St. Kitts and Nevis: Staff Report for the 2017 Article IV Consultation
Author: International Monetary Fund. Western Hemisphere Dept.
Publication Date:
05 Jul 2017
eISBN:
9781484307342
Language:
English
Keywords:
ISCR; CR; CBI inflow; consumer inflation; w CBI fee; inflow; budgetary receipt; CBI shock; CBI properties; CBI contribution; Fiscal stance; Credit; Caribbean; CBI program
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2017 Article IV Consultation- Press Release; Staff Report

Abstract

2017 Article IV Consultation- Press Release; Staff Report

Recent Economic Developments

1. Economic activity moderated in 2016. The economy grew at 3.2 percent, compared to 4.9 percent in 2015. The slowdown reflected deceleration in manufacturing, financial, and tourism-linked sectors, the latter reflecting a slowdown in both cruise arrivals (due to limited port capacity) and lower stay-over arrivals from the United States and the United Kingdom. Construction grew at a robust 7.6 percent, largely owing to a major hotel project. Consumer inflation was negative, reflecting the effect of tax exemptions and low international fuel prices in 2015; but end-year inflation turned positive as these effects started to subside.

A01ufig1

Contribution to Growth

(In percentage points)

Citation: IMF Staff Country Reports 2017, 186; 10.5089/9781484307342.002.A001

Sources: Authorities; IMF staff calculations.

2. The overall fiscal balance remained in surplus, at 4.2 percent of GDP, but deteriorated compared to 2015. The reduced surplus was driven largely by the lower CBI receipts to the budget, as CBI inflows slowed down reflecting increased competition in the region and global security concerns. The weaker fiscal position also reflects reduced tax revenues, owing in part to the full-year impact of the VAT exemptions granted in April 2015. Total expenditure declined substantially due to a significant fall in goods and services spending and capital expenditure, partially offset by a higher wage bill, reflecting the 13th-month bonus to public employees. The estimated ‘underlying’ fiscal balance (the overall balance excluding Sugar Industry Diversification Foundation (SIDF) grants and CBI-related receipts and due-diligence spending) remained in deficit, but narrowed to 3.3 percent of GDP. Public debt fell to 66 percent at end-2016, while central government and SIDF deposit buffers rose to 42 percent of GDP.

A01ufig2

Fiscal Performance 2011-2016

(In percent of GDP)

Citation: IMF Staff Country Reports 2017, 186; 10.5089/9781484307342.002.A001

Sources: St. Kitts and Nevis Authorities and IMF staff estimates.

3. A combination of lower CBI-budgetary receipts and a larger trade deficit resulted in a significant widening of the current account deficit.—to 17.3 percent of GDP, from 9.2 percent previously. The sluggish growth in the tourism sector and significant data revisions by the authorities also contributed to the deterioration.1 Capital inflows were strong (owing, in part, to CBI-linked FDI), which helped to finance the trade deficit. The balance of payments surplus in 2016 compensated the previous year’s drop in foreign reserves. Foreign reserves at the ECCB remained at comfortable levels (7.4 months of imports), well above the various reserve-adequacy metrics (Annex II).

4. The domestic banking system remains broadly stable, but faces risks. Banks’ capital and liquidity ratios appear comfortably above the regulatory requirements, although the capital adequacy ratio could be lower, given the ECCB’s classification of the land assets swapped for government debt in bank books2 and the upcoming switch to Basel II (2019) and IFRS (October 2018), which are expected to put pressure on capital and provisioning. Notwithstanding the ongoing resolution efforts by banks (through intensified recovery/collection, refinancing, and renegotiating loan terms), banks are still burdened with high nonperforming loans (NPLs) and loan portfolios are vulnerable to adverse real-estate-market developments (see paragraph 20). Combined with limited bankable projects, high NPLs dampen banks’ appetite for lending, with real credit growth moving to negative territory in end-2016. Banks have preserved correspondent banking relationships (CBRs) through continued engagement with correspondent banks, increased provision of information, training of staff, and increased allocation of resources to address AML/CFT requirements. However, the banking system has experienced higher fees (about an average 25 percent increase), longer time to complete transactions, and increased due-diligence processes.3 Some businesses have been discontinued in some banks (e.g., clearing US$-checks, money services).

Selected Financial Indicators, 2012-2016

article image
Source: ECCBNote: The decline in CAR reflects the reduction in the size of the loan portfolio due to the debt-land swap.

Outlook and Risks

5. Economic growth is projected to fluctuate around its current level over the medium term under the baseline with current policies and cautious assumptions on future CBI flows. Growth is projected to be 2.7 percent for 2017 and average around 3 percent in the medium term. The projected slowdown in construction linked to lower CBI inflows would be offset by public investment on infrastructure and higher tourism growth (as source market growth accelerates and new tourism facilities come on stream in 2017-19). With the expected rise in fuel prices from 2017, inflation is projected to rise in 2017, remaining around 2 percent in the medium term. The external current account deficit should remain large, with CBI inflows tapering off, while reserves remain at comfortable levels. Public debt is projected to reach the 60-percent ECCU debt-to-GDP target by 2018.

