## cr18294-dominicanrepbundle

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---

### Context and historical background
- Collapse of the second-largest bank in 2003 triggered a large external devaluation, stagflation, sharp increase in poverty, loss of all official reserves and a setback in the fiscal position as depositors were bailed out.
- Post-crisis reforms (many under IMF programs during 2004–12) strengthened the policy framework and macroeconomic outcomes.
- Economic activity averaged 5.7 percent over 2005–17.
- Per capita income has more than doubled.
- Inflation has stabilized within the central bank’s target range.
- Country risk premium is below the emerging market average.
- Social outcomes deteriorated after the crisis: poverty increased to 50 percent of the population, extreme poverty doubled, and unemployment and inequality increased; recent improvements in real labor income for the poorest deciles and higher spending on education and healthcare have supported reductions in poverty and inequality.

### Recent macro-financial developments (selected indicators)
- Growth:
  - 2017 expansion estimated at 4.6 percent; above-potential growth averaged 7.1 percent during 2014–16.
- Labor market:
  - Unemployment fell to 5.1 percent.
- Inflation and monetary policy:
  - Central bank target: 4±1 percent.
  - In July 2017 the central bank lowered the policy rate by 50 basis points (to 5¼ percent) and reserve requirements by 2.2 percentage points (to 12.1 percent).
  - Credit to the private sector grew 10.1 percent in 2017 (down from 12.1 percent in 2016).
- External sector:
  - Real exchange rate depreciation of 2.3 percent in 2017.
  - Current account deficit reached the lowest level in a decade in 2017; deficit had peaked at 7.5 percent of GDP in 2011.
  - Reserves coverage strengthened to 3.5 months of imports in 2017 (or 4.2 months excluding imports from the free trade zones).
  - FDI continues to more than adequately finance the current account deficit; FDI inflows: 4.8 percent of GDP in 2017 (3.4 percent in 2016).
- Fiscal sector:
  - Consolidated fiscal deficit widened to 4.6 percent of GDP in 2017.
  - Tax administration reforms initiated in 2017 are estimated to have boosted structural revenues by 0.4 percent of GDP.
  - Spending pressures include higher payrolls, reconstruction after floods and hurricanes, higher spending on the coal plant, and increasing interest bill (0.9 percent of GDP).
  - Public debt estimated at 52.7 percent of GDP at end-2017 (10 percentage point increase over the past 5 years).

### Outlook and projections
- Growth:
  - Growth projected to increase to 5.5 percent in 2018 and then moderate to a medium-term potential rate of around 5 percent.
- Inflation:
  - Total inflation expected to remain within the central bank’s 4±1 percent target range; core inflation expected to gradually rise to around 4 percent.
- External position:
  - Current account deficit expected to gradually realign with the estimated norm over the medium term.
  - Reserve coverage expected to strengthen to 3.8 months of imports (4.4 months excluding free trade zones) over the medium term.
- Fiscal outlook:
  - 2018 budget relies on tax administration reforms to increase collections by 0.5 percent of GDP; staff baseline uses a more conservative 0.3 percent yield and assumes unbudgeted coal plant spending of 0.3 percent of GDP.
  - Staff baseline projects consolidated overall public deficit to narrow to 4.3 percent of GDP in 2018.
  - Over the medium term consolidated deficit expected to gradually widen to 4½-4 3/4 percent of GDP.
  - Public debt projected to reach 57⅕ percent of GDP by 2023 under the baseline.
  - Staff estimate: an adjustment of about 3 percent of GDP in the overall deficit during 2018–20 would lower debt to around 45 percent of GDP over the next five years.

### Risks to the outlook (selected)
- External downside risks:
  - Higher-than-expected world oil prices; a 20 percent increase in oil prices would reduce growth by up to 1.6 percentage points per year (WHDMOD / FSGM simulation).
  - Weaker-than-projected external demand; a 1 percentage point negative U.S. demand shock estimated to weaken domestic growth by 0.4 percentage points.
  - Possible weather events, energy supply disruptions, potential embargo on Venezuela, and tighter global financial conditions.
- Domestic risks:
  - Two-sided uncertainty around domestic demand momentum in 2018 after monetary easing.
  - Delays in structural reforms and governance weaknesses (e.g., regional corruption probe related to Odebrecht).

### Fiscal consolidation: size, composition, distributional implications
- Staff scenario: overall consolidation of 3.0 percent of GDP over 2018–20:
  - 2018: 0.2 percent of GDP
  - 2019: 1.4 percent of GDP
  - 2020: 1.4 percent of GDP
  - Total: 3.0 percent of GDP
- Expected composition and yields (Expected yield (% of GDP) — measures in the 2018 tax reform package included in the 2018 budget):
  - Reduced VAT (other indirect) and property tax exemptions to regional levels: 0.2 (2018), 0.6 (2019), 0.6 (2020) — total 1.4
  - Reducing CIT exemptions: 0.0 (2018), 0.2 (2019), 0.2 (2020) — total 0.3
  - PIT: not adjusting tax rate benchmark for inflation in 2018 and reducing PIT allowance to two minimum salaries: 0.0 (2018), 0.1 (2019), 0.1 (2020) — total 0.3
  - Eliminating electricity subsidies and improving spending efficiency: 0.0 (2018), 0.5 (2019), 0.5 (2020) — total 1.0
- Distributional and growth considerations:
  - Adjustment could negatively affect economic activity and increase inequality unless composition and use of interest-savings are calibrated to offset effects.
  - Recommended focus: reduce generalized electricity subsidies (regressive), rationalize CIT incentives (not affecting inequality), scale back least progressive VAT exemptions, and reduce the high PIT threshold (current threshold results in only the top income decile contributing).
  - Use of interest-savings (estimated at 0.5–0.8 percent of GDP over the medium term) to offset effects by:
    - Increasing targeted transfers to mitigate distributional effects.
    - Scaling up infrastructure investment to offset negative growth effects.
- Simulation and policy-mix results:
  - A revenue-mobilization package raising VAT, CIT, and PIT receipts by 1.5, 0.25 and 0.25 percent of GDP respectively could reduce output by close to 1 percent (a fiscal multiplier of close to 0.5).
  - Staff estimates that a fiscal adjustment of 3 percent of GDP over 2018–20 would reduce the interest bill by 0.5 to 0.8 percent of GDP over the medium term.
  - Optimal offset (gray scenario): infrastructure investment of 0.25 percent of GDP plus higher targeted transfers or equivalent health/education spending of 0.25 percent of GDP, financed within fiscal resources freed up by the adjustment.
- Authorities’ view:
  - Priority on tackling tax evasion; evidence of underlying increase in collections of some 0.4 percent of GDP in 2017 and expected collections increase of another 0.5 percent of GDP in 2018 due to 2018 National Budget measures.

### Strengthening fiscal framework and public financial management
- Progress:
  - Broadened coverage of the treasury single account.
  - Single public portal for government procurement processes.
  - Steps to strengthen financial reporting and preparation to launch internal audits.
- Recommended reforms:
  - Adopt a medium-term fiscal anchor.
  - Widen scope and availability of fiscal statistics for all levels of government.
  - Introduce a Public-Private Partnerships framework to minimize fiscal risks.
  - Entrench prudent fiscal management within fiscal responsibility legislation or principles in the Fiscal Pact.
- Authorities’ actions and timelines:
  - Developing a medium-term fiscal framework expected to be finalized before end-April 2018.
  - Preparing a fiscal risk management report expected to be finalized in 2018.
  - Planned move towards the 2014 Government Finance Statistics Manual by March 2018 with IMF technical assistance.

### Monetary policy stance, reserve adequacy, and exchange rate
- Monetary policy:
  - Neutral stance with a tightening bias recommended.
  - Mid-2017 monetary easing realigned the real policy interest rate with estimated neutral rate; staff supports maintaining neutral stance until activity and inflation are firming.
- Reserve adequacy:
  - Coverage estimated at 67 percent of the Fund’s reserve adequacy metric for 2017 (Annex I); coverage exceeds traditional metrics: >3 months of imports, >20 percent of broad money, and >100 percent of short-term external debt (remaining maturity).
  - Opportunity exists to strengthen reserve adequacy toward the Fund’s metric given ample financing and low projected current account deficit.
  - Reserve adequacy table (exact figures):
    - Months of imports of goods and services (benchmark 3 months): 3.4 (2016), 3.5 (2017), 3.8 (2022(p))
    - Months of imports excluding free trade zones (benchmark 3 months): 4.1 (2016), 4.2 (2017), 4.4 (2022(p))
    - Broad money (M3) coverage (benchmark 20%): 23.2 (2016), 24.5 (2017), 26.3 (2022(p))
    - Short-term debt (remaining maturity, benchmark 100%): 137.8 (2016), 147.7 (2017), 202.6 (2022(p))
    - IMF reserve adequacy metric (benchmark 100–150%): 61.5 (2016), 67.2 (2017), 68.8 (2022(p))
    - Net international reserves, bn USD: 6.0 (2016), 6.8 (2017), 9.7 (2022(p))
    - Additional reserves needed to reach IMF reserve metric of 100, bn USD: 3.8 (2016), 3.3 (2017), 4.4 (2022(p))
- Exchange rate flexibility and market infrastructure:
  - Gradual movement toward more exchange rate flexibility recommended.
  - Plans to introduce a foreign exchange trading platform (timeline postponed; new request for proposals expected in the first half of 2018).
  - Ongoing efforts to develop a derivatives market for foreign exchange.
- Monetary-fiscal coordination and central bank recapitalization:
  - Quasi-fiscal deficit of 1.2 percent of GDP in 2017 due to large share of public debt managed by the central bank from bank recapitalization.
  - Mission welcomed planned finalization of new agreement on central bank recapitalization; updated agreement expected to be concluded in the following months.

