Republic of San Marino: Staff Report for the 2018 Article IV Consultation

International Monetary Fund. European Dept.

doi:10.5089/9781484350768.002.A001

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International Monetary Fund. European Dept.

International Monetary Fund. European Dept.
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Publication Date:: 11 Apr 2018

eISBN:: 9781484350768

Language:: English

Keywords:: ISCR; CR; government; Sta balance of payments statistics; authorities of the Republic of San Marino; IMF staff calculation; market share; banking system liquidity; capital shortfall; CRSM recapitalization; banking system fragility; Commercial banks; Financial sector stability; banking system asset

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2018 Article IV Consultation-Press Release; Staff Report; and Statement by the Executive Director for the Republic of San Marino

Abstract

2018 Article IV Consultation-Press Release; Staff Report; and Statement by the Executive Director for the Republic of San Marino

Context: Pressing Need for Lasting Solutions

San Marino, a euroized microstate enclosed in Italy, experienced a severe recession during 2008–14, triggered by a series of shocks, leading to an implosion of the financial sector built upon bank secrecy and tax haven status. After contracting by more than a third, the economy started to grow in 2015 and rebounded in 2016. However, progress in bank balance sheet repair has been limited while financial sector legacy costs have burdened public finances. Prolonged weaknesses in the banking system continue to weigh on growth prospects.

1. Output growth rebounded in 2016, supported by domestic demand, although momentum slowed in 2017 amid deepened banking sector uncertainties (Figure 1). According to preliminary data, GDP grew by 2.2 percent in 2016 with growth drivers rotating towards domestic demand. Both consumption and investment contributed positively to growth. In 2017, high-frequency indicators suggest that growth slowed to 1.5 percent (Figure 2), consistent with estimates based on employment gains using Okun’s Law:

Employment growth decelerated slightly in 2017, in part due to the slowdown in the retail trade sector. The manufacturing sector added most jobs while the financial sector continues to downsize due to the ongoing bank restructuring (see also Box 1).
In 2017, the recovery in consumption and investment has been weak as the number of enterprises, especially in wholesale and retail, continues to decline. The number of new car registrations have stabilized in recent months and remain below the pre-crisis level.
Headline inflation has been volatile, driven by swings in oil and food prices. Core inflation slowed y-o-y in 2017, suggesting weakening pressures from domestic demand.

Box 1.

The Sammarinese Economy

The structure of the Sammarinese economy corresponds to an industrialized, open economy with a significant service sector. Aside of the public administration, which accounts for about 15 percent of the gross value added, the economy stands on two major production and export pillars:

Manufacturing, accounting for the largest part of the production and export, includes diversified manufacturing across metal products, machinery, wood products and furniture, textile and leather, food products, and electronics.
Services, especially trade, repair, and accommodation, professional, scientific, and technical services and IT consultancy. Much of these services are also a large part of the export, including advertising, design, tour operators, and management services.

The rest of the economy represents non-tradables: construction, real estate activities, and financial services.

Sources: UPECEDS; and IMF staff.

2. Credit to the domestic economy declined further in 2017, slowing the real sector activity. Banks have been deleveraging across all sectors, limiting growth in private consumption and putting pressures on businesses to rely on their own cash flow to finance the current expansion. The lack of leverage opportunities thus puts a limit on the speed of economic recovery.¹

3. Banking system fragilities deepened in 2017, with the closure of a small bank and a sizable loss reported by the largest bank:

The Asset Quality Review (AQR), undertaken in late 2016 by Boston Consulting Group (BCG), identified capital shortfalls of €266 million (19 percent of GDP) in the banking system in April 2017.² Most of this loss was in the largest, mostly state-owned bank, Cassa di Risparmio della Repubblica di San Marino (CRSM). At the same time, Asset Banca, a small bank, was intervened by the Central Bank of San Marino (CBSM) in May 2017, and later merged into CRSM. ³
The new management of CRSM, appointed by the government in April 2017, conducted an internal audit applying stricter valuations to legacy loan portfolio (Delta) than the AQR, and reported a loss of €534 million (37 percent of GDP) for the 2016 financial year. In response, the government issued Bank Decree-Law 101, which allows banks to spread losses over up to 30 years, and committed to guaranteeing all liabilities of CRSM except equity and to recapitalizing the bank with public money. Taking advantage of this decree, CRSM booked a loss of €54 million in 2016, reducing immediate recapitalization needs, with the remaining loss to be amortized by the state over 25 years. However, this process significantly delayed the transfer of Asset Banca to CRSM, leaving Asset Banca account holders without access to their deposits for several months until November 2017, when the merger eventually took place.

4. In addition, central bank management has been in flux. The CBSM director general (deputy governor), responsible for banking supervision, was dismissed in August 2017. The CBSM president (governor) announced his resignation in mid-September and resigned at end-October. A new director general took office in October 2017, but resigned in the following month. Another new director general was nominated in December 2017. The position of President of the central bank remains vacant although a search is currently underway.

5. Banking system liquidity was under pressure although it has stabilized recently. The voluntary disclosure (tax amnesty) for Italian depositors in Sammarinese banks accounted for the bulk of non-resident-led deposit outflows in 2016, but uncertainties regarding the Asset Banca transfer and the large loss reported by CRSM marked periods of liquidity pressures from residents in 2017. Liquidity in the system has gradually fallen close to historical lows. However, pressures have eased from autumn 2017, particularly after partial unfreezing of Asset Banca accounts, and despite the recent decline, the overall level of reserves in the system seems adequate (Annex III).

6. The trade surplus remained high at around €460 million (32 percent of GDP) in 2016.⁴ Growth rates of exports and imports each picked up to around 4 percent, in line with improved external and domestic demand. More recent data, however, points to some slowdown in both exports and imports.

7. The external position is moderately weaker than fundamentals and desired policy (Box 2).⁵ The CPI-based RER against Italy has depreciated marginally from the 2016 peak, reflecting recent inflation slowdown in San Marino. The REER, constructed using weights of major trade partners, points to a similar trend, bringing the REER to about 1 percent above its 10-year average. While price-based indicators have not changed significantly, the stagnant export market share and productivity growth suggest that improving competitiveness remains a key challenge for San Marino.

Box 2.

External Sector and Competitiveness

External position remains moderately weaker than fundamentals and desired policy. San Marino needs further reforms to enhance business environment and improve its competitiveness.

Competitiveness. Real exchange rate (RER) vis-à-vis Italy has depreciated slightly compared to the peak in 2016, but RER remains about 1.5 percent above the 10-year average. The CPI-based real effective exchange rate (REER), constructed by using trade weights of top five trade partners, follows a similar trend and remains 1 percent above the 10-year historical average.

Market Share. The export market share is small compared to its peers in Europe. Although the exports market share increased slightly in 2016, it remains significantly lower than the pre-global financial crisis level.

Doing Business. Based on the World Bank’s Doing Business 2018 report, San Marino’s ranking on the ease of doing business fell from 79 to 93 out of 190 countries. Compared to its peers, the main challenges remain in the areas of “getting credit”, “protecting minority investors” and “resolving insolvency.” In addition, the category of “paying tax”, which had the noticeable improvement last year, ranked lower this year.

8. The fiscal deficit was contained in 2016, but debt levels rose due to bank recapitalization. The deficit was ¼ percent of GDP in 2016, due to higher than expected non-tax revenue. The level of spending was maintained, unlike in previous years when spending cuts were the main adjustment tool. Public debt continued to rise, reaching a still modest 23 percent of GDP in 2016, largely reflecting CRSM recapitalization of €40 million in early 2016.

Outlook and Risks: Flying Low Against Headwinds

9. Only moderate growth is expected in the near and medium term. The economy is expected to grow at 1.3 percent in 2018, driven by domestic demand. While private consumption is expected to benefit from past gains in employment, investment lacks support from the deleveraging banking sector although planned construction of a shopping mall with external funding is expected to give a significant boost to investment. Growth projections, including growth drivers and employment, are consistent with a creditless recovery and reflect the authorities’ intention to recapitalize CRSM with public money over 25 years, which will effectively limit CRSM’s capacity to make new loans.⁶

10. The growth outlook is also consistent with continued deleveraging. The earlier crisis (through declining GDP) significantly aggravated debt burdens of private non-financial residents. Corporate debt remains high, especially in construction. Bank deleveraging has so far taken place mostly through loan repayments by clients and banks’ writedowns. Stylized facts suggest that deleveraging is still in the early phase and will likely continue.⁷

11. This baseline scenario is subject to several downside risks (Annex I):

Incomplete banking sector reforms, including a failure to properly restructure CRSM, could lead to a further loss of confidence in the system and further impair credit provision. Loan performance could further deteriorate, resulting in additional bank recapitalization needs.
Rapid increase in fiscal costs related to banking sector repair, including realization of contingent liabilities such as the conversion of tax credits of banks into government bonds, could place further pressure on public finances.
Tighter global financial conditions due to monetary policy normalization in key economies could result in higher borrowing costs if San Marino seeks external financing while an appreciation of the euro vis-à-vis other currencies would undermine the external competitiveness of San Marino.

Authorities’ Views

12. The authorities broadly concurred with staff’s assessment of the outlook and risks, although they believe that growth could increase in 2018 due to important investments. They are cognizant of the urgent need to complete the banking sector repair and implement structural reforms to support medium-term growth. At the same time, they noted that the 2018 budget envisages increased capital spending aimed at supporting growth, and a large investment project consisting of the construction of a luxury shopping mall, which has started this year and will be operational by 2019.

Policy Discussions: Time for Action

Maintaining financial stability and restoring banking sector soundness remain key priorities. Public support of the banking sector needs to come with improvements in accountability and oversight. Fiscal adjustments are envisaged but public debt prospects will depend on the final fiscal costs of repairing the banking system. Continued structural reforms, including reducing red tape, will help reorganize the economy.

A. Financial Sector Policy

13. The authorities responded to the large loss reported by CRSM and the closure of Asset Banca by issuing a series of bank decrees during June–October 2017:

To address Asset Banca issues (Decree-Laws 72 and 80), reducing the deposit guarantee to €50,000 and freezing the remaining deposits for three years with an interest rate 1.5 percent per annum, and transferring Asset Banca in liquidation to CRSM with a recognition of tax credits for the losses imposed on CRSM (Decree-Laws 88 and 89);
Enhancing liquidity through provision of state guarantees to facilitate emergency liquidity assistance by the CBSM and granting banks the option to convert accumulated tax credits into government bonds (Decree-Law 93);
Securing up to €200 million of state borrowing from pension fund deposits, to recapitalize CRSM (Decree-Laws 94 and 98) and allowing banks to spread losses over up to 30 years (Decree-Law 101).

