Statement by Christopher Y. Legg, Executive Director for Kiribati and Teea Tira, Advisor to Executive Director

The staff report highlights that the economy of Kiribati showed resilience from the global crisis owing to infrastructure projects financed by foreign assistance. Executive Directors stressed the importance of preserving real per capita value of the Revenue Equalization Reserve Fund to ensure fiscal sustainability and intergenerational fairness. They appreciated the multiyear budget framework, which helped in designing realistic fiscal plans. Directors noted the joint IMF-World Bank debt sustainability analysis and encouraged authorities to secure grant financing to support the country’s development needs.

Abstract

The staff report highlights that the economy of Kiribati showed resilience from the global crisis owing to infrastructure projects financed by foreign assistance. Executive Directors stressed the importance of preserving real per capita value of the Revenue Equalization Reserve Fund to ensure fiscal sustainability and intergenerational fairness. They appreciated the multiyear budget framework, which helped in designing realistic fiscal plans. Directors noted the joint IMF-World Bank debt sustainability analysis and encouraged authorities to secure grant financing to support the country’s development needs.

The Kiribati authorities welcome and endorse the Staff’s frank and objective assessment of Kiribati’s current economic conditions and its future outlook.

Managing the impact of increases in future food and fuel prices and pick-up in economic activity from the upcoming major infrastructure investments will occupy the authorities over the short term. The longer-term concern is achieving the increasing growth path amidst the challenges posed by Kiribati remoteness, geographical dispersion, and climate change effects. The authorities’ development and policy initiative directions are broadly consistent with Staff’s advice.

Managing Near-term Pressures

In the near term, the authorities agree that fiscal consolidation will need to be managed with the inflationary pressures from increases in food and fuel prices and the pickup in economic activity from the upcoming major infrastructure investments.

A further escalation of fuel and food prices is a concern to the authorities, given the limited policy instruments available to cushion the adverse impact on the population. Targeted subsidies are not easy to implement, given the relatively low income differential. A mechanism is currently in place that subsidizes the transportation cost of goods to the outer islands aimed at equalizing the price of goods across the nation. The mechanism is basically self-sustaining through a levy on all imports. However, the import levy rate has remained constant since its introduction more than 10 years ago. With the recent hike in fuel prices resulting in the increase in transportation costs, the import levy fund balance has been consistently eroded. Recognizing the need to adequately manage the import levy in the face of further hikes in fuel and food prices, the authorities welcome the grant assistance from the World Bank towards this mechanism. They are also very appreciative of the assistance (both, in-kind and financial) from their other development partners in cushioning the impact of the fuel and food price hikes.

Urban poverty is a complex issue. Given the lack of policy instruments to address the impact of hikes in the food and fuel prices, the authorities are very active in seeking employment opportunities for their people in external labor markets. They agree with Staff that an increase in civil servant wages is not an appropriate countercyclical policy measure, given its permanent nature, as well as its potential spill-over effects to the nation as a whole. The authorities have generally noted that the SOEs and the private sector usually follow the trends in the civil service wages. Given the low level of competition, costs are then passed on to the consumers, adding to inflation pressures. In this context the authorities are generally very cautious about awarding increases in civil service wages. However, the authorities consider that the recent increase in civil service wages in 2010 was long overdue, with the last increase in 2006, and with real wages remaining below 2006 levels.

In terms of the drawdown from the Revenue Equalization Reserve Fund (RERF), as an initial step towards fiscal restraint, the authorities have set a cap on the drawdown from the RERF for this fiscal year and three years forward at a nominal value of $15 million per annum. This is a reduction of $5 million as compared to the average drawdown in prior years. This rule is simple to implement and to manage. However, the authorities recognize the need to reduce further the drawdown to preserve the value of the RERF as a buffer against external shocks and for the benefit of future generations. In this context they are very appreciative of the recent MCM TA on the RERF, with key components of the TA mission outcomes currently under consideration for implementation. The authorities also expect to build on their current collaboration with MCM in maximizing the use and value of the RERF. The authorities are also committed to saving windfall earnings whenever possible.

