Abstract
The oil price shock that started in mid-2014 has substantially reduced fiscal revenue and exports, with growth coming to a halt and inflation accelerating sharply. This has brought to the forefront the need to address more forcefully vulnerabilities and dependence on oil, and to diversify the economy. The authorities have taken steps to mitigate the impact of the external shock: an 18 percent of GDP improvement in the non-oil primary fiscal balance over 2015-16, mainly through spending cuts including the removal of fuel subsidies, has been implemented; and the kwanza has been devalued against the U.S. dollar by over 40 percent since September 2014, with international reserves being used to smooth the depreciation. However, the exchange rate has been re-pegged since April 2016 leading to an appreciation of the kwanza in real terms, and further policy actions are needed to continue adjusting the economy to the ‘new normal' in the oil market and to return growth to a level consistent with poverty reduction.
1. Introduction
Angola has made commendable progress in addressing its post-conflict development challenges, including gaps in basic infrastructure and limited human capital development, needed to spur long-term growth. The implementation of sound macroeconomic policies and structural reforms, over the past several years, yielded steady growth, improved socio-economic indicators, and paved the way for continued improvements in institutions. Reaping the benefits from the oil sector to upgrade the productive capacity required to diversify the sources of economic growth is essential to reduce risks from commodity price swings. More recently, the authorities have made significant adjustments in the macroeconomic policy mix to withstand the adverse impact of the oil price shock, coupled with the sluggish growth in emerging markets and tightening financial conditions. Going forward, they are committed to advance the reform agenda to build strong macroeconomic fundamentals, accelerate economic diversification, and strengthen policy institutions. They broadly concur with the staff assessment and policy recommendations, appreciate the Fund’s continued engagement and policy advice as well as the candid policy discussions during the 2016 Article IV Consultation.
2. Recent Economic Developments
The Angolan economy is adapting to a “new normal” characterized by the lower commodity price cycle since mid-2014. Given the country’s dependence on oil, economic performance is intrinsically determined by oil price developments.
Economic activity stagnated in 2016, after growing at 3.0 percent in 2015, primarily driven by the slowdown in the oil sector to 0.8 percent in 2016, from 6.4 percent in 2015. In addition, the shortage of foreign exchange to finance imports of intermediate and capital goods needed for production of nontradables, a weakening in private sector activity, and the scaling back of public infrastructure investment weighted negatively on growth.
Inflation reached 41.2 percent in December 2016, year-on-year (y-o-y), largely driven by the pass-through effect of depreciation of the local currency during the period of rebalancing of the foreign exchange market. The heightened inflationary pressures in 2016 were also induced by the lagged effects of the phasing out of fuel subsidies in 2015 and 2016. The kwanza depreciated by roughly 60 percent against the U.S. dollar during the period 2015–2016. To contain inflation pressures and gradually address imbalances in the foreign exchange market, the Central Bank of Angola (BNA) raised its policy rate by 200 basis points to 14 percent in June 2016, relative to January 2016. Likewise, the standing lending facility rate was raised from 14 to 20 percent, and the standing deposit facility rate was increased from 2.25 to 7.25 percent, over the same period. These measures contributed to reducing the excess liquidity and preserving reserve buffers.
The fiscal policy stance for 2016 remained restrictive, given the urgency to accelerate the pace of fiscal consolidation initiated in 2015. The supplementary budget for 2016 scaled back public expenditures and concurrently protected the fiscal space for social programs. Further, deficit-reducing measures were implemented, particularly, the phasing out of fuel subsidies and rationalization of recurrent expenditures, mostly wages and goods and services. To insulate the economy against oil price volatility and prevent the risk of debt distress, the authorities agreed to take further actions aimed at achieving over the medium term a non-oil primary fiscal consolidation path needed to rebuild fiscal buffers.
The external current account deficit is projected to narrow to 4 percent of GDP in 2016, from 10 percent of GDP in 2015, on account of weaker economic activity, while gross international reserves are projected to remain at comfortable levels in 2016, at US$ 22.7 billion (roughly 8 months of prospective imports), against US$ 24.4 billion in 2015 (11 months of prospective imports).
3. Medium Term Economic Outlook and Policy Priorities
The medium term economic outlook for Angola remains favorable although the balance of risks is tilted to the downside. The key risks include the lingering low oil prices, slower growth in emerging markets, and tightening financial conditions. These risks will be mitigated through swift implementation of the recently launched program of action (Programas Dirigidos) targeted at sectors with high import-substitution and export potential, specifically agriculture, food processing, fisheries, and light manufacturing.
Economic growth is projected to pick up to 2.1 percent in 2017, driven by the recovery of the oil sector and expected rebound in the non-oil sector, with growth rates estimated at 1.8 and 2.3 percent, respectively. The performance of the non-oil sector will be driven by accelerated growth in sectors of agriculture (7.3 percent), manufacturing (4.0 percent), construction (2.3 percent), and electricity (40.2 percent), which account for a substantial share of GDP. The authorities’ growth projections for 2017 are slightly higher than those of staff on account of different assumptions regarding the availability of financing for public infrastructure investments to increase the capacity for power generation, particularly: (i) construction of phases 1 and 2 of the Cambambe hydropower plant, with capacity to generate 960 megawatts; and (ii) construction of the Lauca hydropower plant, with a planned capacity of 1,320 megawatts.
