## IMPLICATIONS OF INTERNATIONAL TAX TRANSPARENCY AND ANTI-TAX AVOIDANCE INITIATIVES FOR MAURITIUS

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### A. Background and recent actions
- Mauritius describes itself as a “fully cooperative and responsible” financial center and has participated in: the Common Reporting Standard (CRS) for automatic exchange of financial account information; FATCA with the U.S.; and the Multilateral Instrument (MLI) of the OECD-G20’s BEPS package.
- The OECD Global Forum, in August 2017, rated Mauritius as a compliant jurisdiction for information exchange.
- In July 2017, the authorities signed the BEPS Multilateral Convention (MLI); 67 countries had already signed the previous month.
- Mauritius faces a complaint from the European Commission about the Deemed Foreign Tax Credit (DFTC) available only to Global Business Companies (GBCs). Authorities are considering eliminating the DFTC and introducing a partial exemption system that would exempt from taxation in Mauritius a certain share of qualifying income earned abroad.

### B. GBC sector — scale, features, and vulnerabilities
Key statistics and facts:
- GBC assets at end-2015: US$594 billion.
- GBC assets relative to domestic GDP: roughly 50 times domestic GDP.
- Contribution to GDP (2015): about 6 percent.
- Contribution to tax revenue (2015): 6.5 percent.
- Employment in GBC sector: 15,000-20,000 employees, or about 3 percent of total employment.
- India was the destination for 45 percent of outbound investment from Mauritius in 2015; India also accounted for 8.4 percent of inbound investment.
- Corporate income tax (CIT) rate in Mauritius: 15 percent.
- DFTC effect: reduces the effective CIT rate on foreign income from 15 to 3 percent when applied (80 percent reduction) without proof of foreign tax payment.
- GBC sector’s share of bank credit to the private sector: one-sixth.
- Reported maximum short-term deposit withdrawal at single banks: as much as 15 percent of their GBC deposits within one month.

Structural and policy-relevant features:
- Two types of GBCs:
  - GBC1s: tax residents of Mauritius; can claim foreign tax credits (FTCs) for dividends, royalties, interest and capital gains; can use DFTC (reduces tax liability by 80 percent without proof of foreign tax).
  - GBC2s: treated as non-residents, tax-exempt, subject to less stringent substance and publication requirements.
- Additional favorable tax and regulatory features historically: FTCs for source-country tax sparing; no capital gains tax; no withholding taxes on outbound capital flows; absence of thin capitalization, transfer pricing, or controlled foreign corporation (CFC) rules; extensive network of 42 DTAs.
- GBC1s hold nearly 80 percent of total GBC assets, although GBC1s and GBC2s are roughly equal in number.
- Management Companies (about 165 MCs) provide management functions, accounting, legal services, and due diligence for GBCs.

Macroeconomic and financial linkages and risks:
- GBCs provide major inexpensive funding to banks, but deposits are potentially highly volatile because of investment pattern (inflows from source countries to invest in third countries).
- Banks estimate stable shares of GBC deposit stocks, but the underlying flows can be volatile and have in individual cases produced large short-term outflows (up to 15 percent in one month).
- Banks increasingly lend to GBCs but typically lend only a fraction of what they receive from the sector in funding; most GBC deposits are held as liquid assets at other banks, domestically or abroad.
- Potential spillovers from secular decline in GBC activity or removal of tax benefits include lower bank deposits, fall in employment at management companies and service providers, and broader economic impacts unless the sector transitions to higher value-added activities.

Policy implications for sector transition:
- The sector may need to transition to higher value-added activities such as consulting services and expand into new markets such as Africa, which has received an increasing amount of direct investment by GBC1s in recent years (though still small relative to India).

### C. Implementing the OECD-G20 BEPS initiatives and treaty changes
- Mauritius is a member of the Inclusive Framework on BEPS and has committed to implement BEPS actions and minimum standards; Mauritius participated in technical working groups (e.g., on the Limitation-on-Benefits (LOB) rule under BEPS Action 6).
- In July 2017 Mauritius signed the Multilateral Instrument (MLI) to implement Actions 6 and 14 in existing DTAs; treaties submitted as CTAs: 23 of Mauritius’ DTAs with other MLI signatories have been submitted to the OECD.
- There are 15 BEPS actions; four are designated as minimum standards that all Inclusive Framework members must implement (see Box 1).
- BEPS Action 6 (combating treaty abuse) relies on:
  - Principal Purpose Test (PPT): denies treaty benefits if obtaining that benefit was one of the principal purposes of a transaction, except where granting the benefit is in accordance with the object and purpose of the treaty.
  - Limitation-on-Benefits (LOB) rule: restricts treaty benefits to entities that meet substance and other objective criteria.
- The BEPS Action 6 final report envisaged three approaches to combat treaty abuse: PPT alone; PPT plus a simplified LOB; or a detailed LOB without PPT plus specific anti-conduit rules. The detailed LOB option is not available under the current MLI; countries seeking detailed LOB rules must pursue bilateral negotiations.

Advantages and trade-offs of PPT vs LOB:
- LOB: provides more certainty through objective criteria (legal nature, ownership, services) but does not address treaty shopping via conduit financing structures.
- PPT: allows case-by-case analysis of motive and can be subjective, but is efficient for assessing anti-abuse compliance and works well when complemented by arbitration (BEPS Action 14).

### D. BEPS minimum standards (Box 1)
- BEPS Action 5:
  - Requires substantial activity for preferential regimes (e.g., IP regimes) and limits tax benefits to underlying R&D activities.
  - Focuses the Forum on Harmful Tax Practices (FHTP) on substantial activity for PEs and on exchange of rulings.
- BEPS Action 6:
  - Minimum standard on preventing treaty-shopping and rules to prevent treaty abuse; aims to ensure DTAs serve the intended purpose of preventing double taxation without creating double non-taxation.
  - Mauritius has signed the MLI to update DTAs accordingly.
- BEPS Action 13:
  - Standardized transfer pricing approach, including minimum standard on country-by-country reporting where MNEs record profits and sales, employ staff, hold assets and pay taxes.
  - Mauritius has implemented an obligation for relevant MNEs to file country-by-country reports and signed the Multilateral Competent Authority Agreement to operationalize exchange of reports.
- BEPS Action 14:
  - Aims to make dispute resolution mechanisms more effective through dispute prevention, access to mutual agreement procedures and resolution; several countries including Mauritius committed to introduce arbitration if disputes are not resolved within a certain period.
- The Multilateral Instrument was developed under BEPS Action 15.

### E. Observed and potential policy responses noted in the text
Treaty revisions:
- Mauritius has been active in DTA negotiations; 16 DTAs added in the past 6 years.
- The revised treaty with India (signed May 2016, phased in through end-March 2019) gives India the right to tax capital gains from sales of shares of Indian companies (previously exempt) at the domestic capital gains tax rate (currently 15 percent). During the phase-in period, this tax is applied at half the regular rate. Shares held longer than a year are exempt from tax in India. The exemption for capital gains on shares purchased before April 2017 is grandfathered.
- The exemption from withholding tax on bank interest will be eliminated; the exemption for interest on bank debt incurred before April 2017 will be grandfathered.
- Proceeds from debt instruments will be taxed at a preferential rate of 7.5 percent to encourage investment flows to debt instruments.

