Memorandum of Economic and Financial Policies
April 3, 2000
1. This memorandum describes the government’s economic and social program for the period April to December 2000, which was formulated in consultation with the staff of the International Monetary Fund (IMF). The government believes that dissemination and monitoring of the program by the IMF staff and civil society will enhance transparency and increase the credibility of its economic and social policies.
II. The Economic and Social Context
2. Angola has been ravaged by a civil war that has created vast social, economic, and humanitarian problems. Disruptions in farming and transportation have increased the economy’s dependence on oil and led to an exodus of rural population, aggravating urban unemployment and social problems. Severe fiscal pressures have led to three hyper-inflation episodes and sizable domestic and external public sector arrears over the past ten years, and per capita income fell by 30 percent in this period.
3. Oil production is poised to double over the next five years. In addition, oil prices rose sharply during 1999 and in early 2000, and the government received sizable exploration bonuses from oil companies. The heavy dependence of exports and government revenue on oil receipts has rendered the country particularly vulnerable to fluctuations in world oil prices. Furthermore, even though real GDP growth is estimated at 2.7 percent in 1999, non-oil output remains far below potential, in part because of the war. Inflation is estimated at 135 percent during 1998 and 333 percent in the 12 months ended February 2000.
4. The increase in oil receipts and the floating of the kwanza in May 1999 permitted an increase in gross official international reserves from the equivalent of less than one week of projected imports of goods and services in early 1999 to about four weeks at the end of the year, and net reserves, which had turned negative in 1998, became positive again. Nevertheless, the combination of weak macroeconomic policies, volatile oil prices, and limited access to concessional external financing in recent years has led to a heavy external debt burden. The public and publicly guaranteed debt stock amounted to US$9.6 billion at end–1999 (171 percent of GDP), of which US$4.4 billion was in arrears.
5. Faced with deteriorating economic and social conditions, in March 1999 the government approved a global strategy (Estratégia Global para a Saída da Crise) aimed at addressing these problems in a context of sustained economic growth led by the private sector. The economic recovery is expected to be underpinned by an enhanced domestic security situation and improvements in public sector operations, especially to make the government and public enterprises more efficient and to reorient public spending toward the social sectors and infrastructure. In this vein, important reforms have been introduced to revamp the operations of the government and the parastatals. The Permanent Commission of the Cabinet (Comissão Permanente do Conselho de Ministros) has been restructured and the functioning of local governments has been reformed. In addition, the government has created working groups with external technical assistance to reform the legal framework of public enterprises (Lei das Empresas Públicas) and the civil service (Estatuto do Gestor Público), and appointed new directors for key public sector enterprises and state-owned banks as a first step to enhance their efficiency and accountability. Furthermore, an Economic and Social Development Fund (FDES) has been created to foster the development of small- and medium-sized private enterprises. To simplify the setting up, registration, and licensing of enterprises, a one-stop window (Guichet Único de Empresa) is being established. In June 1999 the government began implementing a Program of Rehabilitation of Social and Productive Infrastructure, and in July it established a national emergency program of humanitarian assistance to people displaced by the war, funded by budgetary allocations and external grants.
6. Since May 1999, the National Bank of Angola (BNA) has floated the kwanza, established an interbank foreign exchange market, abolished restrictions on foreign exchange purchases for imports, liberalized commercial bank interest rates, and introduced central bank bills as a first step toward an eventual shift to indirect instruments of monetary control. The National Assembly has approved a new Financial Institutions Law as the basis for strengthening the financial sector. The loss-making agricultural and fisheries credit bank (CAP) has been closed and is being liquidated, and a preliminary diagnostic study on the restructuring and eventual privatization of the two remaining state-owned banks has been completed. On the fiscal front, the government has broadened the base of the income and sales taxes and lowered the rates. It has also reduced the number of import tariff rates from 43 to 8 and lowered the top rate from 110 percent to 35 percent, thereby reducing the average rate. In February 2000, domestic fuel prices were raised in a range of 972–1,650 percent to eliminate subsidies.
7. Nevertheless, macroeconomic imbalances remain severe. The resumption of civil war in late 1998 led to an escalation in military spending, but this was partially offset by the sizable increase in oil revenue. As a result, the budget deficit on a commitment basis reached 13.1 percent of GDP in 1999 compared with 15.1 percent in 1998 (the surplus on a cash basis was 1.1 percent, compared with a deficit of 7.6 percent in 1998). The receipts from oil bonuses in the second half of 1999 permitted a significant accumulation of government deposits in the banking system for the first time in many years. Although monetary aggregates increased rapidly in 1999, much of the increase reflected the increase in foreign currency deposits (which constitute about three-fourths of total bank deposits) and valuation adjustments following the depreciation of the kwanza.
