## _cr1437 - EXECUTIVE SUMMARY ## Source details **Canonical URL:** [_cr1437 - EXECUTIVE SUMMARY](https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2014/_cr1437.pdf) ## Other formats - [Markdown version](/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2014/_cr1437.pdf.md) - [Structured JSON version](/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2014/_cr1437.pdf.json) --- ### Context: fiscal scandal and risks to economic recovery - In early October 2013 authorities informed staff of misappropriation of significant amounts of public funds through fraudulent transactions in IFMIS. - Government estimates about MK9 billion (approximately US$25 million, or 0.7 percent of GDP) was misappropriated during the first quarter of FY2013/14 (July-September 2013); investigations will be extended back to FY2009/10. - Donors suspended disbursements of financial assistance to the budget, delaying about US$180 million in the second fiscal quarter (October–December 2013), equivalent to about 55 percent of the total budget support and dedicated grants for the year. - President Banda reconstituted her cabinet in October and appointed a new Minister of Finance; Executive Board consideration of the third review (scheduled for October 21) was postponed. ### Action Plan to address PFM weaknesses (summary) - IFMIS suspended, vendor engaged, and IFMIS reinstated with enhanced safeguards in early November. - Five broad areas: - Investigation and prosecution: prosecution of all individuals involved; profiling properties of public officers connected to suspicious transactions to help recover stolen monies. - Audit: two-pronged forensic audit—first covering April–September 2013 due end-January 2014; second covering back to FY2009/10 expected in the second half of 2014; procurement of an audit management system, ad hoc audits, and enhanced audit capacity. - Accounting: software enhancements, recreation of user rights to ensure segregation of duties, clearing backlog of bank reconciliations and adoption of daily reconciliation; reinstatement of IFMIS progressing to full operation by end–2013. - Administrative measures: disciplinary actions against negligent public officials. - Legal and institutional reforms: amendments to anti-money laundering legislation (including civil asset forfeiture), new law requiring asset declarations by public officials, and accelerated PFM reforms supported by a multi-donor trust fund. - Donors developed an “Extraordinary Performance Assessment Framework” (EPAF) with short-term measures to be implemented by March 2014 (independent verification of IFMIS security after reactivation; daily bank reconciliations by the Treasury; compliance with expenditure ceilings; disciplinary action against approvers of fraudulent payments). ### Recent economic developments and near-term outlook - Real GDP growth: - Rebounded from 1.9 percent in 2012 to about 5 percent in 2013. - Sectoral 2013 growth: Manufacturing over 6 percent; Construction over 7 percent; Wholesale and retail trade over 5 percent. - Tobacco season (All auction floors, 2010–13): - Volume (millions of kilograms): 2010 220, 2011 237, 2012 80, 2013 169. - Sales revenue (millions of U.S. dollars): 2010 416, 2011 294, 2012 178, 2013 362. - Average price (US cents/kilogram): 2010 189, 2011 124, 2012 223, 2013 214. - External reserves and exchange rate: - Gross official reserves rose from US$185 million at end-March 2013 to US$447 million at end-September 2013. - Kwacha appreciated by about 20 percent in May 2013; depreciated by 21 percent between end-August and mid-December 2013. - Inflation: - Year-on-year CPI: peak 37.9 percent in February 2013 → 22.2 percent in October 2013. - Food inflation in October 2013: 19.4 percent; Nonfood inflation in October 2013: 23.9 percent. - Monetary aggregates and liquidity: - Reserve money year-on-year growth slowed from 36 percent in December 2012 to 2 percent in March 2013; accelerated in Q3 driven mainly by RBM lending to government. - Broad money grew rapidly in Q3 after moderate increases in H1 2013; sharply increased government borrowing in Q3 crowded out private sector credit. ### Fiscal performance and program implementation - FY2012/13: domestic revenue exceeded programmed levels; total expenditure in line with program. - FY2013/14 Q1 fiscal loosening: - Net domestic borrowing amounted to MK56 billion (3.5 percent of GDP) instead of a programmed small net repayment. - Causes of overruns: underestimation of interest payments; advancement of arrears payments; pre-spending on items programmed to be financed by dedicated grants; unplanned peace keeping spending; payments related to fiscal scandal. - Program performance: - Third ECF review (March test date): good performance overall; only continuous PC missed on new nonconcessional external debt. - Fourth ECF review (September test date): PC on net international reserves met; PCs on government net domestic borrowing and net domestic assets of RBM missed by significant margins. - Structural benchmarks: progress made but slower than programmed. ### Policy discussions, staff views, and program adjustments - Policy priorities: manage fiscal scandal fall-out, reverse fiscal slippage, lower inflation. - Staff view: fiscal and monetary policy need to be tightened to lower inflation pressures and safeguard international reserves; reprioritization and expenditure cuts necessary given decreased aid receipts. - Staff supports authorities’ requests for: - Waivers for nonobservance of specified PCs based on corrective actions. - Extension of the arrangement and rephasing of disbursements (halving disbursements originally associated with the third and fourth reviews and applying the balance to an additional review). - Modifications of performance criteria and establishment of new PCs for end-December 2013 and end-June 2014; conversion of end-March 2014 PCs into indicative targets. ### Monetary policy, interest rates and liquidity (selected) - RBM policy rate: maintained at 25.0 percent throughout 2013. - Interbank market rate: declined from 37.4 percent in March 2013 to 16.5 percent in August 2013; rose after RBM tightening from September. - Average Treasury bill yield: peak 45.0 percent in March 2013 → 19.37 percent in August 2013; rose after September tightening. - Reserve money levels (selected quarters): 71.7 (Mar-12), 67.1 (Jun-12), 20.3 (Sep-12), 54.6 (Dec-12), 12.1 (Mar-13), 24.9 (Jun-13), 40.9 (Sep-13). - Net foreign assets (selected): -16.1 (Mar-12), -61.8 (Jun-12), -34.9 (Sep-12), -14.6 (Dec-12), -25.6 (Mar-13), 63.5 (Jun-13), 47.9 (Sep-13). ### External sector, current account and reserves - Current account deficit: narrowed from 4.4 percent of GDP in 2012 to 3.5 percent in 2013. - Exports: grew faster than GDP despite projected 15 percent decline in tobacco exports in 2013; projected strong growth in cotton, sugar, uranium and edible nuts to more than compensate. - Scarcity of containers cited as factor in decline in tobacco exports in 2013. - Usable gross official reserves (selected): 190.2, 215.4, 402.8, 403.0, 555.5, 453.1, 557.3, 1,102.0 (series as presented). - Months of imports (gross reserves) (selected): 1.0, 1.1, 1.1, 1.9, 2.0, 2.5, 2.0, 2.4, 4.0 (series). ### Debt sustainability (DSA) and risks - Malawi remains at moderate risk of debt distress. - Present value of public debt projected to decline from 42.5 percent of GDP