### Financial sector soundness, vulnerabilities, and supervision
- Banking sector indicators:
  - Number of entities reduced from 141 in 2003 to 58.
  - Banking sector assets about 46 percent of GDP in 2017 (below pre-crisis about 52 percent).
  - Private pension funds hold assets of another 17 percent of GDP.
  - NPLs for commercial banks: 1.9 percent (increase of about 0.2 percentage points from a year earlier).
  - Capital adequacy of commercial banks: 18.2 percent (regulatory requirement 10 percent).
- Vulnerabilities and pockets to monitor:
  - Lack of adequate data on borrowers’ financials.
  - Rapid growth of nonbank financial institutions largely outside supervisory perimeter.
  - Credit risk from dollar loans to unhedged borrowers: account for one fifth of total loans.
  - Exposure to state risk and need to deconcentrate exposure.
  - Low productivity of banks and dependence on fee-based income and high spreads.
- Supervisory adjustments:
  - Recent changes to credit risk guidelines widen acceptable collateral, minimize downgrading of refinanced but performing loans, and liberalize loan provisions when credit ratings improve.

### Prudential supervision, macroprudential policy, and AML/CFT
- Regulatory and supervisory improvements planned for 2018 include liquidity, leverage and market risk requirements alignment with international practice and preparation for IFRS 9 adoption.
- Enhance supervisory powers to require higher capitalization for individual banks and align banking law to international standards.
- Strengthen oversight of largest nonbank institutions; draft law to enhance nonbank supervision under consideration.
- Systemic risk oversight:
  - Central bank committee for financial stability and macroprudential policy established; includes representative from the Superintendency of Banks.
  - Consideration to broaden Monetary Board’s macroprudential powers; publication of a financial stability report encouraged.
- AML/CFT:
  - AML/CFT law finalized in 2017; assessment of compliance with the 2012 FATF standard to be concluded in mid-2018.
  - Staff encouraged decisive focus on effective implementation to support anti-corruption and mitigate correspondent banking risks.

### Structural reforms and productivity
- Main impediments: poor electricity supply, still weak educational outcomes, high transportation costs, relatively weak institutions, complex tax system, relatively low coverage of social insurance schemes.
- Progress:
  - Education spending doubled to 4 percent of GDP in recent years.
  - Electricity Pact draft agreed by social partners in late 2017 (Pact not yet signed by President Medina as of February 2018).
  - Doing-business reforms underway with relaunched Competitiveness Council.
- Tax and fiscal reform needs:
  - Tax exemptions/incentives cost 6.2 percent of GDP in 2017 and are inequitable.
  - Simplify tax system and streamline patchwork modifications since 2012 to reduce compliance difficulties.
- Social security reform:
  - 2003 reform not fully implemented; about half of workforce without social safety nets.
  - Unless reforms are implemented, only 30 percent of the labor force expected to receive contributory pensions at a replacement rate of about 20 percent of average wage.
  - Legislation to finalize social security reforms under discussion.

### Debt sustainability, stress tests, and contingency scenarios
- Baseline DSA projections (selected figures, percent of GDP unless noted):
  - Nominal gross public debt: 2017 = 50.0; 2018 = 52.7; 2019 = 52.6; 2020 = 53.7; 2021 = 54.4; 2022 = 55.3.
  - Public gross financing needs examples: 2017 = 6.5; 2018 = 8.8; 2019 = 10.0; 2020 = 10.3; 2022 = 9.5.
  - Real GDP growth (percent): 2015 = 5.3; 2016 = 7.0; 2017 = 6.6; 2018 = 4.6; 2019 = 5.5; 2020 = 5.0; 2021 = 5.0; 2022 = 5.0.
  - Inflation (GDP deflator, percent): 2015 = 5.8; 2016 = 0.9; 2017 = 0.8; 2018 = 3.3; 2019 = 4.9; 2020 = 3.5.
  - Effective interest rate (percent): 2015 = 6.8; 2016 = 8.8; 2017 = 9.3; 2018 = 9.2; 2019 = 10.3; 2022 = 9.9.
- Stress-test outcomes (selected):
  - Combined shock (growth, primary balance, exchange rate, interest rate): debt reaches about 67 percent by 2022; gross financing needs rise to about 14 percent of GDP in the medium term; outcomes remain within benchmarks.
  - Contingent liability shock (2.9 percent of GDP in 2017 combined with growth and borrowing cost shocks): debt ratio increases to 64 percent of GDP in 2022; gross financing needs increase to 13 percent of GDP; outcomes remain within debt burden benchmark.
- Identified debt-creating flows (selected):
  - Primary deficit (percent of GDP): 2015 = 1.9; 2016 = -2.2; 2017 = 0.0; 2018 = 0.3.
  - Automatic debt dynamics (percent of GDP): 2015 = -0.8; 2016 = 1.1; 2017 = 1.5; 2018 = 0.6.
  - Exchange rate depreciation contribution (percent): 2015 = 0.6; 2016 = 0.8; 2017 = 0.7.

### Annex I: External sector assessment (selected findings)
- Current account:
  - Current account deficit in 2017: 0.2 percent of GDP (historical low).
  - Medium-term projection: current account deficit projected to widen to 2.6 percent of GDP by 2023.
- REER and competitiveness:
  - REER depreciation: 0.8 percent in 2016; 2.3 percent in 2017.
  - Peso trend vis-à-vis U.S. dollar: depreciating by 2½ to 3 percent a year.
  - EBA‑Lite / current account approach findings:
    - Estimated current account gap: 2 percent of GDP.
    - REER undervaluation (adjusted for temporary remittance boost): 10 percent.
    - Without adjustment for temporary factor: estimated REER undervaluation 12.6 percent.
    - Fiscal policy: need for a fiscal adjustment of about 3 percentage points of GDP.
  - EBA-Lite summary figures:
    - Current Account (CA) Norm: -2.7%
    - CA Projected / Cyclically-Adjusted: -0.3%
    - REER Gap (Unadjusted): -12.6%
    - Adjusted for temporary factors: CA Norm -2.7%; CA Projected/Cyclically-Adjusted -0.8%; REER Gap -10.1%
    - External sustainability scenarios: stabilize net IIP at 2017 level (-60% of GDP) -> CA Norm -3.3%; REER gap -3.3%
    - Average (EBA-Lite results): Current Account -2.7%; Projected/Cyclically-Adjusted -1.6%; REER gap -6.1%
- Reserve adequacy:
  - Coverage relative to Fund’s risk-based metric for fixed exchange rate regimes: 67 percent of the metric in 2017 (suggested adequacy range 100–150 percent).
  - If more flexibility introduced, coverage under flexible benchmark would be above 100 percent of the metric.

### Electricity sector: weaknesses, reforms, and the Electricity Pact
- Key problems and metrics:
  - Distribution losses close to 30 percent in 2017; progress reducing losses around one percentage point per year.
  - Deficits generated by public electricity sector estimated at 2¼–1¼ percent of GDP between 2013 and 2017.
  - Electricity shortages estimated to average four hours per day.
  - Energy matrix: green energy 2.4 percent; natural gas 18.8 percent; historically about half generated using fuel oil.
- Government actions:
  - Contracted construction of two coal plants at Punta Catalina to boost generation capacity by about 20 percent; construction since 2014 estimated to cost US$2 billion (2½ percent of GDP).
  - First plant expected to commence operations in the second half of 2018.
- Electricity Pact (draft) core objectives:
  - Open distribution subsector to private participation; state maintains monopoly in hydro-generation and transmission with private subcontracting allowed in distribution.
  - Reform institutional governance, create two new public entities for hydrogeneration and transmission, strengthen governing boards, and separate policy-making, regulation, operational functions.
  - Restore financial viability with enterprise-specific plans and measurable targets; Pact targets a 15-percentage points reduction in losses over 6 years across all distributors.
  - Pricing reform: decision on long-term pricing policy to be made and implemented from 2022 onward; interim tariff adjustments to reflect fuel costs and imputed loss reductions.
- Implementation challenges:
  - Pact effectiveness depends on follow-up with technical analysis and decisive government action.
  - Funding requirements for loss reduction substantial and magnitude uncertain; multilateral organizations supporting loss reduction efforts.

### Staff appraisal — summary of macroeconomic and policy recommendations
- Timely policy response in early-2017 has stabilized the economy: activity reverting to potential, inflation within target, unemployment near historical lows, and current account deficit narrowed.
- Fiscal recommendation:
  - More meaningful fiscal action required to strengthen fiscal position; focus on widening tax base (streamline incentives and exemptions), simplifying tax system, rationalizing inefficient expenditures, and prioritizing public investment and social spending.
  - Implement a medium-term fiscal framework and reforms to enhance transparency in public procurement and public financial management.
- Monetary recommendation:
  - Maintain neutral stance with tightening bias; greater exchange rate flexibility would enhance resilience.
  - Continue building reserve buffers while developing capacity for flexibility.
- Financial sector recommendation:
  - Strengthen oversight over systemic macro-financial risks, develop household and firm indebtedness data, finalize macroprudential framework, and fill supervisory gaps including largest nonbank institutions.
  - Effective implementation of AML/CFT framework to promote integrity.
- Structural reform recommendation:
  - Implement concrete and immediate actions to reform electricity sector; pursue more ambitious reforms to reduce transportation costs, simplify tax system, strengthen institutions, and widen social security coverage to ensure adequate retirement income.
- Growth potential from reforms:
  - Combined structural improvements (institutional variables to top fifth percentile, halving crime and disaster damage, reducing government debt to 40 percent of GDP) could permanently raise GDP growth by 1.5 percentage point per year.

