I. Recent Economic Developments and Outlook

The Mauritian economy performed well in 2011, with real GDP growing at 4.1 percent, helped by strong growth in textiles, the information technology (IT) sector, tourism, financial services and construction. This performance is also explained by the prudent macroeconomic policy put in place since the global financial crisis of 2008/09, and the continuous structural reforms being implemented in the different sectors of the economy. Consumer price inflation, after increasing in the middle of the year due to higher import prices and one-time increases in administered prices moderated to 4.9 percent by the end of the year. The unemployment rate stood at 7.9 percent at end-2011, same as in 2010.

Growth is expected to moderate in 2012 due to the adverse external environment. While the authorities welcome the projection by staff of real growth at 3.7 percent, they are concerned about external developments, in particular in the euro zone, the most important trade partner of Mauritius, as regards trade, tourism and foreign direct investment. If the external situation is as projected, the authorities are confident that the policies in place will help to maintain a healthy level of growth. However, should the difficult external situation worsens or lasts longer, the impact on the Mauritian economy would be significantly worse, and in this respect, the authorities have already prepared contingent macroeconomic policies, which are included in the 2012 budget.

Fiscal policy in 2011 was less expansionary than envisaged in the Budget, as capital expenditure was less than budgeted. Expenditure on goods and services and compensation of employees were also lower. As a result, the fiscal deficit narrowed to 2.4 percent of GDP. For 2012, fiscal policy is geared towards improving the economy’s resilience to external shocks. The 2012 Budget emphasizes higher public investment spending, in particular, to address infrastructure constraints. However, the authorities will remain mindful of the deficit, and the objective of reducing the debt ratio which has been brought down to 57 percent of GDP, of which about 80 percent is domestic debt. If the global situation worsens, the authorities intend to allow fiscal stabilizers to work, and to reinforce the targeted programs to protect the poor and help firms restructure. Increased spending on infrastructure, including from special funds, is also envisaged under such circumstances.

Monetary policy was tightened in 2011 to address inflationary pressures. The key repo rate was increased cumulatively by 65 basis points and the cash reserve requirement was also increased from 6 to 7 percent. Private sector credit growth remained at 13.5 percent, the same as 2010. The Mauritian rupee appreciated during the year, mainly due to strong capital inflows and despite some interventions by the Bank of Mauritius (BOM). For 2012, monetary policy will remain focused on maintaining domestic price stability. In the implementation of its monetary policy, the BOM has relied on a “hybrid inflation targeting” framework which has been appropriate in the context of the Mauritian economy. However, the authorities agree with staff on the desirability to move, over the medium term, to a more formal inflation targeting framework, but before doing so, they are of the view that they should further strengthen their macro-forecasting and analytical capabilities, as well as price and external sector statistics. As regards the exchange rate, any further real appreciation not in line with fundamentals will be viewed with concern, in view of its adverse impact on competitiveness, and may warrant some exchange rate intervention. However, the authorities are of the view that presently the overvaluation in itself is not significant enough to warrant active exchange rate management. They prefer to let the rate be determined by the market, with limited intervention to smooth out fluctuations.

The banking sector remains healthy. It is liquid and well-capitalized. Its Regulatory Tier I capital to risk-weighted-assets remains well above Basel II and the proposed Basel III requirements. Banks have remained profitable, and non-performing loans are low. The stress tests performed by staff confirm the robustness of the sector and its resiliency to shocks. In March, 2011 the Bank of Mauritius started publishing the CAMEL ratings of local banks. Moreover, the BOM has made good progress in preparing the adoption of a deposit insurance scheme, as recommended by the 2007 FSAP. Enhancing the coordination of supervision between the BOM and the Financial Services Commission (FSC), which is in charge of regulating the non-bank financial sector, will continue to be pursued. Already a protocol of understanding has been signed between the two to reinforce the framework for exchanging information.

The external current account deficit widened to 10 percent of GDP in 2011. Although exports increased significantly, imports also increased due to higher costs, especially food and energy, and imports related to investment in infrastructure. FDI remained strong at about 3 percent of GDP, and there were loan disbursements to the government on previously approved projects. As a result, the overall balance registered a surplus of 1.2 percent of GDP.

