## _cr09309 ## Source details **Canonical URL:** [_cr09309](https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2009/_cr09309.pdf) ## Other formats - [Markdown version](/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2009/_cr09309.pdf.md) - [Structured JSON version](/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2009/_cr09309.pdf.json) --- ### Executive Summary — background, recent developments, and projections - Economic performance weakened in 2009 due to the global recession and the logging sector’s decline. - Real GDP growth: - 2008: 6.9 percent (estimated). - 2009: projected 0.4 percent; around 3¾ percent excluding logging. - Inflation: - Headline inflation 5½ percent (y/y) in June 2009; expected about the same at end-2009, down from a peak of 25 percent in mid-2008. - External current account and reserves: - Current account deficit projected at 11 percent of GDP in 2009, compared to around 19 percent in 2008. - Gross official reserves expected to decline to around US$88 million (2.5 months of next year’s imports) by end-2009. - Timber/logging: - Logging accounted for 60 percent of exports (2008). - Logging output outlook: from 1.5 million cubic meters in 2008 to 1.1 million cubic meters in 2009; decline by another 20 percent a year in 2010 and 2011, with more rapid decline thereafter. - Timber exports expected down 25–30 percent in 2009. - Fiscal balance and cash management: - Overall fiscal balance (including grants): surplus of 1.5 percent of GDP in 2008; expected deficit of around 0.4 percent of GDP in 2009. - Supplemental appropriation bill approved in August 2009 authorized new spending equivalent to around 1½ percent of GDP. - Without further support, government cash could run down to less than one week of domestically financed spending by year’s end. - Monetary and financial conditions: - Broad money expected to increase by around 8½ percent in 2009. - Private sector credit projected to rise by 6 percent in 2009, compared to 26½ percent in 2008. - CBSI raised the liquid asset requirement (LAR) on banks to 7.5 percent in November 2008 and introduced a Secured Advance Facility (SAF) in late 2008. ### Outlook and near-term macroeconomic outlook - Growth projections and drivers: - Real GDP projected to expand by around 2½ percent in 2010. - Supporting factors: moderately improving conditions in China, Korea, and other major East Asian trading partners; increased palm oil and rebounding copra production; new FDI in mining and telecommunications; increased air carrier competition lowering ticket costs and boosting tourism. - Dragging factor: declining logging and ancillary activity in 2010 and beyond. - Mining projects and medium-term impact: - Starting in 2012, large-scale gold production expected to boost growth significantly. - Australian Solomons Gold Limited undertaking a US$134 million rehabilitation of the GoldRidge mine; expected average production of 120,000 troy ounces of gold a year during 2012 to 2018. - External position, reserves, and financing gaps: - Current account deficit expected to widen starting in 2010 due to declines in timber exports, projected rise in oil import bill, and new capital imports associated with mining, telecommunications, and potential large-scale agricultural and fisheries projects. - Without additional external financing, reserves projected to fall to the equivalent of 1.2 months of the following year’s imports by end-2011. - Identified financing gaps: - Budget financing gap equivalent to 4 percent of GDP a year (around US$25 million in 2009) to build minimal government cash reserves to two months of recurrent and domestically financed development spending. - External financing gap averaging around US$25 million a year to maintain gross reserves to the equivalent of three months of prospective nonmining-related imports. ### Fiscal policy — assessments, recommendations, and quantified measures - Immediate priorities and measures: - Pursue a cohesive strategy to ease the cash constraint, including possible new budget support. - Support for cuts in recurrent spending; staff cautioned that rollbacks in development outlays could be destabilizing. - Raise the taxable price of logs, scale back new parliamentary entitlements, and further reduce nonessential recurrent spending (including government travel). - Apply carryover restraints in 2010 and pursue further budget support to build minimal cash reserves and regularize budgetary operations. - 2010 budget stance: - Staff urged targeting an overall surplus of at least 1½–2 percent of GDP in the 2010 budget. - Under current policies and based on existing donor commitments, staff projected the overall surplus would likely reach only around 0.8 percent of GDP in 2010. - Revenue administration and tax policy: - Expand the tax base, curtail exemptions, and improve tax and customs administration. - Inland Revenue priorities: expand taxpayer registration and further reduce tax arrears; need for more resources for auditing and record keeping. - Consider a value-added tax over time to expand revenue and ease burden on final producers from existing GST. - Customs priorities: reductions in discretionary exemptions, strengthen inspection procedures, implement WTO valuations, and introduce post-clearance audits. - A Customs Valuation Bill approved in August 2009 expected to support enforcement, in part by increasing penalties for duty evasion. - Specific quantified revenue implication: - Staff estimate: an increase in the determined price of logs by an average of US$25 per cubic meter could raise revenue by 1 percent of GDP a year. - Fiscal framework and PFM reforms: - Implement a medium-term budget framework targeting expenditure smoothing during transition from logging to mining revenues. - Anchor framework with a low to moderate overall surplus (including grants). - Strengthen cash management, budget integration, accounting and audit functions; plans include: formulate a cash flow forecasting model, fully implement new payroll and accounting systems, and integrate cash and debt management. - Develop a debt management strategy, centralized recording system, and proper accounting for treasury bills to facilitate future borrowing. ### Debt sustainability — DSA findings and risks - Classification and summary: - Solomon Islands classified as medium risk of debt distress under the LIC DSA (Joint IMF/World Bank DSA, September 21, 2009). - End-2008 totals: - Total public debt: US$200 million (including arrears and public credit guarantees), equivalent to 32 percent of GDP. - Total external debt (end-2008): US$160 million, or 25 percent of GDP. - Major external creditors: AsDB ~40 percent; World Bank Group’s IDA ~30 percent. - Baseline projections: - Under baseline, all debt indicators remain below policy-dependent indicative thresholds and are expected to remain so over medium and long term (baseline assumes modest new external support starting 2011). - Total public debt projected to decline to 16 percent of GDP by 2014 (from 32 percent in 2008). - Stress test vulnerabilities: - Several stress tests breach thresholds, notably shocks to net nondebt creating flows and the combined shock to growth, exports, deflators, and flows. - Public sector DSA sensitive to a temporary growth shock; lower-case scenario substantially increases public debt burden. - Policy implication: - Proceed cautiously with new borrowing, concentrating on productive development outlays—notably growth-enhancing infrastructure—and strengthen fiscal and debt management. ### Monetary policy, exchange rate, and operational recommendations - Monetary stance: - With inflation pressures subsiding and liquidity tightening, a more accommodative monetary stance is appropriate. - Given limited monetary instruments and moderate LAR, additional easing might come through foreign exchange operations and greater day-to-day movement in the official exchange rate (widening the daily trading band). - Operational improvements recommended: - Develop new instruments and strengthen the operational framework. - Issue short-term (e.g., 28-day) CBSI bills to provide banks with short-term obligations, improve liquidity management, and promote interbank activity. - Use SAF and better designed deposit facilities for temporary liquidity support. - Implement a liquidity monitoring framework and more effective use of instruments to facilitate a move toward quantitative targets. - Exchange rate assessment: - Nominal and real movements: - SI$ depreciated about 5 percent vis-à-vis the U.S. dollar in nominal terms between April 2008 and May 2009. - REER appreciated by about 25 percent through March 2009; elsewhere referenced as about 20 percent between April 2008 and May 2009. - Since April 2008 the SI$ appreciated by 5, 10, and 20 percent against the euro, Australian dollar, and New Zealand dollar, respectively. - Valuation estimates: - Equilibrium REER approach: REER overvalued by about 26 percent. - Modified macroeconomic balance approach: SI$ overvalued by around 20 percent (adjustment needed to maintain official foreign reserves at three months coverage of prospective nonmining-related imports). - Policy advice: greater exchange rate flexibility needed but should be complemented by competitiveness improvements (transportation infrastructure, lower operating and borrowing costs, streamlined business regulations). ### Financial sector and structural issues - Banking sector conditions: - Banks profitable in recent years but facing rising risks: uptick in NPLs, funding constraints, rising funding costs, limited fee-based income. - NPLs increased from 2.7 percent at end-Q4 2008 to 4.2 percent at end-Q2 2009 (authorities’ figures). - CBSI actions: raised LAR to 7.5 percent (Nov 2008); provided SAF; introduced liquidity forecasting framework (mid-2009 with IMF TA). - Staff recommended tight enforcement of new prudential guidelines on capital adequacy, loan loss recognition, and large credit exposure. - National Provident Fund (NPF): - Monitor NPF closely; proceed cautiously with balance sheet diversification given recent operating losses on overseas investment. - Monitor members’ use of contributions as pledged collateral against real property. - State-owned enterprises (SOEs): - Longstanding SOE financial difficulties pose fiscal risks; staff urged commercialization and strengthened governance, record keeping, and audits. - Ministry of Finance and Treasury’s new SOE monitoring unit to guide progress and privatization decisions. - Structural reforms and investment climate: - New Companies Act and Companies (Insolvency and Receivership) Act approved in 2009. - National Transport Fund Act established a legal framework for donor-funded transport infrastructure. - WTO Trade Policy Review (June 2009) noted tariff progress but highlighted need to comply with WTO bindings and address discriminatory internal taxes. - Land reforms proceeding slowly: Land Reform Unit (LRU) not fully operational; Tribal Land Bill stalled awaiting redrafting. ### Baseline scenario, alternative scenarios, and stress testing (DSA context) - Baseline assumptions: - Gold and nickel mining exports start in 2012 and 2015, respectively. - Real GDP growth projected to average around 5 percent during 2010 to 2014 (baseline box). - Inflation expected to average 6½ percent a year during 2010 to 2014. - Direct impact of new mining-related revenues assumed relatively low (below 1 percent of GDP) given no firm tax agreement. - Reserve cover falls to 1.2 months of prospective imports in 2011 under baseline. - Higher-case scenario: - More robust policy framework, higher revenue growth, additional donor budget support, ability to build cash reserves, and higher development spending. - Lower-case scenario: - Gold production start delayed by two years to 2014; nickel mining does not materialize in 2015. - Lower GDP growth, larger fiscal deficits, greater domestic borrowing, potential crowding out of private sector, reserve cover around 1.5 months by 2029 under assumptions. - Sensitivity and bound tests: - Tests include shocks to real GDP growth, export value growth, U.S. dollar GDP deflator, net nondebt creating flows, and a one-time 30 percent nominal depreciation. - Most extreme bound test often is the combined shock yielding highest ratios in 2019. ### Key quantified macroeconomic and fiscal indicators (selected figures as presented) - Growth and prices (selected years 2004–10 series as presented): - Real GDP: 4.9, 5.4, 6.9, 10.7, 6.9, 0.4, 2.4 - CPI (period average): 6.9, 7.1, 11.1, 7.7, 17.2, 8.0, 7.0 - CPI (end of period): 7.4, 8.3, 9.9, 10.9, 17.5, 5.5, 8.4 - Per capita GDP (US$): 815, 878, 945, 1,093, 1,266, 1,290, 1,351 - Central government fiscal accounts (percent of GDP, 2004–10): - Total revenue and