1. Introduction

1.1 On behalf of the Cambodian authorities, we would like to thank the IMF mission team for the constructive policy discussions during the 2022 Article IV consultation. The authorities are encouraged by staff’s positive assessment on Cambodia’s macroeconomic developments, and broadly share staff’s view on medium-term structural challenges. The authorities are in broad agreement with staff’s recommendations and will carefully take them into consideration when formulating policies.

2. Recent Economic Developments and Outlook

2.1 Cambodia’s economy has experienced a relatively slow growth in 2021 due to the pandemic, but has since recovered steadily. Rapid vaccination efforts and the reduction of COVID-19 infection rates enabled Cambodia to fully reopen to foreign tourists since November 2021. This allowed the authorities to roll back some of the support measures and gradually build up the fiscal space for future shocks.

2.2 The authorities welcome staff’s assessment that growth outlook is broadly positive, underpinned by both domestic and external stability. Despite emerging headwinds from external shocks, from the conflict in Ukraine and slowdown in key trading partners’ economies (China, Europe and the US) in the second half of 2022, the momentum of economic recovery is expected to continue with growth projections, at around 5% in 2022 and around 6% in 2023. This is supported by a solid recovery in tourism sector and a bright prospect of exports. As a result, Cambodia’s external sector has improved, as primarily reflected in the narrowing of current account (CA) deficit. Tourism and FDI are expected to have larger contributions to CA in 2023. Supported by abundant labor force and stable macroeconomic environment, the authorities expect more relocations of exporting firms from other neighboring countries to Cambodia – contributing to its medium-term growth.

2.3 Despite the recent surge in inflation, its effects have been manageable with limited risk of second-round effects and de-anchoring of inflation expectation. Faster recovery from the pandemic allowed the government to channel its funds to mitigate the impact of rising prices on vulnerable households in the form of extended cash transfers.

3. Fiscal Policy

3.1 The authorities remain committed to using available fiscal space to mitigate the impacts of the global economic slowdown and the conflict in Ukraine on growth and inflation, with a view to maintaining debt sustainability. Cambodia’s fiscal position has been improving steadily on the back of the resumption of economic activities. This is driven by a broad-based recovery in tax revenue and a partial rollback of Covid-related spending. Meanwhile, measures to mitigate the impact of rising prices have been well-targeted using the government’s ID Poor database to identify poor and vulnerable individuals. The Debt Sustainability Analysis (DSA) indicates that Cambodia has fiscal space to cope with further adverse shocks; nevertheless, authorities will continue to use fiscal measures in a targeted manner and embark on initiatives to improve the efficiency of targeting different types of vulnerable households.

3.2 As part of the effort to ensure debt sustainability, the government continues to develop domestic financial markets in line with the recommendation in previous Article IV reports. Significant progress was made in 2022 by issuing domestic government bonds for the first time in local currency. The auction was well-received by financial institutions, due primarily to close market consultations and clear communication by the Ministry of Finance. The authorities will continue to work on long-term policy framework for market development in line with staff’s recommendations. Efforts to develop a comprehensive framework for bond issuance up until 2028 are already underway.

4. Monetary and Financial Sector Policies

4.1 Monetary policy continued to be accommodative to support the recovery at the early stage. However, as the recovery gathered momentum in 2022, the National Bank of Cambodia (NBC) has started to normalize its policy primarily by ending regulatory forbearance on new restructured loans in June 2022 and considering gradually raising reserve requirements to pre-pandemic levels. The share of non- performing loans (NPLs) in banks’ loan portfolios has naturally risen after the end of forbearance but should gradually decline in line with improving debt servicing ability of borrowers.

4.2 Credit growth has been robust, reflecting positive sentiments for medium-term economic prospects and sound fundamentals of Cambodia. Nevertheless, the authorities note staff’s concerns on the high level of growth and will closely monitor the developments. According to staff’s assessment, Cambodia’s economic growth is projected to converge to a potential rate of about 6.5 percent – higher than most countries in ASEAN. Thanks to several trade agreements and continued efforts in economic diversification, Cambodia has seen broad-based increase in investment, not only in garments and footwears but also in agro-processing, automotives, as well as electronics and electrical appliances. A recent increase in credit growth largely reflects funding given to these productive sectors. Nevertheless, the NBC will continue to ensure that banks maintain adequate capital buffers, and, amid high uncertainty, will closely monitor developments in the banking system with preemptive measures to safeguard financial stability.

4.3 Overall financial stability remains sound, but amid high uncertainty in the global economy, authorities will carefully monitor associated risks, including staff’s concerns on the buildup of private debt and potential risks in the real estate sector. On the latter however, the authorities are of the view that the potential risks should have limited impacts on consumption as they remain concentrated in some provinces and only certain segments of the housing market.

5. Structural Policies

Over the past years, the authorities have made significant progress in enhancing economic diversification and addressing weaknesses in governance framework, and have placed both issues among Cambodia’s top reform priorities in the medium term.

5.1 In promoting further diversification and productivity, new investment law has been introduced to allow for more targeted tax incentives to high-potential sectors and firms. The current Industrial Development Policy (2015–2025) has undergone a mid-term review and has produced a roadmap to promote investment in higher value-add manufacturing sectors such as automotive, electronics and machinery. Moreover, the new investment law provides incentives for qualified investment projects in climate adaptation and mitigation. An advisory council has also been established as a channel for authorities to gain feedbacks and have regular dialogues with firms in these key sectors.

5.2 The authorities remain committed to strengthening governance and anti- corruption frameworks, and will continue work to implement the necessary measures. Interagency cooperation among agencies charged with the anti-corruption and AML/CFT mandates – the Anti-Corruption Unit (ACU) directly tasked with anti- corruption mandates, the National Council Against Corruption (NCAC) that oversees the operations of the ACU, the National Coordination Committee (NCC) on AML/CFT/CPF¹ and the Financial Intelligence Unit (FIU) – has improved over the past years. They have also collaborated with other ministries to, for instance, identify sectors most prone to corruption risks. With joint efforts made by interagency cooperation and coordination, Cambodia has completed all the action plan items imposed by the FATF and is expected to undergo an exit onsite visit in January 2023. In relation to the pending laws on whistleblower and transparency, the draft legislation on whistleblower protection has been submitted to the Ministry of Justice for review. The authorities have also sought further IMF technical assistance to enhance capacity in human and technological resources.