Decree-Law 101 and conversion of tax credits into government bonds (Decree-Law 93) are not aligned with incentive to restructure banks, and the latter may cost tax payers up to an estimated amount of about €300 million.

14. Modalities of public intervention in CRSM and Asset Banca fell short of international best practices. The government assumed the entire loss of Asset Banca and folded it into CRSM, despite scope for burden sharing with subordinated bond holders. CRSM’s €54 million loss booked for 2016 was partially addressed by converting €41.4 million hybrid bonds into equity and €8.5 million capital injection in December 2017, with the balance injected in Q1:2018. The remaining loss (€480 million or 33 percent of GDP) was initially planned to be amortized using public money over the next 25 years. This operation makes the total bill for CRSM recapitalization rise to over €700 million (around 50 percent of GDP), but shareholders would not be fully wiped out. This is not the most cost-effective solution for the public sector and facilitates moral hazard. Spreading the loss over 25 years will not unlock resources for new lending, and CRSM will be vulnerable to liquidity shocks as a large share of assets will remain illiquid. The authorities are currently reviewing the modalities of addressing CRSM’s loss and opted for not recording it in the fiscal account until diagnostics are completed and modalities are finalized. At the same time, the authorities are considering purchasing CRSM subordinated debt held by the pension fund (€35 million) and remaining shares from one of the private shareholders (about €3 million).⁸

State Aid for CRSM

Year	Recapitalization (€ million)	Of which state funds (€ million)	State funds (% of GDP)	Notes:
2012	80	60	4.3	Capital injection (€60 million government’s low-interest loan to shareholders).
2013	40	35	2.5	Subordinated debt (€35 million subscribed by the state social security fund).
2014	85	85	6.1	Capital injection (government bond issuance, fully subscribed by CRSM).
2016	62	40	2.8	Tier-2 capital (€40 million government tier-2 hybrid bond issuance fully subscribed by CRSM, €13 million real estate revaluation, and €9 million reserve creation).
2017 (planned)	54	54	3.7	Capital injection (converting €41 million hybrid bonds into equity and €13 million fresh capital). Hybrid bonds conversion and capital injection of €8.5 million out of 13 million took place in 2017.
2018-42 (planned)	480	480	30.0	Loss amortization (capital injection)
Total	801	754	49.3
	Contingent liability (€ million)		State funds (% of GDP)
2017-	119	119	7.9	Decree-Law 93: Option to convert tax credits to government bonds (€79 million stemming from Asset Banca and past tax credits of approx. € 40 million)
Total including contingent liability	920	873	57.3

State Aid for CRSM

Year	Recapitalization (€ million)	Of which state funds (€ million)	State funds (% of GDP)	Notes:
2012	80	60	4.3	Capital injection (€60 million government’s low-interest loan to shareholders).
2013	40	35	2.5	Subordinated debt (€35 million subscribed by the state social security fund).
2014	85	85	6.1	Capital injection (government bond issuance, fully subscribed by CRSM).
2016	62	40	2.8	Tier-2 capital (€40 million government tier-2 hybrid bond issuance fully subscribed by CRSM, €13 million real estate revaluation, and €9 million reserve creation).
2017 (planned)	54	54	3.7	Capital injection (converting €41 million hybrid bonds into equity and €13 million fresh capital). Hybrid bonds conversion and capital injection of €8.5 million out of 13 million took place in 2017.
2018-42 (planned)	480	480	30.0	Loss amortization (capital injection)
Total	801	754	49.3
	Contingent liability (€ million)		State funds (% of GDP)
2017-	119	119	7.9	Decree-Law 93: Option to convert tax credits to government bonds (€79 million stemming from Asset Banca and past tax credits of approx. € 40 million)
Total including contingent liability	920	873	57.3

15. The CBSM initiated the process of updating the AQR to finalize the diagnostics of bank capital shortfalls.⁹ The post AQR process, which was expected to take place last year, was significantly delayed due to the turnover of central bank management while the AQR results using the data from mid-2016 became outdated. The update of the AQR is expected to identify capital shortfalls based on more recent data and provide the basis for restructuring and recapitalization plans for the banking system. In the meantime, a medium size bank, comprising about 10 percent of banking system assets, is in the process of being sold to a foreign investor from Saudi Arabia.

16. A coherent strategy is needed to restore confidence and soundness of the banking system. Lingering banking sector problems, built up over the last decade, have incurred high costs for the state. A new strategy for the banking sector with permanent solutions is urgently needed to minimize costs to tax payers, safeguard financial stability, and ensure the banking system is viable and contributes to the economy. Key elements of the process ahead should include upfront loss recognition, prompt bank recapitalization, and NPL resolution, supported by measures to improve transparency and accountability, and enhance the financial sector infrastructure. Decisively addressing banking sector problems requires the following actions:

Bank balance sheet repair. An AQR update is necessary to identify and address capital shortfalls, followed by recapitalization within a short timeframe. Market-based solutions should be sought, and public capital support should be limited to only viable, systemically important banks, following burden sharing. Bank governance also needs to be strengthened, including risk management, and making new and existing management subject to rigorous fit and proper tests.
Deep restructuring of CRSM. CRSM needs to be restructured to quickly restore long-term viability, including by changing its business model, reducing high operating costs, and ensuring prudent lending. The state aid provided during 2012–16 amounts to €220 million (about 16 percent of GDP) and will increase further due to a very large additional loss now being reported. This loss needs to be recognized upfront, and current shareholders and subordinated debt holders should absorb the loss before new capital is injected. Involvement of all stakeholders, including social partners and the state, is essential to reduce CRSM’s operating costs to limit further burden on tax payers. CRSM recapitalization and restructuring should be part of a broader strategy that includes returning the bank to private management and ownership to ensure sound governance and robust credit risk management. A first-best solution would be to sell the new CRSM to a large foreign bank to immediately benefit from its treasury, risk management and governance expertise. As an outright sale may be difficult in the near to medium-term, an alternative option could be to establish a bridge bank and outsource its management to a large foreign bank that is given an option to purchase the bank outright in the medium-term. The residual assets arising from CRSM restructuring should be liquidated by a competent NPL manager.
Managing NPLs. Banks should be subject to ambitious and credible plans aimed at significantly reducing NPLs over the medium term, including through outsourcing loan collection and workout. These efforts should be supported by regulatory, tax, and legal reforms, including removing remaining tax disincentives to NPL disposals and enhancing effectiveness of the insolvency and enforcement regimes. The recent launch of a domestic credit registry is a welcome step to help restore payment culture, and harmonization to facilitate information exchange with Italy should be completed. The partial opening of the real estate market to nonresidents will help support collateral values during asset recovery. A formal asset classification and provisioning framework should be considered to ensure that banks have adequate capital in the future to tackle NPLs.

17. Improvements in accountability, governance, oversight and communication should be a prerequisite to a further use of state resources to support the banking system. To address banking sector problems more effectively, a financial stability committee should be established to improve coordination between the government and the central bank, especially for communication, and decision making within their respective mandates. A memorandum of understanding between the government and the central bank would help clarify responsibilities and a protocol for information exchange. The recently established financial stability task force, consisting of the government, central bank, and banks, is nevertheless helpful to facilitate dialogue and understanding among stakeholders.

18. Strengthening bank oversight and central bank infrastructure is crucial to secure financial stability going forward:

Crisis response capability. The CBSM should establish a dedicated bank resolution unit staffed with professionals to develop its policies and processes to deal with vulnerable banks including a prompt corrective action framework, lender of last resort facilities, systemic impact assessments, bank viability assessments, and bank intervention, resolution, and liquidation.
Supervision and regulation. Regulations and supervision need to be improved to enhance banking system oversight. Improved data collection and enhanced oversight of bank lending standards during regular on-site visits would help improve the understanding of bank-specific risks and promote compliance with regulation. Developing capacity to monitor systemic risks is key to ensure financial stability. A regular publication of a concise, well-targeted financial stability report both in Italian and English could be a useful communication tool to present CBSM’s assessment and policy intentions to the public.
Central bank reform. Key suggestions of the 2016 internal audit of CBSM functions and structure should be implemented. The CBSM powers and mandate should be reviewed, and CBSM should be made more effective by separating non-core activities, simplifying banking supervision structure into off-site and on-site units, centralizing supervisory data, unifying legal and regulatory activities, and creating macro-analysis and communication units. Adopting the highest standards of central bank independence, governance, accountability and transparency as identified by the Bank of International Settlement is also key.

Authorities’ Views

19. The authorities agreed that permanent solutions to banking sector vulnerabilities are needed. They acknowledged that drafting a financial sector strategy as well as establishing a decision-making financial sector committee will be key to support the process. The CBSM launched an AQR update that will serve as a base for finding sustainable solutions for banks with shortcomings. The government, as the main shareholder of CRSM, is aware of the need to recognize losses, recapitalize CRSM and take steps to ensure the bank can make independent commercial decisions, including restructuring that will swiftly bring the bank to profitability. Plans are under way to support a system-wide NPLs cleanup and information exchange with the Bank of Italy. The authorities recognized the need to reorganize the CBSM to enhance banking supervision, using also findings from the CBSM internal audit.

B. Fiscal Policy

20. Public finances have been managed to limit the deficit in recent years, but public debt is bound to rise further due to bank recapitalization costs. While specific modalities are yet to be defined, the state’s assumption of the currently reported amount of CRSM legacy loss implies a substantial rise in public debt to 57 percent of GDP, posing new debt management challenges (see Box 3 and Selected Issues Paper). If contingent liabilities from conversion of tax credits into government bonds materialize, public debt could rise even further. Some adjustments to limit the deficit have been implemented in the 2017 revised budget, including one-off measures to cancel non-mandatory expenditure and strengthen tax collection efforts, while planned capital spending of €10 million for 2017 was also cancelled.

21. The 2018 budget further envisages fiscal adjustment measures, including extraordinary tax measures and some current spending cuts.¹⁰ These adjustments imply a close to balanced budget for 2018, and declining debt-to-GDP ratio in the medium-term. However, the budget and level of public debt are highly uncertain, depending on the final costs of bank recapitalization which will be clarified by the ongoing AQR update.

Estimated Fiscal Costs of Banking Sector Repair ^1/

^{^1/}This is based on currently available information and staff estimate. Total final costs are highly uncertain.

Box 3.