*Source: DOMINICAN REPUBLIC — INTERNATIONAL MONETARY FUND, cr18294-dominicanrepbundle.*

### 1. Distributional Effects of Fiscal Consolidation __________________________________________________ 12

### 1. Distributional Effects of Fiscal Consolidation

### Context: 15 years after the financial crisis
- The collapse of the second-largest bank in 2003 triggered a large external devaluation, stagflation, a sharp increase in poverty, loss of all official reserves and a setback in the fiscal position as depositors were bailed out.
- Post-crisis reforms (many under IMF programs during 2004-12) strengthened the policy framework and macroeconomic outcomes.
- Economic activity averaged 5.7 percent over 2005–17.
- Per capita income has more than doubled.
- Inflation has stabilized within the central bank’s target range.
- Country risk premium is below the emerging market average.
- Social outcomes deteriorated after the crisis: poverty increased to 50 percent of the population, extreme poverty doubled, and unemployment and inequality increased.
- Recent improvements in real labor income for the poorest deciles and higher spending on education and healthcare have supported reductions in poverty and inequality, though inequality remains close to the regional average in Latin America and the Caribbean.

### Recent developments (selected macro and financial indicators)
- Economic growth:
  - 2017 expansion estimated at 4.6 percent, following above-potential growth averaging 7.1 percent during 2014–16.
  - Growth was supported by strong external demand (especially tourism) and late-2017 recovery after hurricane disruptions.
- Labor market:
  - Unemployment fell to 5.1 percent, near historical lows.
- Inflation and monetary policy:
  - Central bank target: 4±1 percent.
  - Headline inflation returned to the target band; core inflation remains below target but slowly accelerating.
  - In July 2017 the central bank lowered the policy rate by 50 basis points (to 5¼ percent) and reserve requirements by 2.2 percentage points (to 12.1 percent).
  - Policy easing passed through to deposit and lending rates; credit to the private sector grew 10.1 percent in 2017, down from 12.1 percent in 2016.
- External sector:
  - Real exchange rate depreciation of 2.3 percent in 2017.
  - Current account deficit reached the lowest level in a decade in 2017; deficit had peaked at 7.5 percent of GDP in 2011.
  - Reserves coverage strengthened to 3.5 months of imports in 2017 (or 4.2 months excluding imports from the free trade zones).
  - FDI continues to more than adequately finance the current account deficit.
- Fiscal sector:
  - Consolidated fiscal deficit widened to 4.6 percent of GDP in 2017.
  - Tax administration reforms initiated in 2017 are estimated to have boosted structural revenues by 0.4 percent of GDP.
  - Spending pressures: higher payrolls for education, health, police, and defense; reconstruction after floods and hurricanes; higher spending on the coal plant; increasing interest bill (0.9 percent of GDP).
  - Public debt estimated at 52.7 percent of GDP at end-2017, a 10 percentage point increase over the past 5 years.

### Outlook and projections
- Growth:
  - Monetary easing in mid-2017 is expected to support recovery in 2018.
  - Growth projected to increase to 5.5 percent in 2018 and then moderate to a medium-term potential rate of around 5 percent.
- Inflation:
  - Total inflation expected to remain within the central bank’s 4±1 percent target range, possibly briefly near the upper band in 2018 due to higher oil prices; convergence to the midpoint by 2019 anticipated.
  - Core inflation expected to gradually rise to around 4 percent.
- External position:
  - Current account deficit expected to gradually realign with the estimated norm over the medium term as private domestic demand recovers and remittances decline as a share of GDP.
  - Reserve coverage expected to strengthen to 3.8 months of imports (4.4 months excluding imports from the free trade zones) over the medium term.
- Fiscal outlook:
  - 2018 budget relies on ongoing tax administration reforms to increase tax collections by 0.5 percent of GDP.
  - Staff baseline (with a more conservative 0.3 percent yield and unbudgeted coal plant spending of 0.3 percent of GDP) projects the consolidated overall public deficit to narrow to 4.3 percent of GDP in 2018.
  - Over the medium term the consolidated deficit is expected to gradually widen to 4½-4 3/4 percent of GDP.
  - Public debt projected to reach 57⅕ percent of GDP by 2023 under the baseline.
  - Staff estimate: an adjustment of about 3 percent of GDP in the overall deficit during 2018–20 would lower debt to around 45 percent of GDP over the next five years.

### Risks to the outlook
- External risks (main downside risks):
  - Higher-than-expected world oil prices.
  - Weaker-than-projected external demand.
  - Possible weather events and energy supply disruptions; potential embargo on Venezuela affecting access to offshore oil sales.
  - Tighter global financial conditions could raise borrowing costs and fiscal pressures.
- Domestic risks:
  - Two-sided uncertainty around the strength of domestic demand momentum in 2018 following monetary easing.
  - Delays in structural reforms, including governance weaknesses (e.g., regional corruption probe related to Odebrecht), could hurt confidence and growth prospects.
- Quantified simulation results cited:
  - A 20 percent increase in oil prices would be expected to reduce growth by up to 1.6 percentage points per year (WHDMOD / FSGM simulation).
  - A 1 percentage point negative U.S. demand shock is estimated to weaken domestic growth by 0.4 percentage points through declines in exports and remittances.

### Policy discussions and recommendations
- Short-term and medium-term priorities:
  - Strengthen policy buffers to build resilience against downswings or tighter global financial conditions.
  - Correct fiscal imbalances while minimizing growth and distributional effects.
  - Continue buildup in reserves.
  - Gradual movement toward more exchange rate flexibility.
  - Over the medium term, implement structural reforms to boost productivity and investment, particularly:
    - Reform the electricity sector.
    - Strengthen the investment environment.
  - Strengthen social policies to make growth more inclusive and reduce poverty and income inequality.
- Fiscal policy specifics:
  - Staff supports authorities’ ongoing tax administration reforms to increase efficiency of tax collections, improve compliance and broaden the tax base, but judges these reforms likely insufficient alone to ensure sustainability.
  - A meaningful fiscal consolidation is needed to ensure public debt remains sustainable; staff quantifies a needed adjustment of about 3 percent of GDP in the overall deficit during 2018–20 to lower debt to around 45 percent of GDP over five years.
- Authorities’ views:
  - Authorities broadly shared staff’s outlook for growth and inflation and agreed on main risks, while seeing stronger upside risks to growth from the mid-2017 monetary easing.
  - Authorities are monitoring developments and stand ready to adjust policy; they remain focused on building buffers to support capacity to absorb risks.

*DOMINICAN REPUBLIC — INTERNATIONAL MONETARY FUND*

### 0.2 percent of GDP in 2018, as in the budget, with

### cr18294-dominicanrepbundle - 0.2 percent of GDP in 2018, as in the budget, with

### Fiscal consolidation: size, composition, and distributional considerations
- Staff scenario: overall consolidation of 3.0 percent of GDP over 2018–20:
  - 2018: 0.2 percent of GDP
  - 2019: 1.4 percent of GDP
  - 2020: 1.4 percent of GDP
  - Total: 3.0 percent of GDP
- Expected composition and yields (Expected yield (% of GDP) — measures in the 2018 tax reform package included in the 2018 budget):
  - Reduced VAT (other indirect) and property tax exemptions to regional levels: 0.2 (2018), 0.6 (2019), 0.6 (2020) — total 1.4
  - Reducing CIT exemptions: 0.0 (2018), 0.2 (2019), 0.2 (2020) — total 0.3
  - PIT: not adjusting tax rate benchmark for inflation in 2018 and reducing PIT allowance to two minimum salaries: 0.0 (2018), 0.1 (2019), 0.1 (2020) — total 0.3
  - Eliminating electricity subsidies and improving spending efficiency: 0.0 (2018), 0.5 (2019), 0.5 (2020) — total 1.0
- Distributional and growth implications:
  - Adjustment could negatively affect economic activity and increase inequality unless composition and use of interest-savings are calibrated to offset these effects.
  - Recommended focus: reduce generalized electricity subsidies (regressive), rationalize CIT incentives (do not affect inequality), scale back least progressive VAT exemptions, and reduce the high PIT threshold (current threshold results in only the top income decile contributing).
  - Use of interest-savings (estimated at 0.5–0.8 percent of GDP over the medium term) to offset effects:
    - Increase targeted transfers to mitigate negative distributional effects.
    - Scale up infrastructure investment to offset negative growth effects.
- Box 1 simulation results and policy mix:
  - A revenue-mobilization package raising VAT, CIT, and PIT receipts by 1.5, 0.25 and 0.25 percent of GDP respectively could reduce output by close to 1 percent (a fiscal multiplier of close to 0.5).
  - Staff estimates that a fiscal adjustment of 3 percent of GDP over 2018-20 would reduce the interest bill by 0.5 to 0.8 percent of GDP over the medium term.
  - Optimal offset (gray scenario): infrastructure investment of 0.25 percent of GDP plus higher targeted transfers to rural areas or equivalent health/education spending of 0.25 percent of GDP, financed within the envelope of fiscal resources freed up by the adjustment.