in 2013 to 23.6 percent of GDP in 2018. - Main risks: deterioration in terms of trade and adverse weather conditions; stress tests show vulnerability to export-related shocks. - Key DSA indicators (selected): - PV of public sector debt: 2013 40.4; 2014 42.5; 2015 36.5; 2016 32.7; 2017 29.3; 2018 26.9; 2019 23.6; 2023 19.1. - Public sector debt (percent of GDP, selected): 2013 59.8; 2014 52.0; 2015 47.9; 2016 43.7; 2017 41.2; 2018 37.8; 2019 33.3; 2023 24.6. - Policy implication: fiscal consolidation and institutional quality improvements needed to safeguard debt sustainability. ### Financing gap for FY2013/14 and measures - Financing gap: MK32 billion (2 percent of GDP). - Shortfall in donor flows projected at MK27 billion (1.8 percent of GDP). - Major revisions: - Higher interest payments (higher nominal rates and higher domestic debt stock). - Higher tax revenues (strong collections). - Increased nontax revenues mainly from profit transfer from the RBM. - Measures to cover gap: - Expenditure control measures expected to yield gross savings of about MK31 billion (2 percent of GDP) including stringent cuts to travel, postponement of domestically financed development projects, and efficiency gains in FISP. - Net yield from expenditure measures compared to June mission projections: MK18 billion (1.1 percent of GDP). - Remaining gap covered by net domestic borrowing increased by MK14 billion (0.9 percent of GDP), shifting from programmed repayment of MK7 billion to borrowing MK7 billion for the year. - Text Table 5 summary (June 2013 mission vs Revised program; in billions of Kwacha): Financing gap -32; Domestic revenue 356 -> 428 (Change 72); Interest payments 319 -> 362 (Change 43); Donor inflows 152 -> 125 (Change -27); External debt amortization -10 -> -64; Discrepancy 0 -> -18 (Change -18); Measures to cover gap 32; Primary expenditure 461 -> 443 (Change 18); Travel budget 29 -> 18 (Change 11); Fertilizer and seed subsidy 54 -> 50 (Change 4); Domestically-financed development expenditure 473 -> 116 (Change 357); Other primary expenditure 331 -> 343 (Change -12); Domestic financing (net) -77 -> 14. ### Domestic arrears and PFM reforms - Outstanding stock of verified expenditure arrears estimated at MK72 billion in 2012. - Government reducing the outstanding stock but must avoid accumulating new arrears; MoF to institute mechanism for regular monitoring and reporting on arrears and strengthen commitment control. - Specific contingent liability risk: Farm Input Loan Program (FILP) administered by Malawi Rural Development Fund, likely to create pressure on government in event of farmer defaults (implicit guarantee). - Recommendations: revitalize PFM reform strategy; fuller deployment of IFMIS capabilities; strengthen fiscal transparency and fiscal risk reporting. ### Revenue administration and domestic revenue mobilization - MRA modernization: installation of cargo scanners; upgrade of IT systems at customs; roll-out of electronic fiscal devices (EFDs); automation of business processes. - Voluntary Compliance Window (VCW): opened November 1, 2013 and will close January 31, 2014; allows taxpayers to disclose and pay outstanding tax liabilities without payment of penalties and interests for late payment (principal remains payable). ### Financial sector reforms and banking system stability - Overall liquidity improved but some banks remain with weak liquidity and solvency concerns; some banks obtained emergency liquidity support or were exempted from prudential norms. - RBM actions: - Strengthen legal framework for bank restructuring and resolution; proposed Amendments to the Banking and Financial Services Acts submitted to government. - Require banks to undergo comprehensive third party diagnostics; four weakest banks to be analyzed first (reports expected by end-February 2014); remaining banks by end-June 2014. - Prepare to introduce a prompt corrective action (PCA) framework; strengthen prudential norms and bank reporting on loan classification, provisioning and liquidity. - Revised Asset Classification directive finalized and to be effective once gazetted. - PCA design features: sliding scale intervention, discourage regulatory forbearance, waivers to be used rarely and well documented. ### Program monitoring, conditionality, and prior actions - Prior actions before third and fourth reviews included reactivation of IFMIS in all ministries after strengthening security and access control; auditing manual transactions; submission of a preliminary forensic audit report. - Final forensic audit report due end-January 2014 to inform program conditionality. - Authorities requested waivers for nonobservance of: - Continuous PC on new nonconcessional external debt with maturity > one year (loan from Export and Import Bank of China equivalent to US$65 million with grant element 30 percent when effective in May 2013). - PCs on government net domestic borrowing and NDA of RBM for fourth review. - Authorities requested extension and rephasing of arrangement: shift ECF test dates; extension by four months (to November 22, 2015); halving of disbursements associated with third and fourth reviews and applying balance to additional review. ### Staff appraisal and recommendations - Commendation: authorities maintained core policy reforms initiated in May 2012; market-based exchange rate regime and automatic fuel price adjustment improved FX availability and fuel supply. - Concerns: inflation remains high; structural reform implementation slow; fiscal scandal and Q1 FY2013/14 policy loosening require strong remedial actions. - Recommended actions for authorities: - Thorough investigation of fraud; follow legal procedures; prosecute as appropriate. - Strengthen PFM procedures and institutions; adopt Action Plan; re-activate strengthened IFMIS; initiate forensic audit and implement recommendations. - Implement stringent spending cuts and monitor expenditure execution and financing closely. - Coordinate amendments to RBM Act and Public Finance Act to set legal limit on total RBM lending to government to address fiscal dominance. - Complete first stage of bank diagnostics and strengthen legal framework for bank restructuring and resolution early in 2014. - Speed up gazetting of RBM directives on PCA and Asset Classification and implement PCA to move away from forbearance. - Staff supports completion of third and fourth reviews and release of fourth and fifth disbursements based on remedial actions and commitments. *Source: IMF staff report (content unit _cr1437).