Public Debt Dynamics

Based on the government’s current commitment to recapitalize CRSM with public money, San Marino’s public debt is projected to rise to more than 50 percent of GDP in 2017. This level is lower than many of its euro area peers, but high compared with other European microstates. Given San Marino’s untested access to global markets and underdeveloped capacity to manage debt, commonly used debt thresholds (85 percent and 75 percent for developed and emerging markets, respectively) may not be appropriate benchmarks for San Marino.

Targeting both debt level and deposit accumulation may provide a useful medium term fiscal anchor for San Marino. Staff’s scenario analysis suggests that aiming at the debt level of around 50 percent in 2022 would be manageable given that projected interest payment would remain relatively contained (comparable with other European countries) even though it will rise to around 4 percent of revenue from the current low level of 1.4 percent (see Selected Issues Paper). Targeting 50 percent of debt-to-GDP ratio would also allow for gradually rebuilding deposits buffers at the same time, to cover at least two to three months of spending. Altogether, achieving these debt and deposit targets by 2022 will require an annual fiscal adjustment of around 0.8–1.1 percent of GDP relative to the baseline scenario. Such adjustments would create useful fiscal buffers and some room for the debt ratio to rise in the event of an economic downturn (text table). However, there is currently high uncertainty about the level of debt and the size of deficit, and necessary fiscal adjustments and an appropriate level of debt target will need to be recalibrated as new information becomes available.

In addition, if the contingent liability of converting tax credits into bonds materializes, or if fiscal costs of banking sector repair turn out higher than currently known, more ambitious fiscal adjustments may be necessary. Also, the analysis above assumes no impact on the GDP path of fiscal consolidation for simplicity, but a higher negative impact on growth would increase the required consolidation to attain the given debt to GDP level.

Necessary Annual Fiscal Adjustment

(Percent of GDP)

Notes: An interest rate of 1.5 percent on the CRSM and tax credits obligation is assumed.

Necessary Annual Fiscal Adjustment

(Percent of GDP)

		Debt ratio in 2022 w/o adjustment	Debt reduction to:	Additional deposit build-up (months of annual expenditure)
			50 percent of GDP	1 month	2 months	3 months	4 months	5 months
Baseline		51.7	0.4
	with conversion of			0.4	0.7	1.1	1.4	1.8
tax credits into bonds		69.9	4.1

Notes: An interest rate of 1.5 percent on the CRSM and tax credits obligation is assumed.

Necessary Annual Fiscal Adjustment

(Percent of GDP)

		Debt ratio in 2022 w/o adjustment	Debt reduction to:	Additional deposit build-up (months of annual expenditure)
			50 percent of GDP	1 month	2 months	3 months	4 months	5 months
Baseline		51.7	0.4
	with conversion of			0.4	0.7	1.1	1.4	1.8
tax credits into bonds		69.9	4.1

Notes: An interest rate of 1.5 percent on the CRSM and tax credits obligation is assumed.

22. New pension reform proposals have been presented recently. In total 30 potential measures, including lowering the replacement rate and improving pension fund management to increase returns, are currently under public consultation.

San Marino: Selected Pension Reform Proposals

Source: San Marino authorities.

23. A fiscal strategy should aim to ensure debt sustainability and support growth. It should entail greater revenue collection, reviewing the level and quality of spending, enhancing debt management capacity, and diversifying financing options. The 2018 budget already appropriately contains some of these elements:

Increasing tax revenues. San Marino has lost a significant amount of revenue from the financial sector since the global financial crisis as banking system assets shrank significantly.¹¹ Spending cuts have been the main adjustment tool in recent years, but higher revenue is necessary to ensure fiscal sustainability in the face of banking sector legacy costs falling on the state budget. San Marino’s relatively low tax collection compared with its European neighbors should allow for increasing tax revenues without jeopardizing competitiveness. The planned tax measures, including the re-introduction of a wealth tax, will help increase revenues, but should be complemented with permanent measures to mobilize revenues.¹² In particular, reform of indirect taxation should play a pivotal role in raising revenues in the medium term. The authorities now aim to introduce a VAT by 2020, and have recently appointed an expert group to prepare a specific reform proposal with a draft law to be discussed at Parliament by mid-2018 and approved by the end of the year.
Containing expenditure and improving the quality of spending. A further modest reduction in the wage bill could be explored as its share in current spending remains higher than euro area countries. The recently conducted spending review will help identify further areas for savings. Increased capital spending annually for 2018-19, which is mostly used for infrastructure investment, will help support growth. Ensuring social security is self-financed would free resources for other priority areas. However, the current pension reform proposal is complex with multiple objectives and would benefit from prioritization to increase its effectiveness, including focusing on changing the pension formula by moving to life-time wages and accelerating an increase in retirement age.
Developing debt management capacity. Debt management capacity needs to be enhanced to effectively record, monitor, and manage higher public debt to ensure public debt sustainability and accurate and transparent reporting.
Diversifying financing options. Establishing access to external financing for the sovereign would enhance the government’s ability to respond to shocks. The authorities should start exploring the necessary process and steps, including for an external private placement of syndicated loan.

Authorities’ Views

24. The authorities agreed on the need to pursue fiscal adjustments while supporting growth. They emphasized that the 2018 budget already envisages a balanced budget with adjustment measures while allocating resources for spending to support job and growth. The authorities view the VAT reform and the pension reform as crucial to ensure fiscal sustainability in the medium term. They noted that the government’s commitment to absorb the CRSM loss from 2016 are currently not reflected in the public account since the modalities of the operation are not yet finalized.

C. Structural Reforms

25. Several structural reform measures have been approved by parliament during August–October 2017.

Partial liberalization of the real estate market and introduction of “elective residency” program; and
“Development Law” entailing a number of measures to increase labor market flexibility and support San Marino’s economic development (text table).

26. Further structural reforms, including reducing red tape, will help reorganize the economy away from the banking system. The recent change in the hiring process of non-residents is a step towards easing skills shortages and improving productivity through better matches in the labor market. Increased labor market flexibility should be supported by a well-targeted social policy, where benefits are means-tested and linked to training and job search requirements to help unemployed workers engage in the labor market. Further measures to improve the business environment are underway, including creating a one-stop-shop to reduce cost of doing business. These reforms should be aimed at improving efficiency and avoiding additional fiscal costs.

San Marino: Selected Structural Reform Measures

Source: San Marino authorities.

San Marino: Selected Structural Reform Measures

Parliament Approval

Measures

August 2017

1. Partial opening of the domestic real estate market to non-residents up to 100 units.
2. “Elective Residency” program grants a registered residency status to nonresidents for purchasing a real estate worth at least €500,000 or depositing €600,000 in a non-interest bearing Sovereign Fund for 10 years.

October 2017, “Development Law”

1. Allow companies to directly hire non-resident workers by paying 4.5 percent of gross wage for the hiring positions.
2. Allow to grant open-ended contracts to non-resident workers after 18 months of fixed-term contracts.
3. Simplifying rules for apprenticeship program application by automatically approving apprenticeship when companies request.
4. Provide subsidies through the Social Shock Absorber Fund to companies up to 48 months for recruiting and keeping the hired workers in the job-start lists.
5. Ease requirement for the “Investment for Residency” scheme by reducing the minimum investment requirements to €75,000 annually and €150,000 over two years, and minimum local hiring to 1 or 3 employees, depending on sectors.

Source: San Marino authorities.

San Marino: Selected Structural Reform Measures

Parliament Approval

Measures

August 2017

1. Partial opening of the domestic real estate market to non-residents up to 100 units.
2. “Elective Residency” program grants a registered residency status to nonresidents for purchasing a real estate worth at least €500,000 or depositing €600,000 in a non-interest bearing Sovereign Fund for 10 years.

October 2017, “Development Law”

1. Allow companies to directly hire non-resident workers by paying 4.5 percent of gross wage for the hiring positions.
2. Allow to grant open-ended contracts to non-resident workers after 18 months of fixed-term contracts.
3. Simplifying rules for apprenticeship program application by automatically approving apprenticeship when companies request.
4. Provide subsidies through the Social Shock Absorber Fund to companies up to 48 months for recruiting and keeping the hired workers in the job-start lists.
5. Ease requirement for the “Investment for Residency” scheme by reducing the minimum investment requirements to €75,000 annually and €150,000 over two years, and minimum local hiring to 1 or 3 employees, depending on sectors.

Source: San Marino authorities.

27. San Marino’s continued effort to engage with the international community, strengthen further the AML/CFT framework, and enhance transparency is crucial. In 2017, San Marino signed the Multilateral Convention to Implement Tax Treaty Related Measures to Prevent Base Erosion and Profit Shifting (BEPS), which transposes BEPS principles into existing bilateral tax treaties. The recently ratified AML/CFT regulatory update, implementing the AML/CFT Action plan, and planning to publish the National Risk Assessment in Spring 2018 are welcome efforts. It is essential to continue improving the effectiveness of the AML/CFT framework, including through bolstering risk based supervision and licensing requirements for banks based on robust fit and proper tests. At the same time, a framework for due diligence should be developed for the new residency program to safeguard financial integrity. The authorities should continue to build cooperation across Europe and beyond, including continued negotiations with the European Union (EU) on an association agreement. Further cooperation with Italy, including establishing a memorandum of understanding with the Bank of Italy, will help strengthen institutional capacity of San Marino.

28. Data provision needs to be strengthened. Easy access to timely economic data enhances transparency and is essential for investors, businesses, and policy makers to make informed decisions. Priorities include compilation of balance of payments (BOP) statistics, revising historical GDP data to reflect the recent methodological change, and ensuring compliance with international standards in existing statistics. A clear timeline for key milestones is needed to ensure adequate progress in these areas. More resources should be allocated to improve data provision and presentation and expedite the compilation of basic data in priority areas.

Authorities’ Views

29. The authorities plan to continue to pursue the new business model built on transparency and openness, aiming at attracting foreign investment. They emphasized that further improving the business environment is essential, and that the process will be facilitated by the ongoing reorganization of government agencies to create a Development Agency, with the task of promoting the country and attracting investments, as well as a one-stop shop for companies, aimed at reducing red tape and simplifying the fulfillment of requirements. The authorities are also working to amend the remaining preferential tax practices to meet the BEPS standards. They are committed to pursuing the path of internationalization, including continued negotiations with the EU on the association agreement. The authorities acknowledged the importance of improving data provision and harmonization and will continue to carry out the recently initiated compilation of the BOP statistics.