A01ufig3

St. Kitts and Nevis: Sectoral Distribution of Loans and NPLs, End-2015

Citation: IMF Staff Country Reports 2017, 186; 10.5089/9781484307342.002.A001

Source: ECCB, Staff estimates and computations.

6. Risks to the medium-term outlook are broadly balanced (Annex I), deriving from both domestic and external factors. Key risks include further delays in completing the sale of lands under the debt-land swap arrangement and a sharper drop in CBI inflows. A stronger U.S. dollar and a tighter financial environment could raise borrowing costs and offset the positive effect on tourism from expansionary U.S. fiscal policies; a more severe Zika epidemic (notwithstanding the intensive efforts to reduce the mosquito population at source, public awareness and education campaigns, and continued monitoring and testing) or a major natural disaster also add to the risks. Loss of CBRs could add to financial sector challenges. On the upside, stronger CBI inflows (from the ongoing reforms) and continued oil-price weakness could support growth.

Text Table 1.

St. Kitts and Nevis: Medium-Term Outlook

article image
Sources: St. Kitts and Nevis authorities, ECCB and IMF staff estimates and projections.

Includes capital grants and investment proceeds to government.

Reflects debt-land swap equivalent to EC$565 million in 2013 and EC$231 million in 2014.

Policy Discussions

Against the background of elevated risks to CBI inflows and risks associated with completion of the sale of lands under the debt-land swap arrangement, discussions focused on policies to safeguard macroeconomic and financial stability, including by strengthening the fiscal policy framework and reducing reliance on CBI inflows, mitigating risks to financial stability, and necessary reforms to attain sustainable, inclusive growth. The authorities broadly concurred with staff’s assessment and policy recommendations; implementation of most staff recommendations from the previous Article IV consultations are ongoing (Annex III).

A. Strengthening the Fiscal Framework

7. The underlying fiscal position suggests that fiscal policy has been procyclical and expansionary in recent years, notwithstanding the adjustment in 2016. The general government underlying primary deficit widened from 2.8 percent of GDP in 2013 to 4.6 percent in 2015, before improving to a 1.9 percent deficit in 2016 due to temporary underspending, while the underlying overall deficit fluctuated around 6.5 percent in 2013-15, before improving to a deficit of 3.7 percent. Beside reducing the deficit, the CBI inflows supported the SIDF’s quasi-fiscal activities that added to the fiscal impulse until 2014 (including through social programs, such as the People Employment Program (PEP) and other public/private investment projects). The underlying consolidated public sector deficit (i.e., including SIDF spending and public-enterprise balances but net of CBI receipts) improved somewhat since 2014, reflecting lower SIDF spending in line with reduced CBI proceeds, but nevertheless remains large. The VAT and import-duty exemptions since 2014 have weakened the fiscal framework, with revenue loss from tax incentives estimated at 6.4 percent of GDP in 2016.4

8. The authorities’ 2017 fiscal policy priorities focus on preserving the gains in fiscal sustainability, while supporting growth and strengthening resilience. The strategy aims at controlling government recurrent spending, while scaling up public investment to support stronger, sustainable, and inclusive growth and build resilience to natural disasters. The budget does not propose new taxes, but envisages streamlining tax concessions over the next 2-3 years and implementing PFM reforms.

St. Kitts and Nevis: Consolidated Underlying Public Sector Balance, Net of CBI Inflows

(In Percent of GDP)

article image

Reflects the overall balance of 14 public sector enterprises

9. The medium-term fiscal framework should continue to focus on reducing reliance on CBI inflows, given continued risks to fiscal sustainability from the underlying deficits in a world of heightened uncertainty. Notwithstanding the large fiscal buffers, an extreme scenario of a stop in inflows could result in budget deficits that erode the buffers as early as 2020 and leave the public debt 8 percentage points above the 2022 baseline, absent any fiscal adjustment. Combined with a natural disaster (which is assumed to lower growth by 6 percentage points compared to baseline in 2018 and deteriorates fiscal balance by about 5 percent of GDP in 2018-19), the CBI shock would add another 3.5 percent of GDP to the baseline in 2022, taking the debt-to-GDP ratio slightly above the 60 percent target (Annex IV). The resulting slowdown in economic activity could further weaken tax performance that had benefited from spillovers from CBI-related spending and investment.

A01ufig4

Fiscal Buffers and Public Debt under Baseline and Sudden Stop Scenarios1/

(In Percent of GDP)

Citation: IMF Staff Country Reports 2017, 186; 10.5089/9781484307342.002.A001

1/ Assumes a complete sudden stop of CBI inflows in 2018, while maintaining baseline assumptions on expenditure, including the capital budget.2/Based on preliminary data at end-2016, excluding illiquid assets and loans to the public sector.3/ Assumes social spending by SIDF is maintained ina sudden stop scenario. Sources ECCB, SIDF, Authorities and IMF staff estimates.

