## _cr05154 — IMF Staff Report (Colombia): Executive Summary and Program Documentation ## Source details **Canonical URL:** [_cr05154 — IMF Staff Report (Colombia): Executive Summary and Program Documentation](https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2005/_cr05154.pdf) ## Other formats - [Markdown version](/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2005/_cr05154.pdf.md) - [Structured JSON version](/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2005/_cr05154.pdf.json) --- ### From Crisis to Recovery — Key Outcomes and Indicators - Policy strategy since 1999: fiscal consolidation, lowering inflation, and strengthening the financial system. - Mid-1999 objectives and actions: - Cut the public sector deficit from 5½ to 1½ percent of GDP within three years. - Banco de la República adopted a flexible exchange rate regime and an inflation targeting framework. - Congress approved banking reform; government intervened in insolvent financial institutions. - Deterioration in 2002: - Country risk premium peaked at 1,100 basis points in October 2002. - Recovery in 2003–04: - Real economic growth: 4 percent a year in 2003–04. - National unemployment: from 20 percent at end-2000 to 12 percent at end-2004. - Poverty rate: from almost 60 percent in 1999 to 52 percent in 2003. - Combined public sector deficit: from 5.5 percent of GDP in 1999 to 1.3 percent of GDP in 2004. - Public debt: reduced to 53 percent of GDP by end-2004. - Public sector deposits: 10 ½ percent of GDP by end-2004. - Inflation: declined from 9 percent in 1999 to 5.5 percent in 2004. - Central bank FX purchases in 2004: US$2.9 billion (about one-third of the stock of base money). - Net international reserves by end-2004: US$13.2 billion (123 percent of short-term external debt on a remaining maturity basis). ### Medium-Term Policy Strategy and Baseline Projections - Medium-term objectives: - Sustain real growth of 4 percent a year. - Gradually lower inflation to 2–4 percent a year. - Sustain a primary surplus of 2.7 percent of GDP (authorities’ estimate). - Rely increasingly on domestic currency borrowing. - Maintain inflation targeting and a flexible exchange rate regime. - Baseline projections/targets through 2010: - External current account deficit: range from 2½ to 3 percent of GDP. - Net international reserves: about 110 percent of short-term debt on a remaining maturity basis. - Public debt projected: decline to 42.7 percent of GDP by 2010. - Total external debt projected: fall to 32 percent of GDP by 2010. - Macro projections (selected exact values): - Real growth: 4.0 (annual percentage change) for 2005–2010. - Inflation: 5.0 for 2005; 4.5 for 2006; 3.5 for 2007; 3.0 for 2010. - NFPS primary balance: 2.7 for 2005–2007 (percent of GDP). - Total public debt: 50.4 for 2005; 49.8 for 2006; 48.2 for 2007; 42.7 for 2010 (percent of GDP). - Net international reserves (US$ billions): 12.3 for 2005; 12.7 for 2006; 13.1 for 2007; 14.9 for 2010. - Crude oil, spot price (US$ per barrel): 37.8 for 2004; 40.5 for 2005; 38.0 for 2006; 36.0 for 2007; 34.0 for 2010. ### Risks and Illustrative Shock Scenarios - Exchange rate shock (illustrative permanent 30 percent depreciation of the peso in 2006): - Public debt would reach 54 percent of GDP by 2010 (reported alternatively in tables as 59.6/58.2 etc. under one-time 30 percent depreciation scenarios). - External debt would amount to 41 percent of GDP by 2010 (alternative stress-test outcomes provided). - Adverse fiscal shock (high real interest rates, low real growth, weak primary balance): - Public debt could rise to 54 percent of GDP by 2010. - Adverse external shock (higher real interest rates, lower GDP, wider current account deficit): - External debt could rise to 49 percent of GDP by 2010. - Staff-identified program risks: - Public debt sensitive to exchange rate fluctuations. - Surplus of local and regional governments could decline faster than expected. - Deterioration in the security situation. - Pressures for increased public spending in run-up to elections. - Adverse external environment (e.g., surge in world oil prices slowing global growth). ### Fiscal Structural Reforms — Objectives, Measures, and Timetable - Authorities’ medium-term fiscal framework (presented June 2004) aims to reduce public debt to 39 percent of GDP by 2015; authorities estimate a primary surplus of 2.7 percent of GDP consistent with this path. - Fund staff recommendation: raise primary surplus to 3.0 percent of GDP to accelerate debt reduction. - Key reform areas and commitments: - Tax reform: - Total public revenues about 32 percent of GDP; consensus that little need exists for net revenue-enhancing measures. - VAT: 8 different rates, narrow base; only about 50 percent of eligible goods subject to VAT. - Financial transactions tax (FTT) rate: 0.4 percent (one of the highest in the region). - Bank stamp tax: 1.5 percent. - Authorities favor simplifying VAT and income taxes and phasing out distortionary taxes. - Spending rigidities: - Revised budget code to scale back revenue earmarking (applies to about 50 percent of tax revenues), trim carry over of spending commitments, and restrict multi-year spending commitments; congressional approval targeted by June 2005. - Pensions: - December 2002 and May 2003 reforms reduced actuarial deficit to about 190 percent of GDP. - July 2004 constitutional amendment aimed to lower actuarial deficit to about 160 percent of GDP. - Authorities believe further reforms needed but consider reducing the actuarial deficit below 140 percent of GDP very difficult. - Domestic fuel prices: - Implicit subsidy of about 1 percent of GDP a year from pricing of regular gasoline and diesel over the past five years. - Staff urged deregulation of wholesale and retail prices to eliminate subsidy; authorities prefer gradual adjustment. - Revenue sharing: - Transfers to local/regional governments constitutionally mandated to increase by 2 percentage points in real terms in 2002–05, and by 2.5 percentage points during 2006–08; transfers now about 35 percent of current revenues and may not be less than 42 percent of current revenues. - Staff suggested holding transfers constant in real terms would strengthen central government balance; authorities to prepare a study by December 2005. - Strengthening social spending: - Social spending includes subsidies estimated at 7 percent of GDP excluding pensions; scope to trim poorly targeted subsidies and channel spending to the poor. - Public investment and PPPs: - Authorities emphasize need to increase public investment; staff encouraged intensified use of PPPs for projects with strong returns and appropriate risk transfer. - Planned privatizations and divestments: - Bring Ecogas to point of sale in 2005. - Prepare several regional electricity firms for sale by June 2006 (estimated book value about 0.8 percent of GDP). - Granahorrar to be brought to point of sale by December 2005; Bancafé restructuring and point-of-sale plans described with governance frameworks due by September 2005. ### Monetary Policy, Exchange Rate, and External Sector - Monetary regime: - Inflation targeting framework with Banco de la República giving top priority to inflation targeting. - Banco de la República intends to lower inflation by ½ percentage point each year until reaching 2–4 percent. - Consultation band narrowed to +/- 1 percentage point. - Exchange rate policy: - Flexible exchange rate regime since September 1999; characterized as a managed float since end-2003 due to intervention to limit appreciation. - Central bank FX intervention: purchased US$2.9 billion in 2004; purchased net international reserves to prepay an IDB emergency loan of US$1.25 billion in early April 2005. - Net international reserves after prepayment: about 110 percent of short-term debt on a remaining maturity basis; specific targets: US$12.3 billion in 2005 (110 percent), US$12.7 billion in 2006, US$13.1 billion in 2007. - Staff urged caution against excessive FX intervention due to inflationary and quasi-fiscal sterilization risks. - External sector performance: - 2004: broad-based export growth; non-oil exports grew by 23 percent; oil exports rose to US$4.2 billion (4½ percent of GDP); remittances US$3.5 billion (3½ percent of GDP). - Overall balance of payments surplus in 2004: US$2.7 billion (about 2¾ percent of GDP). - External current account deficit: 1.0 percent of GDP in 2004; projected to be about 2½ to 3 percent of GDP through 2010. ### Financial Sector Stability and Reform Priorities - FSSA update main findings: - Financial sector more stable; solvency and profitability of commercial banks improved. - Provisions for nonperforming loans could be strengthened, especially in the mortgage sector. - Bank capital adequacy may be overstated due to over-valuation of foreclosed assets and under-estimation of market risk. - Credit risk declined; market and sovereign exposures increased as banks hold a larger share of assets in government securities. - Key vulnerabilities and actions: - Banks’ asset allocation: large and growing share in government securities increases interest rate and liquidity risk. - Mortgage sector stagnation: judicial/regulatory obstacles, limits on real interest rates, and long foreclosure processes (often up to 5 years). - Securitization program begun in 2003 expected to help mortgage banks restructure balance sheets. - Regulatory reforms: - New securities market law submitted to Congress, approval expected by June 2005. - Adoption of risk-based provisioning and Basle II-related improvements; Superintendency of Financial Institutions to expand technical staff and seek greater autonomy. - Staff recommended phasing out the financial transactions tax (FTT) and the bank stamp tax to reduce financial disintermediation. - Operational commitments: - Granahorrar to be brought to point of sale by end-2005. - Bancafé restructured; governance framework for Granbanco–Bancafé and Banco Agrario to be developed by September 2005. ### Financial Transactions Tax (FTT) — Findings - FTT history and rates: - Introduced in 1998 as transitory; initially 0.2 percent. - Raised to 0.3 percent in 2001 (made permanent). - Raised to 0.4 percent in 2004. - Impact: - Contributed to financial disintermediation. - Empirical evidence (Kirilenko and Perry (2004) mimeo) indicates permanent erosion of tax base; for Colombia disintermediation estimated at 44 cents for every dollar of revenue. - Staff view: FTT undermines productivity of revenue and contributes to financial disintermediation; recommended phasing out. ### Short-Term Macroeconomic Outlook (2005–06) and Program Targets - Policy goals for 2005–06: - Support real economic growth of 4 percent a year. - Lower inflation to 5 percent during 2005 and to 3–5 percent during 2006. - Fiscal targets: - CPS deficit projected at 2.5 percent of GDP in 2005 (assuming oil price US$31 per barrel baseline). - CPS deficit projected to decline to 2.0 percent of GDP in 2006. - Public debt projected to decline to about 50 percent of GDP by end-2006. - Program adjustor: targets reduced by a significant share of any oil price windfall. - Monetary and exchange rate policy: - Continue inflation targeting and flexible exchange rate regime. - External sector and reserves: - External current account deficit expected to rise to about 2½ to 3 percent of GDP in 2005–06. - Net international reserves projected: US$12.3 billion in 2005 (110 percent of short-term debt on a remaining maturity basis). ### Program Modalities, Conditionality, and Timetable - Authorities requested an 18-month Stand-By Arrangement (SBA) for SDR 405 million (35 percent of quota on an annual basis), treated as precautionary. - Scheduled SBA purchases (Table 12 summary): - May 2, 2005: SDR 193.50 (25.0 percent of quota) — Board approval. - Five subsequent purchases of SDR 42.30 each tied to review/criteria through September 15, 2006; total SDR 405.00 (52.3 percent of quota). - Performance criteria and reporting: - Quarterly performance criteria cover overall deficit of the combined public sector, net international reserves of the central bank, inflation, and short-term external public debt. - CPS overall deficit ceilings (in billions of Colombian pesos): - March 31, 2005 (indicative) 1,606 - June 30, 2005 (performance criterion) 1,514 - September 30, 2005 (performance criterion) 3,403 - December 31, 2005 (performance criterion) 6,890 - Quarterly inflation targets (12-month IPC, DANE): - March 31, 2005 (indicative) 5.5 - June 30, 2005 (performance criterion) 5.3 - September 30, 2005 (performance criterion) 5.2 - December 31, 2005 (performance criterion) 5.0 - NIR floor for BR (US$ millions): 12,215 for each quarter in 2005 (indicative/PC). - Structural conditionality (selected deadlines): - June 30, 2005: Approval of revised budget code (structural performance criterion); submission of 2006 budget consistent with CPS deficit of 2.0 percent of GDP. - September 30, 2005: Approval of new securities law; regulations to improve local/regional government reporting. - December 31, 2005: Publish report evaluating revenue sharing; issue regulations to implement revised budget code; bring Granahorrar to point of sale. - Reporting requirements: - Monthly and quarterly fiscal and financial reporting with specified delivery timelines (e.g., monthly inflation report within 15 days; fiscal net borrowing within 6 weeks; definitive quarter targets within 7 weeks). ### Article IV Consultation and Executive Board Conclusions - Staff supports authorities’ request for completion of the fourth review under the current arrangement and for two waivers; supports proposed SBA for SDR 405 million. - Executive Directors commended policy outcomes and reforms; urged continuation of fiscal consolidation, structural reforms (budget code, pension reform), reduction of distortionary taxes, further financial-sector reform, and cautioned against excessive FX intervention. - Directors encouraged phase-out of temporary capital controls and timetable for removal of remaining exchange restrictions under Article VIII. *Italic: IMF staff report content from the provided chapter content (document _cr05154).* ### Executive Summary ...................................................................................................... ### Executive Summary ### From Crisis to Recovery - Since 1999, Colombia pursued a medium-term strategy based on fiscal consolidation, lowering inflation, and strengthening the financial system. - Mid-1999 policy actions: - Aim: cut the public sector deficit from 5½ to 1½ percent of GDP within three years. - Banco de la República switched to a flexible exchange rate regime and adopted an inflation targeting framework. - Congress approved a banking reform and the government intervened in insolvent financial institutions. - Deterioration in 2002: - Security setback in February 2002 and increased public spending ahead of May 2002 elections. - Country risk premium peaked at 1,100 basis points in October 2002. - Policy reversal under President Uribe (August 2002): - Revenue measures: a one-time wealth tax, an income tax surcharge, and a broadening of the VAT base. - Expenditure restraint and pension reforms reducing the actuarial deficit from 207 percent of GDP to 187 percent of GDP. - Labor market reform (December 2002) increased flexibility and lowered nonwage costs for certain groups. - Recovery indicators for 2003–04: - Real economic growth recovered to 4 percent a year in 2003–04 (after a 4 percent decline in 1999). - National unemployment: 20 percent at end-2000 to 12 percent at end-2004. - Poverty rate: almost 60 percent in 1999 to 52 percent in 2003. - Combined public sector deficit: from 5.5 percent of GDP in 1999 to 1.3 percent of GDP in 2004. - Oil price contribution: export price of oil rose to US$36 per barrel. - Public debt reduced to 53 percent of GDP by end-2004; public sector deposits reached 10 ½ percent of GDP by end-2004. - Inflation declined from 9 percent in 1999 to 5.5 percent in 2004. - Central bank purchases of foreign exchange in 2004: US$2.9 billion (about one-third of the stock of base money). - Net international reserves by end-2004: US$13.2 billion (123 percent of short-term external debt on a remaining maturity basis). - Remaining vulnerabilities and challenges: - Translate sustained growth into further declines in unemployment and poverty. - Continue fiscal consolidation to reduce relatively high public debt and limit vulnerability to peso weakening. - Deepen domestic capital markets; address distortionary taxes on financial transactions. - Mortgage sector stagnation and increased bank exposure to government securities since 1999. - External risks if global environment becomes less favorable, especially if high world oil prices slow demand. - Maintain policy credibility through political transition (congressional elections in March and presidential in May 2006). ### Assessing The Medium-Term Policy Strategy - Consensus: The strategy since 1999 has worked well and should be sustained. - Medium-term objectives: - Sustain real growth of 4 percent a year. - Gradually lower inflation to 2–4 percent a year. - Sustain a primary surplus of 2.7 percent of GDP (authorities’ estimate) to keep public debt on a sustainable path. - Rely increasingly on domestic currency borrowing to limit exchange rate vulnerability. - Maintain inflation targeting and a flexible exchange rate regime to allow external adaptation and export diversification. - Baseline projections and targets: - External current account deficit: range from 2½ to 3 percent of GDP through 2010. - Net international reserves: about 110 percent of short-term debt on a remaining maturity basis. - Public debt projected to decline to 42.7 percent of GDP by 2010. - Total external debt projected to fall to 32 percent of GDP by 2010. - Risks and illustrative shock scenarios: - Exchange rate shock (illustrative permanent 30 percent depreciation of the peso vis-à-vis the U.S. dollar in 2006): - Public debt would reach 54 percent of GDP by 2010. - External debt would amount to 41 percent of GDP by 2010. - Adverse fiscal shocks (high real interest rates, low real growth, weak primary balance): - Public debt could rise to 54 percent of GDP by 2010. - Adverse external shocks (higher real interest rates, lower GDP in local currency and U.S. dollars, wider current account deficit): - External debt could rise to 49 percent of GDP by 2010. ### Strengthening Growth and Employment - Growth ambition and constraints: - Key challenge: lay foundation for faster growth while maintaining 4 percent real growth. - Civil strife effects: estimates range from lowering the level of GDP by 4 percent to cutting annual growth by up to 2 percent a year. - Need for continued fiscal reforms to make the tax system more efficient and deepen the financial system to lower cost of capital. - Unemployment: - National unemployment in February 2005: 14.0 percent (compared with 15.4 percent a year earlier). - Estimated natural rate of unemployment: about 10–12 percent. - Structural contributors: high nonwage labor costs, relatively high minimum wage, labor market regulations, excess supply of lower-skilled workers, refugees from civil strife. - Labor reform of 2002: increased flexibility of labor contracts and improved human capital formation through apprenticeships; early results considered encouraging. ### Sustaining Fiscal Structural Reforms - Fiscal framework and targets: - Authorities’ medium-term fiscal framework (presented to Congress June 2004) aims to reduce public debt to 39 percent of GDP by 2015. - Authorities estimate a primary surplus of 2.7 percent of GDP over the medium term is consistent with this path. - Fund staff recommended raising the primary surplus to 3.0 percent of GDP to reduce public debt more quickly, taking advantage of high world oil prices. - Authorities indicated they would save a significant share of any oil price windfall in 2005–06 and stand ready to adjust the primary surplus to achieve debt objectives. - Political and institutional constraints: - Pace of fiscal adjustment sensitive to political climate; debates often focus on the nature of measures. - Congressional resistance to reforms perceived as effectively raising the VAT; examples: - December 2003: Congress approved increases in wealth tax and financial transaction tax. - December 2004: Government withdrew tax proposal due to strong congressional opposition. - Constitutional court interventions have affected fiscal policy: - 2003: Court nullified part of the VAT increase approved in December 2002 and required government to increase public wages by at least the rate of inflation in the previous year. - 2004: Court nullified part of the 2002 pension reform (shortening of transition period), increasing the actuarial deficit by 17 percent of GDP. - Structural fiscal challenges: - Revenues of Ecopetrol likely to decline as oil production projected to fall by 10 percent a year in 2005–10, assuming no major new discoveries. - Central government faces rigid noninterest expenditures. - Potential fiscal cost of successful demobilization: need to provide financial support for ex-combatants’ reintegration into civilian life. ### Monetary Policy, External Competitiveness, and Financial Sector - Monetary regime and inflation objectives: - Monetary policy: inflation targeting framework combined with a flexible exchange rate regime. - Staff supported authorities’ goal of reducing inflation by ½ percent point a year until annual inflation reaches the range of 2–4 percent. - Banco de la República will give top priority to achieving its inflation target. - External competitiveness and foreign exchange intervention: - 2004: Broad-based export growth and a low external current account deficit. - To limit a real appreciation, central bank purchased foreign exchange since late 2003; staff urged caution against excessive intervention due to risks of raising inflation or creating quasi-fiscal costs from sterilization. - Financial sector reforms and stability: - Authorities agreed with main conclusions of the FSSA update. - Superintendency of Financial Institutions intends to strengthen legal and regulatory framework, including improved measurement of market and other risks and valuation of foreclosed assets. - Government seeking congressional approval of a securities market law designed to deepen domestic capital markets. *Executive Summary — IMF Article IV Consultation, Colombia (text provided in the content unit).