Staff Appraisal

30. The economy rebounded in 2016, but momentum is slowing amid increased banking sector uncertainties in 2017. Growth in 2016 was supported by the general recovery in Europe, but decelerating employment growth suggests that the economy grew at a somewhat slower rate in 2017. Despite improved economic activity, banking sector deleveraging continues, and credit to the domestic economy declined further in 2017. Only moderate growth is expected in the near-and medium-term, in part due to lacking support from the deleveraging banking sector. Banking sector repair is needed to lay a solid foundation for higher medium-term growth. External position is also moderately weaker than fundamentals and desired policy, highlighting the need for policy adjustments.

31. The reform agenda is demanding and requires strong commitments of all stakeholders. Prolonged financial sector problems, built up over the past decade, have already incurred high costs for taxpayers, and permanent solutions are needed to limit further costs of banking sector repair passed onto future generations. The authorities’ recent efforts to identify the problems, including completing the AQR, are welcome, and these efforts should be followed by decisive actions, guided by a coherent banking sector strategy.

32. Maintaining financial stability and restoring banking sector soundness are key priorities. The process ahead should include upfront loss recognition, prompt bank recapitalization, and NPL resolution. Market-based solutions should be sought for bank recapitalization, and public capital support should be limited to only viable, systemically important banks, following burden sharing. Banks should be subject to ambitious and credible plans aimed at significantly reducing NPLs over the medium-term while regulatory, tax and legal reforms are needed to facilitate NPL disposals. At the same time, central bank functions and bank oversight need to be strengthened to secure financial stability going forward, including developing crisis management capability, improving regulation and supervision, and adopting highest standards of central bank independence, governance, accountability, and transparency.

33. CRSM needs to implement deep restructuring to return to viability. The bank’s restructuring likely requires changing its business model and reducing high operating costs, while ensuring prudent lending. Re-privatization of the bank should be a priority, and outsourcing some management functions, including to large foreign banks, should be considered to promote development of a sound business model.

34. Public support of the banking sector needs to come with improvements in accountability and oversight. A financial stability committee (FSC) should be established to improve coordination between the government and the central bank, especially for communication. A memorandum of understanding between the government and the central bank would help clarify responsibilities and a protocol for information exchange.

35. A fiscal strategy is needed to ensure debt sustainability while securing resources for pro-growth, pro-employment policies. Public intervention in the banking sector has created new debt management challenges. Anticipating rising public debt, the 2018 budget envisages fiscal adjustments, but the budget and level of public debt are highly uncertain and depend on the final costs of bank recapitalization borne by the state. The fiscal strategy should include sustained fiscal measures, including increasing tax revenues through a reform of indirect taxation and containing spending and improving its quality. In this regard, pension reform could help free resources for other priority areas, but the current proposal is complex and needs prioritization. Debt management capacity also needs to be developed while establishing access to external financing for the sovereign would help enhance the government’s ability to respond to shocks.

36. Further structural reform will help diversify the economy. Increased labor market flexibility will help skills shortages but should be supported by a well-targeted social policy to help unemployed workers maintain their skills and continue job search. Further easing costs of doing business, including simplifying bureaucracy, will also help and should be aimed at improving efficiency while avoiding distortions and additional fiscal costs.

37. San Marino should continue its efforts to enhance international cooperation, strengthen the AML/CFT framework and improve transparency. It should continue to work on improving the effectiveness of the AML/CFT measures commensurate with the ML/TF risks, including by strengthening AML/CFT risk-based supervision of banks and licensing requirements. To further safeguard financial integrity, a framework for due diligence should be developed for the newly introduced residency programs. Further cooperation with Italy and continued negotiations with the EU on association agreement remain important.

38. Data provision remains weak and needs to be strengthened. Easy access to economic data is fundamental to transparency and help businesses and policy makers make informed decisions. More resources and emphasis should be devoted to strengthening data provision and presentation as lack of data can pose as a major inhibition to foreign investors. The recently initiated work to compile BOP statistics is a welcome step, and progress should be also made in ensuring compliance with international standards in existing statistics.

39. It is recommended that the next Article IV consultations with the Republic of San Marino be held on the standard 12-month cycle.

Table 1.

San Marino: Selected Economic and Social Indicators, 2014–20

Sources: International Financial Statistics; IMF Financial Soundness Indicators; Sammarinese authorities; World Bank; and IMF staff calculations.

^{^1/}According to preliminary revised national accounts.

^{^2/}For the central government.

^{^3/}For 2016, latest available.

Table 1.

San Marino: Selected Economic and Social Indicators, 2014–20

GDP per capita (2015): 46,185 U.S. dollars Population (2016): 34,267 persons								Life expectancy at birth (2011): 83.3 years Literacy, adult (2008): 96 percent
								Projection
					2014	2015	2016	2017	2018	2019	2020
Activity and Prices ^1/
	Real GDP (percent change)				−0.9	0.6	2.2	1.5	1.3	1.3	1.3
		Domestic demand			−4.3	−3.6	4.0	1.1	4.7	2.8	1.7
			Final consumption		1.0	1.1	−0.7	0.7	1.2	1.4	1.4
			Fixed investment		−14.0	1.9	13.2	2.3	16.0	7.0	2.7
		Net exports			2.5	3.4	−0.7	0.7	−2.2	−0.9	−0.1
			Exports		1.1	2.5	2.1	−0.2	0.1	0.3	0.2
			Imports		−0.6	0.5	3.0	−0.7	1.8	1.1	0.2
	Contribution to GDP
		Domestic demand			−3.4	−2.8	2.9	0.8	3.5	2.2	1.4
				Final consumption	0.6	0.6	−0.4	0.4	0.7	0.8	0.8
				Fixed investment	−2.6	0.3	2.1	0.4	2.9	1.4	0.6
			Net exports		2.5	3.4	−0.7	0.7	−2.2	−0.9	−0.1
				Exports	1.7	4.0	3.4	−0.3	0.2	0.6	0.3
				Imports	0.8	−0.6	−4.1	1.0	−2.4	−1.5	−0.3
	Employment (percent change)				−1.6	−0.4	1.0	1.1	1.1	1.1	1.1
	Unemployment rate (average; percent)				8.7	9.2	8.6	8.0	7.4	6.8	6.8
	Inflation rate (average; percent)				1.1	0.2	0.6	0.9	1.0	1.1	1.2
	Nominal GDP (millions of euros)				1348.0	1373.3	1414.2	1449.0	1490.6	1529.4	1571.6
Public Finances (percent of GDP) ^2/
	Revenues				23.2	21.4	21.8	21.1	21.8	21.2	20.7
	Expenditure				22.4	21.7	22.1	21.4	22.1	21.5	20.1
	Overall balance				0.8	−0.3	−0.3	−0.3	−0.3	−0.2	0.6
	Government debt				19.6	20.3	22.5	56.6	55.5	54.6	52.8
	Government deposits (millions of euros)				40.4	32.9	25.4	22.9	22.9	22.9	22.9
Money and Credit
	Deposits (percent change)				4.0	…	…	…	…	…	…
	Private sector credit (percent change)				1.0	−5.8	−7.6	…	…	…	…
	Net foreign assets (percent of GDP)				5.6	−3.9	…	…	…	…	…
			Commercial banks		−17.0	−27.3	…	…	…	…	…
			Central bank		22.6	23.4	…	…	…	…	…
External Accounts (percent of GDP)
	Balance of goods and services				32.6	32.2	32.8	…	…	…	…
			Exports		153.5	152.8	154.4	…	…	…	…
			Imports		120.8	120.5	121.7	…	…	…	…
	Gross international reserves (millions of U.S. dollars)				392.0	367.2	…	…	…	…	…
Exchange Rate (average)
	Euros per U.S. dollar				0.75	0.90	0.90	0.89	0.82	0.82	0.82
	Real exchange rate vis-à-vis Italy				100.9	101.0	101.6	101.4	101.2	101.0	102.0
Financial Soundness Indicators (percent) ^3/
	Regulatory capital to risk-weighted assets				11.4	12.7	13.6	…	…	…	…
	Bad loans to total loans				16.1	18.5	18.7	…	…	…	…
	Loan loss provision to total loans				30.3	28.6	26.6	…	…	…	…
	Return on equity (ROE)				−21.4	−9.0	−10.5	…	…	…	…
	Liquid assets to total assets				32.4	29.8	29.5	…	…	…	…
	Liquid assets to short-term liabilities				65.4	58.9	59.1	…	…	…	…

Sources: International Financial Statistics; IMF Financial Soundness Indicators; Sammarinese authorities; World Bank; and IMF staff calculations.

^{^1/}According to preliminary revised national accounts.

^{^2/}For the central government.

^{^3/}For 2016, latest available.

Table 1.

