## 1mltea2019001 ## Source details **Canonical URL:** [1mltea2019001](https://www.imf.org/-/media/files/publications/cr/2019/1mltea2019001.pdf) ## Other formats - [Markdown version](/-/media/files/publications/cr/2019/1mltea2019001.pdf.md) - [Structured JSON version](/-/media/files/publications/cr/2019/1mltea2019001.pdf.json) --- ### Context and key policy issues - Real GDP growth averaged 7.2 percent over 2013–17, supported by rapid expansion of services exports (notably remote gaming). - Structural rebalancing toward fast growing export-oriented services: - Boosted the current account balance. - Facilitated rapid income convergence to the EU average. - Tripled the share of foreign workers in total employment roughly between 2010 to 2017. - Capacity constraints and bottlenecks: - Physical infrastructure gaps (road quality, waste management). - Firms face skills shortages as labor supply depends heavily on migrant inflows. - Housing supply is catching up but property prices and rents in the non-protected market are rising fast, intensifying affordability concerns. - Authorities have plans to address these issues (Annex III), but effects may take time to materialize. ### Recent developments — growth, labor, inflation, and public finances - Growth and labor market: - Real GDP grew by 6.6 percent in 2017 and by 6.3 percent (y/y) in the first three quarters of 2018. - Unemployment rate remained below 4 percent as of 2018:Q3. - Inflation and labor costs: - In 2018, headline and core inflation gained pace but remained below 2 percent; services—especially accommodation—were main contributors. - Hourly labor costs for the whole economy increased by 1.6 percent in 2018:Q3 compared with a year earlier. - Public finances: - 2017 fiscal balance: surplus of 3.5 percent of GDP (outperforming projection of 0.8 percent and budget target of 0.5 percent). - Excluding IIP proceeds, 2017 surplus: 1.3 percent of GDP (1. 3 percent of GDP in structural terms). - Public debt fell to about 50 percent of GDP at end-2017. - External sector: - Current account surplus surged from 3 percent of GDP in 2016 to 10 percent of GDP in 2017. - NIIP rose to 66 percent of GDP in 2017. - REER stabilized after 2013–15 decline and recently appreciated to above pre-crisis levels. - Staff assess Malta’s external position as moderately stronger than fundamentals and desirable policy settings in 2018. - Credit and banking: - Mortgage credit continued to grow; credit to NFCs staged only a gradual recovery in 2018 after a five-year contraction. - Household leverage remained above the euro area average. - Core domestic banks’ capital stayed above 17 percent of risk-weighted assets in 2018H1; loan-to-deposit ratio around 60 percent. - Overall NPL ratio of core domestic banks reduced from 9 percent to slightly above 4 percent over 4 years; positive trend stalled in 2018. - Non-bank intermediation: - Intercompany lending became the most important source of funds for Maltese firms, increasing potential contagion risks. - Direct issuance of corporate debt and credit from non-bank financial institutions increased rapidly but from a low base. - Strong inter-linkages between some insurance companies and large domestic financial groups may elevate contagion risks. - Recent efforts: collection of granular loan-level data and establishment of a central credit registry. ### Outlook and risks - Growth projections and drivers: - Real GDP growth expected to ease to 6.4 percent in 2018 and 5.2 percent in 2019, then gradually converge to potential of slightly above 3 percent. - Inflation set to remain around 2 percent over the near to medium term. - Domestic demand projected to become main driver of growth; current account surplus should remain large, reflecting enduring trade surpluses in services. - Downside risks (selected): - Unsustainable macroeconomic policies in systemically important countries, rising global protectionism, a no-deal Brexit, or sharp tightening of global financial conditions could significantly reduce exports and FDI. - Changes in international corporate and personal taxation could adversely affect foreign investment inflows and demand for the IIP. - Sharp correction in housing prices could trigger adverse macrofinancial effects. - Slow progress addressing structural deficiencies may limit potential growth. - Failure to implement AML/CFT framework could undermine business and financial environment. - Upside risks: - Employment growth and private consumption could continue to surprise positively. - Import intensity of domestic demand could decline further. - Investment plans (including blockchain-related) could be implemented faster, implying higher potential growth. - Staff conclusion: Risks to the outlook are broadly balanced. ### Authorities’ views - Broad agreement with staff’s outlook and risk assessment: - Domestic demand will continue as main growth driver; labor market tightness could pressure wages and prices. - Global protectionism is a key external risk. - Ongoing actions to address money laundering risks emphasized. - Actions and plans to upgrade infrastructure and mitigate labor supply constraints highlighted, including streamlining steps for hiring foreign workers. - Importance of investing in blockchain and artificial intelligence to diversify the economy stressed. - Authorities consider the large current account surplus sustainable and mainly structural; asserted no significant macroeconomic imbalances. ### Policy discussions — A. Safeguard Financial Stability and Integrity - System characteristics and vulnerabilities: - Financial system large and complex with high foreign ownership and exposure; domestic economy relatively insulated by a liquid, deposit-based domestic core banking system. - Post-crisis, core banks focused increasingly on mortgage lending as intercompany loans substituted for bank credit to NFCs. - FSAP highlighted banking-sector resilience to real and housing shocks but noted shortcomings in banking supervision, AML/CFT implementation, and the legal regime for bank winding-up and insolvency. - Key observations: - Capacity constraints and regulatory deficiencies undermine effectiveness of financial supervision and crisis management. - Increasing number of supervised entities and rapid product development have strained the MFSA. - FSAP found large gaps in operational capacity for supervision, winding-up and crisis management functions that need urgent addressing. - Policy recommendations (selected): - Ensure long-term financial and operational independence of supervisory authorities: - Rapidly develop a medium-term quantitative assessment of resource needs, including mapping required skills. - Conduct regular reviews of the compensation package to guarantee MFSA’s capacity and autonomy to recruit and retain qualified staff. - Develop a five-year plan to ensure sustained budgetary resources for the MFSA. - Recognize urgency given new regulations on licensing and supervision of crypto-asset-related companies. - Improve the crisis management framework: - Clarify and reform legal insolvency regime to be administrative (led by the resolution arm of the MFSA) rather than court-led. - Clarify creditor hierarchy in liquidation as prerequisite for efficient insolvency proceedings. - Enhance data collection and monitoring: - Complement granular loan-level data and a central credit registry with data on sectoral and cross-border intercompany financing. - Enhance analytical tools to assess systemic risks in the non-bank financial sector. ### AML/CFT framework: findings and immediate recommended actions - Findings: - Revocation of Pilatus bank’s license by the ECB highlighted deficiencies in implementation of Malta’s AML/CFT framework. - EBA investigation pointed to general and systemic shortcomings in FIAU’s application of national rules transposing the 3rd AMLD and MFSA’s authorization and supervisory practices. - FSAP echoed concerns and emphasized focus on banks’ application of preventive measures for higher risk services and clients, including the significant nonresident sector, politically exposed persons, new technologies (remote gaming, crypto-currencies) and the IIP. - EBA’s assessment relayed in a formal opinion by the European Commission on November 8, 2018. - Recommended immediate actions: - Fully implement the recently-enacted 50-point action plan (based on the latest National Risk Assessment) without delay. - Increase supervisory resources at both FIAU and MFSA. - Improve understanding of risks and enhance identification through intrusive, risk-based supervision. - Ensure effective application of AML/CFT preventive measures, including customer due diligence and beneficial owners. - Enhance implementation of fit and proper tests for financial institutions. - Impose timely, dissuasive and proportionate sanctions for AML/CFT breaches. - Pursue regional options for strengthening AML/CFT supervision to minimize regulatory arbitrage. - FSAP operational recommendation: - Adopt a multi-prong approach focusing on more effective AML/CFT enforcement and ensuring banks apply preventive measures for high-risk activities and clients. ### Distributed ledger technology (DLT) and virtual financial assets - Findings: - Passage of three bills in June 2018 established a new regulatory framework for DLT and virtual financial assets. - Malta is among the first countries to provide a specialized regulatory framework to previously unregulated activities; expected to attract migration of crypto-asset exchange platforms to the island. - DLT developments exacerbate existing risks and create new financial integrity risks; AML/CFT enforcement is more challenging with virtual financial assets. - Virtual financial asset service providers must implement AML/CFT requirements effectively and be supervised in line with Financial Action Task Force standards. - Legal and supervisory milestones: - Virtual Financial Asset Act (VFAA) came into force on November 1, 2018; VFA agents, issuers and license holders are subject persons under AML/CFT national regulation. - MFSA responsible for licensing VFA service providers (e.g., crypto-exchanges). - As of the text, no service providers had yet been licensed since due diligence was underway. ### Housing market pressures and macroprudential measures - Findings: - Strong demand pushed up property prices; some signs of overvaluation emerged. - Drivers: strong immigration flows, rising disposable income, portfolio rebalancing toward property, delayed supply response, extension of first-time home-buyer stamp duty relief, reduced tax rate on rental income, surging demand for tourist accommodation, and IIP demand in the high-end segment. - Banks’ exposure to housing-market-related risks is high and increasing; households’ indebtedness relatively high; low-income households vulnerable; flexible mortgage interest rates prevalent. - Government relaxed eligibility for rent subsidies; scheme should be periodically reviewed to remain targeted. - Macroprudential measures and refinements: - Recent efforts: loan-level data collection and planned borrower-based measures (caps to LTV at origin, stressed DSTI limits, amortization requirements). - To be more effective: - Define speed limits in terms of total value of new loans, not number of loans. - Lower speed limits for loans against secondary and buy-to-let properties once initial disruptions dissipate. - Narrow exemptions to the LTV limit. - Extend scope to cover non-bank mortgage loans. - Policy detail (Malta: Borrower Based Macroprudential Measures): - 1st year: 85 percent LTV-O cap with a “speed limit” of 20 percent on the volume of loans. - 2nd+ year: 75 percent LTV-O cap with a “speed limit” of 20 percent on the volume of loans. - Category I borrowers: 90 percent LTV-O cap with a “speed limit” of 10 percent