Tunisia
2010 Article IV Consultation: Staff Report; Public Information Notice on the Executive Board Discussion; and Statement by the Executive Director for Tunisia

Over the last two decades, Tunisia has carried out a wide ranging reform program based on improving the competitiveness of the economy, enhancing the business environment, and increasing trade openness. Tunisia weathered the international crisis relatively well. Tunisia growth could reach 3.8 percent in 2010 if global growth recovers as expected. Prudent fiscal policy in 2010 can be geared toward supporting growth and mitigating the impact of the weak global environment. The tax regime could become more business-friendly.

Abstract

Over the last two decades, Tunisia has carried out a wide ranging reform program based on improving the competitiveness of the economy, enhancing the business environment, and increasing trade openness. Tunisia weathered the international crisis relatively well. Tunisia growth could reach 3.8 percent in 2010 if global growth recovers as expected. Prudent fiscal policy in 2010 can be geared toward supporting growth and mitigating the impact of the weak global environment. The tax regime could become more business-friendly.

I. Background: Tunisia’s Resilience to the Crisis

1. Over the last two decades, Tunisia has carried out a wide ranging reform program based on improving the competitiveness of the economy, enhancing the business environment and increasing trade openness.

Tunisia signed an Association Agreement with the European Union (EU) in 1995, which led to buoyant export growth and made the EU Tunisia’s largest trading partner. This process has been underpinned by prudent macroeconomic management which, combined with the structural reform agenda, has reduced fiscal and external vulnerabilities and created room to respond to shocks. Real GDP growth reached almost 5 percent during the last decade on average, and unemployment declined by about 2 percent, but began to rise again in the aftermath of the global crisis. The unemployment rate remains relatively high, in particular among educated youth.

A01ufig02

Unemployment Rate

(In percent)

Citation: IMF Staff Country Reports 2010, 282; 10.5089/9781455203543.002.A001

Source: Tunisian authorities1/ The new series is based on the ILO definition of the labor force.

2. Tunisia weathered the international crisis relatively well.

Real GDP growth slowed down moderately in 2009 to 3.1 percent. After declining to 1.8 percent (y-o-y) in the first quarter of 2009, growth has accelerated and reached 4.5 percent (y-o-y) in the first quarter of 2010, following a strong recovery in demand for manufacturing exports (mostly mechanical and electric industries, and textiles). This increase was partially offset by a decline in production in the energy and agriculture sectors. Domestic demand was sustained by buoyant consumption fueled by rising per capita income.

A01ufig03

Quartely Real GDP Growth

(Total and main economic sectors)

Citation: IMF Staff Country Reports 2010, 282; 10.5089/9781455203543.002.A001

Source: Tunisian authorities
A01ufig04

Inflation

(y-o-y growth rates, in percent)

Citation: IMF Staff Country Reports 2010, 282; 10.5089/9781455203543.002.A001

Source: Tunisian authorities

Inflation edged up slightly but remains moderate. Overall CPI inflation (period average) was 3.7 percent in 2009 and rose to 4.5 percent in May 2010 (5.0 percent y-o-y), due to rising food prices. Nonfood CPI inflation hovered around 3 percent, reflecting an appropriate monetary policy stance, with moderate increases in other sectors (housing, transport and services).

The financial sector’s performance remained strong despite the international financial crisis. Banks do not rely on external financing and have benefited from a healthy growth in deposits (13 percent in 2009). Moreover, they had little exposure to the export sectors most affected by the crisis which are primarily offshore financed. The financial soundness indicators continued to improve. In this context, credit growth has remained solid and stable, in contrast to other countries in the region. The Tunis stock exchange index also experienced exceptional growth, reflecting strong earnings of listed companies—most notably banks—as well as abundant liquidity in an economy with relatively limited alternatives for financial investment. Despite recent increases, market capitalization of 21 percent of GDP at end-2009 remains small relative to other stock exchanges in the region and the impact of a potential correction in stock prices would likely be limited.