grants: 33.5, 46.9, 47.3, 50.2, 48.9, 50.6, 51.9 - Revenue: 18.3, 21.0, 23.6, 26.8, 27.5, 27.6, 27.2 - Grants: 15.2, 25.9, 23.8, 23.4, 21.4, 23.1, 24.7 - Total expenditure: 27.6, 44.2, 45.6, 49.7, 47.3, 51.1, 51.1 - Overall balance: 5.9, 2.7, 1.7, 0.5, 1.5, -0.4, 0.8 - Central government debt (percent of GDP, includes arrears): 61.5, 52.7, 57.1, 40.3, 31.8, 27.3, 24.0 - Balance of payments and external sector (selected): - Current account balance (US$ millions, 2004–10 series): 61.1, -28.9, -29.4, -67.3, -120.0, -74.2, -130.7 - Current account (percent of GDP): 16.3, -7.0, -6.4, -12.4, -18.7, -11.1, -18.2 - Exports of GNFS (US$ millions): 127.1, 138.7, 162.2, 215.0, 244.4, 209.5, 199.9 - Imports of GNFS (US$ millions): 107.9, 173.3, 241.6, 330.5, 374.1, 370.1, 424.3 - Gross official reserves (US$ millions, end period): 79.5, 94.6, 104.4, 120.6, 90.1, 88.3, 63.2 - In months of next year's imports of GNFS: 5.5, 4.7, 3.8, 3.9, 2.9, 2.5, 1.7 - Medium-term headline projections (selected, 2008 Est.; 2009 Proj.; 2010–14 Proj.): - Real GDP (percent change): 6.9, 0.4, 4.9, 6.3, 5.6, 4.6 - CPI (period average, percent): 17.2, 8.0, 6.5, 5.7, 5.0, 4.5 - Per capita GDP (nominal US$): 1,266, 1,290, 1,612, 2,488, 4,100, 5,140 - Central government overall balance: 1.5, -0.4, 0.0, -0.8, -1.3, -1.6 - Gross official reserves (US$ millions, end period): 90.1, 88.3, 88.8, 69.8, 65.0, 524.8, 6. (as presented) ### IMF relations, TA, and statistical issues (selected) - IMF membership: Joined September 22, 1978; Article VIII. - Quota: 10.40 SDR Million — 100.00 percent Quota. - SDR allocation and holdings (as of August 31, 2009): - Net cumulative allocation: 8.36 SDR Million — 100.00 percent. - Holdings: 7.72 SDR Million — 92.26 percent. - Technical assistance (selected PFTAC and Fund missions, 2005–2009): tax policy and administration, financial supervision, reserve management, statistics, monetary operations and liquidity management, public financial management and accounting, AML/CFT, and others. - Data and statistics: - National accounts revisions increased nominal GDP by 30–40 percent for 2003–06 relative to old series. - CPI produced monthly covering Honiara; nationwide CPI planned but unfunded. - CBSI publishes monthly MFS; BOP quarterly compilation since 2006 (quarterly BPS not yet reported to IMF STA). - Data provision broadly adequate for surveillance with notable shortcomings; Solomon Islands does not participate in GDDS. ### Staff appraisal, risks, and recommended priority actions - Staff appraisal highlights: - Global recession and depleted forestry reserves weigh heavily on export earnings and growth prospects. - Little growth expected in 2009 and only modest recovery thereafter; medium-term improvement expected if new mining operations commence by 2012. - Sustained high growth requires macroeconomic stability and structural, trade, and legal reforms to raise competitiveness and attract FDI in agriculture, fisheries, and tourism. - Near-term risks (downside): - Prolonged global recession, delayed mining production, further policy slippages, continued decline in logging, commodity price volatility, reserve depletion, and financing constraints. - Policy priorities (concise): - Tighten spending discipline and strengthen cash management to avoid debilitating arrears. - Pursue measures to bolster revenues (tax base expansion, curb exemptions, improve administration). - Seek additional external budget support to build cash cushions and regularize budgetary operations. - Strengthen monetary operations and liquidity management; consider greater exchange rate flexibility while addressing competitiveness bottlenecks. - Enforce prudential standards in the banking system, monitor NPF, and accelerate SOE reforms and governance improvements. - Advance land reforms, streamline investment regulations, and improve infrastructure to diversify the production base. *Source: IMF staff report (2009 Article IV consultation; excerpts and annexes as provided).* ### Executive Summary ...................................................................................................... ### Executive Summary ### Background and Overview - Economic performance weakened in 2009 due to the global recession and the logging sector’s decline. - Real GDP growth is projected at 0.4 percent in 2009, compared to 6.9 percent in 2008. - Inflation pressures eased considerably with lower food and fuel prices and tightening liquidity conditions. - The external current account deficit is expected to narrow in 2009 as lower commodity import costs more than offset projected declines in export volume and prices (notably timber and copra). - With net external inflows slowing, reserves are projected to decline modestly. - Recovery in exports and growth is expected to be slow over the next few years, given a likely further drop in logging output and dependence on the start of new mining activity. - Key structural imperatives: maintain macroeconomic stability, develop basic infrastructure, undertake structural reforms including on land issues, increase competitiveness, and diversify the production base. ### Recent Developments - Timber/logging and exports - Logging accounted for 60 percent of exports; following a record harvest in 2008, logging appears to be entering an irreversible decline due to overexploitation. - The outlook (in line with the authorities) is for logging output to decline from 1.5 million cubic meters in 2008 to 1.1 million cubic meters in 2009, and by another 20 percent a year in 2010 and 2011, with an even more rapid pace of decline thereafter. - Timber exports are expected to be down 25–30 percent in 2009. - Growth and sector performance - Real GDP growth was an estimated 6.9 percent in 2008. - In 2009, growth is projected to be only 0.4 percent, or around 3¾ percent excluding logging. - Fisheries production is expected to remain flat owing to weaker external demand and still modest sector investment. - Major floods in early 2009 and El Niño conditions have adversely affected agricultural output. - Inflation and prices - Headline inflation was 5½ percent (y/y) in June and is expected to be about the same level at end-2009, down from a peak of 25 percent in mid-2008. - External sector and reserves - The current account deficit is projected to be 11 percent of GDP in 2009, compared to around 19 percent in 2008. - Gross official reserves are expected to decline to around US$88 million (2.5 months of next year’s imports) by end-2009. - The exchange rate depreciated around 5 percent against the U.S. dollar since April 2008, while the real effective exchange rate appreciated about 20 percent between April 2008 and May 2009. - Fiscal developments and cash management - The overall fiscal balance is expected to slip into a deficit (including grants) of around 0.4 percent of GDP in 2009, against an estimated surplus of 1.5 percent of GDP in 2008. - Budget performance in 2008 was bolstered by stronger-than-expected revenue growth: income taxes and GST collections rose sharply. - Recurrent spending exceeded the budget in 2008, partly due to minimum wage increases and higher utility costs. - In April 2009 the government implemented a 10 percent cut in nonessential recurrent outlays and a freeze on civil service hires; line ministries were asked to reserve an additional 25 percent for the remaining 90 percent of recurrent allocation. - A supplemental appropriation bill approved in August authorized new spending equivalent to around 1½ percent of GDP. - In the absence of further support, the government’s cash position could run down to less than one week of domestically financed spending by year’s end. - Borrowing constraints have hardened under the Honiara Club Agreement (HCA). - Monetary and financial conditions - Broad money is expected to increase by around 8½ percent in 2009. - Private sector credit is projected to rise by 6 percent in 2009, compared to 26½ percent in 2008. - The Central Bank of Solomon Islands (CBSI) raised the liquid asset requirement (LAR) on banks to 7.5 percent in November 2008. - CBSI introduced a Secured Advance Facility (SAF) in late 2008 and a new liquidity forecasting framework in mid-2009 with IMF technical assistance. Boxed note on national accounts revisions - Since the 2008 Article IV consultation, national accounts were revised for 2003–06, increasing nominal GDP by 30–40 percent relative to the old series. - Revisions reflect better capture of household and informal activities (notably agriculture) and improved estimates for public administration and defense. ### Outlook and Risks - Growth hinge points and trajectory - Growth hinges on maintaining macroeconomic stability, developing basic infrastructure, and undertaking structural reforms (including land reforms). - With likely further drops in logging output, recovery is expected to be slow and dependent on new mining activity and diversification efforts. - Risks to the outlook - Continued decline in logging and commodity price weakness pose downside risks to export earnings and fiscal revenues. - Real effective exchange rate appreciation (about 20 percent between April 2008 and May 2009) raises competitiveness concerns and could pressure the balance of payments. - Reserve depletion and tightened borrowing constraints increase vulnerability to external shocks. - Weak cash management and budget execution raise fiscal and financing risks. ### Policy Discussions and Recommendations - Fiscal policy - Given the government’s weak cash position and existing borrowing constraints, a mix of discretionary revenue and spending measures and structural fiscal reforms is needed to bolster tax collections, slow recurrent expenditure growth, and adequately fund development outlays. - The authorities considered resources adequate to implement the 2009 budget and advocated only modest fiscal tightening in the following year despite cash pressures. - Staff viewed new external assistance in the form of budget support as providing a cushion to undertake more lasting fiscal adjustment and improve budget execution. - Monetary and exchange rate policy - With falling inflation and tightening liquidity, a more accommodative monetary stance is appropriate. - Further development of the central bank’s liquidity management operations is necessary to contain liquidity risks, foster interbank activity, and improve monetary controls. - Given signs of overvaluation and expected reserve losses, staff urged pursuit of a more flexible exchange rate policy. - The authorities did not view exchange rate movements as immediately easing external pressures and considered the current managed arrangement an effective nominal anchor. - Financial sector and structural reforms - Strengthen the bank supervisory framework and enhance monitoring and oversight to manage risks arising from the growth slowdown. - Accelerate improvements in the operational and financial performance of state enterprises to reduce fiscal risks. - Pursue further trade, investment, and land reforms aimed at attracting new foreign investment and promoting broader-based and sustained growth. *Source: IMF Executive Summary (2009 Article IV consultation) — Executive Summary section.