on the volume of loans, for loans with a market value in excess of €175,000; a stressed DSTI-O of 40 percent for loans with a market value in excess of €175,000 with a shock to interest rates of 150 bps. - Category II borrowers: a stressed DSTI-O of 40 percent with a shock to interest rates of 150 bps; a maturity term of 20 years or the official retirement age, whichever occurs first; a maturity term of 40 years or the official retirement age, whichever occurs first. - Category definitions: - Category I: borrowers purchasing their primary residential property. - Category II: borrowers purchasing their second or additional residential property or buy-to-let properties. ### Fiscal policy: stance, projections, and risks - Short-term outcomes and projections: - Staff projects an overall balance of 0.9 percent of GDP in 2018, above the government target of 0.5 percent of GDP. - Debt-to-GDP ratio estimated to moderate to 45 percent at the end of 2018. - Excluding IIP proceeds, the balance would be a deficit of 0.7 percent of GDP (1.2 percent of potential GDP in structural terms). - Staff projections (percent of GDP, 2018–2023 sequence as in source table): - Revenue: 38.2 37.5 37.3 37.0 37.1 36.0. - Expenditure: 37.3 36.9 36.7 36.3 36.4 35.4. - Overall balance: 0.9 0.6 0.6 0.7 0.7 0.6. - Structural balance: 0.4 0.3 0.4 0.7 0.8 0.7. - Structural balance, excl. IIP proceeds: -1.2 -0.9 -0.6 -0.2 0.0 0.2. - Public debt: 45.4 42.4 39.0 35.6 32.1 30.0. - Public debt projected to reach 30 percent of GDP in 2023, but remains vulnerable to contingent liability shocks and long-term age-related spending increases. - Policy recommendations: - Shift expenditures toward growth-enhancing public investment (transportation, energy, water-resource and waste-management) while containing long-term fiscal risks. - Institutionalize comprehensive spending reviews to identify savings for infrastructure and inclusion measures. - Explore incentives to deter early retirement and increase private pension take-up. - Continue measures to combat tax evasion/avoidance and increase VAT compliance, including electronic tax filing and a framework to write-off legacy arrears. - Explore avenues for broadening the tax base given high reliance on IIP and corporate tax. - Improve fiscal transparency: extend coverage of fiscal reports to entire public sector; improve reporting on tax expenditures, extrabudgetary units, and performance information; harmonize presentations across reports. - Improve public investment management and risk analysis by introducing cost-benefit analysis and publishing annual fiscal risk statements. - Strengthen institutional framework for managing fiscal risks, notably for public corporations. ### Promote high and inclusive growth: infrastructure and structural reforms - Findings and priorities: - Address structural weaknesses: public infrastructure, access to finance, judicial reforms, innovation, labor force participation and skills. - Weak road quality has led to severe congestion; a €700 million, seven-year plan to upgrade roads is underway. - Improve public investment efficiency: review procedures, remove overlapping responsibilities, adopt holistic PIM approach, improve planning for EU co-financed projects and PPPs. - New entity created to implement and maintain public infrastructure projects. - SMEs, innovation, and access to finance: - R&D expenditure indicators remain low relative to EU average. - Prevalence of SMEs with constrained access to finance partly explains lagging innovation. - Authorities’ support: Malta Enterprise financial support; tax credit incentives (Seed Investment Scheme); Malta Development Bank to start providing SME investment finance. - Ensure prudent risk assessment and robust governance for new financing initiatives. - Judicial efficiency, insolvency, and credit provision: - Time to resolve cases remains among the highest in the EU; strengthen insolvency framework to facilitate credit flows to SMEs. - Labor force participation, retirement, and gender gaps: - Initiatives to “make work pay” (free childcare, in-work benefits) increased female participation. - Scope exists to further support parental leave, incentivize later retirement, and align effective retirement age with life expectancy. - Education, upskilling, and skills shortages: - Basic skills attainment among young people weak; early school leaving and tertiary attainment gaps vis-à-vis EU average persist. - Work-based Learning and Apprenticeship Act (came into force March 2018) creates legal framework for vocational education and training. ### Staff appraisal — macrofinancial stability and policy priorities - Growth strong but pressures on infrastructure, housing costs, and skills shortages pose challenges. - Given large international financial sector and expansion of blockchain-related activities, mitigating ML/FT risks through sustained reforms is crucial. - Immediate actions required to close gaps in supervisory and enforcement capacity and improve risk identification through intrusive, risk-based supervision. - MFSA faces strain from increasing entities and evolving regulation; guarantee long-term financial and operational independence and adopt an administrative bank insolvency regime. - Intercompany loans are main funding source for firms; strengthen data quality and analytical tools to monitor contagion risks. - Planned housing-related macroprudential instruments (LTV, DSTI, amortization) appropriate; refine measures over time and narrow exemptions. - Fiscal priorities: reduce fiscal risks, shift toward growth-enhancing investment, restructure financially vulnerable SOEs, and institutionalize spending reviews. ### Key overarching recommendation - Sustaining the reform drive is key to foster strong and inclusive long-term growth, focusing on: addressing infrastructure gaps, upskilling and reskilling the labor force, encouraging female and elderly participation, stimulating innovation and SME financing, and making housing more affordable for low-income households. ### External sector: assessment and diagnostics (Annex IV highlights) - Staff assessment: external position in 2018 was moderately stronger than fundamentals and desirable policy settings. - Key statistics: - NIIP rose to 66 percent of GDP at end-2017. - Portfolio investment assets: 1000 percent of GDP. - Direct investment liabilities: 1639 percent of GDP. - Current account: - CA surplus widened to 10.4 percent of GDP in 2017; as of 2018:Q3, CA surplus remained close to 11 percent of GDP. - Services exports (remote gaming and tourism) account for bulk of CA improvement. - Measurement issues: retained earnings, inflation-related interest distortions, and IIP receipts can distort CA; adjusting for these yields an “underlying” CA surplus estimate around 7 percent of GDP. - After adjustments and idiosyncratic factors, staff assess CA gap close to 3 percent of GDP but with considerable uncertainty. - REER: - ULC-based and CPI-based REER appreciated by around 1 percent in 2017 and by about 2 percent by 2018:Q3 relative to 2017 averages. - EBA-lite REER model points to a modest REER overvaluation of about 4 percent; CA-based approach implies undervaluation of 3.5 percent (implied REER gap -3.5 percent). - Capital and financial flows: - Net FDI inflows and net portfolio investment outflows are sizable; gross and net flows large relative to GDP. - Risk Assessment Matrix — selected risks and policy responses: - Weaker global growth: Relative likelihood Medium; Impact Medium; Response: automatic stabilizers, infrastructure, structural reforms, fiscal mitigation. - Sharp tightening of global financial conditions: Relative likelihood High; Impact Medium/Low; Response: reduce fiscal/financial vulnerabilities, close supervision gaps, ECB liquidity cooperation if needed. - Slow AML/CFT implementation: Relative likelihood Medium; Impact Medium; Response: swift implementation/enforcement, improve cooperation among authorities. - Sharp housing correction: Relative likelihood Medium; Impact Medium; Response: monitor risks, targeted macroprudential measures, limit bank exposure if bubble emerges. ### Housing price valuation (Annex I highlights) - Overall: Some signs of overvaluation, but model and data uncertainty large. - Price-ratio indicators: - House price-to-income ratio: increased slightly but remained about 5 percent below its historical average. - Price-to-rent ratio: over 20 percent above its long-term average in 2017:Q4 (10 percentage points above previous peak). - Model-based valuation: - RES model (IMF RD) suggests modest overvaluation. - EUR model suggests much smaller degree of overvaluation and does not suggest significant misalignment. - Recent price movements since 2017:Q4: - Advertised prices increased by more than 9 percent. - Transaction prices dropped by close to 1.3 percent. - Policy implication: prevalence of floating-rate mortgages and accelerated house prices call for close monitoring and borrower-based macroprudential measures. ### Fiscal transparency and debt sustainability (selected points) - Fiscal Transparency Evaluation: - Malta meets many principles at good or advanced level: 21 out of 35 principles at good or advanced practice; 12 at basic practice. - Fiscal risk analysis & management practices generally weaker. - Seven recommendations provided. - Public debt and contingent liabilities: - Gross public debt declined to 50.2 percent of GDP in 2017 from 55.4 percent in 2016. - Baseline projects debt to decline to 45 percent of GDP in 2018 and to 30 percent in 2023. - Government guarantees stock: 10 percent of GDP in 2017 (down from 14 percent in 2016). - Liabilities of non-financial SOEs: 21 percent of GDP in 2016. - Contingent liabilities related to PPPs: 1 percent of GDP. - Debt sustainability stress scenarios (selected numerical impacts): - Growth shock: GDP growth reduction by 3.7 percentage points and 0.9 percentage points drop in inflation in 2019 and 2020; nominal interest rates increase by 41 and 83 basis points in 2019 and 2020; debt would increase to 48 percent of GDP by 2020 (9 percentage points higher than baseline), then decline to 38 percent of GDP in 2023. - Primary balance shock: cumulative reduction of 1.8 percentage points in primary balance with 25 bps interest rate increase in 2019–2020 would increase debt ratio by about 2 percentage points relative to baseline. - Interest rate shock: sustained increase of 200 basis points in spread would slow debt reduction modestly by about 0.5 percentage point of GDP by 2023. - Financial contingent liability shock: one-time increase in non-interest expenditures equivalent to 10 percent of banking sector size plus other adverse effects would raise debt ratio to 80 percent of GDP in 2019 and peak at 81 percent in 2020 (42 percentage points higher than baseline); decline to 74 percent by projection horizon end. - Government guarantee shock: one-time increase in expenditures equivalent to 50 percent of SOE liabilities raises debt ratio to 55 percent in 2019 (12 percentage points higher than baseline), then decline to 43 percent by projection end. - IIP proceed shock: excluding IIP revenues slows debt decline; debt ratio still declines to 33 percent of GDP at projection end, 3 percentage points higher than baseline. ### Key macroeconomic aggregates and selected exact figures - Real GDP growth (selected years): - 2016: 5.7 - 2017: 6.6 - 2018 Est.: 6.4 - 2019 Proj.: 5.2 - 2020 Proj.: 4.4 - 2021 Proj.: 3.8 - 2022 Proj.: 3.5 - 2023 Proj.: 3.3 - 2024 Proj.: 3.2 - Employment growth (selected): - 2016: 3.2 - 2017: 7.8 - 2018 Est.: 5.4 - 2019–24 Proj.: ranges from 3.5 down to 2.0 (2024 Proj.: 2.0) - HICP (period average) projections: - 2016: 0.9 - 2017: 1.3 - 2018 Est.: 1.7 - 2019–24 Proj.: 2.0, 2.1, 2.1, 2.0, 2.0, 2.0 - Current account balance (percent of GDP): - 2016: 3.4 - 2017: 10.4 - 2018 Est.: 10.1 - 2019–24 Proj.: 9.3, 8.8, 8.5, 8.3, 8.1, 8.0 - Exports of goods and services (percent of GDP): - 2016: 150.8 - 2017: 150.0 - 2018 Est.: 142.8 - 2019–24 Proj.: 138.3, 134.8, 132.3, 130.2, 128.3, 126.6 - Gross external debt (percent of GDP, memorandum): - 2016: 866.0 - 2017: 822.3 - 2018 Est.: 766.6 - 2019 Proj.: 722.1 - 2024 Proj.: 578.9 - Banks’ total assets: 395 percent of GDP (about €46 billion) at 2018H1. - Core domestic banks account for 50 percent of banking sector total assets. - Population (millions): 0.524,538 - Nominal GDP (millions of euros): - 2016: 10,343.0 - 2017: 11,294.9 - 2018 Est.: 12,276.9 - 2019 Proj.: 13,203.1 - 2020 Proj.: 14,105.8 - 2021 Proj.: 14,964.9 - 2022 Proj.: 15,830.2 - 2023 Proj.: 16,710.4 - 2024 Proj.: 17,607.6 - Gross national savings (percent of GDP): - 2016: 27.9 - 2017: 29.7 - 2018 Est.: 29.1 - 2019–24 Proj.: 28.9, 28.8, 28.5, 28.2, 27.8, 27.6 - Gross capital formation (percent of GDP): - 2016: 24.4 - 2017: 19.3 - 2018 Est.: 19.1 - 2019–24 Proj.: 19.6, 20.0, 19.9, 19.9, 19.7, 19.6 *Source: 1mltea2019001 - IMF staff report excerpt.