A01ufig05

Banking Credit to Private Sector

(Month y-o-y growth, ranges since January 2007)

Citation: IMF Staff Country Reports 2010, 282; 10.5089/9781455203543.002.A001

Source: IFS Database
A01ufig06

Stock Market Indexes

(Ranges 2008-Present, January 2008 = 100)

Citation: IMF Staff Country Reports 2010, 282; 10.5089/9781455203543.002.A001

Source: Bloomberg

3. Tunisia’s proactive policy response limited the impact of the crisis.

The government implemented a fiscal stimulus in response to the crisis. The stimulus entailed accelerating the implementation of public investment projects and providing direct support to exporting firms affected by the crisis. As a result, while current transfers and subsidies declined, total expenditure and net lending rose by 1 percent of GDP in 2009.1 At the same time, receipts from direct and import taxes, as well as nontax revenues declined, contributing to a decline in total revenues of 1 percent of GDP. Consequently, the overall fiscal deficit (excluding grants and privatization receipts) rose by 2.0 percentage points of GDP to 3.0 percent of GDP, and was financed almost entirely from domestic sources (external budgetary grants remained stable at 0.3 percent of GDP). Despite the widening fiscal deficit, the public debt ratio continued to fall in 2009 from 43.3 percent of GDP in 2008 to 42.8 percent of GDP in 2009.

The Central Bank of Tunisia (Banque Centrale de la Tunisie, BCT) kept interest rates lower than pre-crisis levels while sterilizing the abundant liquidity. The BCT lowered the required reserves ratio in end-2008 and reduced its key policy rate by 75 basis points in February 2009. Since then, it has maintained its key policy rate constant and increased its money-market operations to absorb the excess liquidity in the banking system. As liquidity was still abundant and credit growth was edging up in early 2010, the BCT increased the reserve requirement ratio twice—from 7.5 percent to 10 percent on March 1st, 2010, then to 12.5 percent on May 1st, 2010. These actions, combined with a decline in foreign exchange reserves, have significantly reduced excess liquidity in the banking system.

A01ufig07

Budget balance and Public Debt

(In percent of GDP)

Citation: IMF Staff Country Reports 2010, 282; 10.5089/9781455203543.002.A001

Source: Tunisian authorities and IMF staff projections.
A01ufig08

Monetary Policy Operations

Citation: IMF Staff Country Reports 2010, 282; 10.5089/9781455203543.002.A001

Source: Tunisian authorities

Past Consultations

In recent consultations, the authorities and the staff have agreed on the broad policy priorities. In line with staff’s advice during the 2009 Article IV Consultation, which was concluded on a lapse of time basis, the authorities loosened fiscal policy in 2009, mostly through accelerating the implementation of public investment projects while containing current spending, including subsidies. The authorities remain committed to a medium-term fiscal policy consistent with a steady decline in the public debt-to-GDP ratio. The BCT also reacted cautiously to the global financial crisis in easing monetary policy in the first half of 2009, and since then has been proactive in absorbing excess liquidity in the banking system to contain inflationary pressures. Continued efforts to strengthen the banking sector led to a gradual improvement in financial sector indicators, and some progress, albeit still slow, was achieved to modernize the monetary policy framework and instruments.

4. The current account deficit contracted in 2009 but widened significantly in early 2010 due to a worsening of the trade balance, leading to a decline in external reserves.

The fall in the prices of raw materials and lower imports of intermediate goods, combined with solid exports of services and inflows of remittances, brought the current account deficit down to 2.9 percent of GDP in 2009. During the first four months of 2010, exports improved significantly owing to the recovery of external demand, but the trade balance worsened as imports increased even more. A pick-up in re-export activity and higher investment as well as one-off large imports of transport equipment led to a sharp rise in intermediate and capital goods imports. As tourism receipts and remittances stagnated, the current account deficit deteriorated significantly, financed in part by a 5 percent increase in FDI in dinar terms. Gross official reserves have been declining steadily since the end of 2009 but remained relatively high at around $ 8.8 billion at end-June 2010 (5½ months of projected imports).

A01ufig09

Imports, Exports and Trade Deficit

(Millions of Dinars, 3 month moving average)

Citation: IMF Staff Country Reports 2010, 282; 10.5089/9781455203543.002.A001

Source: Tunisian authorities.
A01ufig10

Current Account and FDI

(In percent of GDP)

Citation: IMF Staff Country Reports 2010, 282; 10.5089/9781455203543.002.A001

Source: Tunisian authorities.
A01ufig11

International Reserves

(In billions of USD)

Citation: IMF Staff Country Reports 2010, 282; 10.5089/9781455203543.002.A001

Source: Tunisian authorities.

II. Short-Term Outlook and Policies: Supporting the Recovery in an Uncertain Global Environment

5. While the global recovery has been stronger than expected so far, growth in Tunisia’s main partners is expected to be modest and subject to significant downside risks.