Authorities’ views on consolidation:
- Priority is tackling tax evasion to strengthen fiscal position before further consolidation.
- Evidence of underlying increase in collections of some 0.4 percent of GDP in 2017 despite slowdown.
- Expect collections to increase by another 0.5 percent of GDP in 2018 due to measures in the 2018 National Budget, plus continued restraint in spending.

### Strengthening the fiscal policy framework and public financial management
- Progress in public financial management:
  - Broadened coverage of the treasury single account to support cash management, spending controls, and lower borrowing costs.
  - Introduced a single public portal for all government procurement processes to improve transparency and efficiency.
  - Steps to strengthen financial reporting by public institutions and preparation to launch internal audits.
- Recommended fiscal framework reforms:
  - Adopt a medium-term fiscal anchor to enhance predictability, credibility, and sustainability.
  - Widen scope and availability of fiscal statistics for all levels of government.
  - Introduce a framework for Public-Private Partnerships to minimize fiscal risks from such arrangements.
  - Entrench prudent fiscal management elements within fiscal responsibility legislation or principles in the upcoming Fiscal Pact.
- Authorities’ actions and timelines:
  - Developing a medium-term fiscal framework anchored in sustainability objectives, expected to be finalized before end-April 2018.
  - Preparing a fiscal risk management report focusing on macroeconomic risks, contingent liabilities from disasters and pensions, expected to be finalized in 2018.
  - Planned move towards the 2014 Government Finance Statistics Manual by March 2018 with IMF technical assistance.

### Monetary policy stance and reserve adequacy
- Monetary policy stance:
  - Neutral monetary policy stance with a tightening bias is appropriate.
  - Mid-2017 monetary easing realigned the real policy interest rate with the estimated neutral rate.
  - Staff supports maintaining neutral stance until clear signs that activity and inflation are firming; tightening bias justified if inflationary pressures materialize.
- Reserve adequacy:
  - Reserves rebuilt since 2003-04 crisis; improvement in 2017 despite reduction in reserve requirement ratio.
  - Coverage estimated at 67 percent of the Fund’s reserve adequacy metric for 2017 (Annex I).
  - With current account deficit projected to remain low and financing ample, opportunity exists to strengthen reserve adequacy toward the Fund’s metric.
- Exchange rate flexibility and market infrastructure:
  - Additional exchange rate flexibility under the crawl-like arrangement is seen as beneficial to absorb external shocks and strengthen inflation targeting.
  - Authorities have space to build reserves while developing capacity to enhance flexibility.
  - Plans to introduce a foreign exchange trading platform (timeline postponed; new request for proposals expected in the first half of 2018) to increase market transparency, liquidity, and price discovery.
  - Ongoing efforts to develop a derivatives market for foreign exchange to manage exchange rate risks.
- Monetary-fiscal coordination and central bank recapitalization:
  - Large share of public debt managed by the central bank from bank recapitalization contributes to a quasi-fiscal deficit of 1.2 percent of GDP in 2017.
  - Mission welcomed planned finalization of new agreement on the recapitalization of the central bank; improved coordination between monetary and fiscal authorities important for public debt management.
- Authorities’ views:
  - Agreed that neutral stance with tightening bias is appropriate and stand ready to tighten if inflation picks up faster.
  - Agreed favorable external conditions present opportunity to strengthen reserve adequacy.
  - An updated agreement to recapitalize the central bank expected to be concluded in the following months.

### Financial sector: soundness, vulnerabilities, and supervision
- Banking sector evolution and indicators:
  - Financial sector stronger and better supervised than before the 2003–04 crisis.
  - Restructuring and recapitalization reduced number of entities from 141 in 2003 to 58.
  - Banking sector assets at about 46 percent of GDP in 2017 (below pre-crisis about 52 percent of GDP).
  - Private pension funds hold assets of another 17 percent of GDP.
  - Dominican Republic ranks high in regional comparison on key bank soundness indicators: solvency, asset quality, profitability.
- Key metrics and developments:
  - Non-performing loans (NPLs) for commercial banks: 1.9 percent (increase of about 0.2 percentage points from a year earlier).
  - Capital adequacy of commercial banks: 18.2 percent (well above the 10 percent regulatory requirement), reflecting capitalization of retained earnings.
- Macro-financial vulnerabilities (limited but present):
  - Credit gap remains moderate despite pickup in credit growth in latter half of 2017.
  - Aggregate asset quality indicators evolving with fundamentals; NPLs appear adequately provisioned.
  - Financial institutions’ profitability remains dependent on high financial spreads and fee-based income.
- Pockets of vulnerability to monitor:
  - Lack of adequate data on borrowers’ financials to assess repayment capacity — a structural weakness requiring a progressive but clear timetable to address.
  - Health of nonbank financial institutions: rapid growth but largely outside supervisory perimeter.
  - Credit risk from dollar loans to unhedged borrowers: account for one fifth of total loans.
  - Exposure to state risk: need medium-term strategy to deconcentrate exposure by allowing a broader range of investment instruments, including abroad.
  - Low productivity of banks and high structural dependence on fee-based income and high spreads.
  - Potential operational risk from cross-business activities by financial groups.
- Supervisory adjustments noted:
  - Recent adjustments to credit risk assessment guidelines widen acceptable collateral, minimize downgrading of refinanced but performing loans, and liberalize loan provisions in cases of credit rating improvements.

*International Monetary Fund — Dominican Republic staff report excerpt*

### 26.      Ongoing efforts to continue improving prudential supervision and regulation should

### 26.      Ongoing efforts to continue improving prudential supervision and regulation should

### Prudential supervision and regulatory improvements
- Authorities are considering regulatory changes to liquidity, leverage and market risk management requirements in 2018 to better align them to international practice.
- Prepare for eventual adoption of International Financial Reporting Standards (IFRS) 9 through a carefully timed and planned strategy that takes into account the impact on banks.
- Enhance supervisory and regulatory framework to:
  - Strengthen assessment of intercompany activities.
  - Give supervisors adequate powers to require higher capitalization for individual banks.
  - Align the banking law more fully to international standards, following lessons learned in the consolidation process since the 2003–04 crisis.
- Ongoing efforts to address weaknesses in oversight of the largest nonbank institutions (some now comparable in asset size to banks), including a new draft law to enhance nonbank supervision and regulation, are welcome but should ensure effective supervision of core banks is not affected.

### Systemic risk oversight and macroprudential policy
- The central bank has set up a committee responsible for financial stability and macroprudential policy, which will include a representative from the Superintendency of Banks.
- The committee is formally responsible for systemic risk assessment and financial stability, and is working to strengthen systemic oversight and develop macroprudential policy instruments.
- To fully operationalize macroprudential policy, consideration is being given to broaden the Monetary Board’s powers for macroprudential policy—staff supported efforts in this direction.
- Publication of a financial stability report would further enhance transparency and accountability and strengthen systemic risk assessment.
- Addressing data gaps with respect to sectoral risks is critical to strengthening systemic risk assessment and would enhance lenders’ ability to assess borrower credit risk.

### Anti–money laundering / Combating the financing of terrorism (AML/CFT)
- An AML/CFT law finalized in 2017 will help strengthen technical compliance with international standards.
- The Dominican Republic is currently undergoing an assessment of its compliance with the 2012 FATF standard, which will be concluded in mid-2018.
- Staff encouraged authorities to continue focusing decisively on effective implementation of the AML/CFT framework to support anti-corruption efforts and to mitigate risks from the withdrawal of correspondent banking relationships.
- Thus far, financial institutions in the Dominican Republic have maintained stable access to correspondent banking relationships.

### Authorities’ views (financial stability and AML/CFT)
- Authorities welcomed staff feedback on progress since the financial crisis and concurred with the assessment of remaining risks and priorities.
- They committed to developing an overall strategy and agenda to build on achievements since the financial crisis.
- Emphasized commitment to strengthening systemic risk assessment, finalizing macroprudential policy framework and toolkit, and effective implementation of the new AML/CFT framework.
- Authorities considered the new AML/CFT law would also prevent tax avoidance and help transition the informal sector into the formal economy.

### Structural reforms to strengthen productivity and potential growth
- Growth- and socially-oriented structural reforms remain a government priority; challenges include eroding competitiveness gains due to slowdown in productivity and adjustments in real wages after minimum wage increases.
- Main structural impediments to growth:
  - Poor electricity supply.
  - Still weak educational outcomes.
  - High transportation costs.
  - Relatively weak institutions.
  - Complex tax system.
  - Relatively low coverage of social insurance schemes and limited fiscal space.
- Progress and policy actions:
  - Education spending has doubled to 4 percent of GDP in recent years.
  - An Electricity Pact broadly agreed by major social partners (draft Pact includes reducing losses, reforming governance, allowing a larger private sector role), but remains to be finalized and requires political will for concrete and immediate policy actions.
  - Doing-business environment reforms are underway with a relaunched Competitiveness Council.
- Investment environment reforms being pursued:
  - Facilitate doing-business and trade (reduce time for setting up companies; introduce a single window for exporters’ procedural requirements).
  - Reduce barriers to competition, especially in the transport sector (port transportation costs among the highest in the region).
  - Modernize labor market legislation (update 1992 Labor Code to make working hours more flexible and streamline dispute system; severance pay discussions may delay agreement).
  - Strengthen institutions and governance (simplify trade procedures; improve transparency in public procurement).
- Fiscal and tax reforms:
  - Simplify the tax system: current tax exemptions/incentives cost 6.2 percent of GDP in 2017 and are inequitable.
  - Streamline patchwork modifications since 2012 to reduce compliance difficulties for medium and small enterprises.
  - Create space for infrastructure and social investment to improve education, healthcare, social security, and capital stock quality.
- Social security reform:
  - Social security reform of 2003 not fully implemented; access limited to formal enterprises, leaving about half of the workforce without social safety nets.
  - Unless reforms are implemented, only 30 percent of the labor force is expected to receive contributory pensions and at a very low replacement rate of about 20 percent of average wage.
  - Legislation to finalize social security reforms is under discussion and should address pension adequacy while the population is relatively young.