Medium-term Fiscal Policy Settings

Over the medium term, the authorities agree that reining in the fiscal deficit will be crucial once key public investments have been addressed. Drawdowns from the RERF will continue to be anchored by the long-term objective of preserving the per capita value of the RERF.

As part of reining in the fiscal deficit, the authorities are pursuing improvements in revenue collection and have requested technical assistance (TA) to support their tax reform agenda. They have also taken steps to reduce the volatility of the fishing license revenues (the main source of government income) and are working towards further maximizing returns from their marine resources.

On the expenditure side, the authorities consider that an overall rationalization of government operations and services will be necessary. This includes the SOE reforms currently in progress. The authorities are also currently working on strengthening PFM and have initiated a multi-year budget framework. However, the authorities are conscious that the robustness and effectiveness of multi-year budgeting is constrained by the lack of a relevant macro-economic policy framework. In this context the authorities have requested TA from PFTAC on setting up a credible macro-economic policy framework that should be complemented with strengthening the capacity for fiscal forecasting.

Lifting Sustainable Growth

To achieve a sustained growth path, the authorities underscore the importance of a vibrant private sector as an engine of growth. The authorities also concur with the Staff that productivity gains from infrastructure investments will prove transitory if progress in fiscal and structural reforms lags. Overarching structural reforms will be key to addressing the impediments to private sector growth as well as recognizing the benefits from the infrastructure investments.

As part of the structural reform process, the SOE reform is in progress, with the privatization of one SOE recently concluded. The recent successful conclusion of the privatization exercise has given the authorities confidence to move forward with four more SOEs, currently targeted for extensive reform measures. We consider this particularly noteworthy, given that this is an election year with the authorities moving forward despite the political challenges.

The authorities are also targeting measures that will be relatively easy to implement and at the same time, will have a significant positive impact on the business environment, drawing from successful initiatives around the region. In this context, the authorities have targeted liberalization of the telecommunication sector with the World Bank’s assistance. They aim to build on their success in such initiatives to address other impediments to private sector development.

Other measures which the authorities are considering include streamlining the business startup process, addressing the long-standing land tenure issue, and improving households’ access to credit. As part of improving access to credit, micro-credit schemes such as village banks have been initiated with negative and positive experiences. The village banks appear to work better in the rural areas whilst in the urban areas, credit consumers tend to look more to the services of the mainstream financial institutions’, whose lending products include relatively small scale loans.

The lending schemes offered by the Development Bank and the Kiribati Provident Fund are initial steps to improve the urban households’ access to credit. However, the authorities agree with Staff that such schemes need to be managed carefully. In this context the authorities have requested TA from MCM to review the asset allocation of both, the Kiribati Provident Fund (KPF) and the Kiribati Insurance Corporation, which will include a review of the current credit schemes managed by the KPF. The authorities have also requested TA from MCM to assist in formulating a financial supervision and regulation framework in the event that further expansion of the financial sector, particularly through the Development Bank of Kiribati (DBK) is possible.

Conclusion

The authorities are very appreciative of the lead taken by the Fund Mission Chief and her team in strengthening collaboration with both, the World Bank and the Asian Development Bank, in particular in the context of Kiribati’s DSA. A tangible outcome has been the stance taken by the World Bank to provide assistance through grants, as underlined in the recently approved Kiribati Country Assistance Strategy (CAS) covering the period 2011 to 2014. With limited fiscal space and balancing the need to preserve the per capita value of the RERF, such assistance to address the infrastructure gaps is welcome. However, the authorities are conscious of absorptive capacity constraints and will endeavor to ensure that they work closely with their development partners to manage implementation of these investment projects.

More generally, the authorities are well aware of the challenges that they face. They would like to stress their commitment to moving the economy forward and greatly appreciate the assistance from their development partners. In addition, the authorities would like to put on record their appreciation of the constructive efforts of the mission chief and her team. They look forward to maintaining this strong relationship as they navigate the challenges ahead.

Kiribati: 2011 Article IV Consultation-Staff Report, Informational Annexes, Debt Sustainability Analysis, Public Information Notice on the Executive Board Discussion, and Statement by the Executive Director for Kiribati
Author: International Monetary Fund