The EU is by far Tunisia’s largest partner, accounting for more than three quarters of exports of goods, tourism receipts, workers’ remittances and FDI. Growth in Tunisia’s partners is projected at 1.2 percent in 2010 and 1.5 percent in 2011, compared to about 4½ percent projected for the global economy. Moreover, the downside risks to the prospects for a gradual recovery in Europe have risen significantly. These risks entail a possible escalation of financial stress and contagion in Europe, prompted by rising concerns over sovereign risk, and a more severe impact than currently expected of the planned fiscal consolidation on a still weak domestic demand. On the positive side, the recent depreciation of the euro could boost global exports from the euro area, with feedback effects on Tunisian export sectors such as electrical and mechanical industries.

A01ufig12

Real GDP growth in Tunisia and in partner countries

(In percent)

Citation: IMF Staff Country Reports 2010, 282; 10.5089/9781455203543.002.A001

Source: Tunisian authorities and IMF staff projections.

6. Tunisia’s growth could reach 3.8 percent in 2010 if global growth recovers as expected.

Tunisia’s financial sector was not affected by the recent financial stress in the euro area (Appendix 1). The gradual rebound in overall real GDP observed in Tunisia since mid-2009 is expected to continue, supported by a recovery in industrial activity and investment. Following a strong growth in imports of capital and intermediate goods during the first two quarters of 2010, the resumption of (re-)exports is expected to become stronger in the second part of the year. Furthermore, unlike other countries in the region, Tunisia’s revenues from tourism and remittances from Tunisians abroad have remained broadly stable. On the negative side, performance of the agriculture sector will likely be weaker in 2010. Furthermore, in light of developments in the first part of this year, the current account deficit is expected to widen substantially in 2010 (to 4½ percent of GDP), while many emerging economies are expected to reduce their current account deficits in 2010 and 2011.

7. Facing a modest and uncertain recovery in its main partners, Tunisia’s policies should aim at continuing to support growth while standing ready to adapt to changes in the international environment.

Having successfully mitigated the impact of the global crisis on growth and unemployment in 2009, macroeconomic policies should continue to be geared, in the short term, toward supporting the gradual economic recovery. Thanks to prudent macroeconomic management in the past, Tunisia still has some leeway to deal with potential external risks, in particular with respect to fiscal policy. At the same time, the authorities should remain vigilant about risks of potential inflationary pressures and growing external imbalances.

Fiscal policy

8. Prudent fiscal policy in 2010 can be geared towards supporting growth and mitigating the impact of the weak global environment.

The 2010 Budget Law maintains a supportive fiscal policy to ensure that the current economic recovery is not undermined by an early withdrawal of the fiscal stimulus measures introduced in 2009. Staff projects the deficit to remain at 3.0 percent of GDP in 2010. Based on conservative revenue projections, the expected decline in revenue performance would be offset by lower net lending. The enhanced public investment effort launched in 2009 will be maintained to further improve infrastructure. Current expenditure would remain stable as a ratio to GDP. In particular, subsidies will stay at their lower 2009 level, despite an increase in international commodity prices. This reflects continued implementation of the domestic petroleum products prices adjustment mechanism introduced in early 2009. As in 2009, the central government deficit is expected to be entirely financed through domestic sources, while new loans from official creditors would cover the repayment of external debt. General government debt is projected to increase slightly by about ½ percentage points to 43.1 percent of GDP, mostly on account of the valuation effect on external debt of a projected appreciation of the dollar and the yen against the dinar.

A01ufig13

Gross Public Debt

(In percent of GDP)

Citation: IMF Staff Country Reports 2010, 282; 10.5089/9781455203543.002.A001

Source: World Economic Outlook.1/ MENA-EMs: Egypt, Jordan, Lebanon, Morocco, Syria, Tunisia, Turkey.2/ Non-MENA EMs: Botswana, Brazil, Bulgaria, Croatia, Estonia, Hungary, India, Peru Kazakhstan, Lithuania, Malaysia, Mexico, Poland, Russia, South Africa, and Thailand.

9. Some fiscal space remains available to address the risks associated with the fragile recovery.

The public debt ratio has fallen significantly over the past decade and is now slightly below the average for comparable emerging markets. In the event that downside risks materialize and cause a deterioration in economic activity and budget revenue, the staff saw scope for a small additional widening of the fiscal deficit of up to ½ percent of GDP in 2010. This could allow accommodating additional job creating programs and higher social spending to cushion the impact of slower growth on the most vulnerable groups in the population. Moreover, based on the revenue performance in the first four months of 2010, and other things being equal, revenue for the whole year could be stronger than currently projected, which could provide further room for maneuver if needed.