San Marino: Selected Economic and Social Indicators, 2014–20

GDP per capita (2015): 46,185 U.S. dollars Population (2016): 34,267 persons								Life expectancy at birth (2011): 83.3 years Literacy, adult (2008): 96 percent
								Projection
					2014	2015	2016	2017	2018	2019	2020
Activity and Prices ^1/
	Real GDP (percent change)				−0.9	0.6	2.2	1.5	1.3	1.3	1.3
		Domestic demand			−4.3	−3.6	4.0	1.1	4.7	2.8	1.7
			Final consumption		1.0	1.1	−0.7	0.7	1.2	1.4	1.4
			Fixed investment		−14.0	1.9	13.2	2.3	16.0	7.0	2.7
		Net exports			2.5	3.4	−0.7	0.7	−2.2	−0.9	−0.1
			Exports		1.1	2.5	2.1	−0.2	0.1	0.3	0.2
			Imports		−0.6	0.5	3.0	−0.7	1.8	1.1	0.2
	Contribution to GDP
		Domestic demand			−3.4	−2.8	2.9	0.8	3.5	2.2	1.4
				Final consumption	0.6	0.6	−0.4	0.4	0.7	0.8	0.8
				Fixed investment	−2.6	0.3	2.1	0.4	2.9	1.4	0.6
			Net exports		2.5	3.4	−0.7	0.7	−2.2	−0.9	−0.1
				Exports	1.7	4.0	3.4	−0.3	0.2	0.6	0.3
				Imports	0.8	−0.6	−4.1	1.0	−2.4	−1.5	−0.3
	Employment (percent change)				−1.6	−0.4	1.0	1.1	1.1	1.1	1.1
	Unemployment rate (average; percent)				8.7	9.2	8.6	8.0	7.4	6.8	6.8
	Inflation rate (average; percent)				1.1	0.2	0.6	0.9	1.0	1.1	1.2
	Nominal GDP (millions of euros)				1348.0	1373.3	1414.2	1449.0	1490.6	1529.4	1571.6
Public Finances (percent of GDP) ^2/
	Revenues				23.2	21.4	21.8	21.1	21.8	21.2	20.7
	Expenditure				22.4	21.7	22.1	21.4	22.1	21.5	20.1
	Overall balance				0.8	−0.3	−0.3	−0.3	−0.3	−0.2	0.6
	Government debt				19.6	20.3	22.5	56.6	55.5	54.6	52.8
	Government deposits (millions of euros)				40.4	32.9	25.4	22.9	22.9	22.9	22.9
Money and Credit
	Deposits (percent change)				4.0	…	…	…	…	…	…
	Private sector credit (percent change)				1.0	−5.8	−7.6	…	…	…	…
	Net foreign assets (percent of GDP)				5.6	−3.9	…	…	…	…	…
			Commercial banks		−17.0	−27.3	…	…	…	…	…
			Central bank		22.6	23.4	…	…	…	…	…
External Accounts (percent of GDP)
	Balance of goods and services				32.6	32.2	32.8	…	…	…	…
			Exports		153.5	152.8	154.4	…	…	…	…
			Imports		120.8	120.5	121.7	…	…	…	…
	Gross international reserves (millions of U.S. dollars)				392.0	367.2	…	…	…	…	…
Exchange Rate (average)
	Euros per U.S. dollar				0.75	0.90	0.90	0.89	0.82	0.82	0.82
	Real exchange rate vis-à-vis Italy				100.9	101.0	101.6	101.4	101.2	101.0	102.0
Financial Soundness Indicators (percent) ^3/
	Regulatory capital to risk-weighted assets				11.4	12.7	13.6	…	…	…	…
	Bad loans to total loans				16.1	18.5	18.7	…	…	…	…
	Loan loss provision to total loans				30.3	28.6	26.6	…	…	…	…
	Return on equity (ROE)				−21.4	−9.0	−10.5	…	…	…	…
	Liquid assets to total assets				32.4	29.8	29.5	…	…	…	…
	Liquid assets to short-term liabilities				65.4	58.9	59.1	…	…	…	…

Sources: International Financial Statistics; IMF Financial Soundness Indicators; Sammarinese authorities; World Bank; and IMF staff calculations.

^{^1/}According to preliminary revised national accounts.

^{^2/}For the central government.

^{^3/}For 2016, latest available.

Table 2.

San Marino: Selected Economic and Social Indicators for the Medium Term

Sources: IMF; International Financial Statistics; Sammarinese authorities; and IMF staff calculations.

^{^1/}According to preliminary revised national accounts.

^{^2/}For the central government.

Table 2.

San Marino: Selected Economic and Social Indicators for the Medium Term

							Projection
				2014	2015	2016	2017	2018	2019	2020	2021	2022	2023
Real and External ^1/
	Real GDP (percent change)			−0.9	0.6	2.2	1.5	1.3	1.3	1.3	1.3	1.3	1.3
Contributions to growth ^1/
		Domestic demand		−3.4	−2.8	2.9	0.8	3.5	2.2	1.4	1.3	1.3	1.3
			Final consumption	0.6	0.6	−0.4	0.4	0.7	0.8	0.8	0.8	0.8	0.7
			Fixed investment	−2.6	0.3	2.1	0.4	2.9	1.4	0.6	0.6	0.6	0.6
	Net exports (contribution to growth)			2.5	3.4	−0.7	0.7	−2.2	−0.9	−0.1	0.0	0.0	0.0
		Exports		1.7	4.0	3.4	−0.3	0.2	0.6	0.3	0.3	0.3	0.3
		Imports		0.8	−0.6	−4.1	1.0	−2.4	−1.5	−0.3	−0.3	−0.2	−0.3
Public Finances (percent of GDP) ^2/
	Revenues			23.2	21.4	21.8	21.1	21.8	21.2	20.7	19.5	19.5	19.4
	Expenditure			22.4	21.7	22.1	21.4	22.1	21.5	20.1	20.1	20.1	20.0
	Overall balance			0.8	−0.3	−0.3	−0.3	−0.3	−0.2	0.6	−0.6	−0.6	−0.6
	Primary balance			1.0	0.3	0.0	0.1	0.6	0.6	1.4	0.2	0.2	0.2
	Government debt			19.6	20.3	22.5	56.6	55.5	54.6	52.8	52.3	51.7	51.2

Sources: IMF; International Financial Statistics; Sammarinese authorities; and IMF staff calculations.

^{^1/}According to preliminary revised national accounts.

^{^2/}For the central government.

Table 2.

San Marino: Selected Economic and Social Indicators for the Medium Term

							Projection
				2014	2015	2016	2017	2018	2019	2020	2021	2022	2023
Real and External ^1/
	Real GDP (percent change)			−0.9	0.6	2.2	1.5	1.3	1.3	1.3	1.3	1.3	1.3
Contributions to growth ^1/
		Domestic demand		−3.4	−2.8	2.9	0.8	3.5	2.2	1.4	1.3	1.3	1.3
			Final consumption	0.6	0.6	−0.4	0.4	0.7	0.8	0.8	0.8	0.8	0.7
			Fixed investment	−2.6	0.3	2.1	0.4	2.9	1.4	0.6	0.6	0.6	0.6
	Net exports (contribution to growth)			2.5	3.4	−0.7	0.7	−2.2	−0.9	−0.1	0.0	0.0	0.0
		Exports		1.7	4.0	3.4	−0.3	0.2	0.6	0.3	0.3	0.3	0.3
		Imports		0.8	−0.6	−4.1	1.0	−2.4	−1.5	−0.3	−0.3	−0.2	−0.3
Public Finances (percent of GDP) ^2/
	Revenues			23.2	21.4	21.8	21.1	21.8	21.2	20.7	19.5	19.5	19.4
	Expenditure			22.4	21.7	22.1	21.4	22.1	21.5	20.1	20.1	20.1	20.0
	Overall balance			0.8	−0.3	−0.3	−0.3	−0.3	−0.2	0.6	−0.6	−0.6	−0.6
	Primary balance			1.0	0.3	0.0	0.1	0.6	0.6	1.4	0.2	0.2	0.2
	Government debt			19.6	20.3	22.5	56.6	55.5	54.6	52.8	52.3	51.7	51.2

Sources: IMF; International Financial Statistics; Sammarinese authorities; and IMF staff calculations.

^{^1/}According to preliminary revised national accounts.

^{^2/}For the central government.

Table 3.

San Marino: Financial Soundness Indicators, 2009–17

Sources: CBSM; IMF; International Financial Statistics; Sammarinese authorities; and IMF staff calculations.

^{^1/}Latest available.

^{^2/}Based on total loan loss provision, which covers problem loans and performing loans.

^{^3/}Before extraordinary items and taxes.

Table 3.

San Marino: Financial Soundness Indicators, 2009–17

			2009	2010	2011	2012	2013	2014	2015	2016	2017 ^1/
Capital adequacy ratios (percent)
	Regulatory capital to risk-weighted assets		16.9	15.6	14.1	8.8	13.6	11.4	12.7	13.6	…
	Capital to assets		10.6	9.6	8.6	6.3	7.3	6.2	6.9	7.2	…
Asset quality ratios (percent)
	Bad loans to total loans		2.9	5.9	7.2	9.6	13.9	16.1	18.5	18.7	…
	Nonperforming loans to total loans		6.9	11.9	34.1	20.3	42.4	43.1	46.8	44.1	…
	Bad loans net of provision to capital		7.2	17.6	28.7	41.3	47.3	57.3	74.8	65.2	…
	Nonperforming loans net of provision to capital		36.5	72.5	273.1	166.1	289.2	335.8	340.8	300.0	…
	Loan loss provision to total loans ^2/		23.9	27.8	22.6	42.5	26.7	30.3	28.6	26.6	…
Earning and profitability (percent)
	Return on assets (ROA) ^3/		0.1	−0.1	−3.3	−2.2	−0.6	−1.8	−0.7	−0.8	…
	Return on equity (ROE) ^3/		0.5	−0.7	−28.8	−22.5	−7.8	−21.4	−9.0	−10.5	…
	Interest margin to gross income		67.5	56.1	77.1	58.5	46.1	32.1	37.3	38.7	…
	Non-interest expenses to gross income		34.1	48.3	66.7	69.7	81.2	50.7	60.7	67.3	…
	Trading income to gross income		12.8	1.5	−6.3	11.7	13.3	13.9	1.9	7.2	…
	Administrative expenses to non-interest expenditures		51.3	61.9	69.2	69.7	66.1	55.6	57.1	62.7	…
Liquidity (percent)
	Liquid assets to total assets		…	…	…	28.0	29.6	32.4	29.8	29.5	11.2
	Liquid assets to short-term liabilities		…	…	…	58.7	60.6	65.4	58.9	59.1	31.5
	Loans to deposits		76.5	85.0	76.8	91.8	86.7	80.0	81.8	81.1	78.7
Memo items
	Banking system assets (millions of euros)		9,447.2	8,090.9	6,721.2	6569.8	6141.0	6082.2	5657.4	5306.3	5238.6
		percent of GDP	555.5	500.9	454.9	468.8	452.5	452.7	399.7	369.0	352.1

Sources: CBSM; IMF; International Financial Statistics; Sammarinese authorities; and IMF staff calculations.

^{^1/}Latest available.

^{^2/}Based on total loan loss provision, which covers problem loans and performing loans.

^{^3/}Before extraordinary items and taxes.

Table 3.

