## 1. Capital Expenditures in the Maldives ## Source details **Canonical URL:** [1. Capital Expenditures in the Maldives](https://www.imf.org/-/media/files/publications/cr/2023/english/1mdvea2023002.pdf) ## Other formats - [Markdown version](/-/media/files/publications/cr/2023/english/1mdvea2023002.pdf.md) - [Structured JSON version](/-/media/files/publications/cr/2023/english/1mdvea2023002.pdf.json) --- ### Context - Tourism-dependent economy contracted by 33.5 percent in 2020. - Direct tourism activity, excluding related activities such as transportation, represents one quarter of GDP. - About 74 percent of the population has been fully vaccinated as of October 6th, 2022. - Pre-pandemic fiscal vulnerabilities: fiscal deficits above 6 percent of GDP during 2015–19 and public debt reached 79 percent of GDP in 2019. - Pandemic effect: fiscal finances deteriorated in 2020 with large fiscal measures and elevated capital spending amid the health crisis. - The Maldives is highly exposed to climate change, increasing need for large-scale adaptation investments in a resource-constrained context. ### Recent developments and macroeconomic indicators - Growth and tourism - Real GDP growth recovered to 37 percent in 2021; tourist arrivals reached close to 80 percent of the pre-pandemic level in 2021. - Tourist arrivals: were 4.7 percent below pre-pandemic level in mid-September 2022; expected to exceed pre-pandemic level by end-2023. - Tourism composition shifts: China → India and Russia in 2021; Russia share dropped to 5.8 percent then partly recovered to 15.6 percent in September 2022 (133,309 arrivals). India’s share rose from about 8 percent pre-war to about 15 percent as of mid-August 2022. - Labor and inflation - Unemployment: declined from 6.3 percent in 2020 to 6.1 percent in 2021; 2019 pre-pandemic level was 5.3 percent. - Average headline inflation rose from 0.2 percent (y/y) in 2021 to 2.7 percent in July 2022. - Inflation projections: average headline inflation projected to rise to 3.9 percent in 2022 and to about 4.9 percent in 2023. - Fiscal outcomes and financing - Fiscal deficit widened to 23.5 percent of GDP in 2020; public debt surged to 154 percent of GDP in 2020. - Revenue recovered strongly in 2021 (40 percent y/y), but the fiscal deficit remained in double digits due to elevated capital spending, increased interest burden, and higher wage bill. - In 2021, capital contributions to SOEs and rising subsidies amounted to 3.1 and 4.9 percent of GDP, respectively. - Financing composition in 2021: - External financing covered about a third of total financing needs (up from about 19 percent in 2020). - Bank financing accounted for 37 percent of total financing in 2021. - Central bank advances covered about 4 percent of total financing in 2021. - Most bilateral creditors granted a third extension under DSSI, freeing about US$66.7 million in 2021. - External position and reserves - Current account deficit improved to 8.8 percent of GDP in 2021 (from 35.5 percent of GDP in 2020). - EBA-lite suggests CA slightly below norm of -9.4 percent of GDP in 2021, implying exchange rate overvaluation of about 0.4 percent. - Gross international reserves: US$985 million (3.4 months of imports) in 2020 → US$806 million (2.2 months of imports) in 2021 (accounting for IMF SDR allocation). - Parallel market exchange rate premium: about 23 percent in January 2021 → about 11 percent in July 2022; remained elevated (around 10 percent). - Banking sector - Nonperforming loan ratio has started to decline after a small uptick during the pandemic. - Regulatory capital ratio remained high with strong capital and liquidity buffers. - Banking sector exposure to sovereign debt exceeds 25 percent of banks’ total assets. - Private sector credit has dropped. - MMA stress tests suggest strong capital buffers can withstand a hypothetical increase from zero to 100 percent risk weight for government bonds. ### Capital spending and public investment profile - Capital spending trends and composition - Capital spending rose from about 4 percent of GDP in 2014 to close to 12 percent of GDP by 2021. - Capital spending is now significantly above the median of peer island states. - Major PSIP projects: airports, harbors, bridges, water and sewage, housing development, land reclamation, road construction, transportation networks. - Transformative projects: - Velana International Airport expansion expected to double capacity to 3 million arrivals per year. - Hanimaadhoo International Airport capacity: 1.3 million arrivals per year. - Public housing programs and water and sewage projects represent more than half of guaranteed debt projects. - Capital spending financed primarily through debt. - Fiscal risks from capital spending and SOEs - SOEs cover strategic sectors (housing, utilities, transportation) and remain a major source of fiscal risk. - Government support to SOEs amounts to: - subsidies: 3.2 percent of GDP - sovereign guarantees and on-lending: 34 percent of GDP by end of 2021 - capital contribution: 1.4 percent of GDP (mainly to repay debt contracted with sovereign guarantees) - With 36 percent of GDP (by end of 2021) of loans being monitored by the government through sovereign guarantees and on-lending operations, around 6 percent of GDP of estimated loans remain outside the government’s active monitoring. - SOE vulnerabilities: weak corporate governance, liquidity constraints, reliance on government transfers, potential solvency issues; social housing lease tariff below market with delinquency rate about 37 percent. ### Outlook, debt dynamics, and reserve projections - Growth and capacity - Real GDP growth projections: 10.5 percent in 2022 and 6.6 percent in 2023. - Infrastructure expansions and hotel capacity increases (including about 7,000 new beds, representing around 7 percent of pre-pandemic capacity) expected to boost potential growth. - Fiscal projections and risks - Fiscal deficit expected to remain in double digits in 2022 (14.3 percent of GDP) despite robust revenue growth. - Fuel and healthcare subsidies projected to exceed budgeted amounts by 1.7 and 1 percent of GDP respectively. - Capital spending expected to rise by 2.2 percent of GDP in 2022 to 13.2 percent of GDP. - Without subsidy reforms, total current spending expected to remain above fiscal revenues in 2023. - Public debt dynamics on an unsustainable path in the baseline without sustained fiscal adjustment and conservative debt management. - Debt and financing - Total PPG debt-to-GDP: - 154 percent of GDP in 2020 → around 124 percent of GDP in 2021. - Total PPG debt-to-GDP expected to decline to around 103 percent of GDP by 2027 under baseline. - Nominal PPG debt stock increased to US$6,469 million in 2021 from US$5,768 million in 2020. - Domestic PPG debt: US$3,452.1 million (MVR 53,164 million) or 66.3 percent of GDP at end-2021 (up from US$2,973.6 million in 2020). - Domestic PPG debt includes US$239.5 million (MVR 3.689 billion) in advances from MMA to central government (4.6 percent of GDP). - External PPG debt: US$3,046 million in 2021, around 58.5 percent of GDP. - China is the largest external creditor (20 percent of total public debt or 42 percent of total external PPG debt), with the Chinese Exim Bank holding 11 percent of the total. - Recent market borrowing and maturities: - March 2021 global Sukuk: US$200 million at 10.5 percent, due 2026. - April 2021 Sukuk: US$100 million (reopened under same conditions). - September 2021 issuance: US$200 million (trading at about 20 percent yield). - March/September 2021 and other sukuk/issuances contributed to rising rollover pressures, with major maturities in 2025–2026 (e.g., US$500 million sukuks maturing in 2026; US$100 million private placement at 7 percent maturing in 2025). - Securitization and reserves: - In end-December 2021 authorities securitized outstanding MMA advances amounting to MVR 2.5 billion (US$162 million, around 4.5 percent of domestic PPG debt), converting advances into a 40-year bond at a 2.4 percent annual interest. - SDF accumulated funds in Rufiyaa equivalent to above US$270 million as of September 1st, 2022 (mostly invested in T-bills). - Reserves and adequacy: - Official reserve assets: US$984.9 million at end-December 2020; US$943.8 million at end-November 2021; US$806 million at end-December 2021; US$658 million in August 2022. - Using marginal cost of capital estimated at 6.2 percent, benchmark reserves should be closer to 3 months of prospective imports, while Maldives had 2.4 months; recommendation: gross reserve coverage around 3 months of imports. - Reserves expected to decline to about $600 million and cover 1.3 months of imports by 2023. - Identified potential financing gap: - Potential budget financing gap (unidentified or unsecured financing) of 1.7 percent of GDP in 2023 if MMA reaches its limit on advances and no additional official financing is secured. - Debt sustainability assessment - Maldives remains at a high risk of external debt distress and a high overall risk of debt distress. - Three of the four external debt indicators are above their respective thresholds under the baseline scenario. - Debt is assessed to be not sustainable under the baseline projections without further adjustment. - Staff view: a sustained and permanent fiscal adjustment of about 3 percent of GDP relative to the baseline would significantly reduce vulnerabilities by lowering public debt below 85 percent of GDP by 2028 and below 70 percent of GDP by 2032. ### Fiscal policy priorities, revenue options, and public financial management reforms - Near-term fiscal strategy (authorities’ 2023 budget) - Increase revenue by 2.7 percent of GDP and reduce spending by 3.3 percent of GDP. - Reform GST: increase domestic GST rate from 6 to 8 percent and tourist GST rate from 12 to 16 percent (under consideration in parliament); parliamentary approval noted on November 16, 2022 with implementation starting January 1st, 2023. - Improve tax compliance and reduce stock of tax arrears accumulated during the pandemic. - Expenditure measures: reduce fuel and electricity subsidies; introduce baseline prices for pharmaceuticals and bulk procurement; delay next stage of public salary harmonization to last quarter of 2023; postpone new capital spending initiatives; avoid costly external market financing. - Medium-term fiscal anchors - (i) Reduce public debt excluding guarantees to less than 100 percent of GDP by 2025. - (ii) Reduce the primary budget deficit to less than 5 percent of GDP by 2023. - (iii) Maintain public debt as a share to GDP on a downward trend. - (iv) Reduce recurrent expenditure to levels that do not exceed government revenue by 2023. - Revenue mobilization options (building on MTRS) - Reduce tariff exemptions and levy tariffs on c.i.f. instead of f.o.b. value. - Lower personal income tax (PIT) thresholds and personal allowance. - Raise top marginal PIT rate to align with business profit tax (BPT) rate. - Lower BPT tax-free threshold and introduce presumptive regime for businesses not registered for GST. - Implement excises on tobacco, alcoholic products, fuels, and motor vehicles and impose a carbon levy. - Introduce a recurrent property tax. - Narrow the gap between domestic and tourist GST rates and broaden the GST base to imports, inbound tourism and digital services. - Implement customs and tax administration reforms. - Authorities’ MTRS target: increase in revenue to at least 30 percent of GDP by 2028. - Specific revenue and subsidy numeric notes - Reducing the tax-free threshold from MVR 720,000 to MVR 480,000 could generate ½ percent of GDP revenue by expanding the number of potential taxpayers by over 50 percent. - The increase in TGST and GGST rates from 12 to 16 percent and 6 to 8 percent in 2023 is expected to yield 2¾ percent of GDP revenue, while further increasing the GGST rate to 12 percent by 2026 could increase GST revenue by an additional 1¼ percent of GDP. - The baseline does not include fuel, electricity, and health subsidy reductions; these reforms could generate savings of about 1.5 percent of GDP per year if fully implemented. - Public financial and investment management priorities - Develop a more strategic and focused Public Sector Investment Program (PSIP) and a costed medium-term national development strategy to prioritize growth-enhancing investment within a realistic resource envelope. - Strengthen oversight: enhance role of the Privatization and Corporatization Board (PCB) and develop clear policy for creating new SOEs. - Improve debt management capacity: expand institutional coverage of debt reports and develop capacity to monitor SOE debt. - Urgently develop a multi-year debt management strategy to systematically reduce roll-over and solvency risk. - Finalize the Public Debt Law and complete reform of the Fiscal Responsibility Act; set and disclose realistic numerical targets for fiscal deficit and public debt. - Authorities created State Shareholder Management Division and suspended new major capital projects for the next two years to prioritize existing projects with concessional funding. ### Monetary policy, liquidity management, and FX market reform - Monetary stance and liquidity - Monetary policy stance is accommodative; excess liquidity prevalent in banking system. - Short-term excess liquidity spiked due to MMA advances during the pandemic. - Policy recommendation: MMA advances should be gradually reduced until fully phased out and only used as a last resort. - MMA should stand ready to further tighten monetary policy (for instance through open market operations) should inflationary pressures increase and/or the parallel market exchange rate premium widen. - MMA increased the foreign currency minimum reserve requirement (MRR) back to 10 percent effective in October 2022, fully unwinding remaining pandemic-related measures. - Liquidity management tools and operational measures - Operationalize market-based liquidity management mechanisms (e.g., interest rate corridor), noting prerequisites: incentive mechanism, corridor width design, and collateral designation. - Consider sterilization of excess liquidity while recognizing potential pressures on MMA’s profitability; further technical assistance advised. - Continue close monitoring of FX market developments with key FX market participants including SOEs and commercial banks. - Noted recent development: the MVR 2.5 billion securitization of MMA advances could create additional liquidity and increase depreciation risk. - FX market reform elements recommended - (i) Enhance the use of Rufiyaa (e.g., grant legal tender status only to Rufiyaa with a few exemptions). - (ii) Promote alternative Rufiyaa-denominated financial instruments to satisfy risk appetites of large investors (e.g., SOEs). - (iii) Calibrate policies to create a macro-fundamental-driven interest rate wedge in favor of local currency and actively absorb Rufiyaa liquidity through an effective monetary operational framework to support the peg. - MMA developing a sequenced and gradual reform strategy; recent measures include raising MRR and proposals to regulate money changers and limit transactions on FX accounts. - Financial sector vigilance - Consider higher risk weights on sovereign debt or concentration risks to contain commercial banks’ exposure to the sovereign and reduce crowding out of private sector lending. - Address supervision data gaps and introduce a comprehensive crisis management framework by operationalizing a bank resolution framework aligned with MMA’s lender of last resort status. - FSAP expected in 2023 to lay out priority reforms. ### Risks to the outlook and contingency planning - Downside external risks - Sharp global economic slowdown in key source markets (for instance Europe). - Outbreaks of new lethal and highly contagious COVID-19 variants. - Tighter global financial conditions raising costs, especially given SOFR-linked debt exposure. - Protracted war in Ukraine adding to inflationary pressures. - Domestic risks - Banking sector’s large exposure to the sovereign could weigh on banks’ capital and ability to lend. - Implementation risks around the upcoming 2023 presidential election could add to spending pressures. - Significant exposure to climate change affecting long-term growth prospects. - Balance of payments and market concerns - High commodity prices and large import bills likely to weigh on dollar shortages and maintain high parallel market premiums. - Growing reliance on external and shorter-term commercial debt (e.g., US$100 million private placement at 7 percent maturing in 2025 and US$500 million global sukuks maturing in 2026) increases rollover risks. - Downside scenario (selected numerical outcomes) - Assumption: a sharp global slowdown and new COVID variants could contract the economy by 12.7 percent in 2023. - Under this