Authorities’ views

10. Fiscal prudence remains an overarching priority for the authorities, who also see the need for maintaining a supportive fiscal policy in 2010 in the current international environment. Efforts in the last decade to bring down the public debt ratio significantly should not be jeopardized by a too lax fiscal policy. The authorities are committed to firmly control current expenditure, including subsidies, to make as much room as possible for public investment, which they see as most effective for supporting current and future growth. They agreed that the weak prospects for Tunisia’s main partners do not warrant a premature withdrawal of the fiscal stimulus. Nevertheless, with a gradual recovery under way, several support measures adopted in 2009 for sectors most affected by the crisis were suspended in 2010 for lack of use.

11. The authorities remain vigilant and stand ready to make the necessary fiscal policy adjustments should the global environment worsen. They emphasized their quick response to mitigate the impact of the global crisis in end-2008 and 2009. They underlined that a Ministerial Monitoring Committee was established in May 2010 to monitor international developments closely and evaluate possible changes in macroeconomic policies in response to adverse shocks. With this in mind, the 2010 budget has built in additional flexibility with a total amount of unallocated expenditure equivalent to 1% percent of GDP that could be used if needed in the second half of 2010 (only half of that amount is projected to be used).

Monetary and exchange rate policies

12. The BCT will need to pursue its efforts to avoid the build-up of inflationary pressures and ensure that the recent weakening in the external balance does not persist.

Following the recent increases in the reserve requirement ratios, BCT’s market interventions for absorbing banks’ liquidity were substantially reduced. Nevertheless, in the context of low real interest rates, accelerating credit growth, and exceptional increases in the stock market index, the BCT should maintain a close watch to ward off the risks of emergence of inflationary pressures, real estate and stock market bubbles, or excessive credit growth. While no further policy change seems warranted now, the BCT should stand ready to use all monetary policy instruments at its disposal, including interest rates, in case of a significant rise in core inflation, further acceleration in credit growth, or a sustained further fall in reserves. A further deepening of the money market would help enhance monetary policy transmission. Moreover, the BCT will need to continue coordinating closely with the Treasury, which is expected to increase bond issuances in the second part of the year.

13. The exchange rate policy should continue to be guided by the medium-term objective of a freely-floating exchange rate.

BCT’s interventions have been relatively small in 2009 and early 2010, and occurred in both directions, with the primary objective of providing adequate liquidity in the foreign exchange market. Staff noted the importance of maintaining neutral and minimal interventions and closely monitoring developments in official reserves. The exchange rate policy resulted in a relatively stable real effective exchange rate, which remains broadly in line with fundamentals (Appendix 2).

Authorities’ views

14. The authorities remain vigilant, seeking to contain any build up of inflationary pressure, and continue to improve the conduct of monetary policy operations. The authorities highlighted the balance they had to strike between not undermining domestic demand and absorbing the abundant liquidity. This led to the recent policy mix of keeping interest rates constant while increasing the reserves requirements ratio. At the same time, liquidity management as well as tools for money market interventions improved. In particular, the introduction in early 2009 of new facilities for deposits and borrowing by banks allowed for increased flexibility of the money market rate. The authorities aim at further deepening the money market to enhance monetary policy transmission and the effectiveness of changes in the policy interest rate.

15. The authorities will maintain the exchange rate policy stance to smooth fluctuations of and provide adequate liquidity to the foreign exchange market, consistent with a real effective exchange rate in line with its fundamentals. The conduct of exchange rate policy was recently complicated by the high volatility between the main international currencies. The authorities see the recent decline in reserves, which they are monitoring very closely, as partly reflecting seasonal factors and a usual trade pattern during recoveries, which should stabilize in the second part of the year so that reserves could remain at a comfortable level. They remain committed to preserve the competitiveness of the Tunisian economy and maintain external sustainability.

III. Medium-Term Challenges and Reforms: Developing New Sources of Growth as Traditional Markets Would Be Less Buoyant

Medium-term outlook

16. Medium-term growth in Tunisia’s traditional partners is expected to be moderate (1 ½ to 2 percent) and to be a less robust source of external demand for Tunisia.