* ### 14. Against this background, the authorities and staff discussed the medium term ### _cr05154 - 14. Against this background, the authorities and staff discussed the medium term ### Medium-term fiscal structural reforms - Tax reform - Total public revenues of about 32 percent of GDP; little need for net revenue enhancing measures. - Value added tax includes 8 different rates and a narrow base, with only about 50 percent of eligible goods subject to this tax. - Financial transactions tax with a tax rate of 0.4 percent (one of the highest in the region). - Bank stamp tax of 1.5 percent—a very high rate in the context of low inflation. - Authorities favor simplifying VAT and income taxes and phasing out distortionary taxes as medium-term measures. - Spending rigidities - Congress considering a revised budget code to scale back revenue earmarking (which applies to about 50 percent of tax revenues), trim carry over of spending commitments, and restrict multi-year spending commitments. - Staff encouraged continued efforts to enhance spending flexibility beyond the revised code. - Pensions - Congress approved pension reforms in December 2002 and May 2003 that reduced the actuarial deficit to about 190 percent of GDP. - Central government’s net pension costs are projected to rise sharply through 2015. - July 2004 constitutional amendment aimed at lowering the actuarial deficit further to about 160 percent of GDP and reducing net pension costs starting early next decade. - Authorities noted additional pension reforms needed; believed it would be very difficult to reduce the actuarial deficit below 140 percent of GDP. - As a result, the nonpension balance of the public sector would have to continue to strengthen over time. - Domestic fuel prices - Government pricing of regular gasoline and diesel has led to an implicit subsidy of about 1 percent of GDP a year for the past five years. - Wholesale prices set well below international levels; retail prices regulated at a fixed margin over wholesale prices. - Retail regular gasoline price is the same as in the United States; diesel is significantly cheaper. - Authorities have been raising domestic prices faster than inflation over the past two years, but adjustments have not kept pace with the rise in world oil prices since late 2003. - Staff urged deregulation of wholesale and retail gasoline and diesel prices over the next few years to eliminate the subsidy and ensure efficient pricing. - Authorities agreed on importance of deregulation as a medium-term reform but preferred to retain the gradual adjustment system in the near term. - Strengthening social spending - Social spending includes subsidies estimated at 7 percent of GDP excluding pensions. - Some social programs (public childcare centers, primary education, subsidized health insurance) have benefited the poor; others (subsidies for tertiary education and housing) have tended to help middle and upper classes. - Authorities intend to channel social spending more effectively and see scope to trim poorly targeted subsidies. - Government preparing a poverty reduction strategy to help achieve the Millennium Development Goals. - Revenue sharing - Transfers from the central administration to local and regional governments are constitutionally mandated to increase by 2 percentage points in real terms in the period 2002–05, and by 2.5 percentage points during 2006–08. - Starting in 2009, revenue sharing is to return to the pre-2002 system, with transfers growing in line with the average growth in the central government’s current revenues for the preceding four years. - Transfers are now about 35 percent of current revenues and may not be less than 42 percent of current revenues—the share in 2001. - Staff and authorities agreed that—provided current revenues grow in line with GDP—this would lead to a significant increase in the central administration deficit starting in 2009 and in the CPS deficit if local and regional governments spent the additional transfers. - Staff calculations suggest holding these transfers constant in real terms would strengthen the central government balance and the overall fiscal position, if the current legal framework continues to restrain the ability of local and regional governments to run deficits. - Authorities plan to prepare by December 2005 a study evaluating the current system. - Strengthening other aspects of fiscal decentralization - FAD mission recommended strengthening monitoring, information flow, and coordination of budgetary policies among government levels, including establishing an agency to monitor and coordinate budgets. - Authorities emphasize fiscal responsibility laws adopted earlier this decade have controlled spending and indebtedness of regional and local governments, which ran a large overall surplus in 2004. - Constitutional autonomy of local and regional governments complicates creation of a centralized agency with meaningful authority. - Authorities are taking steps to strengthen quality of information on operations of all government levels. - Public investment - Colombia participated in the FAD pilot project on public investment. - Authorities emphasize need to increase public investment to improve infrastructure in certain sectors. - Investment of several public companies is constrained by fiscal targets for the overall public sector, limiting productive investments. - Staff encouraged intensified use of public-private partnerships (PPPs) for infrastructure investments provided projects have strong rates of return and appropriate risk transfer to the private sector. - Staff urged increasing the commercial orientation of public enterprises, including Ecopetrol. ### Continuing to reduce inflation and exchange rate policy - Inflation targeting (IT) - Staff and authorities agreed IT framework had been useful in guiding market inflation expectations. - Authorities noted expectations are broadly in line with the inflation target for 2005. - Banco de la República intends to lower inflation by ½ percentage point each year until annual inflation reaches the range of 2–4 percent, broadly in line with inflation in Colombia’s trading partners. - Flexible exchange rate regime - Flexible exchange rate regime adopted in September 1999 has served Colombia well through several external shocks. - Flexibility supported export growth/diversification and kept external current account deficit at sustainable levels. - Depreciation of the peso vis-à-vis the U.S. dollar helped sustain modest economic growth in 2002. - Since 1999, private sector appears to manage foreign exchange risk more carefully: nonfinancial corporations cut peso exposure; pension funds built up foreign currency assets, including holdings of Colombian government securities denominated in U.S. dollars. - Hedging of exchange rate risk grew sharply since 1997; by 2004 forward contracts in foreign exchange were equivalent to about 60 percent of all international trade transactions. - Flexible regime seen as helpful in adapting to prospect of declining oil exports by encouraging export diversification. - External competitiveness and exchange rate concerns - Exports performed well in 2004—growing by more than 20 percent—even while the peso appreciated significantly in real effective terms. - At end-2004, the peso was 15 percent more depreciated in real effective terms than in September 1999. - Authorities concerned that continued appreciation could present difficulties for external competitiveness and could adversely affect competitiveness of legitimate agricultural crops. - Authorities have been intervening in the foreign exchange market since late 2003 but emphasized Banco de la República would give priority to achieving its inflation target. - Staff urged caution against excessive foreign exchange intervention, which could create inflationary pressures or add to quasi-fiscal costs. - Trade liberalization - Colombia lowered its average tariff from more than 40 percent in the late 1980s/early 1990s to about 11 percent currently; no economically significant nontariff barriers remain. - Exports doubled from 8 percent of GDP in 1987-88 to over 16 percent of GDP in 2004; non-oil exports doubled from about 6 percent of GDP to 12 percent of GDP. - Colombia, together with Peru and Ecuador, is negotiating a free-trade agreement with the United States. - Strengthening hedging mechanisms - Market hedging is very short term, with 80 percent of forward contracts maturing one month. - Staff suggested establishing a single reference interest rate to allow more credible valuation of derivatives and improve disclosure. - Staff suggested easing the limit on banks’ foreign currency cash position (not allowed to be negative since March 2004) to give banks more flexibility for forward positions with offsetting spot transactions. - Authorities requested technical assistance from the Fund’s International Capital Markets Department. - Reserves and IDB loan prepayment - Government purchased net international reserves to prepay an emergency loan from the IDB in the amount of US$1.25 billion in early April 2005. - After this operation, net international reserves amounted to 110 percent of short-term debt with a remaining maturity. - Authorities and staff agreed this provides an adequate reserve cushion. - Central bank emphasized government purchased the reserves using proceeds from issuance of government securities; central bank was not granting a credit to the government. ### Creating a more effective financial sector - Financial sector stability and supervision - Authorities agreed with main conclusions of the FSSA update; improvements in financial supervision and bank restructuring plus economic recovery strengthened the financial system. - Superintendency of Financial Institutions (SIF) intends to strengthen legal and regulatory framework and expand technical staff significantly to monitor risk assessments under the new risk-based provisioning system. - New framework will allow more accurate measurement of market and other risks and of value of foreclosed assets, likely leading to some increase in provisioning and capital. - Authorities supported recommendation to grant more autonomy to the SIF; a 2003 draft law to grant budgetary independence to the SIF was rejected by Congress. - Bank asset allocation and risks - Banks hold a large and growing share of their assets in government securities, increasing exposure to interest rate and liquidity risk; credit risk has declined. - Mortgage sector - Mortgage sector remained stagnant due to weak demand and judicial/regulatory obstacles: - Many home buyers reluctant to acquire mortgage debt even 5–6 years after the crisis. - Constitutional court ordered a retroactive change in indexation formula during the 1999 crisis, reducing outstanding mortgage values. - Court set a limit on the real interest rate on most mortgages. - Foreclosure often takes up to 5 years. - Mortgage banks have diversified into consumer and corporate lending; weak mortgage banks operating under restructuring plans. - Securitization program begun in 2003 expected to help mortgage banks restructure balance sheets. - Domestic capital markets and regulatory reform - Government submitted a new securities market law to Congress, with approval expected by June 2005, and is drafting a new corporate accounting law to improve investor protection, contract enforcement, and reduce regulatory arbitrage. - Staff and authorities agreed distortions such as the financial transactions tax and the bank stamp tax of 1½ percent contributed to financial disintermediation. ### Short-term macroeconomic outlook (2005–06) - Policy goals - Support real economic growth of 4 percent a year. - Lower inflation to 5 percent during 2005 and to 3–5 percent during 2006. - Fiscal targets and public debt - CPS deficit projected at 2.5 percent of GDP in 2005, assuming an export price of oil of US$31 per barrel as a prudent baseline and a gradual decline in the surplus of local and regional governments to historical levels. - CPS deficit projected to decline to 2.0 percent of GDP in 2006, lowering public debt to about 50 percent of GDP by end-2006. - Targets will be lowered by a significant share of any oil price windfall. - Monetary and exchange rate policy - Monetary policy to continue under an inflation targeting framework; exchange rate regime to remain flexible. - External sector and reserves - External current account deficit expected to rise to about 2½ to 3 percent of GDP in 2005–06, reflecting a fall in oil export volumes and lagged effects of 2004 real exchange rate appreciation. - Net international reserves projected to remain comfortable at US$12.3 billion in 2005 (110 percent of short-term debt on a remaining maturity basis), reflecting reserves purchased to prepay the IDB loan. ### Authorities’ legislative and reform agenda - Near-term congressional priorities (targeted for approval by June 2005) - Revised budget code. - Constitutional amendment to reduce the actuarial deficit of the pension system. - New securities market law. - Other legislative items under consideration - Draft law for legal framework for demobilization of paramilitaries and other combatants. - Possible free trade agreement with the United States may be considered in the second half of 2005. - Political constraints - Authorities noted difficulty of introducing new reforms to Congress ahead of the elections but will continue to build support for the structural reform agenda. *Source: IMF staff and authorities discussions as presented in the provided chapter content.* ### 30. The economic policy strategy of fiscal consolidation, lowering inflation and ### _cr05154 - 30. The economic policy strategy of fiscal consolidation, lowering inflation and ### Strategy assessment and macroeconomic outcomes - Fiscal consolidation, lower inflation, and financial system strengthening have been effective, aided by a favorable global economic environment. - Since 1999: - Real economic growth has recovered. - Unemployment and poverty have declined. - Inflation has fallen to the lowest level in decades (central bank achieved the lowest inflation rate in decades during 2004). - The external sector strengthened with sustained export growth and restored access to international capital markets. - The financial system has returned to a sound position. ### Authorities’ policy framework and objectives - Authorities intend to maintain the strategy of steady growth, fiscal discipline, inflation targeting, and stronger financial supervision. - Key targets and frameworks: - Fiscal plan: lower public debt to 39 percent of GDP by 2015. - Inflation: central bank will continue to target inflation in the context of a flexible exchange rate regime; plan to gradually reduce inflation to the range of 2–4 percent a year is appropriate. - Financial markets: new securities market law (if approved) would help broaden domestic capital markets. ### Fiscal policy challenges and recommended structural reforms - Main challenge: sustain the pace of structural fiscal reforms to keep public debt sustainable. - Already presented to Congress: revised budget code and pension reform, which will help contain expenditure growth. - Staff recommendations and encouragements: - Continue building support to simplify the VAT and the income tax and scale back distortionary taxes. - Consider additional pension reforms quickly to limit the expected rapid rise in net pension costs. - Deregulate domestic prices of gasoline and diesel over the medium term to eliminate implicit subsidies and allow efficient pricing. - Strengthen the system of fiscal decentralization by modifying the revenue sharing mechanism (identified as a significant risk that weakens fiscal strategy credibility). - Consider steps to limit the increase in transfers—preferably to the rate of inflation—to strengthen the medium-term position of the central administration and of the combined public sector. - Establish an agency to ensure close coordination of fiscal policy at all levels of government. ### Inflation targeting and exchange rate policy - Inflation targeting: - The inflation targeting framework has helped guide inflation expectations; expectations for 2005 are broadly in line with the inflation target. - The plan to reduce inflation gradually to 2–4 percent a year is judged appropriate. - Exchange rate: - The flexible exchange rate regime has served Colombia well. - Continued exchange rate flexibility is essential over the medium term to adjust to a significant decline in oil production and exports. - Staff judgment: external competitiveness is broadly adequate given broad-based export growth in 2004 and a sustainable external current account deficit. - Appreciation of the peso vis-à-vis the U.S. dollar during 2004 seen as a market-based response to increased confidence and favorable external environment. - Staff urges authorities to