scenario: - Fiscal deficit would widen to around 19 percent of GDP in 2023 and remain elevated through 2025. - Public debt-to-GDP ratio would spike to 150 percent of GDP in 2023 and remain around 141 percent of GDP by 2025. - Contingency measures recommended - Reactivate bilateral swap lines; seek concessional financing from multilateral institutions and development partners; pursue market financing at longer maturities where possible. - Swift fiscal consolidation focused on expenditure rationalization (scaling back non-priority spending) and domestic revenue mobilization; reduce subsidies; reform SOEs; limit fiscal dominance; reform FX markets. - Prepare targeted, time-bound support for most vulnerable if downside materializes. ### Climate change exposure, financing needs, and access to climate finance - Climate financing needs - Adaptation costs estimated at US$8.8 billion (159 percent of 2022 GDP). - Mitigation costs estimated at US$1 billion (18 percent of 2022 GDP). - Maldives developed a pipeline of projects totaling US$500 million for the Green Climate Fund (GCF) as part of PSIP. - Challenges accessing climate finance - Multilateral climate financing through GCF is challenging due to capacity and procedural hurdles; accreditation and PFM requirements lengthy and costly. - Direct access accreditation takes a minimum 2-5 years; accreditation requires PFM-related requirements across seven areas. - Authorities encouraged to explore partnerships with internationally accredited agencies and continue PFM reforms to meet climate fund requirements. - IMF support and instruments - Resilience and Sustainability Facility (RSF) complements IMF lending toolkit; three quarters of IMF membership eligible. - Fund capacity development: climate macroeconomic assessment programs (CMAP), climate-focused PIMA (C-PIMA), and green public financial management. - Authorities request IMF technical assistance to avail concessional climate finance and meet PFM-related requirements. ### Digitalization (GovTech) and public finance efficiency (selected Maldives estimates) - GovTech potential impacts (Maldives-specific estimates if bridging to GovTech frontier) - VAT productivity: increase by about 2.2 percentage points. - VAT C-efficiency: increase by about 2.3 percentage points. - CIT productivity: increase by 1.1 percentage points. - Overall impact on revenue: estimated at about 2.5 percent of GDP. - Health and education efficiency gains - Life expectancy: increase by about 0.9 years. - Reduction in infant mortality rate: 0.6 percentage points. - Tertiary gross enrollment: increase by 1 percentage point. - Upper secondary enrollment: increase by 0.8 percentage points. - Secondary enrollment: increase by 1.5 percentage points. - Energy subsidy figures (exact values) - Fuel input subsidy: 0.6 percent of GDP in 2021; rose to 1.3 percent of GDP in first half of 2022; projected to increase to about 2½ to 3 percent of GDP in 2022 compared to a budgeted amount of 0.4 percent of GDP. - Electricity subsidies including fuel input subsidy: estimated at 1 percent of GDP in 2021. - Total government compensation to utilities: reached an estimated 1.4 percent of GDP in 2021 and could potentially reach 4.1 percent of GDP in 2022. - Policy recommendations on digitalization and subsidies - Scale up GovTech solutions to improve revenue collection, health and education spending efficiency, e-procurement and digital payments. - Move from broad price subsidies to targeted cash transfers; review taxation of fuel products; improve transparency of pricing formulas and ensure cost recovery tariffs for utilities where feasible. *Source: 1mdvea2023002 - 1. Capital Expenditures in the Maldives* ### 1. Capital Expenditures in the Maldives __________________________________________________________ 24 ### 1. Capital Expenditures in the Maldives ### Context - Tourism-dependent economy contracted by 33.5 percent in 2020. - Direct tourism activity, excluding related activities such as transportation, represents one quarter of GDP. - About 74 percent of the population has been fully vaccinated as of October 6th, 2022. - Pre-pandemic fiscal vulnerabilities: fiscal deficits above 6 percent of GDP during 2015–19 and public debt reached 79 percent of GDP in 2019. - Pandemic effect: fiscal finances deteriorated in 2020 with large fiscal measures and elevated capital spending amid the health crisis. - The Maldives is highly exposed to climate change, increasing need for large-scale adaptation investments in a resource-constrained context. ### Recent developments: A strong recovery but vulnerabilities remain - Real GDP growth: recovered to 37 percent in 2021; tourist arrivals reached close to 80 percent of the pre-pandemic level in 2021. - Labor market: unemployment declined from 6.3 percent in 2020 to 6.1 percent in 2021; 2019 pre-pandemic level was 5.3 percent. - Inflation: average headline inflation rose from 0.2 percent (y/y) in 2021 to 2.7 percent in July 2022. - Price subsidies limited pass-through from global oil and food prices. - Fiscal outcomes: - Fiscal deficit widened to 23.5 percent of GDP in 2020; public debt surged to 154 percent of GDP. - Revenue recovered strongly in 2021 (40 percent y/y), but the fiscal deficit remained in double digits due to elevated capital spending, increased interest burden, and higher wage bill. - In 2021, capital contributions to SOEs and rising subsidies amounted to 3.1 and 4.9 percent of GDP, respectively. - Financing composition in 2021: - External financing covered about a third of total financing needs (up from about 19 percent in 2020). - Bank financing accounted for 37 percent of total financing in 2021. - Central bank advances covered about 4 percent of total financing in 2021. - Most bilateral creditors granted a third extension under DSSI, freeing about US$66.7 million in 2021. - External position and reserves: - Current account deficit improved to 8.8 percent of GDP in 2021 (from 35.5 percent of GDP in 2020). - EBA-lite suggests CA slightly below norm of -9.4 percent of GDP in 2021, implying exchange rate overvaluation of about 0.4 percent. - Gross international reserves declined from US$985 million (3.4 months of imports) in 2020 to US$806 million (2.2 months of imports) in 2021, accounting for the IMF’s SDR allocation. - Parallel market exchange rate premium remained elevated (around 10 percent), declining from about 23 percent in January 2021 to about 11 percent in July 2022. - Banking sector: - Nonperforming loan ratio has started to decline after a small uptick during the pandemic. - Regulatory capital ratio remained high with strong capital and liquidity buffers. - Banking sector exposure to sovereign debt exceeds 25 percent of banks’ total assets. - Private sector credit has dropped. - MMA stress tests suggest strong capital buffers can withstand a hypothetical increase from zero to 100 percent risk weight for government bonds. - Tourism composition shifts: top sources moved from China to India and Russia in 2021; tourist arrivals from Russia dropped to 5.8 percent of total arrivals after the war in Ukraine then partly recovered to 15.6 percent in September 2022 (133,309 arrivals). India’s share increased from about 8 percent pre-war to about 15 percent as of mid-August 2022. - Policy steps: authorities initiated reforms including raising TGST and GST and reforming subsidies; SOEs oversight measures remain insufficient to eliminate SOE-related fiscal vulnerabilities. ### Outlook: A challenging global context - Tourist arrivals: were 4.7 percent below pre-pandemic level in mid-September 2022; expected to exceed pre-pandemic level by end-2023. - Real GDP growth projections: 10.5 percent in 2022 and 6.6 percent in 2023. - Infrastructure expansions: Velana International airport expansions and hotel capacity increases (including about 7,000 new beds, representing around 7 percent of pre-pandemic capacity) expected to boost potential growth. - Inflation projections: - Average headline inflation projected to rise to 3.9 percent in 2022. - Inflation projected to increase to about 4.9 percent in 2023, reflecting persistent commodity price pressures and impact of GST and TGST increases. - Fiscal projections and risks: - Fiscal deficit expected to remain in double digits in 2022 (14.3 percent of GDP) despite robust revenue growth. - Fuel and healthcare subsidies projected to exceed budgeted amounts by 1.7 and 1 percent of GDP respectively. - Capital spending expected to rise by 2.2 percent of GDP in 2022 to 13.2 percent of GDP. - Without subsidy reforms, total current spending expected to remain above fiscal revenues in 2023. - Public debt dynamics on an unsustainable path in the baseline without sustained fiscal adjustment and conservative debt management. - External financing and reserves: - Current account deficit projected to widen to 16.5 percent of GDP in 2022 before gradually moderating. - Reserves expected to decline to about $600 million and cover 1.3 months of imports by 2023. - Potential budget financing gap (unidentified or unsecured financing) of 1.7 percent of GDP in 2023 if MMA reaches its limit on advances and no additional official financing is secured. - Growing reliance on external and shorter-term commercial debt (examples cited include a US$100 million private placement at 7 percent maturing in 2025 and US$500 million global sukuks maturing in 2026) increases rollover risks. - Debt distress classification: Maldives remains at a high risk of external debt distress and a high overall risk of debt distress. Total PPG debt-to-GDP declined from 154 percent of GDP in 2020 but is expected to remain high under current policies. ### Fiscal and public sector vulnerabilities (SOEs and subsidies) - SOE-related risks: - Debt service of some externally funded projects uses guaranteed debt with adjustable interest rates linked to SOFR, increasing costs and contingent liabilities for the government. - Certain SOEs (housing and utilities) face deteriorating financial positions and heavy reliance on central budget without tariff reform and management strengthening. - Social housing: lease tariff set below market price; delinquency rate about 37 percent. - Subsidies and spending pressures: - Hefty price subsidies limited inflation pass-through; utility price inflation spike in June 2022 reflects a one-off base effect due to temporary utility subsidy in June 2021. - Fuel administered price at 7.6 MVR per liter of diesel; at this administered price, fuel subsidies could reach 2.1 percent of GDP in 2022 (compared to 0.4 percent of GDP allocated in the budget). - Health subsidies expected to exceed budgeted amount by 1 percent of GDP in 2022 due to higher retail prices for drug reimbursements. ### Key policy directions and reform priorities (as indicated in source) - Implement growth-friendly fiscal consolidation, including: - Moderation of non-priority capital expenditure. - Better targeting of subsidies. - Strengthen SOE oversight and management to reduce fiscal contingent liabilities and improve financial positions of sectoral SOEs (housing, utilities). - Pursue revenue measures already initiated (TGST and GST increases) while containing current spending pressures. - Conservative debt management to reduce rollover and refinancing risks associated with increased reliance on external and commercial borrowing. - Continue structural and complementary reforms to support growth and fiscal sustainability, including measures to boost private sector credit and reduce crowding-out effects. *Source: 1mdvea2023002 - 1. Capital Expenditures in the Maldives* ### 16. Risks to the outlook are tilted to the downside (Appendix III). A sharp global economic ### 16. Risks to the outlook are tilted to the downside (Appendix III). ### Downside and upside risks to the outlook - Key external downside risks: - A sharp global economic slowdown, including in key source markets for Maldives’ tourism, for instance Europe. - Outbreaks of new lethal and highly contagious COVID-19 variants that could hit global growth and reduce global tourism activity. - Tighter global financial conditions that could reduce options for market financing and increase risks given SOEs’ balance sheets vulnerabilities, including SOFR-linked debt. - A protracted war in Ukraine adding to inflationary pressures through higher food and energy prices and disruptions to supply chains. - External upside risk: - A lift of international travel restrictions in China, historically one of Maldives’ largest tourism source countries, which is an upside risk to growth. - Domestic risks: - The banking sector’s large exposure to the sovereign could weigh on banks’ capital and ability to lend and pose risks to financial stability in presence of tail shocks. - Implementation risks around the upcoming 2023 presidential election could add to spending pressures. - Significant exposure to climate change, which could impact longer-term growth prospects. - Balance of payments and market concerns: - High commodity prices and associated large import bills are likely to weigh on dollar shortages and maintain high parallel market premiums. - The debt sustainability analysis assumes unidentified financing is covered through domestic sources and does not include any financing gap. *Authorities’ Views* ### Authorities’ assessment of the outlook and shocks - Recovery and drivers: - The authorities highlighted that the recovery has exceeded expectations, underpinned by a strong rebound in tourism. - Decisive policies to swiftly rollout their COVID-19 vaccination campaign and support the tourism sector allowed Maldives to quickly reopen to tourism. - Authorities expect stronger growth from the opening of the Chinese market and from the airport extension that will increase tourist arrival capacity. - Fiscal and inflationary perspectives: - Authorities agree that the planned implementation of the goods and services taxes in 2023 will add to inflationary pressures but consider revenue reforms integral to their fiscal reform agenda. - They concurred that risks to the outlook are tilted to the downside but emphasized Maldives has a resilient tourism sector with a diversified set of source countries. - Fiscal vulnerability drivers: - Unanticipated shocks explain fiscal vulnerabilities: total spending expected to exceed the budgeted amount in 2022 primarily due to higher spending on fuel subsidies from the spike in global commodity prices. - Delays in implementing measures to reduce health insurance costs and faster implementation of previously stalled projects contributed to higher spending. - Authorities emphasized commitment to implement an ambitious and homegrown fiscal consolidation plan to rein in fiscal deficits and put public debt on a sustainable path. ### Policies to reduce vulnerabilities — overview - Key objective: debt reduction through a comprehensive and coordinated approach across policies. - Coordinated approach history: coordination between government and central bank during early COVID-19 crisis enhanced policy effectiveness. - Contingency planning: should downside risks materialize, limited fiscal space implies redirecting scarce resources toward targeted, time-bound support for the most vulnerable and having a contingency plan for fiscal and balance of payments needs given thin reserve buffers. ### A. Near-Term Policy Mix - Fiscal consolidation recommendations: - Rely on expenditure rationalization, in particular capital spending and subsidies, and on domestic revenue mobilization. - Tighter fiscal stance to reduce financing needs, lower imports and pressures on reserves, and limit potential inflationary pressures from public demand. - Swift fiscal consolidation to prepare for large refinancing needs coming due in 2026. - Monetary and central bank roles: - MMA advances should be gradually reduced until fully phased out. - MMA should stand ready to further tighten monetary policy to contain inflationary pressures and the parallel market premium. - Social protection if downside materializes: - Redirect scarce resources toward targeted and time-bound measures to support the most vulnerable, for instance through income support allowances as done during the pandemic. - Debt sustainability priority: - Secure debt sustainability and have contingency plans to address urgent needs given thin reserve buffers. ### B. Fiscal Policy — authorities’ strategy and staff analysis - Authorities’ fiscal consolidation plan (2023 budget): - Increase revenue by 2.7 percent of GDP and reduce spending by 3.3 percent of GDP. - Reform GST: increase domestic GST rate from 6 to 8 percent and tourist GST rate from 12 to 16 percent (under consideration in parliament). - Improve tax compliance and reduce the stock of tax arrears accumulated during the pandemic. - Expenditure saving measures: reduce fuel and electricity subsidies; introduce