According to the latest World Economic Outlook (WEO), import demand from the euro area in the coming years could be half of its pre-crisis level. In this challenging environment, Tunisia’s growth could increase gradually and reach an average of about 5 percent over 2010-14, provided that policies and reforms planned by the authorities aimed at enhancing Tunisia’s competitiveness, developing new markets and supporting new sources of growth in sectors with high added value, could bear fruit quickly.

A01ufig14

Euro Area Real GDP Growth

(In percent)

Citation: IMF Staff Country Reports 2010, 282; 10.5089/9781455203543.002.A001

Source: Country authorities and IMF staff projections.
A01ufig15

Euro Area Growth in Real Imports of Goods

(In percent)

Citation: IMF Staff Country Reports 2010, 282; 10.5089/9781455203543.002.A001

Source: Country authorities and IMF staff projections.

17. The highly uncertain international environment poses risks to these projections.

Downside risks to global growth have risen significantly. Beyond the near-term risk of escalating financial stress and contagion in Europe, growth prospects in Tunisia’s main partners could suffer if fiscal consolidation needed to address the concerns about sovereign risks turns out to be more severe than currently projected. In turn, a weaker domestic demand in European partners could reduce the demand for Tunisian exports. Moreover, lower incomes and a rise in unemployment among European partners could lead to decreased tourism revenues and remittances from Tunisians abroad.

Authorities’ views

18. The authorities are well aware of the challenges posed by the post-crisis international environment, and will implement the needed policies to achieve their ambitious growth objectives. Given the Tunisian economy’s size and its ability to exploit buoyant niches, the authorities are convinced that dynamic sources of growth can be tapped despite a weaker global environment in the main partners. Building on past successes, new reforms are being launched, with the support of international development institutions, to facilitate innovation, development of a knowledge-based economy, and a better match between supply of and demand for skilled labor. Specific action plans are targeting the development of services sectors, including in the financial area. All these reforms will be supported by sustained public investment to continue to upgrade infrastructures. On this basis, the authorities foresee Tunisia’s growth to increase gradually over the medium term up to 6½ percent by 2015, which will help reduce unemployment.

Medium-term fiscal consolidation and fiscal reforms

19. As the economy picks up, the need for fiscal stimulus will wane, and fiscal adjustment should resume with the 2011 budget.

Although Tunisia’s public debt-to-GDP ratio has been declining rapidly in recent years, it still remains higher than in other emerging market economies outside the MENA region with similar sovereign credit ratings. Continuing with fiscal consolidation to reduce public debt from 43 percent of GDP—its current level—to below 40 percent by 2015 will be important for ensuring sufficient fiscal space to mitigate the impact of possible future shocks to external demand. To that end, the authorities should aim at lowering the central government deficit (excluding grants and privatization proceeds) gradually to close to 2.0 percent of GDP by 2015. This would need to be complemented with early repayment of external debt using remaining privatization receipts, as done in the last few years. In the case where growth would not reach the projected levels over the medium term, a more ambitious fiscal consolidation path would be required to achieve the same public debt reduction objective.

20. An important component of fiscal consolidation over the medium term should be the streamlining of food and fuel subsidies.

Following the implementation of a petroleum product prices adjustment mechanism in early 2009, budget expenditure related to subsidized prices for a few staple food products (wheat and oil), petroleum products, and transport became less subject to shocks to international commodity prices. Nevertheless, further reforms could be explored to improve the targeting of subsidies and transfers towards the most vulnerable groups of the population.

A01ufig16

Growth Shock on Public Debt Ratio (at historical growth)

(In percent of GDP)

Citation: IMF Staff Country Reports 2010, 282; 10.5089/9781455203543.002.A001

Source: Tunisian authorities and IMF staff simulations.

21. Key to containing expenditure pressures over the medium term is a reform of the social security system.

In the absence of reforms, demographic developments would result in a deterioration of the social security’s financial position. Adjustments in key parameters such as the retirement age and contribution rates will be needed to ensure that the pension system is financially sustainable over the next twenty years and can meet its financial obligations without general tax increases or transfers from the central government budget.

22. The tax regime could become more business-friendly.

International comparisons with other emerging market economies show that the tax burden on businesses is relatively high in Tunisia, and that there is scope to increase the yield from taxes on consumption. Thus, a reduction in profit tax rates offset by an increase in the standard VAT rate and an expansion of the tax base through the elimination of exemptions could benefit growth. Staff welcomed the authorities plan to continue with reform of customs duties to bring them more in line with international standards, by further reducing the levels and number of rates.