10. Staff maintains that a zero-underlying primary balance target of the general government, net of CBI-related receipts should be used as the fiscal anchor that guides medium-term fiscal management. Given the declining CBI inflows and projections of further falls in the future, such a target would help increase resilience to negative surprises in future CBI inflows, facilitate accumulation of fiscal buffers to address external shocks, and absorb unforeseen financing needs if tax performance is insufficient after CBI inflows decline. The target could be enshrined in fiscal responsibility legislation that provides the government with a commitment device to anchor its fiscal adjustments to meet the target, and saves windfall CBI inflows, excluded from the target, in a contingency fund. Approval by both the St. Kitts and the Nevis cabinets of an action plan to meet the primary balance target at the country level will be key.

11. Achieving the zero-primary-balance target will require additional fiscal effort of about 2.1 percent of GDP over the medium term. On the revenue side, the tax base should be broadened, including by streamlining tax incentives and continuing to improve tax administration and compliance, especially at the Nevis Island Administration (NIA) level (Annex V). Tax incentives should be well-targeted, rules-based, and transparent, codified in appropriate laws. There is also scope for higher property tax revenue, which remained flat in GDP in 2016, by updating property valuations and enhancing compliance. Other taxes, including on cigarette, alcohol, and sugary products, can raise revenue, while contributing to government efforts to reduce noncommunicable diseases.

Proposed Adjustments to Achieve a Zero Primary Balance Target, Net of CBI and SIDF Grants in the Medium Term

(In percent of GDP)

article image

Adjusted for dividends on unsold land.

12. On the expenditure side, containing spending on goods and services and implementing the remaining civil service reforms should remain priorities. The public-sector wage bill absorbs a large share of budgetary resources, even though wages are not defined by collective bargaining with trade unions unlike in other ECCU countries (Annex VI). Staff welcomes the authorities’ intention to better manage the wage bill, by establishing more predictable public-pay packages. Pay increases should be consistent with budgetary constraints and macroeconomic developments. Regular benchmarking of public and private sector wages should be incorporated in wage determination to avoid misalignment between public and private sector wages over time. The 13th-month bonus pay can be made conditional on macroeconomic variables, such as GDP or revenue exceeding thresholds, or fiscal performance exceeding the primary balance target, but the provision should be an exception rather than the rule.

13. Universal health coverage (UHC) may have fiscal implications that should be carefully managed. The authorities have signaled their intention to introduce UHC within the next few years, though planning is still in the early stages (Annex VII). The design, coverage, and financing of the UHC should be carefully calibrated to achieve its goals and limit risks to fiscal sustainability. The scheme should be funded from permanent revenue sources (e.g., VAT, tax on cigarettes or sugary products, or a health levy) to avoid recurrent drains on the budget. The coverage should reflect national priorities, and the benefit package for the total population should ensure the system’s financial viability, while using specific measures to target the poor and matching UHC commitments with the capacity to deliver health services. Appropriate incentives and regulatory tools should help contain costs.

Authorities’ Views

  • While acknowledging the risks in an environment with increased competition and security concerns, the authorities expressed confidence in the benefits and continuation of the CBI inflows, albeit in a more nuanced way, and stressed their efforts to safeguard the quality and integrity of the program through strengthened due-diligence processes with dedicated resources and global collaboration, and avoidance of destructive competition with other regional programs. They have also improved program management and marketing systems and accelerated processing of CBI applications. Notwithstanding, they agreed that the fiscal framework should continue to focus on reducing reliance on CBI inflows and that a fiscal framework targeting an appropriate primary balance could be enshrined in a fiscal-responsibility law. The authorities committed to give due consideration to implementing the staff’s zero-primary balance target recommendation and enshrining it in a fiscal-responsibility law after a full assessment and consultations. The authorities highlighted their efforts in containing discretionary tax incentives, reiterated the intention to refine the regime, and requested TA to analyze the impact of tax concessions on investment and employment. They viewed staff’s additional revenue mobilization proposals as possible contingent revenue measures and noted the regional approach to taxation of sugary products being explored at the CARICOM level.

  • The authorities welcomed the discussion on the wage bill management framework and possible TA to help them establish a predictable wage-setting mechanism. They noted the ongoing collaboration with the University of the West Indies and PAHO on the design of UHC. Ensuring consistency with an ongoing initiative on UHC at the CARICOM level would also be important.