baseline prices for pharmaceuticals and bulk procurement for medical consumables; delay next stage of public salary harmonization to last quarter of 2023; postpone new capital spending initiatives; avoid costly external market financing. - Medium-term fiscal anchors: - (i) Reduce public debt excluding guarantees to less than 100 percent of GDP by 2025. - (ii) Reduce the primary budget deficit to less than 5 percent of GDP by 2023. - (iii) Maintain public debt as a share to GDP on a downward trend. - (iv) Reduce recurrent expenditure to levels that do not exceed government revenue by 2023. - Staff baseline and adjustment scenario: - The planned GST increase and delays in wage increases and capital spending are included in staff’s baseline. - A sustained and permanent fiscal adjustment of about 3 percent of GDP relative to the baseline would significantly reduce vulnerabilities by lowering public debt below 85 percent of GDP by 2028. - Under such an adjustment, public debt would decline below 70 percent of GDP by 2032 (below the pre-pandemic level). - If fully implemented and sustained, expenditure reforms to reduce fuel, electricity, and healthcare subsidies could help cover the 3 percent of GDP needed fiscal consolidation. - Additional fiscal options: - Reform SOEs, rationalize capital spending, improve targeting of social assistance, and mobilize additional domestic revenue. - Given that delay of public salary harmonization and postponement of new capital spending are provisional, authorities should make these measures permanent or replace them with permanent compensatory measures once they elapse. - Technical assistance: - Authorities are receiving technical assistance from the Fund to reform subsidies and develop a medium-term revenue strategy (MTRS) to help identify additional revenue sources. - Revenue mobilization options (building on MTRS): - (i) Reduce tariff exemptions and levy tariffs on c.i.f. instead of f.o.b. value of imported goods. - (ii) Lower the personal income tax (PIT) thresholds and personal allowance. - (iii) Raise the top marginal PIT rate to align with the business profit tax (BPT) rate. - (iv) Lower the BPT tax-free threshold and introduce a presumptive regime for businesses not registered for GST. - (v) Implement excises on tobacco, alcoholic products, fuels, and motor vehicles and impose a carbon levy. - (vi) Introduce a recurrent property tax. - (vii) Narrow the gap between the domestic and tourist GST rates and broaden the GST base to imports, inbound tourism and digital services. - (viii) Implement customs and tax administration reforms. - The authorities’ MTRS targets an increase in revenue to at least 30 percent of GDP by 2028. - Specific revenue and subsidy numeric notes: - Reducing the tax-free threshold from MVR 720,000 to MVR 480,000 could generate ½ percent of GDP revenue by expanding the number of potential taxpayers by over 50 percent. - The increase in the tourism (TGST) and domestic (GGST) GST rates from 12 to 16 percent and 6 to 8 percent in 2023 is expected to yield 2¾ percent of GDP revenue, while further increasing the GGST rate to 12 percent by 2026 could increase GST revenue by an additional 1¼ percent of GDP. - The baseline does not include fuel, electricity, and health subsidy reductions that the authorities are envisioning as these are not yet legislated and could be difficult to fully implement. These reforms could generate savings of about 1.5 percent of GDP per year. ### C. Public sector, SOEs, and public financial management reforms - SOE vulnerabilities and reform priorities: - Many SOEs suffer from weak corporate governance, are liquidity constrained, and rely excessively on government transfers; some face solvency issues in the long run. - Rationalizing subsidies and gradually adopting and maintaining full cost recovery tariffs for SOEs is essential. - Energy subsidy rationalization should include a comprehensive reform plan, appropriately phased price increases and targeted mitigating measures. - Strengthen medicines procurement mechanism and expand use of generics to contain health insurance subsidy pressures. - Strengthen oversight: enhance role of the Privatization and Corporatization Board (PCB) and develop clear policy for creating new SOEs. - Public housing sector reforms: improve targeting by using income as explicit selection criterion, strengthen periodic income verification, leverage private sector in construction and management, and introduce measures to reduce delinquencies in lease payments. - Authorities created the State Shareholder Management Division to prioritize support to SOEs and rationalize their capital spending; work is under way with World Bank support to strengthen efficiency and governance of individual SOEs. - Public financial and investment management priorities: - Develop a more strategic and focused Public Sector Investment Program to strengthen efficiency of public investment. - Prepare a costed medium-term national development strategy that prioritizes growth-enhancing investment within a realistic resource envelope. - Improve debt management capacity: expand institutional coverage of debt reports and develop capacity to monitor SOE debt. - Urgently develop a multi-year debt management strategy to systematically reduce roll-over and solvency risk. - Finalize the Public Debt Law and complete reform of the Fiscal Responsibility Act as part of a broader credible plan to put debt on a sustainable downward path, including setting and disclosing realistic numerical targets for the fiscal deficit and public debt. - Public financial management credibility: - Swift public sector reform is imperative to reduce fiscal vulnerabilities and enhance credibility and effectiveness of fiscal policy. - Containing interest expenses is important as they have been rising and are expected to remain above the median of peer countries when expressed as a share to tax or overall revenue. - Authorities’ stated commitments: - The cabinet approved the 2023–25 fiscal strategy with revenue increasing measures of about 3 percent of GDP in 2023 through higher GST rates and expenditure saving measures of about 3 percent of GDP through subsidy reforms and containment of wage bill pressures. - Authorities indicated they will not resort to costly external market financing in the near-term and are suspending new major capital spending projects in the next two years to focus on implementing existing projects with concessional or close-to-concessional funding secured. - Authorities aim to improve tax compliance and reduce the stock of tax arrears accumulated during the pandemic. - Progress on public investment execution transparency: standardizing SOEs procurement guidelines, publishing large procurements information on Ministry of Finance website, publishing small procurements in government gazette, adjusting public finance regulations to facilitate bid protesting mechanism and independent review, and publishing information on ongoing and planned public investment projects. *IMF staff summary of Chapter 16 of the Maldives report.* ### 27. Monetary policy should tighten starting with a reduction of MMA advances. The ### 27. Monetary policy should tighten starting with a reduction of MMA advances. ### Monetary policy stance and recommendations - The monetary policy stance is accommodative and excess liquidity is prevalent in the banking system. - Short-term excess liquidity, predominantly in the form of commercial banks’ reserves and deposits at MMA, spiked as a result of increased monetary financing (MMA advances) during the pandemic. - Policy recommendation: - MMA advances should be gradually reduced until fully phased out and only used as a last resort, which would lower inflationary pressures and support the sustainability of the exchange rate peg. - MMA should stand ready to further tighten monetary policy (for instance through open market operations) should inflationary pressures increase and/or the parallel market exchange rate premium widen. - The pace and speed of monetary tightening should remain data dependent. ### Excess structural liquidity and liquidity management tools - Excess structural liquidity poses risks to exchange rate stability and requires additional actions beyond reducing MMA advances. - Contributing factors: - MMA advances. - Inadequate local currency liquidity management tools. - Lack of a secondary market for liquidity-absorbing financial instruments. - Recommended operational measures: - Operationalize market-based liquidity management mechanisms (e.g., interest rate corridor) to help absorb structural liquidity, noting prerequisites such as incentive mechanism, corridor width design, and collateral designation. - Consider sterilization of excess liquidity while recognizing potential pressures on MMA’s profitability; further technical assistance is advised to design and calibrate instruments accounting for sterilization costs. - Continue close monitoring of FX market developments in coordination with key FX market participants such as SOEs and commercial banks, including assessing implications of banks’ quick accumulation of foreign assets and avoiding excess local currency offering by SOEs in the parallel market. - Noted recent development: - The recent MVR 2.5 billion securitization of MMA advances could create additional liquidity, increasing the risk of steep depreciation and exchange rate risk for unhedged households and corporates. ### FX market reform - A reform of the FX markets is long overdue and should complement fiscal and monetary reforms to enhance the credibility of the peg. - Current practice: - FX availability is prioritized by MMA for repayments of public borrowing, including for SOEs and import of essentials, resulting in banks facing FX rationing, particularly in periods of stress. - Authorities are developing a sequenced and gradual reform strategy in discussion with private and public stakeholders. - Recommended reform elements to be finalized and gradually implemented: - (i) Enhance the use of Rufiyaa by implementing both legal and institutional measures such as granting legal tender status only to Rufiyaa (with a few exemptions). - (ii) Promote alternative financial instruments denominated in Rufiyaa to satisfy risk appetites and liquidity preferences of large investors (e.g., SOEs), helping monetary policy better influence structural liquidity in local currency. - (iii) Calibrate policies that create a macro-fundamental-driven interest rate wedge in favor of local currency, and actively absorb Rufiyaa liquidity through an effective monetary operational framework to support the peg. - Recent policy moves: - MMA increased the foreign currency minimum reserve requirement (MRR) back to 10 percent effective in October 2022, fully unwinding remaining pandemic-related monetary and financial support measures. ### Authorities’ views (monetary and FX) - Authorities agree FX market reform is essential and are implementing reforms to address dollar shortages. - MMA is considering open market operations in the future; current focus is on using minimum reserve requirements (MMR). - MMA regularly conducts liquidity forecasting exercises. - To capture Rufiyaa liquidity, the authorities have increased the banking sector’s local currency MRR back to 10 percent. - As a final step in unwinding COVID-related banking sector support measures, the authorities reverted the FX MRR back to 10 percent in October 2022. - MMA coordinates, together with the MoF, SOEs’ access to FX for essential needs. - The foreign exchange swap agreement under the existing 2019-2022 SAARC framework has been extended through June 30, 2023. - MMA has developed a package of measures to reform FX markets including regulating licensing criteria and conditions for money changers, encouraging the use of the Maldivian Rufiyaa in domestic monetary transactions, and limiting the types of transactions allowed through FX accounts; rollout of these reforms is planned to be gradual. ### Financial sector vigilance and reforms - As pandemic-related financial support measures elapsed, careful monitoring is needed to avoid a build-up of financial vulnerabilities. - Policies should remain vigilant to safeguard financial stability while ensuring credit provision is not unduly tightened, particularly for SMEs. - Recommended measures for financial regulators: - Consider higher risk weights on sovereign debt or concentration risks to contain commercial banks’ exposure to the sovereign and reduce crowding out of private sector lending. - Address supervision data gaps. - Introduce a comprehensive crisis management framework by operationalizing a bank resolution framework aligned with MMA’s lender of last resort status. - The Financial Sector Assessment Program (FSAP), expected in 2023, will lay out priority reforms to further strengthen the financial sector. ### AML/CFT and governance steps - Authorities are conducting a national risk assessment (NRA) for AML/CFT expected to conclude in the first quarter of 2023. - Recommended actions: - Disclose NRA findings and roll out legislative and implementation measures to mitigate identified risks. - Amend the AML/CFT Act in line with FATF standards. - Introduce regulations and a supervision regime for Designated Non-Financial Businesses and Professionals (DNFBPs), including real-estate providers and high-value dealers identified at higher risks in the NRA. - Governance recommendations: - Continue efforts to improve governance and reduce corruption risks, including disclosing SOEs quasi-fiscal activities and all transactions with the government. - Improve procurement through harmonized guidelines for SOEs and promote open and competitive procurement. ### Growth, inflation, fiscal outlook, and policy mix - Economic recovery: - The Maldivian economy is recovering rapidly from COVID-19, underpinned by a strong rebound in tourism; tourism activity is near pre-pandemic levels. - Inflation: - Inflation is on the rise but contained due to price subsidies and is expected to increase further reflecting persistently high commodity prices, spending pressures for the 2023 elections, and the planned GST rates increases in early 2023. - Fiscal policy: - Fiscal deficit expected to remain in double digits in 2022 despite strong revenue growth, driven by rising subsidies, sustained high infrastructure spending, increased interest payments, and wage bill reforms. - Continued support to SOEs through subsidies and capital contributions to repay publicly guaranteed debt adds to fiscal vulnerabilities. - International reserves are declining due to high food and fuel prices and fiscal spending. - Authorities’ fiscal consolidation plan: - The authorities plan measures in the 2023 budget that increase revenue by 2.7 percent of GDP and reduce spending by 3.3 percent of GDP. - Staff view: A sustained and permanent fiscal adjustment of about 3 percent of GDP relative to the baseline would reduce public debt below pre-pandemic levels in the medium-term. - Potential coverage of needed adjustment: Expenditure reforms to reduce fuel, electricity, and health subsidies if fully implemented and sustained. - Additional measures could include reforming SOEs, rationalizing capital spending, and improving targeting of social assistance. ### Climate change exposure and financing needs - Maldives is significantly exposed to climate change risks with large financing needs: - Adaptation costs estimated at US$ 8.8 billion (159 percent of 2022 GDP). - Mitigation costs estimated at US$ 1 billion (18 percent of 2022 GDP). - Pipeline and access to finance: - The Maldives has developed a pipeline of projects totaling US$ 500 million for the Green Climate Fund (GCF), forming part of the Public Sector Investment Program. - Accessing multilateral climate financing through the GCF is challenging due to capacity and procedural hurdles; authorities should explore partnerships with internationally accredited agencies. - Authorities’ requests: - Need for IMF technical assistance and capacity development to avail concessional climate finance and meet PFM-related requirements. *Source: IMF staff report excerpt titled “Monetary policy should tighten starting with a reduction of MMA advances.”