* ### 5. Under the current baseline, growth is expected to remain below recent trend over the ### _cr09309 - 5. Under the current baseline, growth is expected to remain below recent trend over the ### Growth outlook and near-term macroeconomic outlook - Real GDP is projected to expand by around 2½ percent in 2010. - Supporting factors: - Moderately improving conditions in China, Korea, and other major East Asian trading partners. - Increased palm oil and rebounding copra production. - New foreign direct investment (FDI) in mining and telecommunications. - Greater air carrier competition between the Solomon Islands and Australia has lowered ticket costs significantly, expected to boost tourism. - Dragging factors: - Declining logging and ancillary activity in 2010 and beyond, acting as a drag on income, employment, fiscal revenues, and export receipts. - Medium-term production prospects: - Starting in 2012, large-scale gold production is expected to boost growth significantly. - Australian Solomons Gold Limited is undertaking a US$134 million rehabilitation of the GoldRidge mine; staff expect the mine to produce an average of 120,000 troy ounces of gold a year during 2012 to 2018. ### External position, reserves, and financing gaps - Under the baseline, the current account deficit would widen starting in 2010 due to: - Further expected declines in timber exports. - A projected rise in the oil import bill. - New capital imports associated with mining, telecommunications, and potentially large-scale agricultural and fisheries projects. - Financing composition: - New capital imports would be financed largely by FDI and/or official inflows. - Reserves trajectory and vulnerability: - Without additional external financing, reserves are projected to fall to the equivalent of 1.2 months of the following year’s imports by end-2011. - Even with gold exports from 2012, the external current account deficit will likely remain elevated given the large import requirement of new nickel mining operations now expected to commence by mid-decade. - Identified downside risks: - Possible prolonged global downturn, delays in mining production, further policy slippages. - Continued uncertainty about land tenure and access, commodity price volatility, and financing availability. - Identified upside offsets: - Government capacity building, improved basic infrastructure, and streamlined investment regulations. ### Projected macroeconomic imbalances and quantified gaps - Potentially large and destabilizing imbalances could emerge, necessitating sizable policy adjustment and new exceptional financing: - A budget financing gap equivalent to 4 percent of GDP a year (around US$25 million in 2009), reflecting the fiscal policy response needed to build up minimal government cash reserves to two months of recurrent and domestically financed development spending and avoid potentially debilitating spending cuts. - An external financing gap averaging around US$25 million a year, arising from adjustment and financing needed to maintain gross reserves to the equivalent of three months of prospective nonmining-related imports. ### Fiscal policy: assessments and recommendations - Immediate fiscal priorities: - Pursue a cohesive strategy to ease the cash constraint, including possible new budget support. - Cuts in recurrent spending were supported by staff, given unchecked recent growth; but staff noted a rollback in development outlays could be destabilizing. - Raise the taxable price of logs, scale back new parliamentary entitlements, and further reduce nonessential recurrent spending (including government travel). - Apply carryover restraints in 2010 and pursue further budget support to build minimal cash reserves and regularize budgetary operations. - 2010 budget stance: - Staff urged targeting an overall surplus of at least 1½–2 percent of GDP in the 2010 budget. - Under current policies and based on existing donor commitments, staff projected the overall surplus would likely reach only around 0.8 percent of GDP in 2010. - High risk of cash shortages in the upcoming fiscal year, necessitating tighter control on nonessential recurrent spending to avoid crowding out government-funded development spending. - Revenue measures and administration: - Expand the tax base, curtail exemptions, and improve tax and customs administration. - Inland Revenue priorities: expand taxpayer registration and further reduce tax arrears; acknowledge need for more resources for auditing and record keeping. - Consider a value-added tax over time to expand revenue and ease burden on final producers from the existing GST. - Customs administration priorities: reductions in discretionary exemptions, strengthen inspection procedures, implement WTO valuations, and introduce post-clearance audits. - A Customs Valuation Bill approved in August 2009 is expected to support these efforts, in part by increasing penalties for evasion of duties. - Ensure an internationally accepted tax regime for the emerging mining sector; possible IMF technical assistance. - Fiscal framework and expenditure control: - Implement a medium-term budget framework targeting expenditure smoothing during the transition from logging to mining revenues. - Anchor the framework with a low to moderate overall surplus (including grants), given limited domestic financing and foreign financing constraints. - Strengthen cash management, budget integration, and accounting and audit functions. - Plans to formulate a cash flow forecasting model, fully implement new payroll and accounting systems, and integrate cash and debt management. - Ongoing government audits of line ministries’ accounts to strengthen accounting and internal control functions. - Develop a debt management strategy, centralized recording system, and proper accounting for treasury bills to facilitate future borrowing as conditions allow. - Specific quantified revenue implication: - By staff estimates, an increase in the determined price of logs by an average of US$25 per cubic meter could raise revenue by 1 percent of GDP a year. ### Debt sustainability - Debt position and risks: - Under the HCA framework, public debt has declined significantly in recent years, equivalent to 32 percent of GDP at end-2008. - The Debt Sustainability Analysis indicates the Solomon Islands would continue to face moderate risk of debt distress. - Under the baseline, all debt indicators are expected to remain below their policy-dependent indicative thresholds; however, the baseline assumes only modest new external support, which risks financing gaps and necessitates fiscal and external adjustment in the next few years. ### Medium-term fiscal outlook (Box 2 summary) - Recent fiscal performance was relatively strong but fiscal pressures emerged since 2008, creating a severe cash constraint. - Under the current baseline, potentially large budgetary financing gaps could emerge in the next several years even assuming modest resumption of external borrowing from 2011. - Donor commitments are expected to decline in real terms starting in 2010 under the current outlook. - Adjustment scenario: - Underpinned by a more robust policy framework with more ambitious tax measures and public financial management reforms. - Expected to draw additional donor assistance, including new budget support, and enable more aggressive external borrowing for development once fiscal and debt management strengthen. - Fiscal rules and flexibility: - Current rules restricting external and domestic borrowing have lowered debt service payments but may excessively constrain fiscal policy and automatic stabilizers. - As fiscal and debt management strengthens, consider more flexible rules anchored by a medium-term budget framework. - Options include a simple target limiting the fiscal deficit (excluding grants) or caps on major spending categories; a target on the fiscal balance excluding natural resource revenues may be an option. ### Monetary policy and exchange rate assessment - Monetary stance and instruments: - With inflation pressures subsiding, scope remained for monetary easing; the CBSI shifted to this bias earlier in 2009 via modest open market purchases and some exchange rate depreciation. - Given limited monetary instruments, banks’ limited government debt holdings, and an already moderate LAR, additional easing might come through foreign exchange operations. - Staff indicated such operations would likely necessitate greater day-to-day movement in the official exchange rate vis-à-vis the U.S. dollar, in part through widening the daily trading band, to help shore up reserves and address a sizable overvaluation of the Solomon Islands dollar. - Authorities noted banks were already required to sell foreign exchange to the CBSI under current net open limits; authorities were reluctant to make more fundamental moves due to concerns about market shallowness and effectiveness. - Operational improvements recommended: - Develop new instruments and strengthen the operational framework. - Issue short-term (e.g., 28-day) CBSI bills to provide banks with short-term obligations, improve liquidity management, and promote interbank activity. - Use SAF and better designed deposit facilities for temporary liquidity support. - Implement a liquidity monitoring framework and more effective use of instruments to facilitate a move toward quantitative targets. - Exchange rate assessment (Box 3 summary): - The exchange rate assessment points to a substantial overvaluation of the Solomon Islands dollar (SI$). - Nominal and real movements: - The SI$ depreciated by about 5 percent vis-à-vis the U.S. dollar in nominal terms between April 2008 and May 2009. - Over the same period through March 2009, the real effective exchange rate (REER) appreciated by about 25 percent. - Since April 2008 the SI$ has appreciated by 5, 10, and 20 percent against the euro, Australian dollar, and New Zealand dollar, respectively. - Valuation estimates: - Using the equilibrium REER approach, the REER is currently overvalued by about 26 percent. - Using a modified macroeconomic balance approach (VAR gauging REER impact on foreign reserves), results imply the SI$ is overvalued by around 20 percent—the adjustment needed to maintain official foreign reserves at three month’s coverage of prospective nonmining-related imports. - Historical evidence suggests exchange rate adjustment tends to have a larger impact on exports than on imports for the Solomon Islands; however, exchange rate adjustment cannot carry the full burden of adjustment and must be complemented by improvements in competitiveness (transportation infrastructure, lower operating and borrowing costs, streamlined business regulations). *IMF staff report excerpt as provided.* ### 17. Staff and the authorities agreed that the newly allocated SDRs by the IMF should be used to ### 17. Staff and the authorities agreed that the newly allocated SDRs by the IMF should be used to ### C. Financial Sector and Structural Issues - New prudential guidelines issued addressing capital adequacy, asset classification and provisioning, and large credit exposure; stipulations in the new Secured Transaction Act broaden the base of eligible collateral. - Banking sector has been very profitable in recent years, but: - Recent uptick in nonperforming loans (NPLs) and funding constraints suggest rising credit and liquidity risks.11 - Government’s weak cash position may be affecting borrowers’ ability to stay current with loans; staff urged close monitoring. - Rising banks’ funding costs and limited fee-based income could put profits under pressure, possibly limiting banks’ ability to provision for loan losses. - National Provident Fund (NPF): - Authorities agreed NPF should continue to be monitored closely in view of global financial conditions and the economic slowdown. - Staff urged NPF to proceed cautiously with diversifying its balance sheet—both onshore and offshore—given operating losses recently incurred on overseas investment. - Members’ use of own contributions as pledged collateral against real property needs close monitoring to ensure limited use to creditworthy borrowers. - State-owned enterprises (SOEs) and fiscal risks: - Longstanding financial difficulties of SOEs pose associated fiscal risks; staff urged swift action to commercialize their operations. - External audits of large SOEs’ financial accounts have been completed through 2007; audits of the 2008 and 2009 accounts are forthcoming. - Staff urged SOEs to proceed quickly into the strengthening phase of their reform program to improve record keeping, accounting and control standards, and corporate governance. - The Ministry of Finance and Treasury’s new SOE monitoring unit would play a key role in assessing progress and guiding privatization decisions over the medium term. - Investment climate and land issues: - A new Companies Act and Companies (Insolvency and Receivership) Act were approved in 2009 to streamline business formation and regulation. - A legal framework for investment in transportation infrastructure was established with the National Transport Fund Act enabling donors to set up funds for road and maritime projects. - The Solomon Islands completed its second World Trade Organization (WTO) Trade Policy Review in June 2009, noting progress in reducing the level and dispersion of most favored nation (MFN) applied tariffs, but highlighting the need to comply fully with WTO binding commitments and address discriminatory application of certain internal taxes. - Land reforms continue to proceed slowly: the Land Reform Unit (LRU), formed in 2007, has yet to become fully operational; the Tribal Land Bill has stalled following legal review and awaits redrafting by the LRU. ### V. STAFF APPRAISAL — Macroeconomic outlook - Global recession and depleted forestry reserves are weighing heavily on export earnings and growth prospects. - Little growth expected in 2009 and only modest recovery in the next few years; overall fiscal position and external current account could come under more strain, putting pressure on foreign reserves. - Over the medium term, new mining operations expected to come on stream by 2012 could improve the outlook, though uncertainty remains given previous production delays. - Sustained high growth requires: - Maintenance of macroeconomic stability. - Pursuit