IMF Survey : With External Support, Vanuatu’s Recovery Builds on Prudent Past
July 6, 2015
- Vanuatu faces challenge of rebuilding productive capacity
- Post-reconstruction, over the medium term, Vanuatu needs to rebuild fiscal buffers
- IMF providing policy advice, technical assistance, financial support to island state
Vanuatu’s low public debt, and ample foreign exchange reserves, combined with international assistance, are helping the island nation deal with the fallout from the destructive tropical cyclone that swept through the country in mid-March.
REBUILDING AFTER DISASTERS
The government is working with development partners to secure external support for the reconstruction effort—primarily through grants. But some borrowing will be inevitable.
Reconstruction costs are estimated to add up to around 40 percent of GDP, of which around half will be paid by the public sector. But the country’s prudence in the past means public debt is fairly low, and the government has room to borrow.
The main challenges facing the country are restoring the country’s productive capacity, and rebuilding the social and physical infrastructure, while protecting vulnerable groups. Once reconstruction is over, the government should start rebuilding fiscal buffers by mobilizing additional revenues, and strengthening spending discipline.
Cyclone affected two-thirds of population
Category five tropical Cyclone Pam ripped through Vanuatu in March with winds of up to 250 km per hour, killing eleven people, and inflicting severe damage. The impact was particularly heavy on central and southern provinces, including the capital city of Port Vila.
The cyclone, which affected two-thirds of the population, damaged or destroyed much of the housing stock, disrupted food and water supply, cut off electricity and communication, and forced many schools and medical facilities to close.
A forceful response—helped by swift and generous assistance from development partners—averted a humanitarian crisis, but the country faces considerable challenges.
Economy expected to contract by 2 percent
The value of damaged property, and lost output is estimated at 61 percent of Vanuatu’s GDP. Even though reconstruction activity will partially offset the impact of Cyclone Pam on output, the economy is expected to contract by 2 percent this year.
The two sectors most severely affected by the cyclone—tourism and agriculture—are the main generators of export earnings. With several major hotels closed, and many crops damaged, Vanuatu’s exports of goods and services can be expected to decline substantially this year, even as domestic shortages and reconstruction spending boost imports.
As a result, the trade balance is likely to deteriorate substantially, even if temporarily, putting pressure on Vanuatu’s international reserves even though they were maintained at a prudent level before the cyclone.
‘Quick, unbureaucratic’ IMF support
The IMF’s Managing Director Christine Lagarde has promised “quick, unbureaucratic steps” to help Vanuatu deal with the aftermath of the catastrophe, and rebuild the economy.
An IMF mission was in the field a month after the cyclone, helping the authorities assess the economic impact and formulate policies for the recovery period. It also evaluated the potential effect of the cyclone on Vanuatu’s international reserves.
The country’s request for $23.8 million from the IMF in the form of zero-interest, and low-interest loans was approved on June 5, and the Reserve Bank of Vanuatu has already received the money to bolster its international reserves. The IMF is also boosting its technical assistance to Vanuatu in several priority areas.
Vanuatu’s capacity to deal promptly and flexibly with future natural disasters would be enhanced by greater reliance on insurance, and by setting up a contingency fund, while strengthening resilience by building more robust infrastructure.
As part of the reconstruction effort, the authorities may also wish to review their infrastructure investment program to make sure that the plans are aligned with national development priorities, implementation capacity, and fiscal space.
The island state should also be prepared to deal with pressures on its banking system. A reduction in the reserve requirement, and other measures helped avoid a liquidity crunch. The main concern now is the expected increase in non-performing loans. The authorities should be vigilant, and make sure that banks maintain adequate capital buffers. It will be important to assess the condition of bank balance sheets once the situation stabilizes.
Cyclone Pam is a vivid reminder of the growing impact of climate change and natural disasters on small states. It demonstrates the need for enhanced resilience, stronger insurance mechanisms, and swift international response. These issues were discussed during a recent high-level dialogue of senior officials of Pacific islands and development partners.