III. The Program For 2000
8. Rationale. The gravity of the economic and social problems warrants a comprehensive and ambitious adjustment plan action. This staff-monitored program (SMP) is the first step in the formulation of such an adjustment plan and toward normalization of relations with external creditors. The government also hopes that it will pave the way for an eventual Fund arrangement that could catalyze fresh disbursements from other multilateral donors and bilateral debt relief.
9. Objectives and basic strategy. The central objective of the SMP is to lay the foundation for a decline in inflation to 120 percent by end–2000 and to double digits in 2001, and for an improvement in living standards and social conditions, including the resettlement of displaced individuals and demobilized soldiers. Real GDP is expected to grow by 3¾ percent in 2000, spurred by a further increase in oil production and a recovery of non-oil output (on the back of efforts to rehabilitate infrastructure and to reduce other supply bottlenecks). Gross official international reserves are targeted to rise from the equivalent of three weeks of projected imports of goods and services at end-March 2000 to four weeks by end–2000. To secure these objectives, the government will strengthen the fiscal stance within the limits dictated by the need for economic and social reconstruction. Furthermore, the implementation of structural reforms will support the stabilization effort and enhance growth prospects over the medium term. Increased priority will be given in the budget to the education and health sectors, and work will begin on the preparation of a poverty reduction strategy in consultation with civil society and the international donor community.
A. The Financial Program
10. Fiscal targets. The increase in oil and diamond receipts and the decline in defense spending from its unusually high level in 1999 are expected to permit an increase in social and investment spending in 2000. At the same time, the central government balance on a commitment basis would shift from a deficit of 13.1 percent of GDP in 1999 to a surplus of 1.8 percent in 2000. On a cash basis, the surplus would rise from 1.1 percent of GDP in 1999 to 4.9 percent in 2000.
11. Revenue measures. Oil revenue is projected to increase by some US$450 million in 2000 spurred by higher oil production and a rise in world oil prices. Efforts to improve the commercialization of diamonds and reduce smuggling will also boost government receipts by at least US$27 million. Furthermore, the tax measures introduced last year, together with others to be taken this year, are also expected to boost tax revenue. To this end, by end–2000 the government will raise the maximum personal income tax rate from 20 percent to 35 percent to match the corporate tax rate and it will also trim exemptions from customs duty and the sales tax. Customs administration will be improved by strengthening surveillance at border posts and possibly by temporarily outsourcing the management of customs to a private firm while institutional capacity is built up. Internal tax administration also will be strengthened, including through more vigorous and frequent auditing of firms and implementation of other previous technical assistance recommendations for improving tax collections and taxpayer control. In addition, the government will request external technical assistance to formulate a second-generation tax reform by end–2000. Major issues to be considered in that exercise include further simplification of the tax regime; efforts to broaden the tax net to cover the informal sector; a review of the tax and regulatory treatment of mineral resources, with a view to strengthening the linkages between these sectors and the rest of the economy; and an analysis of the scope for introducing a value added tax over the medium term.
12. Expenditure measures. Total current and capital expenditure commitments will be held to around 43 percent of GDP in 2000. A substantial decline in military spending (which was unusually high in 1999), and in transfers (in the wake of the elimination of fuel subsidies and periodic adjustments in water and electricity tariffs) will be offset in part by a significant rise in investment and social outlays, as well as higher interest payments abroad. Spending on education as a share of total spending is budgeted to increase to 12.5 percent in 2000 (from an executed share of 4.8 percent in 1999), and that of health to 9.3 percent (from an actual share of 2.8 percent in 1999).
13. Monetary and exchange rate policies. The central bank will use a monetary anchor to achieve the inflation target and will continue to allow the exchange rate and interest rates to be determined by market forces. Broad money is expected to grow by 128 percent during 2000, and banking system liabilities in local currency by 132 percent, which would allow for growth of credit to the private sector of 133 percent. The program’s ceiling on net domestic assets (NDA) of the banking system, which is the operative intermediate target for monetary control, will be enforced at first through ceilings on the NDA of individual banks (this will be replaced eventually by limits on NDA of the central bank to be secured by indirect instruments of monetary control). The program will also include quarterly floors on the net international reserves of the BNA aimed at securing the buildup in gross reserves mentioned earlier.