A01ufig17

Taxes on Consumption (VAT or General Sales Taxes), 2008

(In percent of GDP)

Citation: IMF Staff Country Reports 2010, 282; 10.5089/9781455203543.002.A001

Source: WEO, IFS, FAD database, IMF staff estimates.2/ Non-MENA EMs: Botswana, Brazil, Bulgaria, Croatia, Estonia, Hungary, India, Peru Kazakhstan, Lithuania, Malaysia, Mexico, Poland, Russia, South Africa, and Thailand.
A01ufig18

Taxes on Enterprises, 2008

(In percent)

Citation: IMF Staff Country Reports 2010, 282; 10.5089/9781455203543.002.A001

Source: Doing Business database, World Bank.1/ MENA-EMs: Egypt, Jordan, Lebanon, Morocco, Syria, Tunisia, Turkey.2/ Non-MENA EMs: Botswana, Brazil, Bulgaria, Croatia, Estonia, Hungary, India, Peru Kazakhstan, Lithuania, Malaysia, Mexico, Poland, Russia, South Africa, and Thailand.

23. Fiscal consolidation efforts will be supported by various structural reform measures to strengthen public finance management.

These measures include adopting program budgeting in stages, and implementing international accounting standards for the presentation of the budget, the fiscal accounts and the medium-term expenditure framework. The authorities also intend to set up a “Caisse des Dépôts” to better leverage savings deposited with the Treasury for supporting public investment, and envisage setting up a specialized agency in the Treasury to manage public debt and minimize the cost of public borrowing.

Authorities’ views

24. The authorities are resolutely committed to reverting to medium-term fiscal consolidation as growth firms up. To reduce the overall deficit by about 0.2 percent of GDP per year from 2011 onwards, they intend to impose a nominal cap on total subsidies, ensure a wage bill growth lower than nominal GDP, and lower the public debt interest burden via active debt management. They have started preparing a pension reform, to buttress the financial sustainability of the pension system, and plan to present a new pension law to Parliament around end-2010. These reforms will allow the public debt-to-GDP ratio to decline below 40 percent by 2015.

25. Fiscal reforms will constitute an important component of the authorities’ growth strategy. They are preparing an overall tax reform, which should be ready in the coming months, to make the tax structure more businesses-friendly. The envisaged reforms to strengthen public financial management will improve the efficiency of public spending, while protecting the public investment effort.

Enhancing the monetary policy framework in the context of capital account liberalization

26. The authorities plan to achieve the convertibility of the dinar and capital account liberalization by 2014.

These are important reforms which, while increasing potential risks of financial spillovers from abroad, would enhance Tunisia’s growth potential. Staff supported the gradual approach envisaged by the authorities. First, key prior conditions will need to be met, including a strengthening of the banking system and further deepening of the foreign exchange market. In a second stage, restrictions on capital account transactions could be lifted, while maintaining a number of safeguards to avoid potentially destabilizing capital movements. It will be necessary to move forward on several fronts very soon in order to facilitate the emergence of market instruments to allow banks and companies to adapt to the new environment.

27. In this context, modernization of the monetary policy framework should proceed toward the medium-term objective of eventually adopting an inflation-targeting regime.

The BCT’s efforts are currently focused on deepening the understanding of monetary policy transmission mechanisms under an inflation-targeting regime, as well as building the required information systems and the necessary analytical capacity about other operational aspects. In this regard, several twinning projects with European central banks are under way. Staff noted that this could be complemented by improving BCT’s communication tools, such as publishing periodic monetary policy and financial system stability reports, to align market’s expectations.

Authorities’ views

28. The authorities’ commitment to liberalize the capital account, achieve the convertibility of the dinar, and modernize the monetary policy framework has been firmly anchored. Preparatory work has been accelerated to adapt policy tools and further deepen the money and foreign exchange markets. The BCT will continue to build the needed capacity with the assistance of other institutions, including possibly the Fund.

Further strengthening the financial system

29. Financial sector indicators continued to improve in 2009.

In 2009, the NPL ratio decreased further to 13.2 percent and loans’ provisioning has been brought to an average of 58 percent. The improvement in the NPL ratio reflects tighter risk assessment by both regulators and banks, as well as more effective actions on the NPL portfolio, in the context of sustained credit growth. Large differences in situations from one bank to another persist, though. Despite the remarkable progress achieved since 2003, with an 11 percentage point decline in the NPL ratio, sustained efforts to further reduce NPLs will be needed, as they still remain relatively high. The authorities should also continue to monitor closely the credit quality for each bank and by sector in order to ensure that the robust credit growth does not generate new NPLs in the near future.