14. The authorities should continue to build fiscal buffers in the form of a contingency fund and use some of the existing buffers to prepay the most expensive debt. Staff welcomed the authorities’ commitment to establish a Growth and Resilience Fund (GRF) later this year to manage savings from fiscal surpluses (currently held in the banking system), respond to adverse shocks, and create fiscal space to support public sector investment projects, while limiting debt accumulation. The GRF should have a simple sovereign-wealth-fund structure operating as a financing fund with a prudent investment strategy, and be fully integrated with the medium-term fiscal framework, linking the flows directly to the primary-balance target. Further liability-management efforts, including reducing outstanding T-bills, accelerating payment of expensive debt, and improving debt terms, would help to further reduce public debt and its service. In this context, the authorities’ recent agreement to clear the arrears owed by the Federal Government to PDVSA and progress on restructuring of NIA’s overdraft debt accounts are welcome. Strengthening public financial management at the NIA, especially its debt and cash management frameworks, and at public corporations remain critical for the Federation’s fiscal sustainability.

15. The work to establish the GRF should accompany the efforts to prepare for the inevitable recurrence of natural disasters. A comprehensive risk management framework focusing on risk reduction and mitigation is critical to building resilience and reducing the fiscal burden of costly disasters. Risk of natural disasters could be assessed and incorporated into the budget and debt management frameworks. Investment in risk reduction, including through risk maps, early-warning systems, and targeted infrastructure projects, can build resilience to disaster damage. Self-insurance through fiscal buffers remains crucial to safeguard debt sustainability, given insufficient payouts from catastrophe-risk insurance in the Caribbean. Contingent financing plans, risk-transfer arrangements, and encouraging private sector investment in risk mitigation are also essential.

16. The SIDF should be reformed to enhance transparency and broaden parameters of fiscal management. Continued delays in the availability of the SIDF’s audited financial statements and its expansion into quasi-fiscal activities have led to reduced fiscal transparency and fragmented fiscal management. More recently, SIDF finances have come under pressure as CBI contributions to the SIDF declined with a fall in overall CBI applications and increased appeal of the real-estate-purchase option of the CBI program, while its quasi-fiscal social spending has continued. The SIDF’s quasi-fiscal spending should be contained, including by streamlining its activities, and establishing steps for its integration with the Treasury Single Account (TSA). Once the GRF is established, revenue from CBI flows and resulting SIDF deposits should be transferred to the GRF, while SIDF’s quasi-fiscal spending is integrated with general government fiscal account, to facilitate more comprehensive fiscal reporting, planning, cash-management, and control.

Authorities’ Views

  • The authorities agreed on the desirability of repaying expensive debt, where warranted. They have reached agreement on clearing federal government budgetary arrears with PDVSA (to be paid over 5 years); are close to an agreement with creditors on NIA debt restructuring; repaid outstanding NIA arrears to bilateral creditors; and stopped the rollover of interest on federal government T-bills. The authorities will aim to operationalize the GRF later this year and expressed interest in TA. They concurred with the need to reform the SIDF and noted ongoing legislative work, including to ensure transparency with reporting of audited financial statements to the National Assembly, but the decision on its integration with the TSA is pending. The authorities accepted the need to enhance oversight of public corporations by enforcing timely reporting of financial statements and better debt/cash management at NIA.

B. Safeguarding Financial System Stability

17. Sovereign-bank linkages through the debt-land swap present a risk to domestic financial system stability. The second leg of the swap—to divest the land now owned by banks—has not yet been carried out in full, in part due to the initial delays in fully operationalizing the Special Land Sales Company (SLSC) as a marketing and sales agent, and to subsequent delays in finalizing the sales transactions of the two purchase offers (amounting to 3 percent of the swapped land) that had been approved by the cabinet, but the sales have not been completed. The 3-year dividend guarantee agreement with the banks, at a total cost to the government of 3 percent of GDP, ended in mid-2016, with ongoing discussions for its renewal.

18. The sale of lands should be completed urgently to preserve the credibility of debt restructuring and limit fiscal and financial risks. Further delay in sales will require banks to start provisioning for unsold land under an ECCB prudential guideline requiring divestment of the land within five years, with significant macro, financial, and fiscal implications. A clear action plan and timetable with concrete, visible milestones are needed. Completing the sales of existing purchase proposals and stepped-up marketing by the SLSC to generate sales, including through real-estate agents and SLSC website, will help establish momentum and remove policy uncertainty. Staff welcomed the ongoing discussions to renew the dividend guarantee agreement with banks at renegotiated terms; and cooperation among the SLSC, Citizenship by Investment Unit (CIU), and St. Kitts Investment Promotion Agency (SKIPA) to support the sales efforts.

Authorities’ Views

  • The authorities agreed on the urgency to complete the sale of lands under the debt-land swap arrangement. They have made progress to complete the existing purchase proposals. The authorities reassured staff of their commitment to push forward with these and other sales and continue to support stability of the financial system and economic growth. They were open to the possibility of promoting the land for projects to support resilience, diversification and economic development. They signaled commitment to conclude discussions on the renewal of the dividend guarantee agreement by June, when the rate would be applied retroactively, under a mutually beneficial arrangement.