* ### 50. It is recommended that the next Article IV consultation takes place on the standard ### 1mdvea2023002 - 50. It is recommended that the next Article IV consultation takes place on the standard 12-month cycle. ### Capital expenditures and public investment (Box 1) - Findings: - Capital spending rose from about 4 percent of GDP in 2014 to close to 12 percent of GDP by 2021. - Capital spending is now significantly above the median of peer island states. - Major projects under the Public Sector Investment Program (PSIP) cover airports, harbors, bridges, water and sewage, housing development, land reclamation, road construction projects, and transportation networks. - Capital spending is financed primarily through debt. - Examples of transformative projects: - Velana International Airport expansion expected to double capacity to 3 million arrivals per year. - Hanimaadhoo International Airport capacity of 1.3 million arrivals per year. - Public housing programs and water and sewage projects represent more than half of guaranteed debt projects. - Policy recommendations to improve efficiency and contain fiscal vulnerabilities: - Prioritizing and sequencing critical investments. - Strengthening project selection and appraisal by publishing criteria and methodology for selecting and appraising projects. - Improving systems to monitor and manage implementation and execution of projects at central and local government levels. - Ensuring that sufficient funds are available and dedicated to rehabilitation and maintenance. - Establishing a clear legal framework for PPPs. - Putting in place a climate budget tagging system to leverage more climate-related financing. - Enhance public investment management by reporting revisions to awarded contracts and the extra costs being incurred. ### Fiscal risks from state-owned enterprises (Box 2) - Findings: - SOEs cover strategic sectors such as housing, utilities and transportation and remain a major source of fiscal risk. - SOEs rely excessively on government support, provide goods and services at fixed prices, and undertake quasi-fiscal activities. - Risk analysis of the nine largest SOEs focused on profitability, liquidity, and solvency indicators. - Elevated liquidity pressures drive increased risks: SOEs cannot meet short-term liabilities using most liquid short-term assets and would require government support. - With 36 percent of GDP (by end of 2021) of loans being monitored by the government through sovereign guarantees and on-lending operations, around 6 percent of GDP of estimated loans remain outside the government’s active monitoring. - Government support to SOEs amounts to: - subsidies: 3.2 percent of GDP - sovereign guarantees and on-lending: 34 percent of GDP by end of 2021 - capital contribution: 1.4 percent of GDP (mainly to repay debt contracted with sovereign guarantees) ### Recent macroeconomic developments and external sector (Figures and Appendix I) - Growth and tourism: - After a contraction due to the COVID-19 crisis, the economy recovered as tourist arrivals rebounded strongly, but the recovery has been uneven with tourism dominating growth. - The war in Ukraine sharply reduced tourist arrivals from Russia and Ukraine, but structural adjustment in top tourist source countries provided buffers. - Current account and external position: - CA deficit narrowed temporarily to 8.8 percent of GDP in 2021 due to stronger-than-expected tourism recovery. - The revised EBA-lite CA model estimates: - CA gap of -0.2 percent of GDP in 2021 - policy gap of -1.1 percent of GDP (driven mainly by fiscal policy) - Assessment: external position in 2021 broadly in line with fundamentals and desirable policies, but the parallel market rate premium remained elevated. - Real exchange rate (REER): - REER gradually appreciated since 2021 and remained below its long-term average. - REER gap varies between 0.4 and -13 percent across the EBA-lite CA and REER models. - Policy implication: authorities should phase out outstanding advances from the MMA to tighten monetary stance and limit pressures on prices and the exchange rate. - Capital and financial accounts: - Maldives has a relatively open capital account. - FX availability was prioritized by MMA for SOEs’ repayment of loans and import of essentials. - Recommended FX reform measures: - enhance the use of Rufiyaa (e.g., granting legal tender status only to Rufiyaa with a few exemptions, require tax payments in Rufiyaa); - promote alternative Rufiyaa-denominated financial instruments to satisfy risk appetites and liquidity preferences of large investors (e.g., SOEs); - calibrate policies to create a macro-fundamental-driven interest rate wedge in favor of local currency and actively absorb Rufiyaa liquidity through an effective monetary operational framework to support the peg. ### Debt dynamics, financing, and reserve adequacy - Public debt and borrowing: - Public and publicly guaranteed (PPG) debt-to-GDP ratio declined to around 124 percent in 2021 from a pandemic peak of 154 percent of GDP in 2020. - Assessment: Maldives is at a high-risk of debt distress for overall and external PPG debt. - External gross financing needs increased relative to the 2021 Article IV. - Recent issuances and debt instruments: - Issued in March 2021 a global Sukuk bond in the amount of US$200 million at 10.5 percent, maturing in 5 years in 2026; this helped repurchase 77 percent of the US$D250 million maiden Eurobond that was trading costly at 26 percent yield and was expected to mature in April 2026. - Issued another US$100 million sukuk in April 2021 (reopened on April 27 under the same conditions as the March 2021 subscription). - Issued US$200 million in September 2021 to cover budgetary expenses; these are now trading at about 20 percent yield. - To repay the Eurobonds, the authorities created a sovereign development fund (SDF) and accumulated funds in Rufiyaa equivalent in the amount of above US$270 million as of September 1st, 2022. - Growing reliance on shorter-term commercial debt (e.g., global sukuks and a US$100 million private placement at 7 percent interest rate in mid-2022 over a three year-maturity period) increases rollover risk. - Authorities are considering restructuring the SDF; Fund TA has been requested. - Reserves and reserve adequacy: - Gross international reserves (official reserve assets): - US$984.9 million at end of December 2020 - US$943.8 million at end of November 2021 - US$806 million at the end of December 2021 - US$658 million in August 2022 - Using the marginal cost of capital estimated at 6.2 percent, the benchmark reserves should be closer to 3 months of prospective imports, while Maldives had 2.4 months. - Recommendation: gross reserve coverage around 3 months of imports is recommended. - Projection: reserve coverage is expected to fall below 2 months of imports, strengthening the case for growth-friendly fiscal consolidation, including moderation of non-priority capital expenditure. - Authorities may consider a new FX swap agreement under the existing SAARC framework 2019-2022 (extended till 30 June 2023), should the need arise. ### Policy priorities and capacity development (Table 7 highlights) - Monetary policy: - Implement FX reform strategy to enhance Rufiyaa use, promote Rufiyaa-denominated instruments, and calibrate policies to favor local currency; SARTTAC provided TA including on introducing an interest rate corridor; latest TA end-2021 focused on active liquidity management to support the peg. - Tax policy and administration: - Fiscal consolidation should rely on expenditure rationalization and domestic revenue mobilization. - FAD TA in August 2022 provided options to raise up to 9.4 percent of GDP in revenue by 2028. - 2022 FAD and SARTTAC support to improve tax administration, estimate GST gap, and complete a Tax Administration Diagnostic Assessment Tool. - Expenditure policy: - Rationalize subsidies with targeted assistance to the most vulnerable and reform SOEs to support fiscal consolidation. - October 2022 Fund TA on fuel and electricity subsidy regimes; previous TAs supported SOE oversight and fiscal risks management. - Public financial management: - Accelerate reforms in public financial and investment management; priorities include developing a more strategic and focused PSIP and preparing a costed medium-term national development strategy. - 2020 Fund evaluation of fiscal transparency and TA to reform the Fiscal Responsibility Act; planned early-2023 TA on PIMA follow-up and Climate PIMA; TA on developing a law for the Sovereign Development Fund. - Debt management: - Improve debt management capacity, enhance medium-term debt strategy and annual borrowing report, expand institutional coverage of debt reports, and develop capacity to monitor SOE debt. - 2021 joint recommendations for developing a new debt management law to clarify mandate, authority, and responsibilities. - Macro forecasting: - Enhance macroeconomic forecasting and policy analysis capacity. - ICD working on a 3-year TA project to build MMA’s capacity for consistent baseline forecasts and scenario analyses. *Source: IMF staff summary of the Maldives Article IV consultation content unit.* ### Appendix II. Past Article IV Recommendations ### Appendix II. Past Article IV Recommendations ### Debt and Fiscal Policy - Staff recommended a multipronged adjustment strategy to restore sustainability to public finances, including further revenue mobilization to expand capital spending and mitigate risks related to high public debt; rationalizing capital spending plans starting in 2021, including the capital spending of SOEs; and containing recurrent spending pressures—including from the wage bill. - Authorities’ Medium-Term Fiscal Strategy 2023-25 anchors: - (1) reduce public debt (excluding guarantees) to less than 100 percent of GDP by 2025; - (2) maintain a primary deficit of less than 5 percent of GDP starting in 2023; - (3) maintain the public debt to GDP ratio on a downward trend; - (4) contain current spending below government revenues (excluding grants) from 2023. - Revenue and subsidy measures: - Steps to increase the domestic and tourist GST rates to mobilize revenue of 2.7 percent of GDP as of 2023. - Considering reducing fuel, electricity, and health subsidies. - Ongoing concerns: - Capital spending remains elevated. - Election-related pressures on the wage bill and subsidies can raise current spending beyond the path envisaged in the Fiscal Strategy. ### Governance, Structural, and Public Financial Management (PFM) - Staff recommended addressing weaknesses in the public investment management system to enhance transparency; strengthening the institutional framework for SOE fiscal risk oversight; rationalizing government support to SOEs; adopting a robust legal framework for public debt management; mitigating fiscal risks related to the pension system; and improving transparency with respect to COVID-19 spending. - Policy actions underway: - Creation of a new State Shareholder Management Department to prioritize support to SOEs, rationalize their capital spending and actively monitor their fiscal risks. - A draft debt management law is being reviewed within MOF. - A guideline for harmonizing the procurement procedures of SOEs introduced in 2021. - Review of fuel, electricity, and healthcare subsidies ongoing with the aim of reform being implemented in 2023. ### Exchange Rate and Monetary Policy - Staff advice: - Ensure inflation stability and the sustainability of the exchange rate peg. - MMA advances should not exceed limits and pandemic-related policy support measures should be unwound as planned. - Staff did not recommend approval of existing exchange rate restrictions and multiple currency practices (MCPs) and advised the MMA to accept the obligations of Article VIII as a measurable goal of its Strategic Plan. - Policy actions and status: - MMA advance was extended to end of 2023 without changes in the limit (MVR 4.4 billion). - Pandemic-related policy support measures were fully unwound. - MMA is planning to gradually reduce its advances to the government. - FX market reforms have stalled since the pandemic. MMA recently proposed a roadmap for FX reforms including to strengthen regulations of money changers, encourage the use of Rufiyaa in domestic transactions, and limit transaction types on FX accounts accordingly; the roadmap is under discussion with stakeholders. ### Financial Stability and Structural Reform - Staff recommended advancing prudential regulation and supervision (including addressing data gaps) and introducing a comprehensive crisis management framework by operationalizing a bank resolution framework to promote banking system health amid higher asset quality risks. - Policy status: - No material changes in prudential regulation and supervision. - Banking sector macroprudential measures and resolution framework will be discussed in the forthcoming FSAP mission. - Sovereign-bank nexus risk noted: - Risk weight on banks’ sovereign debt exposure is zero while sovereign debt represents more than 25 percent of banks’ total assets. ### Climate - Staff recommended further advances on building resilient climate change infrastructure and investment in renewables. - Authorities’ stance: - Authorities have complained about the lack of grants and concessional financing for climate resilient investments. ### Risk Assessment Matrix — Selected Risks, Likelihood, Impact, and Policy Responses - Intensifying spillovers from Russia’s war in Ukraine - Likelihood: High - Impact: High — A slowdown in key tourist source countries would severely undermine Maldives’ tourism recovery and business confidence. - Policy response: Provide targeted and temporary fiscal support to the most vulnerable and hardest-hit workers and businesses, and if necessary, keep financial conditions accommodative to support bank lending. - Commodity price shocks - Likelihood: High - Impact: Medium-High — Price subsidies have limited pass-through and are not sustainable; living standards could worsen. - Policy response: Provide targeted and temporary social assistance to the most vulnerable while gradually allowing pass-through of higher global prices. - Systemic social unrest - Likelihood: Medium - Impact: Medium-High — Price subsidies have limited pass-through and are not sustainable; living standards could worsen. - Policy response: Provide targeted and temporary fiscal support to the most vulnerable and hardest-hit workers and businesses, and if necessary, keep financial conditions accommodative to support bank lending. - De-anchoring of inflation expectations and stagflation - Likelihood: Medium - Impact: High — Slower growth and damage to business confidence; global financial tightening threatens FX stability and increases risks given SOEs’ balance sheet vulnerabilities (through rising cost of debt service due to significant exposure to SOFR-lined debt). - Policy response: Extend support measures such as asset purchase programs to support liquidity in bond markets and provide liquidity support to banks; implement fiscal consolidation to reduce financial needs and adjust risk weight on banking sector sovereign debt exposure. - Abrupt global slowdown or recession - Likelihood: Medium - Impact: High — A slowdown in key tourist source countries, particularly in Europe, would severely undermine tourism recovery, investment, and private consumption. - Policy response: Provide targeted and temporary fiscal support to the most vulnerable and hardest-hit workers and businesses, and if necessary, keep financial conditions accommodative to support bank lending. - Local Covid-19 outbreaks - Likelihood: Medium - Impact: Medium — Outbreaks in Maldives and/or key tourist source countries would undermine tourism recovery and damage business confidence. - Policy response: Provide targeted and temporary fiscal support to the most vulnerable and hardest-hit workers and businesses, and if necessary, keep financial conditions accommodative to support bank lending. - Sovereign-bank nexus - Likelihood: Medium - Impact: Medium — Banks’ capital could erode rapidly in the event of sovereign stress given sovereign exposure exceeding 25 percent of bank assets. - Policy response: Provide liquidity to banks in the short-term and mitigate risks by reducing financing needs (through fiscal consolidation) and adjusting risk weight on banking sector sovereign debt exposure. - Natural disasters related to climate change - Likelihood: Medium - Impact: Medium-High — Disruption in tourism and other economic activity, damage to properties, and higher food inflation with larger impact on low-income households. - Policy response: Establish contingent financing plans with development partners; provide targeted assistance to affected groups and sectors; prioritize public investment in disaster-resistant infrastructure and sustainable growth. ### Downside Scenario (Appendix IV) — Assumptions and Macroeconomic Implications - Scenario assumptions: - A sharp global economic slowdown adversely impacting key source markets for tourism, particularly in Europe, compounded with outbreaks of new lethal and highly contagious COVID-19 variants that further reduce global tourism activity. - As a result, the economy would contract by 12.7 percent in 2023 (or about one and half standard deviation) and partially recover in the following years. - Lower tourism receipts combined with lower economic activity would curtail domestic