guard against pressures for excessive foreign exchange intervention (which could generate inflationary pressures or raise quasi-fiscal costs through sterilization operations). - Continued trade liberalization would strengthen export competitiveness further. ### Financial system reforms and risks - Recovery: financial system recovered from the 1999 crisis due to government restructuring operations and economic recovery. - Policy priorities: - Continue strengthening the legal and regulatory framework for financial supervision. - New securities law expected to encourage deepening of domestic capital markets. - Phase out the financial transactions tax and the bank stamp tax to promote financial intermediation. - With expanded lending and investment opportunities, banks could diversify away from government securities and limit risks to interest rate fluctuations and sovereign exposure. - Note: mortgage-sector decisions intended to protect borrowers are making it more difficult for borrowers to acquire housing. ### Article VIII and Article IV notes - Colombia has accepted the obligations of Article VIII, Sections 2, 3, and 4, but authorities have not indicated a timetable for removing the two remaining restrictions; staff does not recommend approval of these restrictions. - Proposed timing: next Article IV consultation to be held on the 24-month cycle, subject to the provision of decision No. 127 94, (02/76) on Article IV consultations. ### Boxed findings and key statistics from thematic analyses - The Economic Crisis of 1999: - Real GDP fell in 1999 for the first time in more than 30 years after capital flow reversals and a banking crisis. - In September 1999, the Central Bank floated the peso; sharp devaluation increased public debt and stressed companies with foreign currency liabilities. - Security situation: - Three main illegal armed groups with about 30,000 combatants total: - FARC: about 15,000 fighters. - ELN: about 5,000 fighters. - AUC: about 10,000 fighters. - FARC and AUC each earn US$100–300 million a year from the drug trade. - Democratic security strategy (post-August 2002) yielded notable successes: - Between 2002 and 2004: sharp declines in homicides and kidnappings and in acreage devoted to coca cultivation. - By 2004 all municipalities were under government control. - Demobilization talks with paramilitaries led to several thousand paramilitary fighters handing in weapons by end-2004. - However, the FARC showed no interest in peace talks and intensified attacks in early 2005. - Pension reforms: - 1993 reform created coexisting PAYG and fully funded private systems; allowed workers to choose system and change once every three years. - Special pension regimes and long transition periods left a large actuarial deficit: - Actuarial deficit reached 210 percent of GDP by 2002. - Subsequent congressional actions reduced the deficit close to 190 percent of GDP after the constitutional court reinstated the original transition period. - Government proposal (June 2004 constitutional amendment) would: - Eliminate all special pension regimes and remove the 14th monthly pension payment for new retirees, lowering the actuarial deficit to 160 percent of GDP and reducing net pension costs starting next decade. - Clarify acquired rights to pave the way for additional reforms; Congress must decide by June 2005. - Authorities noted that even after exhaustively pursuing reforms, the actuarial deficit will remain at 140 percent of GDP (reflecting payments to current retirees and workers with accumulated PAYG benefits). - Colombia: Social Security, 2003-2015 (Net pension costs of ISS, excluding transfers from the central administration), in percent of GDP: - Contributions: 2003: 1.3; 2004: 1.8; 2005: 1.8; 2006: 1.8; 2007: 1.7; 2008: 1.7; 2009: 1.6; 2010: 1.6; 2015: 1.4 - Benefits: 2003: 5.5; 2004: 6.0; 2005: 6.4; 2006: 6.4; 2007: 6.5; 2008: 6.7; 2009: 6.8; 2010: 7.0; 2015: 7.3 - Deficit: 2003: -4.2; 2004: -4.2; 2005: -4.6; 2006: -4.6; 2007: -4.8; 2008: -5.0; 2009: -5.2; 2010: -5.4; 2015: -5.9 - Poverty and labor market: - Over 25 years, poverty declined from 59 percent in 1978 to 52 percent in 2003. - By regional standards, poverty and income inequality are high. - Structural unemployment rate estimated at 10–12 percent. - About one-third of the workforce is underemployed. - Number of internal refugees (“desplazados”) estimated at about 2–3 million out of a total population of 45 million. - Financing higher investment: - Public investment has averaged 7½ to 8 percent of GDP, with about two-thirds carried out by local and regional governments. - Private participation under PPPs: some 150 contracts leading to estimated investments on the order of US$5 billion since 1991. - ISA (electricity transmission company) was excluded from the public sector definition in 2004 after commercial orientation criteria were applied. - Inflation targeting regimes in Latin America (selected Colombia specifics from comparative table): - Adoption Date for Colombia: Sep. 1999 - Prior policy framework: Soft peg (band) - Current Target: 2-4% annual CPI centered on 3% - Time Horizon: 12-months - Official forecasts: Inflation: 1 year; GDP Growth: 1 year *Italic: IMF staff report content from the provided chapter.* ### Box 7. Financial System Stability Assessment Update: Main Findings ### Box 7. Financial System Stability Assessment Update: Main Findings ### Banking sector condition and performance - Since the 1999 FSAP, financial sector legislation has been improved, the banking system has been recapitalized, and the supervisory framework has been revamped. - The financial sector appears relatively stable and resilient to potential adverse shocks. However, the banking system still faces considerable challenges. - Solvency and profitability of commercial banks have improved, but provisioning for nonperforming loans could be strengthened, especially in the mortgage sector. - Bank capital adequacy may be overstated by some over-valuation of foreclosed assets and under-estimation of market risk. - The mortgage sector has improved its performance, but a few institutions remain weak. - Some of the funds lent for bank recapitalization have been prepaid and the prospects for repayment of remaining Deposit Insurance Fund (FOGAFIN) credits appear favorable as most recapitalized banks have regained market access or are backed by prominent financial holding companies. - However, the two largest institutions are still under FOGAFIN control. ### Legal, regulatory, and supervisory framework - The legal and regulatory framework could be strengthened further. - The Superintendency of Banks needs to keep pace with the technical and administrative requirements of implementing the new risk-based system for determining capital and provisioning standards. - The Superintendency would benefit from greater autonomy and independence, and the legal framework needs to effectively protect bank supervisors and the Superintendent. ### Risk exposures and vulnerabilities - Banks allocate a significant share of their portfolios to government securities. - The government response to the crisis and the lower demand for credit have increasingly transformed credit risk exposure into a market risk or sovereign risk exposure. - The government’s success in lengthening the maturity of its debt has, to a large extent, transferred interest rate and liquidity risk from the public sector to the banking sector. - Credit risk and interest rate risk are the main vulnerabilities. - The impact of the greatest interest rate shock on capital would come from a precipitous rise in the yield curve. - Foreign exchange risk appears limited, while equity price risk affects mostly finance corporations. ### Markets, infrastructure, and insolvency regime - Private capital markets continue to be illiquid and shallow, with most resources channeled through the banking sector. - This reflects the scarce supply of investment securities by local corporations, and deficiencies in clearance and settlement systems. - In this context, the modernization of the securities markets regulatory framework is critical to increase liquidity, stimulate investment and promote economic growth. - The corporate insolvency regime introduced under emergency conditions during the crisis has not yet been replaced by new instruments more favorable to financial intermediation. *Source: Box 7. Financial System Stability Assessment Update: Main Findings* ### Box 8. The Financial Transactions Tax (FTT) ### Box 8. The Financial Transactions Tax (FTT) ### Background and design - The FTT was introduced in 1998 as a transitory measure to finance the fiscal cost of the banking crisis. - Tax rates and permanence: - Initially set at 0.2 percent. - Raised to 0.3 percent in 2001 (and made permanent). - Further raised to 0.4 percent in 2004. - Tax base: - Mostly levied on transactions through savings and checking accounts, credit cards and loan disbursements. ### Impact: financial disintermediation and revenue productivity - The FTT contributes to financial disintermediation. - Empirical evidence (Kirilenko and Perry (2004), using data for Argentina, Brazil, Colombia, Ecuador, Peru, and Venezuela): - On average the FTT has resulted in a permanent erosion of the tax base—disintermediation—ranging from 4 cents for every dollar of revenue for Venezuela to 44 cents for Colombia. - This disintermediation has undermined the productivity of the FTT as a revenue source in Colombia. - Graphical evidence discussed in the source (December 1999 to December 2004 period and earlier series): - "Tax Collection and Productivity of the FTT" — series shown as Share of GDP and Productivity (right axis) across dates 12/99, 12/00, 12/01, 12/02, 12/03, 12/04. - "Money Multiplier (M3) and Number of Checks Processed" — series with M3/Monetary base and Number of checks (right axis) across dates 1/94, 5/95, 9/96, 1/98, 5/99, 9/00, 1/02, 5/03, 9/04; annotations indicating FTT at 0.2%, FTT at 0.3%, FTT at 0.4%. - "Currency in Circulation" — series across same date grid with percent of monetary base and % of GDP (right axis); annotation indicating FTT at 0.2%. - "Money Multiplier and FTT Collection, December 1999 to December 2004" — series with M3/Monetary Base and Share of GDP. - These series illustrate relationships among FTT rates, tax collection (share of GDP), productivity, money multiplier (M3/monetary base), number of checks processed (million of checks), and currency in circulation (% of monetary base and % of GDP) over time, with marked periods corresponding to FTT rate changes. ### Data sources and citation - Sources: DIAN; Banco de la República; and Fund staff estimates. - Kirilenko, A. and Perry, V. (2004), “On the Financial Disintermediation of Bank Transaction Taxes,” mimeo. *Source: _cr05154 - Box 8. The Financial Transactions Tax (FTT).* ### Executive Summary ...................................................................................................... ### Executive Summary ### Overall assessment and request - Performance under the current program continued to be very good in 2004: all quantitative performance criteria at end-2004 were observed and most structural benchmarks were met. - The staff supports the authorities’ request for completion of the fourth review under the current arrangement and for two waivers. - The authorities request continued Fund support for 2005–06 through a Stand-By Arrangement for 18 months, ending soon after the next government takes office, in the amount of SDR 405 million (35 percent of quota on an annual basis). ### Macroeconomic framework and projections - The program would preserve the macroeconomic framework supported by the current arrangement: - Real GDP would rise by 4 percent a year in 2005–06. - Inflation would decline to 5 percent in 2005 and to 3–5 percent in 2006. - Net international reserves would be equivalent to 110 percent of short-term debt at the end of both years. - Medium-term targets and projections (selected): - Real growth: 4.0 (annual percentage change) for 2005–2010. - Inflation: 5.0 for 2005; 4.5 for 2006; 3.5 for 2007; 3.0 for 2010. - External current account balance (percent of GDP): -2.8 for 2005; -2.6 for 2006; -2.7 for 2007; -2.5 for 2010. - NFPS primary balance (percent of GDP): 2.7 for 2005–2007 (at projected WEO price of oil in 2005-06, adjusted to reflect Colombia export price). - Combined public sector balance (percent of GDP, excludes effect of program adjustor for any oil windfall): -2.5 for 2005; -2.0 for 2006; -1.8 for 2007; -1.4 for 2010. - Total public debt (percent of GDP): 50.4 for 2005; 49.8 for 2006; 48.2 for 2007; 42.7 for 2010. - Net international reserves (in billions of U.S. dollars): 12.3 for 2005; 12.7 for 2006; 13.1 for 2007; 14.9 for 2010. - Crude oil, spot price (U.S. dollars per barrel): 37.8 for 2004; 40.5 for 2005; 38.0 for 2006; 36.0 for 2007; 34.0 for 2010. ### Fiscal policy and public debt - Fiscal policy in 2005–06 is designed to reduce public debt to close to 40 percent of GDP by 2010. - Fiscal targets: - Combined public sector deficit: 2.5 percent of GDP in 2005 and 2.0 percent of GDP in 2006. - Public debt would decline to about 50 percent of GDP by end-2006. - Primary surplus targets aimed to support the debt-reduction path (NFPS primary balance 2.7 percent of GDP for 2005–07). - Oil revenue treatment: - Targets will be reduced by a significant share of any oil price windfall, lowering public debt further. - The program includes a program adjustor for any oil windfall (combined public sector balance figures exclude this effect). - Key 2004 fiscal outcomes: - Combined public sector (CPS) deficit declined from 2.7 percent of GDP in 2003 to 1.3 percent in 2004 (well below the adjusted program target of 2.1 percent of GDP). - Primary surplus increased from 1.7 percent of GDP in 2003 to 2.7 percent of GDP in 2004. - Total public revenues rose from 30.7 percent of GDP in 2003 to 31.6 percent of GDP in 2004. - Tax revenues rose to 20.3 percent of GDP in 2004 from 19.5 percent in 2003. - Total public expenditures fell from 33.6 percent of GDP in 2003 to 33.1 percent in 2004. - Fixed capital formation fell to 7.3 percent of GDP in 2004 (down by over 1 percentage point of GDP). ### Structural reforms and legislative agenda - The government will press for congressional approval of the revised budget code and the constitutional amendment for pension reform by June 2005. - The revised budget code passed in the first session of Congress but was delayed in the second session; congressional approval by June 2005 will be a structural performance criterion under the proposed arrangement. - The constitutional amendment submitted in June 2004 aims to reduce the actuarial deficit of the pension system from 187 percent of GDP (post-2002/2003 reforms) to about 160 percent of GDP by eliminating most generous special pension regimes and clarifying acquired pension rights. - Other reform efforts: - Continued reduction in public sector staffing and restructuring of public enterprises. - Progress on public procurement strengthened through decrees and regulations though the public procurement law has not advanced in Congress. - Colombia, together with Ecuador and Perú, continued to discuss a free trade agreement with the United States. ### Monetary policy and exchange rate - The Banco de la República assigned top priority to the inflation objective and the authorities agreed to narrow the consultation band for the inflation target to +/- 1 percentage point. - Commitment to a flexible exchange rate regime is reaffirmed, although intervention policy could be considered at times. - 2004 monetary and exchange rate developments: - Real GDP grew by 4 percent in 2004; inflation declined to 5.5 percent during 2004. - The Banco de la República lowered its policy interest rates by a total of 50 basis points in early 2004 to 6.75 percent and further eased in December 2004 by lowering the interest rate on expansionary monetary operations to 6.5 percent while closing its window for contractionary operations. - The central bank intervened in the foreign exchange market in 2004, purchasing US$2.9 billion (about 35 percent of base money) and sterilizing about half of these purchases. - The peso appreciated by 16 percent vis-à-vis the U.S. dollar and by 11 percent in real effective terms during 2004. - Additional measures (December 2004) required foreign investors to hold newly acquired portfolio investments for at least one year (with interest payments, capital gains, and dividends transferable abroad without penalty). This control was announced on March 2, 2005 to be removed in six months. ### Financial sector - The authorities will strengthen the financial system further: - Granahorrar will be brought to the point of sale by end-2005. - Bancafé was restructured with a view to eventually bringing this institution to the point of sale. - A governance framework for public banks will be put in place by September 2005. - A new securities market law is before Congress. - 2004 banking outcomes and indicators: - Nonperforming loans declined to 3.6 percent of total loans by late 2004 and were fully covered by provisions. - Credit to the private sector grew strongly in 2004 after earlier contractions. - Key banking indicators (selected): - Capital adequacy ratio (with market risk): 14.0 (Sep. 2004), 12.6 (2002), 11.3 (1999). - Nonperforming loans as a share of total loans: 3.6 (Sep. 2004), 9.2 (2002), 12.4 (1999). - Return on assets: 2.7 (Sep. 2004), 1.1 (2002), -3.5 (1999). - Spread between lending and deposit rates: 7.3 (Sep. 2004), 7.4 (2002), 4.4 (1999). - Liquid assets to total assets (percent): 18.0 (Sep. 2004), 19.7 (2002), 11.9 (1999). ### External sector and reserves - The external sector performed well in 2004: - Net international reserves reached US$13.2 billion by end-2004 (123 percent of short-term debt on a remaining maturity basis). - Oil exports rose to US$4.2 billion (4½ percent of GDP) in 2004. - Non-oil exports grew by 23 percent in 2004. - Remittances reached US$3.5 billion (3½ percent of GDP) in 2004. - The overall balance of payments surplus reached US$2.7 billion (about 2¾ percent of GDP). - The external current account deficit fell to 1.0 percent of GDP in 2004. - In 2004 the country risk premium stayed below 400 basis points for most of the year (well below the peak of 1,100 basis points in October 2002). ### Risks, political and security context - The program provides a transparent and sound policy framework during the upcoming political cycle and allows for a gradual exit from formal Fund support. - Political outlook: - Elections in March (congress) and May (president) 2006 could increase uncertainty. - President Uribe’s approval ratings have been around 70 percent since August 2002. - Congress approved a constitutional amendment to allow presidential re-election in late 2004; the constitutional court is reviewing challenges and is expected to issue its ruling later in the year. - Security situation: - Democratic security program has reduced numerous indicators of violence and improved confidence, but the situation remains fragile with ongoing guerrilla hostilities. - Demobilization talks with paramilitary forces continued, and legislation was submitted for reduced penalties for crimes by ex-combatants and programs to help their reintegration. ### Fund staff position - The staff supports the authorities’ request for a new Stand-By Arrangement, as the policies envisaged under the program are consistent with reaching its objectives. *Source: _cr05154 - Executive Summary* ### 12. The program would give continuity to the macroeconomic framework supported ### 12. The program would give continuity to the macroeconomic