19. Rapid progress is needed in addressing the obstacles to NPL resolution and limiting further deterioration in asset quality that hinders lending and growth. Some progress was made in lowering NPLs in 2016 through banks’ increased resolution efforts, but lengthy foreclosure processes with outdated legislation, difficulty in seizing/divesting collateral, a weak resale market, and information obstacles have undermined these efforts. Completing the final steps to operationalize the Eastern Caribbean Asset Management Corporation (ECAMC) by the ECCB will facilitate collection and disposal of distressed assets, and is expected shortly (with six of the eight jurisdictions, including St. Kitts and Nevis, having paid their capital contributions and its Board of Directors confirmed). Enabling non-citizen ownership of property should support cross-border sale of collateral, while modernizing the foreclosure/insolvency frameworks should help recovery and reduce fiscal costs. The new collateral appraisal guidelines and upcoming credit bureau and land registry should better inform credit decisions and reduce future NPLs. Increased coordination between bank and nonbank regulators should help limit risks from bank-nonbank linkages, considering high delinquency rates in the credit union sector.

20. The authorities should monitor other potential risks, including the implications of a further slowdown in CBI inflows for the banking system. While the direct impact may be limited to the extent that the CBI-related and local real-estate markets are segmented and most CBI properties are self-financed, slower inflows affect banks through construction activity, and repayment capacity by some property-developer borrowers (Annex VIII). In addition, the ending of the 5-year holding-period, which will affect a large amount of existing CBI properties in 2018, could result in an increase in properties for sale and reduce overall property values, and hence bank asset quality (considering that real-estate-related activity make up an important share of bank loans and NPLs). Authorities should thus monitor market developments and banks’ asset portfolios and ensure adequate prudential oversight, to reduce potential macro-financial risks.

Authorities’ Views

  • The authorities noted their participation in the ongoing regional efforts to expedite resolution of distressed assets (through ECAMC, foreclosure legislation, collateral valuation, credit bureau, and a dedicated land registry). They noted that these efforts are at advanced stages, and work is ongoing toward their completion. The authorities stressed that the alien-land-holding legislation is not an impediment to resolution, with cabinet approvals for licenses taking place routinely. While they saw the local and CBI-related real-estate markets largely segmented, they acknowledged the need to monitor the market and ensure adequate prudential oversight.

21. The authorities should continue their efforts to reduce CBR risks and safeguard the integrity of the CBI program. The authorities have amended AML/CFT laws and strengthened legislation for tax information exchange. They have committed to implementing the international standard for automatic exchange of financial account information by September 2018 and note that they have the necessary legal framework in place since end-2016. Compliance with the AML/CFT FATF standards will be assessed in St. Kitts and Nevis’ mutual evaluation to be conducted by the CFATF in 2019. The ECCB and FSRC, through the Regulatory Oversight Committee, have also been focusing their attention on AML/CFT issues after the recent Monetary Council approval of centralizing AML/CFT supervision of financial institutions licensed under the Banking Act under the ECCB. These efforts, as well as ongoing open communication and information sharing between respondent and correspondent banks, implementation of Basel II and risk-based supervision,5 and avoiding destructive competition with other CBI programs, should help limit loss of CBRs and preserve CBI program integrity. Careful consideration of amalgamation opportunities can also help address volume-of-business concerns and improve risk management capability.

Authorities’ Views

  • The authorities emphasized their strong efforts and commitment at significant costs to further improve compliance with global AML/CFT standards and tax information exchange protocols. They expressed concern over recent reports regarding AML/CFT standards in the country, and noted that these reports contain inaccurate statements and did not recognize the strong efforts in tightening due-diligence processes and improved compliance with AML/CFT standards. They acknowledged the importance of making progress in Basel II implementation at the regional level. They were open to amalgamation opportunities, but noted possible challenges and emphasized the need for a comprehensive framework from the ECCB to achieve consensus.

C. Enhancing Competitiveness, Resilience and Inclusiveness

22. The external sector analysis suggests that the external position is weaker than implied by fundamentals and desirable policies, based on a broad set of competitiveness indicators (Annex II). While the adjusted EBA-lite model suggests no significant overvaluation as of 2016, various non-price indicators indicate competitiveness challenges. The Ease-of-Doing-Business ranking has gradually worsened, with weaknesses in registering property, accessing credit, and resolving insolvency. The decline in the 2017 ranking mainly reflects increased number of days needed to register property, underscoring the need for a dedicated land registry. The GDP-per-capita-adjusted minimum wage is slightly higher than the average among ECCU countries and substantially higher than non-Caribbean tourist islands. Skills mismatches and low labor productivity, high energy costs, significant infrastructure gaps, high import duties (average tariff at about 12 percent—one of the highest in the world), and limited and expensive intraregional travel also hinder competitiveness.