### Staff appraisal — macroeconomic and policy outlook
- The timely policy response to the early-2017 economic slowdown has put the economy back on an even keel:
  - Economic activity and projected growth reverting to potential.
  - Inflation within the central bank’s target.
  - Unemployment near historical lows.
  - External current account deficit has narrowed.
- Main downside risks: higher oil prices, weaker-than-projected external demand, tighter-than-anticipated global financial conditions.
- Fiscal policy:
  - Despite reforms, more meaningful action required to strengthen the fiscal position; public debt continued to increase and growing interest burden relative to a narrow revenue base is making debt less affordable.
  - Recent reforms improving debt profile and tax/customs administration have yielded strong results (peso debt issuance in global markets, narrowing bond spreads, increases in tax base), but are insufficient to offset structural spending pressures.
  - A meaningful fiscal adjustment is needed to rebuild buffers and reverse upward debt dynamic; adjustment should focus on widening tax base (including streamlining tax incentives and exemptions), simplifying tax system, rationalizing inefficient expenditures, and prioritizing public investment and social spending to protect the most vulnerable.
  - Strengthening fiscal policy framework (a medium-term fiscal framework) and reforms to enhance transparency in public procurement, public financial management, and alignment of public statistics with international norms are recommended.
- Monetary policy:
  - Neutral stance with a tightening bias is consistent with conditions; tighter policy may be required if inflation rises faster than expected.
  - Greater exchange rate flexibility would enhance resilience to external shocks.
  - External position moderately stronger than warranted by medium-term fundamentals but expected to realign with projected recovery in private domestic demand.
  - Strength in near term provides opportunity to continue building reserve buffers.
- Financial sector:
  - Continued emphasis on strengthening oversight over systemic macro-financial risks, development of household and firm indebtedness data, and finalization of macroprudential framework will contribute to financial stability.
  - Continue efforts to improve prudential regulation and supervision to fully align with international best practice; fill remaining supervisory gaps including oversight of largest nonbank institutions.
  - Effective implementation of anti-money laundering framework is important to promote integrity in the financial system.
- Structural reforms:
  - Ongoing reforms to improve doing-business environment, health, education, infrastructure, and electricity sector are welcome.
  - Need for concrete and immediate policy actions to sustainably reform the electricity sector.
  - More ambitious reforms needed to reduce transportation costs, simplify tax system, and strengthen institutional environment.
  - Reforms to widen social security coverage and ensure adequate retirement income are important.
  - A stronger fiscal position would ease pressures on financial resources and interest rates and provide space to refocus spending toward social safety nets and infrastructure.

*Source: DOMINICAN REPUBLIC, INTERNATIONAL MONETARY FUND.*

### 37.      It is recommended that the next Article IV consultation take place on the standard

### Dominican Republic: Selected IMF Country Report Extract (figures, tables, and findings)

### Real sector and growth
- Strong growth since the 2003-04 financial crisis, with above-potential growth of 7.1 percent during 2014-16.
- The ongoing cyclical slowdown was magnified in 2017 by several factors, including close passage of two hurricanes in September 2017.
- Private investment drove the slowdown in early 2017 but showed signs of recovery by early 2018.
- Weaker demand in early 2017 held back core inflation; an end-year pickup in headline inflation was driven largely by supply-push factors, including imported energy and food prices.
- Inflation expectations remain relatively well anchored near the mid-point of the central bank’s target band.

### Social and labor market indicators
- Poverty and inequality have gradually improved since the 2003-04 financial crisis, especially during 2014-15, but remain close to the regional average for Latin and Central America.
- Strong labor productivity growth and a decline in real wages after the 2003-04 crisis contributed to lower labor costs and higher growth; more recently recovery in real wages and faster wage growth in the lower income deciles contributed to reductions in poverty and inequality.
- Employment is recovering and unemployment is falling, particularly for women; share of formal sector employment has increased.

### Fiscal developments (central government and consolidated public sector)
- Central government balance deteriorated somewhat in 2017 due to higher primary and interest spending.
- Fiscal impulse in 2017 was moderate (Figure: Fiscal Impulse (excl. interest and energy) and Output gap shown for 2008–2017).
- Despite reforms, the tax base remains among the smallest in the world; interest-to-revenue ratios and effective interest rates remain among the highest.
- Large deficits have pushed public debt up despite strong growth; debt management improved with the share of external debt declining.
- Key budget numbers (percent of GDP) from Table 2 (2014–2023 series; selected entries):
  - Total revenue and grants: 14.8, 17.5, 14.8, 15.1, 15.6, 15.1, 15.0, 15.1, 15.0, 15.0, 15.0 (2014–2023)
  - Tax revenues: 13.8, 13.5, 13.7, 14.0, 14.6, 14.0, 14.0, 14.1, 14.0, 14.0, 14.0 (2014–2023)
  - VAT: 4.6, 4.8, 4.8, 4.8, 5.1, 4.9, 4.9, 4.9, 4.9, 4.9, 4.9 (2014–2023)
  - Primary expenditure: 14.9, 14.8, 14.7, 15.3, 14.3, 14.5, 14.4, 14.3, 14.3, 14.3, 14.3 (2014–2023)
  - Interest (total): 2.5, 2.6, 2.9, 3.1, 3.4, 3.4, 3.6, 3.8, 4.0, 4.2, 4.3 (2014–2023)
  - Overall balance (central government): -2.6, 0.1, -2.8, -3.2, -2.2, -2.8, -3.0, -3.1, -3.3, -3.5, -3.6 (2014–2023)
  - Consolidated public sector debt (percent of GDP, memorandum): 47.2, 47.3, 50.0, 52.7, …, 52.6, 53.7, 54.4, 55.3, 56.3, 57.3 (2014–2023)
  - Nominal GDP (DR$ billion): 2,841; 3,068; 3,298; 3,562; 3,867; 3,942; 4,282; 4,674; 5,101; 5,568; 6,079 (2014–2023)
- Quasi-fiscal balance of the central bank (percent of GDP): -1.5, -1.4, -1.3, -1.2, …, -1.3, -1.2, -1.2, -1.1, -1.1, -1.0 (2014–2023).

### External stability and balance of payments
- Recent reduction in the current account deficit was primarily due to lower international oil prices.
- Exchange rate has continued to depreciate gradually (Real Effective Exchange Rate index shown, 2010M1=100).
- FDI and government borrowing continue to exceed external financing needs, contributing to a gradual build-up of reserves.
- External debt is relatively low and concentrated in the public sector; a large portion of external liabilities are non-debt-creating FDI inflows.
- Selected Balance of Payments figures (Table 4; in millions of U.S. dollars and percent of GDP):
  - Current account (US$ millions): -2,170; -1,280; -813; -164; -837; -1,207; -1,494; -1,852; -2,256; -2,752 (2014–2023)
  - Current account (percent of GDP): -3.3; -1.9; -1.1; -0.2; -1.0; -1.4; -1.7; -2.0; -2.3; -2.6 (2014–2023)
  - Goods, net (US$ millions): -7,374; -7,465; -7,558; -7,579; -8,638; -9,104; -9,604; -10,188; -10,904; -11,737 (2014–2023)
  - Exports, f.o.b. (US$ millions): 989; 994; 4,294; 8,401; 10,121; 10,760; 11,312; 11,939; 12,599; 13,279; 13,992 [note: series in table shows irregular formatting]
  - Imports, f.o.b. (US$ millions): 1,727; 3,169; 0,717; 3,980; 3, ... [table contains mixed formatting; see source for full series]
  - Foreign direct investment, net (US$ millions): -2,209; -2,205; -2,407; -3,570; -2,646; -2,783; -2,941; -3,107; -3,283; -3,470 (2014–2023)
  - Gross international reserves (US$ millions, memorandum): 486; 252; 666; 047; 678; 174; 2880; 2885; 7891; 2896; 7810; 178 [table formatting irregular; source contains full series]
  - Net international reserves (months of prospective imports): 2.6; 3.0; 3.4; 3.5; 3.6; 3.7; 3.8; 3.8; 3.8 (selected years)