* ### EXECUTIVE SUMMARY ### _cr1437 - EXECUTIVE SUMMARY ### Context: Fiscal scandal and risks to economic recovery - In early October 2013 authorities informed staff of misappropriation of significant amounts of public funds through fraudulent transactions in IFMIS. - Government estimates about MK9 billion (approximately US$25 million, or 0.7 percent of GDP) was misappropriated during the first quarter of FY2013/14 (July-September 2013); investigations will be extended back to FY2009/10. - Donors suspended disbursements of financial assistance to the budget, delaying about US$180 million in the second fiscal quarter (October–December 2013), equivalent to about 55 percent of the total budget support and dedicated grants for the year. - President Banda reconstituted her cabinet in October and appointed a new Minister of Finance in response to public outcry. - Executive Board consideration of the third review (scheduled for October 21) was postponed to allow assessment and discussion of remedial measures. ### Action Plan to address weaknesses in public financial management (summary of Box 1) - The authorities suspended IFMIS, invited the vendor to assess and fix problems, and reinstated IFMIS with enhanced safeguards in early November. - Five broad areas covered by the Action Plan: - Investigation and prosecution: prosecution of all individuals involved and profiling properties of public officers connected to suspicious transactions to help recover stolen monies. - Audit: two-pronged forensic audit—first covering April–September 2013 due end-January 2014; second covering back to FY2009/10 expected in the second half of 2014; procurement of an audit management system, ad hoc audits, and enhanced audit capacity. - Accounting: software enhancements to close security gaps; recreation of user rights to ensure segregation of duties; reinstatement of IFMIS progressing to full operation by end–2013; clearing backlog of bank reconciliations and adoption of daily reconciliation. - Administrative measures: disciplinary actions against negligent public officials. - Legal and institutional reforms: amendments to anti-money laundering legislation (including civil asset forfeiture), new law requiring asset declarations by public officials, and accelerated PFM reforms supported by a multi-donor trust fund. - Donors developed an “Extraordinary Performance Assessment Framework” (EPAF) focusing on short-term measures to be implemented by March 2014, including independent verification of IFMIS security after reactivation, daily bank reconciliations by the Treasury, compliance with expenditure ceilings under the ECF-supported program, and disciplinary action against those approving fraudulent payments. ### Recent economic developments and near-term outlook - Real GDP growth is estimated to have rebounded from 1.9 percent in 2012 to about 5 percent in 2013, driven by an improved harvest, increased availability of foreign exchange, and re-established external credit lines. - Sectoral growth in 2013: - Manufacturing: from a 1 percent contraction in 2012 to over 6 percent growth in 2013. - Construction: from less than 3 percent in 2012 to over 7 percent in 2013. - Wholesale and retail trade: from less than 2 percent in 2012 to over 5 percent in 2013. - Tobacco season effects (All auction floors, 2010–13): - Volume (millions of kilograms): 2010 220, 2011 237, 2012 80, 2013 169 - Sales revenue (millions of U.S. dollars): 2010 416, 2011 294, 2012 178, 2013 362 - Average price (US cents/kilogram): 2010 189, 2011 124, 2012 223, 2013 214 - External reserves and exchange rate: - Gross official reserves rose from US$185 million (less than one month of import cover) at end-March 2013 to US$447 million (over 2 months of import cover) at end-September 2013. - The kwacha appreciated sharply by about 20 percent in May 2013 and was relatively stable through early September; it depreciated by 21 percent between end-August and mid-December 2013. - Inflation: - Year-on-year overall CPI decreased from a peak of 37.9 percent in February 2013 to 22.2 percent in October 2013. - Food inflation in October 2013: 19.4 percent. - Nonfood inflation in October 2013: 23.9 percent. - Disinflation progressed more slowly than programmed, reflecting a prolonged and more pronounced depreciation spell after May 2012. - Monetary aggregates and liquidity: - Reserve money year-on-year growth slowed from 36 percent in December 2012 to 2 percent in March 2013 through RBM foreign exchange operations. - Reserve money growth accelerated in the third quarter, driven mainly by RBM lending to government. - Broad money grew rapidly in the third quarter after moderate increases in the first half of 2013; principal sources were private sector lending in Q1 and accumulation of net foreign assets in Q2. - Sharply increased government borrowing in Q3 crowded out private sector credit, which recorded a small decline in absolute terms. ### Fiscal performance and program implementation - FY2012/13: domestic revenue exceeded programmed levels while total expenditure was in line with the program. - FY2013/14 Q1 fiscal loosening: - Net domestic borrowing by the government amounted to MK56 billion (3.5 percent of GDP), instead of a programmed small net repayment. - Overruns reflected underestimation of interest payments (nominal interest rates and stock of domestic debt both higher than programmed), advancement of arrears payments, pre-spending on items programmed to be financed by dedicated grants, unplanned spending on peace keeping operations, and payments related to the fiscal scandal. - Performance on quantitative targets: - Performance was good for the third ECF review (March test date) but weakened for the fourth review (September test date) due to significant fiscal slippage (excessive domestic borrowing) during July–September 2013. - Structural benchmarks: - Progress has been made but at a slower pace than programmed. ### Policy discussions, staff views, and program adjustments - Policy priorities discussed: manage fall-out from the fiscal scandal, reverse fiscal slippage, and lower inflation. - Fiscal and monetary policy need to be tightened to lower inflation pressures and safeguard international reserves. - Reprioritization and expenditure cuts were necessary following a substantial decrease in aid receipts for the remainder of the fiscal year. - Staff supports the authorities’ requests for waivers based on corrective actions and policy commitments: - Authorities are implementing strong corrective actions, including several prior actions. - Authorities strengthened external debt management to observe commitment not to contract nonconcessional external debt. - Staff supports requests for: - Extension of the arrangement. - Rephasing of disbursements, including a halving of the disbursements originally associated with the third and fourth reviews and applying the balance to an additional review. - Modifications of performance criteria. ### Missions, consultations, and administrative details - Discussions for the third review were held in Lilongwe and Blantyre during June 11–25, 2013. - A mission returned to Lilongwe from November 5 to 20, 2013 to hold discussions on the third and fourth reviews. - The missions met with President Joyce Banda, Ministers of Finance Dr Ken Lipenga (June) and Dr Maxwell Mkwezalamba (November), RBM Governor Charles Chuka, other senior officials, business, civil society, and development partners. - Document date: December 27, 2013. *Prepared by the African Department (in consultation with other departments); Approved by David Owen (AFR) and Mark Flanagan (SPR).