A01ufig5

Doing Business Ranking - ECCU countries

Citation: IMF Staff Country Reports 2017, 186; 10.5089/9781484307342.002.A001

Sources: World Bank Doing Business Indicators.
A01ufig6

Minimum Wage-to-GDP per Capita Ratio

(St. Kitts and Nevis and Middle income Countries)

Citation: IMF Staff Country Reports 2017, 186; 10.5089/9781484307342.002.A001

Source: University of Amsterdam Wage Indicator Foundation and national authorities.1/Emerging Market and Developing Economies, excludng Low Income and Arab Countries2/ EMDEs ranked top 50 in Global Competitiveness Index

23. The authorities’ 2017 policy objectives include attaining inclusive growth, social cohesion, and human development. A 2008 Poverty Assessment suggests relatively high poverty levels despite the country’s high income status (23.7 percent in St. Kitts and 15.9 percent in Nevis).6 A World Bank Social Safety Net Assessment identifies the need to better target and streamline social programs. While unemployment is low (around 4 percent in 2013), large government apprenticeship schemes (e.g., PEP and Skills Training and Empowerment Programme, STEP) likely conceal the problem (unemployment could be around 12 percent, without the 3,374 jobs provided under the apprenticeship scheme in 2013). Gender issues, including domestic violence and equal opportunity, also call for attention. The very high homicide rates (among the highest in the world) related to gang activity are not only a social concern but could adversely affect perceptions and, potentially, tourism.

24. The authorities should adopt a comprehensive strategy to overcome persistent structural challenges that continue to limit the potential for inclusive growth. The strategy should continue to focus on the following priorities to achieve sustainable, inclusive growth:

  • Improve business environment. Ongoing efforts to expedite business registration, establish a credit bureau and a dedicated land registry later this year, launch an SME partial-credit-guarantee scheme, and upgrade foreclosure legislation are welcome and should improve the business environment. More effort is needed by banks to educate small businesses to improve credit culture through proper business planning and management and collateral should increase the bankability of projects.

  • Enhance diversification and continue to address skill gaps. The decision made at the cabinet level to channel CBI inflows to additional target areas (e.g., renewable energy, health, and education) should support skills development and economic diversification, while also reducing the risk of asset bubbles in the real estate market, with most CBI inflows coming through the real-estate option. Developing backward linkages from tourism to agriculture is undermined by insufficient technology, small plot sizes, insufficient infrastructure for droughts, and invasion from a large monkey population, but could be supported by technical assistance, investment in drought-resilient crops, and promotion of commercial investments in agriculture. Diversifying the tourism product (e.g., expanding to medical tourism) and source markets could reduce tourism volatility. Reorientation this year of the PEP to STEP for vocational training and certification should help meeting the high-end needs of the economy. Time-bound participation should be enforced and stipends set below the minimum wage to encourage employment outside the STEP program.

  • Enhance productivity and connectivity. Any future increase in the relatively high minimum wage should be linked to productivity, and labor-market flexibility should be maintained (as envisaged in the upcoming labor code). Improving regional and global connectivity is key to competitiveness, including through lower regional import duties, more competitive intra-regional air travel, and development of intra-regional maritime-transportation jointly with the World Bank.

  • Pursue inclusiveness. The authorities should continue to improve targeting of government social programs (as indicated in the National Social Protection Policy strategy), including by expanding the conditional-cash transfer program, addressing gender issues, and focusing housing programs on the poorest (Annex IX). Ongoing actions to reduce crime through increased use of CCTV systems and community-related programs are welcome.

  • Address data gaps and improve data quality. Urgent attention is needed to improve, including through further dedicated TA, the availability and quality of data on balance of payments, national accounts, and labor-market and social statistics, which are key to assessing vulnerabilities and effective policymaking.

Authorities’ Views

  • The authorities reaffirmed their intention and efforts to continue to strengthen the business environment. On diversification, they will move cautiously in channeling CBI inflows to alternative investments to avoid reputational risks. The authorities welcomed the focus on labor market and social issues, and noted that once the upcoming labor code is in place, it would bring the country in line with the labor market international standards. They noted the existence of a tripartite mechanism involving the government, unions, and private sector/employers, to have a common understanding on productivity and competitiveness. Substantial progress has been made in reforming social safety nets, including the recent centralized conditional cash transfer program and efforts to facilitate participation of women in the labor force through the provision of childcare facilities at a subsidized cost. The authorities noted that crime has not affected tourism but recognized the need to address it and noted their efforts in this direction. They also acknowledged the need to improve availability and quality of data, and welcomed dedicated TA on improving balance-of-payments, national accounts, labor market, and social statistics.

Staff Appraisal

25. Economic performance moderated in 2016. Growth moderated (though still exceeding the ECCU average), reflecting a slowdown in tourism and manufacturing activity. Lower CBI receipts were a key factor contributing to a narrowing of the overall fiscal surplus and a significant widening of the current account deficit. At the same time, public debt fell further and is projected to reach the ECCU debt-to-GDP target in 2018, well ahead of ECCU peers. Banks continue to hold adequate capital and liquidity, but face risks, including those associated with the slow progress with land sales, high NPLs, and loss of CBRs. Growth is expected to average around its current level in the medium term. However, key risks to the outlook include a sharper drop in CBI inflows, further delays in completing the sale of lands under the debt-land swap arrangement, loss of CBRs, and a stronger U.S. dollar.