Domestic tax policy options under consideration:
- Eliminate the Deemed Foreign Tax Credit (DFTC) and introduce a partial exemption system that exempts from Mauritian taxation a certain share of qualifying foreign income.

Broader strategy:
- Manage macro-financial linkages and bank exposure to volatile GBC deposits.
- Encourage gradual transition of the GBC sector toward higher value-added services and diversification of investment destinations (e.g., Africa).

### MLI implementation: PPT interim measure and LOB bilateral option
- Mauritius has notified the OECD that it will apply the stand-alone PPT as an interim measure for treaty negotiations under the MLI.
- The authorities retain the right to pursue the LOB approach if counterparties so agree in bilateral negotiations.
- Authorities’ concern: applying the stand-alone PPT could cause uncertainty among non-residents using Mauritius as an investment hub because a claimant’s tax authority (for example, in Europe) could deny treaty benefits if an arrangement or transaction does not pass the PPT as administered by that authority.
- The MLI’s relatively vague PPT wording could lead to investor uncertainty, particularly because the LOB option—which would establish more objective eligibility criteria—cannot currently be used for Mauritius’ treaties under the MLI.

Renegotiation outside the MLI: 19 DTAs and the detailed LOB approach
- For the 19 DTAs that Mauritius will renegotiate outside the MLI, the authorities plan to use a detailed LOB rule rather than the PPT.
- Rationale for detailed LOB:
  - Offers flexibility to tailor DTAs to signatories’ needs in bilateral negotiations.
  - Aims to address many treaty-shopping situations based on legal nature, ownership, and activities of entities resident in a treaty partner country.
  - May anchor specific provisions in the treaty that otherwise could be removed under the MLI.
- Possible combination features:
  - Detailed LOB provisions in combination with grandfathering clauses limiting scope of new provisions to newly established firms.
- Timing and review:
  - Renegotiating the non-MLI treaties will need to commence within 18 months.
  - The revised agreements would likely be vetted by the OECD for consistency with the MLI.

OECD scrutiny of GBC2 sector and preferential regimes
- OECD Forum on Harmful Tax Practices (FHTP) potential issues identified for GBC2:
  - Ring-fencing of the GBC2 sector from the domestic economy.
  - Insufficient substance requirements.
- FHTP status:
  - The FHTP has yet to examine the tax system in more detail and then determine whether the preferential regime and Mauritius’ freeport regime are harmful.
  - Certain preferential regimes (global headquarters administration, global treasury activities, shipping, and investment banking) have been found by the FHTP not to be harmful.
- Authorities’ response:
  - Indicated they will address remaining concerns within revision of the DFTC framework and the Financial Services Sector Blueprint currently being elaborated.
- Policy options for the GBC2 sector discussed:
  - Phasing out the GBC2 license.
  - Creating a unified GBC license.
- Concern: the future attractiveness of the GBC2 license may decline if substantial changes increase substance and reporting requirements (including information on ultimate beneficial owners).

EU tax initiative, the Deemed Foreign Tax Credit (DFTC), and proposed reforms
- EC concern:
  - The European Commission (EC) targets “harmful tax regimes” and has notified Mauritius in this context; the EC specifically takes issue with Mauritius’ Deemed Foreign Tax Credit (DFTC).
  - The EC indicated in early 2016 it would assess the GBC tax regime as harmful unless GBCs are systematically taxed at 15 percent like other companies that do not enjoy such a tax credit.
- Potential defensive measures by the EU if Mauritius does not adjust GBC taxation:
  - (i) EU putting Mauritius on a blacklist requiring, inter alia, EU member states to renegotiate DTAs;
  - (ii) EU members taking defensive measures such as imposing punitive withholding taxes on or denying deductions of payments to Mauritius;
  - (iii) European Investment Bank refraining from structuring investments using a GBC.
  - Sanctions would be felt more in the balance of payments than in fiscal accounts, since tax receipts from GBCs are a small fraction of government revenue.
- Authorities’ intended reform:
  - Abolish the DFTC and introduce a partial exemption system to eliminate double taxation by exempting from taxation in Mauritius most foreign-sourced income (especially dividends received abroad and profits from foreign permanent establishments).
  - The partial exemption would be along the lines of the EU Parent-Subsidiary Directive except for no minimum shareholding requirement.
  - The partial exemption would permit some deductible costs (less-than-full exemption) and would be granted only where an arrangement for exchange of information with the source country allows verification.
  - The new system could include substance and anti-avoidance measures; a regular foreign tax credit would remain an option when foreign tax paid exceeds Mauritian tax liability.
  - The new regime would apply to GBCs and other domestic firms alike, addressing the ring-fencing concern that made the DFTC available only to GBC1s.
- Coordination with FHTP:
  - The EC will follow the judgment of the FHTP to avoid double assessment; authorities are working closely with the FHTP and will present reform measures in due course.
- Timing for EC notification:
  - Intended revisions to the tax regime would have to be communicated to the EC before the list of non-cooperative jurisdictions is published towards the end of 2017.

Revenue neutrality and compensation options
- Authorities indicated legal changes should ideally be revenue-neutral.
- Among options contemplated to offset revenue losses from extending tax benefits under a partial exemption system is specific compensatory measures (such as broadening the tax base for certain companies).
- A more detailed proposal for reforming the Mauritian tax framework will be included in the Financial Services Sector Blueprint.

### Conclusions and medium-term outlook for the GBC sector
- Authorities’ approach:
  - Meet OECD-G20 BEPS requirements partly via the Multilateral Instrument (MLI) and partly outside the MLI for special arrangements.
  - Address EC concerns about the preferential tax framework while not materially changing the tax burden for the GBC sector and aiming for revenue-neutral changes.
- Medium-term prospects:
  - A deeper reform of the GBC sector may be needed to preserve competitiveness.
  - Potential measures that could reduce GBC attractiveness:
    - Removing certain tax benefits (e.g., exemption of taxation of capital gains from sales of shares in India).
    - Some DTAs becoming less favorable under BEPS.
    - Upgrading substance requirements, particularly for GBC2s.
  - Policy response may require a concerted effort to revisit the GBC business model and move the sector towards higher-value activities (e.g., consulting services) and reorient geographical focus towards destinations with high potential such as African countries.
  - More work is needed on measuring competitiveness of the GBC sector vis-à-vis other offshore centers offering similar frameworks.

### Prepared by
- *Prepared by Torsten Wezel.*

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### Despite efforts to improve its monetary policy framework, Mauritius does not appear to abide by most core principles
- The Bank of Mauritius (BOM) has undertaken initiatives to strengthen its monetary policy framework, but it "does not appear to abide by most of the core principles that characterize an effective monetary policy framework."
- Five areas for improvement are identified: clarity regarding monetary policy objectives, having an explicit or implicit inflation objective to anchor inflation expectations, putting in place an effective operational framework, and articulation and communication of the monetary policy framework.

