The FINANCIAL — On June 5, the Executive Board of the International Monetary Fund (IMF) concluded the 2015 Article IV consultation1 with Vanuatu.
Real GDP is expected to decline by 2 percent this year because of the cyclone damage to Vanuatu’s main export sectors—tourism and agriculture—which will be only partially offset by reconstruction activities and infrastructure investment. Risks to the outlook are biased to the downside since reconstruction may be constrained by availability of funding and by implementation capacity. In 2016, a recovery in tourism and agriculture combined with further ramping-up of infrastructure projects is expected to propel growth to 5 percent, according to IMF.
With exports of goods and services depressed by cyclone damage and with imports boosted by domestic shortages and reconstruction needs, the current account balance is projected to deteriorate by 28 percent of GDP. This will put considerable pressure on Vanuatu’s international reserves, which are likely to decline below prudent levels in the absence of substantial external financing. To strengthen the reserves position, the authorities have requested financial assistance from the IMF in the form an SDR8.5 million (about US$11.9 million) disbursement from the Rapid Credit Facility (RCF) and a purchase of SDR8.5 million under the Rapid Financing Instrument (RFI).
Public sector recovery needs are estimated at about 20 percent of GDP. This combined with the negative impact of economic disruption on government revenue and the public infrastructure investment plans will exert significant pressures on the budget. As a result, fiscal deficits in the order of 12 percent of GDP are expected in 2015 and 2016. The government plans to seek grant financing as much as possible to close the fiscal gap. At the same time, the relatively low public debt level (20 percent of GDP at end–2014) gives it room for concessional borrowing. Once the recovery phase is over, the government should start rebuilding fiscal buffers through a combination of revenue mobilization and expenditure control.
Executive Board Assessment
Executive Directors expressed sympathy with the people of Vanuatu for the devastation inflicted by Cyclone Pam, and noted the resulting pressures on the fiscal position and the balance of payments. While reconstruction activity will partly offset the adverse impact of the cyclone on tourism and agriculture, the economy is likely to contract this year, and risks are tilted to the downside. Nonetheless, Directors were encouraged by Vanuatu’s track record of prudent economic management, the resilience of the population, and the swift humanitarian response. They expressed hope that the Fund’s financial assistance would catalyze additional donor support.
Directors stressed the importance of a sound recovery plan and welcomed the work on the National Recovery and Economic Strengthening Program. Noting the large cost of reconstruction and rehabilitation, Directors supported the authorities’ intention to seek grant financing to the extent possible before resorting to concessional debt. They recommended that the government’s infrastructure investment priorities be aligned with absorptive capacity and, where feasible, with the reconstruction efforts. They also advised strengthening the social safety nets.
Directors welcomed the authorities’ commitment to rebuild fiscal buffers once reconstruction is completed, and to put public debt on a declining path over the medium term. This will require efforts to improve revenue mobilization, strengthen spending discipline, rationalize and raise the efficiency of public investment, and enhance public financial management. It would also be prudent to establish a contingency fund.
Directors viewed the measures taken by the Reserve Bank of Vanuatu to support the economy and the banking system as broadly appropriate. They noted the need to continue to adhere to prudential norms during the recovery period and to undertake a thorough bank balance sheet assessment once pressures subside.
Directors agreed that Vanuatu would benefit from reforms to improve the business environment and promote economic diversification, alongside investments in infrastructure and human capital. Reform of government business enterprises is also needed, and Directors encouraged the authorities to submit a law based on the new Government Business Enterprise Policy to parliament without delay.