framework supported ### Macroeconomic projections and targets - Real GDP is projected to grow by 4 percent a year, reflecting an expansion in domestic demand. - Inflation is targeted to fall to 5 percent during 2005 and to 3–5 percent during 2006. - The external current account deficit is projected to rise to close to 2½ to 3 percent of GDP a year in 2005–06. - Net international reserves are targeted at US$12.3 billion during 2005 (110 percent of short-term debt on a remaining maturity basis), following the prepayment of an emergency loan from the Inter-American Development Bank of US$1.25 billion in early April 2005. ### A. Fiscal Policy — overall stance and targets - CPS deficit target: 2.5 percent of GDP in 2005 (in line with the budget approved by Congress in October 2004). - Oil price baseline assumed: US$31 per barrel. - 2006 CPS deficit target: 2.0 percent of GDP (authorities intend to submit a budget by July 2005; this will be a structural performance criterion). - Public debt projected to decline to about 50 percent of GDP by end-2006. - Public sector expected to gradually run down unusually high deposits at end-2004. ### Fiscal adjustors and revenue assumptions - Deficit targets subject to an adjustor for any oil windfall (TMU, Paragraph 9); targets will be reduced by a significant share of any windfall for average export prices above US$31 per barrel. - In 2005, revenues expected to decline slightly to 31.2 percent of GDP, owing to a decline in non-tax revenue; tax revenues expected to remain broadly stable in relation to GDP. - Operating surplus of Ecopetrol projected to remain constant in relation to GDP, with real increases in domestic gasoline and diesel prices offsetting declining production and an assumed decline in average export price of oil. ### Expenditure composition and contingencies - Total expenditure projected to rise to 33.7 percent of GDP in 2005. - Wage bill: 6.8 percent of GDP in 2005. - Fixed capital formation projected to increase to 8.1 percent of GDP in 2005, allowing for a moderate recovery of investment spending by local and regional governments. - Central government prepared to adjust spending to achieve fiscal target; if local/regional investment stays below projections, central government could undertake additional investment projects. - Fiscal targets may be adjusted upwards by up to 0.5 percent of GDP for the grant element of concessional financing of expenditures related to the demobilization process. ### Transparency and local/regional government reporting - Authorities will aim to publish comprehensive quarterly data on local and regional governments by December 2005. - First step: review the quality of existing information by June 2005; if necessary, issue regulations to improve information reporting by September 2005. ### Measures to reduce vulnerability and currency exposure - Government will reduce net foreign currency financing to minus 0.5 percent of GDP in 2005 (to be monitored by an indicative quarterly target). - Consideration of additional placements through a global bond denominated in pesos (investor bears exchange rate risk); such a bond brought in US$825 million since November 2004. - Prepayment of IDB emergency loan will improve currency profile of debt. - Government forward foreign exchange transactions are a debt management tool; government will publish details and provide Banco de la República with a schedule of planned forward transactions. - Government agreed to limit its forward sales of foreign exchange to US$100 million. ### D. Fiscal structural reforms (planned) - Revised budget code: seeking congressional approval by June 2005 (structural performance criterion). Expected to scale back revenue earmarking, budgetary carryovers, and multiyear spending commitments. - Pension reform: government working for congressional approval of proposed constitutional amendment by June 2005; proposed elimination of the 14th monthly pension payment for new retirees would yield fiscal savings starting in 2006 (if approved). - Privatization plans: bring Ecogas to point of sale in 2005; hire an investment bank to prepare to bring several regional electricity firms to point of sale in 2006. Together these public enterprises have an estimated book value of 0.8 percent of GDP. - Study of revenue sharing mechanism to be prepared by December 2005. - Transfers to local governments are currently mandated by the constitution to grow by 2 percent in real terms in 2005, 2½ percent in real terms in 2006–08 and in line with the growth in current revenues subsequently. ### B. Monetary and Exchange Rate Policies - Banco de la República reaffirmed commitment to achieving the inflation target of 5 percent during 2005. - Output gap reported at over 1 percent and inflation in nontraded goods prices stable at about 5½ percent since mid-2004. - Consultation band for the inflation target narrowed to +/- 1 percentage point; central bank to provide staff with internal monthly inflation report on a regular basis. - Central bank prepared to tighten monetary policy if necessary by raising the interest rate on its expansionary monetary operations, re-opening its window for contractionary operations and continuing to sterilize foreign exchange purchases. - Central bank purchased US$170 million in March 2005 (compared with US$600 million in January–February). - Inflation declined to 5.0 percent year-on-year in March 2005. - Authorities remain committed to the flexible exchange rate regime; approach since end-2003 characterized as a managed float. - Peso remained 15 percent more depreciated in real effective terms than in September 1999. ### C. Financial Sector — supervision and restructuring - Continued phase-in of a risk-based approach to capital adequacy and loan-loss provisions in line with Basle II principles; improve measurement of market risk and valuation of foreclosed assets. - Strengthening framework for consolidated supervision and unifying supervision of financial sector and securities markets. - Monitoring weak mortgage banks operating under restructuring plans requiring additional provisioning and capital as necessary. - Commitment to reduce public sector involvement in the financial system (FOGAFIN progress noted). - Divestment plans: Granahorrar process started; Granahorrar to be brought to point of sale by end-2005. - Bancafé split into two banks in early March 2005: Bancafé (to be liquidated) and Granbanco-Bancafé (manage good assets/deposits); plan to bring Granbanco-Bancafé to point of sale. - Governance framework for Granbanco–Bancafé and Banco Agrario to be developed by September 2005. - New securities market law: seek congressional approval by June 2005 to deepen local capital markets and facilitate development of hedging instruments. ### D. Medium-Term Outlook (baseline and assumptions) - Baseline scenario assumptions (Prel. 2004; 2005; 2006; 2007; 2010): - Real GDP: 4.0 4.0 4.0 4.0 4.0 (In percent) - Inflation: 5.5 5.0 4.5 3.5 3.0 (In percent) - Average real peso depreciation (-): 9.2 5.4 -6.4 -4.0 -0.7 - LIBOR: 1.8 3.2 3.8 4.3 5.0 (In percent) - Primary public sector balance: 2.7 2.7 2.7 2.7 2.7 (In percent of GDP) - Country risk premium (basis points): 400 380 383 354 290 - External current account deficit would range from 2½ to 3 percent of GDP through 2010. - Net international reserves would remain at about 110 percent of short-term debt on a remaining maturity basis. - Public debt projected to decline to 42.7 percent of GDP by 2010; total external debt projected to fall to 32 percent of GDP. ### Debt projections and risks - Public Debt: Baseline projections (Prel. 2004; 2005; 2006; 2007; 2010) — 52.9 50.4 49.8 48.2 42.7 (In percent of GDP). - Alternative scenarios: - Primary balance falls by 0.5 of GDP from 2006 thru 2010: 52.9 50.4 50.4 49.4 46.0 - Per capita real GDP is constant from 2005 thru 2010: 52.9 51.6 52.7 52.0 49.5 - One time 30 percent real depreciation in 2006: 52.9 50.4 59.6 58.2 53.9 - A permanent 30 percent nominal depreciation of the peso in 2006 would increase public debt by more than 10 percentage points of GDP relative to baseline. - Average real growth of 2½ percent (constant per capita GDP) would leave public debt at about 50 percent of GDP. - A deterioration in the primary fiscal balance by ½ percent of GDP—which could be triggered by a drop in petroleum prices of US$15 per barrel, or a 10 percent increase in interest payments (absent compensating fiscal measures)—would slow the pace of debt reduction but not reverse the declining trend. ### E. Program modalities and risks - Authorities request completion of the fourth and final review under the current arrangement; all quantitative performance criteria at end-2004 were observed with ample margins; most but not all structural benchmarks were met. - Authorities request waiver for nonobservance of structural performance criterion on congressional approval of the revised budget code; staff supports this request. - Authorities request waiver of the continuous performance criterion on the nonintroduction of multiple currency practices; staff supports this waiver because the eligibility period for the export subsidies that gave rise to the multiple currency practice ended on February 28, 2005. - Current arrangement would be cancelled before approval of the proposed one. - Proposed arrangement access: SDR 405 million (35 percent of quota per year) — about one-third of the access under the current arrangement. - First purchase: SDR 193.5 million (25 percent of quota) available upon Board approval. - Remaining amount available in 5 purchases of SDR 42.3 million each. - Arrangement would end in October 2006, after the next government takes office in August 2006. - Authorities intend to treat the arrangement as precautionary. *Source: IMF staff report excerpt (program description and projections).* ### 35. Quarterly performance criteria will apply to the overall deficit of the combined ### 35. Quarterly performance criteria will apply to the overall deficit of the combined ### Quarterly performance criteria and program reviews - Quarterly performance criteria will apply to: - the overall deficit of the combined public sector, - net international reserves (NIR) of the central bank, - inflation, - short-term external public debt. - If inflation falls outside a band of +/- 1 percentage point, Colombia will need to complete a consultation with the Fund to resume purchases under the Stand By Arrangement. - The net disbursement of foreign currency public debt is subject to an indicative quarterly target. - Adjustors to these targets are explained in the Technical Memorandum of Understanding. - Semi-annual program reviews to be completed by: - September 2005, - March 2006, - September 2006. ### Structural conditionality and benchmarks - Prior action already adopted: - require banks to strengthen their reporting of their operations with the nonfinancial public sector. - Structural performance criteria: - approval of the revised budget code by June 2005, - submission of a 2006 budget to Congress by June 2005 that is consistent with a CPS deficit of 2.0 percent of GDP. - Structural benchmarks: - congressional approval of the constitutional amendment for pension reform, - congressional approval of the new securities law, - steps to strengthen the information on the operations of local and regional governments, - bringing Granahorrar to the point of sale. - Further structural measures for 2006, if necessary, would be introduced at the time of the second review. ### Fund repayment and debt-service implications - Colombia would be able to repay the Fund, if all purchases were made under the proposed arrangement (Table 13). - Fund credit would be equivalent to 0.6 percent of GDP in 2006. - Debt service to the Fund would peak at 3.2 percent of exports of goods and nonfactor services in 2006. ### Risks to the program - Public debt is sensitive to exchange rate fluctuations and other shocks (debt sustainability analysis). - The surplus of local and regional governments could decline faster than expected. - A deterioration in the security situation could harm confidence and slow growth. - Pressures for increased public spending could mount in the run up to the 2006 elections. - The external environment could worsen, especially if a surge in world oil prices slows the growth in the global economy. - These risks are also discussed in the companion report on the 2005 Article IV consultation. ### Staff appraisal — macroeconomic outcomes and vulnerabilities - Recent outcomes: - Real GDP increased steadily in 2003–04, helping reduce unemployment. - Inflation declined to the lowest level in decades. - The external sector strengthened, with a low current account deficit and strong capital inflows in 2004. - Fiscal consolidation and the real appreciation of the peso lowered gross public debt from 60 percent of GDP at end-2002 to 53 percent by end-2004, together with a sizable increase in public deposits. - The staff supports the authorities’ requests for two waivers and for the completion of the fourth review under the current arrangement. ### Program purpose and policy stance - Purpose: - Support the authorities’ macroeconomic framework—especially fiscal policy and public debt reduction—during the upcoming political transition. - Rationale: - Maintaining sound economic policies in the coming 18 months will strengthen credibility and continue to reduce economic vulnerabilities needed for sustained growth. - Remaining vulnerabilities: - high public debt sensitive to exchange rate fluctuations, - fragile security situation, - possible deterioration in the global economic environment. ### Fiscal policy 2005–06 and public debt trajectory - Fiscal policy will stay on the path to reduce public debt to close to 40 percent of GDP by 2010. - The target for the CPS deficit in 2005 is based on: - a conservative outlook for the average export price of oil, - the reasonable assumption that the overall surplus of the autonomous local and regional governments will decline. - If spending by local and regional entities is less than expected, the central government could have room for additional investment projects. - The central government must be ready to adjust its spending if necessary to achieve the fiscal target. - To monitor local and regional government positions, authorities need to improve the quality of information on their operations as quickly as possible. ### Oil-price windfalls and fiscal management - The authorities have decided to save a significant share of any windfall arising from higher world oil prices to help non-oil public spending on a sustainable path. - If world oil prices stay at current levels, this savings would most likely lead to a faster than envisaged decline in public debt in relation to GDP. ### Trade policy and budgetary support to agriculture - Staff welcomes the authorities’ decision not to grant any further export subsidies. - Staff shares concern that subsidies and other trade barriers in many industrialized countries hamper export growth in developing countries. - The staff encourages authorities to limit budgetary support to the agricultural sector, which could distort relative prices and put pressure on the budget. ### Structural reform agenda and political timing - The agenda of structural fiscal reforms under the proposed program is realistic given the upcoming political transition. - Authorities will press ahead with key reforms already submitted to Congress. - Congress has begun to debate: - the legal framework for the demobilization process, - a possible free trade agreement with the United States later this year. - It is crucial to secure approval of the proposed reforms by June 2005. - The revised budget code will begin addressing spending rigidities, including revenue earmarking that led to higher spending in 2004 in response to strong tax revenues. - After the code is approved, the government must continue to find ways to reduce rigidities further. - The pension reform is crucial given the high actuarial deficit of the pension system. - The staff strongly encourages authorities to seek opportunities ahead of the elections to advance reforms in tax policy and pensions, if possible. - Given the recent run up in world oil prices, it would be advisable to increase domestic prices of gasoline and diesel at a faster pace. ### Monetary policy stance and exchange rate considerations - Monetary policy will remain directed at reducing inflation. - The Banco de la República met its inflation target for 2004 and reaffirmed top priority to lowering inflation further. - The central bank stands ready to tighten monetary conditions as necessary. - Exchange rate policy since end-2003 can be characterized as a managed float; the central bank is committed to the flexible exchange rate regime adopted in 1999. - The staff would have preferred less foreign exchange intervention during 2004 and notes that the best way to support export competitiveness—if concerns arise—is to reduce the burden of public debt while undertaking structural reforms. - The staff urges authorities to monitor closely the effect of foreign exchange intervention to ensure that inflationary pressures do not build up. - The plan to prepay the emergency loan from the IDB will help lower the government’s debt servicing costs and exposure to exchange rate risk with a limited reduction in the reserve cushion. ### Financial sector developments and remaining actions - Continue to strengthen the financial system. - Important actions and recommendations: - adopt the new securities law by June 2005 to deepen local capital markets, - FOGAFIN has been successful in reducing the public sector’s participation in the financial system, - bring Granahorrar to the point of sale by end-2005, - the decision to restructure Bancafé is an important step forward resolving a crucial and complex issue, - establish a governance framework for Bancafé and Banco Agrario by September 2005, - bring Bancafé to the point of sale as soon as possible. *IMF staff report excerpt.