IMF Executive Board Concludes 2007 Article IV Consultation with Bhutan

Public Information Notice (PIN) No. 07/129
October 12, 2007

Public Information Notices (PINs) form part of the IMF's efforts to promote transparency of the IMF's views and analysis of economic developments and policies. With the consent of the country (or countries) concerned, PINs are issued after Executive Board discussions of Article IV consultations with member countries, of its surveillance of developments at the regional level, of post-program monitoring, and of ex post assessments of member countries with longer-term program engagements. PINs are also issued after Executive Board discussions of general policy matters, unless otherwise decided by the Executive Board in a particular case.

On October 5, 2007, the Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation with Bhutan.1


Political stability and prudent economic management continue to contribute to a significant rise in living standards and development indicators in Bhutan. Significant political changes are in the offing, but the authorities are taking steps to ensure the continuation of sound policies.

Growth remained robust and macroeconomic outcomes were broadly favorable during 2005/06 (July 2005 -June 2006) and 2006/07. Economic growth was fueled by continued work on the Tala hydropower project, public investment in infrastructure, and private investment in housing. In addition, the services sector performed strongly driven by trade and financial sector. Real GDP growth is estimated to have almost doubled from 9 percent in 2005/06 to 17 percent in 2006/07, with much of Tala coming on stream. Inflation remained in line with price developments in India.

Large shifts in the fiscal position reflected a combination of revenue, expenditure, and aid volatility. In 2005/06, a shortfall in excise duty refunds from India was more than offset by higher grants and lower capital spending. The budget made a net repayment to the banking system of ¾ percent of GDP. In 2006/07, the domestically financed deficit (2 percent) was higher-than-budgeted (1½ percent of GDP). The main factors were a revenue shortfall (from continued shortfall in excise duty refunds from India), higher-than-budgeted spending, and lower-than-budgeted loan inflows.

Although the public debt-to-GDP ratio rose, debt service obligations remained manageable. Public debt doubled to over 80 percent of GDP at end-2005/06 from mid-2000. The bulk of the increase was rupee borrowings from India for Tala. Domestic financing of budget deficits—in particular, purchase of an aircraft at a cost of about US$39 million (4½ percent of GDP) for state-owned Druk Air—also contributed to the increase in the public debt ratio. However, with debt service payments on Tala scheduled to begin only in 2007/08, the debt service ratio remained around 6(10) percent of exports (revenue) during the past five years.

The balance of payments remained in surplus and total international reserves rose. The trade balance improved in 2005/06, as exports to countries other than India rose significantly. In 2006/07, electricity exports from Tala shifted the trade balance into a small surplus. Together with a projected surplus in the capital and financial account related to continued disbursements for Tala and other external assistance, the total reserve cover (convertible currency and Indian rupees) at end-2006/07 was over nine months of goods and services imports.

Bhutan's economic prospects are bright. Construction of two hydropower projects will help sustain real GDP growth over the medium term. With the exchange rate peg to the Indian rupee, inflation is expected to be in line with price developments in India. The overall balance of payments is projected to be in surplus and would help maintain adequate international reserves.

Executive Board Assessment

Executive Directors commended Bhutan's prudent macroeconomic policies and political stability, which have yielded robust growth, an appreciable improvement in social indicators, and progress toward meeting the Millennium Development Goals, contributing to a solid foundation for the transition to a constitutional monarchy in 2008.

Directors welcomed the favorable macroeconomic outcomes and good medium-term growth prospects. Rapid real GDP and per capita income growth over the last decade was led by the Tala hydroelectric power project. The additional power projects in the pipeline, with strong donor support, would maintain the growth momentum. Inflation has remained in line with price developments in India and overall international reserves have remained adequate.

On monetary management, Directors called on the Royal Monetary Authority (RMA) to remain watchful of excess liquidity and rapid credit growth. They welcomed the steps being taken to tighten monetary conditions to deal with the temporary shortfall in rupee reserves and rein in private sector credit growth. They recommended enhancing the RMA's capacity in monetary and foreign exchange reserve management, and supported the authorities' request for Fund technical assistance in this area.

Directors highlighted the need to limit the balance sheet exposures of financial institutions to sectoral and macroeconomic risks, and to improve the ability of these institutions to monitor and manage such risks. The development of government securities markets over the medium term should help manage liquidity and provide alternative investment vehicles for financial institutions. Directors encouraged the RMA to further enhance its capacity for financial sector supervision.

Directors agreed that the exchange rate peg of the ngultrum to the Indian rupee and the level of the peg remain appropriate. The peg has anchored inflation expectations and facilitated trade with India. Should the revenues from the Tala project lead to upward pressures on the real exchange rate, fiscal tightening to moderate a rise in the prices of nontradable goods could mitigate such pressures. Over the medium term, competitiveness could be enhanced by raising private sector productivity.