of structural, trade, and legal reforms to ensure better service delivery, reduce costs, and resolve land disputes. - Aiming to raise competitiveness and possibly attract new FDI in labor-intensive and export-rich activities, notably agriculture, fisheries, and tourism. ### Near-term risks - Risks expected to remain to the downside over the foreseeable future; main factors: - A prolonged global recession. - Delayed mining production. - Further policy slippages. - Failure to undertake necessary adjustment to address fiscal and external imbalances could undermine macroeconomic stability and investor confidence, undercut growth prospects, limit employment opportunities, and invite social unrest—possibly reversing recent security gains. - Upside factors: government capacity building, improved infrastructure, and streamlined investment regulations could provide added lift. ### Fiscal policy (near-term) - Sizable fiscal slippages likely in 2009, with risks of carryover into 2010 absent decisive measures. - Lack of cash is constraining effective fiscal operations. - Possible immediate relief measures: - Increasing the taxable price of logs. - Scaling back new parliamentary entitlements. - Further restraining nonessential recurrent spending, including in the 2010 budget. - More lasting efforts needed to address permanent loss in logging revenues and persistent weaknesses in cash and spending controls; current fiscal path is neither sustainable nor desirable, with existing limits on new borrowing expected to stay in place for some time. - Need to create more fiscal space for well-targeted, export-related, and employment-intensive development spending. ### Medium-term fiscal prospects - Ensuring a sustainable fiscal stance and effective budget operations hinges on: - Further broadening the revenue base. - Strengthening tax and customs administration. - Reducing tax exemptions. - Rolling back nonessential recurrent spending. - Managing civil service wage and employment growth closely. - Improving cash management, accounting, and audit functions. - These efforts may take some time; in the interim, more external assistance in the form of budget support may be essential to build a cash cushion, regularize budgetary operations, and provide impetus for lasting structural fiscal reforms and adjustment. ### Monetary policy - With liquidity conditions tightening and inflation pressures subsiding, a move towards a more accommodative monetary stance appears appropriate. - Given an already moderate LAR and limits on open market operations, further policy loosening could come principally through foreign exchange operations. - CBSI should take further steps to improve monetary policy effectiveness: - Use the new liquidity monitoring framework as a basis for developing a more flexible set of instruments and informing an appropriate choice of monetary targets. - Further refinement of standing facilities and issuance of short-term CBSI bills would help deepen interbank activity and improve banks’ liquidity management. ### Exchange rate policy and competitiveness - Taking account of recent and prospective external imbalances, greater exchange rate flexibility could help facilitate necessary adjustment to stem reserve losses. - Based on an updated assessment, the exchange rate appears to be substantially overvalued. - Under the current managed arrangement, more flexibility is needed vis-à-vis the U.S. dollar. - Recognizing limits in a small open economy, a more stable fiscal stance and stronger reform efforts are also necessary to strengthen external competitiveness and improve growth opportunities. ### Financial sector (appraisal) - Banking system appears well positioned to handle the slowdown in growth and associated rise in NPLs, given recent strong performance and CBSI oversight strengthening. - Signs of increasing liquidity and credit risks facing banks need close monitoring. - Complementary actions: - Tight enforcement by the CBSI of new prudential guidelines on capital adequacy, loan loss recognition, and large credit exposure to help safeguard the banking system during the current slowdown. - Ensure risk management controls are in line with parent bank operations. - Continue close monitoring of NPF operating losses in light of recent global financial turmoil. ### External assistance and Fund engagement - Development partners appear willing to provide new budget support given the near- to medium-term outlook, but recognize considerable risks in the current environment, especially in an election year. - The DSA points to a moderate risk of debt distress, with positive debt dynamics dependent on growth-inducing adjustment, new mining and export opportunities, and renewed access to concessional borrowing. - Staff is prepared to further discuss with the authorities possible modalities of support, including access to Fund financial resources. - Solomon Islands should continue to avail itself of PFTAC support to further strengthen macroeconomic management, statistical policy, and financial sector oversight. *Source: IMF staff report as provided in the content unit.* ### 30. It is recommended that the next Article IV consultation take place on the standard 12- ### _cr09309 - 30. It is recommended that the next Article IV consultation take place on the standard 12- ### Recommendation - It is recommended that the next Article IV consultation take place on the standard 12-month cycle. ### Growth and inflation (selected figures, 2004–10; projections in later tables) - Real GDP: 4.9, 5.4, 6.9, 10.7, 6.9, 0.4, 2.4 (years 2004–2010 series as presented) - CPI (period average): 6.9, 7.1, 11.1, 7.7, 17.2, 8.0, 7.0 - CPI (end of period): 7.4, 8.3, 9.9, 10.9, 17.5, 5.5, 8.4 - Per capita GDP (in US$): 815, 878, 945, 1,093, 1,266, 1,290, 1,351 ### Fiscal accounts (central government; percent of GDP, 2004–10) - Total revenue and grants: 33.5, 46.9, 47.3, 50.2, 48.9, 50.6, 51.9 - Revenue: 18.3, 21.0, 23.6, 26.8, 27.5, 27.6, 27.2 - Grants: 15.2, 25.9, 23.8, 23.4, 21.4, 23.1, 24.7 - Total expenditure: 27.6, 44.2, 45.6, 49.7, 47.3, 51.1, 51.1 - Recurrent expenditure: 15.5, 18.1, 22.0, 22.8, 23.8, 25.3, 24.2 - Development expenditure: 12.2, 26.1, 23.6, 26.9, 23.5, 25.8, 26.9 - Overall balance: 5.9, 2.7, 1.7, 0.5, 1.5, -0.4, 0.8 - Foreign financing (net): -0.2, 2.3, 1.6, 2.3, -1.6, -0.9, -0.8 - Domestic financing (net): -5.6, -1.4, -0.9, -1.4, 1.6, 0.9, -0.1 - Other 1/: -0.1, -3.6, -2.4, -1.4, -1.5, 0.4, 0.2 - Central government debt (percent of GDP, includes arrears): 61.5, 52.7, 57.1, 40.3, 31.8, 27.3, 24.0 - Domestic debt: 18.8, 16.6, 23.1, 12.6, 10.0, 8.5, 7.7 - External debt: 42.8, 36.0, 33.9, 27.6, 21.8, 18.8, 16.3 - Central government debt (end-period US$ millions): 160.0, 148.2, 154.8, 149.4, 135.5, 124.1, 115.2 ### Balance of payments and external sector (selected figures) - Current account balance (US$ millions, 2004–10 series): 61.1, -28.9, -29.4, -67.3, -120.0, -74.2, -130.7 - Current account (percent of GDP): 16.3, -7.0, -6.4, -12.4, -18.7, -11.1, -18.2 - Exports of goods and nonfactor services (GNFS) (US$ millions): 127.1, 138.7, 162.2, 215.0, 244.4, 209.5, 199.9 - Exports percentage change: 33.2, 9.1, 16.9, 32.5, 13.7, -14.3, -4.6 - Imports of GNFS (US$ millions): 107.9, 173.3, 241.6, 330.5, 374.1, 370.1, 424.3 - Imports percentage change: 30.3, 60.6, 39.4, 36.8, 13.2, -1.1, 14.6 - Overall balance (US$ millions): 43.4, 16.0, 10.5, 16.6, -27.1, -1.8, -25.1 - Gross official reserves (US$ millions, end of period): 79.5, 94.6, 104.4, 120.6, 90.1, 88.3, 63.2 - In months of next year's imports of GNFS: 5.5, 4.7, 3.8, 3.9, 2.9, 2.5, 1.7 - Exchange rate (SI$/US$, end of period): 7.5, 17.5, 87.6, 27.6, 68.0, 8.0, 6.0 (as presented) - Real effective exchange rate (period average, 2005 = 100): 97.0, 100.0, 107.5, 106.4, 115.9 (series presented) - Table 2 (2007–14, selected): Current account balance (US$ millions) -67.3, -120.0, -74.2, -130.7, -174.8, -136.5, -129.6, -262.4 - In percent of GDP: -12.4, -18.7, -11.1, -18.2, -22.4, -15.2, -12.9, -24.2 - Trade balance for goods (US$ millions): -75.0, -65.4, -97.6, -162.9, -195.5, -132.5, -96.0, -212.6 - Exports (US$ millions): 159.6, 196.8, 160.0, 145.2, 135.0, 214.7, 263.7, 266.3 - Of which: Logs: 100.2, 110.3, 80.2, 60.0, 45.2, 36.5, 22.2, 13.8 - Fish: 20.6, 24.1, 24.2, 24.9, 24.8, 24.8, 24.8, 25.4 - Minerals: 0.8, 3.1, 3.4, 3.7, 4.0, 84.4, 143.1, 146.8 - Imports (US$ millions): -234.6, -262.2, -257.6, -308.0, -330.6, -347.1, -359.7, -478.9 - Current transfers balance (US$ millions): 85.7, 104.7, 138.6, 157.8, 155.0, 144.7, 135.3, 126.7 - Financial account balance (US$ millions): 61.4, 77.3, 60.8, 90.8, 141.3, 138.8, 140.5, 323.6 - Direct investment balance (US$ millions): 56.9, 86.0, 67.6, 107.4, 148.8, 144.2, 144.2, 325.0 - Gross official foreign reserves (US$ millions): 120.6, 90.1, 88.3, 63.2, 45.9, 64.7, 93.8, 176.6 - Gross external debt (percent of GDP): 32.1, 25.4, 22.2, 19.4, 17.7, 15.5, 14.1, 13.3 - Nominal GDP (US$ millions): 541.1, 641.8, 668.4, 717.1, 779.8, 895.5, 1,001.7, 1,085.7 ### Fiscal tables (SI$ millions; selected 2004–10 and projections) - Total revenue and grants (SI$ millions): 941, 1,461, 1,645, 2,078, 2,429, 2,786, 2,746, 3,098 (years shown) - Total revenue (SI$ millions): 514, 654, 819, 1,111, 1,366, 1,641, 1,496, 1,625 - Tax revenue: 462, 556, 679, 931, 1,197, 1,429, 1,283, 1,391 - Income and profits: 148, 184, 221, 297, 446, 488, 465, 494 - Goods and services: 164, 200, 237, 341, 427, 578, 464, 501 - International trade and transactions: 150, 173, 221, 292, 324, 363, 355, 397 - Of which: Tax on logging: 66, 85, 130, 179, 205, 192, 181, 147 - Other revenue: 52, 98, 140, 180, 168, 122, 123, 133 - Grants (SI$ millions): 427, 807, 826, 967, 1,064, 1,145, 1,251, 1,474 - Development grants - Identified: 340, 767, 751, 939, 954, 1,044, 1,150, 1,336 - Expenditure (SI$ millions): 776, 1,378, 1,585, 2,059, 2,354, 2,776, 2,769, 3,050 - Recurrent expenditure: 434, 564, 764, 946, 1,184, 1,441, 1,373, 1,443 - Compensation of employees: 173, 233, 250, 359, 453, 562, 512, 538 - Development expenditure: 342, 814, 821, 1,113, 1,170, 1,336, 1,396, 1,608 - Current balance (SI$ millions): 167, 130, 130, 194, 291, 301, 224, 320 - Overall balance (SI$ millions): 165, 83, 60, 19, 75, -92, 3, -48 - Total financing (SI$ millions): -165, -83, -60, -19, -75, -92, -3, -48 ### Banking system and monetary accounts (summary, 2005–09; SI$ millions) - Central Bank of Solomon Islands (CBSI) net foreign assets (NFA): 715, 794, 923, 716, 663, 798, 606 - Reserve money (end-period SI$ millions): 452, 480, 463, 440, 417, 392, 396 - Currency in circulation: 157, 187, 245, 273, 239, 253, 267 - Bank deposits at CBSI: 295, 287, 212, 165, 177, 138, 127 - Commercial banks: Reserves 310, 313, 244, 188, 196, 159, 150; Deposits 742, 944, 1,151, 1,213, 1,224, 1,267, 1,298 - Broad money (M3): 885, 1,115, 1,375, 1,470, 1,449, 1,505, 1,593 - Credit to the private sector (annual percentage change): 8.5, 58.4, 58.6, 53.3, 26.5, 6.0, ... - Broad money growth (annual percentage change): 37.1, 25.9, 23.3, 6.9, 5.8, 10.0, 8.4 - Reserve money (annual percentage change): 19.6, 6.2, -3.5, -5.0, -6.0, 6.6, -10.1 - Interest rates (percent per annum): Deposit rate (Mar./Jun./Dec. 2009): 0.7, 0.7, 0.7, 2.0, 4.1, 4.2, ...; Lending rate: 14.0, 13.8, 14.2, 17.0, 15.3, 15.3, ... ### Medium-term baseline and projections (2008–14 and extended scenarios) - Selected headline projections (2008 Est.; 2009 Proj.; 2010–14 Proj.): - Real GDP (percent change): 6.9, 0.4, 4.9, 6.3, 5.6, 4.6 - Nontimber and nonmining: 7.1, 3.7, 4.3, 4.3, 4.5, 4.6 - CPI (period average, percent): 17.2, 8.0, 6.5, 5.7, 5.0, 4.5 - Per capita GDP (nominal US$): 1,266, 1,290, 1,612, 2,488, 4,100, 5,140 - Central government operations (percent of GDP): - Total revenue and grants: 48.9, 50.6, 45.4, 34.4, 29.7, 28.8 - Total revenue excluding grants: 27.5, 27.6, 21.6, 26.4, 27.2, 27.6 - Total expenditure: 47.3, 51.1, 45.5, 35.2, 31.0, 30.3 - Development expenditure: 23.5, 25.8, 23.0, 14.0, 9.8, 8.9 - Overall balance: 1.5, -0.4, 0.0, -0.8, -1.3, -1.6 - Overall balance excluding grants: -19.9, -23.5, -19.3, -8.8, -3.8, -2.7 - Balance of payments (US$ millions): Current account -120.0, -74.2, -166.8, -208.5, -149.5, -193.3 - Current account (percent of GDP): -18.7, -11.1, -18.6, -14.6, -5.0, -4.8 - Gross official reserves (US$ millions, end period): 90.1, 88.3, 88.8, 69.8, 65.0, 524.8, 6. (as presented) - In months of projected imports of GNFS: 2.9, 2.5, 1.8, 11.9, 6.4, 3.4 ### Debt sustainability assessment (Joint IMF/World Bank DSA, September 21, 2009) - Classification and summary: - The Solomon Islands remains classified as being at medium risk of debt distress under the LIC DSA. - Under the baseline, all debt indicators are below their policy-dependent indicative thresholds and are expected to remain so over the medium and long term. - Several stress tests result in a substantial increase in the debt burden and cause some indicators to rise significantly above their thresholds. - Key debt stock figures (end-2008): - Total public debt: US$200 million (including arrears and public credit guarantees), equivalent to 32 percent of GDP. - Total external debt (end-2008): US$160 million, or 25 percent of GDP. - Public external debt accounted for over 85 percent of total external debt. - Major external creditors (shares of total public external debt, end-2008): AsDB ~40 percent; World Bank Group’s IDA ~30 percent. - Historical context and recent developments: - The overall level of public debt declined significantly in recent years. - Debt situation improved substantially in 2007 following a rescheduling agreement under the Honiara Club Agreement (HCA). - Total public debt (share of GDP) declined from 57 percent in 2006 to 40 percent in 2007. - Arrears to external creditors were settled and external debt obligations are being serviced regularly. - Structural and policy considerations: - Given past debt problems and uncertain growth prospects, the government will need to proceed cautiously with new borrowing over the medium to long term. - The potential dependence on mining as a main driver of growth highlights the need to improve the investment climate and business environment to raise productivity in other sectors and broaden the production base. *Source: International Monetary Fund and The International Development Association, Joint IMF/World Bank Debt Sustainability Analysis 2009 (Solomon Islands), tables and text as provided.