An IMF mission from Washington, D.C. visited Cambodia during December 2-14, 2004 to initiate discussions with the Royal Government of Cambodia (RGC) on an economic program that could possibly be supported by a new PRGF arrangement.¹ During the visit, the mission took stock of recent economic and financial developments, progress in the implementation of the RGC's Rectangular Strategy and its broad structural reform program, and held preliminary policy discussions with the authorities across a wide range of areas. Discussions could continue in mid-2005 as fiscal revenue performance improves and progress is made toward implementation of structural reforms.

Macroeconomic developments

Macroeconomic performance in 2004 was stronger than anticipated at the time of the last Article IV Consultation.² On robust activity in all sectors—agriculture, industry, and services—real GDP growth in 2004 is now estimated to have reached 6 percent (attached table), significantly higher than 4.3 percent previously projected.³ At the same time, and reflecting mostly higher energy prices and drought-related food price increases, inflation picked up during the year, reaching about 5 percent at end-2004 on a year-on-year basis. The external current account deficit at end-2004 is estimated to have reached about 10 percent of GDP, while gross international reserves are projected to have amounted to $770 million (2 ½ months of imports). Growth is projected to slow to around 2 ½ percent in 2005, a somewhat smaller decline than previously projected, reflecting in part the fact that garment orders for the first quarter of the year have been sustained as buyers apparently hedged against the possibility that the U.S. might impose new limits on Chinese garments exports to the U.S.

Despite some apparent rebound in revenue collections during the year and efforts to contain spending, the 2004 general government current balance is projected to be lower than budgeted for the second year in a row. The revenue-to-GDP ratio is projected to have increased to 10.9 percent from 10.4 percent in 2003. However,this improvement was largely due to one-off factors, such as revenue collected from an amnesty for the registration of cars not previously registered and taxed. Although current spending was compressed during the first three quarters of the year, end-year bunching of spending is expected to have recurred, as in previous years. The overall deficit is estimated to reach 6.4 percent of GDP. With foreign financing equal to 5.4 percent of GDP, there will likely have been a significant recourse to domestic financing, including through the build-up of additional expenditure arrears.

Against the backdrop of fiscal performance in 2004 and the recently approved budget for 2005, the mission discussed budgetary prospects for the new fiscal year. Given the need to substantially and durably increase revenue, the mission concurred with the authorities that the time had come for a major and concerted effort to visibly strengthen compliance with tax laws, customs procedures and anti-smuggling actions, and to achieve better collection of nontax revenues. In the meantime, and in light of the challenge of boosting structural revenue performance without new revenue measures, a cautious approach to spending will need to be maintained to help ensure sustained macroeconomic stability.

Structural reforms

Progress on structural reforms was mixed during 2004. The ending of the political impasse in July 2004 was marked by the publication of the Rectangular Strategy by the new government, and the launching of a wide range of reform initiatives through restructured government-donor working groups, inter-ministerial committees and working groups tasked with taking various reforms forward, and renewed in-depth dialogue with the private sector. Much of this effort culminated in the agreement with donors at the December 2004 Consultative Group meeting on joint monitoring indicators of structural reform. Indicators were agreed in all major areas of reform: promoting good governance, legal and judicial reform and protection of human rights, public administration reform, decentralization and deconcentration, public financial management, agriculture and natural resources and private sector development, among others.

The status of IMF-RGC discussions regarding a successor PRGF

The mission held fruitful discussions with the RGC. A shared assessment of the medium-term outlook was undertaken, and far-reaching dialogue took place regarding a wide range of potential policy initiatives, many of which the RGC has already spelled out in various policy documents (e.g., the Rectangular Strategy, the National Poverty Reduction Strategy Paper, the government's twelve-point action plan to improve the investment climate, trade facilitation and SME activity, the 2004 CG joint monitoring indicators, etc.). IMF staff plan to monitor progress during the months ahead, notably of revenue performance and the CG joint monitoring indicators. Once there is evidence of a durable improvement in general government revenue, staff and the authorities could enter the next phase of discussions aimed at agreeing on an economic and financial program that could supported by a second PRGF arrangement.