* ### 1. Economic Indicators ___________________________________________________________________________ 22 ### 1. Economic Indicators ### Context and key policy issues - Rapid expansion of services exports supports robust growth; Real GDP growth averaged 7.2 percent over 2013–17. - Structural rebalancing toward fast growing export-oriented services industries, notably remote gaming, has: - Boosted the current account balance. - Facilitated rapid income convergence to the EU average. - Tripled the share of foreign workers in total employment roughly between 2010 to 2017, supporting buoyant job creation. - Capacity constraints and bottlenecks: - Physical infrastructure gaps (road quality, waste management) may weigh on future productivity and social welfare. - Firms face skills shortages as labor supply depends heavily on migrant inflows. - Housing supply is catching up with demand but property prices and rents in the non-protected market are rising fast, intensifying affordability concerns. - Authorities have devised plans to address these issues (Annex III), but effects may take time to materialize. ### Recent developments - Growth and labor market - Real GDP grew by 6.6 percent in 2017 and by 6.3 percent (y/y) in the first three quarters of 2018, reflecting strong private and public consumption growth. - Several high-frequency indicators, including impressive employment creation, suggest continued near-term growth momentum. - The unemployment rate remained below 4 percent as of 2018:Q3. - Inflation and labor costs - In 2018, headline and core inflation gained some pace but remained below 2 percent. - Services were the main contributor to inflation, especially tourism-related categories such as accommodation services. - Hourly labor costs for the whole economy increased by 1.6 percent in 2018:Q3 compared with a year earlier, below the EU average. - Public finances - The 2017 fiscal balance printed at a record surplus of 3.5 percent of GDP, outperforming the projection of 0.8 percent of GDP and a budget target of 0.5 percent of GDP. - Even excluding the large proceeds from the Individual Investor Program (IIP), the surplus reached 1.3 percent of GDP (1. 3 percent of GDP in structural terms), supported by large and partly cyclical tax revenues and contained public-sector compensation. - Public debt fell to about 50 percent of GDP at end-2017. - External sector - Current account surplus surged from 3 percent of GDP in 2016 to 10 percent of GDP in 2017, driven by a sizable and increasing trade surplus in services (largely remote gaming and tourism). - Net international investment position (NIIP) rose to 66 percent of GDP in 2017, the highest in the EU. - REER stabilized after 2013–15 decline and recently appreciated to above pre-crisis levels. - Measurement of external balances is complicated by Malta’s role as a small financial center hosting many SPEs and multinationals. - Staff assess Malta’s external position as moderately stronger than fundamentals and desirable policy settings in 2018 (see Annex II, Annex IV, Figure 5). - Credit and banking - Bank lending has lagged economic activity with diverging trends: mortgage credit continued to grow while credit to nonfinancial corporates (NFCs) staged only a gradual recovery in 2018 following a five-year contraction. - Household leverage remained above the euro area average. - NPLs in core banks were reduced rapidly between 2014 and 2017, but progress stalled since then; legacy NPLs in construction and real estate continue to weigh on balance sheets. - Core domestic banks’ capital stayed above 17 percent of risk-weighted assets in 2018H1, with a loan-to-deposit ratio around 60 percent. - FSAP stress test covering 11 banks (covering 93.4 percent of system assets, excluding non-EU branches) confirmed overall system capitalization and liquidity, with vulnerabilities limited to a few small banks. - Banks’ profitability remains above euro-area peers but faces erosion risks from rising exposure to low-yield bonds, a shrunken corporate loan portfolio, increased regulatory compliance costs and MREL implementation. - Overall NPL ratio of core domestic banks was reduced from 9 percent to slightly above 4 percent over 4 years; positive trend stalled in 2018. - Non-bank intermediation - Intercompany lending became the most important source of funds for Maltese firms, increasing potential contagion risks. - Direct issuance of corporate debt and credit from non-bank financial institutions increased rapidly but from a low base. - Strong inter-linkages between some insurance companies and large domestic financial groups may elevate contagion risks. - Recent efforts: collection of granular loan-level data and establishment of a central credit registry. ### Outlook and risks - Growth projections and drivers - Real GDP growth is expected to remain robust, easing to 6.4 percent in 2018 and 5.2 percent in 2019. - Growth would then gradually converge to potential of slightly above 3 percent as capacity constraints hamper labor supply and TFP growth slows to long-term average (temporarily boosted by energy-sector efficiency gains and inflows of highly educated foreign workers). - Small positive output gap is projected to close over the medium term; inflation is set to remain around 2 percent over the near to medium term. - Domestic demand is projected to become the main driver of growth as a strong labor market supports private consumption and planned investment projects materialize. - Current account surplus should remain large over the forecasting horizon, reflecting enduring trade surpluses in services. - Downside risks (selection) - Unsustainable macroeconomic policies in systemically important countries, rising global protectionism, a no-deal Brexit, or a sharp tightening of global financial conditions could significantly reduce exports (especially services) and FDI flows. - Possible changes in international corporate and personal taxation could adversely affect foreign investment inflows and demand for the IIP, hurting growth, tax revenues and the external position. - A sharp correction in housing prices could trigger adverse macrofinancial effects. - Slow progress in addressing structural deficiencies may limit potential growth by hurting competitiveness and deterring foreign workers. - Failure to effectively implement the AML/CFT framework could undermine the business and financial environment and potentially imperil financial stability. - Upside risks - Employment growth and private consumption could continue to surprise positively. - Import intensity of domestic demand could continue to decline. - Investment plans (including from businesses related to the blockchain) could be implemented faster than expected, implying higher potential growth. - Staff conclusion: Risks to the outlook are broadly balanced. ### Authorities’ views - The authorities broadly agreed with staff’s outlook and risk assessment: - Domestic demand would continue as main growth driver; persistent labor market tightness could pressure wages and prices. - Global protectionism is a key external risk. - Ongoing actions to address money laundering risks were emphasized. - They highlighted actions and plans to upgrade infrastructure and mitigate labor supply constraints, including streamlining bureaucratic steps for hiring foreign workers. - Importance of investing in new technologies (blockchain, artificial intelligence) to diversify the economy and support future growth was stressed. - Authorities consider the large current account surplus sustainable and mainly driven by structural factors, and asserted there are no significant macroeconomic imbalances. ### Policy discussions — A. Safeguard Financial Stability and Integrity - System characteristics and vulnerabilities - Malta’s financial system is large and complex with high foreign ownership and exposure; domestic economy relatively insulated by a liquid, deposit-based domestic core banking system. - Post-crisis, core banks focused increasingly on mortgage lending as intercompany loans substituted for bank credit to NFCs. - FSAP highlighted banking-sector resilience to real and housing shocks but stressed shortcomings in banking supervision, AML/CFT implementation, and the legal regime for bank winding-up and insolvency proceedings. - Key observations - Capacity constraints and deficiencies in the regulatory framework undermine the effectiveness of financial supervision and crisis management. - Increasing number of supervised financial entities, rapid product development, and evolving regulation have strained the Malta Financial Services Authority (MFSA). - FSAP found large gaps in operational capacity for supervision, winding-up and crisis management functions that need urgent addressing (see Annex VII, FSAP’s main recommendations). - Policy recommendations (selected) - Ensure long-term financial and operational independence of supervisory authorities: - Rapidly develop a medium-term quantitative assessment of resource needs, including mapping required skills. - Conduct regular reviews of the compensation package to guarantee MFSA’s capacity and autonomy to recruit and retain qualified staff. - Develop a five-year plan to ensure sustained budgetary resources for the MFSA. - Recognize resource urgency given implementation of new regulations on licensing and supervision of crypto-asset-related companies. - Improve the crisis management framework: - Clarify and reform the legal insolvency regime to be administrative (led by the resolution arm of the MFSA) rather than court-led, in line with international standards. - Clarify creditor hierarchy in liquidation as a prerequisite for efficient insolvency proceedings. - Enhance data collection and monitoring: - Complement granular loan-level data and a central credit registry with data on sectoral and cross-border intercompany financing. - Enhance analytical tools to assess systemic risks in the non-bank financial sector to mitigate financial stability risk. *Source: 1mltea2019001 - 1. Economic Indicators* ### 14. The recent revocation of Pilatus bank’s license by the ECB has highlighted important ### 1mltea2019001 - 14. The recent revocation of Pilatus bank’s license by the ECB has highlighted important ### AML/CFT framework: findings and recommended actions - Findings: - The revocation of Pilatus bank’s license by the ECB highlighted important deficiencies in the implementation of Malta’s AML/CFT framework. - An investigation by the European Banking Authority (EBA) pointed to general and systemic shortcomings in the Financial Intelligence Analysis Unit’s (FIAU) application of the national rules that transposed European anti-money laundering