Statement by Mr. Shaalan on the Maldives Executive Board Meeting March 4, 2005
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International Monetary Fund. Asia and Pacific Dept
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2005 Article IV Consultation-Public Information Notice; Staff Report; and Statement by the Executive Director for Maldives

Abstract

2005 Article IV Consultation-Public Information Notice; Staff Report; and Statement by the Executive Director for Maldives

At the outset, I would like to convey the Maldives authorities’ sincere gratitude for the Board’s decision to extend post-conflict emergency assistance to those PRGF-eligible countries hit by natural disasters and their appreciation for staff’s valuable and prompt follow up. This decision and the staff’s recent mission assessing economic developments in the wake of the tsunami disaster have not only paved the way for a request for emergency assistance but provided necessary information for potential donors.

Regarding the staff report, the authorities are in broad agreement with the analysis and the thrust of the policy recommendations contained in the well-balanced and concise report.

As highlighted in the recent briefing note on the preliminary assessment of the macroeconomic impact of the tsunami disaster, circulated to Executive Directors on February 4th, the Maldives is one of three countries that was most seriously affected by the disaster. In this regard, it is important to note that although the absolute financial loss was smaller than other affected countries, relative to its GDP, the Maldives was by far the hardest hit. Moreover, the tidal waves have seriously affected the two top economic activities of the country, namely, tourism and fisheries.

Pre-Tsunami Economic Performance

For a number of years the Maldives made significant progress on many fronts while maintaining a stable macro environment. Growth rates were consistently high, averaging 8 percent over the last three years, contributing to a doubling in per capita income over a decade, while inflation was generally kept under control. Economic projections indicate that these favorable developments were expected to continue into 2005.

Despite this strong performance, the country remains vulnerable to external shocks on account of its high dependence on tourism and tuna exports. Significant private sector credit, including new lending for investment by tourist resorts, reflects the country’s focus on expanding the main productive sectors, so as to lessen the need for concessional resources to make further social and economic strides. Supported by concurrent structural reforms such as the Land Act, the new investments, as well as increased consumption, led to a sharp acceleration in imports, widening the current account deficit to 12 percent of GDP despite the strong growth in exports. The stock of debt has edged up slightly on account of lower concessional financing and growing investment needs. International reserves, though in our view small, given the vulnerabilities the economy is subject to, increased to just over US$200 million (equivalent to 3½ months of 2004 imports).

Fiscal performance in 2004 was strong. Despite falling grants, the current revenue base increased by 1 percent of GDP. This pick up was on account of an expansion in tourism and revenue measures, thus resulting in halving the deficit of recent years in spite of growing current expenditures. The revenue increase was associated with rising current expenditures of equal magnitude, predominantly due to the first increase since 1999 in civil servant salaries, but was offset by lower spending on other items.

In the case of other structural reforms, and as recommended by staff, the proposed amendment of the Maldives Monetary Authority (MMA) Act is likely to increase central bank independence by separating the functions of the Minister of Finance and Governor of the MMA. In addition, a financial intelligence unit has been set up at the MMA and the proposed legal limits on lending to government are now in parliament. The latter will necessitate finding new sources of financing without burdening debt sustainability. Other financial sector reforms are underway.

Recent Developments since the Tsunami

The steady course of progress set last year was brought to, hopefully, a short halt by the tsunami disaster, which hit on December 26, wrecking havoc to vulnerable groups while damaging the infrastructure supporting the two main productive sectors. About a quarter of tourist resorts were affected and closed, resulting in a sharp fall from previously full occupancy rates. About one-tenth of the fishing fleet and some processing facilities were damaged or lost. Consequently GDP growth is likely to fall from the pre-tsunami projection of 6½ percent to only 1 percent this year, as these key productive sectors are not expected to recover to their pre-tsunami levels until the mid-year or toward year-end.

In addition to the virtual collapse in major economic activities, the international community has estimated reconstruction costs at about US$400 million (about 50 percent of GDP), of which US$110 million are needed immediately for budgetary needs. While the government is taking all measures possible to close the budget financing needs through revenue measures and already pledged donor grants, the balance of payments gap cannot be closed.

The balance of payments shortfall due to losses in export receipts and tourism earnings is estimated at about US$160 million and cannot be fully covered by identified inflows. Therefore, a request for a purchase of an amount equivalent to SDR 4.1 million (50 percent of quota) under the Fund’s policy for emergency and natural disaster assistance is being made given that international reserves are low. This purchase is intended to leverage in the remainder of US$91 million shortfall in the balance of payments thus obviating a precipitous fall in reserves. Given the current debt level and fiscal tightness, the authorities have requested the provision of subsidies to reduce the rate of charge down to 0.5 percent per annum on this Fund purchase.

Although the authorities have acted promptly in managing the losses and associated relief efforts, and are very grateful for the international support received so far from the Asian Development Bank, the World Bank, the United Nations, and Japan, more is needed. For their part, in consultation with staff and as set out in their letter, they will refrain from granting import duty waivers for tourism, reorient capital and non-wage spending toward reconstruction needs, and refrain from awarding any new wage increases. In addition, the “bed tax” was increased late last year as planned, which should further contribute to an enhancement of revenues once tourism picks up.

The authorities are now awaiting the outcome of a meeting at the Asian Development Bank in Manila on March 18th before considering a call for a consultative group meeting to seek donor pledges to close the US$91 million balance of payments gap this year. In the meantime, the country is at risk of losing the already low level of international reserves given the increased vulnerability. I would, therefore, encourage colleagues to approve this small request of SDR 4.1 million, and convey the country’s request for additional concessional support to facilitate a rebound this year and in years to come thus contributing measurably to debt sustainability. Finally, I would like to confirm that the Maldives will not be seeking any debt rescheduling from the Paris Club, as most debt is to multilaterals and non-Paris Club countries.

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Maldives: 2005 Article IV Consultation-Public Information Notice; Staff Report; and Statement by the Executive Director for Maldives
Author:
International Monetary Fund. Asia and Pacific Dept