San Marino: Financial Soundness Indicators, 2009–17

			2009	2010	2011	2012	2013	2014	2015	2016	2017 ^1/
Capital adequacy ratios (percent)
	Regulatory capital to risk-weighted assets		16.9	15.6	14.1	8.8	13.6	11.4	12.7	13.6	…
	Capital to assets		10.6	9.6	8.6	6.3	7.3	6.2	6.9	7.2	…
Asset quality ratios (percent)
	Bad loans to total loans		2.9	5.9	7.2	9.6	13.9	16.1	18.5	18.7	…
	Nonperforming loans to total loans		6.9	11.9	34.1	20.3	42.4	43.1	46.8	44.1	…
	Bad loans net of provision to capital		7.2	17.6	28.7	41.3	47.3	57.3	74.8	65.2	…
	Nonperforming loans net of provision to capital		36.5	72.5	273.1	166.1	289.2	335.8	340.8	300.0	…
	Loan loss provision to total loans ^2/		23.9	27.8	22.6	42.5	26.7	30.3	28.6	26.6	…
Earning and profitability (percent)
	Return on assets (ROA) ^3/		0.1	−0.1	−3.3	−2.2	−0.6	−1.8	−0.7	−0.8	…
	Return on equity (ROE) ^3/		0.5	−0.7	−28.8	−22.5	−7.8	−21.4	−9.0	−10.5	…
	Interest margin to gross income		67.5	56.1	77.1	58.5	46.1	32.1	37.3	38.7	…
	Non-interest expenses to gross income		34.1	48.3	66.7	69.7	81.2	50.7	60.7	67.3	…
	Trading income to gross income		12.8	1.5	−6.3	11.7	13.3	13.9	1.9	7.2	…
	Administrative expenses to non-interest expenditures		51.3	61.9	69.2	69.7	66.1	55.6	57.1	62.7	…
Liquidity (percent)
	Liquid assets to total assets		…	…	…	28.0	29.6	32.4	29.8	29.5	11.2
	Liquid assets to short-term liabilities		…	…	…	58.7	60.6	65.4	58.9	59.1	31.5
	Loans to deposits		76.5	85.0	76.8	91.8	86.7	80.0	81.8	81.1	78.7
Memo items
	Banking system assets (millions of euros)		9,447.2	8,090.9	6,721.2	6569.8	6141.0	6082.2	5657.4	5306.3	5238.6
		percent of GDP	555.5	500.9	454.9	468.8	452.5	452.7	399.7	369.0	352.1

Sources: CBSM; IMF; International Financial Statistics; Sammarinese authorities; and IMF staff calculations.

^{^1/}Latest available.

^{^2/}Based on total loan loss provision, which covers problem loans and performing loans.

^{^3/}Before extraordinary items and taxes.

Table 4.

San Marino: Statement of Operations for Budgetary Central Government, 2012–20

(Percent of GDP)

Sources: Sammarinese authorities; and IMF staff calculations and projections.

^{^1/}Does not reflect the introduction of the VAT.

Table 4.

San Marino: Statement of Operations for Budgetary Central Government, 2012–20

(Percent of GDP)

									Projection
				2012	2013	2014	2015	2016	2017	2018	2019	2020
Revenue				21.6	20.8	23.2	21.4	21.8	21.1	21.8	21.2	20.7
	Taxes ^1/			15.6	15.7	17.7	16.2	15.4	15.8	16.6	16.7	16.3
	Income Taxes			7.5	7.9	8.3	8.3	7.7	7.7	7.6	7.7	7.6
	Non-income taxes			8.1	7.7	9.4	7.9	7.7	8.1	9.0	9.0	8.7
		Taxes on international trade and transactions		4.7	5.2	6.6	5.3	5.2	5.6	5.3	5.4	5.3
		Other taxes		3.4	2.5	2.8	2.6	2.5	2.5	3.6	3.5	3.5
	Non-tax revenue			6.0	5.2	5.4	5.2	6.4	5.3	5.2	4.5	4.4
Expenditure				23.7	21.8	22.4	21.7	22.1	21.4	22.1	21.5	20.1
	Current Expenditure			21.4	20.4	20.2	20.3	20.0	20.3	20.0	19.4	18.8
		Compensation of employees		7.3	7.3	6.8	6.7	6.6	6.7	6.4	6.3	6.1
		Use of goods and services		2.2	2.0	2.2	2.0	2.0	2.0	1.7	1.6	1.5
		Interest		0.1	0.1	0.2	0.2	0.3	0.4	0.8	0.8	0.8
		Transfers		11.5	10.7	10.7	11.1	10.9	10.8	10.7	10.4	10.0
			To other general government units	10.5	10.0	9.9	10.3	10.1	10.2	10.0	9.8	9.5
		Other expenses (including subsidies)		0.4	0.3	0.2	0.2	0.2	0.3	0.3	0.3	0.3
	Capital Expense			2.3	1.4	2.2	1.4	2.1	1.2	2.1	2.0	1.3
	Net acquisition of non-financial assets			6.0	7.2	2.2	3.6	0.8	1.8	0.9	0.9	0.9
		Asset purchase		1.6	0.9	2.2	0.9	0.9	1.0	1.0	0.9	0.9
		Asset sale		−4.4	−6.2	0.0	−2.6	0.1	−0.8	0.0	0.0	0.0
Gross Operating Balance				0.2	0.5	3.0	1.1	1.8	0.9	1.8	1.8	1.9
Net lending (+)/borrowing (-) (fiscal balance)				−2.1	−1.0	0.8	−0.3	−0.3	−0.3	−0.3	−0.2	0.6
primary balance				−2.0	−0.9	1.0	0.0	0.0	0.1	0.6	0.6	1.4
Memorandum items
Social Security balance				−1.4	−0.5	−0.4	−0.4	−0.6	…	…	…	…
Public debt				15.8	21.5	19.6	20.3	22.5	56.6	55.5	54.6	52.8
Public debt, ex. obligation to amortize CRSM 2016 loss				15.8	21.5	19.6	20.3	22.5	22.5	22.5	22.4	21.4
Government deposits				5.4	4.1	3.0	2.4	1.8	1.6	1.5	1.5	1.5
Nominal GDP (in millions of euros)				1360.3	1361.5	1348.0	1373.3	1414.2	1449.0	1490.6	1529.4	1571.6

Sources: Sammarinese authorities; and IMF staff calculations and projections.

^{^1/}Does not reflect the introduction of the VAT.

Table 4.

San Marino: Statement of Operations for Budgetary Central Government, 2012–20

(Percent of GDP)

									Projection
				2012	2013	2014	2015	2016	2017	2018	2019	2020
Revenue				21.6	20.8	23.2	21.4	21.8	21.1	21.8	21.2	20.7
	Taxes ^1/			15.6	15.7	17.7	16.2	15.4	15.8	16.6	16.7	16.3
	Income Taxes			7.5	7.9	8.3	8.3	7.7	7.7	7.6	7.7	7.6
	Non-income taxes			8.1	7.7	9.4	7.9	7.7	8.1	9.0	9.0	8.7
		Taxes on international trade and transactions		4.7	5.2	6.6	5.3	5.2	5.6	5.3	5.4	5.3
		Other taxes		3.4	2.5	2.8	2.6	2.5	2.5	3.6	3.5	3.5
	Non-tax revenue			6.0	5.2	5.4	5.2	6.4	5.3	5.2	4.5	4.4
Expenditure				23.7	21.8	22.4	21.7	22.1	21.4	22.1	21.5	20.1
	Current Expenditure			21.4	20.4	20.2	20.3	20.0	20.3	20.0	19.4	18.8
		Compensation of employees		7.3	7.3	6.8	6.7	6.6	6.7	6.4	6.3	6.1
		Use of goods and services		2.2	2.0	2.2	2.0	2.0	2.0	1.7	1.6	1.5
		Interest		0.1	0.1	0.2	0.2	0.3	0.4	0.8	0.8	0.8
		Transfers		11.5	10.7	10.7	11.1	10.9	10.8	10.7	10.4	10.0
			To other general government units	10.5	10.0	9.9	10.3	10.1	10.2	10.0	9.8	9.5
		Other expenses (including subsidies)		0.4	0.3	0.2	0.2	0.2	0.3	0.3	0.3	0.3
	Capital Expense			2.3	1.4	2.2	1.4	2.1	1.2	2.1	2.0	1.3
	Net acquisition of non-financial assets			6.0	7.2	2.2	3.6	0.8	1.8	0.9	0.9	0.9
		Asset purchase		1.6	0.9	2.2	0.9	0.9	1.0	1.0	0.9	0.9
		Asset sale		−4.4	−6.2	0.0	−2.6	0.1	−0.8	0.0	0.0	0.0
Gross Operating Balance				0.2	0.5	3.0	1.1	1.8	0.9	1.8	1.8	1.9
Net lending (+)/borrowing (-) (fiscal balance)				−2.1	−1.0	0.8	−0.3	−0.3	−0.3	−0.3	−0.2	0.6
primary balance				−2.0	−0.9	1.0	0.0	0.0	0.1	0.6	0.6	1.4
Memorandum items
Social Security balance				−1.4	−0.5	−0.4	−0.4	−0.6	…	…	…	…
Public debt				15.8	21.5	19.6	20.3	22.5	56.6	55.5	54.6	52.8
Public debt, ex. obligation to amortize CRSM 2016 loss				15.8	21.5	19.6	20.3	22.5	22.5	22.5	22.4	21.4
Government deposits				5.4	4.1	3.0	2.4	1.8	1.6	1.5	1.5	1.5
Nominal GDP (in millions of euros)				1360.3	1361.5	1348.0	1373.3	1414.2	1449.0	1490.6	1529.4	1571.6

Sources: Sammarinese authorities; and IMF staff calculations and projections.

^{^1/}Does not reflect the introduction of the VAT.

Annex I. Risk Assessment Matrix¹

Source of Risks	Impact if Realized	Policy Response
High Structurally weak growth in Italy and the Euro area. Low productivity growth, high debt, and failure to fully address crisis legacies by undertaking structural reforms amidst persistently low inflation undermine medium-term growth.	High Given extensive financial and real links with Italy and advanced Europe, the impact on the Sammarinese economy would be large and direct.	Let automatic stabilizers fully operate. Postpone fiscal adjustment; reevaluate periodically.
High Tighter global financial conditions: Against the backdrop of continued monetary policy normalization and increasingly stretched valuations across asset classes, an abrupt change in global risk appetite could lead to sudden, sharp increases in interest rates and associated tightening of financial conditions.	Medium Tighter global financial conditions could result in possibly higher costs of borrowing in the short-term if the sovereign seek external financing.	Carefully assess alternative options in seeking external financing.
High Rapid increase in fiscal costs related to banking sector repair, including further need for bank recapitalization.	High Fiscal costs of banking sector cleanup could rise fast, leading to much higher government debt, undermining fiscal sustainability.	Banking sector strategy needs to be time-bound. Capital shortfalls should be met primarily by the market to minimize the cost to the public.
Medium Failure to clean up bank balance sheets, leading to a loss of confidence in the system.	High A loss of confidence in the system would likely lead to large public recapitalization needs and would have significant growth and fiscal implications.
Medium Significant delay in implementing indirect tax reform.	High Continued low levels of revenue will inhibit rebuilding fiscal buffers and implementing pro-growth policies.	Expedite preparing reform proposals. Seek technical support as needed.
Medium Higher medium-term growth from inclusion in Italy’s tax whitelist.	Medium The industrial and service sectors could bounce back, boosting growth, tax revenue, and banks’ margins.	Stick to reform plans despite upside.
Low Loss of cross-border or domestic electronic payment services: significantly curtails domestic and cross-border payments.	Medium Disruption of retail and wholesale electronic payment services leads to an abrupt adjustment in consumption and trade. A sudden shift to cash may cause short-term currency shortages.	A domestic electronic payment services provider has been licensed to put in place the required infrastructure, and the authorities continue to work on mitigating the risk.
Low Tensions with neighboring Italy resurface.	High Persistent tensions would dissuade Italian corporates and banks from doing business with San Marino, thus affecting growth.	Enhance focus on international relations. Start the credit register on schedule. Continue to work towards early adoption of OECD initiative for exchange of tax information.