directives (3rd AMLD) and in the MFSA’s authorization and supervisory practices. - The FSAP echoed these concerns and emphasized supervisors need to focus on banks’ application of preventive measures regarding higher risk services and clients, including the significant nonresident sector, politically exposed persons, new technologies (e.g., remote gaming, crypto-currencies) and the IIP. - The EBA’s assessment was relayed in a formal opinion by the European Commission on November 8, 2018. - Recommended immediate actions: - Fully implement the recently-enacted 50-point action plan (based on the latest National Risk Assessment) without delay. - Increase supervisory resources at both FIAU and MFSA. - Improve understanding of risks and enhance their identification through intrusive, risk-based supervision. - Ensure effective application of AML/CFT preventive measures, including customer due diligence and with regard to beneficial owners. - Enhance implementation of fit and proper tests for financial institutions. - Impose timely, dissuasive and proportionate sanctions whenever breaches of AML/CFT requirements are identified. - Pursue regional options for strengthening AML/CFT supervision to facilitate a consistent and comprehensive approach and minimize regulatory arbitrage. - FSAP operational recommendation: - Adopt a multi-prong approach focusing on more effective AML/CFT enforcement and ensuring banks apply preventive measures for high-risk activities and clients. ### Distributed ledger technology (DLT) and virtual financial assets: opportunities and risks - Findings: - Passage of three bills in June 2018 established a new regulatory framework for DLT and virtual financial assets. - Malta is among the first countries to provide a specialized regulatory framework to previously unregulated activities; this is expected to drive migration of some large crypto-asset exchange platforms to the island. - DLT developments exacerbate existing risks and create new ones, particularly financial integrity risks, as AML/CFT enforcement is more challenging with virtual financial assets. - Given the relatively high ML/TF risk associated with these new activities, virtual financial asset service providers must implement AML/CFT requirements effectively and be supervised in line with Financial Action Task Force standards. - Legal and supervisory milestones from the source: - Virtual Financial Asset Act (VFAA) came into force on November 1, 2018; it stipulates that VFA agents, issuers and license holders are subject persons in terms of the AML/CFT national regulation. - The Malta Financial Services Authority (MFSA) is responsible for the licensing of VFA service providers (e.g., crypto-exchanges). - As of the text, no service providers had yet been licensed since the due diligence process was underway. ### Housing market pressures and macroprudential measures - Findings: - Strong demand for housing has continued to push up property prices; some signs of overvaluation have emerged. - Drivers include strong immigration flows, rising disposable income, portfolio rebalancing towards property investment, delayed supply response, extension of first-time home-buyer stamp duty relief, reduced tax rate on rental income, surging demand for tourist accommodation and, for the high-end segment, the IIP. - Banks’ exposure to housing-market-related risks is high and increasing; households’ indebtedness is relatively high, low income households are vulnerable to housing price corrections and flexible interest rates on mortgages are prevalent. - Rapidly rising housing costs affect vulnerable households; the government relaxed eligibility requirements for rent subsidies but the scheme should be periodically reviewed to remain targeted on low-income households. - Macroprudential measures and refinements: - Recent efforts: loan-level data collection and planned borrower-based macroprudential measures such as caps to loan-to-value (LTV) ratios at origin, stressed debt-service-to-income (DSTI) limits, and amortization requirements. - To be more effective: - Define speed limits in terms of the total value of new loans, not number of loans. - Lower speed limits for loans against secondary and buy-to-let properties once initial disruption concerns dissipate. - Narrow exemptions to the LTV limit. - Extend the scope of borrower-based measures to cover non-bank mortgage loans. - Policy detail from the source (Malta: Borrower Based Macroprudential Measures): - 1st year: 85 percent LTV-O cap with a “speed limit” of 20 percent on the volume of loans. - 2nd+ year: 75 percent LTV-O cap with a “speed limit” of 20 percent on the volume of loans. - Category I borrowers: 90 percent LTV-O cap with a “speed limit” of 10 percent on the volume of loans, for loans with a market value in excess of €175,000; a stressed DSTI-O of 40 percent for loans with a market value in excess of €175,000 with a shock to interest rates of 150 bps. - Category II borrowers: a stressed DSTI-O of 40 percent with a shock to interest rates of 150 bps; a maturity term of 20 years or the official retirement age, whichever occurs first; a maturity term of 40 years or the official retirement age, whichever occurs first. - Category definitions: - Category I comprises borrowers purchasing their primary residential property. - Category II comprises borrowers purchasing their second or additional residential property or buy-to-let properties. ### Fiscal policy: stance, projections, and risks - Short-term outcomes and projections: - Staff projects an overall balance of 0.9 percent of GDP in 2018, above the government surplus target of 0.5 percent of GDP. - Debt-to-GDP ratio estimated to moderate to 45 percent at the end of 2018. - Excluding IIP proceeds, the balance would be a deficit of 0.7 percent of GDP (1.2 percent of potential GDP in structural terms). - Staff projections (percent of GDP): - Revenue: 38.2 37.5 37.3 37.0 37.1 36.0 (2018–2023 sequence as in source table). - Expenditure: 37.3 36.9 36.7 36.3 36.4 35.4. - Overall balance: 0.9 0.6 0.6 0.7 0.7 0.6. - Structural balance: 0.4 0.3 0.4 0.7 0.8 0.7. - Structural balance, excl. IIP proceeds: -1.2 -0.9 -0.6 -0.2 0.0 0.2. - Public debt: 45.4 42.4 39.0 35.6 32.1 30.0. - Public debt projected to reach 30 percent of GDP in 2023, but remains vulnerable to contingent liability shocks and long-term age-related spending increases. - Policy recommendations: - Shift balance of expenditures towards growth-enhancing public investment (transportation, energy, water-resource and waste-management) while containing long-term fiscal risks. - Institutionalize comprehensive spending reviews to identify savings and free space for infrastructure and inclusion-promoting measures. - Explore incentives to deter early retirement and increase private pension take-up given large projected demographic pressures. - Continue measures to combat tax evasion/avoidance and increase VAT compliance, including electronic tax filing, framework to write-off legacy arrears, and transposition of EU anti-tax avoidance measures planned over 2019–2022. - Explore further avenues for broadening the tax base given high reliance on IIP and corporate tax. - Improve fiscal transparency: extend coverage of fiscal reports to the entire public sector; improve reporting on tax expenditures, extrabudgetary units, and performance information; harmonize presentations across reports; better explain changes to previous forecasts. - Improve public investment management and risk analysis by introducing cost-benefit analysis and publishing annual fiscal risk statements. - Strengthen institutional framework for managing fiscal risks, notably for public corporations, to better monitor and restructure financially weak SOEs. - IMF evaluation and timeline: - An IMF Fiscal Transparency Evaluation conducted in May 2018 assessed Malta’s fiscal transparency practices; Malta meets many principles at good or advanced level but gaps remain. ### Promote high and inclusive growth: infrastructure and structural reforms - Findings and priorities: - Address structural weaknesses to sustain strong growth and promote inclusiveness: public infrastructure, access to finance, judicial reforms, innovation, labor force participation and skills. - Weak road quality has led to severe congestion with adverse impact on productivity and health. - A €700 million, seven-year plan to upgrade roads is underway. - Public investment efficiency could be improved by reviewing administrative procedures, removing overlapping responsibilities, adopting a holistic public investment management approach across government departments, improving planning for projects co-financed by EU funds or private sector PPPs, and avoiding bottlenecks. - A new entity was recently created to implement and maintain public infrastructure projects in roads and other sectors. - Authorities’ views (summarized from source): - Authorities remain committed to safeguard financial stability and integrity and to improve AML/CFT implementation and risk-based supervision. - FIAU and MFSA institutionalized collaboration in a memorandum of understanding and plan joint on-site inspections of high-risk cases. - Outsourcing and foreign hiring are being considered to address skill shortages. - Cabinet approved future funding of the MFSA to be sourced through overhaul of the MFSA’s fee structure coupled with government’s budgetary support to safeguard operational independence. - Authorities embrace blockchain technology but recognize crypto-asset-related activities warrant robust regulatory framework and significant supervisory resources and expertise. - Authorities reiterated commitment to maintain prudent fiscal policy, expect continued fiscal surpluses supported by high tax revenues, and aim to achieve medium-term fiscal targets without relying on IIP proceeds. - Work is underway to start publishing fiscal data with wider coverage of the public sector in 2019, in line with the IMF Fiscal Transparency Evaluation recommendations. *Source: IMF staff report excerpt (1mltea2019001).