* ### 47. The staff support the authorities’ request for a Stand-By Arrangement in the ### _cr05154 - 47. The staff support the authorities’ request for a Stand-By Arrangement in the ### Staff recommendation and program framework - The staff support the authorities’ request for a Stand-By Arrangement in the amount of SDR 405 million for a period of 18 months. - Authorities’ objectives and commitments: - Consolidate the fiscal position. - Reduce inflation further. - Continue to improve financial supervision. - Assessment: "Their policies are adequate to achieve the program objectives." ### Key macroeconomic outlook and projections (selected) - Real GDP (annual percentage changes): 2.9 (2000); 1.5 (2001); 1.9 (2002); 4.0 (2003); 4.0 (2004); 4.0 (2005); 4.0 (2006); 4.0 (2007); 4.0 (2008); 4.0 (2009); 4.0 (2010). - GDP deflator (annual percentage changes): 12.1 (2000); 6.2 (2001); 6.5 (2002); 8.2 (2003); 7.0 (2004); 5.3 (2005); 4.3 (2006); 5.1 (2007); 4.1 (2008); 3.2 (2009); 3.0 (2010). - Consumer prices (average): 9.2 (2000); 8.0 (2001); 6.3 (2002); 7.1 (2003); 6.0 (2004); 5.9 (2005); 5.2 (2006); 4.8 (2007); 4.0 (2008); 3.3 (2009); 3.0 (2010). - Consumer prices (end of period): 8.7 (2000); 7.6 (2001); 7.0 (2002); 6.5 (2003); 5.5 (2004); 5.5 (2005); 5.0 (2006); 4.5 (2007); 3.5 (2008); 3.0 (2009); 3.0 (2010). ### Fiscal position and public sector indicators - Central administration balance (In percent of GDP): -5.7 (2000); -5.7 (2001); -6.4 (2002); -5.4 (2003); -5.6 (2004); -5.5 (2005); -6.1 (2006); -6.2 (2007). - Nonfinancial public sector balance (In percent of GDP): -3.5 (2000); -3.5 (2001); -4.2 (2002); -3.2 (2003); -2.8 (2004); -1.7 (2005); -2.5 (2006); -2.1 (2007). - NFPS primary balance (In percent of GDP): 0.9 (2000); 1.5 (2001); 0.4 (2002); 1.7 (2003); 2.2 (2004); 2.7 (2005); 2.7 (2006); 2.7 (2007). - Public sector balance (In percent of GDP): -3.4 (2000); -3.2 (2001); -3.7 (2002); -2.7 (2003); -2.8 (2004); -1.3 (2005); -2.5 (2006); -2.0 (2007). - Total revenue (In percent of GDP, central administration): 25.7 (2000); 20.8 (2001); 10.1 (2002); 13.9 (2003); 15.4 (2004); 16.0 (2005); 10.1 (2006); 8.3 (2007). - Total expenditure and net lending (In percent of GDP, central administration): 31.5 (2000); 33.3 (2001); 33.8 (2002); 33.6 (2003); 33.6 (2004); 33.7 (2005); 33.4 (2006). - Nonfinancial public sector revenue (In percent of GDP): 28.0 (2000); 29.6 (2001); 29.6 (2002); 30.7 (2003); 31.1 (2004); 31.6 (2005); 31.2 (2006); 31.3 (2007). - Nonfinancial public sector expenditure (In percent of GDP): 31.5 (2000); 33.3 (2001); 33.8 (2002); 33.6 (2003); 33.1 (2004); 33.7 (2005); 33.4 (2006); 33.2 (2007). ### External sector, reserves, and balance of payments - Current account (deficit -) (In percent of GDP): 0.9 (2000); -1.4 (2001); -1.7 (2002); -1.5 (2003); -2.2 (2004); -1.0 (2005); -2.8 (2006); -2.6 (2007). - Exports (f.o.b., annual percent changes in US$): 14.0 (2000); -6.4 (2001); -4.1 (2002); 11.2 (2003); 11.2 (2004); 23.6 (2005); -0.1 (2006); 3.2 (2007). - Imports (f.o.b., annual percent changes in US$): 8.1 (2000); 10.6 (2001); -1.6 (2002); 9.8 (2003); 15.1 (2004); 19.9 (2005); 15.7 (2006); 2.7 (2007). - Net official reserves (millions of U.S. dollars, program definition): 8,800 (2000); 9,982 (2001); 10,507 (2002); 10,524 (2003); 11,408 (2004); 13,195 (2005); 12,340 (2006); 12,653 (2007). - Net official reserves (in months of imports of goods and services): 6.6 (2000); 7.8 (2001); 7.6 (2002); 6.5 (2003); 7.2 (2004); 7.1 (2005); 6.5 (2006); 6.3 (2007). - Overall balance of payments (millions of U.S. dollars): 870 (2000); 1,217 (2001); 138 (2002); -184 (2003); 712 (2004); 2,583 (2005); -855 (2006); 313 (2007). ### Debt levels and sustainability indicators - Public debt (total outstanding gross debt, In percent of GDP): 47.7 (2000); 51.8 (2001); 60.2 (2002); 56.0 (2003); 52.9 (2004); 50.4 (2005); 49.8 (2006); 48.2 (2007). - External debt (In percent of GDP): 46.1 (2000); 47.5 (2001); 52.3 (2002); 46.0 (2003); 37.1 (2004); 35.9 (2005); 36.2 (2006); 35.6 (2007). - Public sector (of which public sector external debt, In percent of GDP): 26.3 (2000); 28.5 (2001); 31.9 (2002); 29.6 (2003); 24.1 (2004); 22.7 (2005); 22.5 (2006); 21.9 (2007). - Total outstanding net debt (In percent of GDP): 40.1 (2000); 42.4 (2001); 52.0 (2002); 47.4 (2003); 42.2 (2004). - Gross external financing need (in billions of U.S. dollars): 7.4 (2000); 9.0 (2001); 11.5 (2002); 11.2 (2003); 10.7 (2004); 15.3 (2005); 14.0 (2006); 14.5 (2007). ### Monetary and financial sector indicators - Broad money (annual percentage change): -2.1 (2000); 7.0 (2001); 5.3 (2002); 6.5 (2003); 10.2 (2004); 16.7 (2005); 11.1 (2006); 10.3 (2007). - Credit to the private sector (annual percentage change): -8.6 (2000); 1.7 (2001); 4.0 (2002); 9.2 (2003); 11.5 (2004); 12.2 (2005); 14.6 (2006); 14.0 (2007). - Monetary base (annual percentage change): 10.0 (2000); 8.8 (2001); 21.1 (2002); 17.8 (2003); 13.0 (2004); 15.9 (2005); 16.1 (2006); 9.3 (2007). - Central bank inflation target series (central bank targets): 10.0 (2000); 8.0 (2001); 6.0 (2002); 5.9 (2003); 5.5 (2004); 5.5 (2005); 4.5 (2006); 5.5-3-5 (2007) [as presented]. - Banking system indicators (selected, In percent): - Capital adequacy ratio (with market risk): 13.2 (2000); 13.0 (2001); 12.6 (2002); 13.1 (2003); 14.0 (2004). - Regulatory Tier I capital to risk weighted assets: 9.2 (2000); 9.3 (2001); 9.7 (2002); 10.5 (2003); 11.4 (2004). - Nonperforming loans to total loans: 10.6 (2000); 10.2 (2001); 9.2 (2002); 6.8 (2003); 3.6 (2004). - Return on average equity: -20.7 (2000); 1.1 (2001); 9.6 (2002); 17.0 (2003); 23.4 (2004). ### Medium-term outlook highlights (2005–2010) - External current account balance (In percent of GDP): -1.0 (2005); -2.8 (2006); -2.6 (2007); -2.7 (2008); -2.6 (2009); -2.5 (2010). - Gross national saving (In percent of GDP): 12.5 (2005); 14.4 (2006); 14.8 (2007); 15.3 (2008); 15.9 (2009); 16.3 (2010). - Gross domestic investment (In percent of GDP): 15.3 (2005); 17.0 (2006); 17.5 (2007); 17.9 (2008); 18.5 (2009); 18.8 (2010). - Overall nonfinancial public sector primary balance (In percent of GDP): 2.7 (2005); 2.7 (2006); 2.7 (2007); 2.6 (2008); 2.6 (2009); 2.6 (2010). - Overall balance (nonfinancial public sector, In percent of GDP): -1.7 (2005); -2.5 (2006); -2.1 (2007); -2.3 (2008); -2.1 (2009); -1.9 (2010). ### Debt sustainability and stress tests (selected outcomes) - Baseline public sector debt trajectory (total public debt, In percent of GDP): 50.4 (2005); 49.8 (2006); 48.2 (2007); 46.2 (2008); 44.5 (2009); 42.7 (2010). - Stress tests (public debt ratio) — selected scenarios (public sector debt, In percent of GDP): - B1 (Real interest rate at historical average plus two standard deviations in 2005 and 2006): 50.6 (2005); 49.8 (2006); 47.8 (2007); 46.2 (2008); 44.5 (2009); 44.5 (2010). - B2 (Real GDP growth at historical average minus two standard deviations in 2005 and 2006): 55.8 (2005); 62.7 (2006); 65.4 (2007); 68.6 (2008); 71.9 (2009). - B5 (One time 30 percent real depreciation in 2005): 59.6 (2005); 58.2 (2006); 56.6 (2007); 55.2 (2008); 53.9 (2009). - Debt-stabilizing primary balance (public sector): 1.6 (year indicated in table). ### Policy implications and priorities (as stated) - Fiscal consolidation to strengthen the fiscal position. - Continued disinflation efforts to reduce inflation further toward targets. - Continued improvements in financial supervision to support banking system health and financial stability. *Source: IMF staff report (Colombia), selected tables and projections as provided in the source content.* ### 1. Gross financing requirements ### _cr05154 - 1. Gross financing requirements ### Gross external financing requirements (table highlights) - Total gross financing requirements (rows aligned across periods as presented): 8,801 10,226 11,655 11,180 11,865 14,249 14,338 - External current account deficit: -737 1,114 1,371 1,191 1,013 3,150 2,858 - Debt amortization: 8,668 7,894 10,146 10,173 8,269 11,953 11,167 - Medium and long term debt: 5,728 5,380 7,023 6,681 4,903 6,951 5,912 - Public sector: 2,128 2,824 3,821 3,670 2,100 3,796 2,561 - Private sector: 3,601 2,556 3,202 3,011 2,804 3,155 3,352 - Short-term debt (1/ original maturity of less than 1 year; stock at the end of the previous period): 2,940 2,514 3,122 3,492 3,365 5,002 5,254 - Public sector: 672 199 320 429 224 389 389 - Private sector: 2,267 2,315 2,802 3,063 3,141 4,614 4,866 - Gross reserves accumulation: 870 1,217 138 -184 2,583 -855 313 ### Available external financing (table highlights) - Total available financing (rows aligned across periods as presented): 8,801 10,226 11,655 11,180 11,865 14,249 14,338 - Foreign direct investment (net): 2,069 2,509 1,258 855 2,646 2,343 2,137 - Medium and long-term debt disbursements: 5,645 7,904 4,239 6,485 4,357 6,076 5,374 - Public sector: 3,238 5,763 2,518 4,934 2,904 3,148 1,947 - of which: multilaterals: ...... 856 240 41 1,194 1,992 ... - Private sector: 2,407 2,141 1,720 1,551 1,452 2,928 3,427 - Public sector use of external assets: -259 -1,534 1,567 -570 -939 161 1,218 - Short-term debt (2/ original maturity of less than 1 year; stock at the end of the current period): 2,514 3,122 3,492 3,365 5,002 5,254 5,304 - Public sector: 199 320 429 224 389 389 389 - Private sector: 2,315 2,802 3,063 3,141 4,614 4,866 4,915 - Other capital flows (net) 3/: -1,169 -1,775 1,099 1,044 799 414 306 - Exceptional financing and arrears: 0 0 0 0 0 0 0 - of which: IMF 4/: 0 0 0 0 0 0 0 ### Financing gap - Reported financing gap: 0 0 0 0 0 0 0 - Net reported financing gap in final column: 0 ### Memorandum items (stocks) - Gross international reserves: 9,006 10,245 10,844 10,674 13,264 12,409 12,721 - Net international reserves (traditional concept) 5/: 9,004 10,192 10,841 10,668 13,258 12,403 12,715 - Net international reserves (program definition) 6/: 8,800 9,982 10,507 10,524 13,195 12,340 12,653 *Sources: Banco de la Republica; and Fund staff estimates.* *Notes:* - 1/ Original maturity of less than 1 year. Stock at the end of the previous period. - 2/ Original maturity of less than 1 year. Stock at the end of the current period. - 3/ Includes all other net financial flows, and errors and omissions. - 4/ Assumes no purchases under the Stand-by Arrangement. - 5/ The traditional balance of payments concept of net international reserves, which excludes central bank short term foreign liabilities and liabilities to the Fund. - 6/ In contrast to the traditional concept, foreign currency liabilities of the central bank to residents are excluded (among other things). A complete definition is given in the Technical Memorandum of Understanding (Country Report 03/135). ### Table 12: Schedule of purchases under the SBA, 2005-2006 (highlights) - Scheduled purchase dates and amounts (in millions of SDR; percent of quota; condition): - May 2, 2005: 193.50 SDR, 25.0 percent of quota — Board approval. - September 15, 2005: 42.30 SDR, 5.5 percent of quota — Observance of end-June 2005 performance criteria and completion of first review. - December 15, 2005: 42.30 SDR, 5.5 percent of quota — Observance of end-September 2005 performance criteria. - March 15, 2006: 42.30 SDR, 5.5 percent of quota — Observance of end-December 2005 performance criteria and completion of second review. - June 15, 2006: 42.30 SDR, 5.5 percent of quota — Observance of end-March 2006 performance criteria. - September 15, 2006: 42.30 SDR, 5.5 percent of quota — Observance of end-June 2006 performance criteria and completion of third review. - Total: 405.00 SDR, 52.3 percent of quota ### Indicators of capacity to repay the Fund (Table 13 highlights) - Fund repurchases and charges (In millions of SDRs): 5.6 11.4 13.1 74.4 185.5 144.3 - Fund repurchases and charges (In millions of U.S. dollars): 8.5 17.3 19.9 113.2 282.1 219.2 - Fund repurchases and charges (In percent of exports of goods and NFS): 0.0 0.1 0.1 0.5 1.2 0.9 - Fund repurchases and charges (In percent of GDP): 0.0 0.0 0.0 0.1 0.2 0.2 - Fund repurchases and charges (In percent of quota): 0.7 1.5 1.7 9.6 24.0 18.6 - Fund repurchases and charges (In percent of overall debt service): 0.1 0.1 0.1 0.7 1.8 1.3 - Fund repurchases and charges (In percent of gross foreign reserves): 0.1 0.1 0.1 0.8 1.9 1.5 - Fund credit outstanding (In millions of SDRs): 299.8 405.0 405.0 343.3 167.0 26.2 - Fund credit outstanding (In millions of U.S. dollars): 456.2 616.2 616.4 522.3 253.9 39.8 - Fund credit outstanding (In percent of exports of goods and NFS): 2.4 3.2 3.1 2.4 1.1 0.2 - Fund credit outstanding (In percent of GDP): 0.4 0.6 0.5 0.4 0.2 0.0 - Fund credit outstanding (In percent of quota): 38.7 52.3 52.3 44.4 21.6 3.4 - Fund credit outstanding (In percent of overall debt service): 3.1 4.6 4.6 3.4 1.6 0.2 - Fund credit outstanding (In percent of gross foreign reserves): 3.5 4.6 4.5 3.7 1.7 0.3 ### Macroeconomic and contextual memorandum items (selected) - Exports of goods and NFS: 18,984 19,550 19,725 21,426 23,228 25,625 - Quota (millions of SDRs): 774 774 774 774 774 774 - GDP: 112,270 111,156 114,634 121,814 129,073 136,886 - U.S. dollar per SDR (WEO projection): 1.522 1.522 1.522 1.521 1.520 1.519 - Public sector external debt: 24,825 24,486 25,034 25,323 25,739 26,340 - Overall external debt service: 14,492 13,347 13,528 15,168 15,939 17,192 - Overall external debt: 39,258 39,378 40,604 41,764 42,942 44,241 - Gross foreign reserves: 12,861 13,334 13,812 14,284 14,603 14,999 ### Fund relations, membership, and safeguards (appendix highlights) - Membership: Joined December 27, 1945; Status: Article XIV - Quota: 774.00 (SDR Million), 100.00 percent of quota - Fund holdings of currency: 488.20 (63.08 percent of quota) - Reserve position in Fund: 285.80 (36.93 percent of quota) - SDR Department: - Net cumulative allocation: 114.27 (100.00 percent) - Holdings: 117.15 (102.) - Outstanding Purchases and Loans: None - Latest financial arrangements: - SBA: Approval Jan. 15, 2003; Expiration April 14, 2005; Amount Approved 1,548.00 (SDR Million); Amount Drawn 0.00 (SDR Million) - EFF: Approval Dec. 20, 1999; Expiration Dec. 19, 2002; Amount Approved 1,957.00 (SDR Million); Amount Drawn 0.00 (SDR Million) - Projected obligations to Fund (in SDR Million), forthcoming (20005 2006 2007 2008 2009): Principal 0 0 0 0 0; Charges/Interest 0.01 0.01 0.01 0.01 0.01; Total 0.01 0.01 0.01 0.01 0.01 - Safeguards assessment: Mission concluded April 10, 2003; final report approved May 14, 2003; assessment noted no significant vulnerabilities. - Exchange rate arrangement: Banco de la República floated the peso in September 1999. Authorities accepted obligations of Article VIII in August 2004. At end-February 2005, exchange rate was Col$2,324 per U.S. dollar. - Last Article IV Consultation: The 2002 Article IV consultation was concluded on January 15, 2003. - FSAP participation: Executive Board discussed the Financial Sector Stability Assessment (FSSA) in 1999. - Statistics: Colombia subscribes to the SDDS. - Recent technical assistance (selected): - FAD: Advice on the reform of the budget code — March 2003 - FAD: Follow-up on the reform of the budget code — November 2003 - MFD: Inflation forecast under inflation target framework — May 2004 - FAD: Assessment of fiscal decentralization — May 2004 - Resident Representative: None. - Fourth Amendment: Colombia has accepted this amendment. ### Selected Stand-By Arrangement provisions (text highlights) - Period of arrangement: May 2, 2005 to November 2, 2006. - Total right to make purchases: SDR 405 million, subject to paragraphs 2, 3, 4, and 5. - Interim purchase limits without Fund consent (paragraph 2(a)): - Until September 15, 2005: SDR 193.5 million - Until December 15, 2005: SDR 235.8 million - Until March 15, 2006: SDR 278.1 million - Until June 15, 2006: SDR 320.4 million - Until September 15, 2006: SDR 362.7 million - Clause preventing purchases that would increase Fund holdings of Colombia’s currency subject to repurchase beyond 25 percent of quota (paragraph 2(b) and paragraph 3). - Conditions that suspend Colombia’s right to make purchases (paragraph 3), including nonobservance of: - Ceiling on overall deficit of the combined public sector, - Floor on the net international reserves of the central bank, - Ceiling on the net disbursement of short-term external debt of the Public Sector, - Failure to consult with the Fund per specified Technical Memorandum sections, - Failure to carry out structural performance criteria: - By June 30, 2005 approve the changes to the budget law as specified in Table 4 of the Memorandum, - By July 31, 2005 submit to Congress a 2006 budget as specified in Table 4 of the Memorandum, - Specific post-review suspension provisions tied to September 14, 2005, March 14, 2006 and September 14, 2006. - Additional prohibitions that can trigger suspension: imposing or intensifying restrictions on payments and transfers for current international transactions; introducing or modifying multiple currency practices; concluding bilateral payments agreements inconsistent with Article VIII; imposing or intensifying import restrictions for balance of payments reasons. *Italic: Source: _cr05154 - 1. Gross financing requirements (PDF chapter/section).* ### 4. Colombia will not make purchases under this Stand-By Arrangement during any ### _cr05154 - 4. Colombia will not make purchases under this Stand-By Arrangement during any ### Eligibility, suspension, and procedural provisions - Colombia will not make purchases under this Stand-By Arrangement during any period in which Colombia: - (i) has an overdue financial obligation to the Fund or is failing to meet a repurchase expectation in respect of: - (a) a noncomplying purchase pursuant to Decision No. 7842-(84/165) on the Guidelines on Corrective Action, or - (b) a purchase in support of debt and debt service reduction operations pursuant to Decision No. 9931-(89/167), or - (c) pursuant to subparagraph 17 and 31 of Decision No. 8955-(88/126) on the Compensatory Financing Facility, or - (d) in respect of a purchase under Decision No. 11627-(97/123) SRF on the Supplemental Reserve Facility and Contingent Credit Lines, or - (e) pursuant to paragraph 1(b) of Decision No. 5703-(78/39) or paragraph 10(a) of decision No. 4377-(74/114); or - (ii) is failing to meet a repayment obligation to the PRGF Trust established by Decision No. 8759-(87/176) PRGF, or a repayment expectation to that Trust pursuant to the provisions of Appendix I to the PRGF Trust Instrument. - Colombia’s right to engage in transactions covered by the Stand-By Arrangement can be suspended only with respect to requests received by the Fund after: - (a) a formal ineligibility, or - (b) a decision of the Executive Board to suspend transactions, either generally or to consider a proposal made by an Executive Director or the Managing Director, formally to suppress or limit the eligibility of Colombia. - When notice of formal ineligibility or of a decision to consider a proposal is given, purchases under the arrangement will be resumed only after consultation between the Fund and Colombia and understandings have been reached regarding circumstances for resumption. ### Currencies, charges, and repurchase obligations - Purchases under the Stand-By Arrangement: - shall be made in the currencies of other members selected in accordance with Fund policies and procedures, unless, at Colombia’s request, the Fund agrees to provide SDRs at the time of the purchase. - Charges and repurchase: - Colombia shall pay a charge for this Stand-By Arrangement in accordance with the decisions of the Fund. - Colombia shall repurchase the amount of its currency that results from a purchase under this Stand-By Arrangement in accordance with the Articles of Agreement and Fund decisions, including those relating to repurchases as Colombia’s balance of payments and reserve position improves. - Any reductions in Colombia’s currency held by the Fund shall reduce the amount subject to repurchase in accordance with Fund principles applied at the time of reduction. ### Consultation, information, and post-arrangement conditions - During the Stand-By Arrangement, Colombia shall remain in close consultation with the Fund; consultations may include correspondence and visits of Fund officials to Colombia or of Colombian representatives to the Fund. - Colombia shall provide the Fund with such information as the Fund requests in connection with progress in achieving objectives and policies set forth in the attached Letter and annexed memoranda. - In accordance with paragraph 76 of the Memorandum, Colombia will consult the Fund on adoption of any government-initiated measures or whenever the Managing Director requests consultation because: - the criteria in paragraph 3 have not been observed, or - the Managing Director considers consultation on the program desirable. - After the period of the arrangement and while Colombia has outstanding purchases in the upper credit tranches, the government will consult with the Fund from time to time concerning Colombia’s balance of payments policies, at the initiative of the Government or at the request of the Managing Director. ### Request letter highlights (Bogotá, Colombia, April 13, 2005) - Government requests: - a new 18-month Stand-By Arrangement (SBA) in the amount of SDR 405 million (35 percent of quota on an annual basis), with resources to become