Mission Concluding Statements
Tunisia and the IMF
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Preliminary Conclusions of the
Article IV Consultation Mission for 2002
March 11, 2002
1. The reforms implemented by the Tunisian authorities over the past ten years have resulted in considerable progress in terms of economic growth. During this period, Tunisia's performance has been remarkable in both the economic and social spheres. Prudent macroeconomic policy created scope for continued significant gains in productivity which resulted in gains in export market shares and made it possible to increase investment and private consumption, the cornerstones of improved living standards.
2. Despite this progress, the Tunisian authorities face major challenges in terms of economic management. In the short term, the authorities must pursue economic policies that will permit consolidation of their solid performance under difficult economic circumstances. In the medium term, they need to achieve higher growth in order to trigger a significant decrease in unemployment, which continues to be high.
3. To meet these two challenges, an adjustment in monetary and fiscal policies is needed. This will make it possible to preserve stable macroeconomic conditions in the context of a more rapid opening and transformation of the Tunisian economy which should bring it more into line with the economies of the Mediterranean countries of Europe.
I. Short-term Prospects
4. Tunisian economic performance was very favorable over the past year, with economic activity growing by 5 percent notwithstanding a weakening in agricultural output related to continued drought. Despite strong export growth, growth in domestic demand at a rate higher than that of domestic resources, as measured by GDP, did not permit an improvement in the external current account deficit, which remains high at 4.2 percent of GDP. Despite the demand pressures, inflation was extremely low in 2001 because of the slow growth in administered prices and tariff reductions.
5. The outlook for 2002 is affected by three factors: the slowdown in global economic activity, which is expected to cause a pronounced slowdown in exports; a fourth year of drought, anticipated to lead to lower agricultural output; and a slackening in international tourism demand in the aftermath of the events of September 11, 2001.
6. While there is no question that these factors will have a negative impact on economic growth, it should nonetheless continue at a pace near 4 percent (5 percent excluding agriculture). This is testimony to the high degree of diversification attained by the Tunisian economy.
7. These factors are likely to have a significant impact on the balance of payments, as the current account deficit is expected to widen further. Measures will have to be taken to contain this deterioration.
8. Moreover, it is essential that this widening in the current account deficit not be reflected in an increase in external debt, which, at 60 percent of GDP, remains high. In this respect, the revenues from the sale of the second mobile phone license (GSM) should contribute to financing of the current account deficit.
9. Fiscal and monetary policies should target an improvement in the level of reserves sufficient to ensure coverage of about 3 months of imports. This would send a clear signal as to Tunisia's capacity to honor its short-term obligations, even in the event it were subject to unfavorable shocks. In this respect, it is important to address the imbalance of the current account of the balance of payments.
10. Inflation is projected to rise to over 3 percent in 2002 as a result of pressures on food products and, more generally, pent-up domestic demand.
A. Fiscal Policy
11. Fiscal policy has been oriented towards consolidation in recent years. Tax receipts in 2001 significantly exceeded the level projected in the budget law. While this is explained to some extent by the robust economic activity, the increase also reflects progress made in reforming the tax system. Notwithstanding this favorable revenue performance, the fiscal deficit in 2001 was in line with budget law projections. Excluding grant and privatization receipts, it is estimated at 3.5 percent of GDP in 2001, corresponding to a fiscal adjustment of only 0.3 percent of GDP in comparison with the outturn for 2000. Moreover, this adjustment is attributable principally to a decline in government on-lending operations. Fiscal policy, while prudent, thus contributed only marginally to containing the momentum of domestic demand, which is at the root of the continued high level of the external current account deficit in 2001.
12. The budget law for 2002 targets a budget deficit on the order of 2.7 percent of GDP (excluding grants and privatization receipts), with government on-lending expected to decline by 0.5 percent. Excluding on-lending operations, the budget law calls for only limited fiscal adjustment. IMF staff estimated that continuing this policy stance would not contribute to any improvement in the current account of the balance of payments, and that its deficit could reach 5 percent of GDP. A reduction in the budget deficit on the order of 0.5 percent of GDP, accompanied by appropriate monetary policy, would make it possible to limit the current account deficit to 4.6 percent of GDP. To this end, the mission encourages the authorities to implement now those measures which they already identified and which they indicated they would put in place if the situation deteriorates.
B. Monetary Policy
13. Strong growth in credit to the economy fueled an increase in domestic demand in 2001. The central bank introduced a number of measures during the year aimed at enhancing the effectiveness of monetary control. In particular, the decision by the central bank not to meet every request for liquidity put forward by the commercial banks led to an increase in interest rates on the money market. This tighter monetary policy stance led to a sharp deceleration in the growth of the major monetary aggregates in the second half of the year following the slippages observed in the first half. Nevertheless, the major monetary aggregates expanded more rapidly than envisaged by the central bank under its monetary program: M4 grew by 6.5 percent against a target of 5.5 percent, and M3 grew by 11.4 percent as compared to the targeted 9.1 percent.