* ### 12. Market interest rates fluctuated widely in 2013 (chart). Money market liquidity increased ### _cr1437 - 12. Market interest rates fluctuated widely in 2013 (chart). Money market liquidity increased ### Interest rate movements and money market liquidity - Money market liquidity increased substantially in the middle of 2013, mainly as a result of RBM’s foreign exchange purchases. - Interbank market rate: - Declined from 37.4 percent in March 2013 to 16.5 percent in August 2013. - Subsequent tightening by the RBM beginning in September pushed the interbank rate back up. - Treasury bill yields: - Average Treasury bill yield dropped from a peak of 45.0 percent in March 2013 to 19.37 percent in August 2013. - Yields rose again following RBM tightening starting in September. - RBM policy rate: - The RBM maintained its bank rate at 25.0 percent throughout 2013. ### Reserve money and monetary aggregates (selected observations) - Reserve money and its drivers showed large quarter-to-quarter and year-on-year swings (table data points as reported): - Reserve money (levels in table): 71.7 (Mar-12), 67.1 (Jun-12), 20.3 (Sep-12), 54.6 (Dec-12), 12.1 (Mar-13), 24.9 (Jun-13), 40.9 (Sep-13). - Net foreign assets: -16.1 (Mar-12), -61.8 (Jun-12), -34.9 (Sep-12), -14.6 (Dec-12), -25.6 (Mar-13), 63.5 (Jun-13), 47.9 (Sep-13). - Net domestic assets: 87.7 (Mar-12), 128.9 (Jun-12), 55.2 (Sep-12), 69.2 (Dec-12), 37.7 (Mar-13), -38.7 (Jun-13), -7.0 (Sep-13). - Of which: Net claims on government: 64.9 (Mar-12), 83.5 (Jun-12), -21.9 (Sep-12), -7.6 (Dec-12), -9.7 (Mar-13), -26.2 (Jun-13), 55.1 (Sep-13). - Credit to banks: 3.7 (Mar-12), 32.0 (Jun-12), 15.5 (Sep-12), -19.5 (Dec-12), -5.2 (Mar-13), -18.3 (Jun-13), -41.2 (Sep-13). - Contribution to year-on-year and quarterly growth in reserve money also showed volatile movements (selected table excerpts): - Reserve money contributions (quarterly): 21.8, 13.7, -5.7, 18.4, -11.7, 26.7, 6.5. - Net foreign assets (contribution): -12.2, -28.4, 17.4, 6.2, -18.6, 62.0, -0.7. - Net domestic assets (contribution): 34.0, 42.1, -23.1, 12.2, 6.9, -35.3, 7.2. - Net claims on government (contribution): 29.8, 12.9, -43.4, 5.4, 16.6, -6.5, 27.8. - Credit to banks (contribution): 3.4, 19.5, -7.4, -27.9, 10.8, 3.4, -22.4. ### External sector and current account - Current account deficit: - Narrowed from 4.4 percent of GDP in 2012 to 3.5 percent in 2013 (Table 4b). - Exports and trade: - Exports grew faster than GDP despite a projected 15 percent decline in tobacco exports in 2013. - Projected strong export growth in cotton, sugar, uranium and edible nuts expected to more than compensate for tobacco decline. - A scarcity of containers in Malawi was cited as a factor in the decline in tobacco exports in 2013. ### Program performance (ECF reviews) and fiscal developments - Performance under the program: - Third ECF review (March 2013 test date): - Only quantitative performance criterion (PC) missed: continuous PC on contracting new non-concessional external debt maturing in more than one year. - Authorities contracted a loan from the Export and Import Bank of China equivalent to US$65 million with a grant element of 30 percent when effective in May 2013 (below the 35 percent threshold). - Fourth ECF review (September test date): - PC on net international reserves met comfortably. - PCs on government net domestic borrowing and the net domestic assets of RBM were missed by significant margins, reflecting substantial over-borrowing by government, mostly from the RBM. - About half of the deviation reflected a promissory note issued in June by the government to RBM to cover devaluation losses incurred in 2012. - Indicative targets for reserve money for June and September were missed, reflecting the build-up of international reserves and RBM concerns about sterilization derailing the nascent recovery. - Social spending: - Indicative target for social spending met in September after missing March and June targets. - Earlier under-performance reflected savings on fertilizer purchases for the FISP and lower-than-expected absorption of the maize seed subsidy component of FISP. ### Structural reforms and financial sector measures - Progress on structural benchmarks was slower than programmed but some measures implemented: - Expansion of coverage of the purchase order module of IFMIS. - Terms of reference for third party diagnostic assessment of vulnerable banks (structural benchmark for end-June 2013) completed in October; exercise will cover all banks and selection of auditors is underway. - Amendment to the RBM Act submitted to parliament to lower the limit on RBM advances to government from 25 percent to 10 percent of budget revenue, but it does not cover other forms of RBM lending and thus does not close a loophole allowing advances to be routinely converted to treasury bills. ### Policy discussions, donor support, and macroeconomic framework - Policy focus: - Managing fall-out from the fiscal scandal, addressing recent fiscal slippage, and policies to lower inflation. - Continued external assistance from development partners over the medium-term is critical for macro stability, growth and poverty reduction. - Donor financing outlook: - Several bilateral donors indicated they are unlikely to channel financial resources through government financial systems for the rest of the fiscal year ending June 2014. - Most donors foresaw some resumption of financial assistance to the budget in the second half of the fiscal year (January – June 2014) if strong remedial measures are implemented, senior officials are held accountable, and stolen funds recovery steps are taken. - Updated fiscal outlook assumes resumption of budget support from multilateral agencies (World Bank, African Development Bank and the EU) in the second half of the fiscal year. - Macroeconomic framework adjustments: - Growth projections maintained from the third review (June mission) with slightly lower growth in 2013 compared to the second review projection. - Inflation: - Disinflation expected at a slower pace, but single digit inflation remains the goal by end-2014. - Inflation path for 2013-15 raised moderately to reflect higher-than-projected outturn in 2013 and likely impact of recent kwacha depreciation on non-food inflation. - Monetary policy: - Revised monetary program based on RBM tightening monetary policy over the next few months and more aggressive sterilization of foreign exchange inflows when the tobacco season starts in March/April 2014. ### Risks to the outlook - Key risks (Risk Assessment Matrix): - A significantly longer delay in disbursements or reduction in the amount of aid could lead to increased domestic borrowing, reserve losses, exchange rate depreciation, and rising inflation. - Policy reversals ahead of the May 2014 general elections could lead to reserve losses, exchange rate depreciation, rising inflation, and jeopardize sustained growth. - Adverse weather conditions remain a significant risk due to reliance on rain-fed agriculture: - Up to 1.9 million people (13 percent of the population) may be at risk of severe food insecurity during the 2013/14 lean season because of dry spells in several parts of the country. ### Debt sustainability - DSA update (joint IMF–World Bank): - Malawi remains at moderate risk of debt distress. - Present value of public debt projected to decline from 42.5 percent of GDP in 2013 to 23.6 percent of GDP in 2018. - Main risks to debt sustainability: deterioration in terms of trade and adverse weather conditions. - Stress tests indicate vulnerability to export-related shocks. - Fiscal consolidation and measures to arrest declines in the quality of institutions (e.g., CPIA score) are needed. ### Fiscal policy, financing gap and measures - Financing gap for FY2013/14: - Financing gap of MK32 billion (2 percent of GDP). - Shortfall in donor flows projected at MK27 billion (1.8 percent of GDP). - Major revisions contributing to fiscal outlook: - Higher interest payments reflecting