### Monetary developments and central bank
- Monetary conditions loosened in the second half of 2017, consistent with mid-2017 monetary policy easing.
- Lending rates fell by significantly more than the policy rate as liquidity freed by reserve requirement reductions was initially directed to targeted sectors at below-market interest rates.
- The quasi-fiscal deficit of the central bank has remained relatively stable but continues to put pressure on the stock of central bank securities outstanding.
- Dollarization has stabilized.
- Central Bank (Table 5, selected items):
  - Revenues (BCRD, in billions of pesos): 21.2; 23.0; 26.2; 33.9; 32.5; 36.9; 41.9; 47.7; 52.2; 57.0 (2014–2023)
  - Interest (BCRD): 21.0; 23.0; 26.0; 33.5; 32.3; 36.6; 41.6; 47.4; 51.8; 56.6 (2014–2023)
  - BCRD recapitalization (interest/transfer component, in billions of pesos): 19.2; 21.2; 22.8; 25.3; 27.6; 30.0; 32.7; 35.7; 39.0; 42.6 (2014–2023)
  - Expenditures (BCRD, in billions of pesos): 62.4; 66.0; 70.2; 78.3; 82.9; 88.9; 95.9; 104.1; 112.3; 120.6 (2014–2023)
  - Quasi-fiscal balance (BCRD, in billions of pesos): -41.2; -43.0; -43.9; -44.4; -50.3; -52.0; -54.0; -56.4; -60.1; -63.5 (2014–2023)
  - Quasi-fiscal balance (percent of GDP): -1.5; -1.4; -1.3; -1.2; -1.3; -1.2; -1.2; -1.1; -1.1; -1.0 (2014–2023)
  - BCRD securities outstanding (stock at end period, in billions of pesos): 342.3; 403.7; 453.0; 501.2; 588.6; 644.6; 696.7; 752.3; 806.5; 858.6 (2014–2023)
  - BCRD securities outstanding (percent of GDP): 12.0; 13.2; 13.7; 14.1; 14.9; 15.0; 14.9; 14.7; 14.5; 14.1 (2014–2023)

### Macrofinancial and banking system developments
- Financial development (credit-to-GDP ratio) is below peer countries and credit has yet to recover to pre-crisis levels.
- Foreign-currency lending spiked recently but subsequently abated.
- Households have been gradually gaining access to finance, while corporate access remains below pre-crisis levels.
- Deceleration in credit growth is consistent with deceleration in broad money; banks’ increased reliance on foreign funding has mitigated the credit slowdown.
- Banking system summary (Table 6, selected items):
  - Net foreign assets (in pesos, billions): 175.4; 218.2; 266.3; 314.6; 356.3; 398.9; 441.2; 485.9; 533.1; 579.9 (2014–2023)
  - Net domestic assets (in pesos, billions): -70.7; -106.7; -148.3; -181.1; -211.7; -241.7; -269.7; -298.7; -328.8; -356.8 (2014–2023)
  - Credit to the private sector (in pesos, billions): 706.9; 796.8; 893.7; 984.1; 1,104.1; 1,210.4; 1,321.1; 1,441.9; 1,573.8; 1,718.3 (2014–2023)
  - Deposits and commercial bank certificates (in pesos, billions): 872.2; 982.7; 1,082.5; 1,185.6; 1,312.4; 1,425.6; 1,556.0; 1,698.3; 1,853.6; 2,023.9 (2014–2023)
  - Broad money (M3) annual growth (memorandum): 9.3; 12.2; 9.8; 9.7; 10.6; 8.6; 9.1; 9.1; 9.1; 9.1 (2014–2023)
  - M3 Velocity (ratio of GDP to M3): 2.9; 2.8; 2.8; 2.7; 2.7; 2.7; 2.7; 2.7; 2.7; 2.7 (2014–2023)

### Financial soundness indicators (banks and system-wide)
- Banks’ assets continue to be concentrated in loans; bonds have contributed notably to asset growth in recent years.
- Funding remains primarily domestic deposits, though securities issuance has increased.
- Liquidity is heavily concentrated in reserves at the central bank.
- Profitability and asset quality remain strong but are trending downward with the deceleration in economic activity.
- Capital adequacy is well above regulatory minimums; leverage ratios and regulatory capital to risk-weighted assets (selected):
  - Regulatory capital to risk-weighted assets (commercial banks, percent): 13.8; 12.9; 14.6; 15.8; 14.8; 14.0; 14.4; 15.6; 15.6; 16.4 (2009–2017 series displayed)
  - NPLs to total loans (commercial banks, percent): 4.0; 2.9; 2.6; 3.2; 1.9; 1.3; 1.5; 1.5; 1.7 (2009–2017 series displayed)
  - Return on average assets (commercial banks, percent): 2.3; 2.6; 2.4; 2.2; 2.3; 2.3; 2.3; 2.2; 2.0 (2009–2017 series displayed)
- Financial Soundness Heatmap (2016Q1–2017Q4):
  - Credit cycle: Low vulnerability (L) throughout 2016–2017 quarters.
  - Balance sheet soundness and structural risk: Medium vulnerability (M) throughout the same period.
  - Balance sheet buffers: Low vulnerability (L) to Medium (M) by 2017Q4.
  - Profitability and leverage: generally Low vulnerability (L).
  - Asset quality: Medium (M) during most quarters, reaching High (H) in 2017Q4; NPL ratio rose to 2.1 in 2017Q4, with NPL ratio change (annual percent) reaching 24.9 in 2017Q4.

*Source: IMF staff compilation and figures contained in the provided report extract.*

### Annex I. External Sector Assessment

### Annex I. External Sector Assessment

### A. Background — Current Account, Real Exchange Rate, Capital and Financial Flows, External Balance Sheets
- Current account
  - Current account deficit in 2017: 0.2 percent of GDP (historical low).
  - Peak current account deficit: 7.5 percent of GDP in 2011.
  - Drivers of narrowing since 2011: lower global commodity prices; strong external demand for tourism services; weaker domestic demand restraining goods imports; strong remittance inflows.
  - Medium-term projection: current account deficit projected to widen to 2.6 percent of GDP by 2023.
  - Projected medium-term drivers of widening: increased imports (linked to higher global commodity prices and recovery in private investment), further rise in interest payments on government external debt, decline in remittances to historical norms, decline in gold exports largely offset by continued growth in service exports (tourism).

- Real exchange rate (REER) and nominal exchange rate
  - REER depreciation: 0.8 percent in 2016; 2.3 percent in 2017.
  - Peso trend vis-à-vis U.S. dollar: depreciating by 2½ to 3 percent a year.
  - Central bank operations in 2017: net purchase of foreign exchange to boost reserves; foreign currency purchases sterilized.

- Capital and financial flows
  - FDI inflows: 4.8 percent of GDP in 2017 (3.4 percent in 2016); increase in 2017 primarily from sale of a Dominican company to a foreign investor.
  - FDI expected to decline to 3.3 percent of GDP in 2018.
  - FDI composition: well diversified across sectors and country of origin.
  - Portfolio and other capital inflows: limited role, concentrated in government borrowing.
  - Public policy: government taking steps to reduce reliance on external foreign-currency denominated debt.
  - Dominican Republic’s risk premium on international markets: below that of its emerging market and regional peers.
  - External public debt concentration: mitigates risk due to concentration in official creditors.

- External balance sheets
  - Net international investment position (NIIP): net liability position; net liabilities expected to have fallen slightly to 60 percent of GDP in 2017 (ten-year average about 50 percent).
  - NIIP projection: liabilities reaching 53 percent of GDP by 2023 (downward trend expected to continue).
  - FDI share of total liabilities: about 60 percent.
  - External debt levels (2017)
    - External debt: 37 percent of GDP in 2017 (projected fall in 2017).
    - Private external debt (including FDI-debt liabilities): 11 percent of GDP in 2017 (down from 14 percent in 2016).
    - Public external debt: about 26 percent of GDP in 2017 (about 70 percent of external debt).
  - Gross external debt projection: about 38 percent of GDP over the medium term (rising slightly), with rising public external debt largely offset by a fall in external private debt.
  - Key vulnerability: most important risk is depreciation, which would raise the external debt ratio significantly.

### B. Assessment — External Position and REER
- Overall assessment
  - The external position is moderately stronger than warranted by fundamentals and desirable policy settings, expected to rebalance over the medium term as private demand strengthens.
- EBA‑Lite / current account approach findings
  - Estimated current account gap: 2 percent of GDP.
  - REER undervaluation (adjusted for temporary remittance boost): 10 percent.
  - Temporary remittances boost accounted for: about 0.5 percentage points of GDP (from uncertainty related to U.S. immigration policy).
  - Without adjustment for temporary factor: estimated REER undervaluation 12.6 percent.
  - Fiscal policy: weaker than desirable policy settings, with need for a fiscal adjustment of about 3 percentage points of GDP.
  - Private credit-to-GDP: lower than desirable to support financial deepening.
- External sustainability approach findings
  - Stabilizing NIIP at 2017 level (-60 percent of GDP) implies an IIP-stabilizing current account deficit of -3.3 percent of GDP and a REER undervaluation of 3.3 percent.
  - Reducing NIIP to 50 percent of GDP within 10 years implies an IIP-stabilizing current account deficit of -2.0 percent of GDP and would suggest the exchange rate is overvalued by about 3 percent.
- REER approach
  - Estimates undervaluation of the REER by 7.6 percent, with gap driven by the residual rather than policy gaps.
- EBA-Lite summary figures (as presented)
  - Current Account (CA) Norm: -2.7%
  - CA Projected / Cyclically-Adjusted: -0.3%
  - REER Gap (Unadjusted): -12.6%
  - Adjusted for temporary factors: CA Norm -2.7%; CA Projected/Cyclically-Adjusted -0.8%; REER Gap -10.1%
  - External sustainability scenarios: stabilize net IIP at 2017 level (-60% of GDP) -> CA Norm -3.3%; REER gap -3.3% ; stabilize net IIP at 50% of GDP within 10 years -> CA Norm -2.0%; REER gap 3.2%
  - Average (EBA-Lite results): Current Account -2.7%; Projected/Cyclically-Adjusted -1.6%; REER gap -6.1%
- Outlook
  - External position expected to realign with fundamentals over the medium term as monetary easing and internal appreciation support recovery in private demand (especially investment).
  - No fiscal space to support realignment given need for fiscal consolidation; structural reforms to boost competitiveness expected to mobilize private investment.