14. For the current year, both monetary policy and fiscal policy should play a role in moderating domestic demand. The central bank should therefore continue the vigilant monetary policy pursued in 2001, which consisted of limiting access to refinancing whenever surplus liquidity or a slippage in the money aggregates was observed, even if this entails an increase in interest rates. The central bank's monetary program for 2002, which calls for a marked slowdown in the growth of monetary aggregates by more than the expected deceleration in economic activity, and an increase in credit to the economy in line with the nominal GDP growth (these grew by 10.4 percent and 7.9 percent respectively in 2001), would appear to be a step in the right direction.
II. Strengthened Macroeconomic Policies
15. The authorities have made substantial progress in strengthening the financial system. Their desire to conduct a more active monetary policy and to gradually liberalize capital movements so as to take advantage of the opportunities arising from increased integration and achieve a higher growth rate, would suggest that a re-examination of macroeconomic policies as a whole is underway.
A. Conduct of Monetary Policy
16. The central bank has already made major strides toward a more dynamic monetary policy, including: differentiating between the auction rate and the rates at which liquidity is injected into and withdrawn from the system; introducing 3-month reverse repurchase agreements; improving liquidity management by linking bank refinancing more closely with monetary policy objectives; and, reducing the role of claims on "priority sectors" as collateral for bank refinancing. The framework for implementing monetary policy should be defined more precisely. The adoption of price stability as the principle objective means that of credit policy considerations in the implementation of monetary policy must be abandoned completely.
17. The central bank should select and announce its intermediate monetary target, such as the rate of expansion of M3 or M4 (in accordance with the timetable for phasing out the transferable Treasury bills), and its operational target, for example, such as central bank. money. The work already underway with respect to forecasting bank liquidity, will make it possible to clearly define the BCT's intervention in the money market in terms of operational targets.
B. Exchange Rate Policy
18. The pragmatic approach to exchange rate policy has yielded positive results in terms of exports. A more flexible exchange rate policy helped to relieve pressures on the current account of the balance of payment. However, exchange rate depreciation should not take the place of the fiscal adjustment and tighter monetary policy needed to address the external imbalance. After establishing a transparent monetary policy framework, the central bank should gradually reduce its exchange market intervention and allow the dinar to float more freely with a view to establishing a fully floating exchange rate regime. To this end, the following measures would contribute to the development of the exchange market:
· eliminating the obligation to level foreign exchange positions;
· abandoning the publication of a buying and selling rate on the exchange market; the BCT could confine itself to publishing the average exchange rate at the end of the day;
· eliminating of the obligation to surrender a portion of export receipts; and,
· authorizing agents to retain foreign exchange holdings in accounts maintained with commercial banks.
19. This would help to deepen the foreign exchange market and encourage the development of the forward market. Before permitting the dinar to float fully, it would be necessary to increase the central bank's foreign exchange reserves and to define an appropriate monetary framework.
C. Liberalization of Capital Movements
20. The convertibility of the dinar is already well advanced for nonresidents, given their ability to establish convertible dinar accounts with Tunisian banks. Significant progress with respect to the liberalization of residents' capital operations has also been made. These changes are an integral part of the process of Tunisia's increased opening and integration into the global economy.
21. Before major new steps are taken toward full convertibility of the dinar, it would appear essential to do the following:
· Establish a solid framework for monetary policy as defined earlier. This framework could serve as the anchor on which the expectations of economic agents regarding inflation and the exchange rate are based.
· Establish a fully floating exchange rate regime for the dinar. Continued pegging of the exchange rate could lead to speculative attacks and the creation of implicit government guarantees of the exchange rate.
· Continue the strengthening of the banking sector, and the development of prudential regulations already successfully underway.
22. With a view to diversifying the sources of financing for the balance of payments, it nonetheless appears possible now to liberalize a number of capital account transactions without undermining the recent change in exchange rate policy and monetary policy. In this connection, the following measures could be adopted:
· Eliminating the mandatory request for authorization by nonresident investors contemplating an equity interest exceeding 50 percent.
· Authorizing the investment by nonresidents in negotiable securities up to an overall ceiling.
· Liberalizing medium- and long-term borrowing by Tunisian enterprises and banks listed on the stock exchange or ranked by a rating agency. Any related exchange rate risk must be assumed by the banks and enterprises themselves.
23. A tentative timetable for a convertibility program has been discussed with the authorities by the technical team of the Monetary and Exchange Affairs Department (MAE) of the IMF.
III. Public Finances
24. The fiscal situation appears sustainable in the medium term. In addition, the mission congratulates the authorities on their decision to address the anticipated deterioration in the accounts of the Social Security Fund (CSS). The authorities have launched an in-depth study with assistance from the World Bank the conclusions and recommendations of which are expected by the end of the year. Pending comprehensive reform, a number of intermediate measures have been taken to ensure the financial equilibrium of the National Retirement and Social Security Fund (CNRPS) until 2005.
25. Moreover, the adoption of the new tax code should make it possible to improve tax collection in an environment of greater transparency.