higher-than-expected nominal interest rates and higher stock of domestic debt. - Higher tax revenues based on strong collections supported by strong economic activity, higher domestic and import prices, and revenue administration efforts. - Increased nontax revenues mainly from profit transfer from the RBM. - Measures proposed to cover financing gap: - Combination of expenditure cuts and domestic financing while protecting social expenditure. - Authorities announced expenditure control measures expected to yield gross savings of about MK31 billion (2 percent of GDP) including: - Stringent cuts to travel. - Postponement of domestically financed development projects. - Efficiency gains from operation of FISP. - Net yield from expenditure measures compared to June mission projections: MK18 billion (1.1 percent of GDP). - To cover remaining gap, net domestic borrowing increased by MK14 billion (0.9 percent of GDP); from programmed repayment of MK7 billion to borrowing MK7 billion for the year as a whole. - Text Table 5 summary (June 2013 mission vs Revised program; in billions of Kwacha): - Financing gap: -32 - Domestic revenue: 356 (June 2013 mission) -> 428 (Revised prog) -> Change 72 - Interest payments: 319 -> 362 -> Change 43 - Donor inflows 2/: 152 -> 125 -> Change -27 - External debt amortization: -10 -> -64 - Discrepancy 3/: 0 -> -18 -> Change -18 - Measures to cover the financing gap: 32 - Primary expenditure: 461 -> 443 -> Change 18 - Travel budget: 29 -> 18 -> Change 11 - Fertilizer and seed subsidy: 54 -> 50 -> Change 4 - Domestically-financed development expenditure: 473 -> 116 -> Change 357 - Other primary expenditure: 331 -> 343 -> Change -12 - Domestic financing (net): -77 -> 14 - Notes: - 1/ Project grants and loans and associated foreign-financed development expenditure are not included. - 2/ Budget support grants and loans and dedicated grants. - 3/ Difference between financing data and above-the-line fiscal data. Includes fraud-related payments. - Domestic debt dynamics: - Domestic borrowing projected to increase slightly in Q2 followed by repayments in Q3, Q4 and in the medium term. - Government programmed to make net repayment of domestic debt of 0.6 percent of GDP on average during FY2014/15-2015/16, bringing net domestic debt to less than 10 percent of GDP at end-FY2015/16. - To help domestic debt market development, it is important that most of the decline be in government debt held by RBM. - Gross domestic debt chart note: - From March 2013 includes MK41.4 billion in securitized domestic payment arrears. *Source: IMF staff report.* ### 24. The government needs to curtail the accumulation of domestic arrears. While the ### _cr1437 - 24. The government needs to curtail the accumulation of domestic arrears. ### Domestic arrears and public financial management (PFM) - Outstanding stock of verified expenditure arrears estimated at MK72 billion in 2012. - Government reducing the outstanding stock but must avoid accumulating new arrears (MEFP ¶28). - MoF to institute a mechanism for regular monitoring and reporting on arrears and to strengthen commitment control (MEFP ¶28). - Need to revitalize broader PFM reform strategy, including fuller deployment of IFMIS capabilities for timely generation of comprehensive financial and management reports (MEFP ¶29). - Authorities acknowledge need for comprehensive and regular analysis of fiscal risks, including contingent liabilities (MEFP ¶29). - Specific contingent liability risk: Farm Input Loan Program (FILP) — administered by the Malawi Rural Development Fund (a state-owned enterprise) and likely to create pressure on government to step in in the event of farmer defaults, implying an implicit guarantee. - Recommendation: enhance fiscal transparency and accountability by strengthening fiscal reporting through timely and complete capture of data and better commitment management. ### Revenue administration and taxpayer compliance - Malawi Revenue Authority (MRA) modernization measures include installation of cargo scanners, upgrade of IT systems at customs, roll-out of electronic fiscal devices, and automation of business processes (MEFP ¶30). - MRA announced a voluntary compliance window (tax amnesty) to encourage noncompliant taxpayers to settle outstanding tax obligations without incurring penalties (MEFP ¶31); the principal amount of the tax liability remains intact and must be paid. - Caution: implement the voluntary compliance program in a manner that minimizes risks to tax compliance. ### Exchange rate and monetary policy - Authorities committed to a flexible exchange rate regime; kwacha allowed to adjust to domestic and international developments. - RBM will intervene mainly to manage liquidity and excessive volatility arising from seasonal private foreign exchange inflows (tobacco season) and lumpy disbursement of official flows. - To maintain international reserves buffer, RBM has limited intervention during the lean season and is relying more on maintenance of tight monetary conditions. - Real depreciation of the kwacha has been sustained. - RBM’s main monetary policy objective: achieve low (single-digit) inflation. - Near-term RBM actions: monitor banks’ excess reserves via liquidity forecasting framework and maintain a tight monetary stance; revised program targets for money growth set broadly in line with growth in nominal GDP (assuming constant velocity). - If needed, RBM will use open market operations to mop up excess liquidity. - Legal/fiscal dominance actions: an Amendment to the RBM Act submitted to parliament limits RBM advances to government but does not impose a limit on overall government borrowing from RBM; further change requires coordination with changes to the Public Finance Act (contains limits on total government borrowing). - Government instructed RBM to stop automatic conversion of overdrafts to government securities (MEFP ¶15) to allow closer monitoring of government borrowing from RBM. ### Financial sector reforms and banking system stability - Overall liquidity in banking system improved but some banks remain with weak liquidity and solvency concerns; some banks obtained emergency liquidity support from RBM or were exempted from prudential norms. - RBM has received Fund and World Bank technical assistance to strengthen legislative and prudential frameworks, banking supervision, crisis management preparedness, and bank restructuring and resolution. - RBM actions: - Strengthen legal framework for bank restructuring and resolution; proposed Amendments to the Banking and Financial Services Acts submitted to government, expected to be considered by parliament at its next sitting (January/February 2014) (MEFP ¶39). - Require banks to undergo comprehensive third party diagnostics (MEFP ¶38). The four weakest banks to be analyzed first; reports originally expected by end-December 2013 but delayed to expected by end-February 2014 due to procurement delays. Reports on remaining banks expected by end-June 2014. - Use outcomes of diagnostics and legal reforms to design a credible strategy for resolving weak banks. - Prepare to introduce a prompt corrective action (PCA) framework to clarify triggers for early remedial action and discontinue routine waiver of prudential norms (MEFP ¶40). - Strengthen prudential norms and bank reporting for loan classification, provisioning and liquidity (MEFP ¶42). - Await