revenues while targeted transfers to cushion the impact would add to spending pressures. - Sharp drop in tourist arrivals expected to raise sovereign bond yields and widen spreads, reducing market access and increasing financing pressures. - Fiscal and debt outcomes under the downside scenario: - Fiscal deficit would widen to around 19 percent of GDP in 2023 and remain elevated through 2025. - Public debt-to-GDP ratio would spike to 150 percent of GDP in 2023 and remain high at around 141 percent of GDP by 2025. - Maldives would continue to have a high risk of external debt distress and a high overall risk of debt distress. - Exacerbated dollar shortages would jeopardize servicing outstanding external debt obligations; a depreciation of the official exchange rate would trigger numerous balance sheet mismatches in the dollarized Maldivian economy. - Policy recommendations and contingency measures: - Swiftly implement critical reforms to reduce fiscal and debt vulnerabilities: gradual fiscal consolidation relying on expenditure rationalization (scaling back non-priority spending) and domestic revenue mobilization; reducing subsidies; reforming SOEs; limiting fiscal dominance; reforming FX markets to support peg sustainability. - Prepare contingency plans to address acute fiscal and balance of payments needs, including: - Reactivation of bilateral swap lines; - Opportunities for market financing at longer maturities to roll over existing debt service obligations; - Concessional financing from multilateral institutions and development partners; - Short-term growth-friendly fiscal consolidation measures, including spending rationalization to reduce financing pressures and dollar liquidity needs for both the central government and SOEs; - Actions on the exchange rate to contain the spread with the parallel market rate; - Identification of dollar mismatches in banks’ and SOEs’ balance sheets and corrective measures to strengthen them. ### Digitalization and Public Finances (Appendix V) — Findings and GovTech Status - Objective: - Assess whether digitalization (GovTech) can improve government efficiency, revenue productivity, health outcomes, and educational outcomes using a sample of 180 countries during 2008–2019, proxied by the United Nation’s Online Service Index. - Key findings and potential benefits: - Digitalization can improve efficiency of expenditure and tax policies by facilitating collection and processing of more reliable, timely, and accurate information; enhance access to services and entitlements; reduce errors and fraud; strengthen procurement procedures; and improve tax compliance. - The Maldives and other South Asian countries stand to benefit from further GovTech advancements in revenue collection and health and education spending efficiency. - State of GovTech in the Maldives (as of end-2020, selected items): - Treasury Single Account (TSA): - Maldives has centralized TSA systems that record at least 75 percent of government revenue and expenditure transactions. - Tax Management Information System (TMIS): - Maldives does not benefit from fully operational TMISs; implementation of a fully operational and connected TMIS is in progress in the Maldives. - e-ID and e-Signature: - Maldives is among the 52 countries that do not have digital signature systems and lack the regulation or infrastructure to support them. - e-Filing and e-Payment: - Maldives provides online e-filing services for G2C and G2B via its e-tax systems but does not offer government e-payment solutions. - Customs Administration Management Information System (CMIS): - Maldives benefits from a fully operational online customs system that offers transactional capabilities but is not operating yet as a single window. - Payroll System: - Maldives has a fully operational payroll system and is implementing a centralized payroll platform shared across line ministries; SAP wage bill system could be improved to include main allowances (overtime and holiday allowances) of atoll-based public employees. - e-Procurement System: - Maldives’ electronic procurement system facilitates publication of tenders but does not offer functionalities to publish contract information, bidding documents, or contract awards, and lacks transactional or connected services. *Appendix II. Past Article IV Recommendations* ### 4. Can digitalization help countries in the region improve their revenue efficiency? To ### 4. Can digitalization help countries in the region improve their revenue efficiency? To ### Empirical approach and methodology - Dependent variables: annual efficiency measures of value-added tax (VAT), personal income tax (PIT), and corporate income tax (CIT) (푇푎푥 ௜,௧). - Main regressor: government digitalization proxy (GovTech, 퐺표푣푇푒푐ℎ ௜,௧). - Baseline panel specification (Equation 1): - 푇푎푥 ௜,௧ = 훽∙퐺표푣푇푒푐ℎ ௜,௧ିଵ + 휽∙퐗 풊,풕ିퟏ + 훼 ௜ + 훾 ௧ + 푢 ௜,௧ - Covariates (lagged, 퐗 풊,풕ିퟏ) include: - GDP per capita; - real GDP growth; - agriculture’s share of GDP; - United Nation’s telecommunication index; - non-oil imports and exports shares of GDP; - oil trade balance share of GDP; - population growth and age dependency ratio; - UN’s human capital index; - government effectiveness indicator. - Country-fixed effects (훼 ௜) and year-fixed effects (훾 ௧) included to control for time-invariant heterogeneity and common shocks. - Health and education analyses: stochastic frontier analysis to estimate technical efficiency of health and education spending (Equations (2)–(6)), with time-varying inefficiency modeled as a truncated normal function of time. ### Key empirical findings on revenue efficiency (GovTech effects) - Positive association between the GovTech index and revenue efficiency measures; bridging the government digitalization divide to the GovTech frontier (GovTech = 1) would raise revenue efficiency. - Maldives-specific estimated impacts from reaching the GovTech frontier (change in percent; 2019): - VAT productivity would increase by about 2.2 percentage points. - VAT C-efficiency would increase by about 2.3 percentage points. - CIT productivity would increase by 1.1 percentage points. - Overall impact on revenue is estimated at about 2.5 percent of GDP. - Note: VAT/PIT efficiency gains are not shown for Bhutan and the Maldives where relevant taxes were lacking prior to 2020. ### Health spending efficiency and GovTech - Stochastic frontier regression of health outcomes (average life expectancy at birth and infant mortality) on inputs and technical inefficiency yields time-varying technical efficiency (푇퐸 ௜,௧). - Estimated correlations: - Both government digitalization (GovTech) and telecommunication infrastructure quality are positively correlated with estimated efficiency in health spending. - Maldives-specific estimated gains from bridging to the GovTech frontier: - Increase in life expectancy by about 0.9 years. - Reduction in the infant mortality rate by 0.6 percentage points. - Frontier (outcome) correlates: - Higher GDP per capita and higher health spending associated with better health outcomes. - Efficiency (within-country) correlates: - More developed countries and countries with a greater urban population share tend to have more efficient health systems. - Higher shares of births attended by skilled health staff and greater coverage of essentials associated with higher health spending efficiency. ### Education spending efficiency and GovTech - Stochastic frontier analysis of education spending per capita and GDP per capita as inputs to generate outcomes (school enrollment rates). - Estimated correlations: - Stronger e-governments (higher GovTech) tend to have higher efficiency of education spending. - Maldives-specific estimated gains from bridging to the GovTech frontier: - Gross enrollment ratio in tertiary education would increase by 1 percentage point. - Upper secondary enrollment would increase by 0.8 percentage points. - Secondary enrollment would increase by 1.5 percentage points. - Additional correlates: - Better access to basic sanitation services and more advanced telecommunication infrastructure tend to be associated with better education spending efficiency. ### Policy-relevant findings and recommendations - Scaling up GovTech solutions offers significant potential to transform service delivery and mobilize resources: - Higher GovTech is associated with higher fiscal revenue efficiency and higher outcomes per unit of health and education spending. - Digital payments and e-procurement can improve health budget execution and public health resource management. - To realize full dividends of GovTech, institutional frameworks are needed to mitigate risks: - Safeguards against cybersecurity risks; - Measures to reduce digital exclusion; - Controls to prevent fraud; - Protections for privacy. - For energy and fuel sectors (Maldives context): - Move from inefficient and inequitable price subsidies to targeted cash transfers to improve equity and fiscal sustainability. - Review taxation of fuel products to reflect revenue, environmental and efficiency objectives. - Ensure a level playing field in the retail fuel market and limit preferential lending that can distort competition. - Improve transparency of pricing formulas used to derive cost recovery prices for diesel for domestic electricity consumption. - Consider reallocation of fiscal savings from subsidy reform to better targeted programs in health and education. ### Fiscal and subsidy figures for Maldives (selected exact values) - Fuel input subsidy: - Estimated at 0.6 percent of GDP in 2021. - Rose to 1.3 percent of GDP in the first half of 2022. - Projected to increase to about 2½ to 3 percent of GDP in 2022 compared to a budgeted amount of 0.4 percent of GDP. - Electricity subsidies and government compensation: - Electricity subsidies including the fuel input subsidy estimated at 1 percent of GDP in 2021. - Total government compensation to utilities (recorded as “fuel” and “electricity subsidy”) reached an estimated 1.4 percent of GDP in 2021 and could potentially reach 4.1 percent of GDP in 2022. - Tariff implications: - To reach cost recovery levels, tariff rates applied to residential consumers would need to almost double. - Sector structure and cost notes: - About 95 percent of total electricity generated uses imported diesel. - STELCO serves the greater Male’ region plus 35 islands; FENAKA serves 156 islands. - Resorts generate their own electricity using unsubsidized fuel. - FENAKA tends to incur higher operation and maintenance costs and has potential for renewable energy; STELCO benefits from some scale in the greater Male’ region but faces land limitations for renewables. - Distributional and design issues: - The current subsidies system is complex and non-transparent with different compensation mechanisms, numerous different rates, and additional discounts. - Government compensation of utility companies is based on a “revenue loss formula” using 2009 tariffs as reference, which is complex and not proportional to consumption or costs of provision. *Maldives: Chapter 4 (Can digitalization help countries in the region improve their revenue efficiency?) — IMF staff estimates and analyses as presented in the source content.* ### 5. While the poor will be impacted more as a share of their income from increasing ### 5. While the poor will be impacted more as a share of their income from increasing ### Distributional impact of electricity tariffs and subsidies - Households spend on average 5 percent of their income on electricity. - The share of income spent on electricity declines with income but varies substantially within each quintile: - For the poorest 20 percent these shares vary between about 2 and 11 percent. - For the richest 20 percent this share varies between about 1 and 8 percent. - The current block tariff system does not effectively target poorer households: - Quantities consumed within a household connection are not a good indicator for poverty. - Almost no households consumes less than the limit of the first block, while more than 40 percent of households consume kwh in the highest block. - The highest tariff block is also the prevalent block across all quintile groups. - The average price paid by households per kWh consumed is broadly similar across the income distribution. - Bringing electricity prices to cost recovery levels would affect households from the poorest quintile the most, with effects becoming smaller as income increase. - Although poorer households are impacted more as a share of income, richer households spend more on the electricity bill in absolute terms, so a higher share of total subsidies accrues to those groups, making electricity subsidies regressive. - Methodological note: The direct and indirect impact are estimated as in Coady and Newhouse (2006). The indirect impact of an increase in electricity tariffs on the price of other goods and services is slightly positive as business rates are slightly above cost recovery rate requiring a minor decrease in business rates. ### Strategy for energy subsidy reform (six key ingredients) - A comprehensive reform plan. - The plan should be embedded in a broader reform agenda. - Given the complexity and interconnections of the current system, fuel and electricity sector reforms as well as the reforms of the three SOEs need to be analyzed jointly. - An effective communications strategy. - Successful communication strategies require a dedicated full-time unit implementing the communication strategy. - A two-way dialogue between the government and key stakeholders is crucial and sufficient time should be allowed to implement the communication strategy. - Appropriately phased price increases. - A decision on a timeline should be carefully calibrated based on the gap between average cost and average tariffs, the available fiscal space and the ability to implement mitigating measures. - Gradual price increases are preferred. - Targeted mitigating measures. - A targeted cash transfer independent from the quantities consumed is preferred as this does not distort relative prices but implementation will depend on institutional capacity. - Depoliticized price setting. - Tariff setting should be depoliticized to increase transparency and predictability. - A key measure is to choose a regulatory regime that sets clear rules for setting prices, including how to determine tariff rates and how often to revise. - SOE reform. - To better manage fiscal risks and reduce the government’s exposure, strengthening the oversight of SOEs becomes imperative. - In addition to pricing reforms, broader sectoral reform will help in reducing costs especially for FENEKA. ### Bank–sovereign nexus and fiscal-financial risks - Public debt dynamics and domestic financing: - The public debt-to-GDP ratio jumped from about 80 percent to 154 percent of GDP in 2020. - Domestic banks and the Maldives Monetary Authority (MMA) have both significantly increased their sovereign debt purchase since the pandemic; their total exposure represented around 23 percent of total outstanding sovereign debt. - According to the 2021 Maldives Article IV Consultation Staff Report, MMA’s and commercial banks’ claims on the central government are respectively 21 percent and 42 percent of total claims on the central government at end-2020. - Banking sector sovereign exposure: - Bank of Maldives (BML) and State Bank of India (SBI) held more than 70 percent of outstanding Maldivian sovereign debt controlled by the banking sector by end-2020. - BML’s sovereign holding are exclusively concentrated in local currency sovereign bonds while SBI purchased a large share of foreign currency sovereign bonds. - As part of the India government’s support to the Maldives in 2020, SBI (Male) purchased $250 million foreign currency denominated Maldives government bonds without conditions. - Implications and empirical findings: - Increased sovereign debt exposure crowds out banks’ capacity to extend private credit: - The share of private lending fell from nearly 50 percent of total banking sector assets before the pandemic to around 32 percent as of early 2022. - Local projection analysis: a one percentage point increase in sovereign bonds holding on banks’ balance sheets reduces the banking sector’s share of private sector credit provision by 0.8 percentage points 2 years after the shock. - Financial stability risks: - Almost all Maldivian banks’ sovereign debt holdings are around or higher than 100 percent of total capital, implying large potential impacts on banking sector stability if sovereign distress materializes. - MMA advances and excess liquidity: - Since the COVID-19 pandemic onset, MMA advances to the central government have driven fluctuations in MMA’s total claims on the government. - MMA advances are the main source of excess banking sector liquidity via the public account overdraft facility. - Commercial banks’ deposits at MMA surpassed MMA’s total net FX assets since late 2021. - Empirical result: a one-percentage-point increase in the ratio of MMA advances to government over MMA total asset increases the ratio of commercial banks’ total deposit and reserves at MMA over MMA total assets by as much as 0.5 percentage point, although the relation became insignificant around one year afterwards. - If not managed, central bank excess liquidity could threaten exchange rate stability and force MMA to ration provision of FX to the private sector. ### Accessing climate financing - Vulnerability and policy framework: - 80 per cent of the land area are less than one meter above mean sea level. - According to the authorities, over 90 percent of the islands report flooding annually and 97 percent are reporting shoreline erosion while 64 percent are experiencing severe erosion. - Maldives’ national climate instruments include: Climate Emergency Act (2021); NDC (2020); Strategic Action Plan 2019-2023 (2019); Maldives Climate Change Policy Framework (2015); Disaster Management Act (2007); National Adaptation Program of Action (2006). - NDC 2020: plans to reduce CO2 emissions by 26 percent by 2030 and strive to achieve net zero emissions by 2030 if there is adequate international support and assistance. - Financing needs and initiatives: - The cost of adaptation and mitigation needs are estimated at USD 8.8 billion and USD 1 billion respectively. - The MCCPF assessed needs from the Green Climate Fund (GCF) for 2020-2024 at USD500 million and developed a pipeline of projects according to the GCF guidance. - Domestic measures include the Green Tax paid by tourists and Baa Atoll Conservation Fund, but domestic resources are insufficient to cover needs. - Challenges in accessing climate finance: - Access procedures to multilateral climate funds are highly cumbersome and costly, notably requirements for scientific data to prove climate relevance. - Hurdles include lack of capacity to satisfy preconditions required by climate funds, and cumbersome and complex processes for accreditation and approval of projects. - These challenges are similar to those faced by many small islands and Pacific Island Countries. *Source: 1mdvea2023002 — IMF staff content provided in the supplied document.