II. Medium-term Challenges and Policies

The section in the staff report entitled “Long-term Challenges” and the appendices describe well the policies that have been implemented and those envisaged to ensure long-term sustainable growth. My authorities are in broad agreement with the analyses and policy recommendations of staff. I will therefore highlight some of the most important features and provide additional information for clarity and completeness.

Maintaining sustainable inclusive growth in the context of macroeconomic stability remains the primary objective of the authorities. The projection, based on policies being implemented and envisaged, is for per capita income to grow and reach about US $12,000 by 2020. Achieving a fair and equitable distribution of income in the context of high economic growth remains an important objective of the authorities. In this regard, it is worth noting that extreme poverty is quite low, as less than 1 percent of the population lives on US $1.25 per day. At the same time, as the economy has developed, the tax system has become more progressive and social protection has also increased. Nevertheless, groups that are less poor seem to have benefitted more from economic growth. This is due to a number of factors as staff’s studies show, as well as the fact that some of the subsidies and social benefits are given to the whole population. Nevertheless, the authorities very much appreciate staff’s studies and recommendations and intend to use them to improve the targeting of social protection expenditures. Already, steps have been taken along the lines recommended by staff. The Social Register of Mauritius project is now being implemented which will enable further targeting of some social assistance programs, namely the social housing and day care centers programs which were announced in the last Budget. A proxy means test will be undertaken for all beneficiaries of these programs, and this will also apply to all beneficiaries of Social Aid gradually improving the targeting process.

As regards fiscal policy, it is the intention of the authorities to continue fiscal stabilization efforts. My authorities will implement policies that should bring the debt ratio to 50 percent of GDP by 2018, as is legally-mandated. The authorities’ efforts will focus mainly on curtailing current expenditure, in particular, transfers to public enterprises and better targeting of social benefits. In this regard, the authorities are strengthening the monitoring of public enterprises to increase their operational efficiency and minimize government transfers. It is worth noting that presently, there are no current transfers to parastatals from the budget and capital transfers are in the form of advances at the cost of capital to government plus a small premium.

As regards taxation, Mauritius is playing a leading role in the development of green taxes, which are aimed at taxing CO2 emissions and encouraging ethanol production. This is being done through a system of subsidy/taxation of cars and ethanol as explained in Appendix IV of the staff report. Under the system in place for CO2 emissions, a levy is payable if the CO2 emission exceeds a certain threshold, and a rebate is granted if it is below the threshold. Regarding ethanol, it is to be noted that the tax system that is being developed will target the related externality and will not make use of a quantitative ethanol mandate. The ratio of the mix of ethanol to gasoline will be market determined.

The Mauritian authorities will pursue steadfastly the comprehensive structural reform plan that is needed to address the structural bottlenecks and to create a competitive environment conducive to the further development of the private sector. Important measures are being taken, namely:

• On the transportation system, the road network is being expanded, and other modes of transportation are being studied to reduce road congestion. In this regard, a light rail system on a PPP model is being studied with assistance from Singapore. The Government also is planning to award, in July, a PPP contract for the road decongestion program which will introduce toll roads.

• Water supply has become a serious problem, and the authorities are working closely with experts from Singapore to develop a water strategy. This strategy is considering, among others, how to involve the private sector in operating an integrated water sector. Already, early this year water tariff was significantly increased.

• The electricity company, which is profitable, is not expanding its own production but is relying on private suppliers for both expansion of its base load and renewable energy (a tender for wind power has just been awarded). It should also be noted that already about16 percent of electricity is being produced by the sugar factories through the use of “bagasse”, a by-product of sugar cane, and the electricity is fed into the national grid.

• Air Mauritius, the national airline, has already started the process of looking for a strategic partner.

• The statistical framework is being continuously strengthened, and since February of this year Mauritius has started to subscribe to the SDDS.

Overall, the Mauritian economy continues to perform well, and vulnerabilities are being addressed. The authorities remain committed to their reform agenda and will pursue their efforts that should help to take Mauritius to the next stage of development.