official publication (gazetting) of PCA and Asset Classification directives for them to take effect. ### Business climate and international competitiveness - Government goal: improve World Bank Doing Business ranking from 157th (out of 185 countries) in 2013 to at least 100th by 2016 (MEFP ¶¶43-47). - Actions taken to remove regulatory obstacles in starting a business, obtaining permits, registering property, enforcing contracts, and trading across borders. - Parliament reviewed several economic laws including the Business Registration Act, the Companies Act, and the Investment and Export Promotion Act; emphasis that authorities need to focus on implementing the laws. ### Program issues, prior actions, and conditionality - Prior actions required before third and fourth reviews include: - Reactivation of IFMIS in all ministries after strengthening security and access control. - Auditing of manual transactions undertaken when IFMIS was suspended. - Submission of a preliminary forensic audit report to Fund staff. - Final forensic audit report due by end-January 2014 to inform program conditionality in next review. - Prior actions to implement revised macro-fiscal program: - Seek cabinet approval for revised spending plans in line with understandings with Fund staff. - Observe three quantitative targets for December 13, 2013: government net domestic borrowing, NDA, and NIR of the RBM. (December 13 targets set at same level as end-December 2013 targets.) - Authorities requested waivers for nonobservance of: - Continuous PC on new nonconcessional external debt with maturity > one year (contracting of non-concessional loan from China deemed inadvertent; corrective actions adopted including closer consultation with Fund staff and inclusion of grant element in submissions) (MEFP ¶11). - Performance criteria on government net domestic borrowing and net domestic assets of the RBM for the fourth review (overruns due to poor spending control, IFMIS fraud payouts, and RBM holding large share of government debt). - Authorities request extension and rephasing of arrangement: - Shift ECF test dates from September and March to December (mid-year) and June (year-end) (LOI). - Request extension of arrangement by four months (to November 22, 2015) alongside addition of a further review resulting from rephasing of disbursements. - Request halving of disbursements originally associated with the third and fourth reviews and applying the balance to the additional review. - New PCs proposed for December 2013 and June 2014; end-March 2014 PCs proposed to become indicative targets. - Structural benchmarks added for FY2013/14 to address the fiscal scandal. - Financing assurances: donor commitments remain significant; authorities have adjusted spending plans and identified alternative domestic financing to compensate for shortfalls. Critical for Malawi to correct governance problems to fully realize aid commitments. ### Staff appraisal and recommendations - Commendation: authorities maintained core policy reforms initiated in May 2012; market-based exchange rate regime and automatic fuel price adjustment improved foreign exchange availability and fuel supply. - Concerns: inflation remains high; structural reform implementation slow. - Fiscal scandal and policy loosening in Q1 FY2013/14 require strong remedial actions: thorough investigation of fraud, follow legal procedures, strengthen PFM procedures and institutions, adopt action plan, re-activate strengthened IFMIS, initiate forensic audit, continue criminal investigations, implement stringent spending cuts, and timely adopt and implement forensic audit recommendations. - Authorities should: - Monitor expenditure execution and financing closely to maintain fiscal discipline. - Be prepared to adopt more stringent expenditure restraint and reprioritization in case of shortfalls in domestic revenues or external grants and loans. - Undertake contingency planning given significant fiscal risks. - Coordinate amendments to the RBM Act and the Public Finance Act to set a legal limit on total RBM lending to government to address fiscal dominance. - Complete first stage of bank diagnostics and strengthen legal framework for bank restructuring and resolution early in 2014. - Speed up gazetting of RBM directives on the PCA and on Asset Classification so they become effective as soon as possible; implement the PCA to move away from a culture of forbearance. - Continued external support is critical to mitigate risk of policy reversal; development partners are supportive of resumption of some aid flows in second half of the fiscal year provided authorities implement strong remedial measures and adhere to the Fund-supported program. - Staff welcomes RBM commitment to tighten monetary policy; RBM should limit lean-season FX intervention and rely on tight monetary conditions to guard against depreciation pressures. *Source: IMF staff report excerpt in content unit _cr1437 - 24. The government needs to curtail the accumulation of domestic arrears.* ### 44. Staff recommends completion of the third and fourth reviews and release of the ### _cr1437 - 44. Staff recommends completion of the third and fourth reviews and release of the ### Staff recommendation and rationale - Staff recommends completion of the third and fourth reviews and release of the fourth and fifth disbursements based on the remedial actions taken to strengthen governance, program performance to date, and policy commitments by the authorities. - Staff supports the authorities’ request for waivers for the nonobservance of the PCs on: - new nonconcessional external debt with a maturity of more than one year, - government net domestic borrowing, - net domestic assets of the RBM, - based on the strong corrective actions being implemented to address the fraud and fiscal slippage, and corrective actions adopted to strengthen debt management. - Staff further supports: - the extension of the arrangement, - rephasing of disbursements, - establishment of performance criteria for end-December 2013 and end-June 2014, - conversion of end-March 2014 PCs into indicative targets. ### Fiscal position and central government operations (selected indicators) - National accounts and prices: - GDP at constant market prices: 4.3 (2011), 1.9 (2012), 5.5 (2013 Rev. prog.), 5.0 (2013 2nd Rev.), 6.1 (2014 proj.), 6.1 (2015 proj.), 6.5 (2016 proj.) - Nominal GDP (billions of kwacha): 880.9 (2011), 1,056.3 (2012), 1,310.5 (2013 2nd Rev.), 1,411.9 (2013 Revised prog.), 1,492.4 (2014), 1,743.9 (2015), 1,985.5 (2016), 2,237.3 (2017) - Consumer prices (end of period): 9.8 (2011), 34.6 (2012), 11.8 (2013 2nd Rev.), 20.1 (2013 Revised prog.), 5.8 (2014 proj.), 9.7 (2015 proj.), 5.8 (2016 proj.), 5.1 (2017 proj.) - Central government (percent of GDP, fiscal year basis): - Revenue: 32.1 (2010/11), 26.5 (2011/12), 39.0 (2012/13 revised prog.), 38.3 (2013 2nd Rev.), 37.3 (2013 revised prog.), 36.9 (2014 proj.), 36.3 (2015 proj.), 36.7 (2016 proj.) - Tax and nontax revenue: 24.5, 22.1, 23.9, 24.0, 24.4, 27.1, 26.0, 26.0 (2010/11 through 2016) - Grants: 7.6, 4.4, 15.1, 14.2, 13.0, 9.8, 10.2, 10.8 - Expenditure and net lending: 35.0, 33.4, 40.2, 39.6, 38.6, 41.1, 39.9, 40.1 - Overall balance (excluding grants): -10.5, -11.3, -16.3, -15.6, -14.3, -13.9, -13.9, -14.1 - Overall balance (including grants): -2.9, -6.9, -1.2, -1.3, -1.3, -4.2, -3.6, -3.4 - Foreign