26. Given risks to CBI revenues, the medium-term fiscal framework should continue to focus on reducing reliance on CBI inflows, while preserving a strong program. The authorities have made significant efforts to strengthen the CBI program since 2015, notably by dedicating further resources and increasing global collaboration to tighten the due-diligence process. These efforts should continue, to reduce integrity and security risks, avoid destructive competition with other regional programs, and preserve the program’s credibility and sustainability. A fiscal framework that does not rely on CBI inflows will help build resilience to negative surprises in the inflows and facilitate further accumulation of fiscal buffers, which could be eroded quickly under an extreme scenario of a sharp drop in CBI inflows and reverse the downward debt trajectory. In this context, the authorities should target a zero-primary balance, net of CBI-related receipts, over the medium term. Such a target could be enshrined in fiscal responsibility legislation that would provide the government with a commitment device to anchor its adjustments and save windfall CBI inflows in a contingency fund.

27. Achieving the target will require some additional fiscal effort. On the revenue side, the tax base should be broadened, including by streamlining tax incentives to make them more targeted and rule-based, and efforts to improve tax administration should continue. On the expenditure side, containing spending on goods and services and the public wage-bill should remain a priority, including through a more predictable system for pay packages consistent with budgetary constraints, macroeconomic developments, and regular benchmarking with private sector wages. Fiscal implications of introducing universal health-coverage should be carefully managed, with the scheme funded from permanent revenue sources to avoid recurrent drains on the budget and ensure its financial viability.

28. Staff welcomes the commitment to establish the GRF to preserve and manage the savings from the CBI program. The Fund should have a simple sovereign-wealth-fund structure, with a prudent investment strategy and flows fully integrated with the fiscal framework. GRF resources would be prioritized for debt reduction, and building buffers for future shocks, including natural disasters.

29. The GRF should go hand in hand with efforts to prepare for natural disasters through a comprehensive risk management framework. Assessing natural-disaster risks and incorporating them into budget and debt management frameworks would help build resilience and reduce the fiscal burden of disasters, through investments in risk reduction and self-insurance financed through fiscal buffers. Contingent financing plans, risk-transfer arrangements, and encouraging private sector investment in risk mitigation are also essential.

30. Structural reforms to strengthen PFM need urgent attention. The SIDF’s quasi-fiscal spending should be contained, including by streamlining its activities and integrating with the general government’s TSA to facilitate more comprehensive fiscal planning and cash management. Once the GRF is established, the authorities should consider transferring revenue from CBI flows and resulting SIDF deposits to the GRF. Oversight of public corporations should be enhanced through timely reporting of financial statements. PFM would also benefit from strengthening the NIA’s debt and cash management frameworks. Staff welcomes progress in clearing remaining arrears and encourages the authorities to improve liability management, including reducing outstanding T-bills, accelerating payment of expensive debt, and improving debt terms.

31. The sale of lands under the debt-land swap arrangement should be completed urgently to limit fiscal and financial risks. A clear action plan and timetable with concrete, visible milestones should be established. Completing existing purchase proposals and stepped-up marketing to generate sales (including with support from the CIU and the Investment Promotion Agency) will help establish momentum and remove policy uncertainty. The ongoing discussions on the renewal of the dividend-guarantee agreement with banks at renegotiated terms are welcome. Staff urges the authorities and banks to reach an agreement on the reporting treatment of the swapped land to remove any remaining uncertainty about the debt-land swap.

32. Continued efforts to reduce CBR risks and rapid progress with NPL resolution are also essential to preserving financial stability. The authorities’ efforts to improve compliance with international standards and implement risk-based supervision, and respondent banks’ open communication and information sharing with correspondent banks should help limit CBR risks. Carefully considered amalgamation opportunities can help address volume-of-business concerns and improve risk management. Swift resolution of NPLs is critical to supporting bank credit and economic growth. The ongoing efforts to operationalize the ECAMC; modernize foreclosure/ insolvency frameworks; and establish collateral-appraisal guidelines, credit bureaus, and a land registry should facilitate resolution and help contain future NPLs. Authorities should also ensure adequate prudential oversight to minimize potential effects on banks of further slowdowns in CBI inflows and the ending of the 5-year holding-period for existing CBI properties.

33. A comprehensive reform strategy that focuses on improved business environment, diversification, human resources, competitiveness, and social safety would help overcome persistent structural challenges that continue to limit the potential for inclusive growth. The staff’s external assessment based on a broad set of competitiveness indicators points out competitiveness challenges. Ongoing efforts to improve the ease-of-doing business and investments in strategic transformative projects, including through alternative investment options under the CBI program, should support skills development, economic diversification, and competitiveness. Efforts to support inclusive growth through streamlining and better targeting social programs, policies to tackle gender gaps and reduce crime, including through increased use of CCTV systems and community-related programs, are welcome. Urgent attention is needed to improve the availability and quality of data, which is key to assessing macroeconomic, financial, and social vulnerabilities and facilitating effective policymaking.