Multiple objectives, foreign exchange interventions, and exchange rate role
- De jure the BOM cites price stability as its core objective, but de facto the BOM appears to pursue multiple objectives, including exchange rate management and avoidance of central bank losses.
- BOM’s systematic intervention in the foreign exchange market involves large and unsterilized operations, suggesting additional objectives such as leaning against appreciation and preserving export competitiveness.
- Lack of clarity about the role of the exchange rate risks policy inconsistencies under the impossible trinity: pursuing an independent monetary policy is difficult with an inflexible exchange rate under an open capital account.
- BOM’s purchase of foreign exchange is intended to build reserves, but one-way interventions and unsterilized operations inject domestic liquidity, exerting downward pressure on interest rates and complicating monetary policy if inflationary pressures build.

Inflation objective, expectations, and communication
- Mauritius does not have a clearly defined numerical inflation objective: "there is presently no firm commitment to a specific numerical inflation objective."
- The BOM has an implicit inflation objective in practice but the absence of a clearly communicated numerical target hinders formation of inflation expectations and assessment of monetary policy success.
- The monetary policy framework is not clearly articulated or communicated; the nominal anchor is not clearly articulated even though the ultimate objective is enshrined in law.
- In practice the exchange rate appears to play an anchoring role, but the articulation of the framework does not reference the exchange rate’s role.

Operational framework, excess liquidity drivers, and sterilization
- Excess domestic currency liquidity in the money market hinders the functioning of BOM’s operational framework.
- Sources of excess liquidity include conversion of government external borrowing into domestic currency and accumulation of reserves through unsterilized FX intervention.
- Excess liquidity peaked in April 2015; excess liquidity declined on average between end-2015 and end-2016 due to issuance of BoM bonds and Treasury bills and sterilized FX interventions, but excess liquidity has recently been on the rise.
- Autonomous supply factors and evidence indicate unsterilized foreign exchange interventions are a major driver of excess liquidity.
- Sterilization efforts by BOM "do not fully offset domestic liquidity injection that stems from foreign exchange interventions."
- Concerns about sterilization costs and effects on BOM’s balance sheet led to a passive liquidity management strategy; balance sheet constraints have constrained sterilization efforts despite availability of instruments.
- There is evidence of a strong relationship between official reserves and excess liquidity: "y = 0.0792x -2225.3" and "R² = 0.657."

Interest rate transmission, interbank market, and market infrastructure
- Chronic excess liquidity causes the interbank rate to diverge from policy rates, severely weakening the interest rate transmission channel.
- During moderate excess liquidity, policy rate and interbank rate moved closely together; as excess liquidity mounted the wedge widened and continues to distort monetary policy signals and credibility.
- The policy rate co-moves with deposit and lending rates partly through moral suasion.
- The "indicative" corridor is set at 125 bps around the key repo rate, but it is ineffective because there is no permanent standing lending and deposit facilities; the corridor is operated at the initiative of the BOM rather than by commercial banks.
- An inactive secondary bond market and some restrictions on access to lending facilities by BOM contribute to banks’ need to maintain large excess reserve balances.
- Market segmentation and skewed liquidity distribution: a few highly liquid large banks and several small banks create reluctance of large banks to lend to smaller banks, impairing interbank market efficiency.

Principles of an effective monetary policy framework (Box 1)
- The Fund’s seven core principles for an effective monetary policy framework include (preserved wording and order):
  - (a) The central bank should have a clear mandate in terms of goals, and operational independence to pursue these goals, within the context of public accountability. Most importantly, these should be enshrined in the law and an effective governance and organizational structure should also be put in place.
  - (b) Price stability should be the primary or overriding objective of monetary policy over the medium-term as monetary policy cannot be expected to deliver on multiple inconsistent objectives.
  - (c) Consistent with the primacy of price stability, the central bank should have a medium-term inflation objective that serves as the cornerstone for its monetary policy actions and communication. A transparent and credible inflation objective helps anchor inflation expectations and serves as a benchmark against which to measure performance of the central bank.
  - (d) In determining the magnitude and pace of monetary policy adjustments warranted by the inflation objective, the central bank should carefully take into consideration the implications for macroeconomic activity and financial stability. However, this should not be done at the expense of undermining the role of inflation objective for policy formulation as this can unhinge inflationary expectations.
  - (e) The central bank should have a clear and effective operational framework and it should align market conditions with its announced policy stance. It should choose an operating target, with the policy stance being set and announced in terms of a specific level for this target. The operating target should facilitate the communication of the policy stance and its setting should be linked to the attainment of the inflation objective.
  - (f) The central bank should have a transparent forward-looking monetary policy strategy that reflects timely and comprehensive assessment of the monetary policy transmission mechanism.
  - (g) The central bank’s communication should be transparent and timely, because clear communication enhances the effectiveness of monetary policy. Effective communication, helps reduce uncertainty, improves monetary policy transmission, facilitates accountability and thereby building credibility.

Conclusions and policy recommendations
- Recent BOM initiatives include improvement of the liquidity forecasting framework and the macroeconomic model; additional reforms are recommended along the following lines (preserved recommendations and wording):
  - Emphasize price stability as the primary monetary policy objective and have a clearly defined nominal anchor, along with a numerical intermediate target. Additionally, BOM should clarify the role of the exchange rate as it relates to monetary policy objectives and the strategy for intervention in the foreign exchange market.
  - Slow down the pace of unsterilized accumulation of foreign reserves which is a major source of excess liquidity. Foreign reserves have grown significantly and could be deemed adequate, as reflected by the various reserve adequacy measures. However, should the need for further reserve accumulation arise, BOM could clearly communicate its plan to purchase foreign currencies at the market rate, and for reserve buildup only, thereby not affecting the exchange rate.
  - Introduce a 7-day Certificate of Deposit (CD) and link it directly to the policy rate. Currently, the policy rate is linked to a liquidity injection facility – the repo facility - which appears to not function properly given excess liquidity and therefore policy actions taken by BOM tend to not be transmitted to the market rates. Additionally, autonomous supply factors should be used in calibrating monetary policy operations.
  - Put in place an effective interest rate corridor. Introducing a standing overnight facility without restrictions (subject to provision of sufficient collateral) and a deposit facility at fixed rates would ‘‘corridor’’ for the interbank rate.
  - Strengthen coordination between liquidity management and debt management. Given structural excess liquidity and costs involved in sterilization operations, coordination between BOM and MOFED should be strengthened. Development of a MoU between the BOM and the MOFED provides a useful tool to specify a cost-sharing arrangement of monetary operations.

- *Source: IMF staff (from the chapter “Despite efforts to improve its monetary policy framework, Mauritius does not appear” in the provided content unit).*

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### Much progress with respect to competitiveness
Progress and rankings
- Mauritius climbed 15 places on the competitiveness ranking within a decade.
- Figure comparisons: 2007 (ranked 60th) vs. 2016 (ranked 45th).
- Improvements accompanied structural economic transition and reforms over the last decade.
- Gains concentrated in: Institutions; Infrastructure; Macroeconomic environment; Health and primary education; Higher education and training; Goods market efficiency; Labor market efficiency; Financial market development; Technological readiness; Market size; Business sophistication; Innovation.
- Mauritius currently leads the SSA region in competitiveness.
- Regressions noted in aspects of financial market development, chiefly related to trustworthiness and confidence.

