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El Salvador and the IMF
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The IMF Executive Board on February 20, 1998 concluded the 1997 Article IV consultation1 with El Salvador.
Economic activity continued the recovery initiated in late 1996, and real GDP growth accelerated to 3.8 percent in 1997 from 2 percent in 1996 led mainly by a strong rebound in exports and continued growth of the financial sector, while activity in the construction sector expanded on account of low income housing. At the same time, inflation declined to 1.9 percent during 1997 from 7.4 percent a year earlier helped by a prudent monetary policy, falling international prices of oil and cereals, and the appreciation of the dollar to which the colón is pegged. The external current account position continued to strengthen in 1997 as coffee exports grew by about 50 percent (26 percent increase in prices and 18 percent in volume). Also, nontraditional exports grew by 20 percent (5 percent in 1996) reflecting both a recovery of the Central American market and penetration of new markets niches. The sharp deceleration of inflation during 1997 to below that of the trading partners for the first time in the 1990s contributed to slow down the real effective appreciation of the colón stemming from the appreciation of the U.S. dollar.
The fiscal position also improved in 1997, with the overall public sector deficit (before grants) declining to 2 percent of GDP from 2.6 percent the previous year. The public finances were affected negatively in 1997 by a significant shortfall in tax revenue despite further efforts in tax administration. In response, the authorities took steps to enhance VAT collections, cut public expenditure, including by maintaining the freeze on public sector wages for the second consecutive year and postponing transfers and capital outlays to 1998, and tightened monetary policy.
The financial system was affected by the spillover from the collapse in July 1997 of two small financial institutions. To bolster confidence, and also to sterilize the increase in foreign exchange reserves, the central bank contained the reduction in the interest rates to significantly less than the drop in inflation. At the same time, however, growth of credit to the private sector accelerated during 1997 (to 15.5 percent in real terms from 7.6 percent during 1996), while broad money expanded in real terms at a somewhat faster pace than in 1996.
Progress was made in 1997 on structural reforms, including the modernization of the public sector, reduction of import duties, environmental policy, and an innovative community-managed school program. Also, the superintendency of pensions became operative in June 1997, with private managers of individual accounts expected to start operations by June 1998. Four electricity distribution companies were privatized in January 1998, and the privatization of the telephone company is underway with the sale to be completed by June 1998.
Executive Board Assessment
Executive Directors were in agreement with the thrust of the staff appraisal. They noted that in 1997 the pace of economic activity accelerated significantly, inflation fell below that of trading partners, and the external current account strengthened further, mainly owing to a sharp recovery of nontraditional exports and maquila, and a large gain in the terms of trade on account of coffee prices. However, the fiscal position improved less than had been envisaged in the program mainly because of a shortfall in tax revenues. Moreover, the structural reform process slowed down, reflecting delays in the privatization of the telephone company (ANTEL) and in the implementation of the pension reform.
Directors welcomed the authorities’ prompt and decisive response to the shortfalls in revenue in 1997 by curtailing and postponing expenditure, and tightening monetary policy. These actions were particularly commendable, given the political pressures faced by the government to loosen policies before and following the elections, and in view of the difficulties experienced by the financial system. Directors welcomed the authorities’ intention to maintain financial discipline, and they supported the request for the extension and rephasing of the Stand-By Arrangement to May 30, 1998.
Directors underscored the need to keep public finances under control in 1998, while maintaining a monetary policy that would slow the rapid credit expansion to the private sector.Directors welcomed the authorities’ efforts to improve tax collections and their commitment to tighten fiscal targets under the program if additional revenues were to materialize. The need to address the issue of declining tax revenues stemming from the reduction in import duties with a view to achieving a sustainable fiscal position over the medium term was also underscored by Directors.
Directors welcomed the resumption of privatization of public utilities, which will contribute to increasing productivity and strengthening external competitiveness, while increasing the country’s exposure to investment opportunities by foreign investors. Directors noted that pressures to spend a larger portion of the privatization proceeds than envisaged in the program for 1998 should be resisted so as not to put pressure on domestic prices; this is essential to preventing a further loss of competitiveness and, consequently, to sustaining higher rates of growth. In this context, they supported the authorities’ decision to use a large part of the larger-than-expected proceeds from the sale of the electricity distribution companies to repay the outstanding external short-term debt, and to create a special investment fund with the remainder of the proceeds, including from the sale of ANTEL, to finance investment outlays over a three-year period.
Directors welcomed the authorities’ initiative to strengthen banking supervision, and welcomed the decision to improve the operation of indirect instruments of monetary control.
While Directors noted that the exchange rate peg had supported the authorities’ stabilization efforts, they emphasized the importance of monitoring closely the impact of the exchange rate on the external position.
It is expected that the next Article IV consultation with El Salvador will be held on the standard 12-month cycle.
|El Salvador: Selected Economic Indicators|
|(Annual percentage changes; unless otherwise specified)|
|Output and prices|
|Consumer prices (end-of-period)||8.9||11.4||7.4||1.9||3.5|
|Unemployment rate (in percent of the labor force)||7.7||7.7||7.7||7.8||...|
|Real effective exchange rate (depreciation -)||1.7||7.7||5.0||4.5||...|
|Interest rate (180-day deposits, in percent)||13.0||16.4||12.0||12.7||...|
|Money and credit1|
|Net domestic assets of the financial system||17.5||16.5||14.4||8.0||3.4|
|Credit to the private sector||16.3||23.3||13.1||15.5||10.9|
|Liabilities to the private sector||18.3||12.7||17.3||12.3||12.3|
|(In percent of GDP; unless otherwise specified)|
|Nonfinancial public sector|
|Social Security Agency||0.3||0.3||0.2||0.1||0.1|
|Savings and investment|
|Gross domestic investment||19.8||20.3||16.2||16.2||17.3|
|Gross national savings||16.1||15.5||14.0||15.1||15.1|
|External current account before grants (deficit -)||-3.7||-4.8||-2.2||-1.1||-2.2|
|Overall balance of payments (in millions of U.S. dollars)||143||147||165||362||410|
|(in months of imports)||4.2||3.9||4.9||5.9||7.0|
|External public debt||25.6||23.7||24.4||24.4||20.9|
Sources: Ministry of Finance; Central Reserve Bank; and IMF staff estimates and
1In relation to liabilities of the financial system to the private sector at the beginning of the period.
1Under Article IV of the IMF's Articles of Agreement, the IMF holds bilateral discussions with members, usually every year. A staff team visits the country, collects economic and financial information, and discusses with officials the country's economic developments and policies. On return to headquarters, the staff prepares a report, which forms the basis for discussion by the Executive Board. At the conclusion of the discussion, the Managing Director, as Chairman of the Board, summarizes the views of directors, and this summary is transmitted to the country's authorities. In this PIN, the main features of the Board's discussion are described.
IMF EXTERNAL RELATIONS DEPARTMENT