* ### 5. PICs face a large climate financing gap to address climate challenges. Fouad et al. ### 5. PICs face a large climate financing gap to address climate challenges. Fouad et al. ### Climate financing gap and estimated needs - Fouad et al. (2021) estimated the average additional annual spending needs at 6.5 to 9 percent of GDP to address climate challenges and limit economic losses. - Donors and entities provide climate finance under varying modalities, but needs remain well beyond available funds and disbursements are often delayed for several years. ### Access modalities for multilateral climate finance - Direct Application for Project Funding: Project proponents apply directly to the fund or facility; multilateral CFs like the GCF typically do not allow direct applications without first completing an accreditation process, but bilateral funds often do. - Access through Accredited Entities (AEs): Pre-qualified entities or intermediaries that can develop funding proposals and manage projects; an accreditation process is required. - Direct Access: Regional, national, or subnational entities become accredited to receive finance directly from the fund without an international intermediary; accredited direct access entity takes on facilitation and fiduciary functions. - International Access: Institutions like United Nations agencies, multilateral development banks (MDBs), international financial institutions, NGOs, and regional institutions are designated or accredited as official access channels; these accredited entities have been verified to handle climate change projects and financing instruments. ### Access to the Green Climate Fund (GCF) in the Pacific - Almost all PICs are targeting direct access to the GCF by seeking national entity accreditation since the GCF is the single largest source of climate finance for the PICs. - Only two PICs, Fiji and the Cook Islands, have secured direct access to the GCF through national accredited entities. - the Fiji Development Bank in 2017 for projects up to $10 million and the Cook Islands Ministry of Finance and Economic Management in 2018 for projects up to $50 million - Even with approved national accredited entities, accessing GCF financing has been time consuming and as no funding has been disbursed of July 2022. - Access via international and regional accredited entities has been more successful: 15 projects totaling USD 430 million have been approved by the GCF. ### Challenges and timing across the climate finance lifecycle - Direct access accreditation is a lengthy process that takes a minimum 2-5 years. - Accreditation requires satisfying a range of PFM-related requirements covering seven broad areas of PFM practices and institutions: - (i) corporate governance - (ii) financial reporting - (iii) budget credibility - (iv) internal and external audit - (v) internal control - (vi) procurement - (vii) transparency and accountability - Challenges and successes occur throughout accreditation, project approval, and implementation phases; Table 2 (in source) summarizes those experiences for PICs. ### Lessons learned and recommended strategic approach for PICs (including Maldives) - National direct-access modalities do not offer a rapid or sizable path to climate finance based on past experiences. - Without further efforts to develop PFM capacity and without changes in climate finance requirements, direct-access accreditation will remain out of reach for many PICs for some years. - A mix of access modalities is needed given the time and resource intensity of the accreditation process. - For the Maldives specifically: - Direct accreditation remains the main objective of authorities to secure financing for climate change projects. - Authorities should explore a variety of access modalities and consider the actual costs and perceived benefits for each path. - Where access demands significant PFM-related requirements, authorities are encouraged to continue PFM reforms to adapt current public finance management practices and make them environment and climate sensitive. ### IMF support to address climate-related challenges - Financing solutions — Resilience and Sustainability Facility (RSF): - The RSF complements the IMF lending toolkit by helping low-income and vulnerable middle-income countries address longer-term challenges, including those related to climate change and pandemic preparedness. - Three quarters of the IMF’s membership – are eligible for RSF financing including small states. - Eligible countries requesting access to the RSF need (i) high quality policy reforms, (ii) a concurrent IMF-supported program, and (iii) sustainable debt and adequate capacity to repay. - Capacity development: - The Fund extends capacity development support that now includes climate macroeconomic assessment programs (CMAP), climate-focused public investment management assessments (C -PIMA), and green public financial management. - These tools can build PFM capacity across the climate finance lifecycle and identify gaps. - Analytical work and data: - The IMF publishes research and analysis on climate change impacts on macroeconomic and financial stability, including mitigation, adaptation, and transition. - The Climate Change Indicators Dashboard, led by the IMF's Statistics Department (STA) and designed in cooperation with other IMF departments and international organizations, aims to aggregate statistical indicators on climate change, greenhouse gas emissions from economic activity, trade in environmental goods, green finance, government policies, and physical and transition risks. *Source: Fouad et al. (2021), Unlocking Access to Climate Finance for Pacific Islands Countries, DP /2021/020; IMF staff (excerpts as provided).* ### introduction and implementation of an interest rate corridor as a way to support an active liquidity ### introduction and implementation of an interest rate corridor as a way to support an active liquidity management policy and a policy tool to support the development of the money market and the use of domestic currency ### Technical assistance and capacity building (MMA, STA, SARTTAC, ICD) - TA mission on strengthening MMA’s banking supervision capacity concluded with an in-person mission in June 2022; the mission assessed MMA’s implementation of corporate governance regulations and risk management guidelines and provided further recommendations to ensure full implementation in practice. - STA / SARTTAC missions and outcomes: - April 2018 external sector statistics SARTTAC mission: assessed data reliability, assisted in improving specific BOP components, and advised on source data and statistical techniques. - August 2018 SARTTAC mission: provided GFS and public sector debt statistics (PSDS) training, initiating a broader SARTTAC training and TA effort. - January 2019 SARTTAC mission on GFS and PSDS: strengthened compilation and dissemination in line with internationally accepted statistical standards. - August 2019 SARTTAC PSDS training: provided training on concepts, methods, and practices related to PSDS compilation and dissemination. - February 2019 SARTTAC missions: assisted with updating the consumer price index and developing experimental annual GDP estimates by expenditure at current prices for 2017. - January 2020 and January 2021 SARTTAC GFS and PSDS missions: focused on enhancing compilation and dissemination practices, including aligning GFS and PSDS reports to the GFSM 2014 framework, moving toward producing quarterly GFS reports, and broadening institutional coverage of fiscal statistics. - 2020 and first half of 2021 SARTTAC missions: focused on national accounts statistics, improving the expenditure approach for annual GDP and quarterly national accounts. - June 2022 SARTTAC mission: assisted Maldives Bureau of Statistics with developing the Producer Price Index (PPI) and updating the Consumer Price Index (CPI). - ICD in-person TA mission (August 2022): - Helped MMA customize and implement an Excel-based microframework in line with the “Comprehensive Adaptive Expectations Model” (CAEM). - Focused on: i) customizing the template to the Maldivian economy; ii) formulating a baseline forecast and running policy scenarios. - Safeguards assessment: - An assessment of the MMA was concluded in March 2010. - Responses to recommendations included appointing an external auditor, strengthening controls over foreign payments via automation, and appointing a Chief Internal Auditor; internal audit capacity has continued to improve. - Amendments to the MMA Act were drafted in 2011 and the MMA Act was amended in 2015; some safeguards recommendations (establishment of an Audit Committee, limits on credit to government, safeguards for personal autonomy of Board members) have not been incorporated. - Authorities committed to undergo an updated safeguards assessment in connection with the RCF disbursement. ### Statistical issues — assessment of data adequacy for surveillance (As of October 27, 2022) - General: - Macroeconomic statistics have improved with TA from STA and ADB. - Data broadly adequate for surveillance but gaps remain in balance of payments, government finance, and national accounts statistics. - Real sector: - Maldives compiles quarterly and annual national accounts (base year 2014) using supply and use tables (SUTs 2014). - IMF’s STA and SARTTAC modernized and improved the EXCEL-based GDP compilation system, improving consistency between GDP-Production and Quarterly GDP estimates. - GDP by expenditure and quarterly GDP series were improved and disseminated on Maldives official website. - STA and SARTTAC organizing an end-2022 mission to support developing SUTs for 2019 and rebasing GDP to 2019. - CPI currently uses weights from the 2016 Household Income and Expenditure Survey; an April 2022 TA mission developed preliminary weights using the 2019 Household Income and Expenditure Survey. - A CPI series with updated weights, and expanded coverage to include owner occupied housing, is expected to be disseminated later in 2022. - PPI was not produced between 2017 and 2019; SARTTAC supported re-introduction of a monthly PPI (disseminated quarterly) in 2020. - PPI data released for communications and education covering January 2019 to March 2022; plans to disseminate indices for utilities, resorts, and construction. - Fiscal sector: - With SARTTAC support, authorities are disseminating GFS data based on GFSM 2014 for the budgetary central government. - Ongoing reforms: update chart of accounts and accounting basis to follow international standards to allow production of balance sheet data. - Local government data limited; decentralization plans include a portal with detailed local government finances. - On SOEs, a quarterly report on individual SOEs exists; consolidated public corporations subsector GFS data not currently produced—plans underway with SARTTAC to produce such data. - Financial sector: - APD receives electronic monetary statistics every two weeks covering MMA and commercial banks balance sheets. - MMA uses SRFs to report monthly data for central bank, other depository corporations, and other financial corporations to the Fund. - An integrated monetary database meeting needs of MMA, STA, and APD is operational. - Inconsistencies exist between monetary and fiscal data on financing of the fiscal deficit due to timing and coverage issues. - Maldives reports some Financial Access Survey series (including mobile money and gender-disaggregated) and the two UN indicators for Target 8.10 (commercial bank branches per 100,000 adults and ATMs per 100,000 adults). - MMA reports all 14 core Financial Soundness Indicators (FSIs) and eight additional FSIs for deposit takers and two additional FSIs on real estate markets quarterly; coverage of additional FSIs could be improved to include other financial corporations, nonfinancial corporations, and households. - External sector: - MMA compiles balance of payments data on an annual basis only. - MMA has started a project to enhance the international transaction reporting system (ITRS) and taken actions to improve coordination among data producers and collection processes. - MMA does not compile IIP, CDIS, CPIS data; difficulties exist assembling information for consistent compilation of financial transactions for these datasets. - Quarterly data on external debt and debt service are available for the government and MMA, and to some extent for banking sector and state enterprises, but no data are reported to World Bank QEDS database. - Main source for EDS is the Commonwealth Secretariat Debt Recording Management System (DRMS), which includes EDS templates for reporting to the World Bank and assists MMA in improving BOP data and future IIP preparation. - Official reserve assets are reported every two weeks with a (variable) one-week lag. - Predetermined foreign currency outflows (mainly debt service payments) are known and reported to APD at annual Article IV missions; other movements of foreign currency assets are not identified. ### Data standards and reporting - Maldives has participated in IMF’s GDDS since October 14, 2011; metadata posted on the Data Standards Bulletin Board. - On June 18, 2019, Maldives implemented the recommendations of the e-GDDS by publishing essential macroeconomic statistics through a National Summary Data page (NSDP). - No data ROSC available. - Table of Common Indicators Required for Surveillance (As of September 30, 2022) — selected entries (dates and frequencies preserved as in source): - Exchange Rates: Date of Latest Observation: September 2022; Date Received: October 2022; Frequency of Data: M; Frequency of Reporting: M; Frequency of Publication: M. - International Reserve Assets and Reserve Liabilities of the Monetary Authorities: Date of Latest Observation: August 2022; Date Received: September 2022; Frequency of Data: M; Frequency of Reporting: M; Frequency of Publication: M. - Reserve/Base Money: Date of Latest Observation: August 2022; Date Received: September 2022; Frequency of Data: M; Frequency of Reporting: M; Frequency of Publication: M. - Broad Money: Date of Latest Observation: August 2022; Date Received: September 2022; Frequency of Data: M; Frequency of Reporting: M; Frequency of Publication: M. - Central Bank Balance Sheet: Date of Latest Observation: August 2022; Date Received: September 2022; Frequency of Data: M; Frequency of Reporting: M; Frequency of Publication: M. - Consolidated Balance Sheet of the Banking System: Date of Latest Observation: August 2022; Date Received: September 