financing: 1.3, 1.6, 1.9, 2.6, 1.8, 4.9, 4.2, 4.0 - Domestic financing: 1.7, 6.7, -1.6, -0.2, -0.5, 0.4, -0.6, -0.6 - Selected central government levels (billions of kwacha; 2013/14 preliminary revised program and Q breakdowns): - Revenue: 583 (annual revised prog.) - Tax and nontax revenue: 428 (annual revised prog.) - Grants: 154 (annual revised prog.) - Expenditure and net lending: 648 (annual revised prog.) - Current expenditure: 504 (annual revised prog.) - Wages and salaries: 137 (annual revised prog.) - Interest payments: 93 (annual revised prog.) - Development expenditure: 144 (annual revised prog.) - Overall balance (including grants): -66 (annual revised prog.) - Discrepancy: -1800 (Q4, table shows -18000 then -18 in formatting) - Overall balance (including grants and discrepancy): -84 (annual revised prog.) - Total financing (net): 465 (annual revised prog.) - Foreign financing (net): 177 (annual revised prog.) - Domestic financing (net): -7 (annual revised prog.) - Nominal GDP (fiscal year): 1,578 (2013/14) ### Monetary and banking sector indicators (selected) - Reserve money (levels and memorandum): - Reserve money snapshots (selected): 73, 99, 90, 127, 110, 119, 135, 135, 116, 134, 145, 158, 180, 202 (series across quarters/years) - Annual growth of reserve money (percent): 27.5, 35.7, 2.3, 25.9, 21.2, 19.8, 48.4, 36.1, 29.5, 49.9, 14.7, 16.7, 13.9, 12.7 - 91-day treasury bill rate: 6.8 (2011), 20.1 (2012), 39.8, 33.0, ... , 26.8 (various dates) - Monetary survey (broad money and growth): - Money and quasi-money (levels): 314, 386, 397, 448, 439, 487, 482, 486, 475, 511, 552, 600, 683, 769 (series) - Annual growth of broad money (percent): 35.7, 22.9, 25.8, 25.7, 25.3, 25.9, 37.6, 25.6, 22.4, 28.5, 23.1, 23.5, 13.9, 12.7 - Annual growth of credit to the private sector (percent): 20.5, 25.4, 28.0, 11.5, 8.5, 10.8, 10.0, 8.9, 9.9, 25.8, 43.4, 39.9, 12.7, -3.8 ### External sector and balance of payments (selected) - Current account and trade: - Current account balance (including grants, US$ millions): -330.0 (2011 Act.), -150.5 (2012 Prog.), -184.3 (2012 Act.), -58.9 (2013 2nd Rev.), -136.1 (2013 Revised Prog.), -74.2 (2014 2nd Rev.), -177.7 (2014 Revised Prog.), -153.1 (2015 Prog.), -109.5 (2016 Proj.) - Merchandise trade balance (US$ millions): -630.1, -658.2, -655.9, -490.1, -523.5, -535.7, -579.4, -632.9, -639.6 - Exports (goods and services, US$ millions): 1,262.7, 1,253.7, 1,255.5, 1,479.2, 1,385.3, 1,596.9, 1,505.2, 1,629.8, 1,905.8 - Of which: Tobacco: 482.4, 481.1, 480.9, 606.2, 358.2, 636.4, 394.9, 436.2, 532.8 (series across years) - Of which: Uranium: 120.4, 154.4, 154.4, 169.9, 169.9, 186.8, 161.6, 159.2, 159.2 - Imports (goods and services, US$ millions): -1,892.7, -1,911.9, -1,911.4, -1,969.3, -1,908.8, -2,132.6, -2,084.7, -2,262.8, -2,545.4 - Usable gross official reserves (US$ millions): 190.2, 215.4, 402.8, 403.0, 555.5, 453.1, 557.3, 1,102.0 (selected points) - Months of imports (gross reserves): 1.0, 1.1, 1.1, 1.9, 2.0, 2.5, 2.0, 2.4, 4.0 (series) - Financial account and financing: - Financial account balance (US$ millions): 157.4 (2011 Act.), 145.7 (2012 Prog.), 223.3 (2012 Act.), 199.3 (2013 2nd Rev.), 227.6 (2013 Revised Prog.), 217.5 (2014 2nd Rev.), 396.5 (2014 Revised Prog.), 342.6 (2015 Prog.), 413.8 (2016 Proj.) - Medium- and long-term flows (net, US$ millions): 108.9, 81.8, 76.0, 89.4, 126.3, 70.2, 271.7, 200.0, 203.0 - Disbursements (medium- and long-term, US$ millions): 123.3, 100.3, 93.4, 112.7, 137.1, 100.0, 297.5, 233.4, 236.5 - Overall balance (US$ millions): -106.9, -4.8, 39.1, 140.4, 91.5, 143.4, 280.4, 245.3, 382.0 ### External financing requirement and sources (summary) - Total requirement (US$ millions): -625 (2009), -1,072 (2010), -593 (2011), -861 (2012), -779 (2013), -997 (2014), -976 (2015), -1,070 (2016), -1,097 (2017) - Current account, excluding official transfers: -715, -919, -687, -775, -632, -678, -706, -718, -709 - Debt amortization: -9, -14, -14, -17, -11, -26, -33, -33, -33 - Gross reserves accumulation (- increase): 99, -139, 108, -69, -136, -293, -236, -318, -355 - Total sources (US$ millions): 625, 1,073, 593, 861, 779, 997, 976, 1,070, 1,097 - Expected disbursements (official): 545, 954, 480, 684, 633, 860, 843, 911, 913 - Grants: 471, 850, 357, 590, 496, 562, 609, 675, 677 - Medium- and long-term loans: 73, 104, 123, 93, 137, 297, 233, 236, 236 - Private sector (net): -6, 98, 113, 140, 64, 123, 141, 187, 209 - IMF (net): 86, 21, 0, 37, 82, 14, -8, -29, -25 - Gross international reserves (US$ millions): 141, 280, 190, 215, 403, 453, 557, 747, 1,102 - Months of imports (gross reserves): 0.7, 1.5, 1.0, 1.1, 2.0, 2.0, 2.4, 3.0, 4.0 ### Disbursement schedule under the ECF arrangement (selected) - Original schedule (Millions of SDR; total for the ECF arrangement): 104.10 (150.00) - Disbursed: 13.02 (18.76) — July 23, 2012 (Executive Board Approval) - Disbursed: 13.02 (18.76) — December 15, 2012 (first review) - Disbursed: 13.01 (18.75) — March 15, 2013 (second review) - Subsequent scheduled installments: 13.01 (18.75) each for June 15, 2013; December 15, 2013; June 15, 2014; December 15, 2014; June 15, 2015 (dates with observance of performance criteria and completion of respective reviews) - Proposed schedule (Millions of SDR; total for the ECF arrangement): 104.10 (150.00) - Disbursed: 13.02 (18.76) — July 23, 2012 - Disbursed: 13.02 (18.76) — December 15, 2012 - Disbursed: 13.01 (18.75) — March 15, 2013 - Rephased amounts shown: 6.51 (9.38) — June 15, 2013; 6.50 (9.37) — December 15, 2013; later installments 13.01 (18.75) on March 15, 2014 and subsequent dates ### Capacity to repay the Fund (selected indicators) - Projected payments based on existing and prospective drawings (SDR millions, total payments): - Total Payments (SDR millions): 1.7 (2013), 16.6 (2014), 17.8 (2015), 18.3 (2016), 16.1 (2017), 20.7 (2018), 17.4 (2019), 21.8 (2020), 21.0 (2021), 21.0 (2022) - US$ Millions (total payments): 2.6 (2013), 25.8 (2014), 27.5 (2015), 28.2 (2016), 24.8 (2017), 32.0 (2018), 26.8 (2019), 33.7 (2020), 32.4 (2021), 32.3 (2022) - Percent of exports of goods and services: 0.2 (2013), 1.6 (2014), 1.6 (2015), 1.5 (2016), 1.2 (2017), 1.4 (2018), 1.1 (2019), 1.3 (2020), 1.2 (2021), 1.1 (2022) - Projected level of credit outstanding (SDR millions): - 151.4 (2013), 160.8 (2014), 156.4 (2015), 138.6 (2016), 122.9 (2017), 102.5 (2018), 85.4 (2019), 63.8 (2020), 42.9 (2021), 22.1 (2022) - Memorandum items: - Exports of goods and services (US$ millions): 1,499.4 (2013), 1,631.5 (2014), 1,769.3 (2015), 1,913.4 (2016), 2,063.1 (2017), 2,239.1 (2018), 2,347.6 (2019), 2,518.0 (2020), 2,702.7 (2021), 2,903.3 (2022) - Gross official reserves (millions of U.S. dollars): 403.0 (2013), 453.1 (2014), 557.3 (2015), 746.8 (2016), 1,102.0 (2017), 1,335.1 (2018), 1,487.7 (2019), 1,560.0 (2020), 1,637.6 (2021), 1,697.3 (2022) *Source: Malawi authorities and IMF staff estimates and projections as presented in the document.