Directors underscored the importance of ensuring fiscal sustainability by limiting domestically financed deficits and mobilizing external aid on a timely basis. This would help to maintain the public debt-to-GDP ratio on a downward trajectory. Directors supported efforts to raise domestic revenues by broadening the tax base and strengthening tax administration, including through a rationalization of the sales tax and import duty rates. They encouraged the authorities to plan expenditure in a medium-term framework. Directors concluded that Bhutan's risk of external debt distress is moderate, reflecting the authorities' good record of implementation of externally financed hydroelectric projects, high level of overall foreign exchange reserves, and strong external donor support for the power sector projects.

Directors advised the authorities to accord high priority to private sector development and economic diversification to ensure job creation. This would help overcome the constraints of Bhutan's landlocked location and small size. Key reforms include aligning Bhutan's education system to market needs, strengthening infrastructure, and further streamlining the regulatory regime. Directors welcomed Bhutan's plans to join the World Trade Organization.

Directors considered that Bhutan's strong external position provides scope for further gradual liberalization of exchange restrictions. The authorities were encouraged to eliminate restrictions subject to approval under Article VIII as soon as possible, and to eliminate the restrictions maintained under Article XIV as soon as Bhutan's balance of payments position permits. Fund technical assistance to help develop a foreign exchange market and market-based instruments to manage hard currency flows would facilitate the elimination of these restrictions and allay concerns about their removal.

Directors welcomed the authorities' efforts to strengthen Bhutan's statistical data. In particular, data in the fiscal and external sectors need to be upgraded.

Bhutan: Selected Economic and Financial Indicators, 2003/04-2007/08 1/
  2003/04 2004/05 2005/06 2006/07 2007/08
      Est. Est. Proj.

Real sector


Real GDP at market prices
(percent change)

7.2 6.9 9.1 17.0 14.4

Consumer prices (percent
change, period average)

4.3 4.8 4.9 5.0 4.8

Nominal GDP (at market prices; billions of ngultrum)

30.7 34.5 39.3 48.0 57.7

General government

(In percent of GDP)

Total revenue and grants

33.9 30.3 33.9 35.1 30.7

Of which: foreign grants

17.5 12.7 16.3 14.0 11.1

Total expenditure and net lending

32.1 37.4 35.0 38.2 36.5

Of which: capital expenditure

17.1 19.8 17.3 21.0 18.4

Current balance (excluding grants)

-0.3 -0.3 0.6 4.0 0.9

Overall balance (excluding grants)

-15.7 -19.8 -17.5 -17.1 -16.8

Overall balance (including grants)

1.8 -7.1 -1.1 -3.1 -5.8

Public sector debt 2/

84.7 86.3 81.9 71.3 73.5
Monetary sector 3/ (Percent change, unless otherwise indicated)

Broad money

4.0 10.7 24.8 7.6 ...

Credit to private sector

35.9 29.3 33.3 31.8 ...

Interest rates (end of period, in percent)


Deposits (less than 1 year)

6.0 4.5 4.5 4.5 ...


10-16 10-16 10-16 10-15 ...

External sector

(In millions of U.S. dollars, unless otherwise indicated)

Current account balance

-73 -217 -29 116 141

(In percent of GDP) 4/

-10.8 -28.2 -3.3 10.6 10.1

Trade balance

-105 -249 -123 12 88

Exports (goods)

158 212 312 521 687

(percent change)

39.7 34.5 47.2 66.9 31.8

Imports (goods)

263 461 435 509 598

(percent change)

27.3 75.5 -5.6 17.0 17.6

Grants (current transfer)

94 120 176 158 188

Loans (net)

103 78 78 16 -13

Overall balance

8 -21 111 45 165

(In percent of GDP)

1.2 -2.7 12.6 4.2 11.8

Gross official reserves

383 367 479 524 689

(In months of goods and services imports)

8.9 8.9 9.8 9.2 9.8

External debt (in percent of GDP)

78.2 78.7 77.5 64.8 64.0

Of which: power sector debt

53.8 55.7 53.6 44.0 45.8

Debt service ratio (in percent of G&S exports)

4.2 7.2 5.8 4.0 14.2

Ngultrum per US$ (period average)

45.4 44.6 44.7 44.2 ...

Memorandum items:


Electricity exports (in percent of total goods exports)

40.3 31.0 25.1 26.6 34.7

Unemployment rate (in percent) 5/

1.8 2.5 3.1 ... ...

Sources: Data provided by the Bhutanese authorities; and IMF staff estimates and projections.

1/ Fiscal year begins July 1.

2/ Public and publicly-guaranteed debt, including loans for hydropower projects and the purchases of one aircraft. Including interest during construction for Tala from 2007/08 onwards.

3/ 12-month percent change in June. 2006/07 monetary data are IMF projection, and interest rate data are actual as of April 2007.

4/ In 2004/05, includes the import of two aircraft amounting to US$78 million.

5/ On a calendar year basis, e.g., the entry for 2005/06 is for 2005.

1 Under 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 Executive Directors, and this summary is transmitted to the country's authorities.


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