2022; Frequency of Data: M; Frequency of Reporting: M; Frequency of Publication: M. - Interest Rates: Date of Latest Observation: September 2022; Date Received: October 2022; Frequency of Data: M; Frequency of Reporting: M; Frequency of Publication: M. - Consumer Price Index: Date of Latest Observation: July 2022; Date Received: September 2022; Frequency of Data: M; Frequency of Reporting: M; Frequency of Publication: M. - Revenue, Expenditure, Balance and Composition of Financing – Central Government: Date of Latest Observation: 2021; Date Received: September 2022; Frequency of Data: A; Frequency of Reporting: M; Frequency of Publication: M. - Stocks of Central Government and Central Government-Guaranteed Debt: Date of Latest Observation: 2021; Date Received: September 2022; Frequency of Data: A; Frequency of Reporting: A; Frequency of Publication: A. - External Current Account Balance: Date of Latest Observation: 2021; Date Received: September 2022; Frequency of Data: A; Frequency of Reporting: A; Frequency of Publication: A. - Exports and Imports of Goods and Services: Date of Latest Observation: 2021; Date Received: September 2022; Frequency of Data: A; Frequency of Reporting: A; Frequency of Publication: A. - GDP/GNP: Date of Latest Observation: 2021A, 2022 Q2; Date Received: August 2021, September 2022; Frequency of Data: A, Q; Frequency of Reporting: A, Q; Frequency of Publication: A, Q. - Gross External Debt: Date of Latest Observation: 2021 A; Date Received: September 2022; Frequency of Data: A; Frequency of Reporting: A; Frequency of Publication: A. - International Investment Position: N.A. ### Debt sustainability analysis — key findings and recommendations - Joint Bank-Fund Debt Sustainability Analysis (DSA): - Risk of external debt distress: High. - Overall risk of debt distress: High. - Granularity in the risk rating: Not sustainable under baseline. - Application of judgement: No. - Key findings: - Some debt indicators (e.g., debt-to-GDP ratio) improved in the near term since September 2021 DSA, reflecting robust recovery in tourism and growth in 2021. - External gross financing needs increased significantly relative to the 2021 DSA due to: - persistently higher commodity prices; - a more expansionary fiscal stance reflecting higher subsidies and other current and capital project related spending; - repayments and rollovers of non-concessional debt, mainly global sukuks. - External refinancing pressures expected to peak in 2026. - Authorities have been current on debt service obligations to both domestic and external creditors. - Increasingly higher amortizations and large interest payments would trigger protracted breaches in several debt indicators by 2026, making the assessment of debt not sustainable under the baseline projections, similar to the 2021 DSA. - The key external debt stock indicator, the present value (PV) of external debt-to-GDP, will converge to the 30 percent threshold by the medium-term. - Policy recommendations: - Sustained fiscal consolidation, conservative debt management, and continued strong growth are required to address debt vulnerabilities. - Authorities adopted fiscal anchors in their 2023–2025 medium-term fiscal strategy to support fiscal sustainability. - In addition to the planned increase of Goods and Services Tax (GST) (included in the baseline projections), a decisive and sustained additional fiscal adjustment of around 3 percent of GDP would help lower the PV of public debt below 70 (50) percent of GDP by 2032 (2042) and put debt on a sustained downward path. - Vulnerabilities and contingencies: - Debt dynamics remain vulnerable to adverse shocks in growth, interest rates (due to Secured Overnight Financing Rate (SOFR)-linked debt), and the fiscal position in the near term. - A possible upside is resumption of tourist arrivals from China. ### Background and recent developments on public and publicly guaranteed (PPG) debt - Overall: - Total PPG debt-to-GDP ratio declined to about 124 percent of GDP in 2021 from 154 percent in 2020 and 137 percent of GDP projected for 2021 in Article IV 2021; 2019 level was 78.8 percent. - Nominal PPG debt stock increased to US$6469 million in 2021 from US$5768 million in 2020. - Central government budgetary debt increased to about US$5527 (an increase of about 14 percent); guaranteed debt increased to about US$941 million. - Both external and domestic debt increased during 2021 with domestic debt slightly above half the mix (53 percent of total). - Domestic PPG debt: - Domestic PPG debt stood at US$3452.1 million (MVR 53164 million) or 66.3 of GDP at end 2021, up from US$2973.6 million in 2020 in nominal terms. - Domestic PPG debt includes US$239.5 million (MVR 3.689 billion) in advances from MMA to central government (4.6 percent of GDP). - To bridge financing during COVID-19, parliament approved temporary suspension of elements of the Fiscal Responsibility Act to allow a one-year expansion of the cap of MMA advances to government to MVR 4.4 billion (US$286 million). - In end-December 2021 authorities securitized outstanding MMA advances amounting to MVR 2.5 billion (US$162 million, around 4.5 percent of domestic PPG debt), converting advances into a 40-year bond at a 2.4 percent annual interest. - Commercial banks had the largest claim on central government: US$1439.7 million (42 percent of domestic PPG debt). - Other financial corporations held US$1068 million (30.9 percent of domestic PPG debt). - A US$250 million bond purchased in 2020 by State Bank of India (SBI) Male branch as budget support remains outstanding; expected to be paid back in 10 years as a bullet payment with bi-annual interest payment in dollars at an interest rate of 3.5 percent. - External PPG debt: - External PPG debt stood at US$3046 million in 2021, around 58.5 percent of GDP, up from US$2796 million in 2020. - External PPG debt predominantly owed to commercial creditors (44 percent) and bilateral creditors (40 percent). - End-2021: direct budgetary debt constituted 71 percent of external PPG debt; 29 percent extended to SOEs with sovereign guarantees. - Around 67 percent of guaranteed external loans are for housing development projects by SOEs (HDC and FDC). - Guaranteed external debt owed mainly to commercial creditors (around 9 percent of total), bilateral creditors (3 percent), and a small amount (1 percent) to a multilateral creditor. - China is the largest external creditor (20 percent of total public debt or 42 percent of total external PPG debt), with the Chinese Exim Bank holding 11 percent of the total. *Source: 1mdvea2023002 - introduction and implementation of an interest rate corridor as a way to support an active liquidity management policy and a policy tool to support the development of the money market and the use of domestic currency* ### 4. The debt sustainability analysis includes PPG external and domestic debt. Public debt ### 4. The debt sustainability analysis includes PPG external and domestic debt. Public debt ### Debt coverage and guarantees - Public debt comprises the debt of the central government, including guarantees to SOEs. - The stock of externally guaranteed SOE debt stood at around US$875 million (around 17 percent of GDP), with large exposures to the housing development corporation and mainly from Chinese creditors. - External debt is defined by residency criteria. - The contingent liability shock calibration uses default values: SOE debt at 2 percent of GDP and financial market component at 5 percent of GDP. ### Exceptional external financing in 2020 and subsequent concessional access - In 2020, the government received exceptional concessional external financing: around US$ 269.8 million in loans and grants from IFIs and US$ 11.35 million from bilateral creditors. - IMF Rapid Credit Facility (RCF) contribution: US$28.9 million (approved April 22, 2020). - Grants in 2020 totaled US$59.7 million; about 81 percent of grants were provided by: Asian Development Bank (US$ 25.0 million), the World Bank (US$15.6 million), and Japan (US$7.5 million). - No further concessional loans contracted since 2020 except some grant financing from IDA and potentially others. - Maldives is categorized as an IDA-only country at high risk of external debt distress and, effective FY23, faces hardening of IDA financing terms for not complying with the zero non-concessional borrowing ceiling under IDA’s SDFP for the second year in a row. - Effective July 1, 2022, Maldives’ financing terms under IDA will be 50 percent grants and 50 percent 40-year credits on Small Economy terms with a 10-year grace period (instead of 100 percent grants applied in FY22). ### Sovereign Eurobonds, Sukuk issuances, and other market borrowing - The Maldives issued two sovereign Eurobonds with a total face value of US$350 million: - US$100 million issued to Abu Dhabi in 2018, expected to fall due in 2023 and extended to 2026. - US$250 million maiden Eurobond issued to the international market, partly repurchased in March 2021, remainder repaid on maturity in June 2022. - March 2021: Global Sukuk bond issued, due 2026, amount US$200 million at 10.5 percent; used to repurchase 77 percent of the US$250 million maiden Eurobond (which was expected to mature in 2023 and was trading at 26 percent yield). - April 2021: Another US$100 million sukuk issued under same conditions as March 2021 subscription. - September 2021: Another US$200 million issued to cover budgetary expenses, trading at about 20 percent yield. - May 2022: Government secured a US$100 million private placement loan expected to mature in 2025 at a 7 percent annual interest rate. - Authorities raised US$500 million at a 10.5 yield maturing in 2026; Sukuk issuance program established for three years with total value of US$1 billion; baseline assumes further tranches when required. ### Debt Service Suspension Initiative (DSSI) relief - Maldives applied for the G20 DSSI and received relief from most bilateral official creditors totaling around US$19 million in 2020. - Extensions and third extension of DSSI freed up about US$66.7 million in 2021 through postponement of debt servicing. ### Macroeconomic assumptions underlying the DSA - Growth: - Real GDP partly recovered in 2021 with tourist arrivals of 1.32 million (lower than 2019 arrivals of 1.7 million but exceeding Article IV 2021 projections of 1 million). - Continued strong recovery expected: about 1.63 million arrivals expected in 2022 compared to 1.43 million projected during 2021 Article IV. - Robust real GDP growth of 10.5 percent in 2022 projected. - Growth expected to remain strong in 2023 but moderate thereafter in line with global slowdown. - Airport and accommodation capacity expansions (Velana International Airport, Hannimandoo International Airport) expected to strengthen arrivals and support growth. - Complementary structural reforms (financial market deepening, enhancing skills) expected to improve labor productivity. - Headline inflation: - Projected to reach 3.9 percent in 2022 (reflecting higher costs of energy, food, transportation, healthcare, election spending pressures, end of telecom discounts). - Projected to increase to about 4.9 percent in 2023 (reflecting impact of GST and TGST increases) and to stabilize in the medium term. - Risks to outlook: - Downside risks: economic slowdown in key tourist source countries, new COVID-19 variants, tightening global financial conditions, protracted war in Ukraine adding inflationary pressures, slow implementation of structural reforms, large currency depreciation increasing debt servicing costs, diversion of resources from growth-friendly investment. - Upside risk: resumption of tourist arrivals from China. - Fiscal policy: - Primary fiscal deficit projected to improve over medium term but high deficits persist and expected to remain in double digits and peak in 2022. - Authorities anticipate higher-than-budgeted expenditures in 2022 from increased subsidies, interest costs, sustained high infrastructure spending, and wage bill reforms. - Authorities intend to mobilize revenue of around 2.7 percent of GDP in 2023 by increasing domestic and tourist GST rates from 6 to 8 percent and from 12 to 16 percent, respectively (included in baseline). - Medium-term fiscal strategy anchors: - (i) reducing public debt excluding guarantees to less than 100 percent of GDP by 2025, - (ii) reducing the primary budget deficit to less than 5 percent of GDP by 2023, - (iii) maintaining public debt as a share of GDP on a downward trend, - (iv) reducing recurrent expenditure to levels that do not exceed government revenue by 2023. - Upside fiscal risks: implementation of subsidy reform and pricing reform under Aasandha health insurance could generate efficiencies and savings. - Downside fiscal risks: delays in revenue measures, additional spending pressures to shield against higher commodity prices, public investment cost overruns, materialization of contingent liabilities and capital contributions to SOEs to repay sovereign-guaranteed debt, poor targeting of social assistance and social housing programs. - Social housing: delinquency rate about 37 percent; lease tariffs set below market price; targeting issues cited. - Non-interest current account dynamics: - Non-interest CA deficit improved temporarily to -6.8 percent of GDP in 2021 driven by higher tourism receipts. - Projected to stay elevated at 8-12 percent of GDP over the medium term (above 2021 Article IV projections), reflecting high import costs of fuel, food, and construction materials. - Financing assumptions: - Spending pressures and an expected payment (US$250 million) in 2022 of a Eurobond forced market access via global sukuk. - SDR allocation equivalent to US$29 million added to reserves in 2021 and later used for budget support in 2022. - External and total gross financing needs large and significantly above 2021 Article IV projections; authorities plan no significant international market issuances prior to 2025. - Most financing needs expected to be funded domestically in the medium term. - MMA’s advances to the government are reaching limits; additional domestic bank financing expected to be constrained. - A budget financing gap (unidentified financing) of around 1.7 percent of GDP could open in 2023; DSA assumes this is covered through domestic financing as residual domestic financing. - Authorities contracted a US$100 million loan with three-year maturity in 2025 at a 7 percent interest rate. - Maturing obligations requiring refinancing starting in 2025: US$500 million sukuk bonds and US$100 million bond (Abu Dhabi) in 2026. - Framework assumes refinancing via: - i. A sukuk issuance of US$125 million in 2025 maturing in 2030, followed by - ii. A sukuk issuance of US$250 million in 2026 maturing in 2031. - Domestic financing structure assumptions: - Large share of domestic financing is short term (maturities less than one year). - Interest rates on short-term debt have ranged between 3.7 and 4.5 percent since December 2016. - Over the medium term, assumption: around 65 percent of domestic financing is short term with an interest rate of 4 percent; share of long-term debt gradually increases over time. ### Debt dynamics, drivers, and realism tool findings - Debt dynamics will be mostly driven by growth in the medium term, but also by primary fiscal deficits and nominal interest rates. - Historically, current account deficit contributed to external debt accumulation; primary fiscal deficit contributed to domestic debt accumulation. - Large residuals (stock-flow adjustments) have also contributed to public debt accumulation. - Over next five years, growth is expected to dominate and counter expansion of nominal external interest cost. - Domestic debt dynamics over next five years are balanced by growth and the primary fiscal deficit, leading to a moderate decline in projected debt-to-GDP ratios. - Gross financing needs continue to breach indicative benchmark, reflecting higher borrowing needs from exogenous shocks and domestic spending push. - Realism tool picks up substantial size of authorities’ capital investment plans over next few years. - Improvement in primary balance-to-GDP ratio between 2021 and 2024 driven by return to more moderate capital spending and recovery in GDP at a gradual pace, reflecting election-related spending pressures until 2023. - Baseline fiscal adjustment is at the 94th percentile of LIC programs. - Government signed lines of credit for more than US$1.2 billion with EXIM Bank India (US$800 million and US$400 million) to finance infrastructure projects; disbursement expected slow but projects likely to continue. ### Country classification and scenario stress tests - Debt carrying capacity remains weak; composite indicator (CI) score is 2.40 (less than the 2.69 threshold) using April 2022 WEO and 2022 World Bank CPIA. - CI is based on a