* ### 29. SMEs’ enhanced access to finance may help boost innovation and investment. R&D ### 29. SMEs’ enhanced access to finance may help boost innovation and investment. R&D ### Innovation, SMEs, and access to finance - R&D expenditure indicators remain low in comparison to the EU average. - The prevalence of SMEs in Malta, which tend to have a limited capacity to grow due to their constrained access to finance, may partly explain why innovation activity tends to lag European peers. - Authorities’ support measures mentioned: - Financial support provided by Malta Enterprise to innovative businesses. - Programs involving tax credit incentives (Seed Investment Scheme). - The Malta Development Bank is expected to start providing investment finance to SMEs in coming months, which could contribute to offset the recent decline of private banks’ lending to SMEs. - Ensuring prudent risk assessment and robust governance structures will be key for these initiatives. ### Judicial efficiency, insolvency, and credit provision - Improvements in the judicial system’s efficiency, especially for insolvency proceedings, could help increase credit provision to SMEs by accelerating the necessary clean-up of firms’ and banks’ balance sheets. - Despite recent progress, the time needed to resolve civil, commercial, administrative and other cases in Malta is still among the highest in the EU (see 2018 EU Justice Scoreboard). - Staff recommendation: strengthen insolvency framework and speed up case resolution to facilitate credit flows to SMEs. ### Social inclusion and housing pressures - Promoting social inclusion may help boost long-term output. - The share of the population at risk of poverty is relatively stable and below the European average, but has been increasing for subgroups: female single earners, low-skilled part-time workers, unemployed and the elderly. - Rapid increase of housing costs, in particular rental costs, worsens the situation for the most vulnerable. Tenants are often low-skilled, single earners, unemployed or elderly. - Staff analysis (see SIP) suggests that measures to incentivize female labor market participation, align retirement age with life expectancy, and enhance workers’ skills would foster inclusion and boost long-term output. ### Labor force participation, retirement, and gender gaps - Recent government initiatives to “make work pay,” including free childcare, in-work benefits, and the tapering of benefits for those entering employment, have been instrumental in increasing female labor force participation. - Remaining policy scope: - Further initiatives such as introducing some compensation for parental leave or increasing leave entitlement for fathers to ensure full convergence to EU average. - While the statutory retirement age is scheduled to increase gradually to 65 years by 2026, there is scope to better align the effective retirement age to life expectancy by incentivizing later retirement (including through penalties for early retirement and sponsoring of lifelong learning). - Government plan to extend to public sector employees the private-sector’s delayed pension incentives is a step in the right direction. ### Education, upskilling, and skills shortages - Upskilling and reskilling workers remains a priority to strengthen the effects on growth of enhanced innovation and investment. - Despite heavy investment in education, basic skills attainment among young people is still weak and strongly influenced by socio-economic status. - Large gaps vis-à-vis the EU average remain in early school leaving rate and tertiary educational attainment, underpinning widespread skills shortages and increasing dependence on higher-skilled foreign workers. - The new Work-based Learning and Apprenticeship Act came into force in March 2018, creating a legal framework for vocational education and training focused on school-leavers and aiming to address skills shortages. This act will simplify data collection on training programs to help improve outcome-based evaluation. ### Authorities’ views and recent measures - Authorities report no reform fatigue and ongoing infrastructure works related to roads, health, education, and waste management. - A new entity has been created to increase public investment efficiency in implementation of infrastructure projects. - Malta Development Bank is coordinating with commercial banks on new co-financing and loan guarantee schemes for SMEs, while taking steps to ensure strong governance and increasing its capacity. - Ongoing judicial reforms aim to further reduce the length of proceedings and strengthen the insolvency framework. - Policies to increase female labor participation are still in place; new educational measures are expected to help reduce the rate of early school leavers. - Measures addressing pension adequacy include incentives for voluntary occupational and third pillar pensions and measures to enable home equity release. - Government highlighted training initiatives for refugees and an “equal pay for equal job” policy. ### Staff appraisal — macrofinancial stability and policy priorities - Growth remains strong in Malta, supported by large inflows of foreign workers; mounting pressure on infrastructure, rapidly rising housing costs, and labor and skills shortages increasingly pose challenges. - Risks to the outlook are broadly balanced; the external position is assessed to be moderately stronger than fundamentals. - Financial integrity and stability: - Given Malta’s large and internationally connected financial sector, strong demand for the IIP and remote gaming, and envisaged expansion of blockchain-related activities, it is crucial to mitigate ML/FT risks through sustained reforms. - Immediate action is required to close gaps in supervisory and enforcement capacity and improve risk identification through intrusive, risk-based supervision. - Authorities should ensure virtual financial asset service providers effectively implement AML/CFT requirements and are supervised in line with the Financial Action Task Force standards. - Regulatory and supervisory capacity: - MFSA faces strain from increasing number of financial entities, rapid product development, evolving regulatory environment, and tight labor market. - Recommendation: guarantee long-term financial and operational independence of the MFSA; avoid delays in supervisory actions through judicial appeals; adopt an administrative bank insolvency regime. - Corporate financing and non-bank sector monitoring: - Intercompany loans have become the main source of funding for firms; direct issuance of debt securities and credit from non-bank financial institutions have grown rapidly from a low base. - Recommendation: strengthen data quality and management to monitor contagion risks and enhance analytical tools for risk assessment of the non-bank financial sector. - Macroprudential and housing measures: - Planned introduction of housing-related macroprudential instruments (comprising LTV and DSTI limits, as well as amortization requirements) is appropriate given rising bank exposure to real estate risks. - Recommendation: refine measures over time, including by narrowing exemptions from LTV and DSTI limits for loans against secondary and buy-to-let properties. - Align tax treatment of rental income with that of other sources of income to avoid amplifying house price cycles. - Fiscal policy and public investment: - Reducing fiscal risks and shifting the balance of expenditure towards growth-enhancing public investment should remain priorities. - To ensure space for infrastructure investment, identify measures to strengthen the structural fiscal position ex-IIP proceeds. - Financially vulnerable SOEs should be restructured; public investment management and risk analysis should be strengthened by introducing cost-benefit analysis and publishing fiscal risk statements. - Institutionalization of comprehensive spending reviews should help identify saving opportunities. - Given large projected demographic pressures, explore additional incentives to deter early retirement and increase take-up of private pension schemes. - Malta’s high reliance on the IIP and corporate tax makes it vulnerable to potential regime changes; recent measures to combat tax evasion and avoidance and increase VAT compliance are adequate, but further avenues for broadening the tax base should be explored. ### Key overarching recommendation - Sustaining the reform drive is key to foster strong and inclusive long-term growth, with attention to: addressing infrastructure gaps, upskilling and reskilling the labor force, further encouraging female and elderly participation in the labor market, stimulating innovation (including by easing SME’s access to financing), and making housing more affordable for low-income households. *Source: 1mltea2019001 - 29.* ### 39. Staff proposes that the next Article IV consultation with Malta follows the standard ### 39. Staff proposes that the next Article IV consultation with Malta follows the standard 12-month cycle. ### Economic performance and drivers - Real GDP growth: - 2016: 5.7 - 2017: 6.6 - 2018 Est.: 6.4 - 2019 Proj.: 5.2 - 2020 Proj.: 4.4 - 2021 Proj.: 3.8 - 2022 Proj.: 3.5 - 2023 Proj.: 3.3 - 2024 Proj.: 3.2 - Domestic demand became the main driver of growth in 2018. - Contribution to growth (2016–24 projections): - Domestic demand and foreign balance series indicate a shift toward domestic demand contribution predominance. - Employment growth: - 2016: 3.2 - 2017: 7.8 - 2018 Est.: 5.4 - 2019–24 Proj.: ranges from 3.5 down to 2.0 (2024 Proj.: 2.0) - HICP (period average) projections: - 2016: 0.9 - 2017: 1.3 - 2018 Est.: 1.7 - 2019–24 Proj.: 2.0, 2.1, 2.1, 2.0, 2.0, 2.0 ### Short-term indicators and sentiment - Economic Sentiment Indicator: Malta above euro area average and stabilized at a high level. - Labor market and consumer confidence: supported by a strong labor market and high consumer confidence. - Sector confidence: - Confidence remained high in services. - Capacity utilization remained high reflecting strong demand in industry. - Production: production of consumer goods continues to lag capital goods. - Tourism: tourist inflows remained large. - New orders, export expectations, and capacity utilization all show elevated readings consistent with strong demand. ### Fiscal position and projections - General government balance (percent of GDP): - 2016: 0.9 - 2017: 3.5 - 2018 Est.: 0.9 - 2019–24 Proj.: 0.6, 0.6, 0.7, 0.7, 0.6, 0.6 - Structural overall balance (% potential GDP): - 2016: 0.6 - 2017: 3.4 - 2018 Est.: 0.4 - 2019–24 Proj.: 0.3, 0.4, 0.7, 0.8, 0.7, 0.7 - Primary balance (percent of GDP): - 2016: 3.0 - 2017: 5.3 - 2018 Est.: 2.5 - 2019–24 Proj.: 2.0, 1.9, 1.9, 2.0, 1.8, 1.8 - Public debt (percent of GDP): - 2016: 55.4 - 2017: 50.2 - 2018 Est.: 45.4 - 2019 Proj.: 42.4 - 2020 Proj.: 39.0 - 2021 Proj.: 35.6 - 2022 Proj.: 32.1 - 2023 Proj.: 30.0 - 2024 Proj.: 28.1 - One-offs and IIP proceeds materially affect headline balances: - Overall balance excl. IIP proceeds: - 2016: -0.7 - 2017: 1.3 - 2018 Est.: -0.7 - 2019–24 Proj.: -0.6, -0.4, -0.2, -0.1, 0.1, 0.3 - Revenue and expenditure (percent of GDP, selected): - Revenue 2018 Est.: 38.2; 2019 Proj.: 37.5; 2024 Proj.: 36.0 - Expenditure 2018 Est.: 37.3; 2019 Proj.: 36.9; 2024 Proj.: 35.4 - Compensation of employees: 11.4 (stable across projections) - Interest: 2.1 (2016) declining to 1.2 in projections ### Financial sector soundness - Banking sector capitalization and profitability: - Regulatory capital to risk-weighted assets (Total Banks): - 2012–2018H1 trend shown; Total Banks around 17.3 percent in 2017 and 17.0 in 2018H1 (chart context). - Return on assets and return on equity moderated slightly from 2016 but remained healthy (charts). - Nonperforming loans (NPLs): - NPLs stabilized as a percent of total loans; coverage ratio declined a bit, increasing risk of capital impairment. - Nonperforming loans to total gross loans (Total Banks): 4.7 (2017) and 3.1 (2018H1) shown in the financial soundness indicators table. - Liquidity and funding: - Loan-to-deposit ratio increased slightly from a low level (chart). - Banks’ exposure to the housing and real estate market is high and increased further; exposure shares by category are shown in charts. - Financial sector scale: - Banks’ total assets amounted to 395 percent of GDP (about €46 billion) at 2018H1. - Core domestic banks account for 50 percent of banking sector total assets and are tightly linked to domestic activity. ### External sector and external balances - Current account and trade: - Current account balance (percent of GDP): - 2016: 3.4 - 2017: 10.4 - 2018 Est.: 10.1 - 2019–24 Proj.: 9.3, 8.8, 8.5, 8.3, 8.1, 8.0 - Trade balance (Goods and services) (percent of GDP): - 2016: 13.2 - 2017: 20.9 - 2018 Est.: 21.4 - 2019–24 Proj.: 21.4, 21.8, 22.1, 22.5, 22.9 - Services balance and exports: - Services balance expanded, supported by large services exports. - Exports of goods and services (percent of GDP): - 2016: 150.8 - 2017: 150.0 - 2018 Est.: 142.8 - 2019–24 Proj.: 138.3, 134.8, 132.3, 130.2, 128.3, 126.6 - International Investment Position (IIP): - Net IIP continued increasing steadily as both assets and liabilities rose from 2016 (chart). - External debt: - Gross external debt (percent of GDP, memorandum): - 2016: 866.0 - 2017: 822.3 - 2018 Est.: 766.6 - 2019 Proj.: 722.1 - 2024 Proj.: 578.9 ### Labor market, inclusion, and inequality - Labor force participation: - Female labor participation continued to increase in 2017 but remains below European peers, especially among middle-aged and older cohorts. - Unemployment: - Unemployment rate: - 2005–2017 series shows stabilization to a record-low level by 2017 (chart). - Employment composition: - Employment accelerated sharply, supported by new inflows of foreign labor. - Part-time share and full-time split shown in charts; employment levels increased materially since the crisis. - Income inequality and poverty risk: - Market inequality is lower than in the euro area on average but increased significantly since the crisis. - At-risk-of-poverty rate: data as of 2017; specific country comparison shown in chart. - Gini coefficients (Before and After social transfers) plotted for Malta and the euro area across years (chart). ### Key macroeconomic aggregates (selected exact figures) - Population (millions): 0.524,538 - Quota (as of Oct. 31, 2018; millions of SDRs): 168.316.8 - Nominal GDP (millions of euros): - 2016: 10,343.0 - 2017: 11,294.9 - 2018 Est.: 12,276.9 - 2019 Proj.: 13,203.1 - 2020 Proj.: 14,105.8 - 2021 Proj.: 14,964.9 - 2022 Proj.: 15,830.2 - 2023 Proj.: 16,710.4 - 2024 Proj.: 17,607.6 - Gross national savings (percent of GDP): - 2016: 27.9 - 2017: 29.7 - 2018 Est.: 29.1 - 2019–24 Proj.: 28.9, 28.8, 28.5, 28.2, 27.8, 27.6 - Gross capital formation (percent of GDP): - 2016: 24.4 - 2017: 19.3 - 2018 Est.: 19.1 - 2019–24 Proj.: 19.6, 20.0, 19.9, 19.9, 19.7, 19.6 *Based on IMF staff compilation and projections in the provided chapter.