14. External debt strategy. Given the urgent need for economic and social rehabilitation, a reduction of Angola’s heavy external debt burden is an essential element of the government’s medium-term economic strategy. To this end, in 2000 the government will start the process of normalizing relations with its external creditors. The program will include quarterly ceilings on the stock of external payments arrears of the public sector and a subceiling on those arrears to multilateral institutions. All arrears to multilateral institutions, totaling about US$105 million at end–March 2000, will be cleared by end–September 2000. For budgetary and balance of payments reasons only part of the oil-guaranteed debt and a small amount of bilateral debt falling due can be serviced in 2000. The government will notify bilateral creditors of its intention to seek a Paris Club rescheduling in the context of a successor program supported by an arrangement with the Fund. Once relations with creditors have been normalized, the government will seek to avoid borrowing on nonconcessional terms.
15. Exchange restrictions. During the program period, the government does not intend to (a) introduce or modify multiple currency practices; (b) impose new restrictions or intensify existing restrictions in the area of payments and transfers for current international transactions; (c) introduce new restrictions on imports or intensify existing restrictions for balance of payments purposes; or (d) enter into new bilateral payments arrangements that are inconsistent with Article VIII of the Articles of Agreement of the Fund.
B. The Agenda of Structural Reforms
16. Public sector operations. The government is committed to improving the transparency and efficiency of public sector operations. To this end, it is well on the way to initiating a diagnostic study of the oil sector, and will hire a reputable international auditing firm to initiate an external audit of the BNA’s accounts by November 2000. Moreover, an integrated system of public sector financial management (SIGFE) is being implemented to improve budgetary operations, and a new accounting system (SICOES) for public sector operations will be implemented by early 2001. Payments by the BNA on behalf of the government will be made only against proper authorizations, and every effort will be made to achieve full transparency through universal coverage of government revenues and expenditures in the context of implementation of the 2000 budget and preparation of the 2001 budget. Intra-public sector arrears will be quantified and a timetable for clearing them will be implemented during the year.
17. Civil service reform. The government is endeavoring to protect the purchasing power of its employees, and at the same time it will accelerate the civil service reform. In that context, the reduction in civilian public employment by 20 percent of the workforce over the period 1999–2001 (through attrition, early retirement, training, and self-employment) is expected to permit an increase in real remunerations of professionals and skilled workers, coupled with efforts to achieve a closer link between pay and performance. On a parallel track, the recent reform of labor market legislation is expected to play an important role in removing obstacles to job creation in the private and parastatal sectors and, as such, to facilitate the absorption of redundant public employees.
18. Financial sector reforms. The financial reforms are designed to strengthen monetary control, reduce intermediation costs, and deepen the mobilization of financial savings. On April 1, 2000, the BNA reduced legal reserve requirements on demand deposits in local currency from 35 percent to 30 percent. In the context of the technical assistance that is expected to be provided by the IMF’s Monetary and Exchange Affairs Department (MAE) later this year, the BNA will review the scope for broadening the coverage of reserve requirements to deposits in other maturities and in foreign exchange, in conjunction with an analysis of the costs of conducting open market operations and remunerating government deposits. To accommodate the shift to indirect monetary policy, the market for central bank bills (TBCs) and the interbank money market will be deepened, and a market for government securities will be introduced. In May 1999, the BNA authorized commercial banks to grant loans in foreign currency to exporters. The Angolan Payments System will be implemented to improve the payments and check-clearing system. The BNA will gradually eliminate all of its commercial operations, such as the contracting of foreign lines of credit for on-lending to enterprises, and will shift to commercial banks all sales of foreign exchange to the public sector for purposes other than debt service and national security operations.
19. Bank restructuring and supervision. The main concern in the banking sector is the poor performance of the state-owned banks. The liquidation of the CAP Bank will be completed, and consultants will be hired to make detailed recommendations for the restructuring and recapitalization of the remaining two state-owned banks, with a view to their phased privatization. The central bank will be empowered to enforce existing prudential regulations, which are in line with the Basel Committee core principles, and the regulations for the basic insurance law passed in February 2000 will be approved.
20. Trade reform. The government will continue to liberalize the trade regime, and consideration will be given to lowering the maximum tariff rate to 30 percent and abolishing the 5 percent customs service fee in 2001 if revenue considerations permit. Meanwhile, efforts at trade reform in 2000 will focus on the elimination of all nontariff barriers and export taxes. Customs procedures will be simplified, and customs exemptions (other than for diplomats, international organizations, or those under contractual agreements for the oil sector) will be eliminated.