available on a quarterly basis. - to treat the new arrangement as precautionary. - to cancel the SBA that expires on May 14, 2005 simultaneously with approval of the new program. - completion of the final review under the current Stand-By Arrangement; all quantitative performance criteria at end-2004 have been observed and most structural benchmarks have been met. - a waiver of the condition for completion of the fourth review calling for congressional approval of the revised budget code; the government will strive to have this legislation approved by Congress by June 2005, which will be a structural performance criterion under the new arrangement. - a waiver for nonobservance of the performance criterion on the nonintroduction of a multiple currency practice, which was created by subsidies for banana and flower exports introduced in December 2004 (eligibility deadline for these subsidies was February 28, 2005; now no one is eligible). ### Memorandum of Economic Policies — recent outcomes and assessment (selected findings) - Growth and labor: - Real economic growth rose from 1.9 percent in 2002 to 4 percent a year (about 2½ percent a year in per capita terms) in 2003–04. - Urban unemployment rate declined from 17.6 percent at end-2002 to 15.4 percent at end-2004. - Inflation and external sector: - Inflation declined from 7 percent during 2002 to 5.5 percent during 2004. - External current account deficit fell to about 1 percent of GDP in 2004. - Net capital inflows rose to 3.3 percent of GDP in 2004. - Net international reserves rose to US$13.2 billion (123 percent of short-term debt on a remaining maturity basis). - Fiscal outcomes and public debt: - Tax revenues rose from 19.2 percent of GDP in 2002 to 20.3 percent of GDP in 2004. - Pension system actuarial deficit fell from 207 percent of GDP to 187 percent of GDP. - Combined public sector (CPS) deficit declined to 1.3 percent of GDP in 2004 (compared with an adjusted program target of 2.1 percent of GDP and a deficit of 3.7 percent of GDP in 2002). - Total public debt fell from 60 percent of GDP at end-2002 to 53 percent of GDP by end-2004. - Public sector deposits rose from about 8 percent of GDP at end-2002 to 10 ½ percent of GDP by end-2004. - Public debt net of deposits fell from 52 percent of GDP to 43 percent of GDP in this period. - Financial sector and supervision: - Nonperforming loans declined to about 4 percent of total loans by end-2004 and are fully covered by provisions. - Recapitalization and supervisory improvements continued; mark-to-market valuation mechanisms introduced; actions to combat money laundering continued. - Security and confidence: - Improvements in security (reduced guerrilla attacks, kidnappings, etc.) strengthened confidence, encouraging investment and growth. ### Program objectives and projections for 2005–06 - Policy goals: - Support real GDP growth of 4 percent a year in 2005–06. - Reduce inflation to a range of 4½ to 5½ percent during 2005 and to a point within the range of 3–5 percent in 2006. - External current account deficit projected to rise to close to 3 percent of GDP in 2005–06. - Net capital inflows expected to stay at around 3 percent of GDP in each year. - Reserves and foreign operations: - Net international reserves projected to stay at US$12.2 billion by end-2005 (107 percent of short-term debt on a remaining maturity basis), reflecting a government purchase of US$1.25 billion to prepay an emergency IDB loan. - Quarterly targets for net international reserves include an adjustor for sales of foreign exchange of up to US$2 billion (presented in the TMU). - Macroeconomic projection table (selected rows and columns reproduced exactly as in source): - Real growth: 2003 4.0; Projection Rev. Prog. Rev. 2005 4.0 2006 4.0 2007 4.0 2010 4.0 (Annual percentage change) - Inflation 1/: 2003 6.5 2004 5.5; projection: 2005 5.5 2006 5.0 2007 4.5 2010 3.0 - External current account balance (In percent of GDP): 2003 -1.5 2004 -2.2 2005 -1.0 2006 -2.8 2007 -2.6 2010 -2.5 - NFPS primary balance 2/: 2003 1.7 2004 2.5 2005 2.7 2006 2.7 2007 2.7 2010 2.7 - Combined public sector balance 2/3/: 2003 -2.7 2004 -2.5 2005 -1.3 2006 -2.5 2007 -2.0 2010 -1.4 - Total public debt: 2003 56.0 2004 52.1 2005 52.9 2006 50.4 2007 49.8 2010 42.7 - Public deposits: 2003 8.6 2004 ... 2005 10.6 ... - Net international reserves 4/ (In billions of U.S. dollars): 2003 10.5 2004 10.4 2005 13.2 2006 12.3 2007 12.7 2010 13.1 2010 14.9 - Crude oil, spot price 5/ (In U.S. dollars per barrel): 2003 28.9 2004 ... 2005 37.8 2006 40.5 2007 38.0 2010 36.0 2010 34.0 - Notes reproduced verbatim: - 1/ For 2007 and beyond, inflation projection consistent with achieving medium-term inflation target of 2-4 percent a year - 2/ At projected WEO price of oil in 2005-06, adjusted to reflect Colombia export price. - 3/ Excludes the effect of the program adjustor for any oil windfall. - 4/ Takes into account the prepayment of the IDB loan in 2005. - 5/ Petroleum price is average of spot prices for UK Brent, Dubai, and West Texas Intermediate. - Specific 2005–06 projections and policies: - Real GDP growth target: 4 percent a year. - Inflation target: 4½ to 5½ percent in 2005; 3–5 percent in 2006. - External current account deficit: close to 3 percent of GDP in 2005–06. - Net capital inflows: around 3 percent of GDP each year. - Net international reserves: US$12.2 billion by end-2005 (107 percent of short-term debt on a remaining maturity basis). - Quarterly targets for net international reserves include an adjustor for sales of foreign exchange up to US$2 billion (TMU). - Government will limit net foreign currency financing to minus 0.3 percent of GDP in 2005. - Government issued US$825 million through a global peso-denominated bond (investor bears exchange risk). - Government will limit the stock of its net forward sales of foreign exchange to no more than US$100 million. - Public revenues projected to decline slightly to 31 ¼ percent of GDP in 2005; tax revenues broadly stable at close to 21 percent of GDP. - Subsidies for gasoline and diesel cost over 1 percent of GDP in foregone revenue in 2004; subsidies for banana and flower exporters cost less than 0.1 percent of GDP and eligibility expired on February 28, 2005. - Total public expenditure expected to rise to 33.7 percent of GDP in 2005. - By July 2005, the government will present a 2006 budget to Congress consistent with CPS deficit objective; this presentation will be a structural performance criterion. - In 2006, the primary surplus projected to reach 2.7 percent of GDP, which together with a reduction of public sector deposits to more normal levels would lower public debt to below 50 percent of GDP by end-2006. ### Fiscal framework, public investment, and contingent liabilities - Medium-term fiscal framework presented to Congress in June 2004 aims to reduce net public debt to 38 percent of GDP by 2015. - Framework implies the combined public sector must raise its primary surplus to 2½ to 3 percent of GDP starting in 2005. - Government will: - ensure spending remains on a sustainable path even if world oil prices reach unusually high levels; - adjust CPS deficit targets downward when average export price of oil exceeds baseline prices (mechanism explained in the TMU); - continue to reduce vulnerability of public finances to exchange rate fluctuations and actively manage exchange rate risk; - provide a transparent accounting of the stock of all foreign currency derivative transactions and positions, including an estimate of possible fiscal impact of adverse exchange rate movements; - provide the Banco de la República with a schedule of planned forward operations. - Public investment policy: - continue to strengthen quality of investment by increasing commercial orientation of public enterprises and relying where possible on PPPs; - complete valuation of contingent liabilities arising from PPPs by including all past liabilities (in particular those from infrastructure investment) and present this valuation in the medium-term fiscal framework for the 2006 budget; - set up a pilot program to assess results of a group of completed investment projects, with a view to establishing over time a centralized system for project evaluation. *Source: IMF staff report text as provided in the content unit.* ### 64. The deficit of the central government—which comprises the central administration, ### _cr05154 - 64. The deficit of the central government—which comprises the central administration, ### Fiscal outlook - The deficit of the central government (central administration, social security and decentralized agencies) would rise to 4.0 percent of GDP in 2005 and to 4.3 percent of GDP in 2006. - Total revenues would remain broadly stable at about 23.0 percent of GDP. - Total expenditures would rise slightly in relation to GDP reflecting increased pension payments. ### Structural fiscal reforms (2005–06) — objectives, measures, and timing - Budget code reform - Objectives: reduce expenditure rigidities by scaling back revenue earmarking (which amounts to 50 percent of tax revenues), budgetary carryovers, and multi-year spending commitments. - Timeline and commitments: - Congress is considering the reform; based on favorable House committee vote, government will make every effort to secure approval of the revised code by June 2005 (this action will be a structural performance criterion). - Once approved, enact necessary regulations to implement the reform as quickly as possible and no later than December 2005. - Continue to reduce remaining expenditure rigidities subsequently. - Pension reform - Current situation: actuarial deficit of the pension system remains very high at almost 190 percent of GDP; pension reserves of ISS were depleted in 2004, increasing transfers from the central administration. - Proposed constitutional amendment (submitted July 2004): - Eliminate all special pension regimes. - Eliminate the 14th monthly pension payment for new retirees. - Set a cap on the maximum pension (proposal: cap maximum pension at no more than 25 minimum salaries as noted elsewhere in the program documents). - Clarify interpretation of acquired rights. - Expected effects: - Reduce the actuarial deficit of the pension system to about 160 percent of GDP. - Elimination of the 14th monthly payment for new retirees will yield moderate fiscal savings starting in 2006. - Timing: government will press to secure congressional approval of the proposed reform by June 2005; government recognizes additional medium-term reforms will be needed to reduce the actuarial deficit further. - Privatization - Objectives: divest public enterprises to reduce fiscal burden and raise resources. - Specific actions and timing: - Bring Ecogas (natural gas pipelines operator) to the point of sale in 2005. - Hire an investment bank to prepare several regional electricity firms to the point of sale by June 2006: Empresa de Energía de Cundinamarca, Electrificadora del Meta, Empresa de Energía de Boyaca, Electrificadora de Santander and Centrales Eléctricas del Norte de Santander SA. - Estimated value: together these public enterprises have an estimated value of about 0.8 percent of GDP. - Financial sector privatizations: - Bring Granahorrar to the point of sale by December 2005 (structural benchmark). - Continue process to bring Bancafé to the point of sale after restructuring. - Improving fiscal information across government levels - Rationale: more complete, up-to-date information on all levels of government operations will improve monitoring of the fiscal position and coordination of monetary and fiscal policy. - Timeline and commitments: - By June 2005: government will review the quality of information on local and regional governments provided by the Contaduría. - By September 2005: issue regulations needed to improve quality of information reported on local and regional government operations. - Progress to be discussed in the context of the first program review. - By December 2005: publish the upgraded information on operations of all levels of government. - By December 2005: publish a report that evaluates the current system of sharing revenues with local and regional governments. ### Medium-term fiscal challenges and policy directions - Key reform areas to lay foundations after 2006: tax policy, subsidies, and revenue sharing. - Tax policy: - Aim for a more efficient tax system with a simplified structure of VAT rates, a much broader VAT base, and elimination of distortionary taxes such as the financial transactions tax and the bank stamp tax. - Expected benefit: support faster economic growth. - Subsidies: - Since 1991 Colombia has developed an extensive network of subsidies that aided the most vulnerable, but poverty remains high. - Government will seek better targeting of subsidies to the poor and may trim costs of subsidies that benefit middle and upper classes. - Fuel pricing: - Current mechanism for setting domestic gasoline and diesel prices creates an implicit subsidy and revenue loss for the public sector (especially Ecopetrol). - Government intends to liberalize domestic fuel prices over the medium term. - Revenue sharing: - Current mechanism for transferring revenues to local and regional governments presents a potential risk to central government finances starting in 2009. - By December 2005, government will publish a report evaluating the current revenue sharing system. ### Monetary and exchange rate policy - Inflation targeting - Banco de la República committed to reducing inflation to a range of 4½ to 5½ percent during 2005, within the adopted inflation targeting framework. - In December 2004, the central bank relaxed monetary policy by reducing its repo interest rate and closing its window for contractionary monetary operations. - If necessary to meet the inflation target, Banco de la República will tighten monetary policy by raising its repo interest rate and re-opening the window for contractionary operations. - Exchange rate regime - Banco de la República remains committed to a flexible exchange rate regime to help adjust to external shocks. - Since 2004, the regime could be characterized as a managed float due to stepped-up intervention to limit the speed and depth of peso appreciation. - The central bank attaches top priority to achieving its inflation target. ### Financial sector reforms and supervision - Adoption of risk-based approach to credit risk regulation and supervision - Banks are developing models for risk assessment to determine capital adequacy and provisioning in accordance with the Basle II capital principles. - New capital and provisioning standards to be implemented gradually over the next several years. - Government will ensure the Superintendency of Financial Institutions has sufficient resources to hire qualified technical staff to implement the system. - Mortgage portfolio and bank restructuring - Mortgage loan portfolio quality is improving gradually as the economy and housing prices recover. - Some banks with significant mortgage portfolios will continue under restructuring and may require increases in provisioning and capital. - Consolidated supervision and supervisory unification - Superintendency of Financial Institutions will advance framework for consolidated supervision of financial conglomerates. - Government is unifying supervisory framework currently split between Superintendency of Financial Institutions and Superintendency of Securities to limit regulatory arbitrage and improve monitoring. - Resolution and divestment of distressed banks - FOGAFIN has liquidated six intervened banks, merged two, and sold four. - Auction of Banco Aliadas earned 1.7 times the bank’s book value. - Government committed to divesting financial institutions intervened in 1999 that remain under FOGAFIN control. - Granahorrar privatization process begun; target: point of sale by December 2005. - Bancafé restructuring: - After failed privatization in early 2004, restructuring included closing 40 of 278 branches in 2004, reducing staff from 4,100 to 3,550, cutting operating expenses; by March 2005 staff reduced further to 3,200 and further labor-cost restructuring began to bring the institution to the point of sale. - Government will establish by September 2005 a corporate governance framework for the new Bancafé and Banco Agrario. - Authorities have requested technical assistance from the Monetary and Financial Systems Department from the Fund. - Securities market reform - Government will seek congressional approval of the new securities law by June 2005 to modernize local capital markets by clarifying finality in securities trading, reducing counter-party risk, and facilitating centralized clearing and settlement systems for exchange rate and fixed income derivatives markets. - Government will foster development of hedging instruments and request technical assistance from the Fund to establish a road map. ### Program review schedule and conditionality highlights - Program reviews: semi-annual reviews to be completed by September 2005, March 2006, and September 2006. - First review (by September 2005): evaluate progress and pace of spending by local and regional governments. - Second review (by March 2006): focus on detailed policies for 2006, including structural reforms planned for 2006. - Third review (by September 2006): concentrate on economic performance in 2006 under the program. - Selected performance criteria and benchmarks (examples and exact figures from program tables and text): - Combined public sector deficit: indicative programming and ceilings set across 2005–2006 (document provides detailed quarterly ceilings and adjustments in associated tables). - Net international reserves floor for Banco de la República in 2005: 12,215 (millions of U.S. dollars) for the quarters shown in Table 3; outturn reported as 13,195 (millions of U.S. dollars) for Dec. 31, 2004 in Table 3. - Inflation consultation band and targets (12-month inflation rate path shown in program tables): - Example quarterly target path entries: Upper limit 6.5, 6.3, 6.2, 6.0; Target 5.5, 5.3, 5.2, 5.0; Lower limit 4.5, 4.3, 4.2, 4.0 (values presented in program tables). - Structural conditionality (Table 4) key deadlines: - June 30, 2005: Congressional approval of changes to the Budget Code (structural performance criterion). - June 30, 2005: Congressional approval of a constitutional amendment to eliminate special pension regimes, end 14th monthly pension and cap maximum pension at no more than 25 minimum salaries (structural benchmark). - September 30, 2005: Congressional approval of new securities law; issue regulations to improve quality of information for local/regional governments. - December 31, 2005: Publish report evaluating current revenue sharing; issue regulations to implement revised budget code; bring Granahorrar to point of sale. - March 30, 2006 and June 30, 2006: additional program conditionality milestones as listed in program tables. ### Policy stance and readiness - The government believes the policies in the Memorandum of Economic and Financial Policies (MEFP) are adequate to achieve program objectives. - Government will maintain close policy dialogue with the Fund and stands ready to take additional measures as necessary; Fund management or the authorities can request consultations on policy stance when appropriate. *Source: _cr05154 - 64.