Banking system soundness indicators

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Source: BCT and Fund staff estimates.

International comparisons of NPL ratios should be interpreted with caution since methods may vary from one country to another. In the case of Tunisia, international standards for classification of NPLs are strictly observed. The ratio is calculated in percent of gross assets (including some off balance sheet items).

30. Further strengthening the financial system is a key objective of the presidential program over 2010-14.

The program is articulated around four major components: consolidation of the fundamentals, enhancing banks’ role in the economy, restructuring the public banking system, and promoting the presence of Tunisian banks abroad (Appendix 3). This program includes in particular an increase in the minimum capital requirements for banks to 100 million dinars and the reduction of the NPLs ratio below 7 percent by 2014. The authorities have also decided to implement the Basel II framework, beginning with the standardized approach, as well as creating a deposits insurance scheme financed by the banks. Staff considered that more systematic stress-testing and a forward looking approach to risk assessment would be highly beneficial.

Authorities’ views

31. Modernizing and strengthening the financial sector is a key pillar of the authorities’ strategy to achieve higher growth. Preparation for implementation of the presidential program in this area is under way. Already, redefined banking supervision and financial stability departments in the BCT will ensure more efficient surveillance of credit institutions. In particular, individualized approaches are being implemented for achieving the NPLs reduction objective by 2014.

Continued opening of the economy and diversification efforts

32. Despite the economic crisis, Tunisia still considers trade liberalization and openness the key policy drivers to achieve sustained high growth.

The objective of the authorities is to expand trade and reduce Tunisia’s economic dependency on the European Union. In this context, Tunisia has signed a preferential trade agreement with the West African Economic and Monetary Union (WAEMU) and is currently negotiating free trade agreements with the Central African Economic and Monetary Community (CAEMC), as well as with certain countries in Africa and in the MENA region. Bilateral negotiations with the European Union are under way to extend the Association agreement to services, agricultural products and processed food. Tunisia is also actively involved in the Maghreb integration process. Staff encouraged the authorities to continue with these initiatives to boost trade and tap new sources of growth, in parallel with the above-mentioned reform of customs duties.

33. The medium-term reform program aims at further improving the business climate.

Improvements in customs procedures have reduced custom clearance time and will advance further with the new customs code adopted in 2009. Two new programs to improve business climate and competitiveness have been financed by the World Bank, the African Development Bank, and the European Commission, and should increase Tunisia’s attractiveness for FDI.

34. Tunisia’s economic diversification strategy relies on the development of high value-added services, making a better use of the skilled labor force.

To develop these sectors, the authorities have initiated a reform of the university system to train more students in science and technology. The reform of the educational system is part of a broader plan to develop high value-added services in the areas of information technologies, health, logistics and business services. This effort will be supported by a World Bank program to strengthen the competitiveness of Tunisian companies in the service sector. The authorities are backing this modernization process with an infrastructure development program, which will facilitate the entry of new foreign investment.

IV. Staff Appraisal

35. Tunisia weathered the global crisis well, but faces a modest recovery outlook in its main partners, subject to significant downside risks.

Tunisia entered the global crisis with strong fundamentals thanks to sound policies and reforms implemented over the years. The authorities’ timely and adequate policy response contributed to mitigate the impact of lower external demand in 2009. On the back of a recovery of exports and strong domestic demand, Tunisia’s growth has accelerated through the first quarter of 2010, but this was accompanied by a significant widening of the current account deficit and a decline in reserves. Tunisia remains highly dependent on its main European partners, and their recovery is projected to be modest and subject to significant downside risks. Tunisia will need more dynamic sources of growth to make a significant dent in unemployment, which remains high, especially among the youth.

36. Fiscal policy in 2010 strikes the right balance between supporting growth and preserving the significant gains achieved in the last decade in bringing public debt down.

The recovery under way should not be undermined by an early withdrawal of the fiscal stimulus package. The still available fiscal space could be used to cushion a deterioration in external demand in the event that downside risks materialize. Staff welcomes the continued vigilance of the authorities in that regard. At the same time, current expenditure should continue to be firmly controlled to make as much room as possible for efficient public investment to support current and future growth.