* ### 3. The baseline scenario encompasses current policies. The government is assumed to ### _cr09309 - 3. The baseline scenario encompasses current policies. The government is assumed to ### Baseline scenario overview - The baseline encompasses current policies with moderate policy adjustments on both macroeconomic and structural fronts. - Fiscal stance constrained by: - slow growth recovery, - weak cash position, - limited borrowing capacity. - Result: sizable compression in government spending over the next few years; even with large expenditure cuts (as a share of GDP) the government’s cash position would remain extremely tight, requiring strict fiscal discipline and treasury management to ensure proper budget execution and avoid spending arrears. - Key assumption: gold and nickel mining exports will start in 2012 and 2015, respectively, boosting medium-term growth prospects and buttressing official foreign reserves. ### External Debt Sustainability — Baseline findings - Under the baseline, all external debt indicators remain below the indicative policy-dependent debt burden thresholds. - Modest new external borrowing is assumed to start in 2011; indicators decline moderately over the medium term led by steady repayment of existing debt and stabilize over the long term at about half of current levels (Table 1a). ### External Debt Sustainability — Alternative scenarios and stress tests - Several thresholds breached under the historical scenario and a few stress tests: - The present value (PV) of debt-to-GDP ratio, debt-to-exports ratio, and debt-to-revenue ratio: - Under the historical scenario, the PVs of debt-to-GDP ratio and debt-to-exports ratio exceed the thresholds. - Among bound tests, two result in significant increases in debt burden indicators — the shock to net nondebt creating flows and the combined shock to growth, exports, deflators, and these flows — surpassing the policy-dependent thresholds over the near to medium term (Table 1b). - Debt service-to-exports ratio and debt service-to-revenue ratio: - Under all scenarios and stress tests, these indicators stay below the policy-dependent thresholds, supported by the relatively high concessionality of public external borrowing. - Results are highly sensitive to expected large FDI inflows in 2010 and 2011 associated with new mining and telecommunications operations. ### Box 1 — Main assumptions in the baseline scenario - Growth and sectoral assumptions: - Real GDP growth projected to average around 5 percent during 2010 to 2014. - Logging activity projected to decline sharply over the medium term due to depleted timber reserves. - New large gold and nickel mining operations assumed to commence production in 2012 and 2015, respectively. - Inflation: - Expected to average 6½ percent a year during 2010 to 2014, declining to about 5 percent in the longer term. - Fiscal position: - Overall fiscal position projected to run a small deficit, on average, during 2010 to 2014. - Falling revenue (as a share of GDP), a weak cash position, and limited capacity to borrow drive the deficit. - External grants expected to fall in real terms; recurrent spending likely to be compressed significantly to maintain a positive cash balance and avoid expenditure arrears. - Direct impact of new mining-related revenues assumed to be relatively low (below 1 percent of GDP), given no firm agreement on the tax regime. - Current account and reserves: - Current account deficit expected to widen sharply over the medium term due to rapid decline in logging exports and large projected mining-related imports supported by FDI. - Deficit expected to peak at about 25 percent of GDP in 2016, narrow temporarily in 2012 and 2013 when gold export receipts start, and in the long run stabilize at about 5 percent to GDP. - Reserve cover would fall to the equivalent 1.2 months of prospective imports coverage in 2011, then reverse, but fall below the three-month threshold for most of the projection period again by 2028. - New borrowing and aid: - Government assumed to maintain policy of no new borrowing for recurrent expenditure. - Starting in 2011, modest external borrowing for development expenditure assumed to restart. - Authorities expected to pursue a high grant element in new external borrowing in keeping with the spirit of the Honiara Club Agreement (HCA). - Aid inflows decline moderately over the medium term; FDI from mining sector expected to increase significantly. - Project-specific assumptions (footnote): - Gold: Australian Solomons Gold Limited consortium investing around US$150 million to restart Gold Ridge mine; proven reserves around 800,000 troy ounces; assumed to operate during 2012 to 2018. - Nickel: Sumitomo Metal Mining Company expected to invest around US$2 billion; mine assumed to produce from 2015 onwards, with annual production reaching around 30,000 tons (55 percent purity). ### Country-specific scenarios - Higher-case scenario (Table 3a): - Fiscal stance underpinned by more robust policy framework; revenue growth higher than baseline. - Expenditure levels (as a share of GDP) exceed baseline, aided by additional donor budget support. - More stable fiscal position allows government to build cash reserves; growth prospects improve partly due to higher development spending. - Over time, greater external borrowing by government and private sector expected; external debt (total and public) expected to rise above baseline, mainly due to greater capacity to borrow. - Lower-case scenario (Table 4a): - Assumptions: gold production start delayed by two years to 2014; large nickel mining operations expected to start in 2015 do not materialize. - Lower GDP growth, smaller export earnings, larger fiscal deficits; government capacity to borrow abroad constrained, leading to greater domestic borrowing. - Potential crowding out of private sector and further dampening of growth. - Reserve cover would rise initially with gold exports, but fall subsequently after end of production; assuming moderate nonmining export growth, reserve cover around 1.5 months of import coverage by 2029. ### Public Sector Debt Sustainability — Baseline findings - Total public debt expected to decline steadily over medium and long term. - Debt-to-GDP ratio projected to halve to 16 percent of GDP in 2014 from 32 percent of GDP in 2008. - Some debt indicators remain relatively high: - The PV of public sector debt to revenue (excluding grants) would stay above 40 percent through 2014. ### Public Sector Debt Sustainability — Alternative scenarios and stress tests - Debt dynamics subject to substantial risks; lower GDP growth significantly inflates debt indicators such as PVs of debt-to-GDP ratio and debt-to-revenue ratio, particularly in the longer term. - The first bound test (temporary but significant decline in GDP growth) corresponds to the most extreme shock due to combined effects of low expected growth in 2010 and 2011 and very large standard deviations in historical growth averages. - Under the higher-case scenario (Table 3b), despite higher external public borrowing for development expenditure, public debt is lower than in the baseline because of a smaller need for domestic financing due to stronger fiscal balances. - Under the lower-case scenario (Table 4b), public debt burden is substantially higher due to larger fiscal deficits and lower nominal GDP over medium and long term. ### Conclusion and policy implications - The Solomon Islands face a moderate risk of debt distress. - Under the baseline, no thresholds are breached, but several thresholds are breached under stress tests, indicating vulnerability to shocks: - External DSA sensitive to net nondebt creating flows and the combined shock. - Public sector DSA sensitive to a temporary growth shock. - Balance of risks is to the downside. - Weak government finances point to the need for further fiscal adjustment and exceptional financing. - Delays in developing the mining sector could: - Intensify dependence on traditional sectors, - Reduce potential growth and pace of poverty reduction, - Jeopardize fiscal and external sustainability. *IMF staff report content as provided in the source PDF.* ### 11. Considering past debt problems and uncertain growth prospects, the ### _cr09309 - 11. Considering past debt problems and uncertain growth prospects, the ### Policy conclusion and recommendations - Considering past debt problems and uncertain growth prospects, the government of the Solomon Islands will need proceed cautiously with new borrowing over the medium to long term, concentrating on productive development outlays—notably growth-enhancing infrastructure. - Given current vulnerabilities and the near to medium-term outlook, policies will need to be put in place to strengthen underlying fiscal and external positions, supported by additional external assistance. ### Key public and external debt indicators and projections (selected) - External debt (nominal) 1/: - 2006: 39.4 - 2007: 32.1 - 2008: 25.4 - 2009: 22.2 - 2010: 19.4 - 2011: 17.7 - 2012: 15.5 - 2013: 14.1 - 2014: 13.3 - 2019: 10.6 - 2029: 9.2 - Of which: public and publicly guaranteed (PPG) external debt: - 2006: 33.9 - 2007: 27.6 - 2008: 21.8 - 2009: 18.8 - 2010: 16.3 - 2011: 14.8 - 2012: 13.0 - 2013: 11.9 - 2014: 11.2 - 2019: 9.0 - 2029: 7.9 - PV of PPG external debt (selected series): - 2019: 22.2 - 2029: 16.6 - subsequent entries in that series: 14.6, 12.7, 11.3, 9.7, 8.6, 7.9, 6.3, 5.8 - Debt service and ratios (selected): - Debt service-to-exports ratio (in percent) series: 3.5, 6.4, 10.3, 11.1, 10.3, 10.4, 7.0, 5.8, 5.6, 3.4, 2.6 - PPG debt service-to-exports ratio (in percent) series: 2.5, 5.8, 6.0, 6.3, 5.2, 5.2, 3.4, 2.7, 2.6, 1.3, 1.0 - PPG debt service-to-revenue ratio (in percent) series: 3.8, 8.6, 8.4, 7.1, 5.4, 5.0, 4.1, 3.6, 3.2, 1.6, 1.1 - Total gross financing need (millions of U.S. dollars) (selected): 8.6, 22.9, 55.6, 28.8, 42.8, 45.4, 10.9, 3.9, -44.3, 103.0, 80.8 - Noninterest current account deficit that stabilizes debt ratio (selected): 8.6, 18.9, 24.6, 13.8, 20.6, 23.7, 17.1, 14.1, 24.7, 7.6, 4.6 ### Macroeconomic assumptions underlying the projections (selected) - Real GDP growth (in percent) series (multiple-year sequence presented in source): - 6.9, 10.7, 6.9, 1.0, 7.6, 0.4, 2.4, 2.8, 8.8, 6.5, 3.7, 4.1, 2.8, 4.6, 5.8 - GDP deflator in US dollar terms (change in percent) series (selected): - 3.2, 7.0, 10.9, 0.7, 9.1, 3.7, 4.8, 5.8, 5.5, 5.0, 4.5, 4.9, 3.5, 2.1, 3.1 - Effective interest rate (percent) series (selected): - 1.5, 2.5, 3.3, 3.8, 5.5, 2.0, 2.0, 2.0, 2.0, 2.0, 1.9, 2.0, 2.0, 2.3, 2.1 - Growth of exports of G&S (US dollar terms, in percent) (selected): - 16.9, 32.5, 13.7, 2.4, 26.8, -14.3, -4.6, -2.7, 44.0, 19.8, 2.3, 7.4, -4.0, 6.0, 9.8 - Growth of imports of G&S (US dollar terms, in percent) (selected): - 39.4, 36.8, 13.2, 5.8, 33.1, -1.1, 14.6, 6.3, 5.2, 4.0, 26.0, 9.2, 4.8, 6.5, 5.5 - Grant element of new public sector borrowing (in percent) (selected presentation in source): - 52.2 (repeated entries), 30.7, 30.7, 30.7 - Government revenues (excluding grants, in percent of GDP) (selected): - 23.6, 26.8, 27.5, 27.6, 27.2, 26.1, 25.9, 25.5, 25.8, 26.8, 27.6, 26.9 ### Scenario and sensitivity testing (high-level) - The analysis includes baseline, high-case, low-case, and multiple bound tests (e.g., shocks to real GDP growth, export value growth, U.S. dollar GDP deflator, net nondebt creating flows, a one-time 30 percent nominal depreciation), with tables reporting indicator outcomes under each scenario. - Examples of DSA sensitivity output categories shown in the source include: - PV of debt-to-GDP ratio - PV of debt-to-exports ratio - PV of debt-to-revenue ratio - Debt service-to-exports ratio - Debt service-to-revenue ratio - Bound tests identify the most extreme stress test as “the test (among the various bound tests) that yields the highest ratio in 2019.” In many figures, this corresponds to a combination shock. ### Analytical notes and constraints in the projections - The DSA exercise was conducted jointly with the World Bank. - PV calculations assume that PV of private sector debt is equivalent to its face value. - Residuals are large in the latter half of the projection period, as reserves fluctuate mainly due to the large and volatile FDI from the nickel mining company. - Grant-equivalent financing includes grants provided directly to the government and through new borrowing (difference between the face value and the PV of new debt). - Aid flows are defined as grants, concessional loans, and debt relief; concessional loan disbursements in 2008 refer to disbursements from previous loans. *Source: IMF staff estimates and projections; Solomon Islands authorities (from the IMF Staff Report informational annex tables and figures).