* ### 1. This Technical Memorandum of Understanding (TMU) presents the concepts, ### This Technical Memorandum of Understanding (TMU) presents the concepts, ### IV. FISCAL TARGETS — Performance Criterion on the Overall Deficit of the Combined Public Sector - Ceiling (In Billions of Colombian Pesos) — Overall deficit of the combined public sector from January 1, 2005 to: - March 31, 2005 (indicative target) 1,606 - June 30, 2005 (performance criterion) 1,514 - September 30, 2005 (performance criterion) 3,403 - December 31, 2005 (performance criterion) 6,890 - Definition and composition: - CPS = NFPS1 + FOGAFIN + quasi-fiscal BR + net fiscal costs borne by the NFPS related to bank restructuring - NFPS = general government (GG) + public enterprises (PE) - GG = central government (CG) + territorial governments (TG) - CG = central administration (CA) + social security (SS) + national decentralized agencies (DA) - TG = territorial governments + territorial decentralized agencies - Footnote 1: Excludes net fiscal costs borne by NFPS related to bank restructuring. - Measurement of the CPS overall balance (in Colombian pesos) — sum of: - (i) net domestic financing; - (ii) net external financing; - (iii) privatization proceeds. - CPS net domestic financing comprises: - (i) change in net credit from the financial system, excluding bonded debt; - (ii) net proceeds from placement with domestic financial system and other private sector residents of bonds (issued or guaranteed by any CPS entity) denominated in domestic or foreign currency or indexed to any foreign currency, excluding any valuation changes; - (iii) change in the budget carryover (rezago presupuestario, which includes cuentas por pagar and reservas de apropiación) of the central administration; changes in the floating debt (cuentas por pagar) of the social security system (Instituto de Seguro Social, Cajanal, and Caprecom) and main public enterprises: Ecopetrol, Telecom, the national electricity companies, and the national coffee fund; - (iv) change in the amount of public funds administered by Fiduciarias; - (v) operating cash result of the BR. - Any capitalization of interest on new issues of government bonds after September 1, 1999 and the accrual of the inflationary component of indexed bonds will be included—on a quarterly basis—as interest expenditure for the purpose of measuring the CPS deficit. - Definition of the financial system: - Banking sector, mortgage banks, finance corporations (corporaciones financieras), FEN, IFI, finance and leasing companies (compañías de financiamiento comercial), Bancoldex, Finagro, and Findeter. - Banking sector comprises the BR and the commercial banks. - CPS net external financing comprises: - (i) disbursements of grants and project and nonproject loans, including securitization (titularización) of public sector export receipts; - (ii) proceeds from bonds issues to nonresidents (issued or guaranteed by any CPS entity) denominated in domestic or foreign currency or indexed to any foreign currency; - (iii) net changes in short-term external debt including prepayment of exports; - (iv) any change in arrears on external interest payments; - minus (v) net increase in the financial assets held abroad by the CPS; - (vi) cash payments of principal on current maturities for bonds and loans; - (vii) cash payment to settle any external arrears; - (viii) any prepayment of external debt; - (ix) value of any new leasing contracts entered into by the public sector during the program period, defined as the present value at the commercial interest reference rate (CIRR) (at the inception of the lease) of all lease payments expected to be made during the period of the lease contract excluding those that cover the operation, repair, or maintenance of the property. - Privatization proceeds: - Cash payments received by the CPS from the sale of the government’s ownership stake in enterprises. - Nonrecurrent fees (e.g., prepayments) received by the CPS for concessions to operate public services treated as privatization proceeds and accounted for over the concession period, distributed in equal quarterly amounts. - Proceeds from sales of the government’s shares in public enterprises considered as privatization. - If purchasers assume enterprise debts, net financing used by these enterprises during the program period until their sale will be deducted from CPS net financing; if CPS assumes the debt, the net financing used by the enterprise before the sale will remain outstanding as part of CPS financing. - Accounting treatment for TELECOM joint operation: - Registered in fiscal accounts on an accrual basis. - Acquisition by TELECOM from a resident firm of fixed assets financed by a loan from the resident firm that will accrue interest. - Breakdown of debt service between amortization and interest payments to be accrued in fiscal accounts determined by the internal rate of return corresponding to cash payments during the joint agreement period. - Adjustors to quarterly ceilings: - (i) Upward adjustment (larger deficit) and upward adjustment to indicative target on net disbursements of public sector foreign currency and foreign currency indexed debt by the value of the grant element of concessional loan disbursements or full value of grants up to a maximum of 0.5 percent of GDP or US$500 million for 2005 as a whole in support of post-conflict projects (refugrees “desplazados” and reinsertados). A loan is concessional if it has at least a 35 percent grant element at time of approval using CIRR as discount rate. Value of grant element = grant element percentage × total disbursements in U.S. dollars during the period. - (ii) Downward adjustment by net oil export revenues in excess of baseline, net of additional royalties relative to baseline and net of net financial costs of export coverage. Net oil export revenues = proceeds from exports of crude oil and petroleum derivatives minus value of domestic purchases and imports of crude oil. Net financial costs of export hedging apply to oil sold as part of one-year contracts and refer to difference between contractual price and actual spot price. Baseline specified in U.S. dollars; adjustments valued in pesos at average exchange rates: - Col$2,596 per U.S. dollar for the first quarter of 2005; - Col$2,620 per U.S. dollar for the second quarter of 2005; - Col$2,643 pesos per U.S. dollar for the third quarter of 2005; - Col$2,668 per U.S. dollar for the fourth quarter of 2005. - Adjustments made within a quarter; ceiling on cumulative CPS deficit in a quarter adjusted downward by the amount of the windfall in the same quarter. There will be no upward adjustment to the CPS deficit ceiling from this mechanism. - Baseline Assumption for Oil Windfall (In millions of U.S. dollars): - Net export revenue / Royalties - From January 1, 2005 to March 31, 2005 321.4 221.5 - From January 1, 2005 to June 30, 2005 603.2 436.4 - From January 1, 2005 to September 30, 2005 926.0 635.9 - From January 1, 2005 to December 31, 2005 1287.0 831.9 - Exchange rate conversion for CPS balance: - All revenue, expenditure and financing items denominated in foreign currency will be converted into Colombian pesos at the average exchange rate prevailing in the month when the transaction took place. ### V. MONETARY TARGETS — Performance Criterion on Inflation - Quarterly targets for the 12-month rate of consumer price inflation (IPC, DANE): - March 31, 2005 (indicative target) 5.5 - June 30, 2005 (performance criterion) 5.3 - September 30, 2005 (performance criterion) 5.2 - December 31, 2005 (performance criterions) 5.0 - Policy response and consultation: - If observed year-on-year inflation at end of each quarter deviates from programmed quarterly baseline target by 1 percentage point or more, authorities will complete consultations with the Fund (Executive Board) on proposed policy response before requesting purchases from the Fund. - The BR will provide Fund staff with monthly information and analysis of inflationary developments including inflation forecasts, and keep staff informed of all policy actions taken to achieve program inflation objectives. ### VI. EXTERNAL TARGETS - A. Performance Criterion on NIR of the BR — Target (In Millions of U.S. Dollars) — Outstanding stock as of: - March 31, 2005 (indicative target) 12,215 - June 30, 2005 (performance criterion) 12,215 - September 30, 2005 (performance criterion) 12,215 - December 31, 2005 (performance criterion) 12,215 - Definitions: - NIR of the BR (reservas de caja) = U.S. dollar value of gross foreign reserves of the BR minus gross foreign reserve liabilities. - Gross foreign reserves of the BR comprise: - (i) gold; - (ii) holdings of SDRs; - (iii) reserve positions in the FLAR and the Fund; - (iv) all foreign currency-denominated claims of the BR on nonresident entities excluding accrued, but unpaid, interest on reserve assets and valuations. - Gross foreign reserves exclude capital participation in international financial institutions (including Corporación Andina de Fomento (CAF), IDB, IBRD, IDA, BCIE, and the Caribbean Development Bank), holdings of nonconvertible currencies, and holdings of precious metals other than gold. The pesos andinos are considered part of Colombia’s gross foreign reserves. - Gross foreign reserve liabilities of the BR are the sum of: - (i) all foreign currency-denominated liabilities of the BR with an original maturity of one year or less excluding accrued, but unpaid, interest on liabilities (causaciones); - (ii) liabilities to the Fund; - (iii) any position in derivatives that represent a claim on gross foreign reserves; - (iv) any purchases from the Latin American Reserve Fund (FLAR); - (v) any increase in medium- and long-term external debt of the BR over and above US$2.6 million, which is the level of the outstanding debt on December 31, 2004; - (vi) any foreign currency liabilities of the BR to residents, including financial institutions. - Government exposure in derivative markets: - Ministry of finance and public credit will publish on a weekly basis gross and net operations in futures, forwards and other derivative contracts (involving the Colombian peso, vis-à-vis a foreign currency) as well as its cash position in foreign exchange. - Adjustment to NIR targets: - Quarterly NIR targets may be adjusted downward by up to US$2.0 billion in the event of central bank foreign exchange intervention. - If NIR declines by US$1.0 billion during any 30-day period through foreign exchange intervention, authorities will complete consultations with the Fund (Executive Board) on proposed policy response before requesting purchases from the Fund. - B. Indicative target on the Net Disbursement of Public Sector Foreign Currency Debt — Ceiling (In millions of U.S. dollars) — Cumulative net disbursement of public sector foreign currency debt from January 1, 2005 to: - March 31, 2005 300 - June 30, 2005 -800 - September 30, 2005 -650 - December 31, 2005 -750 - Scope and definitions: - Applies to net disbursement (gross disbursement minus amortization/redemptions) of foreign currency and foreign currency indexed public sector (financial and nonfinancial) debt. Does not apply to debt in foreign currency indexed to the peso. - Public sector includes the CPS as defined above and the financial public sector, including second-tier banks. - In calculating compliance, reduction/accumulation of the public sector’s U.S. dollar assets in both spot and derivative markets will raise/lower net disbursements. - Debt definition reference: point 9 of the Guidelines on Performance Criteria with respect to foreign debt (Executive Board Decision No. 12274–00/85, August 24, 2000). - Guarantees: - Government will maintain policy of not guaranteeing private sector external debt. - Exchange rate conversion rules: - (i) Changes in foreign currency debt valued in U.S. dollars at the exchange rate of that currency with respect to the U.S. dollar prevailing at the time of each transaction; - (ii) Net international reserves at end-2004 are valued at cross-exchange rates prevailing at end-2004 and reserves held in interest-bearing securities are valued at market prices prevailing at end-2004; any accumulation of reserves after end-2004 will be accounted for at the U.S. dollar value at the time of acquisition. *Source: Technical Memorandum of Understanding (TMU).* ### references of foreign currency debt to GDP in relation to GDP are calculated at the end- ### _cr05154 - references of foreign currency debt to GDP in relation to GDP are calculated at the end- ### Performance criterion on net disbursement of short-term external debt of the public sector - Ceiling (In millions of U.S. dollars) for cumulative net disbursement of short-term external debt of the public sector from January 1, 2004 to December 31, 2004 (performance criterion): 13 - Cumulative net disbursement of short-term external debt of the public sector from January 1, 2005 to: - March 31, 2005 (indicative target): 200 - June 30, 2005 (performance criterion): 200 - September 30, 2005 (performance criterion): 200 - December 31, 2005 (performance criterion): 200 - Notes and definitions: - Short-term debt defined as all debt with an original maturity of one year or less, excluding normal trade financing. - Public sector includes the PS as defined above and the financial public sector except transactions that affect the reserve liabilities of the BR. - The term “debt” has the meaning set forth in point 9 of the Guidelines on Performance Criteria with respect to Foreign Debt (Decision No. 12274-00/85, August 24, 2000). ### Reporting under the program — regular reporting requirements - Monthly reporting: - Financial sector: - Monthly inflation report (within 15 days following presentation to the Board of Directors of the Banco de la Republica) - Banco de la República intervention in the foreign exchange market in the preceding month (within 15 days) - Fiscal sector (within 6 weeks): - Net borrowing of the central administration. - Cash operations of the treasury (which includes floating debt). - Operations of the Central Administration including transfers. - Quarterly reporting: - Performance criteria: Definitive information on the observance of the program targets not later than 7 weeks after the end of the quarter. - Fiscal Net Borrowing on the combined public sector deficit, distinguishing between external financing, domestic financing, the financial system, and privatization receipts, not later than 7 weeks after the end of the quarter. This will include data on privatization revenue (gross receipts, costs of privatization, resulting cash receipts received by the treasury, and the assumption of debts by the government in connection with the privatization). ### Quantitative indicator on net public financing in foreign currency or indexed to foreign currency (Q1–Q4; cumulative from beginning of the year; In millions of U.S. dollars) - Net accumulation foreign currency debt: - Proj. Q1: -245 - Actual Q1: -1057 - Proj. Q2: -816 - Actual Q2: -937 - Proj. Q3: + - Actual Q3: (not specified) - Net foreign currency financing: - Proj. Q1: 639 - Actual Q1: -864 - Proj. Q2: -465 - Actual Q2: -695 - Non-financial public sector: - Proj. Q1: 644 - Actual Q1: -844 - Proj. Q2: -444 - Actual Q2: -662 - Disbursements (cumulative entries shown): 1006, 1537, 2311, 3080 - Amortization (cumulative entries shown): 362, 2381, 2755, 3742 - Financial public sector: - Proj. Q1: -5 - Actual Q1: -20 - Proj. Q2: -21 - Actual Q2: -33 - Disbursements: 1, 1, 3, 4 - Amortization: 6, 21, 24, 37 - Disbursements in Colombian pesos indexed to foreign currency: - All quarters: 0 (Non-financial public sector 0; Financial public sector 0) - Disbursements in foreign currency indexed to the Colombian peso: - All quarters: 450 (Non-financial public sector 450; Financial public sector 0) - Net accumulation of foreign currency assets in spot markets: - Proj. Q1: 314 - Actual Q1: -257 - Proj. Q2: -99 - Actual Q2: -1458 - Non-financial public sector follows same values; Financial public sector 0 - Net accumulation of foreign currency assets in derivative markets: - Proj. Q1: 120 - Actual Q1: 0 - Proj. Q2: 0 - Actual Q2: 0 - Program target (ceiling): - Q1: 300 - Q2: -800 - Q3: -650 - Q4: -750 - Margin: - Q1: 545 - Q2: 257 - Q3: 166 - Q4: 187 ### IMF press release and program summary (Press Release No. 05/95, April 29, 2003) - IMF Executive Board approved an 18-month, SDR 403 million (about US$ 613 million) Stand-By Arrangement for Colombia. - An amount equivalent to SDR 193.5 (about US$292.2 million) made immediately available. - Remaining balance distributed in five equal installments of SDR 42.3 million (about US$ 64 million). - Authorities intend to treat arrangement as precautionary and do not intend to draw on the credit available. - Board completed the fourth and final review under an SDR 1.55 billion (about US$2.34 billion) Stand-By Arrangement approved January 15, 2003, ending effective May 2, 2005 at authorities’ request. - In completing the review, Board approved waivers of the non-observance of two performance criteria. - No drawings were made under the expiring arrangement. - Executive summary statements: - For 2005-06, policies seek to sustain strong performance; the successor 18-month arrangement will allow gradual exit from Fund financial support. - Fiscal policy aims to reduce public debt; government targeting a decline in combined public sector deficits in 2005 and 2006. - Authorities intend to save most of any oil price windfall. - Monetary policy will target a gradual decline in inflation in 2005-06, in the context of a managed float exchange rate policy. - Structural reforms: revised budget code, constitutional amendment for pension reform, new securities market law; strengthening financial system; restructuring one state-owned bank in March 2005 and bringing another to point of sale by end-2005; privatize some small electricity firms with an estimated book value of 0.8 percent of GDP. ### Program macroeconomic projections and fiscal targets - Program envisages: - Real GDP to rise by 4 percent a year in 2005-6. - Inflation to decline to 5 percent in 2005 and to 3-5 percent in 2006. - Net international reserves projected to stay at around US$ 12.2 billion by end-2005. - Fiscal policy in 2005-06: - Aim to reduce public debt to close to 40 percent of GDP by 2010. - Combined public sector deficit: 2.5 percent of GDP in 2005 and 2.0 percent in 2006. - Public debt projected to decline to about 50 percent of GDP by end-2006. - Targets will be reduced by a significant share of any price windfall. - Structural fiscal reforms to advance: - Constitutional amendment to the pension regime. - New securities law. - Reform of the budget code. - Bring state-owned bank Granahorrar to point of sale. - Attempt to privatize some small electricity firms with estimated book value of 0.8 percent of GDP. ### Economic performance, social indicators, and policy challenges (statements and selected indicators) - Recent performance and outcomes: - Real GDP increased steadily in 2003-04; growth averaged 4 percent over last two years. - Unemployment fell from 20 percent in 2000 to 12 percent in 2004. - Inflation declined to the lowest level in decades. - External sector strengthened with low current account deficit and strong capital inflows in 2004. - Gross public debt lowered from about 60 percent of GDP at end-2002 to about 53 percent by end-2004. - Selected projections and values: - Program projects real GDP growth: 4.0 (Proj. 2005, 2006 entries show 4.0). - Consumer prices (end-of-period): 8.7 (2000), 7.6 (2001), 7.0 (2002), 6.5 (2003), 5.5 (Prel. 2004), 5.0 (Proj. 2005). - Nominal exchange rate (end-of-period, depreciation +): 19.0 (2000), 2.8 (2001), 25.0 (2002), -3.0 (2003), -14.0 (Prel. 2004), ... - Real effective exchange rate (depreciation-): -2.6 (2000), 1.5 (2001), -17.4 (2002), -5.2 (2003), 11.4 (Prel. 2004), ... - Broad money: -2.1 (2000), 7.0 (2001), 5.3 (2002), 6.5 (2003), 16.7 (Prel. 2004), 11.1 (Proj. 2005). - Credit to the private sector: -8.6 (2000), 1.7 (2001), 4.0 (2002), 9.2 (2003), 12.2 (Prel. 2004), 14.6 (Proj. 2005). - Real interest rate (90-day time deposits; percent per year): 4.2 (2000), 3.6 (2001), 0.7 (2002), 1.4 (2003), 2.2 (Prel. 2004), ... - External sector (percent of GDP): - Current account (deficit-): 0.9 (2000), -1.4 (2001), -1.7 (2002), -1.5 (2003), -1.0 (Prel. 2004), -2.8 (Proj. 2005). - External debt: 46.1 (2000), 47.5 (2001), 52.3 (2002), 46.0 (2003), 37.1 (Prel. 2004), 35.9 (Proj. 2005). - Of which: public sector: 26.3 (2000), 28.5 (2001), 31.9 (2002), 29.6 (2003), 24.1 (Prel. 2004), 22.7 (Proj. 2005). - Net official reserves (in months of imports of goods and services): 6.6 (2000), 7.8 (2001), 7.6 (2002), 6.5 (2003), 7.1 (Prel. 2004), 6.5 (Proj. 2005). - Savings and investment (percent of GDP): - Gross domestic investment: 13.7 (2000), 14.5 (2001), 14.2 (2002), 14.9 (2003), 14.0 (Prel. 2004), 15.3 (Proj. 2005). - Gross national savings: 14.6 (2000), 13.2 (2001), 12.6 (2002), 13.5 (2003), 12.9 (Prel. 2004), 12.5 (Proj. 2005). - Public finances (percent of GDP): - Combined public sector balance: -3.4 (2000), -3.2 (2001), -3.7 (2002), -2.7 (2003), -1.3 (Prel. 2004), -2.5 (Proj. 2005). - Nonfinancial public sector balance: -3.5 (2000), -3.5 (2001), -4.2 (2002), -3.2 (2003), -1.7 (Prel. 2004), -2.5 (Proj. 2005). - Central administration balance: -5.7 (2000), -5.7 (2001), -6.4 (2002), -5.4 (2003), -5.5 (Prel. 2004), -6.1 (Proj. 2005). - Public sector debt 2/ 3/: 47.7 (2000), 51.8 (2001), 60.2 (2002), 56.0 (2003), 52.9 (Prel. 2004), 50.4 (Proj. 2005). ### Policy challenges and structural priorities highlighted by authorities - Continue fiscal consolidation to reduce public debt; set combined public sector deficits of 2.5 percent of GDP in 2005 and 2.0 percent in 2006, and reduce public debt to about 50 percent of GDP by end-2006 and close to 40 percent by 2010. - Save a significant share of any oil price windfall to lower public debt further. - Advance structural reforms: constitutional amendment to cap pensions (proposed cap at no more than 25 minimum wages), eliminate one monthly pension payment for new retirees, bring forward full transition to the new regime from 2014 to 2008 (noting legislative and Constitutional Court developments), define acquired rights; obtain congressional approval for revised budget code, pension reform amendment, and new securities market law (authorities intended to press for congressional approval by June 2005). - Strengthen the financial system: restructure state-owned banks (one restructured in March 2005; another to be brought to point of sale by end-2005). - Continue reforms to tax code and expenditure management, while noting political and constitutional constraints on broader tax-base changes. *Source: _cr05154 - references of foreign currency debt to GDP in relation to GDP are calculated at the end- (PDF).