37. Monetary and exchange rate policies should be geared toward avoiding the build-up of inflationary pressures and ensuring that the recent weakening of the external balance does not persist.

The authorities should sustain their efforts to sterilize the abundant liquidity and ward off excessive credit growth with all policy instruments at their disposal. In particular, they should stand ready to tighten the policy stance in case of a significant rise in core inflation, further acceleration in credit growth, or a sustained further fall in reserves. Continued deepening of the financial markets will be important for enhancing monetary policy transmission. The exchange rate continues to be broadly aligned with fundamentals. Exchange rate policy should continue to be guided by the medium-term objective of a freely-floating exchange rate, while ensuring that the level of reserves remains comfortable.

38. Staff welcomes the authorities’ resolute commitment to revert to medium-term fiscal consolidation as growth firms up, to further reduce the public debt-to-GDP ratio.

This will help to maintain investors’ confidence and the scope for countercyclical fiscal policy in the future. Key pillars should include complementing the oil price adjustment mechanism with better targeting of transfers and subsidies to the most needy; adjusting the parameters of the pension system to make it financially sustainable over the medium to long term; and implementing further improvements in public finance management. The tax structure could also be made more conducive to private investment and growth.

39. The authorities’ medium-term objectives to implement inflation targeting, convertibility of the dinar and liberalization of the capital account will enhance Tunisia’s growth potential.

Staff supports the gradual approach envisaged by the authorities, while stressing that it will be necessary to make resolute progress on several fronts soon to encourage the emergence of the market tools needed to enable economic agents to adapt to the future environment.

40. The progress achieved in strengthening the financial system should be sustained.

Financial sector indicators continued to improve in 2009, but the NPL ratio remains relatively high. Reducing this ratio by almost half by 2014 as planned by the authorities will require pursuing resolute efforts by supervisory authorities and banks. More forward-looking risk assessment procedures—particularly in the context of the adoption of Basel II standards, more systematic stress-testing, and developing new indicators for identifying potential risks would be highly beneficial. Staff welcomes the planned implementation of the financial sector component of the 2010-14 presidential program, which will underpin further strengthening of the financial sector.

41. Staff welcomes the new impetus to structural reforms to achieve higher growth.

Plans to further enhance business climate and competitiveness, including through continued liberalization and openness, to develop high value-added services, to make better use of the unemployed skilled labor force, and to diversify export markets, are key in developing new sources of growth. Staff encourages the authorities to implement the underpinning reforms with the same steadfastness and pragmatism demonstrated in the recent past.

42. It is proposed that the next Article IV consultation be held on the standard 12-month cycle.

A01ufig20

Tunisia: Recent Economic and Financial indicators

Citation: IMF Staff Country Reports 2010, 282; 10.5089/9781455203543.002.A001

Source: Tunisian authorities and INS calculations.
Table 1.

Tunisia: Selected Economic and Financial Indicators, 2008-15

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Sources: Tunisian authorities; and staff estimates and projections.

Information Notice System.

Excludes the social security accounts.

Financial system (deposit money banks and development banks).

2010 data is the money market rate at end-June.

End of year reserves over current year imports of goods and services.

TUNINDEX. (1000 = 4/1/1998).

New series based on the ILO definition of the labor force.

Table 2.

Tunisia: Balance of Payments, 2008-15

(In millions of U.S. dollars, unless otherwise indicated)

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Sources: The World Bank; and Fund staff estimates.

Differs from the overall balance because of valuation effects.

End-of-year reserves over current year imports.

Short term defined as 1 year and less.

Table 3.

Tunisia: Central Government Financial Operations, 2008-15 1/

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Sources: Tunisian authorities; and staff estimates.

Includes special funds, fonds de concours. Does not include the social security system (CSS).

Privatization receipts from Tunisie Telecom (TT) were about TD 3000 millions. Only about TD 1069 millions have been used in 2006 (of which TD 919 millions from TT receipts), and about TD 415 millions in 2007 (of which TD 365 millions from TT).

Gross debt: includes debt held by social security funds (CSS); excludes debt of public enterprises.

Table 3a.

Tunisia: Central Government Financial Operations, 2008-15 1/ (concluded)

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Sources: Tunisian authorities; and staff estimates.

Includes special funds, fonds de concours. Does not include the social security system (CSS).

Privatization receipts from Tunisie Telecom (TT) were about TD 3000 millions in 2006.

Gross debt: includes debt held by social security funds (CSS); excludes debt of public enterprises.