Statement by Christopher Legg, Alternate Executive Director for Seychelles and Simon Duggan, Advisor to Executive Director March 30, 2009

This paper discusses key findings of the First Review for Seychelles under the Stand-By Arrangement. Developments under the program at end-December 2008 were broadly satisfactory. Although growth was lower and inflation higher than targeted in 2008, the liberalization of the exchange regime and interest rate have removed the severe distortions weighing on the economy, and early signs of stabilization are apparent. The program targets for 2009 have been adjusted, primarily in light of the much more difficult external environment.


This paper discusses key findings of the First Review for Seychelles under the Stand-By Arrangement. Developments under the program at end-December 2008 were broadly satisfactory. Although growth was lower and inflation higher than targeted in 2008, the liberalization of the exchange regime and interest rate have removed the severe distortions weighing on the economy, and early signs of stabilization are apparent. The program targets for 2009 have been adjusted, primarily in light of the much more difficult external environment.

The government of Seychelles is pursuing its economic reform agenda with determination. Our Seychellois authorities launched their ambitious reform agenda in early-November 2008 and since then have: floated the rupee and removed foreign exchange restrictions; introduced a market-based monetary policy framework; reduced the dominance of the public sector through privatization of some commercial public enterprises and a substantial voluntary and involuntary departure scheme for civil servants; and replaced indirect subsidies on essential goods and services with a targeted social safety net. While placing a substantial up-front adjustment burden on the people of Seychelles, these measures are now starting to bear fruit.

The rupee depreciated around 60 per cent following the float, but has since stabilized at about 16.5 rupees to the $US. Interest rates on Treasury Bills rose to almost 30 per cent in January, but have since eased to around 24 per cent. After the severe foreign exchange shortages experienced in early- and mid-2008, the NIR target for end-December was comfortably met. The public sector workforce has been reduced by some 3,300 employees (17 per cent of staff), supporting a projected reduction in the public sector wage bill of some 3 percentage points of GDP from 2008 to 2010. Replacing indirect subsidies with a means-tested social safety net has improved both the government’s fiscal position and its ability to target income support at the most vulnerable elements of society. And the coherence of fiscal and monetary policy has improved considerably, supported by Seychelles’ macroeconomic framework and enhanced by frequent coordination meetings involving the President, Minister of Finance and Central Bank Governor.

These measures were a bold and convincing response to the macroeconomic imbalances that emerged over time, exacerbated and pushed to crisis point by the global food and fuel price shock. The results thus far are largely as anticipated, which is a credit to the initial program design, the discipline of Seychellois policymakers to stay the course through the early difficult adjustment period, and further tangible evidence of the government’s strong resolve to lay the policy foundations for macro stabilization and sustainable medium-term growth. The government has also pursued a strategy of communicating challenges and the evolving reform agenda openly, including through regular press conferences involving opposition party journalists. This has helped to reinforce the constituency for change, support confidence and shape public expectations for the future.

Recent Developments

Since Seychelles’ program was approved in mid-November 2008, the external environment has deteriorated sharply. The Seychelles economy is heavily dependent on tourism, with visitors from Western Europe and Russia the main source of export income, foreign direct investment in the tourism sector a major driver of growth, and some 60 per cent of government revenues dependant (either directly or indirectly) on the tourism sector. Tourism earnings fell 15 per cent in the December quarter and were around 25-30 per cent lower in the March quarter than in the same period last year. A substantial decline in tourism arrivals is reflected in the program projections and FDI inflows are forecast to almost halve. The forecast contraction in Seychelles’ real GDP of 9½ per cent in 2009 balances both upside and downside risks. The only silver lining in the global recession for Seychelles is the decline in world oil and food prices, which has taken some pressure off inflation and the external accounts. Seychelles’ current account deficit is forecast to be 29 per cent in 2009, a modest improvement on the 32 per cent outcome for 2008.

The depreciation of the rupee, increases in the goods and services tax (GST) and administered prices on some products, and removal of indirect subsidies caused a one-off jump in the price level of 24 per cent in November. Subsequent monthly inflation data shows no evidence of persistent inflationary pressures and anecdotal evidence suggests that most contract prices (including wages) are being adjusted by substantially less than the current inflation rate. This has been assisted by public sector wage restraint, with the government increasing public sector wages by a relatively modest 12.5 per cent since the float. Nonetheless, with the removal of subsidies on essential goods and services (including a doubling of local bus fares and a large increase in utility prices) and the significant increase in domestic interest rates, many Seychellois have experienced a substantial decrease in their purchasing power. Inflation is forecast to decline through 2009, providing some respite. However, as tourism numbers fall and GDP contracts, unemployment is likely to increase, with some hotels and export manufacturers already shedding foreign workers.

The level of income support available under the means-tested social safety net was set at a conservative level initially, containing government expenditure in this area to well below the amount projected in the program. The government has recently increased benefit payments, within the confines of the program’s fiscal targets, to alleviate pressure on the most vulnerable segments of society.