26. However, efforts to reduce the budget deficit in the medium term in a context of tariff reduction will make it necessary to address budget rigidities forthrightly. The biggest rigidity relates to the wage bill, which increased from 11.8 percent of GDP in 2000 to 12 percent of GDP in 2001 (including contributions to the CSS). This level is extremely high by international standards and, barring a reduction in this ratio, it will be difficult to generate the public savings needed to achieve the medium-term growth objectives set forth in the authorities' Xth Plan. It will be necessary to limit hiring and, to the extent possible, meet new staffing needs through personnel redeployment. However, the mission believes that additional measures are necessary and encourages the authorities to plan a fundamental reform of the civil service consistent with enhancing the role of the private sector in the provision of certain public services.
IV. Structural Reforms and Medium-Term Outlook
27. To achieve the objectives of increasing economic growth and reducing unemployment, the structural reform process aimed at promoting increased productivity need to be accelerated. In this connection, major reforms have already been initiated in the context of the ECAL III program with the World Bank, the African Development Bank, and the European Union. These reforms should lead, among other things, to the sale of the second GSM license, which is expected in the near future, to the privatization of the UIB and the Banque du Sud, and to the restructuring of the insurance sector.
28. The central bank has already begun to implement several of the recommendations of the Financial Sector Assessment Program (FSAP), including those related to financial legislation, the supervision of institutions and markets, and the strengthening of the banking sector. The efforts aimed at improving the collection of nonperforming loans and promoting their full provisioning need to be pursued further. This will contribute to strengthening the credit culture and to reducing the proportion of downgraded claims, which keep intermediation costs high and reduce the efficiency of credit allocation. In conjunction with the Article IV consultation, the IMF staff will submit to the Executive Board the Financial System Stability Assessment (FSSA) report which summarize the conclusions of the FSAP and describe the recent progress made by the authorities in this area.
29. Among the numerous areas worthy of structural reform, the mission wishes to stress the importance of a few key issues.
· The Association Agreement with the European Union needs to be fully implemented, including its components relating to services, the right to establish businesses, and the regulation of competition. The reduction in tariffs vis-à-vis the European Union should be accompanied by a reduction in the customs duties applied to countries outside the European Union in order to minimize the risk of distorting trade flows. The efforts already initiated with a view to increasing regional integration should be accompanied by a harmonization of the various bilateral and regional trade agreements to which Tunisia is a party.
· Customs procedures should be modernized and simplified. This would facilitate regional economic integration and integration with the European Union. Technical assistance is available from the IMF in this regard.
· Efforts aimed at promoting investment should be concentrated on establishing an environment in which all enterprises can compete on the same terms. In this regard, the mission considers that the rationalization of tax expenditures, which at 1.7 percent of GDP represent a considerable drain on the budget, is a reform path that merits immediate exploration. This streamlining could be based on the recommendations of the study being prepared under the ECAL III on the effectiveness of tax related benefits. The disparate treatment of the on-shore and off-shore sectors should also be eliminated over time, since it is becoming more and more difficult to justify in the context of increasing economic integration. This institutional separation as led to a dichotomy between the two sectors whereby the on-shore sector is much less prepared to face international competition compared to the off-shore sector.
· The privatization program and the outsourcing of public services needs to be intensified. These have advanced more slowly than justified in view of existing possibilities.
· Domestic prices should be further liberalized and import monopolies dismantled. The proportion of prices subject to control by the state has remained unchanged at 19.5 percent since 1997. Eliminating the price supports for basic foodstuffs would allow market forces to enhance supply and rationalize demand in the affected sectors.
30. Continuing these reforms should lead to productivity gains and enable Tunisia to achieve average economic growth about 6 percent over the period covered by the Xth Plan (assuming "normal" agricultural output). To ensure the investment necessary to reach this objective while reducing the balance of payments deficit to a sustainable level of less than 3 percent of GDP, national savings must increase by nearly 3 percentage points of GDP to 26 percent of GDP in 2007. This improvement should be achievable with an increase in public savings corresponding to a fiscal adjustment of almost 1.5 percentage points of GDP over the period and the favorable impact of structural reforms on private saving. The macroeconomic orientations espoused by the authorities in the context of the Xth Plan appear to be consistent with these assumptions.
V. Other Issues
31. The mission received a written response by the authorities to the questionnaire prepared by Fund staff on combating the financing of terrorism and money laundering. Tunisia has taken several initiatives in this regard, and the mission encourages the authorities to incorporate them into a unified legislative framework. The mission intends to present a summary of these initiatives in the final Article IV consultation report.
32. The mission congratulates the authorities for the initiatives they have taken to enhance the transparency of economic policy, and in particular for their decision to publish the mission's preliminary conclusions, the final Staff Report, and the FSSA report.
33. The mission commends the authorities for their participation in the FSAP, the principal recommendations of which have already been implemented.
34. It was agreed that the next interim staff visit will take place in September 2002.
IMF EXTERNAL RELATIONS DEPARTMENT