Public Information Notice No. 12/13

Public Information Notice: IMF Executive Board Concludes 2011 Article IV Consultation with the Republic of Fiji

February 8, 2012

On January 20, 2012, the Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation with the Republic of Fiji.¹

Background

Fiji’s economy is growing at a very slow pace, and that overshadows all other economic concerns. After averaging 2¾ percent during the 1990s as well as the first five years of the new millennium, growth dropped to under ¼ percent on average over the last five years, and while urban poverty has declined, rural poverty remains stubbornly high.

After contracting for two years, the economy rebounded in 2011, growing by about 2 percent, by far the best result of the past five years. But this was partly a bounce-back from a downturn, and it seems unlikely, given fundamental and economic constraints, that growth will exceed 1½ to 2 percent on a sustained basis unless structural reforms are accelerated. Risks around this outlook are tilted to the downside, given political uncertainties, structural weaknesses, and the fragile global economy.

Inflation has risen sharply but should moderate soon. Headline inflation hovered around 10 percent year-on-year for several months in 2011, driven by imported food and fuel prices as well as one-off increases in the value added tax (VAT), various administered prices, and the electricity tariff. There is little evidence of generalized price pressures, and core inflation remains moderate. Commodity prices are now falling, and the one-off factors will drop out. Inflation should be around 6 percent by the beginning of 2012 and fall toward 3½ percent over the medium term, reflecting the anemic growth outlook, projected small declines in oil prices, and the authorities’ tight control of public wages.

Monetary conditions are accommodative and the system is awash with liquidity on account of foreign exchange inflows. However, credit growth has been slow, and banks’ loan-deposit ratio remains below 90 percent. While lending to the private sector is now rising at about 5 percent, the Reserve Bank of Fiji (RBF) is concerned that small and medium sized enterprises (SMEs) and others are being shut out. After holding steady for six months, the RBF cut its policy rate in late October by 100 basis points, to ½ percent. It is also considering an SME lending guarantee scheme, among other measures, to spur lending.

Higher food and oil prices have contributed to weak external balances. Fiji’s current account deficit is expected to register around 12 percent of GDP in 2011. Over the medium term, however, as remittances, tourism receipts, and goods exports, including sugar, grow while oil imports flatten out and non-oil imports grow moderately, the current account deficit could narrow to around 8 percent of GDP, leaving the overall balance in surplus. Gross reserves are thus kept healthy, despite increased dividend repatriation and some offshoring of Fiji National Provident Fund’s (FNPF) investment. Econometric estimates suggest that the exchange rate is broadly in line with fundamentals.

The fiscal deficit is expected to have widened to 3½ percent of GDP in 2011 and projected to fall again in 2012, reflecting trends in Fiji Sugar Corporation (FSC) restructuring costs. Debt is currently above 50 percent of GDP—relatively high for a small economy vulnerable to shocks—and the government also faces contingent liabilities of more than 15 percent of GDP, as well as unfunded FNPF liabilities. The authorities’ planned fiscal trajectory, which would put the deficit at around 2 percent of GDP in 2012 and reduce it to 1½ percent of GDP from 2013 onward, would reduce the debt ratio steadily, but additional measures may be needed to achieve that trajectory.

The financial sector is stable, but FNPF finances are unsustainable over the long run. The banks are well capitalized, with low NPLs and adequate loan loss provisioning. The finance-company and insurance sectors are stable, but the largest nonbank financial institution, the FNPF, is actuarially unsustainable: its current pension annuitization rates, which vary from 15 to 25 percent for different pensioners, imply negative net cashflows by 2030 and depleted assets by 2056.

Executive Board Assessment

Executive Directors welcomed the recent rebound of Fiji’s economy and viewed the authorities’ macroeconomic policies as generally appropriate. Directors concurred that boosting sustainable growth and reducing poverty through structural reform is the top priority.

Directors welcomed the authorities’ fiscal consolidation plans, growth friendly tax rate reductions, and increased public investment. They noted, however, that additional measures may be needed to achieve the deficit targets. Curbing discretionary tax concessions would raise revenue while improving the system’s transparency and efficiency.

In light of the benign inflation outlook, Directors saw the accommodative monetary stance as broadly appropriate. Given the structural lack of credit demand and the weak transmission mechanism, the effectiveness of low policy rates may nevertheless be limited. Directors cautioned against credit growth targets, which could distort lending and lower credit quality. They agreed that the exchange rate peg has been a useful nominal anchor. While the rate is broadly aligned with fundamentals, it should be adjusted regularly to avoid the need for large, disruptive step devaluations.

Directors noted that high debt and poor monetary transmission limit Fiji’s capacity to respond to a global downturn. In an extreme scenario, however, some fiscal stimulus—and possibly exchange rate adjustment—could be justified.

Directors saw reform of the Fiji National Provident Fund (FNPF) as the key financial sector priority. They welcomed the announced introduction of actuarially sound pension rates and supported the FNPF’s effort to rehabilitate existing investments and diversify abroad.

Directors welcomed the authorities’ focus on structural reform and stressed that improvements in the investment climate are key to enhancing policy effectiveness and raising growth. In this context, they called for continued progress in resolving political uncertainties and a more consultative approach to policymaking.

Directors supported the reform plans for land policy, the sugar sector, the civil service, and public enterprises, while encouraging faster progress in many areas. They called on the authorities to rapidly scale back the price control regime, strengthen antitrust enforcement, and increase social transfers to cushion the adverse impact on the poorest. Directors also urged the removal of remaining exchange restrictions.