Productivity trends and unit labor costs
- Recent stagnation in productivity across sectors:
  - Growth in average labor productivity declined in the second half of the last decade for the overall economy.
  - Manufacturing sector: labor productivity decline in 2012 - 2016 relative to 2007 - 2011.
  - Export Oriented Enterprises (EOEs):
    - Textile EOEs: changes shown across labor, capital, and multifactor productivity between 2007 - 2011 and 2012 - 2016.
    - Non-textile EOEs: declines in both capital and multifactor productivity (even negative in the case of non-textile EOEs).
- Rising wages alongside unfavorable productivity trends increased economy-wide unit labor costs.
  - Average compensation exceeded productivity, especially in the latter half of the last decade, leading to increased unit labor costs.
  - The increase in unit labor costs is less pronounced in some sectors when they are expressed in $US.

Labor market structure and wage-setting mechanism
- Wage-setting mechanism is complex with several competing systems:
  - Enterprise-level collective bargaining applies to about 6 percent of the workforce.
  - Remuneration Orders (ROs) cover minimum pay and conditions for non-unionized and lower-paid workers in certain industries (currently about 30), covering about 70 percent of the private sector workforce.
  - National Remuneration Board (NRB) recommends ministerial ROs after consultations with government, unions, employers and the public.
  - Public sector: Pay Research Bureau reviews the ceiling on salaries and working conditions every 5 years.
  - Annual cost of living adjustments by the Tripartite Committee are usually triggered when the average inflation rate exceeded 5 percent in the previous year (threshold not always strictly adhered to).
- Evidence suggests real wage increases have run well ahead of productivity.
- Policy considerations:
  - Simplifying the wage-setting mechanism and more explicitly linking wages to productivity could alleviate competitiveness concerns.
  - Singapore example: tripartite National Wage Council issues wage guidelines that are not sector-specific and are mandatory only for the public sector.
  - Pending introduction of the national minimum wage in 2018, to be set by the National Wage Consultative Council (NWCC); indications that competitiveness will be a key consideration.

Key competitiveness challenges
- Most problematic factors for doing business in Mauritius (percent of respondents):
  - Inefficient government bureaucracy: about 17 percent.
  - Insufficient capital to innovate: 16.1 percent.
  - Inadequately educated workforce: 13.7 percent.
  - Corruption: 11.1 percent.
- Skills mismatch:
  - Secondary education enrollment rates are high.
  - Fragmented TVET system with a range of private providers; TVET share in total enrollments is small.
  - Tertiary education: comparatively low enrollment rate of 38.7 percent (73rd rank).
  - Tertiary share by field (2015): Engineering 7.6; Information Technology 8.0; Other Science and tech. related 11.5; Accounting 20.1; Administration/Management 12.5; Other 33.5.
  - Share of graduates in offshore financial sector–related fields (e.g., accounting, law) is comparatively high.
- Corruption:
  - Perceptions of corruption are strongly negatively correlated with overall competitiveness ranking.
- Gender and labor force:
  - Female participation in the labor force is comparatively low: Mauritius ranks 108th out of 138 economies (ratio to men shown in Figure 5).
- Foreign Direct Investment (FDI) composition:
  - FDI skewed toward real estate over time, with limited FDI in R&D and innovation.
  - Sectoral FDI (2011–2016) includes Real estate (largest), Financial sector, Information and communication, Tourism, Wholesale and retail trade, Construction, Manufacturing, Other, R&D and Innovation (very small).

Policy recommendations to boost international competitiveness
- New wave of economic reforms needed to graduate to a higher level of economic development and move up the value chain.
- Recent and ongoing reforms:
  - Business Facilitation Act of 2017: streamlines official procedures and tax administration via a one-stop e-licensing platform; facilitates international trade and commerce.
  - Creation of the National Economic Development Board (NEDB) with core functions:
    - i) export marketing and business development,
    - ii) coordinate licensing and regulatory activities,
    - iii) guide future strategic economic direction.
  - Draft Financial Sector Services Blueprint to guide transition of the GBC sector toward higher value added services and encourage ‘substance’ through tax incentives.
- Priority reform areas where Mauritius lags comparator peers:
  - Labor market: relatively rigid (57th place in labor market efficiency); lack of flexibility in wage determination by companies (102th rank).
  - Skills mismatch: tertiary enrollment rate of 38.7 percent (73rd rank).
  - Weak capacity for innovation.
- Specific policy actions:
  - Labor market and wage-setting reforms:
    - Tighten linkage between pay and productivity.
    - Consider altering wage-setting to more tightly link wages to productivity outcomes in individual sectors (e.g., increase coverage of collective agreements).
    - Carefully manage introduction of the National Minimum Wage in 2018 (to be calculated as a proportion of the median wage) to avoid adverse effects on enterprise competitiveness, job creation, and sectoral wage distortions; use as opportunity to streamline labor market architecture while safeguarding social objectives and boosting labor supply of youth and women.
  - Address skills mismatch:
    - Improve quality and quantity of education to meet current and future industry needs.
    - More active and comprehensive government role in delivery, monitoring and evaluation of technical training programs.
    - Encourage tertiary enrollment in STEM subjects and encourage foreign skilled labor where necessary.
  - Strengthen innovation policy:
    - Boost availability of scientists and engineers.
    - Allocate more tertiary education funds toward research.
    - Offer greater incentives for R&D to companies.
    - Foster greater collaboration between universities and industry on R&D.
    - Consider comparator-country approaches (e.g., Singapore) that promote technology transfer via multinational corporations and strong government support for venture capital.

Conclusions on competitiveness
- Mauritius has jumped 15 places in international competitiveness rankings over the last decade and is now the most competitive economy in SSA.
- Emerging concerns include stagnating productivity in some sectors and recent increases in unit labor costs, signaling growing cost competitiveness concerns.
- To reach the next level of economic development, further reforms are necessary to address competitiveness gaps vis-à-vis comparator emerging market countries (Singapore, Panama, Hong Kong, Iceland, and Malta).
- Urgent areas: labor market reform (simplify wage-setting and tighten pay-productivity link), address skills mismatches (unify TVET, encourage tertiary STEM enrollment), and implement a comprehensive innovation policy linking university and industry R&D and technology adoption.
- A bold strategic vision is required; Mauritius’ strong track record of reform implementation provides grounds for optimism.