* ### 9. Reforming state institutions has been a priority of this administration. Ministries have ### _cr05154 - 9. Reforming state institutions has been a priority of this administration. Ministries have ### Institutional reform and fiscal savings - Mergers, suppression of redundant institutions, and elimination of no less than 27 thousand positions. - Reform of over 150 government institutions produced savings of no less than 10 percent of GDP in NPV terms. - Administrative changes to procurement practices introduced to enhance transparency and efficiency (congressional amendment to the procurement law not obtained). - Measures taken to enhance government legal defense capabilities expected to provide important fiscal savings by reducing costs of lawsuits against the government. ### Hydrocarbon sector, Ecopetrol, and energy pricing - Creation of a national hydrocarbon agency (ANH) outside of the state-owned oil company (Ecopetrol); ANH sets policy, Ecopetrol competes with private operators on a level playing field. - ANH reformed contracts with foreign operators, significantly reducing “government take”; exploration increased rapidly; in probabilistic terms it is now expected that the decline in oil production will cease after 2007. - Efforts to make Ecopetrol commercially run included politically charged reductions in gasoline and diesel subsidies. - Retail gasoline prices are now similar to those in the U.S.; authorities see merit in staff’s proposal to deregulate gasoline prices in the medium term and remain committed to continue reducing subsidies. - Telecom restructuring produced Coltel, profitable after changes implying fiscal savings of more than 8 percent of GDP in NPV terms. ### Budget rigidity and earmarking reform - Colombia’s budget described as inflexible. - Since early 2004 government submitted draft legislation to Congress to reduce earmarking and restrict the ability to make multi-year spending commitments; the reform received one positive vote in the lower house and is expected to receive the required additional three during this legislature. ### Decentralization, transfers, and subnational macroeconomic management - Transfers to territorial entities now linked to inflation plus a real increase of 2 percent a year; law calls for reverting to previous scheme in 2009. - Government position: best alternative is to cap transfers in real terms at the level reached by 2008; a report evaluating the current revenue sharing system to be published by December 2005. - Legal and institutional steps: - 2000 law limiting operating expenses to a percentage of revenue and establishing corrective adjustment programs with the Ministry of Finance for non-complying governments. - 2003 law requires each level of government to present a consistent 10-year macroeconomic framework annually and establishes that at the sub-national level the primary surplus has to ensure debt sustainability. - Result: overall balance of sub-national governments improved; 2004 regional surplus contributes to consolidated public sector over-performance. - Remaining challenges: - Strengthen coordination mechanisms among levels of government; improve reporting and monitoring of sub-national governments. - Clarify distribution of expenditure responsibilities to avoid duplication. - Sectoral distribution of transfers deemed too rigid by staff; authorities acknowledge merit but note health and education needs make earmarking useful for shared social goals. - Authorities do not agree that transfer system discourages local tax collection; empirical research: mixed evidence at Department level; at Municipal level taxes (particularly on real estate) have increased together with transfers. - Authorities agree transfers could be re-designed to provide better local incentives. ### Monetary and exchange rate policy (inflation targeting and FX intervention) - 2004 inflation: 5.5 percent, the central bank target for that year. - Goal: stabilize inflation in a range of 2-4 percent over a few years. - Central bank supports floating exchange rate regime. - 2004 capital inflows and appreciation: - Peso appreciated 14 percent against the U.S. dollar (text also reports peso appreciated by 11 percent in real effective terms during 2004 in the PIN background). - Central bank intervened and increased reserves from $10.5 to $13.2 billion. - Intervention partially sterilized; authorities view increased money demand and judge inflation not in jeopardy if demand is accommodated. - 2004 monetary easing: three reductions in the policy interest rate totaling 75 bps; closure of the window for contractionary operations later in the year. - Central bank March inflation report supports easing as consistent with the 2005 target and with gradual reduction in inflation in 2006; indicators cited: - Output gap continues to be positive. - Expectations from surveys and financial instruments consistent with the 5 percent target. - Wage pressures limited: 2/3 of wage negotiations imply wage increases of between 5 and 6 percent in 2005. - Non-traded goods inflation near the established target for the year. - Exchange rate expected to remain stable. - Central bank to continue intervening in the foreign exchange market as necessary and maintain its contractionary window closed for now; agreement to narrow the inflation consultation band. - March year-on-year inflation: 5 percent, the established target for end 2005. - Temporary capital control in late 2004: requirement for portfolio investments to remain in Colombia for at least one year; interest payments, capital gains, and dividends transferable abroad without penalty. Government announced intention to soon eliminate this restriction, justified as temporary. ### Financial sector developments and reforms - Post-1999 crisis improvements: - Banks are well-capitalized and profitable. - Non-performing loans decreased significantly. - Provisions surpass 100 percent of NPLs. - Credit to the private sector increasing at a healthy pace. - Government interventions: prompt recovery of viable distressed institutions, closing of non-viable ones; private institutions that received public support have been able to prepay obligations; intervened institutions re-privatized. - Colombia pioneered a risk-based provisioning system (SARC) and is gradually adopting Basel II. - Authorities seek further reduction of public sector participation in financial sector: - 2004 unsuccessful attempt to privatize Bancafe; restructuring underway to remove labor and pension liabilities to make Granbanco-Bancafe attractive to buyers. - Reform of Granahorrar underway; expected to be brought to the point of sale later in the year. - Government devoted to enhancing governance in Granbanco-Bancafe and Banagrario; requested technical assistance from the Fund. - Financial Sector Stability Assessment (FSSA) findings and authorities’ reactions: - FSSA noted remaining problems in a few institutions, particularly mortgage banks; authorities agree on the need to enhance supervisory technical capability in risk evaluation. - Authorities disagree with staff’s claim that assets are over-valued, citing advances in valuation mechanisms by the supervisory agency and central bank. - Authorities believe staff stress test scenarios are too extreme relative to Colombia’s historical financial developments. ### Vulnerabilities, risks, and policy responses - Balance sheet mismatches paper (data up to 2003) shows vulnerabilities declined significantly in 2004: public debt went down, currency composition improved, currency strengthened, and interest rates declined. - Key findings: - Public debt remains high but declining. - Corporate vulnerabilities have receded. - Households have built up a sizable net financial position. - Financial sector less exposed to currency risk via households and corporates but more exposed to the sovereign. - Policy recommendations and actions: - Staff argues for more asset diversification by non-bank financial institutions; authorities note securities reform under consideration by Congress should facilitate diversification and issuance of equity. - Authorities requested Fund technical assistance to implement hedging mechanisms. - Downside risks identified by staff: - Public debt level still high. - Faster than anticipated decline in surplus of local governments. - Deterioration in security. - Deterioration in the external environment. - Expenditure pressures due to the electoral cycle. - Authorities’ mitigation measures: - Continued fiscal consolidation as cornerstone of the arrangement. - Strengthen fiscal position, improve currency composition of debt, increase NIR position, and pursue diversification of the economy. - Noted structural export diversification: coffee once around 50 percent of exports; oil at current high prices is now the largest export item, accounting for less than 25 percent of total exports. ### Public Information Notice (PIN) background and Executive Board assessment (April 29, 2005 / May 9, 2005) - Background: policy strategy since 1999 focused on fiscal consolidation, lowering inflation, and strengthening the financial system. - Measures adopted earlier in the decade included a one-time wealth tax, an income tax surcharge, broadening of the VAT base, expenditure restraint, two pension reforms reducing actuarial deficit from 207 percent of GDP to 187 percent of GDP, restructuring/downsizing of the nonfinancial public sector, improved financial supervision, and privatization/liquidation of remaining public banks. A labor market reform approved in December 2002 aimed to encourage formal employment. The administration established a policy of democratic security. - Economic performance improvements in 2003–04: - Real economic growth recovered to 4 percent a year in 2003–04. - National unemployment rate declined from 20 percent at end-2000 to 12 percent at end-2004. - Poverty rate declined from almost 60 percent in 1999 to 52 percent in 2003. - Combined public sector deficit reduced from 3.4 percent of GDP in 2000 to an unexpectedly low 1.3 percent of GDP in 2004, reflecting an unanticipated rise in export price of oil to US$36 per barrel and an unusually large surplus of autonomous local and regional governments. - Public debt reduced to 53 percent of GDP by end-2004; public sector deposits reached 10.5 percent of GDP by end-2004. - External and reserve developments: during 2004 the central bank purchased US$2.9 billion (about one-third of the stock of base money) to limit appreciation; by end-2004 net international reserves reached US$13.2 billion (123 percent of short-term external debt on a remaining maturity basis). - Financial sector: nonperforming loans declined to 3.6 percent of total loans by late 2004 and were fully covered by provisions. - Executive Directors’ assessment and recommendations: - Commended sound macroeconomic policies and structural reforms; noted rebound in growth, declines in inflation, unemployment, and public debt, improved balance of payments, and strengthened confidence. - Noted remaining challenges: unemployment, poverty, and public debt remain high; external vulnerabilities from rollover and foreign exchange risks persist. - Emphasized need to maintain fiscal consolidation and structural reforms. - Urged continuation of reforms before Congress (revised budget code and pension reform) and additional reforms over the medium term on revenue and expenditure. - Revenue recommendations: build support for a more efficient tax system, broaden tax base, improve tax administration; slow increases in transfers to subnational governments; strengthen fiscal coordination across levels. - Expenditure recommendations: streamline current expenditure to allow more productive capital expenditure; increase effectiveness of social spending via better targeting; undertake additional pension reform to limit rapid rise in net pension costs; gradual deregulation of gasoline and diesel domestic prices over the medium term. - Debt management: encourage increased reliance on domestic currency borrowing to reduce vulnerabilities. - Monetary policy: commended prudent conduct; inflation targeting framework helpful; authorities committed to reduce inflation to range of 2–4 percent over the medium term. - Exchange rate: flexible exchange rate regime has served Colombia well; Directors cautioned against excessive foreign exchange intervention aimed at curbing appreciation because of potential uncertainty about monetary objectives, inflationary pressures, and quasi-fiscal sterilization costs. - Encouraged phasing out, as planned, the temporary capital controls instituted in December (text truncates before specifying year). *IMF Public Information Notice and Executive Board summary as presented in the supplied content.* ### 2004. Directors welcomed the improved management of foreign exchange risk by the ### 2004. Directors welcomed the improved management of foreign exchange risk by the ### Financial sector reforms and supervision - Directors commended the government’s financial restructuring operations, which have helped strengthen the financial system since 1999. - Encouraged continued efforts to improve financial supervision, as recommended in the Financial System Stability Assessment Report. - Key recommended measures: - Provision of sufficient autonomy to the Superintendency of Banks. - Adoption of risk-based regulations in line with the Basel II core principles. - Directors encouraged continued reduction of the public sector role in the banking system. - Commended the decision to divest one large state-owned bank and to consider the divestment of another state-owned bank. - Considered the new securities market law an important step toward deepening the domestic capital market. - Urged the phase-out of: - the financial transactions tax, and - the bank stamp tax - to promote financial intermediation. ### Foreign exchange policy and market development - Welcomed the improved management of foreign exchange risk by the private sector. - Encouraged the authorities to continue to facilitate the development of market-based hedging mechanisms. - Colombia’s acceptance of the obligations of Article VIII, Sections 2, 3, and 4 was welcomed. - Directors urged the authorities to establish a timetable for removing two remaining exchange restrictions. ### Selected economic indicators (highlights from table) - National income and prices: - Real GDP: 2.9 (2000), 1.5 (2001), 1.9 (2002), 4.0 (2003 Prel.), 4.0 (2004 Proj.), 4.0 (2005) - Consumer prices (end-of-period): 8.7 (2000), 7.6 (2001), 7.0 (2002), 6.5 (2003 Prel.), 5.5 (2004 Proj.), 5.0 (2005) - Nominal exchange rate (depreciation+, end of period): 19.0 (2000), 2.8 (2001), 25.0 (2002), -3.0 (2003 Prel.), -14.0 (2004 Proj.), ... - Real effective exchange rate (depreciation-): -2.6 (2000), 1.5 (2001), -17.4 (2002), -5.2 (2003 Prel.), 11.4 (2004 Proj.), ... - Money and credit: - Broad money: -2.1 (2000), 7.0 (2001), 5.3 (2002), 6.5 (2003 Prel.), 16.7 (2004 Proj.), 11.1 (2005) - Credit to the private sector: -8.6 (2000), 1.7 (2001), 4.0 (2002), 9.2 (2003 Prel.), 12.2 (2004 Proj.), 14.6 (2005) - Real interest rate (90-day time deposits; percent per year): 4.2 (2000), 3.6 (2001), 0.7 (2002), 1.4 (2003 Prel.), 2.2 (2004 Proj.), ... - External sector (percent of GDP, unless otherwise indicated): - Current account (deficit-): 0.9 (2000), -1.4 (2001), -1.7 (2002), -1.5 (2003 Prel.), -1.0 (2004 Proj.), -2.8 (2005) - External debt: 46.1 (2000), 47.5 (2001), 52.3 (2002), 46.0 (2003 Prel.), 37.1 (2004 Proj.), 35.9 (2005) - Of which: public sector: 26.3 (2000), 28.5 (2001), 31.9 (2002), 29.6 (2003 Prel.), 24.1 (2004 Proj.), 22.7 (2005) - Net official reserves (in months of imports of goods and services): 6.6 (2000), 7.8 (2001), 7.6 (2002), 6.5 (2003 Prel.), 7.1 (2004 Proj.), 6.5 (2005) - Savings and investment: - Gross domestic investment: 13.7 (2000), 14.5 (2001), 14.2 (2002), 14.9 (2003 Prel.), 14.0 (2004 Proj.), 15.3 (2005) - Gross national savings: 14.6 (2000), 13.2 (2001), 12.6 (2002), 13.5 (2003 Prel.), 12.9 (2004 Proj.), 12.5 (2005) - Public finances: - Combined public sector balance: -3.4 (2000), -3.2 (2001), -3.7 (2002), -2.7 (2003 Prel.), -1.3 (2004 Proj.), -2.5 (2005) - Nonfinancial public sector balance: -3.5 (2000), -3.5 (2001), -4.2 (2002), -3.2 (2003 Prel.), -1.7 (2004 Proj.), -2.5 (2005) - Central administration balance: -5.7 (2000), -5.7 (2001), -6.4 (2002), -5.4 (2003 Prel.), -5.5 (2004 Proj.), -6.1 (2005) - Public sector debt (Program definition; includes bonds issued to recapitalize financial institutions; assumes no purchases under the current SBA; includes valuation changes): 47.7 (2000), 51.8 (2001), 60.2 (2002), 56.0 (2003 Prel.), 52.9 (2004 Proj.), 50.4 (2005) *Source: IMF staff summary of the document.* --- _Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2005/_cr05154.pdf_