, 2008-28

Citation: IMF Staff Country Reports 2008, 329; 10.5089/9781451823271.002.A003

Source: Fund staff projections and simulations.
1

The actual impact of this shock could be lower given the recent participation of St. Lucia in the Caribbean Catastrophe Insurance Facility—a regional insurance pool organized by the World Bank.

2

The DSA uses policy-dependent external debt-burden indicators. Policy performance is measured by the Country Policy and Institutional Assessment (CPIA) index, compiled annually by the World Bank. The CPIA divides countries into three performance categories (strong, medium, and poor) based on the overall quality of its macroeconomic policies, with strong performers having higher prudential thresholds than poor performers. St. Lucia is classified by the CPIA as a strong performer, with prudential thresholds on NPV of debt-to-GDP and debt-to-exports ratios of 50 and 200 percent, respectively.

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Cover IMF Staff Country Reports
St. Lucia: 2008 Article IV Consultation: Staff Report; Staff Supplement, and Public Information Notice on the Executive Board Discussion.
Author: International Monetary Fund
Volume/Issue:
Volume 2008: Issue 329
Publisher:
International Monetary Fund
ISBN:
9781451823271
ISSN:
1934-7685
Pages:
66
DOI:
https://doi.org/10.5089/9781451823271.002