*International Monetary Fund — Mauritius (CR17363).*

### References _______________________________________________________________________________ 13

### IMPLICATIONS OF INTERNATIONAL TAX TRANSPARENCY AND ANTI-TAX AVOIDANCE INITIATIVES FOR MAURITIUS

### A. Background and recent actions
- Mauritius describes itself as a “fully cooperative and responsible” financial center and has participated in: the Common Reporting Standard (CRS) for automatic exchange of financial account information; FATCA with the U.S.; and the Multilateral Instrument (MLI) of the OECD-G20’s BEPS package.
- The OECD Global Forum, in August 2017, rated Mauritius as a compliant jurisdiction for information exchange.
- In July 2017, the authorities signed the BEPS Multilateral Convention (MLI); 67 countries had already signed the previous month.
- Mauritius faces a complaint from the European Commission about the Deemed Foreign Tax Credit (DFTC) available only to Global Business Companies (GBCs). Authorities are considering eliminating the DFTC and introducing a partial exemption system that would exempt from taxation in Mauritius a certain share of qualifying income earned abroad.

### B. GBC sector — scale, features, and vulnerabilities
Key statistics and facts:
- GBC assets at end-2015: US$594 billion.
- GBC assets relative to domestic GDP: roughly 50 times domestic GDP.
- Contribution to GDP (2015): about 6 percent.
- Contribution to tax revenue (2015): 6.5 percent.
- Employment in GBC sector: 15,000-20,000 employees, or about 3 percent of total employment.
- India was the destination for 45 percent of outbound investment from Mauritius in 2015; India also accounted for 8.4 percent of inbound investment.
- Corporate income tax (CIT) rate in Mauritius: 15 percent.
- DFTC effect: reduces the effective CIT rate on foreign income from 15 to 3 percent when applied (80 percent reduction) without proof of foreign tax payment.
- GBC sector’s share of bank credit to the private sector: one-sixth.
- Reported maximum short-term deposit withdrawal at single banks: as much as 15 percent of their GBC deposits within one month.

Structural and policy-relevant features:
- Two types of GBCs:
  - GBC1s: tax residents of Mauritius; can claim foreign tax credits (FTCs) for dividends, royalties, interest and capital gains; can use DFTC (reduces tax liability by 80 percent without proof of foreign tax).
  - GBC2s: treated as non-residents, tax-exempt, subject to less stringent substance and publication requirements.
- Additional favorable tax and regulatory features historically: FTCs for source-country tax sparing; no capital gains tax; no withholding taxes on outbound capital flows; absence of thin capitalization, transfer pricing, or controlled foreign corporation (CFC) rules; extensive network of 42 DTAs.
- GBC1s hold nearly 80 percent of total GBC assets, although GBC1s and GBC2s are roughly equal in number.
- Management Companies (about 165 MCs) provide management functions, accounting, legal services, and due diligence for GBCs.

Macroeconomic and financial linkages and risks:
- GBCs provide major inexpensive funding to banks, but deposits are potentially highly volatile because of investment pattern (inflows from source countries to invest in third countries).
- Banks estimate stable shares of GBC deposit stocks, but the underlying flows can be volatile and have in individual cases produced large short-term outflows (up to 15 percent in one month).
- Banks increasingly lend to GBCs but typically lend only a fraction of what they receive from the sector in funding; most GBC deposits are held as liquid assets at other banks, domestically or abroad.
- Potential spillovers from secular decline in GBC activity or removal of tax benefits include lower bank deposits, fall in employment at management companies and service providers, and broader economic impacts unless the sector transitions to higher value-added activities.

Policy implications for sector transition:
- The sector may need to transition to higher value-added activities such as consulting services and expand into new markets such as Africa, which has received an increasing amount of direct investment by GBC1s in recent years (though still small relative to India).

### C. Implementing the OECD-G20 BEPS initiatives and treaty changes
- Mauritius is a member of the Inclusive Framework on BEPS and has committed to implement BEPS actions and minimum standards; Mauritius participated in technical working groups (e.g., on the Limitation-on-Benefits (LOB) rule under BEPS Action 6).
- In July 2017 Mauritius signed the Multilateral Instrument (MLI) to implement Actions 6 and 14 in existing DTAs; treaties submitted as CTAs: 23 of Mauritius’ DTAs with other MLI signatories have been submitted to the OECD.
- There are 15 BEPS actions; four are designated as minimum standards that all Inclusive Framework members must implement (see Box 1).
- BEPS Action 6 (combating treaty abuse) relies on:
  - Principal Purpose Test (PPT): denies treaty benefits if obtaining that benefit was one of the principal purposes of a transaction, except where granting the benefit is in accordance with the object and purpose of the treaty.
  - Limitation-on-Benefits (LOB) rule: restricts treaty benefits to entities that meet substance and other objective criteria.
- The BEPS Action 6 final report envisaged three approaches to combat treaty abuse: PPT alone; PPT plus a simplified LOB; or a detailed LOB without PPT plus specific anti-conduit rules. The detailed LOB option is not available under the current MLI; countries seeking detailed LOB rules must pursue bilateral negotiations.

Advantages and trade-offs of PPT vs LOB:
- LOB: provides more certainty through objective criteria (legal nature, ownership, services) but does not address treaty shopping via conduit financing structures.
- PPT: allows case-by-case analysis of motive and can be subjective, but is efficient for assessing anti-abuse compliance and works well when complemented by arbitration (BEPS Action 14).

### D. BEPS minimum standards (Box 1)
- BEPS Action 5:
  - Requires substantial activity for preferential regimes (e.g., IP regimes) and limits tax benefits to underlying R&D activities.
  - Focuses the Forum on Harmful Tax Practices (FHTP) on substantial activity for PEs and on exchange of rulings.
- BEPS Action 6:
  - Minimum standard on preventing treaty-shopping and rules to prevent treaty abuse; aims to ensure DTAs serve the intended purpose of preventing double taxation without creating double non-taxation.
  - Mauritius has signed the MLI to update DTAs accordingly.
- BEPS Action 13:
  - Standardized transfer pricing approach, including minimum standard on country-by-country reporting where MNEs record profits and sales, employ staff, hold assets and pay taxes.
  - Mauritius has implemented an obligation for relevant MNEs to file country-by-country reports and signed the Multilateral Competent Authority Agreement to operationalize exchange of reports.
- BEPS Action 14:
  - Aims to make dispute resolution mechanisms more effective through dispute prevention, access to mutual agreement procedures and resolution; several countries including Mauritius committed to introduce arbitration if disputes are not resolved within a certain period.
- The Multilateral Instrument was developed under BEPS Action 15.

### E. Observed and potential policy responses noted in the text
- Treaty revisions:
  - Mauritius has been active in DTA negotiations; 16 DTAs added in the past 6 years.
  - The revised treaty with India (signed May 2016, phased in through end-March 2019) gives India the right to tax capital gains from sales of shares of Indian companies (previously exempt) at the domestic capital gains tax rate (currently 15 percent). During the phase-in period, this tax is applied at half the regular rate. Shares held longer than a year are exempt from tax in India. The exemption for capital gains on shares purchased before April 2017 is grandfathered.
  - The exemption from withholding tax on bank interest will be eliminated; the exemption for interest on bank debt incurred before April 2017 will be grandfathered.
  - Proceeds from debt instruments will be taxed at a preferential rate of 7.5 percent to encourage investment flows to debt instruments.
- Domestic tax policy options under consideration:
  - Eliminate the Deemed Foreign Tax Credit (DFTC) and introduce a partial exemption system that exempts from Mauritian taxation a certain share of qualifying foreign income.
- Broader strategy:
  - Manage macro-financial linkages and bank exposure to volatile GBC deposits.
  - Encourage gradual transition of the GBC sector toward higher value-added services and diversification of investment destinations (e.g., Africa).