Source of Risks	Impact if Realized	Policy Response
High Structurally weak growth in Italy and the Euro area. Low productivity growth, high debt, and failure to fully address crisis legacies by undertaking structural reforms amidst persistently low inflation undermine medium-term growth.	High Given extensive financial and real links with Italy and advanced Europe, the impact on the Sammarinese economy would be large and direct.	Let automatic stabilizers fully operate. Postpone fiscal adjustment; reevaluate periodically.
High Tighter global financial conditions: Against the backdrop of continued monetary policy normalization and increasingly stretched valuations across asset classes, an abrupt change in global risk appetite could lead to sudden, sharp increases in interest rates and associated tightening of financial conditions.	Medium Tighter global financial conditions could result in possibly higher costs of borrowing in the short-term if the sovereign seek external financing.	Carefully assess alternative options in seeking external financing.
High Rapid increase in fiscal costs related to banking sector repair, including further need for bank recapitalization.	High Fiscal costs of banking sector cleanup could rise fast, leading to much higher government debt, undermining fiscal sustainability.	Banking sector strategy needs to be time-bound. Capital shortfalls should be met primarily by the market to minimize the cost to the public.
Medium Failure to clean up bank balance sheets, leading to a loss of confidence in the system.	High A loss of confidence in the system would likely lead to large public recapitalization needs and would have significant growth and fiscal implications.
Medium Significant delay in implementing indirect tax reform.	High Continued low levels of revenue will inhibit rebuilding fiscal buffers and implementing pro-growth policies.	Expedite preparing reform proposals. Seek technical support as needed.
Medium Higher medium-term growth from inclusion in Italy’s tax whitelist.	Medium The industrial and service sectors could bounce back, boosting growth, tax revenue, and banks’ margins.	Stick to reform plans despite upside.
Low Loss of cross-border or domestic electronic payment services: significantly curtails domestic and cross-border payments.	Medium Disruption of retail and wholesale electronic payment services leads to an abrupt adjustment in consumption and trade. A sudden shift to cash may cause short-term currency shortages.	A domestic electronic payment services provider has been licensed to put in place the required infrastructure, and the authorities continue to work on mitigating the risk.
Low Tensions with neighboring Italy resurface.	High Persistent tensions would dissuade Italian corporates and banks from doing business with San Marino, thus affecting growth.	Enhance focus on international relations. Start the credit register on schedule. Continue to work towards early adoption of OECD initiative for exchange of tax information.

Annex II. Debt Sustainability Analysis

The debt-to-GDP ratio is projected to rise to 57 percent in 2017, reflecting fiscal costs of banking sector intervention. The debt ratio is expected to edge down over time, but slower growth and/or a contingent liability shock could push the debt-to-GDP ratio above 70 percent. San Marino faces an unprecedented level of public debt, and needs fiscal adjustments to ensure debt sustainability.

Baseline scenario. The economy is projected to slow somewhat in 2017 after a rebound in 2016 while real GDP growth reaching at 1.3 percent in the medium term. The overall balance is projected to improve towards 0.6 percent of GDP in 2020 before it deteriorates to −0.6 percent as temporary measures are phased out. The primary balance remains in surplus during the projection period. The government yet again intervened in the banking system in 2017, guaranteeing amortization of the state bank’s €493 million loss (34 percent of GDP) over 25 years. In this central scenario, public debt is projected to jump to 57 percent of GDP in 2017, and gradually come down to around 52 percent by 2022. Gross financing needs are expected to stay low given that most debt is assumed to be structured as a bullet bond which falls due after the projection period. Moreover, existing bonds also only begin to mature after the end of the projection period.¹

Stress test. Debt is particularly vulnerable to slower growth and realization of contingent liabilities:²

Real GDP growth shock. Real GDP growth is assumed to be one standard deviation lower than the baseline scenario during 2018–19. The debt-to-GDP ratio increases to around 65 percent.
Real interest rate shock. The interest rate increases with 300 basis points during 2018–22 in this scenario. If these higher interest rates do not spillover to the amortization of the CRSM loss, the projected debt-to-GDP is around 0.5 percent higher in 2022. If the higher interest rate spillover to the amortization of the CRSM loss the debt-to-GDP ratio will reach 56 percent by 2022.
Real exchange rate shock. In this scenario, the real exchange rate depreciates by 13 percent in 2018. This only delivers a marginally higher debt trajectory.
Primary balance shock. The primary balance is assumed to widen by an accumulated 1.7 percent of GDP during the projection period in this scenario. This would lift the project debt-to-GDP path by approximately 2 percentage points vis-à-vis the baseline scenario.
Contingent liability shock. This scenario assumes that contingent liabilities of around 20 percent of GDP from the banking system materialize in 2018. This would push the debt-to-GDP ratio up to a level around 75 percent.
Combined shock. The real GDP growth, contingent liability, and real interest rate shocks materialize simultaneously, the debt-to-GDP ratio jumps to around 90 percent.

Annex III. Reserve Adequacy Assessment

San Marino is an open economy that adopted euro as legal tender but has no access to the lender of last resort (LOLR) and the external market. This calls for maintaining high reserve buffers. Despite recent deterioration, the overall level of reserves seems adequate. Nevertheless, establishing an access to Eurosystem LOLR facilities should be explored and fiscal buffers should be enhanced.

Liquidity needs include buffers for loss of export income, short-term deposits withdrawals, and government roll-over needs. According to established weights for countries without market access, the current level of possible liquidity drains is close to €500 million, largely from bank deposits and export revenues.¹

Available reserves are composed of decentralized liquidity buffers by commercial banks, and centralized resources, namely, government deposits and liquid assets of the Central Bank of San Marino. The decentralized liquidity buffers represent the largest share of reserves. These have been declining in recent years and a further deterioration may lead to liquidity pressures. Developing an institutional arrangement for LOLR is advisable, as is exploring the access to Eurosystem liquidity facilities for Sammarinese banks.²

Reserve adequacy measures have been declining but are still above appropriate benchmarks. The ratio of liquidity buffers to estimated liquidity needs has declined to 1.9, but remains above the 1–1.5 range, generally judged as adequate. Also, the coverage of commercial banks liquidity buffers of non-resident deposits is well above 100 percent. However, government deposits barely cover one month of spending. It would be appropriate to start rebuilding fiscal buffers during the ongoing economic recovery.

Annex IV. Authorities’ Response to Past IMF Recommendations

Fund Policy Advice from 2017 Consultation	Authorities’ Action
Financial Sector Policy: Complete AQR and repair banks’ balance sheets. Managing NPLs. Remove remaining obstacles to NPL resolution. Restructure CRSM. Revamp bank supervision and develop a macroprudential policy framework.	The 2016 AQR became outdated due to delays caused by high turnover of central bank management. The central bank has recently initiated an update of the AQR to complete the diagnostic in coming months. Management of the CRSM has been changed multiple times in 2017, but restructuring of CRSM is still pending. A new business plan based on realistic assumptions is yet to be prepared. Bank Decree Law was issued to allow banks to spread their losses over up to 30 years, No burden sharing took place in dealing with the loss reported by CRSM and the merger of Asset Banca into CRSM. Domestic credit registry was launched in 2017. Real estate market was partially liberalized to non-residents. The authorities plan to reform the central bank structure and operations.
Fiscal Policy: Start a gradual fiscal adjustment to rebuild buffers including: 1) Introducing a Value Added Tax (VAT) to increase tax revenue. 2) Improving spending quality and relocating spending to more growth-friendly expenditure categories. 3) Lowering current spending by a modest cut in wage bill and some rationalization of health care spending. Advance pension reform. Establishing access to external financing.	The 2018 budget envisages fiscal adjustment measures, including extraordinary tax measures and some current spending cuts, but uncertainty remains in the fiscal account until the AQR update clarifies the final cost of banking sector repair. Increased capital spending is envisaged in 2018 and 2019. New pension reform proposals have been presented, but it contains 30 potential measures with multiple objectives. The VAT was not introduced yet, but external experts were appointed to work on the VAT proposal. The government aims to discuss the draft legislation by mid-2018 with a transitional phase in 2019 and full implementation by 2020.
Structural Reforms: Improve the business environment and increase labor market flexibility. Enhance vocational training to improve productivity. Continue to engage in international cooperation and improve transparency. Strengthen data provision.	“Development Law” adopted in 2017 includes easing the hiring process of nonresidents in all sectors. Initiatives are underway to improve the business environment, including creating the Agency for Development to promote and attract foreign investment, and the one-stop-shop for companies to have more efficient administration in establishing a business. The AML/CFT regulatory framework has been recently updated aimed at meeting international standards. Negotiations with EU on the association agreement continues. Data provision remains weak, and producing BOP statistics is long overdue. However, the State Congress appointed an intersectoral working group tasked with compiling BOP statistics in January 2018.