* ### ANNEX I. SOLOMON ISLANDS—FUND RELATIONS ### ANNEX I. SOLOMON ISLANDS—FUND RELATIONS (As of August 31, 2009) ### I. Membership - Status: Joined September 22, 1978; Article VIII ### II. General Resources Account - Quota: 10.40 SDR Million — 100.00 percent Quota - Fund holdings of currency: 9.85 SDR Million — 94.73 percent - Reserve position in the Fund: 0.55 SDR Million — 5.29 percent ### III. SDR Department - Net cumulative allocation: 8.36 SDR Million — 100.00 percent - Holdings: 7.72 SDR Million — 92.26 percent ### IV. Outstanding Purchases and Loans - None ### V. Latest Financial Arrangements - Stand-by - Approval Date: 6/22/1983 - Expiration Date: 6/21/1984 - Amount Approved: 2.40 SDR Million - Amount Drawn: 0.96 SDR Million ### VI. Projected Payments to Fund - (SDR Million; based on existing use of resources and present holdings of SDRs) - Charges/Interest and Total projected payments: - 2009: Charges/Interest 0.00; Total 0.00 - 2010: Charges/Interest 0.00; Total 0.00 - 2011: Charges/Interest 0.00; Total 0.00 - 2012: Charges/Interest 0.00; Total 0.00 - 2013: Charges/Interest 0.00; Total 0.00 ### VII. Implementation of HIPC Initiative - Not applicable. ### VIII. Implementation of MDRI Assistance - Not applicable. ### IX. Exchange Rate Arrangements - Since November 2000, the exchange rate for the Solomon Islands (SI) dollar has been based on a trade-weighted basket of its major trading partners’ currencies, with the U.S. dollar as the intervention currency. - The Solomon Islands maintains an exchange system that is free of restrictions on the making of payments and transfers for current international transactions. ### X. Last Article IV Consultation - The 2008 Article IV Consultation discussions were held in Honiara during July 16–25, 2008. - The staff report (IMF Country Report No. 08/358) was considered by the Executive Board and the consultation concluded on October 20, 2008. ### XI. Technical Assistance (selected missions and purposes) - January 2005 — PFTAC — Financial reporting system - February 2005 — PFTAC — Financial supervision of insurance - April 2005 — PFTAC — Financial supervision - May, August, and October 2005; and February 2006 — MFD — Financial supervision of insurance - May 2005 — PFTAC — Tax policy and administration - August 2005 — MFD — Reserve management - August 2005, February and April 2006 — PFTAC — Statistics - September 2005 and February 2006 — PFTAC — AML/CFT - October 2005 — LEG — AML/CFT - November 2005 and July 2005 — STA — Monetary and Financial Statistics - January 2006 — PFTAC and LEG — Tax policy - April and June 2006 — MFD — Central Bank Accounting - May, August, and October 2006 and January 2007 — PFTAC — Public Financial Management and Accounting - October 2006 — MCM — TA program monitoring - October 2006 — MCM — Financial sector supervision - October 2006 — MCM — Reserve Management - December 2006 — PFTAC — Business Revenue Reform - February 2007 — PFTAC — Balance of Payments Statistics - February and November 2007 and May 2008 — PFTAC — National Income Accounts - March 2007 and March 2008 — MCM — Accounting - February 2008–February 2009 — STA — Peripatetic Export on Import Price Index Statistics - February–March 2008 — PFTAC and FAD — Tax Policy - April 2008 and February 2009 — PFTAC — Balance of Payments Statistics - June 2008 — LEG — Review of Central Bank Act - April 2008–April 2009 — MCM — Peripatetic Advisor to CBSI - June and September 2008 and June 2009 — MCM — Monetary Operations and Liquidity Management - July 2008 — STA — Money and Banking Statistics ### XII. Resident Representative - None *ANNEX II: SOLOMON ISLANDS—SUPPORT FROM THE PACIFIC FINANCIAL TECHNICAL ASSISTANCE CENTER (PFTAC)* ### PFTAC focus areas and recent support - Tax policy and administration: - PFTAC mission in December 2006 and follow-up visit in May 2007 assisted in preparing a project plan for implementing business revenue reform. - Joint FAD-PFTAC regional mission February–March 2008 recommended strategies for addressing future revenue needs; follow-up visit in May 2008. - Government revenue policy remains to be finalized. - Bank supervision and examination: - October 2008 PFTAC mission reviewed implementation of Basel I by the Central Bank of Solomon Islands (CBSI) and regulatory reporting requirements. - February 2009 follow-up mission completed review and revised reporting requirements. - Assistance and training provided on regulatory enforcement actions and on-site examination of the National Provident Fund. - Planned additional visits to strengthen off-site monitoring through formalized output analysis reports from new regulatory reporting forms. - Planned support for an IT expert in August 2009 to assess CBSI computer needs and reconfigure the current FRE\D database to accommodate new regulatory reporting requirements and forms. - Statistical issues: - July 2007 MFS mission assisted CBSI in moving towards MFS Manual 2000 reporting standards. - During a two-year period ending February 2009, a PFTAC statistics advisor and short-term experts undertook eight visits to assist with balance of payments statistics, import prices statistics, and national accounts statistics. - Constant price GDP estimates rebased to 2004 prices. - Follow-up mission on national accounts statistics planned for February 2010. *ANNEX III: SOLOMON ISLANDS—RELATIONS WITH THE WORLD BANK GROUP (As of August 2009)* ### Membership and financing - Member since 1978. - Received 11 IDA operations totaling US$63.4 million (education and health, roads and rural development, energy, and a structural adjustment credit). - Following repayment of all outstanding arrears in 2003, emerged from nonaccrual status. - Qualifies for grant funding under the IDA Debt Sustainability Framework and is eligible for an IDA15 allocation of US$9.8 million. ### Current WBG strategic orientation - Activities addressed under the Regional Engagement Framework FY06–FY09; a joint stand-alone Interim Strategy Note for FY10–12 is being prepared. - Opening of a WBG country office in 2008, together with AsDB, signals increased commitment. ### Principal Bank activities and programs - Energy: - Sustainable Energy Project: IDA14 grant of US$4.0 million to support commercialization and operational improvements of the Solomon Islands Electricity Authority. - Tina River Hydropower project (under preparation): expected Bank contribution in the form of a partial risk guarantee based on US$4 million in IDA resources. - Regional Sustainable Energy Finance Project: US$0.5 million in loan guarantees for household sustainable energy systems implemented by CBSI. - Telecommunications: - Technical assistance to examine ways to improve competitiveness, reduce costs, and improve service coverage outside Honiara. - Proposed US$3.8 million IDA operation to: (i) assist transition from monopoly to competition; (ii) establish a regulator; (iii) assist in implementing a sustainable, self-financing connectivity program for rural and remote areas. - Board consideration anticipated for end 2009. - Rural development: - Rural Development Program (RDP) launched February 2008, initially in four provinces, with expected expansion in 2010. - Implemented by the Ministry of Development Planning and Aid Coordination; aims include community grants for services and infrastructure, strengthening Ministry of Agriculture and Livelihoods extension capacity, and supporting rural business development. - Approved September 2007; total project financing approximately US$21.8 million (IDA grant US$3.2 million; EC grant US$10.1 million; AusAID grant US$ 6.6 million). - Health: - Health Sector Support Technical Assistance Program approved March 2008 with an IDA grant of US$1.2 million to complement AusAID Health Sector Support Program SWAp. - Focus areas: public expenditure management and medium-term planning at the provincial level; sector performance monitoring; training and capacity building. - After initial delays, project activities expected to start in October 2009. - Economic analysis: - 2008 request for Bank and IFC support to identify revenue sources to replace anticipated decline in logging, which in 2008 accounted for 16 percent of GDP, 60 percent of exports, and 18 percent of government revenue. - Three-stream initiative: (i) Near and Medium-Term Growth Prospects to 2013; (ii) Long-Term Growth Prospects, 2013 and Beyond; (iii) case studies of customary land tenure. - First stream completed with preliminary findings presented in March 2009; second stream to be finalized in the latter half of 2009. - Public Expenditure Review (PER): - MoFT requested World Bank assistance to undertake a PER to improve public financial management (PFM) and respond to the PEFA conducted in late 2008. - PER seen as critical to maximizing development impact and rationalizing financial flows at provincial level. - Rapid Employment Program (REP): - Labor-based public-works program for Honiara and peri-urban settlements to provide employment, augment life skills and household incomes, and invest in maintenance of infrastructure assets. - Regulatory Simplification and Investment Policy and Promotion Project (RSIPP): - IFC Investment Climate Advisory Services fostering public–private dialogue to simplify business processes and improve investment climate. - Components: streamlining business startup and licensing; reducing time and cost of contract enforcement; improving investment promotion; expediting and making affordable land transfers; gender component to assess and reduce gender-based barriers. - IFC coordinating with AsDB on business licensing. - IFC Investments: - Considering substantial loan and equity positions in Gold Ridge mine (mining enterprise expected to resume production). - Project components: rehabilitation of processing plant and equipment; redevelopment of the mine and associated infrastructure costs. - IFC pursuing potential investments in sustainable agriculture and fisheries. *ANNEX IV: SOLOMON ISLANDS—RELATIONS WITH THE ASIAN DEVELOPMENT BANK (As of August 2009)* ### Historical financing and eligibility - Member since 1973. - Received 16 loans amounting to US$79.3 million, 9 grants amounting to US$53.6 million, and 61 TA projects amounting to US$18.3 million. - Eligible for Asian Development Fund (ADF) grants; AsDB approved ADF grants of US$5.0 million and US$14.0 million in 2007 and 2008, respectively. - 2007–08 ADF allocations catalyzed cofinancing from Australia, New Zealand, the European Commission, and RAMSI. ### Strategy and current policy stance - Country assistance strategy seeks to reduce poverty by promoting equitable private-sector-led economic growth through improved transportation infrastructure and a stronger business-enabling environment. - Interim Country Partnership Strategy (2009–11) being prepared for approval in September 2009. - Capacity development and promotion of good governance are guiding priorities. - In light of global economic turbulences, AsDB is adjusting operations to mitigate impacts through analytical support and design/delivery adjustments to increase local