*Prepared by Torsten Wezel.*

### 15. For its covered tax agreements under the MLI, Mauritius must apply a PPT—at least in

### 15. For its covered tax agreements under the MLI, Mauritius must apply a PPT—at least in the near term

### MLI implementation: PPT interim measure and LOB bilateral option
- Mauritius has notified the OECD that it will apply the stand-alone PPT as an interim measure for treaty negotiations under the MLI.
- The authorities retain the right to pursue the LOB approach if counterparties so agree in bilateral negotiations.
- Authorities’ concern: applying the stand-alone PPT could cause uncertainty among non-residents using Mauritius as an investment hub because a claimant’s tax authority (for example, in Europe) could deny treaty benefits if an arrangement or transaction does not pass the PPT as administered by that authority.
- The MLI’s relatively vague PPT wording could lead to investor uncertainty, particularly because the LOB option—which would establish more objective eligibility criteria—cannot currently be used for Mauritius’ treaties under the MLI.

### Renegotiation outside the MLI: 19 DTAs and the detailed LOB approach
- For the 19 DTAs that Mauritius will renegotiate outside the MLI, the authorities plan to use a detailed LOB rule rather than the PPT.
- Rationale for detailed LOB:
  - Offers flexibility to tailor DTAs to signatories’ needs in bilateral negotiations.
  - Aims to address many treaty-shopping situations based on legal nature, ownership, and activities of entities resident in a treaty partner country.
  - May anchor specific provisions in the treaty that otherwise could be removed under the MLI.
- Possible combination features:
  - Detailed LOB provisions in combination with grandfathering clauses limiting scope of new provisions to newly established firms.
- Timing and review:
  - Renegotiating the non-MLI treaties will need to commence within 18 months.
  - The revised agreements would likely be vetted by the OECD for consistency with the MLI.

### OECD scrutiny of GBC2 sector and preferential regimes
- OECD Forum on Harmful Tax Practices (FHTP) potential issues identified for GBC2:
  - Ring-fencing of the GBC2 sector from the domestic economy.
  - Insufficient substance requirements.
- FHTP status:
  - The FHTP has yet to examine the tax system in more detail and then determine whether the preferential regime and Mauritius’ freeport regime are harmful.
  - Certain preferential regimes (global headquarters administration, global treasury activities, shipping, and investment banking) have been found by the FHTP not to be harmful.
- Authorities’ response:
  - Indicated they will address remaining concerns within revision of the DFTC framework and the Financial Services Sector Blueprint currently being elaborated.
- Policy options for the GBC2 sector discussed:
  - Phasing out the GBC2 license.
  - Creating a unified GBC license.
- Concern: the future attractiveness of the GBC2 license may decline if substantial changes increase substance and reporting requirements (including information on ultimate beneficial owners).

### EU tax initiative, the Deemed Foreign Tax Credit (DFTC), and proposed reforms
- EC concern:
  - The European Commission (EC) targets “harmful tax regimes” and has notified Mauritius in this context; the EC specifically takes issue with Mauritius’ Deemed Foreign Tax Credit (DFTC).
  - The EC indicated in early 2016 it would assess the GBC tax regime as harmful unless GBCs are systematically taxed at 15 percent like other companies that do not enjoy such a tax credit.
- Potential defensive measures by the EU if Mauritius does not adjust GBC taxation:
  - (i) EU putting Mauritius on a blacklist requiring, inter alia, EU member states to renegotiate DTAs;
  - (ii) EU members taking defensive measures such as imposing punitive withholding taxes on or denying deductions of payments to Mauritius;
  - (iii) European Investment Bank refraining from structuring investments using a GBC.
  - Sanctions would be felt more in the balance of payments than in fiscal accounts, since tax receipts from GBCs are a small fraction of government revenue.
- Authorities’ intended reform:
  - Abolish the DFTC and introduce a partial exemption system to eliminate double taxation by exempting from taxation in Mauritius most foreign-sourced income (especially dividends received abroad and profits from foreign permanent establishments).
  - The partial exemption would be along the lines of the EU Parent-Subsidiary Directive except for no minimum shareholding requirement.
  - The partial exemption would permit some deductible costs (less-than-full exemption) and would be granted only where an arrangement for exchange of information with the source country allows verification.
  - The new system could include substance and anti-avoidance measures; a regular foreign tax credit would remain an option when foreign tax paid exceeds Mauritian tax liability.
  - The new regime would apply to GBCs and other domestic firms alike, addressing the ring-fencing concern that made the DFTC available only to GBC1s.
- Coordination with FHTP:
  - The EC will follow the judgment of the FHTP to avoid double assessment; authorities are working closely with the FHTP and will present reform measures in due course.
- Timing for EC notification:
  - Intended revisions to the tax regime would have to be communicated to the EC before the list of non-cooperative jurisdictions is published towards the end of 2017.

### Revenue neutrality and compensation options
- Authorities indicated legal changes should ideally be revenue-neutral.
- Among options contemplated to offset revenue losses from extending tax benefits under a partial exemption system is specific compensatory measures (such as broadening the tax base for certain companies).
- A more detailed proposal for reforming the Mauritian tax framework will be included in the Financial Services Sector Blueprint.

### Conclusions and medium-term outlook for the GBC sector
- Authorities’ approach:
  - Meet OECD-G20 BEPS requirements partly via the Multilateral Instrument (MLI) and partly outside the MLI for special arrangements.
  - Address EC concerns about the preferential tax framework while not materially changing the tax burden for the GBC sector and aiming for revenue-neutral changes.
- Medium-term prospects:
  - A deeper reform of the GBC sector may be needed to preserve competitiveness.
  - Potential measures that could reduce GBC attractiveness:
    - Removing certain tax benefits (e.g., exemption of taxation of capital gains from sales of shares in India).
    - Some DTAs becoming less favorable under BEPS.
    - Upgrading substance requirements, particularly for GBC2s.
  - Policy response may require a concerted effort to revisit the GBC business model and move the sector towards higher-value activities (e.g., consulting services) and reorient geographical focus towards destinations with high potential such as African countries.
  - More work is needed on measuring competitiveness of the GBC sector vis-à-vis other offshore centers offering similar frameworks.

*International Monetary Fund — Mauritius (CR17363).*

### 11. Despite efforts to improve its monetary policy framework, Mauritius does not appear

### 11. Despite efforts to improve its monetary policy framework, Mauritius does not appear

### Overview
- The Bank of Mauritius (BOM) has undertaken initiatives to strengthen its monetary policy framework, but it "does not appear to abide by most of the core principles that characterize an effective monetary policy framework."
- Five areas for improvement are identified: clarity regarding monetary policy objectives, having an explicit or implicit inflation objective to anchor inflation expectations, putting in place an effective operational framework, and articulation and communication of the monetary policy framework.