weighted average of factors including real GDP growth, remittances, international reserves, world growth, and CPIA, calculated using 10-year averages (five years historical, five years projections) and corresponding CPIA. - Tailored stress tests relevant for Maldives: natural disasters, contingent liabilities, market financing. - Rising global interest rates expected to impact around 4 percent of budgetary external debt and a large share of outstanding external guaranteed debt (around US$750 million) linked to SOFR. - Tailored stress tests kept at default calibrations as appropriate for Maldives. - Most extreme shocks: - For PPG external debt indicators: shock to exports. - For public debt indicators and external debt service to revenue indicator: shock to growth. *Source: 1mdvea2023002 - 4. The debt sustainability analysis includes PPG external and domestic debt. Public debt* ### 12. Three of the four external debt indicators are above their respective thresholds under the ### 12. Three of the four external debt indicators are above their respective thresholds under the ### Key findings - Maldives remains at a high risk of external debt distress despite upside growth surprises in 2021. - Three of the four external debt indicators are above their respective thresholds under the baseline scenario. - External gross financing needs have increased as a share of gross international reserves since Article IV 2021. - Debt is assessed to be not sustainable under the baseline projections. ### External debt indicators and projections - PPG external public debt-to-GDP ratio (baseline): projected decrease by around 20 percentage points, from 55 percent of GDP in 2022 to around 35 percent. - PV of PPG external debt-to-GDP ratio: will remain above the threshold of 30 percent until 2026 (2030 in the previous DSA), converge and fall below the threshold by 2027. - PV of the debt-to-exports ratio: below its threshold in the baseline scenario as in the last DSA. - Liquidity indicators: both debt service-to-exports ratio and debt service-to-revenue ratio breach their thresholds under the baseline scenario due to elevated debt service obligations on existing external PPG debt. ### Recent financing and near-term rollover management - 2021 Sukuk issuance: US$500 million, five-year maturity, bullet repayment in 2026; coupon of around 9.9 percent and a yield of 10.5 percent. - Allocation of Sukuk proceeds: Of the US$500 million, US$200 million was used to repay 77 percent of the maiden US$250 million Eurobond due in June 2022, mitigating rollover risks. - Privately placed (Abu Dhabi) bond: US$100 million; maturity renegotiated in 2019 and extended by three years to 2026. - Result: privately placed Abu Dhabi bond and the Sukuk will be due in 2026, producing a spike in debt service payments in 2026. - Exposure note: authorities need to address exposure to SOFR. - DSSI reprofiling: increased debt repayment in the medium term, though amounts are relatively small. ### Sovereign Development Fund (SDF) and reserves - SDF created in 2017 to mitigate Eurobond rollover risk. - Accumulated funds in Rufiyaa equivalent to above US$270 million as of 1st September 2022. - Most SDF funds are invested in T-bills denominated in Rufiyaa. - Authorities considering restructuring SDF to act as a buffer; Fund TA has been requested. ### Overall public debt and medium-term outlook - Total PPG debt-to-GDP ratio: declined by around 30 percentage points in 2021 to around 124 percent; expected to decline to around 103 percent of GDP by 2027. - Threshold on overall PV of debt-to-GDP: 35 percent; Maldives breaches this threshold for the entire projection period. - Domestic debt: 53 percent of total PPG debt in 2021 (about 62 percent is short-term). - Maldives’ GDP-per-capita: close to US$8400 and continues to be in the Upper Middle-Income category. - Market access and plans: foresees up to a $500 million of further issuance under its global sukuk program. - Debt path vs. fiscal adjustment: a sustained adjustment of around 3 percent of GDP, beyond GST, would help lower the PV of public debt below 70 (50) percent of GDP by 2032 (2042). - With gross financing needs remaining elevated, authorities should develop a medium-term debt management plan. - IMF and World Bank are providing debt management technical assistance. ### Risks and drivers of vulnerability - External position from 2022 onwards expected to weaken relative to the 2021 DSA due to higher commodity prices (war in Ukraine) and deeper fiscal spending pressures from subsidies and expanded medium-term public investment program. - Financing larger fiscal deficits has become more difficult and expensive; suspension of elements of the FRA extended to allow increased cap on MMA advances until 2023. - Debt dynamics vulnerable to adverse shocks to growth, interest rates (SOFR-linked debt, including a large share of guaranteed external debt and about 4 percent of direct budgetary debt), and the fiscal position. - Protracted breaches in several external and overall debt indicators due to high debt servicing costs and continued borrowing with shorter tenure. ### Policy recommendations and consolidation measures - Implement balanced and sustained fiscal consolidation combined with continued strong growth. - Include planned increase of GST rates (included in baseline) and pursue a sustained adjustment of around 3 percent of GDP to improve debt dynamics. - Fiscal consolidation should include: - Rationalizing capital spending, especially large public investment projects by central government or SOEs. - Improving targeting of social assistance, including social housing programs. - Streamlining current expenditures (both subsidies and containing wage increases). - Further domestic revenue mobilization. - Strengthen governance and public financial management (PFM); ongoing reforms and IMF/WB technical assistance are in place. - Authorities should seek concessional financing to mitigate roll-over risk, particularly from global sukuks, and improve donor coordination, including creditor outreach. - Consider a new FX swap agreement under the existing SAARC framework 2019-2022 (extended till 30 June 2023) if needed. ### Authorities' views and planned actions - Authorities agree risk of external and overall debt distress remains high and emphasize context of COVID-19 shock and persistent commodity price shocks. - Authorities note concessional character of much existing debt: 86 percent of the direct external debt portfolio has an interest rate below 3 percent; for external PPG debt this is around 55 percent. - Revised financing strategy (2023–2025 fiscal strategy): - No significant issuances to international market prior to 2025. - Next significant issuance of US$200 million expected in 2025 (conventional bond or sukuk). - Plan to raise US$100 million per annum in concessional foreign financing over the next three years (2023–2025 fiscal strategy). - Commitment to fiscal consolidation under 2023–2025 fiscal strategy statement. - SDF size expected to grow with recent increase in Airport Development Fee rates and forecasted recovery in tourist arrivals. - Work underway, with Fund technical assistance, to strengthen legal status and governance of the SDF and to draft the Public Debt law. ### Additional developments noted in staff statements - Parliament approval of tax measures: increase General Goods and Services Tax (GST) from 6 to 8 percent and Tourism Goods and Services Tax (TGST) rate from 12 to 16percent starting on January 1st, 2023; bill approved by parliament on November 16, 2022. - Multiple currency practices (MCP) and exchange restrictions: - Parallel illegal market: MCP arising from spread between parallel market and prevailing market exchange rates eliminated as of July 1, 2022, under Fund’s revised MCP policy. - Exchange restriction due to MMA rationing of FX to commercial banks remains; authorities should continue reasonable efforts to eliminate the spread with the parallel market. - MCP remains from lack of mechanism preventing spread between official exchange rate used by the MMA for government transactions and the prevailing market exchange rate from deviating by more than 2 percent. *Source: 1mdvea2023002* ### 2020. Decisive and timely policies ### 2020. Decisive and timely policies ### Overview and economic rebound - Emergency financing from the Fund under the Rapid Credit Facility and debt suspension under the G20 Debt Service Suspension Initiative helped redirect resources to pressing needs. - Border closure between March 27 and July 15, 2020, caused a sudden stop in tourism. - Authorities expect: - Tourism arrivals of 1.6 million in 2022 and that arrivals had already surpassed total 2021 arrivals by end of October 2022. - Tourism arrivals of 1.8 million in 2023, surpassing the record set in 2019. - In the absence of further shocks, the economy is expected to reach pre-Covid levels in 2023. - Authorities remain vigilant amid global uncertainties (conflict in Ukraine, global commodity price hikes, tightening global monetary conditions) and commit to prudent macroeconomic policies, rebuilding buffers, and enhancing resilience. - Key infrastructure and development projects expected to boost capacity and growth: - Velana International Airport Development project (expected to increase tourist arrival capacity). - Maldives International Port Project. - Greater Male connectivity bridge project. - Projects to develop the agricultural sector, improve food security, ensure access to clean drinking water and sanitation in all the islands by 2023. - High-speed ferry network expected to be completed by 2024. ### Fiscal policy and reforms - Authorities adopted “COVID-19 Health and Social Response” and an “Economic Relief Package” totaling around 6 percent of GDP, including assistance to 1.5 million vulnerable households, social transfers to assist the unemployed and independent workers, and tax deferrals. - Pandemic-related spending and revenue declines led to a deterioration of the fiscal position; public finances are under pressure. - Expenditures expected to be higher than budgeted in 2022 due to higher fuel subsidies from global commodity price spikes and faster than expected rollout of public sector investment projects. - 2023 Budget under discussion contains adjustment measures coming equally from revenues and expenditures (3 percent of GDP respectively). - Notable revenue and tax measures: - General Goods and Services Tax (GST) increased from 6 to 8 percent. - Tourism Goods and Services Tax (TGST) rate increased from 12 to 16 percent. - Parliament approved the bill on November 16; implementation starting January 1st, 2023. - GST rate change expected to have a direct and indirect impact on prices estimated at around 2.5 percent (one-off price hike). - Compliance and arrears measures: enforcement actions suspended during pandemic are being reintroduced and stock of tax arrears to be reduced. - Expenditure-side measures include reducing fuel and electricity subsidies, introducing baseline prices for pharmaceuticals, bulk procurement for medical consumables, and implementing public salary harmonization in stages (targeting health sector professionals in 2023). - Medium-Term Fiscal Strategy 2023-2025 focuses on managing fiscal risks and sustainable fiscal policy; anchors include: - Reducing public debt excluding guarantees to less than 100 percent of GDP by 2025. - Reducing the primary budget deficit to less than 5 percent of GDP by 2023. - Maintaining public debt as a share of GDP on a downward trend. - Reducing recurrent expenditure to levels that do not exceed government revenue by 2023. - Governance and PFM improvements: - Enhanced SOE oversight and procurement guidelines; publication of procurement and public investment information. - Drafting a better designed Fiscal Responsibility Act in line with IMF recommendations for submission to parliament in February 2023. - Updating the PFM roadmap and legal framework related to debt management. - Revision of the current GST act expected to be completed during 2023. - Technical assistance and external support: - IMF support and technical assistance for energy subsidy reform and development of a medium-term revenue strategy. - World Bank, USAID, and ADB support to improve public investment execution. ### Debt sustainability and financing strategy - Authorities argue that the Low-Income Country Debt Sustainability Framework (LICDSF) needs adaptation for Maldives’ special circumstances. - Most of Maldives’ debt stock is at highly concessional rates. - Authorities are proactively managing rollover risks in 2026. - Maldives has access to international financial markets; however, revised financing strategy commits to relying primarily on concessional financing from bilateral or multilateral sources and excludes issuances of conventional bonds in international markets prior to 2025. - Strengthening the sovereign development fund (SDF) established in 2016 to mitigate rollover risk; Fund TA has been requested. - As the economy recovers, debt-to-GDP is expected to improve with fiscal consolidation measures and strong GDP growth. - Government remains in a comfortable position to honor all its debt obligations. ### Monetary policy and financial stability - Maldives Monetary Authority (MMA) implemented proactive policy measures to mitigate COVID-19 and global challenges while supporting activity and maintaining price stability. - COVID-related banking sector support measures being unwound; FX MRR reverted back to 10 percent in October 2022. - MMA coordinates with MoF on SOEs’ access to FX for essential needs. - MMA developed a package of measures to reform FX markets and plans gradual rollout; measures include regulating licensing criteria and conditions for money changers, encouraging use of the Maldivian Rufiyaa in domestic transactions, and limiting transaction types allowed through FX accounts. - To ensure adequate FX buffer, MMA maintains bilateral liquidity arrangements with other central banks; the foreign exchange swap agreement under 2019-2022 SAARC framework extended through June 30, 2023. - Banking sector soundness: - Capital and liquidity buffers are ample. - Nonperforming loans are gradually declining. - Banking sector stress tests show buffers, notably high capital adequacy ratio, remain strong against shocks from credit quality deteriorations, liquidity strains, and sovereign stress. - Regulatory and financial sector initiatives: - Continued formulation and issuance of regulations to protect the financial system. - Request for an FSAP to be conducted in 2023. - Preparing a national risk assessment for AML/FT expected to be completed by the first quarter of 2023. - Continued development of National Financial Inclusion Strategy; demand-side survey completed and report expected to be published soon. - MMA stands ready to adjust policy instruments and intervention strategy as needed. ### Sustainable development and climate resilience - Authorities reprioritized Sustainable Development Goals to reflect urgent needs post-pandemic. - World Bank estimates: poverty rate increased to 19.8 percent in 2020 due to the pandemic and is expected to drop to 3.8 percent with the economic rebound by the end of 2022. - Government’s Strategic Action Plan (2019–23) focuses on decentralization, economic diversification (fisheries, agriculture, SMEs), labor, employment and migration, social protection, and governance. - Climate vulnerability: - Over 80 percent of the land is under threat from rising sea levels. - Over 64 percent of the islands are reporting severe erosion. - Authorities adopted a Climate Emergency Act on April 29, 2021, introducing guidelines to address climate change, ensure sustainability of natural resources, and set plans to achieve net-zero carbon emissions by 2030. - Financing challenges for climate action: - Authorities emphasize need to secure grants and concessional financing to reach net zero by 2030. - Concern that climate financing is often offered at the same market rates as conventional instruments, with additional conditionalities, limiting usefulness. - Authorities request Fund assistance to secure concessional climate finance and capacity development to facilitate access to climate change financing due to lengthy requirements and formalities. ### Conclusion and policy stance - The past three years presented unprecedented challenges. - Authorities will remain vigilant over global developments and their impact on macroeconomic and financial stability. - Commitment to the fiscal strategy and economic reforms remains firm. - Authorities look forward to continued collaboration with IMF staff on addressing macroeconomic challenges. *Source: 1mdvea2023002 - 2020. Decisive and timely policies* --- _Source: https://www.imf.org/-/media/files/publications/cr/2023/english/1mdvea2023002.pdf_