content. - Assistance currently provided entirely on a grant basis; no new lending until public finances stabilize (in line with government policy). ### Priority sectors and projects - Transport infrastructure: - Institutional strengthening of the Ministry of Infrastructure Development. - Investment projects (all grant funded): Emergency Assistance Project (2007 earthquake and tsunami) rebuilding roads, bridges, wharves, and water supplies; Solomon Islands Road Improvement Project; Domestic Maritime Support Sector Project (franchise shipping scheme and construction of selected wharves). - Transport sector development project being prepared for approval in 2010. - Private sector development: - Business law reform, public enterprise reform, access to finance. - Interventions: modernization of company registry; establishment of secured transactions registry; selected SOE reform, privatization, and PPP support. - Complementary to reforms including the passing in March 2009 of the new Companies Act and Companies (Insolvency and Receiverships) Act. ### Financial summary (1999–2007) — selected figures - Cumulative loan amount approved (as of end-of-year): 79.31 (reported repeatedly across years) - Cumulative net effective loans (as of end-of-year): 54.30, 64.05, 64.83, 65.87, 66.31, 79.31, 79.31, 79.31, 79.31 (year-by-year entries as presented) - Cumulative disbursements (as of end-of-year): 54.07, 54.07, 54.07, 54.30, 55.16, 57.91, 62.00, 65.75, 65.82 - Loan disbursements line-item (selected): 0.00 0.00 0.00 0.00 0.89 2.76 4.09 3.75 0.07 ### Administration - Pacific Liaison and Coordination Office in Sydney responsible for country programming, project implementation, and administration, supported by the Pacific Operations Division in Manila. - Contact person: Eugenue Zhukov, Regional Director, Pacific Liaison and Cooperation Office, AsDB Sydney (ezhukov@adb.org). *Compiled from ANNEXES I–IV: SOLOMON ISLANDS—FUND RELATIONS and associated annexes (As of August 31, 2009).* ### ANNEX V. SOLOMON ISLANDS––STATISTICAL ISSUES ### ANNEX V. SOLOMON ISLANDS––STATISTICAL ISSUES (As of September 1, 2009) ### I. Assessment of Data Adequacy for Surveillance - General: Data provision has some shortcomings, but is broadly adequate for surveillance. - National Accounts: - Recent TA from the Pacific Financial Technical Assistance Center led to improvements in constant and current price GDP estimates. - Revised estimates have been produced for 2005 to 2007, but await final analysis before being published. - GDP estimates produced by the National Statistical Office differ from those used by the Central Bank of Solomon Islands (CBSI). - No official expenditure-based GDP estimates are published. - A census survey, which will be a basis of future GDP estimates, is scheduled to be completed later this year. - Limited employment data available from the National Provident Fund; wage data are not compiled. - Authorities plan to conduct a Labor Force Survey in 2011. - Price statistics: - A monthly consumer price index (CPI) is produced with a short lag (about a month), but covers only the capital Honiara. - CPI weights were revised in 2007 based on the 2005–06 Household Income and Expenditure Survey. - Authorities plan to compile a nationwide CPI and have compiled a list of goods for the basket; timing is unclear due to lack of funds. - TA provided on developing an import price index; little progress due to resource constraints. - Government finance statistics: - Annual fiscal data are prepared for the central government only; they do not cover provincial governments. - Tentative monthly revenue and expenditure data are available but generally not consistent with annual statistics. - Authorities started collecting donor grant disbursement information in 2006. - Public debt data quality improved recently through better coordination between the Ministry of Finance and Treasury and the CBSI. - Major state-owned enterprises’ financial accounts have been produced for the first time up to 2007; accounts for 2008 expected by late 2009. - Monetary and financial statistics: - CBSI publishes monthly MFS in summary form and provides more detailed data in quarterly and annual reports. - An integrated monetary database is operational as a result of IMF Statistics Department TA; MFS are reported to the Fund using SRFs. - A follow-up mission is scheduled for January 2010 to derive the SRFs for other depository corporations and other financial corporations based on a soon-to-be introduced call report form. - External sector statistics: - CBSI has compiled quarterly balance of payment statistics (BPS) using its own survey since 2006. - The new BPS method improved coverage and data accuracy compared to prior foreign exchange transaction–based method. - Quarterly BPS have not yet been reported to the IMF's Statistics Department; only annual BOP data are available in the Balance of Payments Statistics Yearbook up to 2006. ### II. Data Standards and Quality - Solomon Islands does not participate in the General Data Dissemination System (GDDS). - No data ROSC available. ### III. Reporting to STA (Optional) - No data are currently reported to STA for publication in the Government Finance Statistics. ### Solomon Islands: Table of Common Indicators Required for Surveillance (As of September 1, 2009) — Key dates and frequencies - Exchange Rates: Date of latest observation 31/07/09; Date received 18/08/09; Frequency of Data D; Frequency of Reporting M; Frequency of Publication M. - International Reserve Assets and Reserve Liabilities of the Monetary Authorities/1: Date of latest observation 30/06/09; Date received 24/07/09; Frequency of Data W; Frequency of Reporting M; Frequency of Publication Q. - Reserve/Base Money: 30/06/09; 24/07/09; M; M; M. - Broad Money: 30/06/09; 24/07/09; M; M; M. - Central Bank Balance Sheet: 30/06/09; 24/07/09; M; M; Q. - Consolidated Balance Sheet of the Banking System: 30/06/09; 24/07/09; M; M; Q. - Interest Rates/2: 30/06/09; 24/07/09; W; M; Q. - Consumer Price Index: 30/06/09; 21/07/09; M; M; M. - Revenue, Expenditure, Balance and Composition of Financing/3 – General Government/4: NA; NA; NA; NA; NA. - Revenue, Expenditure, Balance and Composition of Financing/3 – Central Government: 31/12/08; 23/07/09; A; A; A. - Stocks of Central Government and Central Government-Guaranteed Debt/5: 31/12/08; 20/07/09; A; A; A. - External Current Account Balance: 30/06/09; 24/07/09; Q; Q; Q. - Exports and Imports of Goods and Services: 30/06/09; 24/07/09; Q; Q; Q. - GDP/GNP: 31/12/08; 19/07/09; A; A; A. - Gross External Debt: 31/12/08; 20/07/09; A; A; A. - International Investment Position/6: 30/06/09; 24/07/09; Q; Q; Q. ### Statement by the IMF Staff Representative on the Solomon Islands (October 16, 2009) — Key updates and projections - The additional information does not change the thrust of the staff report. - Headline CPI was 3 percent year/year (y/y) in July, benefiting from the lagged effect of declining commodity prices. - Exports performed in line with staff expectations through August (imports not officially reported). Export receipts from logging activity increased slightly in July and August, but falling production during these months suggests export levels will likely decline going forward. - Fish and palm oil exports dropped more than anticipated; copra and cocoa exports performed as expected. - The Solomon Islands dollar has begun depreciating in real effective terms, mainly due to a weaker U.S. dollar vis-à-vis trading partners’ currencies. Nonetheless, owing to an earlier strengthening, the real effective exchange rate still appreciated by around 10 percent (y/y) through July 2009. - Gross foreign reserves were around US$125 million at end-September. - In addition to the Fund’s SDR allocation, the rise reflects foreign exchange sold to the Central Bank of Solomon Islands resulting from the sale offshore of a large loan by a major commercial bank to comply with liquidity requirements. - Staff now expect reserves at end‒2009 could be moderately higher than originally projected, but with the same declining trend still expected over the medium term. - Fiscal front: - Government continues to face a tight cash situation. - Overall revenue performance (through August) is slightly below expectations; expenditure pressures appear to have eased modestly. - Net claims on government by the banking system rose by SI$ 33 million in July and August as expected, mainly on account of a drawdown in deposits. - Monetary and credit: - Broad money growth is in line with the staff’s outlook for 2009. - Credit growth declined to 2.4 percent (y/y) in August, reflecting the general slowdown in economic activity. ### Statement by Hi-Su Lee, Executive Director for Solomon Islands and Raynold Moveni, Advisor to the Executive Director (October 16, 2009) - INTRODUCTION: - Authorities appreciate staff discussions and TA from development partners, PFTAC, the World Bank, and the Fund. - Solomon Islands is import-dependent comprising eight provinces over a vast ocean. - Strong recent growth reflected stable policy implementation and return in confidence; slowing external demand, remittances and investment have hit the economy and fiscal position. - Authorities tightened monetary conditions and took measures to address deteriorating fiscal position; request further donor support to preserve the social safety net. - Authorities value continued engagement with the Fund over the next 12 months. - ECONOMIC OVERVIEW: - The Solomon Islands’ economy grew by 6.9 percent in 2008. - Agriculture and forestry sectors contributed 17 percent and 16 percent to Solomon Islands GDP, respectively. - Authorities project growth of 1.1 percent for 2009; staff estimate 0.4 percent for 2009. - Both authorities and staff expect a slowdown in logging and ancillary activities to drag on growth. - Authorities consider an uptick in agriculture, tourism, and FDI-financed construction activities will lift growth in 2009 and 2010. - Headline inflation decelerated to 3 percent year-on-year in July 2009 after reaching 23.5 percent in September 2008. - External reserves increased from less than 3 months of imports to 4.8 months of import cover in September due to donor inflows, a recovery in log exports, and the SDR allocation. - POLICY ISSUES - Fiscal Policy — Findings, measures, and positions: - Fiscal performance broadly on track in the first half of 2008; revenues exceeded targets and expenditure growth slowed. - Global crisis led to sharp revenue falls and higher-than-budgeted recurrent spending. - Cost increases from utilities (energy) and sustaining government services drove recurrent spending overruns in 2008 and first half of 2009. - Authorities responded with higher budget allocations to utilities and provincial grants to prevent service disruption and potential destabilization. - A supplementary budget of around SI$70 million was passed to offset inflation effects on government service costs, address tsunami needs, and advance telecommunications structural reform. - Measures taken to stabilize fiscal situation include: - Spending re-prioritization. - Freezing public service hiring. - Imposition of a 25 percent reservation on recurrent “other charges” or on non-payroll charges excluding pensions and gratuities, and debt servicing. - Cap on discretionary revenue exemptions at 50 percent. - Increased excise on beer and tobacco. - Broadened excise on spirits to include wine, spirits and premix. - Increased duty on motor vehicles. - Increased vehicle licensing fees. - Directed all government ministries to collect all outstanding dues to the government. - Authorities note staff advice to scale back non-essential recurrent spending and parliamentary entitlements; authorities have sought a judicial review of parliamentary entitlements increases. - On staff recommendation to raise “the taxable price of logs” by “an average of US$25 per cubic meter” to raise revenue “by 1 percent of GDP a year,” authorities acknowledge rationale but cite past adverse outcomes (collusion, production cuts, layoffs, export holdbacks) and potential counter-productivity given current economic weakness and low foreign reserves. - Authorities encourage downstream processing; Kolombaraga Forest Products Limited cited as a sustainable forestry role model. - Staff singled out minimum wage increases as a factor driving recurrent costs up; 2007 legal minimum wage came into force on May 1, 2008. - Authorities indicate minimal impact on government finances because majority of civil servants’ wages exceed revised minimum. - Main contributors to public service remuneration increases were cost of living adjustments awards and hiring to fill unfunded positions based on public service establishments rather than budget