### Multiple objectives, foreign exchange interventions, and exchange rate role
- De jure the BOM cites price stability as its core objective, but de facto the BOM appears to pursue multiple objectives, including exchange rate management and avoidance of central bank losses.
- BOM’s systematic intervention in the foreign exchange market involves large and unsterilized operations, suggesting additional objectives such as leaning against appreciation and preserving export competitiveness.
- Lack of clarity about the role of the exchange rate risks policy inconsistencies under the impossible trinity: pursuing an independent monetary policy is difficult with an inflexible exchange rate under an open capital account.
- BOM’s purchase of foreign exchange is intended to build reserves, but one-way interventions and unsterilized operations inject domestic liquidity, exerting downward pressure on interest rates and complicating monetary policy if inflationary pressures build.

### Inflation objective, expectations, and communication
- Mauritius does not have a clearly defined numerical inflation objective: "there is presently no firm commitment to a specific numerical inflation objective."
- The BOM has an implicit inflation objective in practice but the absence of a clearly communicated numerical target hinders formation of inflation expectations and assessment of monetary policy success.
- The monetary policy framework is not clearly articulated or communicated; the nominal anchor is not clearly articulated even though the ultimate objective is enshrined in law.
- In practice the exchange rate appears to play an anchoring role, but the articulation of the framework does not reference the exchange rate’s role.

### Operational framework, excess liquidity drivers, and sterilization
- Excess domestic currency liquidity in the money market hinders the functioning of BOM’s operational framework.
- Sources of excess liquidity include conversion of government external borrowing into domestic currency and accumulation of reserves through unsterilized FX intervention.
- Excess liquidity peaked in April 2015; excess liquidity declined on average between end-2015 and end-2016 due to issuance of BoM bonds and Treasury bills and sterilized FX interventions, but excess liquidity has recently been on the rise.
- Autonomous supply factors and evidence indicate unsterilized foreign exchange interventions are a major driver of excess liquidity.
- Sterilization efforts by BOM "do not fully offset domestic liquidity injection that stems from foreign exchange interventions."
- Concerns about sterilization costs and effects on BOM’s balance sheet led to a passive liquidity management strategy; balance sheet constraints have constrained sterilization efforts despite availability of instruments.
- There is evidence of a strong relationship between official reserves and excess liquidity: "y = 0.0792x -2225.3" and "R² = 0.657."

### Interest rate transmission, interbank market, and market infrastructure
- Chronic excess liquidity causes the interbank rate to diverge from policy rates, severely weakening the interest rate transmission channel.
- During moderate excess liquidity, policy rate and interbank rate moved closely together; as excess liquidity mounted the wedge widened and continues to distort monetary policy signals and credibility.
- The policy rate co-moves with deposit and lending rates partly through moral suasion.
- The "indicative" corridor is set at 125 bps around the key repo rate, but it is ineffective because there is no permanent standing lending and deposit facilities; the corridor is operated at the initiative of the BOM rather than by commercial banks.
- An inactive secondary bond market and some restrictions on access to lending facilities by BOM contribute to banks’ need to maintain large excess reserve balances.
- Market segmentation and skewed liquidity distribution: a few highly liquid large banks and several small banks create reluctance of large banks to lend to smaller banks, impairing interbank market efficiency.

### Principles of an effective monetary policy framework (Box 1)
- The Fund’s seven core principles for an effective monetary policy framework include (preserved wording and order):
  - (a) The central bank should have a clear mandate in terms of goals, and operational independence to pursue these goals, within the context of public accountability. Most importantly, these should be enshrined in the law and an effective governance and organizational structure should also be put in place.
  - (b) Price stability should be the primary or overriding objective of monetary policy over the medium-term as monetary policy cannot be expected to deliver on multiple inconsistent objectives.
  - (c) Consistent with the primacy of price stability, the central bank should have a medium-term inflation objective that serves as the cornerstone for its monetary policy actions and communication. A transparent and credible inflation objective helps anchor inflation expectations and serves as a benchmark against which to measure performance of the central bank.
  - (d) In determining the magnitude and pace of monetary policy adjustments warranted by the inflation objective, the central bank should carefully take into consideration the implications for macroeconomic activity and financial stability. However, this should not be done at the expense of undermining the role of inflation objective for policy formulation as this can unhinge inflationary expectations.
  - (e) The central bank should have a clear and effective operational framework and it should align market conditions with its announced policy stance. It should choose an operating target, with the policy stance being set and announced in terms of a specific level for this target. The operating target should facilitate the communication of the policy stance and its setting should be linked to the attainment of the inflation objective.
  - (f) The central bank should have a transparent forward-looking monetary policy strategy that reflects timely and comprehensive assessment of the monetary policy transmission mechanism.
  - (g) The central bank’s communication should be transparent and timely, because clear communication enhances the effectiveness of monetary policy. Effective communication, helps reduce uncertainty, improves monetary policy transmission, facilitates accountability and thereby building credibility.

### Conclusions and policy recommendations
- Recent BOM initiatives include improvement of the liquidity forecasting framework and the macroeconomic model; additional reforms are recommended along the following lines (preserved recommendations and wording):
  - Emphasize price stability as the primary monetary policy objective and have a clearly defined nominal anchor, along with a numerical intermediate target. Additionally, BOM should clarify the role of the exchange rate as it relates to monetary policy objectives and the strategy for intervention in the foreign exchange market.
  - Slow down the pace of unsterilized accumulation of foreign reserves which is a major source of excess liquidity. Foreign reserves have grown significantly and could be deemed adequate, as reflected by the various reserve adequacy measures. However, should the need for further reserve accumulation arise, BOM could clearly communicate its plan to purchase foreign currencies at the market rate, and for reserve buildup only, thereby not affecting the exchange rate.
  - Introduce a 7-day Certificate of Deposit (CD) and link it directly to the policy rate. Currently, the policy rate is linked to a liquidity injection facility – the repo facility - which appears to not function properly given excess liquidity and therefore policy actions taken by BOM tend to not be transmitted to the market rates. Additionally, autonomous supply factors should be used in calibrating monetary policy operations.
  - Put in place an effective interest rate corridor. Introducing a standing overnight facility without restrictions (subject to provision of sufficient collateral) and a deposit facility at fixed rates would ‘‘corridor’’ for the interbank rate.
  - Strengthen coordination between liquidity management and debt management. Given structural excess liquidity and costs involved in sterilization operations, coordination between BOM and MOFED should be strengthened. Development of a MoU between the BOM and the MOFED provides a useful tool to specify a cost-sharing arrangement of monetary operations.