Like most resource-rich nations, Angola’s main challenges over the next few years are accelerating the pace of economic transformation and diversification, improving human capital development, and strengthening institutions. To achieve this, the authorities approved in January 2016, a Program of Action for Economic Diversification to withstand the oil price shock and invigorate the implementation of the National Development Plan (2013–017), which seeks to unlock the country’s growth potential and propel broad-based growth.
Fiscal Policy
The authorities’ medium term fiscal strategy seeks to foster fiscal consolidation and step up the implementation of structural reforms to improve domestic revenue mobilization and strengthen public financial management. The draft budget for 2017 approved by the National Assembly on December 16, 2016 envisages an overall fiscal deficit of 6.7 percent of GDP, and is consistent with the medium term objective of promoting growth, while preserving debt sustainability. More specifically, over the short to medium term, the authorities will continue the implementation of fiscal reforms aimed at diversifying the sources of non-oil revenues, through measures aimed at widening the tax base, improving tax inspections, and better enforcing real estate taxation. In addition, they will accelerate ongoing preparatory steps to create an adequate institutional capacity and put in place appropriate IT infrastructure for the introduction of VAT. Similarly, upgrading the institutional capacity for investment planning and implementation, while improving the medium-term fiscal framework (MTFF) will be given primacy going forward. Further, the authorities will enhance the institutional capacity for oversight of fiscal risks from state-owned enterprises (SOEs), and accelerate the program of their restructuring and privatization, which includes closing 48 and privatizing 53 SOEs.
Monetary and Exchange Rate Policy
The BNA policy priorities remain geared towards achieving price stability and rebalancing the foreign exchange market. The authorities are conscious that further tightening in the monetary policy stance while allowing greater exchange rate flexibility are essential to safeguard macroeconomic stability. Nonetheless, given the economy’s structural rigidities and its heavy reliance on imports, a gradual approach to achieve exchange rate flexibility is desirable to prevent escalation of inflationary pressures. The BNA will continue to fine tune its monetary policy framework to strengthen credibility, and step up the implementation of measures aimed at improving the capacity for liquidity forecasting and management, and upgrading macro-prudential regulations. As the economy improves, the authorities are committed to take decisive steps to remove the restrictions on forex transactions. In addition, further steps to improve effectiveness of monetary policy will be taken, in particular narrowing the policy interest corridor to 500 bps to better signal the monetary policy decisions and shifting to base money targeting to achieve the inflation objective.
Financial Sector Policy
Building a sound financial system and fostering financial deepening and inclusion are vital to support the ongoing efforts to propel inclusive-growth and foster economic diversification. To prevent the systemic risks arising from the deterioration in asset quality and lack of compliance with the minimum capital requirements by systemic-important banks, the BNA will continue to enhance the regulatory and supervisory frameworks and strengthen its crisis management tools. In relation to this, the authorities have made significant efforts in addressing the recommendations from the 2012 Financial System Stability Assessment (FSSA). Specifically, they have: (i) completed the restructuring of BNA’s supervisory functions with specific departments for banking supervision, regulation, foreign exchange supervision, and consumer protection; (ii) created a financial stability committee within the BNA; (iii) established a risk oversight unit; and (iv) are in the process of aligning the banking system’s accounting and reporting practices with International Financial Reporting Standards (IRFS).
In light of the risks stemming from loss of U.S. dollar Correspondent Banking Relationships (CBRs), the BNA has taken swift actions to mitigate these risks and find long-term solutions. Specifically, over the past months, the BNA intensified its data collection and analysis efforts to ensure compliance with data provision on CBRs by the banking sector, and has been actively engaged in high-level policy dialogue with global correspondent banks in order to better understand the expectations and regulatory environment around CBRs. In this regard, actions are currently underway to enhance the supervisory and regulatory prudential frameworks and enforce mechanisms in line with international best practices. Further, the BNA has been engaged in open policy dialogue with private institutions on measures needed to address the withdrawal of CBRs and enhance the country’s AML/CFT framework as well as increase awareness.
Structural Policies
Addressing the longstanding structural impediments to economic competitiveness and accelerating economic diversification and transformation remain critical policy challenges facing Angola over the medium and long term. Policy priorities in the structural front will be centered on augmenting the fiscal space for growth-inducing expenditures, while enhancing human capital development. In this vein, the authorities will step up efforts to quickly bolster the non-oil sector through invigoration of structural measures to ease the binding constraints to broad-based growth. They will also improve the business environment, including accelerating the implementation of the new Business Law, the new Labor Law, and approved decrees to facilitate startups, eliminate red tape, and unlock opportunities for small and medium-scale enterprises (SMEs).
4. Conclusion
The Angolan authorities have made notable efforts to advance their reform agenda aimed at withstanding the short-term vulnerabilities brought about by the protracted oil price shock and improving economic resilience and competiveness. The policy adjustment efforts to preserve macroeconomic stability and promote economic growth will continue, particularly through increased fiscal space for growth-friendly public investments needed to reduce the country’s dependence on the oil sector. To this end, continued Fund engagement and policy advice remain critical in supporting the authorities’ development agenda going forward.