* ### Annex I. Housing Price Valuation ### Annex I. Housing Price Valuation ### Summary assessment and policy implication - A battery of indicators and empirical models suggests some signs of overvaluation in the housing market, but the uncertainty surrounding both price measures and model estimates is large. - Given the prevalence of floating interest rate mortgages in Malta, the strong acceleration of house prices over the last three years calls for close monitoring of housing developments and supports the introduction of borrower-based macroprudential measures. ### Price-ratio indicators - The house price-to-income ratio: - Increased slightly but remained about 5 percent below its historical average, indicating a small undervaluation. - The price-to-rent ratio: - Continued to increase fast and stood at over 20 percent above its long-term average in 2017:Q4 (10 percentage point above its previous peak), suggesting significant overvaluation. - This may partly reflect that a high share of tenants continues to benefit from fixed rent contracts. ### Model-based valuation analysis - Two alternative model approaches were used to assess valuation gaps relative to fundamentals: - RES (IMF Research Department) model: - Introduces house prices in growth rate as a function of traditional demand factors (population, income, interest rate and credit) and a simple long-term relationship between house prices and income per capita. - Uses price data from the Global Property Guide Price Index. - Suggests modest overvaluation. - EUR (European Department) model: - Introduces house prices in levels and exploits long-term cointegration relationships between the price and demand fundamentals, allowing for supply side factors. - Since credit is not statistically significant in the EUR model, it has been left out. - Uses two different house price indices: CBM (advertised prices) and NSO (actual market transactions). - The degree of overvaluation in this model is much smaller and does not suggest significant price misalignment. - Overall assessment: model-based analysis points to some signs of overvaluation of housing prices, but considerable uncertainty surrounds these estimates. Accelerating prices have been accompanied by strong immigration flows, rising disposable income and large portfolio rebalancing towards property investment, suggesting that a significant part of recent price increases may be due to fundamental factors. ### Recent price movements (market measures) - Since 2017:Q4: - Advertised prices increased by more than 9 percent. - Transaction prices dropped by close to 1.3 percent. *Source: IMF staff (Annex I. Housing Price Valuation).* ### Annex IV. External Sector Assessment ### Annex IV. External Sector Assessment ### External position — overall assessment - Staff assessment: external position in 2018 was moderately stronger than fundamentals and desirable policy settings. - Assessment unchanged based on external developments until 2018:Q3. - Staff will continue work to deepen understanding of Malta’s underlying external position. ### Foreign asset and liability position - Malta is a small financial center hosting many multinationals and special purpose entities; cross-border transactions strongly influence the NIIP. - Key statistics: - Net international investment position (NIIP) rose to 66 percent of GDP at end-2017, improving by almost 40 percentage points since 2013. - Portfolio investment assets: 1000 percent of GDP. - Direct investment liabilities: 1639 percent of GDP. - Most gross liabilities are in the form of equity. - Valuation effects are large and volatile; substantial intra-company lending mitigates some risks. - NIIP expected to remain highly positive over the medium term, in line with projected current account surpluses. ### Current account (CA) - CA developments: - CA surplus widened to 10.4 percent of GDP in 2017, mainly due to lower imports of capital goods and a higher surplus in services versus 2016. - Services net exports (notably remote gaming and tourism) account for the bulk of CA improvement in recent years. - Oil trade deficit subdued, aided by energy sector reforms. - Structural shift toward services associated with reduced import intensity. - CA recorded sustained surpluses since 2012, averaging around 6 percent of GDP over 2013–17. - Continued surpluses, though gradually declining, expected over the medium term. - As of 2018:Q3, the CA surplus remained close to 11 percent of GDP. - Measurement issues and idiosyncratic factors affecting CA: - Retained earnings on portfolio equity and inflation-related interest distortions can overstate CA of a financial center; previous IMF analysis estimated joint biases could overstate the CA balance by as much as 3 percent of GDP. Extrapolating yields a tentative “underlying” CA surplus of about 7 percent of GDP. - Government’s Individual Investor Program (IIP) recorded as exports of services; authorities estimate annual IIP export receipts roughly 1 percent of GDP over 2015–2017. Discounting IIP receipts reduces surplus to around 6 percent of GDP. - Changes in the EBA-lite CA model removed a financial center dummy (previously contributing >4 percent of GDP to Malta’s CA norm) and introduced a remittances proxy that contributes about minus 3 percent of GDP to the norm; adjusting for potential remittance behavior in a high-income country could raise the CA norm by about 3 percentage points to nearly 3 percent of GDP. - Rapid structural rebalancing toward exports of services (notably remote gaming) and high corporate saving by foreign-owned firms imply the CA norm could be higher than 3 percent of GDP. - Model results and staff judgment: - The EBA-lite CA model initially points to a large CA gap of 10 percent in 2018, a norm of nearly 0 percent and a policy gap of 0.3 percent (Table 1). - After accounting for measurement adjustments and idiosyncratic factors, staff assess the CA gap as close to 3 percent of GDP, but with considerable uncertainty. - Table 1 excerpts (EBA-Lite): - Actual CA (percent of GDP): 6.1 - Cyclically-adjusted CA: 6.4 - Cyclically-adjusted CA norm: 2.7 - Multilaterally consistent cyc.-adj. norm: 3.2 - CA gap: 3.2 - Policy gap (percent): -0.8; Policy gap: 0.3 (different rows in table) - Residual (percent): 4.3; Residual: 3.1 - Ln(REER), actual: 4.6; Ln(REER), norm: 4.5 - REER gap (percent): 3.7 - Implied REER gap (percent): -3.5 - Note: The "actual CA" in table includes an adjustment of around -4 percent of GDP for measurement issues and temporary factors. The "CA norm" includes an adjustment of about +3 percent of GDP for the likely different impact of remittances in a high-income country. ### Real exchange rate (REER) - ULC-based REER and CPI-based REER appreciated by around 1 percent in 2017; by 2018:Q3 they further appreciated by about 2 percent relative to 2017 averages. - Competitiveness gains in 2013–15 (particularly ULC-based REER) may have contributed to the increase in the trade surplus. - EBA-lite REER model points to a modest REER overvaluation of about 4 percent. - Combined summary: - CA-based approach implies an undervaluation of 3.5 percent (implied REER gap -3.5 percent) with CA gap near 3 percent of GDP (but particularly uncertain). - REER model suggests modest overvaluation of 4 percent. - Staff judgment: external position in 2018 was moderately stronger than fundamentals. ### Capital and financial flows - Gross and net financial flows large relative to GDP, strongly influenced by cross-border transactions of internationally-oriented firms and special purpose entities. - Net FDI inflows and net portfolio investment outflows are particularly sizable. - In recent years, net outflows accounted for by portfolio investment and other investment have exceeded net FDI inflows. ### Risk Assessment Matrix — selected risks, likelihood, impact, and policy responses - Weaker-than-expected global growth - Relative likelihood: Medium - Impact if realized: Medium - Key channels: weaker external demand, lower FDI inflows, adverse effects on domestic growth. - Policy response: Allow automatic stabilizers to operate; improve infrastructure quality; maintain structural reforms; continue diversifying trade activities; fiscal policy to mitigate impact on vulnerable groups. - Unsustainable macroeconomic policies elsewhere - Relative likelihood: Medium - Impact if realized: Medium - Policy response: Allow automatic stabilizers; monitor developments; contingency planning; supervise banks closely and improve asset quality; fiscal policy to protect vulnerable groups. - Sharp tightening of global financial conditions - Relative likelihood: High - Impact if realized: Medium/Low - Channels: weaker external demand, lower FDI, potential financial contagion via cross-border linkages; asset price declines and higher funding costs. - Policy response: Reduce fiscal and financial vulnerabilities; diversify trade; close financial supervision; improve banks’ asset quality and crisis management; cooperate with ECB on liquidity if needed; remove structural impediments. - Rising protectionism and retreat from multilateralism - Relative likelihood: High - Impact if realized: Medium - Channels: trade linkages, higher uncertainty, financial market volatility, investment impacts; possible medium-term relocation of firms from the UK to Malta could support FDI. - Policy response: Coordinate at European level; allow automatic stabilizers; structural reforms and infrastructure improvements; diversify trade; fiscal support for vulnerable groups. - Slow progress in addressing structural weaknesses - Relative likelihood: Medium - Impact if realized: Medium/Low - Policy response: Sustain and monitor implementation of structural reforms (education, labor market, infrastructure); safeguard long-term fiscal sustainability and improve quality of public finances. - Slow progress in effectively implementing AML/CFT framework - Relative likelihood: Medium - Impact if realized: Medium - Channels: weakened attractiveness as financial/business location; adverse effects on tax revenues, foreign investment, jobs, external position. - Policy response: Swiftly implement and enforce AML/CFT framework; address supervisory capacity constraints; improve collaboration between National Competent Authorities. - Sharp correction in housing prices - Relative likelihood: Medium - Impact if realized: Medium - Channels: property loans significant share of core domestic banks’ loan portfolios; large price falls could weaken bank and household balance sheets, lead to lending contraction and broader distress. - Mitigating factors: banks’ strong capital and liquidity, households’ high financial wealth, low default rates, low share of population with mortgages and negative equity. - Policy response: Monitor risks; implement targeted macro-prudential measures; limit banks’ exposure to property-related loans if a bubble emerges; ensure fiscal measures (including IIP and reduced tax rate on rental income) do not exacerbate imbalances; address housing supply constraints. - Possible changes in international corporate and personal taxation - Relative likelihood: Medium/Low - Impact if realized: High/Medium - Channels: reduced attractiveness, lower IIP demand, adverse effect on tax revenues and external position. - Policy response: Diversify the economy; accelerate structural reforms to boost productivity and competitiveness; strengthen quality of public finances, improve spending efficiency, and enhance revenue collection to reduce reliance on CIT and IIP revenues. ### Fiscal Transparency Evaluation — summary findings - IMF conducted a Fiscal Transparency Evaluation (FTE) in Malta; the Fiscal Transparency Code comprises four pillars: (i) fiscal reporting, (ii) fiscal forecasting & budgeting, (iii) fiscal risk analysis & management, and (iv) resource revenue management (fourth pillar under development and expected to be finalized by January 2019). - Overall findings: - Malta meets many fiscal transparency principles at good or advanced level. - Meets good or advanced practice in 21 out of 35 principles of the Fiscal Transparency Code. - Meets basic practice on 12 principles. - The principle related to natural resources was not assessed. - Practices stronger in fiscal reporting and fiscal forecasting & budgeting (largely covered by EU reporting framework). - Fiscal risk analysis & management practices generally weaker. - Specific gaps and issues: - Fiscal reporting of public corporations could be improved: lack of consolidated reporting on public corporations; reporting of nonfinancial assets and employment-related pension entitlements lacking; tax expenditures could be more comprehensively reported. - Fiscal forecasting & budgeting: gaps for extrabudgetary units and public investment; limited information and cost-benefit analysis for public investment projects; performance information and presentation consistency could be improved. - Fiscal risk analysis & management: limited risk analysis of government assets; reporting on overall performance of public corporations absent; no common framework for exercising ownership functions and monitoring performance; lack of a summary report on specific risks to the fiscal forecast including long-term fiscal sustainability, government guarantees, and public-private partnerships. - The evaluation provides seven recommendations. *Source: Annex IV. External Sector Assessment, Malta country report (IMF staff).* ### 1. Gradually expand the coverage of fiscal reports to the public sector; ### 1. Gradually expand the coverage of fiscal reports to the public sector; ### Fiscal transparency and reporting recommendations - Gradually expand the coverage of fiscal reports to the public sector. - Better report on and control tax expenditures. - Improve budget documentation in relation to extrabudgetary units and performance information. - Harmonize presentations across reports and explain changes to previous forecasts. - Strengthen the framework for public investment management. - Publish an annual fiscal risk statement. - Strengthen the institutional framework for managing fiscal risks, notably on public corporations. ### Main FSAP recommendations — risk analysis and macroprudential policy - Risk Analysis - Strengthen the risk analysis by incorporating new dimensions in liquidity stress testing, conducting regular sensitivity analysis on selected vulnerabilities, and enhancing data management (CBM, MFSA). - Macroprudential Policy - Close remaining data gaps, and enhance analytical tools (CBM, NSO, MFSA). - Refine and introduce the planned borrower-based instruments to address possible buildup of vulnerability in the housing and household sectors. (CBM) ### Financial sector supervisory resources, independence, and regulation - Financial Sector Supervisory Resources and Independence - Ensure stable funding for the MFSA, grant it full autonomy over its recruitment and maintain a dedicated statutory committee on supervisory issues. (MFSA, Government) - Address the significant gap in supervisory and enforcement capacity by increasing staff and broadening the skill set. (MFSA) - Banking Regulation and Supervision - Increase the number and risk orientation of onsite inspections of LSIs. Enhance supervision of third country branches. (MFSA) - Take timely supervisory actions (including for ML/TF) and increase the use of monetary fines. Ensure supervisory action is not delayed through judicial appeal, including by amending the law, if needed. (MFSA, FAIU, Government) - Insurance and Securities Regulation and Supervision - Strengthen conduct supervision and enhance the sectoral risk-based supervision framework. (MFSA) ### AML/CFT recommendations - Improve the authorities’ assessment and understanding of ML/TF risks and strengthen the national coordination. (National Coordination Committee) - Adopt a multi-prong strategy that includes: - (i) ensuring that banks appropriately apply preventive measures; - (ii) fully implementing a risk-based AML/CFT supervision; and - (iii) applying timely, dissuasive, and proportionate sanctions and effective fit-and-proper tests. (MFSA, FIAU, ROC, Government) - Support establishing an EU-level arrangement responsible for AML/CFT supervision. (Government) ### Safety nets and crisis management - Adopt an administrative bank insolvency regime with explicit powers to transfer assets/liabilities. Clarify the creditor hierarchy. (Government) - Shift responsibility for decisions on bank insolvency and liquidation, post-license revocation, from the MFSA’s supervisory function to its resolution function (MFSA). - Review the adequacy of the Resolution Unit’s staffing and increase its resources accordingly (MFSA). ### Public debt sustainability — key findings - Malta’s debt sustainability has been improving in recent years, thanks to prudent fiscal policy, strong growth, and favorable financing conditions. - The debt is expected to remain sustainable and its dynamics are robust to most of standard adverse macroeconomic shocks, but vulnerabilities may arise from large contingent liabilities and a loss of fiscal revenues from IIP. - Malta’s external debt sustainability appears robust to various shocks. - Public Debt Sustainability — recent outcomes and projections: - The gross public debt declined to 50.2 percent of GDP in 2017, from 55.4 percent of GDP in 2016. - In a baseline scenario, public debt is projected to decline to 45 percent of GDP in 2018 and continue to 30percent in 2023. - Contingent liabilities: - The stock of government guarantees stood at 10 percent of GDP in 2017, down from 14 percent in 2016. - Liabilities of non-financial state-owned enterprises (SOEs) represent 21 percent of GDP in 2016. - Contingent liabilities related to public-private partnerships account for 1 percent of GDP. - Overall, these contingent liabilities can represent more than 20 percent of GDP. ### Debt sustainability stress scenarios and quantitative impacts - Growth shock: - Reduction of GDP growth by 3.7 percentage points and a 0.9 percentage points drop in inflation in 2019 and 2020. - Nominal interest rates increase by 41 and 83 basis points, respectively, in 2019 and 2020. - Debt would increase to 48 percent of GDP by 2020, 9 percentage points higher than the baseline, then decline to reach 38 percent of GDP in 2023. - Primary balance shock: - Cumulative reduction of 1.8 percentage points in primary balance, coupled with a 25 basis point increase in interest rate in 2019 and 2020. - Would increase the debt ratio by about 2 percentage points relative to the baseline. - Interest rate shock: - Sustained increase of 200 basis points in spread throughout the projection period. - Would slow down the debt reduction modestly, by about 0.5 percentage point of GDP by 2023. - Real exchange rate shock: - A 13 percent real exchange rate depreciation with pass-through to inflation applied to 2019. - Almost all public debt is denominated in the local currency; this scenario would decelerate the debt reduction only negligibly. - Combined macro-fiscal shock: - Combines shocks to growth, primary balance, interest rate, and exchange rate. - Debt ratio would rise to 48 percent by 2020, 9 percentage points higher than the baseline, then fall to 39 percent of GDP in 2023. - Financial contingent liability shock: - One-time increase in non-interest expenditures equivalent to 10 percent of the size of the banking sector, coupled with slower real GDP growth (one standard deviation reduction over 2019-20), inflation decreasing by 0.25 percentage points for every one percent point reduction in growth, and interest rate spread rising by 0.25 basis points for every one percent of GDP deterioration in the primary balance. - Primary balance would deteriorate to -33 percent of GDP. - Debt ratio projected to rise sharply to 80 percent of GDP in 2019 and peak at 81 percent of GDP in 2020, 42 percentage points higher than the baseline; it would decline to 74 percent of GDP at the end of the projection horizon. - Government guarantee shock: - One-time increase in expenditures equivalent to 50 percent of SOE liabilities; other shocks as in the financial contingent liability shock. - Debt-to-GDP ratio would increase to 55 percent of GDP in 2019, 12 percentage points higher than the baseline, then resume declining to reach 43 percent of GDP at the end of the projection period. - IIP proceed shock: - Excluding the IIP revenues from non-interest revenues and assuming modest increase in interest rate spreads. - The rate of decline in the debt ratio decelerates relative to the baseline; the debt ratio still declines to 33 percent of GDP at the end of the projection period, 3 percentage points higher compared to the baseline. *Source: 1mltea2019001 - 1. Gradually expand the coverage of fiscal reports to the public sector;* ### 5. Malta’s external position remains strong with large holdings of external assets. Gross ### 5. Malta’s external position remains strong with large holdings of external assets. Gross ### External position and headline metrics - Gross external debt is large at 822 percent of GDP at the end of 2017. - The external debt largely represents stable intercompany lending and liabilities of offshore financial institutions that have limited links to the domestic economy. - The total net external debt is about minus 208 percent of GDP at end-2017. - Net external debt is projected to fall gradually over the medium term on the back of expected current account surplus. - Standard tests suggest that Malta’s external position would be robust to most adverse shocks. ### External Debt Sustainability Framework (Table 1, selected baseline projections and diagnostics) - Baseline: External debt (net, in percent of GDP) series (selected values shown): -375.0, -300.3, -237.2, -204.8, -207.5, -209.5, -208.8, -211.0, -213.8, -216.2, -219.1. - Change in external debt (selected values): 102.2, 74.8, 63.1, 32.3, -2.7, -1.9, 0.7, -2.2, -2.8, -2.4, -2.9. - Identified external debt-creating flows (4+8+9) (selected values): -57.3, -20.9, -2.8, 23.4, -4.6, -17.5, -15.0, -15.4, -15.9, -15.8, -15.6. - Current account deficit, excluding interest payments (selected