*Source: IMF staff (from the chapter “Despite efforts to improve its monetary policy framework, Mauritius does not appear” in the provided content unit).*

### 4. Much progress with respect to

### 4. Much progress with respect to

### Progress in competitiveness
- Mauritius climbed 15 places on the competitiveness ranking within a decade.
- Figure comparisons: 2007 (ranked 60th) vs. 2016 (ranked 45th).
- Improvements accompanied structural economic transition and reforms over the last decade.
- Gains concentrated in: Institutions; Infrastructure; Macroeconomic environment; Health and primary education; Higher education and training; Goods market efficiency; Labor market efficiency; Financial market development; Technological readiness; Market size; Business sophistication; Innovation.
- Mauritius currently leads the SSA region in competitiveness.
- Regressions noted in aspects of financial market development, chiefly related to trustworthiness and confidence.

### Productivity trends and unit labor costs
- Recent stagnation in productivity across sectors:
  - Growth in average labor productivity declined in the second half of the last decade for the overall economy.
  - Manufacturing sector: labor productivity decline in 2012 - 2016 relative to 2007 - 2011.
  - Export Oriented Enterprises (EOEs):
    - Textile EOEs: changes shown across labor, capital, and multifactor productivity between 2007 - 2011 and 2012 - 2016.
    - Non-textile EOEs: declines in both capital and multifactor productivity (even negative in the case of non-textile EOEs).
- Rising wages alongside unfavorable productivity trends increased economy-wide unit labor costs.
  - Average compensation exceeded productivity, especially in the latter half of the last decade, leading to increased unit labor costs.
  - The increase in unit labor costs is less pronounced in some sectors when they are expressed in $US.

### Labor market structure and wage-setting mechanism
- Wage-setting mechanism is complex with several competing systems:
  - Enterprise-level collective bargaining applies to about 6 percent of the workforce.
  - Remuneration Orders (ROs) cover minimum pay and conditions for non-unionized and lower-paid workers in certain industries (currently about 30), covering about 70 percent of the private sector workforce.
  - National Remuneration Board (NRB) recommends ministerial ROs after consultations with government, unions, employers and the public.
  - Public sector: Pay Research Bureau reviews the ceiling on salaries and working conditions every 5 years.
  - Annual cost of living adjustments by the Tripartite Committee are usually triggered when the average inflation rate exceeded 5 percent in the previous year (threshold not always strictly adhered to).
- Evidence suggests real wage increases have run well ahead of productivity.
- Policy considerations:
  - Simplifying the wage-setting mechanism and more explicitly linking wages to productivity could alleviate competitiveness concerns.
  - Singapore example: tripartite National Wage Council issues wage guidelines that are not sector-specific and are mandatory only for the public sector.
  - Pending introduction of the national minimum wage in 2018, to be set by the National Wage Consultative Council (NWCC); indications that competitiveness will be a key consideration.

### Key competitiveness challenges (as per Executive Opinion Survey 2016 and other data)
- Most problematic factors for doing business in Mauritius (percent of respondents):
  - Inefficient government bureaucracy: about 17 percent.
  - Insufficient capital to innovate: 16.1 percent.
  - Inadequately educated workforce: 13.7 percent.
  - Corruption: 11.1 percent.
- Skills mismatch:
  - Secondary education enrollment rates are high.
  - Fragmented TVET system with a range of private providers; TVET share in total enrollments is small.
  - Tertiary education: comparatively low enrollment rate of 38.7 percent (73rd rank).
  - Tertiary share by field (2015): Engineering 7.6; Information Technology 8.0; Other Science and tech. related 11.5; Accounting 20.1; Administration/Management 12.5; Other 33.5.
  - Share of graduates in offshore financial sector–related fields (e.g., accounting, law) is comparatively high.
- Corruption:
  - Perceptions of corruption are strongly negatively correlated with overall competitiveness ranking.
- Gender and labor force:
  - Female participation in the labor force is comparatively low: Mauritius ranks 108th out of 138 economies (ratio to men shown in Figure 5).
- Foreign Direct Investment (FDI) composition:
  - FDI skewed toward real estate over time, with limited FDI in R&D and innovation.
  - Sectoral FDI (2011–2016) includes Real estate (largest), Financial sector, Information and communication, Tourism, Wholesale and retail trade, Construction, Manufacturing, Other, R&D and Innovation (very small).

### Policy recommendations to boost international competitiveness
- New wave of economic reforms needed to graduate to a higher level of economic development and move up the value chain.
- Recent and ongoing reforms:
  - Business Facilitation Act of 2017: streamlines official procedures and tax administration via a one-stop e-licensing platform; facilitates international trade and commerce.
  - Creation of the National Economic Development Board (NEDB) with core functions:
    - i) export marketing and business development,
    - ii) coordinate licensing and regulatory activities,
    - iii) guide future strategic economic direction.
  - Draft Financial Sector Services Blueprint to guide transition of the GBC sector toward higher value added services and encourage ‘substance’ through tax incentives.
- Priority reform areas where Mauritius lags comparator peers:
  - Labor market: relatively rigid (57th place in labor market efficiency); lack of flexibility in wage determination by companies (102th rank).
  - Skills mismatch: tertiary enrollment rate of 38.7 percent (73rd rank).
  - Weak capacity for innovation.
- Specific policy actions:
  - Labor market and wage-setting reforms:
    - Tighten linkage between pay and productivity.
    - Consider altering wage-setting to more tightly link wages to productivity outcomes in individual sectors (e.g., increase coverage of collective agreements).
    - Carefully manage introduction of the National Minimum Wage in 2018 (to be calculated as a proportion of the median wage) to avoid adverse effects on enterprise competitiveness, job creation, and sectoral wage distortions; use as opportunity to streamline labor market architecture while safeguarding social objectives and boosting labor supply of youth and women.
  - Address skills mismatch:
    - Improve quality and quantity of education to meet current and future industry needs.
    - More active and comprehensive government role in delivery, monitoring and evaluation of technical training programs.
    - Encourage tertiary enrollment in STEM subjects and encourage foreign skilled labor where necessary.
  - Strengthen innovation policy:
    - Boost availability of scientists and engineers.
    - Allocate more tertiary education funds toward research.
    - Offer greater incentives for R&D to companies.
    - Foster greater collaboration between universities and industry on R&D.
    - Consider comparator-country approaches (e.g., Singapore) that promote technology transfer via multinational corporations and strong government support for venture capital.

### Conclusions
- Mauritius has jumped 15 places in international competitiveness rankings over the last decade and is now the most competitive economy in SSA.
- Emerging concerns include stagnating productivity in some sectors and recent increases in unit labor costs, signaling growing cost competitiveness concerns.
- To reach the next level of economic development, further reforms are necessary to address competitiveness gaps vis-à-vis comparator emerging market countries (Singapore, Panama, Hong Kong, Iceland, and Malta).
- Urgent areas: labor market reform (simplify wage-setting and tighten pay-productivity link), address skills mismatches (unify TVET, encourage tertiary STEM enrollment), and implement a comprehensive innovation policy linking university and industry R&D and technology adoption.
- A bold strategic vision is required; Mauritius’ strong track record of reform implementation provides grounds for optimism.

*Prepared by Cameron McLoughlin and Mounir Bari; IMF staff analysis based on World Economic Forum, Statistics Mauritius, Bank of Mauritius, and IMF staff calculations.*

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_Source: https://www.imf.org/-/media/files/publications/cr/2017/cr17363.pdf_