34. Staff recommends the next Article IV consultation with St. Kitts and Nevis to take place on a 12-month cycle.

Figure 1.
Figure 1.

St. Kitts and Nevis: Regional Context

Citation: IMF Staff Country Reports 2017, 186; 10.5089/9781484307342.002.A001

Figure 2.
Figure 2.

St. Kitts and Nevis: Real Sector Developments

Citation: IMF Staff Country Reports 2017, 186; 10.5089/9781484307342.002.A001

Figure 3.
Figure 3.

St. Kitts and Nevis: Fiscal Sector Developments

Citation: IMF Staff Country Reports 2017, 186; 10.5089/9781484307342.002.A001

Sources: ECCB, authorities and IMF staff estimates.
Figure 4.
Figure 4.

St. Kitts and Nevis: External Sector Developments

Citation: IMF Staff Country Reports 2017, 186; 10.5089/9781484307342.002.A001

Figure 5.
Figure 5.

St. Kitts and Nevis: Monetary Developments

Citation: IMF Staff Country Reports 2017, 186; 10.5089/9781484307342.002.A001

Table 1.

St. Kitts and Nevis: Basic Data

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Sources: St. Kitts and Nevis authorities; ECCB; UNDP; World Bank; and Fund staff estimates and projections.

Authorities revised historical GDP growth backwards from 2015.

Includes St. Kitts and Nevis (in the past, only St. Kitts data was reflected).

In relation to broad money at the beginning of the period.

Consolidated general government balances unless otherwise noted. Primary and overall balances are based on above-the-line data.

Decline in goods and services expenditure in 2012 reflects the corporatization of the Electricity Department in August 2011.

Excludes CBI budgetary fees as well as SIDF grants and Investment proceeds.

2012 disbursement includes financing to regularize the external arrears related to fuel purchases.

Reflects operations linked to the restructuring of public debt.

Reflects the debt-land swap equivalent to EC$565 million in 2013 and EC$231 million in 2014.

Based on staff’s preliminary revisions to merchandise imports since 2013 pending technical assistance from CARTAC and headquarters.

Table 2a.

St. Kitts and Nevis: Federal Government Fiscal Operations, 2011–221/

(In millions of Eastern Caribbean dollars)

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Sources: St. Kitts and Nevis authorities; and Fund staff estimates.

Combined accounts of the Federal Government of St. Kitts and Nevis and the Nevis Island Administration.

The drop in taxes on domestic goods and services in 2015 reflects VAT exemptions on food and other items.

Data from August 2011 exculdes the electricity department following its corporatization.

The rise in transfers in 2015 reflects the disbursement of the EC$16.5 million grant to sugar workers from Venezuela.

Reflects renewal of the 3.5 percent dividend payment on unsold land plots which were transferred, as part of the debt-land swap agreement beyond its original 3-year term up to the 5-year limit for holding collateral assets, in line with the ECCB’s prudential regulations.

2012 disbursement includes financing to regularize the external arrears related to fuel purchases.

Based on actual data of 10 public sector corporations and estimates for 4 others. No audited financial statements have yet been published for St. Kitts Electricity Company (SKELEC). Excludes data for St. Kitts Sugar Manufacturing Corporation, which was dissolved in 2012. Series is used in the Debt Sustainability Analysis (Annex IV).

Includes SIDF net surplus or deficit.

Table 2b.

St. Kitts and Nevis: Federal Government Fiscal Operations 2011–22 1/

(In percent of GDP)

article image
Sources: St. Kitts and Nevis authorities; and Fund staff estimates.

Combined accounts of the Federal Government of St. Kitts and Nevis and the Nevis Island Administration.

The drop in taxes on domestic goods and services in 2015 reflects VAT exemptions on food and other items.

Data from August 2011 exculdes the electricity department following its corporatization.

The rise in transfers in 2015 reflects the disbursement of the EC$16.5 million grant to sugar workers from Venezuela.

Reflects renewal of the 3.5 percent dividend payment on unsold land plots which were transferred, as part of the debt-land swap agreement beyond its original 3-year term up to the 5-year limit for holding collateral assets, in line with the ECCB’s prudential regulations.

2012 disbursement includes financing to regularize the external arrears related to fuel purchases.

Based on actual data of 10 public sector corporations and estimates for 4 others. No audited financial statements have yet been published for St. Kitts Electricity Company (SKELEC). Excludes data for St. Kitts Sugar Manufacturing Corporation, which was dissolved in 2012. Series is used in the Debt Sustainability Analysis (Annex IV).

Includes SIDF net surplus or deficit.