### C. Other Competitiveness Indicators
- Tourism and export performance
  - Price competitiveness in tourism reflected in lower cost of a one-week vacation (Week at the Beach Index).
  - Market share: Dominican Republic has increased market share in tourism and services; maintained market share in world exports of goods.
  - Compared to CAPDR neighbors, Dominican Republic penetrated more export markets than all countries except Costa Rica; exports more than regional average number of products.
  - Export quality index: above all countries in the region except Costa Rica and Guatemala.
- Survey-based indicators
  - World Economic Forum Global Competitiveness Index score: 3.87 for 2017–18 (deterioration from 3.94 in 2016–17) on a 1–7 scale.
  - World Bank Doing Business distance to frontier: 60.93 out of 100 (2018), up from 58.41 in 2017.
  - Identified priorities to strengthen competitiveness: institutions, goods and labor market efficiency, health and education, governance, tax discipline, insolvency regimes.
- Selected indicators (as presented)
  - Market share in tourism and shares in world leisure/business tourism and services goods exports charts referenced in text.

### D. Reserve Adequacy Assessment
- Overall assessment
  - Reserve adequacy strengthened in 2017 but remains below the Fund’s risk-based reserve adequacy metric for fixed exchange rate regimes.
  - Coverage exceeds traditional metrics: greater than 3 months of imports, greater than 20 percent of broad money, and greater than 100 percent of short-term external debt (remaining maturity basis).
  - Coverage relative to Fund’s risk-based metric for fixed exchange rate regimes: 67 percent of the metric in 2017 (suggested adequacy range 100–150 percent).
  - Assessment uses fixed exchange rate benchmark because the country’s crawl-like arrangement was considered “fixed” in derivation of the metric.
  - If more flexibility were introduced into the exchange rate regime, the need for continued reserve accumulation would be lower—coverage under the benchmark for flexible exchange rate is above 100 percent of the metric.
  - Medium-term: reserve coverage expected to continue to strengthen but remain below Fund’s metric for fixed exchange rate regimes.
- Reserve adequacy table values (exact figures presented)
  - Months of imports of goods and services (benchmark 3 months): 3.4 (2016), 3.5 (2017), 3.8 (2022(p)).
  - Months of imports excluding free trade zones (benchmark 3 months): 4.1 (2016), 4.2 (2017), 4.4 (2022(p)).
  - Broad money (M3) coverage (benchmark 20%): 23.2 (2016), 24.5 (2017), 26.3 (2022(p)).
  - Short-term debt on remaining maturity basis (benchmark 100%): 137.8 (2016), 147.7 (2017), 202.6 (2022(p)).
  - IMF reserve adequacy metric (benchmark 100–150%): 61.5 (2016), 67.2 (2017), 68.8 (2022(p)).
  - External debt, bn USD: 28.4 (2016), 27.6 (2017), 37.9 (2022(p)).
  - External debt (percent of NIR): 470.1 (2016), 407.5 (2017), 391.2 (2022(p)).
  - Net international reserves, bn USD: 6.0 (2016), 6.8 (2017), 9.7 (2022(p)).
  - Additional reserves needed to reach IMF reserve metric of 100, bn USD: 3.8 (2016), 3.3 (2017), 4.4 (2022(p)).

*Source: Annex I. External Sector Assessment, cr18294-dominicanrepbundle.*

### Annex I. Figure 1. External Debt Sustainability: Bound Tests 1/ 2/

### Annex I. Figure 1. External Debt Sustainability: Bound Tests 1/ 2/

### Interest-rate shock
- Labelled value: 40.9
- Baseline label: 40
- Timeline markers shown: 2011 2013 2015 2017 2019 2021
- Note: Individual shocks are permanent one-half standard deviation shocks. Figures in the boxes represent average projections for the respective variables in the baseline and scenario being presented. Ten-year historical average for the variable is also shown. 1/

### Historical and baseline scenarios
- Historical label: 39
- Baseline label: 40
- Timeline markers shown: 2011 2013 2015 2017 2019 2021
- Shaded areas represent actual data. 1/
- For historical scenarios, the historical averages are calculated over the ten-year period, and the information is used to project debt dynamics five years ahead. 2/

### Current-account (CA) shock
- CA shock label: 44
- Baseline label: 40
- Timeline markers shown: 2011 2013 2015 2017 2019 2021

### Combined shock
- Combined shock label: 45.8
- Baseline label: 40
- Note: Combined shock corresponds to shocks in real interest rate, growth rate, and current account balance. 3/

### Real depreciation shock (2017 one-time)
- Combined 30 percent depreciation scenario label: 57
- Baseline label: 40
- Note: One-time real depreciation of 30 percent occurs in 2017. 4/

### Gross financing need (under baseline) and shock axes
- Gross financing need under baseline is indicated on the right scale.
- Non-interest current account shock (in percent of GDP) and Growth shock (in percent per year) are used as scenario axes.

### Growth shock (summary of box figures)
- Growth shock box figures:
  - Baseline: 5.3
  - Scenario: 5.7
  - Historical: 4.5
- Alternate box set:
  - Baseline: 5.0
  - Scenario: 3.7
  - Historical: 5.2
- Non-interest current account (box figures):
  - Baseline: 0.4
  - Scenario: -0.9
  - Historical: -3.7

*Source: International Monetary Fund, Country desk data, and staff estimates.*

### 9.      Combined shock. The combined shock incorporates the largest effect of four individual

### 9.      Combined shock. The combined shock incorporates the largest effect of four individual

### Combined shock: outcome and key metrics
- Scenario incorporates largest effect of four individual shocks: growth, primary balance, exchange rate, and interest rate.
- Under this scenario:
  - Debt reaches about 67 percent by 2022.
  - Gross financing needs rise to about 14 percent of GDP in the medium term.
- Gross financing needs and debt remain within the benchmarks.

### Contingent liability shock: specification and outcome
- A contingent liability shock in 2017 equivalent to 2.9 percent of GDP is modeled.
- This shock is combined with:
  - Real GDP negative growth shock (1 standard deviation for 2 years).
  - Sovereign borrowing costs are pushed up (25 basis points for each 1 percent of GDP worsening in the primary balance).
  - Inflation declines (0.25 percentage points per 1 percentage point decrease in GDP growth).
- Under this scenario, along with negative realizations of a growth and borrowing cost shock:
  - Debt ratio increases to 64 percent of GDP in 2022.
  - Gross financing needs increase to 13 percent of GDP.
  - These outcomes remain within the debt burden benchmark.

### Baseline DSA projections and debt dynamics (selected figures)
- As of June 30, 2017 projections (in percent of GDP unless otherwise indicated):
  - Nominal gross public debt: 2017 = 50.0; 2018 = 52.7; 2019 = 52.6; 2020 = 53.7; 2021 = 54.4; 2022 = 55.3; 2015 = 39.4; 2016 = 47.3.
  - Public gross financing needs: 2015 = 6.5; 2016 = 6.2; 2017 = 6.5; 2018 = 8.8; 2019 = 10.0; 2020 = 10.3; 2021 = 8.5; 2022 = 9.5; 2017 listed again = 11.6 (table shows mixed entries).
  - Real GDP growth (in percent): 2015 = 5.3; 2016 = 7.0; 2017 = 6.6; 2018 = 4.6; 2019 = 5.5; 2020 = 5.0; 2021 = 5.0; 2022 = 5.0.
  - Inflation (GDP deflator, in percent): 2015 = 5.8; 2016 = 0.9; 2017 = 0.8; 2018 = 3.3; 2019 = 4.9; 2020 = 3.5; 2021 = 4.0; 2022 = 4.0.
  - Nominal GDP growth (in percent): 2015 = 11.4; 2016 = 8.0; 2017 = 7.5; 2018 = 8.0; 2019 = 10.7; 2020 = 8.6; 2021 = 9.1; 2022 = 9.2.
  - Effective interest rate (in percent): 2015 = 6.8; 2016 = 8.8; 2017 = 9.3; 2018 = 9.2; 2019 = 10.3; 2020 = 9.3; 2021 = 9.6; 2022 = 9.9; later cell shows 11.1.
- Change in gross public sector debt (cumulative): 2015 = 0.9; 2016 = 0.1; 2017 = 2.7; 2018 = 2.6; 2019 = -0.1; 2020 = 1.1; 2021 = 0.8; 2022 = 0.9; cumulative to 2022 = 1.0? (table entries shown: 1.06 and 6.3 in different columns).