Seychelles’ financial sector is not well-integrated into international financial markets and therefore the global financial crisis and associated deleveraging have not yet had a material impact on financial sector stability. Nevertheless, the central bank is monitoring developments closely and taking measures to strengthen financial sector supervision and prudential regulations, with excellent technical support from MCM. As noted in the staff report, three banks are less than adequately capitalized and the central bank is actively promoting capital restoration. The key risk in the short-term is the potential for rising mortgage defaults as the banks pass through the substantial increase in their domestic funding costs. However, stress tests conducted by MCM in this regard suggest that financial system stability will remain intact under the most extreme scenarios. Moreover, with commercial bank interest rates (including on mortgages) already starting to decline, this has reduced the default risk somewhat. The central bank has requested that a full FSAP be conducted in 2011, and in the interim the central bank will embark on self-evaluation - using the FSAP templates and with MCM support - in priority areas.

Discussions with external creditors are progressing well. The authorities conducted an initial roadshow in November, meeting with holders of almost 80 per cent of Seychelles’ outstanding external securities, and a second round of discussions is now underway. Paris Club creditors have agreed to treat Seychelles’ debts under the Evian approach and formal negotiations with Paris Club creditors are expected to commence in mid-April. There have also been some preliminary discussions with non-Paris Club official creditors.

Program Performance

Seychelles’ program performance during the period of the first review was strong and this has continued into early 2009. The monetary and reserves targets for end-December were met, the three structural benchmarks were observed and the 2009 Budget (delivered in December 2008) established the fiscal policies to achieve the substantial tightening targeted in 2009. Our authorities are also confident that they will meet the end-June structural performance criterion on tax audits for the 20 largest firms. Notwithstanding this strong program performance, two waivers are required to complete the first review.

The reclassification of a loan extended by the government to the state-owned public oil company (SEYPEC) - to secure fuel supply in the difficult period before the program commenced - has resulted in a technical breach of the full year target for the primary fiscal surplus. Our authorities agree with the decision to reclassify the transaction, with the revised fiscal balance profile a better reflection of the extent of fiscal adjustment in 2009 (some 5½ per cent of GDP). Two points are worth emphasising: the policies that led to the need for the financing operation were abolished prior to the program being put in place; and the considerable room for judgment on the classification of loans ‘above or below the line’ under GFS guidelines, with the joint decision to reclassify the transaction very much an on-balance assessment. Our authorities will continue to adhere to the requirement in the TMU that they consult with Fund staff on all economic and financial measures that would have an impact on program implementation. As noted in the staff report and MEFP, abstracting from the reclassification and higher than anticipated external grants (providing an unanticipated boost to the fiscal position), the primary surplus target for 2008 would have been exceeded by some 1.8 per cent of GDP.

Seychelles also temporarily accrued new arrears to multilateral creditors in both December and January, exposing weaknesses in the authorities’ debt management procedures. The amounts were small (less that $US1 million in aggregate), were repaid in full within 2 and 4 weeks of the due dates and no new arrears have accrued to multilateral creditors since. Our authorities are implementing comprehensive corrective measures that include: centralizing management of repayments to multilateral creditors within the Ministry of Finance; commissioning the assistance of the Commonwealth Secretariat to strengthen debt management information technology systems; and bolstering staffing resources in the Ministry of Finance’s debt management section. The Ministry of Finance has also requested technical assistance from MCM to help further strengthen debt management capacity. Given that the second episode occurred in January, under the existing Board policy Seychelles would also be required to seek a waiver at the second review.

Future Reviews and Medium-Term Reform Agenda

Given the deterioration in the external environment, discussions between staff and the authorities highlighted the importance of keeping the program targets and financing assumptions for 2009 under close review. As indicated in the staff report, the fiscal balance and reserves targets for 2009 have been adjusted down modestly as a direct consequence of the more difficult external environment.

In the period to the second review, our Seychellois authorities will focus on: meeting the quantitative performance criteria; bolstering debt management capacity; strengthening governance and operations at the CBS, including addressing risk areas identified in the IMF safeguards assessment; reinforcing public financial management within the Ministry of Finance, spending ministries and state-owned enterprises; working with external creditors towards normalizing relations; upgrading bank capitalization and credit quality norms, with MCM support; and elaborating a tax policy reform strategy based on the recommendations of an FAD technical assistance mission concluded in early-February.

As stated in President Michel’s letter of intent, the government intends to request a 3-year arrangement under the Extended Fund Facility (EFF) in the second half of 2009. The structural balance of payments problems that led to Seychelles’ economic difficulties evolved over many years and will require sustained effort over the medium-term to address. Our Seychellois authorities are actively working with the IMF, World Bank and African Development Bank to elaborate a comprehensive medium-term reform program. In terms of the IMF’s involvement, they are convinced that the EFF provides the appropriate framework and financing structure through which to address their medium-term challenges.

Finally, our Seychellois authorities would like to express their gratitude to Management for their ongoing support and the mission chief and his team for their continued hard work in support of Seychelles’ economic reform agenda and constructive approach to the program discussions.

Seychelles: First Review Under the Stand-By Arrangement, Request for Waivers of Nonobservance of Performance Criteria, and Financing Assurance Review: Staff Report; Press Release on the Executive Board Discussion; and Statement by the Executive Director for Seychelles
Author: International Monetary Fund