allocations. - Authorities welcome staff recommendation to adopt an internationally-accepted tax regime for the emerging mining project and request Fund assistance given limited domestic resources and expertise. - Authorities aim to record a surplus budget in 2010 and are committed to strengthening revenue and expenditure measures and implementing further measures to enhance medium-term stability. - Authorities view external budget support as critical to preserving the social safety net. - Monetary Policy and Exchange Rate — Positions and plans: - Authorities welcome discussion on scope for monetary easing and note staff recommendation for a more accommodative stance. - Authorities caution a careful assessment of global shocks’ impact is required before changing current monetary stance. - Solomon Islands does not produce a national CPI; monetary decisions largely based on Honiara price information; actual national inflation may be higher. - Authorities consider measures to improve efficiency of indirect policy instruments for liquidity management and seek Fund cooperation. - Agreement on need for greater exchange rate flexibility as an anchor; structural bottlenecks must be addressed to improve competitiveness. - Authorities are not comfortable with staff advice to widen the daily trading band, citing past ineffectiveness and benefit to commercial banks. - Authorities will continue pegging the Solomon Islands dollar to a trade-weighted basket of currencies with the US dollar being the intervention currency. - Financial Sector — Conditions and reforms: - Domestic banking system largely unaffected by global financial crisis and is well-positioned to deal with slowdown. - Banks are profitable and meet prudential requirements for capital adequacy, asset quality, and liquidity. - Credit growth slowed in 2008 due to economic slowdown, lack of viable investment proposals, and tight lending standards. - Asset quality deteriorated moderately: non-performing loans increased from 2.7 percent of total loans and advances at end-Q4 2008 to 4.2 percent at end-Q2 2009. - Liquidity conditions tightened; CBSI provided a short-term standing facility for commercial banks; commercial banks raised deposit rates. - Two out of three commercial banks operating in Solomon Islands are branches of Australian banks subject to strict parent bank standards. - Authorities confident domestic banks will continue to comply with prudential requirements. - Authorities committed to maintaining a stable financial system; recent upgrades to prudential standards and stronger regulation and supervision noted. - Structural policies — Progress and challenges: - Progress: streamlined business formation and regulations, established regular audits of SOE accounts, reformed telecommunications and transport sectors to allow new entrants. - Opening telecommunications sector: a service provider has expressed interest to enter the market in the second quarter of 2010. - Further structural reforms needed to lift medium- to long-term growth prospects. - Management of public enterprises needs improvement due to drain on budget resources. - Land reform: authorities acknowledge need to move forward but stress sustainable reform requires broad public ownership, significant time and effort, and navigation of complex land ownership structure and resistance to land sales. *Source: _cr09309 - ANNEX V. SOLOMON ISLANDS––STATISTICAL ISSUES (As of September 1, 2009); Statements dated October 16, 2009; Public Information Notice No. 09/126 (November 4, 2009).* ### 0.4 percent this year, compared to 6.9 percent in 2008. On the positive side, inflation ### 0.4 percent this year, compared to 6.9 percent in 2008. On the positive side, inflation ### Inflation and external accounts - Inflation pressures have eased substantially, mainly owing to lower fuel and food prices. - Projected narrowing in the external current account deficit to 11 percent of GDP in 2009, from around 19 percent in 2008. - Expected drop in timber exports has been more than offset by the lower cost of commodity imports. ### Fiscal position and cash/liquidity constraints - The overall fiscal balance is expected to slip into a deficit of around 0.4 percent of GDP in 2009, as compared to a surplus of 1.5 percent of GDP in the previous year. - Contributing factors: lower timber-related tax receipts and weak spending controls, despite government measures to conserve cash. - Cash position is expected to remain under strain in 2009 and possibly the next few years, absent further fiscal adjustment and new external assistance. - Directors highlighted the need to tighten fiscal policy to conserve cash and avoid external pressures in the near-term through greater spending discipline, especially in nonessential recurrent areas and the government wage bill. - Directors welcomed the authorities’ intention to adopt an internationally accepted tax regime for the emerging mining sector, with the help of Fund technical assistance. - Medium-term fiscal sustainability requires steady implementation of structural fiscal reforms aimed at: - strengthening revenue administration, - reducing tax and customs exemptions, - improving cash management, budget integration, and accounting and auditing functions. - Importance of additional external budget support to safeguard essential social spending and help secure more lasting fiscal adjustment was underlined. - In view of the continued moderate risk of debt distress, Directors commended the efforts to implement a sound debt management strategy. ### Monetary policy and exchange rate - Current accommodative monetary stance appears appropriate. - Greater exchange rate flexibility may be needed, in view of tight liquidity conditions and to protect foreign reserves. - Over the longer term, additional monetary control should come through development of new policy instruments and a strengthening of the liquidity management framework. - Directors encouraged the authorities to improve the liquidity management framework, including through the development of short-term debt instruments and new standing facilities, to promote interbank activity. - Directors welcomed the authorities’ intention to use the recent SDR allocation to boost reserves. - Staff assessment: the exchange rate appears to be substantially overvalued, which could undermine medium-term external sustainability. - Directors generally considered that greater exchange rate flexibility could help improve overall competitiveness and facilitate external adjustment, accompanied by efforts to improve transportation infrastructure, reduce operating and borrowing costs, and streamline business regulations. ### Banking system and financial sector risks - Liquidity conditions have tightened, with external inflows and deposit growth slowing significantly. - Private sector credit is projected to rise by only 6 percent this year, compared to 26½ percent in 2008. - The exchange rate vis-à-vis the U.S. dollar has been allowed to weaken modestly since mid-2008, but in real effective terms it has increased substantially, possibly adding to external pressures. - The banking system appears well positioned against the current slowdown, but rapid credit expansion in earlier years and signs of rising liquidity and credit risks require tight enforcement by the Central Bank of Solomon Islands of new prudential rules. - Directors welcomed steps to strengthen banking supervision and encouraged banks to bring risk management controls in line with parent bank operations. - Closer monitoring of the National Provident Fund would also be useful, given the recent impact of adverse global conditions on operating income. ### Growth prospects and structural reforms - Near- to medium-term growth expected to remain below levels observed in recent years. - Recovery of the global economy and new foreign direct investment, especially in mining and telecommunication sectors, could lift the economy in 2010. - Declining logging and ancillary activity will likely act as a drag to income and employment, fiscal revenue, and export receipts over the medium term. - Both the fiscal position and current account could come under more strain, with the possibility of large and unsustainable macroeconomic imbalances. - Creating conditions for higher growth in nonlogging sectors is essential to: - improving the fiscal and external position, - providing new employment opportunities, - reducing vulnerability to shocks. - Structural reforms needed: maintaining a stable macroeconomic environment, lowering operating costs, and ensuring better access to land. - The 2010 budget should be geared toward a modest surplus. ### Executive Board assessment highlights - Solomon Islands faces a more challenging environment than in the recent past due to the global recession and lower logging output. - Directors encouraged authorities to gear macroeconomic policies toward maintaining stability while pressing ahead with essential structural reforms to strengthen public administration, improve the business climate, and diversify the production base. - Directors noted the need for spending discipline to avoid squeezing out domestically financed development spending. - Directors noted that moderate risk of debt distress continues and supported implementation of a sound debt management strategy. ### Key statistics (Selected Economic Indicators, 2006–10) - Real GDP: 2006: 6.9; 2007: 10.7; 2008: 6.9; 2009 (Est.): 0.4; 2010 (Proj.): 2.4 - CPI (period average): 2006: 11.1; 2007: 7.7; 2008: 17.2; 2009 (Est.): 8.0; 2010 (Proj.): 7.0 - CPI (end of period): 2006: 9.9; 2007: 10.9; 2008: 17.5; 2009 (Est.): 5.5; 2010 (Proj.): 8.4 - Per capita GDP (in U.S. dollar): 2006: 945; 2007: 1,093; 2008: 1,266; 2009 (Est.): 1,290; 2010 (Proj.): 1,351 - Central government operations (percent of GDP): - Total revenue and grants: 2006: 47.3; 2007: 50.2; 2008: 48.9; 2009 (Est.): 50.6; 2010 (Proj.): 51.9 - Revenue: 2006: 23.6; 2007: 26.8; 2008: 27.5; 2009 (Est.): 27.6; 2010 (Proj.): 27.2 - Grants: 2006: 23.8; 2007: 23.4; 2008: 21.4; 2009 (Est.): 23.1; 2010 (Proj.): 24.7 - Total expenditure: 2006: 45.6; 2007: 49.7; 2008: 47.3; 2009 (Est.): 51.1; 2010 (Proj.): 51.1 - Recurrent expenditure: 2006: 22.0; 2007: 22.8; 2008: 23.8; 2009 (Est.): 25.3; 2010 (Proj.): 24.2 - Development expenditure: 2006: 23.6; 2007: 26.9; 2008: 23.5; 2009 (Est.): 25.8; 2010 (Proj.): 26.9 - Overall balance: 2006: 1.7; 2007: 0.5; 2008: 1.5; 2009 (Est.): -0.4; 2010 (Proj.): 0.8 - Foreign financing (net): 2006: 1.6; 2007: 2.3; 2008: -1.6; 2009 (Est.): -0.9; 2010 (Proj.): -0.8 - Domestic financing (net): 2006: -0.9; 2007: -1.4; 2008: 1.6; 2009 (Est.): 0.9; 2010 (Proj.): -0.1 - Other 1/: 2006: -2.4; 2007: -1.4; 2008: -1.5; 2009 (Est.): 0.4; 2010 (Proj.): 0.2 - Central government debt (percent of GDP, unless otherwise indicated) 2/: 2006: 57.1; 2007: 40.3; 2008: 31.8; 2009 (Est.): 27.3; 2010 (Proj.): 24.0 - Domestic debt: 2006: 23.1; 2007: 12.6; 2008: 10.0; 2009 (Est.): 8.5; 2010 (Proj.): 7.7 - External debt: 2006: 33.9; 2007: 27.6; 2008: 21.8; 2009 (Est.): 18.8; 2010 (Proj.): 16.3 - Gross official reserves (in millions of U.S. dollars, end of period): 2006: 154.8; 2007: 149.4; 2008: 135.5; 2009 (Est.): 124.1; 2010 (Proj.): 115.2 - Current account balance (in millions of U.S. dollars): 2006: -29.4; 2007: -67.3; 2008: -120.0; 2009 (Est.): -74.2; 2010 (Proj.): -130.7 - (Percent of GDP) 2006: -6.4; 2007: -12.4; 2008: -18.7; 2009 (Est.): -11.1; 2010 (Proj.): -18.2 - Overall balance (in millions of U.S. dollars): 2006: 10.5; 2007: 16.6; 2008: -27.1; 2009 (Est.): -1.8; 2010 (Proj.): -25.1 - Gross official reserves (in months of prospective imports of GNFS): 2006: 3.8; 2007: 3.9; 2008: 2.9; 2009 (Est.): 2.5; 2010 (Proj.): 1.7 - Exchange rate (S.I. dollar/U.S. dollar, end of period): 2006: 7.62; 2007: 7.66; 2008: 8.00 - Real effective exchange rate (period average, 2005 = 100): 2006: 107.5; 2007: 106.4; 2008: 115.9 - Nominal effective exchange rate (period average, 2005 = 100): 2006: 99.1; 2007: 93.1; 2008: 88.9 - Monetary and credit: - Credit to private sector: 2006: 58.6; 2007: 53.3; 2008: 26.5; 2009 (Proj.): 6.0... - Broad money: 2006: 25.9; 2007: 23.3; 2008: 6.9; 2009 (Proj.): 8.4... - Reserve money: 2006: 6.2; 2007: -3.5; 2008: -5.0; 2009 (Proj.): -10.1... - Interest rate - deposit (percent per annum) 3/: 2006: 0.7; 2007: 0.7; 2008: 2.0; 2009 (as of end-June 2009): 4.1... - Interest rate - lending (percent per annum) 3/: 2006: 13.8; 2007: 14.2; 2008: 17.0; 2009 (as of end-June 2009): 15.3... - Balance of payments overall balance and reserves reflect tightening external conditions and projected reserve losses. *Staff report for the 2009 Article IV Consultation with Solomon Islands.* --- _Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2009/_cr09309.pdf_