### Identified debt-creating flows (selected)
- Primary deficit (percent of GDP): 2015 = 1.9; 2016 = -2.2; 2017 = 0.0; 2018 = 0.3; 2019 = -0.3; 2020 = -0.3; 2021 = -0.5; 2022 = -0.5; cumulative = -1.9.
- Primary (noninterest) revenue and grants (percent of GDP): 2015 = 14.3; 2016 = 17.5; 2017 = 14.8; 2018 = 15.1; 2019 = 15.1; 2020 = 15.0; 2021 = 15.1; 2022 = 15.0; cumulative = 90.3.
- Primary (noninterest) expenditure (percent of GDP): 2015 = 16.2; 2016 = 15.3; 2017 = 14.8; 2018 = 15.5; 2019 = 14.8; 2020 = 14.7; 2021 = 14.5; 2022 = 14.5; cumulative = 88.4.
- Automatic debt dynamics (percent of GDP): 2015 = -0.8; 2016 = 1.1; 2017 = 1.5; 2018 = 0.6; 2019 = -0.2; 2020 = 0.3; 2021 = 0.2; 2022 = 0.4; cumulative = 1.0 and 2.2 shown.
- Interest rate/growth differential (percent): 2015 = -1.5; 2016 = 0.3; 2017 = 0.8; 2018 = 0.6; 2019 = -0.2; 2020 = 0.3; 2021 = 0.2; 2022 = 0.4; cumulative = 1.0 and 2.2 shown.
  - Of which: real interest rate contributions: 2015 = 0.4; 2016 = 3.4; 2017 = 3.7; 2018 = 2.7; 2019 = 2.4; 2020 = 2.7; 2021 = 2.7; 2022 = 2.8; cumulative = 3.5 and 16.8 shown.
  - Of which: real GDP growth contributions: 2015 = -1.8; 2016 = -3.1; 2017 = -2.9; 2018 = -2.1; 2019 = -2.6; 2020 = -2.4; 2021 = -2.4; 2022 = -2.5; cumulative = -2.5 and -14.6 shown.
- Exchange rate depreciation contribution (percent): 2015 = 0.6; 2016 = 0.8; 2017 = 0.7.

### Stress tests: scenarios and illustrative parameter changes
- Listed stress test scenarios: Primary Balance Shock, Real GDP Growth Shock, Real Interest Rate Shock, Real Exchange Rate Shock, Combined Shock, Contingent Liability Shock.
- Representative baseline and stressed parameter trajectories (selected examples):
  - Baseline real GDP growth: 2017 = 4.6; 2018 = 5.5; 2019 = 5.0; 2020 = 5.0; 2021 = 5.0; 2022 = 5.0.
  - Real GDP Growth Shock: 2017 = 4.6; 2018 = 3.0; 2019 = 2.4; 2020 = 5.0; 2021 = 5.0; 2022 = 5.0.
  - Primary balance under Baseline: 2017 = -0.3; 2018 = 0.3; 2019 = -0.6; 2020 = 0.5; 2021 = 0.5; 2022 = 0.5.
  - Primary balance under Contingent Liability Shock: 2017 = -0.3; 2018 = -2.6; 2019 = 0.3; 2020 = 0.5; 2021 = 0.5; 2022 = 0.5.
  - Effective interest rate examples: Baseline 2017 = 9.2; under Real Interest Rate Shock 2018 = 10.3 and rises to 12.7 by 2022 in that scenario.
- Stress-test outcomes illustrated (selected):
  - Combined Macro-Fiscal Shock increases gross nominal public debt to around the mid-50s to mid-60s percent of GDP by 2022 depending on scenario (figures show ranges up to 64–67 percent in combined/contingent scenarios).
  - Public gross financing needs can rise to the low-to-mid teens percent of GDP under stress (examples: 13 percent, 14 percent).

### Growth determinants and potential gains from reforms
- Dominican Republic experienced robust growth over 2005–17 driven by exchange rate depreciation, contained real wage growth, structural reforms (public sector capacity, education reform, infrastructure).
- A panel estimation covering 118 countries for 2006–16 attributes higher-than-expected growth to institutional factors including trade integration, public debt level, violent crime levels, human capital development, non-performing loans, business environment, natural disasters, and shared Central America characteristics; estimation used a Cook distance (D) approach.
- Illustration of medium-term benefits from addressing structural challenges:
  - Improvements modeled: institutional variables to top fifth percentile of emerging and developing countries; reduction in crime and disaster damage by half; reduction in government debt to 40 percent of GDP.
  - The combined effect could permanently raise GDP growth by one and a half percentage point per year.

### Electricity sector: weaknesses, costs, and reforms
- Long-standing weaknesses concentrated in distribution and transmission (publicly owned); generation largely private.
- Key problems and metrics:
  - Distribution losses close to 30 percent in 2017; progress reducing losses around one percentage point per year, but still high.
  - Deficits generated by public electricity sector estimated at 2¼–1¼ percent of GDP between 2013 and 2017.
  - Electricity shortages estimated to average four hours per day, increasing costs for firms and households.
  - Energy matrix: about half of total electricity generated using fuel oil historically; green energy currently 2.4 percent of the matrix; natural gas 18.8 percent.
- Government actions:
  - Contracted construction of two coal plants at Punta Catalina to boost generation capacity by about 20 percent; construction since 2014 estimated to cost US$2 billion (2½ percent of GDP).
  - First plant expected to commence operations in the second half of 2018.
  - Continued efforts to expand green energy and natural gas share of the energy matrix.
- Financing and arrears:
  - Bulk of deficits financed by transfers from central government to cover subsidies and investments.
  - Part of deficit historically financed by arrears to private generators; arrears management improved and arrears have been securitized on several occasions.

*Source: IMF staff (content unit: cr18294-dominicanrepbundle - 9.      Combined shock. The combined shock incorporates the largest effect of four individual).*

### 3.      To durably solve the structural challenges in the electricity sector, the National

### 3.      To durably solve the structural challenges in the electricity sector, the National

### Progress and political status
- The National Development Strategy (2014–2030) mandates agreement between social partners on an Electricity Pact to reach consensus on reforms needed to ensure proper functioning of the sector.
- Negotiations between the social partners (the government, representatives of the electricity sector and private sector more broadly, as well as civil society) have continued for more than three years and agreed on a draft Pact in late 2017.
- As of February 2018, some stakeholders held back from signing the Pact over some disagreement. Therefore, the Pact remains to be signed by President Medina.

### Core reform objectives contained in the Pact
- Opening up the distribution subsector to private participation, while the government will maintain monopoly in hydro-generation and transmission; the Pact allows private subcontracting in distribution.
- The Pact does not clarify the role of the state in the generation sector once the Punta Catalina plants come into operation; authorities have separately expressed intention to allow private partnerships in the coal plants.
- Reforming institutional governance to:
  - ensure a clearer separation of policy-making, regulation and operational functions through reassignment across institutions;
  - strengthen the governing boards of the public entities in the sector;
  - create two new public entities in charge of managing hydrogeneration and transmission, where the state maintains monopoly.
- Ensuring a stable and effective regulatory framework: the Pact reaffirms objectives of current legislation to ensure free and fair competition, mandates a study on improvements in the concessions framework, and requires timely publication of audited financial statements by state enterprises and full public dissemination of all regulations, decisions, and financial data by all regulatory public institutions in the sector.
- Ensuring quality supply of electricity: the Pact requires subsequent regulation on setting standards for supply (including street lighting); introducing accountability of the distribution company for meeting standards; and strengthening consumer rights to receiving needed electricity supply.
- Restoring financial viability: each enterprise must develop and be accountable for a plan to increase operating efficiency and reduce losses, with measurable targets to be monitored by regulators. The Pact targets a 15-percentage points reduction in losses over 6 years across all distributors—more the double the annual reduction in losses in recent years—which will require significant capital investment going forward, to be financed by transfers from the central government (although the magnitude of such investments remains uncertain).
  - Several multilateral organizations, including the World Bank, International Development Bank (IDB), The OPEC Fund for International Development (OFID), and the European Investment Bank (EIB) are currently supporting CDEEE and EDEs in the reduction of losses.
- Pricing system reforms:
  - The Pact mandates a decision on the long-term pricing policy to be made in the near-term. The policy— to be implemented from 2022 onward—will determine the appropriate cost-recovery tariff (albeit based on some pre-specified cost parameters, such at 15% distribution losses) and the level of subsidies.
  - In the interim, the current tariff—which has been frozen since 2011 and is estimated to be notably below cost-recovery—will be adjusted for the cost of fuel (preventing a further increase in subsidies with higher oil prices), but will also be reduced by the imputed effect of at least 2 percentage points of reduction in losses (which could increase the subsidy given historical record of loss reduction).
  - Overall, unless significant investments are made to secure loss reduction, tariffs appear likely to move further away from cost recovery by 2022.

### Implementation challenges and conditionalities
- The ultimate effectiveness of the Pact depends on the will to follow up with specific reforms; most reform elements rely on supporting reforms and/or underlying technical analysis needed to guide these reforms.
- The government’s decisive action in designing and implementing concrete reforms in all areas, as well as ensuring timely studies, will be critical for successful implementation.

### Selected financial and technical target values (as presented)
- 29.9
- 15.0
- 96.7
- 97.0
- 94.0
- 94.5
- 95.0
- 95.5
- 96.0
- 96.5
- 97.0
- 97.5
- 10.0
- 15.0
- 20.0
- 25.0
- 30.0
- 35.0
- 40.0
- 45.0
- 50.0

*Source: Draft Pacto Nacional Para la Reforma del Sector Electrico, informacion CDEEE (as presented in the document).*

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_Source: https://www.imf.org/-/media/files/publications/cr/2018/cr18294-dominicanrepbundle.pdf_