21. Privatization. The government will rely heavily on the private sector to accomplish its economic growth objectives, limiting its own role to that of creating the enabling environment for the private sector to flourish, or providing basic services (such as fuel, electricity, telecommunications, domestic air transport, water, and sanitation) in which the private sector will also be invited to participate. Consistent with its objective of disengaging from other productive activities, the government will begin to privatize most medium-sized and large public enterprises. To start, it will prepare a policy statement on privatization, which will include a list of all the enterprises it proposes to privatize over the medium term. In 2000, the government will begin to implement a pilot privatization program comprising ten firms. The government also plans to sign performance contracts (contratos-programas), and it will consider the scope for establishing joint ventures and management contracts in order to improve the operations of major public enterprises and strengthen the accountability of managers.
22. Public utility tariffs. The government’s policy is that utility tariffs should fully cover all costs, including a reasonable return on capital, in accordance with formulas agreed previously with the World Bank. Domestic fuel subsidies were eliminated in February 2000, except for the agricultural, livestock, fisheries, and coastal maritime transport sectors; subsidies to these latter sectors will be kept under review and will be phased out gradually as these sectors recover. Electricity tariffs will be adjusted in April 2000 and will continue to be adjusted periodically to bring them to cost-recovery levels by April 2001 (according to Article 41 of the General Electricity Law, these tariffs must be enough to cover operating costs, taxes, amortizations, capital recovery, and a rate of return established under the criteria specified in that law). Water services are being provided by local governments, which will continue to adjust water tariffs periodically to recover costs. Petroleum prices will be adjusted periodically in line with movements in international oil prices and the exchange rate, again in accordance with an approved formula.
C. Social Policies
23. Education and health. Education and health indicators point to the need for a major effort to improve the quality of life in Angola. For example, the illiteracy rate is 60 percent, and life expectancy at birth is 45 years for men and 47 years for women. Efforts to increase the delivery of services have received a setback with the war, but the government has made education and health priority areas for spending in the budget, along with national security and infrastructure rehabilitation. In the budget for 2000, the share of total current expenditure going to these two sectors has been increased, as mentioned earlier. The government is also seeking to reduce regional disparities in the allocation of education and health services, to the extent permitted by security conditions.
24. Poverty reduction strategy. The government will begin preparing a comprehensive poverty reduction strategy in consultation with civil society, which will be described in detail in a poverty reduction strategy paper. As this process is unlikely to be completed in 2000, in part because of lack of data, an interim poverty reduction strategy paper will be prepared by December 2000 in consultation with civil society, donors, and the IMF and World Bank staff. Pending the preparation and implementation of the poverty strategy, the government will continue to focus its efforts on emergency humanitarian assistance to people affected by the war, reconstruction of rural infrastructure and creation of rural employment opportunities, self-employment opportunities in both rural and urban areas, and smallholder agriculture.
IV. Program Monitoring
25. Quantitative and structural benchmarks. To monitor progress in policy implementation under the program, quarterly quantitative benchmarks have been established (as set out in Table 1) with respect to (a) net international reserves of the BNA, (b) net domestic assets of the banking system, (c) net credit to the government by the banking system, (d) the contracting of medium- and long-term nonconcessional debt and short-term debt, and (e) external payments arrears of the public sector, with a subceiling on arrears to multilateral institutions. Structural benchmarks (as set out in Table 2) have also been established to serve as guideposts for the implementation of core reforms. A midterm review of program implementation will take place in September 2000. The program assumes that oil prices, which are highly volatile, will average US$20.7 per barrel in 2000. The quantitative targets under the program will be adjusted for upward or downward deviations from this reference price according to the mechanism described in the Annex to Table 1.
26. Statistical reporting to the Fund. The government will keep the Fund informed of the progress in the implementation of the SMP. It will report to the Fund fiscal data on a quarterly basis, within 45 days of the end of the March, June, September, and December 2000 quarters; external debt data within 90 days, and balance of payments data within 120 days, respectively, of the quarters ending March, June, September, and December 2000; monetary data on a monthly basis, within 30 days of the end of each month and beginning with the data for January 2000; data on net international reserves of the BNA and the banking system and on bank financing of the government on a monthly basis; and a weekly series on exchange rates starting from the beginning of 2000.
27. Technical assistance. The government urgently needs technical assistance to increase its capacity for implementing the program. The areas of greatest need include external debt management, tax reform, and treasury operations (including budget management and expenditure control). However, assistance would also be useful in the areas of statistics compilation; monetary control; central bank operations, organization, and strategic planning; bank supervision; and foreign exchange reserve management. The government has discussed its technical assistance needs with Fund and World Bank staff, and will also approach the donor community for assistance. The government will take all necessary steps, including legal and institutional measures and the provision of adequate resources, to enhance the effectiveness of technical assistance.