values): -9.9, -0.7, -4.3, -1.6, -6.1, -5.1, -3.8, -2.7, -2.2, -1.9, -1.6. - Net non-debt creating capital inflows (negative) (selected values): -84.0, -50.1, -37.0, 10.8, -11.4, -19.1, -16.1, -15.4, -15.0, -14.6, -14.3. - Automatic debt dynamics (selected values): 16.8, 28.5, 29.9, 11.0, 12.9, 6.7, 4.9, 2.7, 1.3, 0.7, 0.3. - Contribution from nominal interest rate (selected values): -12.5, -9.4, -6.6, -5.1, -4.3, -4.9, -5.4, -5.8, -6.2, -6.3, -6.3. - Contribution from real GDP growth (selected values): 19.8, 29.0, 33.5, 12.6, 12.2, 11.6, 10.2, 8.6, 7.4, 6.9, 6.6. - Residual, including change in gross foreign assets (selected values): 159.5, 95.7, 65.9, 8.9, 1.9, 15.5, 15.7, 13.2, 13.1, 13.4, 12.7. - External debt-to-exports ratio (in percent) (selected values): -238.9, -203.0, -155.0, -135.9, -138.4, -147.2, -154.0, -160.1, -165.3, -170.2, -175.1. - Gross external financing need (in billions of US dollars) (selected values): 6.6, 7.7, 18.0, 8.8, 1.0, -3.7, -3.8, -4.5, -5.0, -5.6, -6.2. - Gross external financing need (in percent of GDP) (selected values): 65.2, 68.1, 168.0, 76.8, 7.8, 10-Year, 10-Year, 25.4, -24.4, -26.8, -28.2 (values reported in table). ### Stress tests, scenarios, and robustness - Standard single and combined shocks were applied, including: - Interest rate shock (permanent one-half standard deviation). - Growth shock (permanent one-half standard deviation). - Current account (CA) shock (non-interest current account shock). - Real depreciation shock (one-time real depreciation of 30 percent occurs in 2017 in the real depreciation scenario). - Combined shock and other permutations (permanent 1/4 standard deviation shocks applied to real interest rate, growth rate, and current account balance in some scenarios). - Historical scenario and alternative scenarios (e.g., with key variables at their historical averages) project materially more negative net external debt ratios (e.g., scenario with key variables at their historical averages reports values such as -209.5, -240.8, -279.8, -316.3, -352.7, -387.8 for selected years). - Figure-based diagnostics indicate that under most individual shocks Malta’s net external debt remains negative (i.e., external asset position), with box values reported for baseline and scenario averages (examples: Historical: -388; Baseline: -219; various shock outcomes: -224, -238, -239, -216, -189 reported in figure annotations). ### Implications and interpretation - Despite a very large gross external debt stock (822 percent of GDP at end-2017), Malta’s large external assets result in a strongly positive net external asset position (total net external debt about minus 208 percent of GDP at end-2017). - The composition of external liabilities (notably intercompany lending and offshore financial institution liabilities) limits direct domestic spillovers. - Projected current account surpluses are expected to contribute to a gradual decline in net external debt ratios over the medium term. - Stress tests and DSA exercises indicate resilience to most individual and combined shocks, though historical-average scenario paths show substantially larger negative net external debt ratios when key variables revert to historical means. *Source: IMF staff report data and figures as presented in the document.* ### 2019. Data on retail and consumer prices, labor market indicators, and tourism arrivals are ### 1mltea2019001 - 2019. Data on retail and consumer prices, labor market indicators, and tourism arrivals are ### Data availability and statistical issues - Retail and consumer prices, labor market indicators, and tourism arrivals are released monthly, usually with a short lag. - A harmonized index of consumer prices has been published since May 2004. - Data sources: Eurostat, Haver Analytics, Central Bank of Malta (CBM) website, National Statistical Office (NSO) website. - NSO publication lags and coverage: - Quarterly national accounts in current and constant prices with a lag of about two months. - Annual nonfinancial sectoral accounts in current prices with a lag of about 10 months. - Monthly index of industrial production with a lag of just over a month. - National accounts imports and exports data are not disaggregated into goods and services. - National accounts revisions: - National accounts data have been subject to substantial revisions, often affecting several years. - Reasons include large statistical discrepancies (captured under changes in inventory stocks) and revisions of deflators. - GDP compilation and indices: - Supply-side GDP estimates by type of economic activity are only available at current prices; compilation of volume measures is progressing. - Volume estimates of expenditure GDP are obtained using annual-chain linking with 2010 as the reference year. - The monthly producer price index for total industry has been published; producer price index for services sector is still under discussion. - Malta publishes a quarterly residential Property Price Index and a monthly industrial Producer Price Index with base year 2015. - Financial sector data: - Annual financial balance sheets and transactions by sectors are published on the Eurostat website. - Data on household savings are not available. ### Macroeconomic outlook and risks - Growth performance and outlook: - Malta has been one of the fastest growing economies in Europe since the global financial crisis. - Outlook remains favorable, supported by rising export-oriented services: remote gaming, business and professional services, information and communication, and tourism. - Authorities estimate potential growth "solidly above 4 per cent." - External risks (staff view): - Main external risks: rising global protectionism, a disorderly Brexit, further tightening of global financial conditions. - As a small open economy, Malta is highly exposed to external shocks. - Authorities note Brexit impact may not necessarily be adverse and could attract relocating financial services providers. - Domestic risks: - Authorities are fully aware of reputational risks following cases of weak implementation of the AML/CFT framework and are taking prompt remedial action. - Authorities are less concerned than staff about the risk of a sharp downward correction in housing prices, attributing recent rapid rises largely to economic fundamentals, including sustained inflows of foreign workers and rising disposable income. ### Financial system: safeguarding stability, integrity, and innovation - System-wide resilience: - Despite large size, complexity, and international linkages, the Maltese financial system remains sound and well insulated from external shocks; foreign-linked intermediaries have limited domestic exposures. - Solvency and liquidity stress tests in the FSAP showed strong resilience under quite severe adverse scenarios. - Supervisory capacity and actions: - Authorities acknowledge gaps in supervisory framework identified by FSAP and are addressing them decisively. - MFSA actions: - Upgraded the compensation package for staff and started hiring new resources. - Will be exempt from regulation on public employment that required government approval of staff complement size. - Operational autonomy to benefit from review of regulatory fees and adoption of a medium-term budget with government contributions closing any shortfall of projected regulatory revenues. - Central Bank of Malta will imminently introduce borrower-based measures to prevent buildup of vulnerabilities. - Since 2016, authorities have collected more granular loan data and established a central credit registry. - Authorities are working on bringing the insolvency regime in line with international standards. - Financial integrity and remedial measures: - Following revocation of Pilatus bank’s license, authorities performed a thorough National Risk Assessment, informing a detailed 50-point action plan being implemented. - Authorities have taken corrective action to safeguard integrity and maintain trust; the Pilatus incident did not affect financial stability (the bank was solvent and had no exposure to residents) but raised reputational risks. - Action plan measures highlighted by the authorities include: - adding resources to both the MFSA and the Financial Intelligence Analysis Unit (FIAU); - fostering their collaboration through an already agreed Memorandum of Understanding; - improving the understanding of risks among all competent authorities; - enhancing the application of preventive measures, and of timely corrective measures, including dissuasive penalties. - Staff recommended establishing a regional approach for supervision of the AML/CFT framework; authorities consider such a regional supervisory framework not feasible and effective absent deeper and broader harmonization of national legislations. - Innovation and technology policy: - Authorities intend to encourage diffusion of advanced and innovative technologies. - Government developing a multipronged approach to facilitate applications of blockchain and artificial intelligence. - A regulatory framework for digital ledger technology and its application in financial services has been created to enable innovation and competition while mitigating financial stability and integrity risks and ensuring adequate protection of consumers and investors. ### Fiscal policy, public investment, and structural bottlenecks - Fiscal outcomes and 2019 budget: - Strong economic performance and high take-up of the Individual Investor Program (IIP) boosted revenues in 2018. - Together with lower than anticipated spending, this contributed to a fiscal surplus well above the initial government target of 0.5 per cent of GDP (exclusive of IIP proceeds). - The 2019 budget aims a smaller surplus to allow for higher capital spending and some targeted tax relief for the most vulnerable, in part offset by savings in current and interest outlays. - Capacity constraints and investment needs: - Robust and rapid growth have run into capacity constraints, increasing need to upgrade physical and human capital. - Large infrastructure projects needed to improve road quality and waste management, boost supply and affordability of housing, and expand health and education facilities and services. - Steps to enhance financing and management capacity: - Completed and followed up on comprehensive spending reviews covering social security, health services, and education; established institutional framework for comprehensive spending reviews, including ad-hoc training of staff. - Steps to improve reporting of tax expenditures, public investment management and risk analysis, and the framework for managing fiscal risks; authorities appreciate Fund’s technical advice from the recent Fiscal Transparency Evaluation. - Initiated major projects targeting road and maritime infrastructure, hospitals, laboratories, and waste management; projects to be financed by public and private resources and managed by Infrastructure Malta, a public agency responsible for the entire procurement process to avoid delays from government approvals at each stage. - Malta Enterprise and Malta Development Bank have explored initiatives to enhance access to finance for SMEs, focusing on start-ups and innovative sectors. ### Social inclusion and labor market - Authorities focus on measures to reduce absolute and relative poverty and improve social inclusion. - Authorities support measures to: - boost women labor participation; - lengthen working lives by rewarding late retirement; - upskill the local and foreign-sourced labor force. - The authorities appreciate staff’s analysis and technical contributions supporting these measures. *Statement by Domenico Fanizza, Executive Director for Malta and Laura Cerami, Advisor to the Executive Director; February 22, 2019* --- _Source: https://www.imf.org/-/media/files/publications/cr/2019/1mltea2019001.pdf_