IMF Executive Board Concludes First Post-Program Monitoring Review with the Dominican RepublicPublic Information Notice (PIN) No. 09/06
January 22, 2009
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 January 12, 2009, the Executive Board of the International Monetary Fund (IMF) concluded the first post-program monitoring review with the Dominican Republic.1
Macroeconomic performance was uneven in the Dominican Republic in 2008 in the context of the difficult external environment. Following natural disasters at end-2007, the country's terms of trade deteriorated sharply through the first half of 2008. While GDP continued to expand solidly in the first half of the year, falling nickel prices and rising food and energy prices led to sharp increases in the fiscal and external current account deficits, and inflation accelerated to nearly 15 percent in the third quarter. With food and energy prices having fallen sharply since October, pari passu with the global economic slowdown and international financial crisis, inflation has fallen rapidly, and ended the year at 4.5 percent, the lowest level in seven years, and half the rate in 2007.
Developments in 2008 were met with a mix of loose fiscal and tight monetary policies. Public spending was increased, in large part, to shield the economy from the deterioration in the terms of trade. In this circumstance, monetary policy was the anchor for macroeconomic stability, with the central bank cutting sharply money and credit growth rates to contain second-round effects of higher world food and oil prices on inflation and the external current account deficit. The framework for communicating monetary policy has been strengthened, with the central bank explaining clearly to the public the reasons behind policy interest rates changes.
The domestic financial system has weathered the immediate effects of the international financial crisis. The exchange rate has been managed in a manner to ensure an orderly depreciation of the peso against the U.S. dollar and appears broadly in line with macro-fundamentals. Banks' exposure to foreign credit lines has been very limited since the 2003-04 financial crisis, and prudential indicators point to liquidity and capital buffers that will allow banks to withstand moderate stress.
Executive Board Assessment
With demand pressures now contained, the economy slowing, and the recent reduction in food and fuel prices, the run-up in inflation seen earlier in 2008 has been reversed in the Dominican Republic. Monetary and exchange rate policies have been the anchors to contain inflationary expectations and maintain macroeconomic stability in 2008. However, the fiscal and current account deficits widened in 2008, and the growth outlook for 2009 has weakened markedly. Directors observed that the external environment remains a key downside risk for the economy.
Against this background, Directors welcomed the authorities' macroeconomic policy framework for 2009, aimed at rebalancing fiscal and monetary policies and positioning the Dominican Republic to weather well the sharp deterioration in the external environment. The prudent fiscal consolidation planned for 2009 should help relieve pressure on the external accounts and provide room for monetary easing. Directors supported the authorities' intentions to limit public expenditures to the likely constrained financing availability in order to sustain market confidence. They welcomed the structural reforms to improve the finances of the energy sector and limit its fiscal burden, and looked forward to enhance targeting of assistance to the poorest. Directors observed that the central bank's financial independence, accountability, and credibility will be enhanced by putting central bank recapitalization back on track.
Directors considered that exchange rate stability has served the economy well. Directors took note of the staff assessment that the real effective exchange rate is broadly in line with fundamentals. With the substantial uncertainties in the global economic outlook, and in the event that sufficient financing for the external current account does not materialize, imports would need to contract and, in that scenario, the authorities were encouraged to consider a less tightly managed exchange rate to help cushion potential external shocks and to facilitate the conduct of monetary policy.
Directors welcomed that the banking system is well capitalized, liquid, and profitable, and that stress tests indicate that it would be robust to moderate shocks. In light of international financial uncertainty, Directors recommended that supervisory vigilance be maintained, and that crisis management tools and crisis preparedness frameworks be enhanced. They welcomed the Financial Sector Assessment Program update scheduled for early 2009, which should help establish a reform agenda and advance risk-based consolidated bank supervision and regulation. Directors encouraged the authorities to remove the remaining weaknesses in the legal framework for the planned international financial free-trade zone before moving ahead.