Fund Policy Advice from 2017 Consultation	Authorities’ Action
Financial Sector Policy: Complete AQR and repair banks’ balance sheets. Managing NPLs. Remove remaining obstacles to NPL resolution. Restructure CRSM. Revamp bank supervision and develop a macroprudential policy framework.	The 2016 AQR became outdated due to delays caused by high turnover of central bank management. The central bank has recently initiated an update of the AQR to complete the diagnostic in coming months. Management of the CRSM has been changed multiple times in 2017, but restructuring of CRSM is still pending. A new business plan based on realistic assumptions is yet to be prepared. Bank Decree Law was issued to allow banks to spread their losses over up to 30 years, No burden sharing took place in dealing with the loss reported by CRSM and the merger of Asset Banca into CRSM. Domestic credit registry was launched in 2017. Real estate market was partially liberalized to non-residents. The authorities plan to reform the central bank structure and operations.
Fiscal Policy: Start a gradual fiscal adjustment to rebuild buffers including: 1) Introducing a Value Added Tax (VAT) to increase tax revenue. 2) Improving spending quality and relocating spending to more growth-friendly expenditure categories. 3) Lowering current spending by a modest cut in wage bill and some rationalization of health care spending. Advance pension reform. Establishing access to external financing.	The 2018 budget envisages fiscal adjustment measures, including extraordinary tax measures and some current spending cuts, but uncertainty remains in the fiscal account until the AQR update clarifies the final cost of banking sector repair. Increased capital spending is envisaged in 2018 and 2019. New pension reform proposals have been presented, but it contains 30 potential measures with multiple objectives. The VAT was not introduced yet, but external experts were appointed to work on the VAT proposal. The government aims to discuss the draft legislation by mid-2018 with a transitional phase in 2019 and full implementation by 2020.
Structural Reforms: Improve the business environment and increase labor market flexibility. Enhance vocational training to improve productivity. Continue to engage in international cooperation and improve transparency. Strengthen data provision.	“Development Law” adopted in 2017 includes easing the hiring process of nonresidents in all sectors. Initiatives are underway to improve the business environment, including creating the Agency for Development to promote and attract foreign investment, and the one-stop-shop for companies to have more efficient administration in establishing a business. The AML/CFT regulatory framework has been recently updated aimed at meeting international standards. Negotiations with EU on the association agreement continues. Data provision remains weak, and producing BOP statistics is long overdue. However, the State Congress appointed an intersectoral working group tasked with compiling BOP statistics in January 2018.

The impact of overall bank deleveraging on the economy is mitigated by banks deleveraging on both the domestic and foreign loan portfolios, each of which accounts for about a half.

This is based on the current domestic regulations. Under international standards, the amount rises to €486 million (34 percent of GDP). The gap is due to the difference in provisioning and capital requirement rules.

The AQR found the remaining banks to be broadly viable. Although CRSM accounts for about half of the system assets, the losses at CRSM stemmed mainly from a foreign portfolio and thus did not raise contagion concerns.

Trade data are subject to some uncertainty possibly due to factors such as transfer pricing, under-invoicing of imports, and unrecorded cross-border shopping.

Inadequate external sector statistics limits scope for conducting the standard external sector assessment.

Creditless recoveries are characterized by a rebound in employment and mainly consumption-driven growth (investment contributes only about a third, see IMF WP 1158) while credit continues to decline. The projected growth is tracking the lower bound of historical creditless recoveries.

McKinsey Global Institute, 2010, “Debt and Deleveraging: The Global Credit Bubble and Its Economic Consequences”, Exhibit 4.

Private shareholders consist of two charitable organizations.

The AQR update will be conducted by an external consulting firm.

The government aims at cutting current expenditure by 2.5 percent during 2018, but only 0.6 percent has been included in the budget so far. The remaining savings are planned to be identified in coming months.

During 2006–09, financial sector contribution to tax revenues was roughly €50 million annually.

The wealth tax is estimated to generate €15 million additional revenue annually.

The Risk Assessment Matrix (RAM) shows events that could materially alter the baseline path (the scenario most likely to materialize in the view of IMF staff). The relative likelihood of risks listed is the staff’s subjective assessment of the risks surrounding the baseline. The RAM reflects staff views on the source of the risks and overall level of concern as of the time of the discussion with the authorities.

A bond of EUR 85 million fall due in December 2023, and two others of a total of EUR 50 million fall due in 2026.

See Selected Issues Paper for more discussions on contingent liabilities and debt path under various scenarios.

Guidance Note on the Assessment of Reserve Adequacy and Related Considerations, IMF (2016).

Currently, there is no legal basis for direct access to Eurosystem liquidity facilities.

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Republic of San Marino: 2018 Article IV Consultation-Press Release; Staff Report; and Statement by the Executive Director for the Republic of San Marino

Author:

International Monetary Fund. European Dept.

Volume/Issue:: Volume 2018: Issue 101

Publisher:: International Monetary Fund

ISBN:: 9781484350768

ISSN:: 1934-7685

Pages:: 47

DOI:: https://doi.org/10.5089/9781484350768.002

Keywords
Context: Pressing Need for Lasting Solutions
Outlook and Risks: Flying Low Against Headwinds
- Authorities’ Views
Policy Discussions: Time for Action
Staff Appraisal

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GDP Growth

(Constant prices; y-o-y change in percent)

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Private Sector Employment Growth

(Y-o-y percentage points)

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CPI Inflation

(Y-o-y, percent)

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Gross Value Added, excl. Public Administration

(Percentof total)

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Structure of Exports

(Percent of total)

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Bank Loans to Residents

(net loans, y-o-y, contributions in percent)

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CPI Based Effective Exchange Rates relative to Top 5 Trade Partners

(Index Jan. 2007=100; increase is appreciation)

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Shares in World Exports Market

(percent)

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Ranking for Doing Business

(Scale: Rank 190 center, rank 1 outer edge)

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Change in Private Non-financial Resident Debt to GDP Ratio

(Net loans to GDP, y-o-y, contributions in percent)

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Public Debt Dynamics

(Percent of GDP)

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Government Debt and Deficit: San Marino and Euro Area, 2016

(Percent of GDP)

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General Government Debt in European Microstates

(Percent of GDP)

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Tax Revenue

(Millions of euro)

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Figure 1.

San Marino: Macroeconomic Developments

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Figure 2.

San Marino: High Frequency Indicators

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Figure 3.

San Marino: Financial Sector Indicators

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San Marino Public Sector Debt Sustainability Analysis (DSA)—Baseline Scenario

(in percent of GDP unless otherwise indicated)

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San Marino Public DSA—Composition of Public Debt and Alternative Scenarios

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San Marino Public DSA—Stress Tests

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Estimated Liquidity Needs

(Millions of euros)

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Liquidity Buffers

(Million of euros)

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Reserve Adequacy Assessment

(Ratios)

Foresee

Fund Policy Advice from 2017 Consultation	Authorities’ Action
Financial Sector Policy: Complete AQR and repair banks’ balance sheets. Managing NPLs. Remove remaining obstacles to NPL resolution. Restructure CRSM. Revamp bank supervision and develop a macroprudential policy framework.	The 2016 AQR became outdated due to delays caused by high turnover of central bank management. The central bank has recently initiated an update of the AQR to complete the diagnostic in coming months. Management of the CRSM has been changed multiple times in 2017, but restructuring of CRSM is still pending. A new business plan based on realistic assumptions is yet to be prepared. Bank Decree Law was issued to allow banks to spread their losses over up to 30 years, No burden sharing took place in dealing with the loss reported by CRSM and the merger of Asset Banca into CRSM. Domestic credit registry was launched in 2017. Real estate market was partially liberalized to non-residents. The authorities plan to reform the central bank structure and operations.
Fiscal Policy: Start a gradual fiscal adjustment to rebuild buffers including: 1) Introducing a Value Added Tax (VAT) to increase tax revenue. 2) Improving spending quality and relocating spending to more growth-friendly expenditure categories. 3) Lowering current spending by a modest cut in wage bill and some rationalization of health care spending. Advance pension reform. Establishing access to external financing.	The 2018 budget envisages fiscal adjustment measures, including extraordinary tax measures and some current spending cuts, but uncertainty remains in the fiscal account until the AQR update clarifies the final cost of banking sector repair. Increased capital spending is envisaged in 2018 and 2019. New pension reform proposals have been presented, but it contains 30 potential measures with multiple objectives. The VAT was not introduced yet, but external experts were appointed to work on the VAT proposal. The government aims to discuss the draft legislation by mid-2018 with a transitional phase in 2019 and full implementation by 2020.
Structural Reforms: Improve the business environment and increase labor market flexibility. Enhance vocational training to improve productivity. Continue to engage in international cooperation and improve transparency. Strengthen data provision.	“Development Law” adopted in 2017 includes easing the hiring process of nonresidents in all sectors. Initiatives are underway to improve the business environment, including creating the Agency for Development to promote and attract foreign investment, and the one-stop-shop for companies to have more efficient administration in establishing a business. The AML/CFT regulatory framework has been recently updated aimed at meeting international standards. Negotiations with EU on the association agreement continues. Data provision remains weak, and producing BOP statistics is long overdue. However, the State Congress appointed an intersectoral working group tasked with compiling BOP statistics in January 2018.

1	Introduce a part-time retirement mechanism for those nearing retirement (reduced pension benefits and contributions)
2	Automatic adjustment of retirement age to life expectancy
3	Abolish the 20 percent tax exemption on pensions and gradually limit it to pensions less than EUR 3,000
4	Allow retirees to work during retirement and contribute to the system
5	Reduce redistributive element of the current system, by introducing a cap on social security contributions to discourage high-income individuals from retiring abroad
6	Allow for reduced contributions to the redundancy fund (i.e., solidarity contribution only) for an indefinite period of time with no eligibility for benefits during that period
7	Reduce social security contributions for new entrants into the labor market
8	Tighten the requirements for a “seniority pension”
9	Ensure equity across generations by lowering the replacement rate of older generations
10	Improve pension fund management to increase returns

1	Introduce a part-time retirement mechanism for those nearing retirement (reduced pension benefits and contributions)
2	Automatic adjustment of retirement age to life expectancy
3	Abolish the 20 percent tax exemption on pensions and gradually limit it to pensions less than EUR 3,000
4	Allow retirees to work during retirement and contribute to the system
5	Reduce redistributive element of the current system, by introducing a cap on social security contributions to discourage high-income individuals from retiring abroad
6	Allow for reduced contributions to the redundancy fund (i.e., solidarity contribution only) for an indefinite period of time with no eligibility for benefits during that period
7	Reduce social security contributions for new entrants into the labor market
8	Tighten the requirements for a “seniority pension”
9	Ensure equity across generations by lowering the replacement rate of older generations
10	Improve pension fund management to increase returns

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Abstract

Context: Pressing Need for Lasting Solutions

Outlook and Risks: Flying Low Against Headwinds

Authorities’ Views

Policy Discussions: Time for Action

A. Financial Sector Policy

Authorities’ Views

B. Fiscal Policy

Authorities’ Views

C. Structural Reforms

Authorities’ Views

Staff Appraisal

Annex I. Risk Assessment Matrix1

Annex II. Debt Sustainability Analysis

Annex III. Reserve Adequacy Assessment

Annex IV. Authorities’ Response to Past IMF Recommendations

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Annex I. Risk Assessment Matrix¹