* ### 1. Ceiling on net domestic assets of the RBM ### 1. Ceiling on net domestic assets of the RBM ### I. Monetary targets (millions of kwacha) - Ceiling on net domestic assets (NDA) of the RBM - End-Dec. 2012 (PC): 118,408; 125,803; 129,003; 120,412 - End-March 2013 (Act.): 108,487; 110,839; 72,920 - End-Sept. 2013 (Prog./Adj. Prog./Actual): 87,854; 59,365; 81,224 - End-Sep. 2014 (PC): 72,920; 87,854; 94,741; 107,710; 95,110; 113,035; 94,817; 97,701 - Notes on NDA targets - Defined as stocks. All stocks of NDA adjusted for consistency with the program definition (specified in the TMU). - Target is subject to an adjuster for liquidity reserve requirement. - Targets are subject to an adjuster for budget support and debt service payments. - Targets are subject to an adjuster for donor-funded social sector expenditures consistent with the TMU. - Ceiling on reserve money - End-Dec. 2012 (IT): 99,351; 98,488; 98,488; 89,678 - End-March 2013 (Act./Prog.): 106,902; 106,902; 126,570 - End-Sept. 2013 (Prog./Adj. Prog./Actual): 110,017; 110,017; 134,756 - End-Sep. 2014 (PC/IT and quarterly sequence): 126,570; 110,017; 118,977; 135,223; 116,146; 134,392; 145,225; 151,232 - Note: Defined as stocks. ### II. Fiscal targets (millions of kwacha) - Ceiling on central government's net domestic borrowing (cumulative flow) - End-Dec. 2012 (PC): -18,201; -3,396; -196; -232 - End-March 2013 (Act./Prog.): -18,605; -16,253; -2,492 - End-Sept. 2013 (Prog./Adj. Prog./Actual): -5,218; -2,018; 58,685 - End-Sep. 2014 (PC and quarterly sequence): -2,492; -5,218; 25,205; 72,042; 21,277; 52,018; 6,622; -20,023 - Floor on social spending (cumulative from beginning of fiscal year) - End-Dec. 2012 (IT): 87,295; 144,922; 144,922; 144,172 - End-March 2013 (Act./Prog.): 185,511; 185,511; 181,764 - End-Sept. 2013 (Prog./Adj. Prog./Actual): 200,841; 15,330; 48,952 - End-Sep. 2014 (IT and quarterly sequence): 181,764; 15,330; 65,540; 106,617; 65,540; 170,424; 214,832 - Notes - Priority social spending as defined in the TMU and quantified in the authorities' budget. - End-September 2013 "Prog." target was calculated cumulatively from July 1, 2012 (second review). The figure under "Adj. Prog." is calculated from July 1, 2013. ### III. External sector targets (US$ millions, unless otherwise indicated) - Floor on net international reserves (NIR) of the RBM - End-Dec. 2012 (PC): 34; -27; -37; 6 - End-March 2013 (Act./Prog.): 53; 46; 270 - End-Sept. 2013 (Prog./Adj. Prog./Actual): 127; 117; 254 - End-Sep. 2014 (PC and quarterly sequence): 270; 127; 134; 188; 124; 169; 260; 269 - Ceiling on the accumulation of external payments arrears (evaluated on a continuous basis) - All listed periods: 0 - Ceiling on new nonconcessional external debt maturing in more than one year (cumulative flow; evaluated on a continuous basis) - Select entries: 0; 0; 0; 77; 0; 0; 142; 0; 0; 0 - End-Sep. 2014 (PC and quarterly sequence): 142; 0; 0; 0; 0; 0; 0; 0 - Ceiling on new nonconcessional external debt maturing in one year or less - All listed periods: 0 - Prohibition on the imposition or intensification of restrictions on the making of payments and transfers for current transactions - Status: PC / M (noted as standard PC; evaluated continuously) - Memorandum items (selection) - Net foreign assets of the RBM (US$ millions): -60; -85; -103; -5; 151; 69; 167 - Budget support (US$ millions): 180; 186; 186; 245; 244; 50; 9 - Budget support (millions of kwacha): 57,531; 59,498; 59,478; 78,355; 78,219; 15,978; 2,846 - Debt service payments to the World Bank and AfDB (US$ millions): 3; 4; 4; 6; 6; 1; 1 - Debt service payments to the World Bank and AfDB (millions of kwacha): 835; 1,218; 1,218; 1,920; 1,936; 465; 465 - Health SWAp receipts (millions of kwacha): 8,612; 11,290; 11,290; 11,290; 15,040; 3,194; 4,815 - Education SWAp receipts (millions of kwacha): 6,434; 16,765; 16,765; 23,245; 1,764; 4,800; 3,548 - NAC receipts (millions of kwacha): 1,538; 7,993; 7,993; 12,281; 441; 4,288; 999 - Program exchange rate (kwacha per US$): 320 (constant across listed periods) ### Structural benchmarks, prior actions, and implementation status (select highlights) - Prior actions and reviews - Parliamentary passage of a budget for FY 2012/13 in line with program objectives: Met. - Shut down RBM's uncollateralized lending to banks: Met. - Sign and begin implementation of MoU between RBM and MoF on interest costs of treasury bills used for monetary operations: Met. - Structural benchmarks (public financial management) - Publish monthly revenue collections of the Malawi Revenue Authority in newspapers within two weeks of month end (31-Jul-12): Met. - Provide Ministries, Departments and Agencies with quarterly spending ceilings and enforce them (begin Sept 2012): Met. - Verify existing stock of government domestic arrears and convert verified claims into promissory notes beginning in FY2013/14 (31-Dec-12): Met (with delay). - Configure and expand IFMIS Purchase Order (PO) module and extend donor-funded project transaction capture in IFMIS: Met (some with delay). - Monetary policy benchmark - Submit RBM Act amendment to limit outstanding RBM lending to government (30-Jun-13): Not met. - Government authorities for RBM to stop automatic conversion of overdrafts into government securities (End-Dec. 2013, proposed): Reduce fiscal dominance; status indicated as Met for the proposed action under Third/Fourth Review. - Financial sector benchmarks - RBM to publish semi-annual financial stability reports (start July 2012): Met; reports published July 2012, January 2013, June 2013. - Require vulnerable banks to undergo third-party diagnostic assessments (30-Jun-13): Not met; postponed to end-February 2014. ### Risk Assessment Matrix — key risks, likelihood, and expected impact - Significant cut in aid flows on account of governance concerns - Relative Likelihood: Medium - Expected Impact if Realized: High - Effects: Drastic cuts in government spending or massive domestic borrowing; downward pressure on international reserves. - Political uncertainty in run-up to May 2014 general elections, including loosening of fiscal policy - Relative Likelihood: Medium - Expected Impact if Realized: High - Effects: Jeopardize recovery and sustained growth; may adversely affect aid flows. - Weakening of the Kwacha from loosening of monetary policy - Relative Likelihood: Medium - Expected Impact if Realized: High - Effects: Increased imported inflation (fuel, fertilizer, drugs); increased inflationary pressure; higher foreign debt service costs. - Global oil shock triggered by geopolitical events - Relative Likelihood: Low - Expected Impact if Realized: Medium - Effects: Domestic price effects through automatic petroleum price adjustment; fuel and transport have relatively small CPI weights. - Adverse weather conditions - Relative Likelihood: Medium - Expected Impact if Realized: High - Effects: Negative impact on food security; fiscal response required; large effect on growth given agriculture is 30 percent of GDP. - Banking sector risk from rising non-performing loans - Relative Likelihood: Medium - Expected Impact if Realized: Medium - Effects: Slowdown in private sector growth as borrowing costs increase. - Protracted slower European growth - Relative Likelihood: High - Expected Impact if Realized: Low - Effects: Some decline in export proceeds. - Terms of trade shock from substantial fall in tobacco prices - Relative Likelihood: Medium - Expected Impact if Realized: High - Effects: Lower export proceeds; adverse effect on farmers' income and growth; worsen current account deficit and weaken reserve buffer. *Sources: Reserve Bank of Malawi; Malawi Ministry of Finance; and IMF staff estimates. Targets and definitions are as specified in the technical memorandum of understanding (TMU).* ### Appendix I. Letter of Intent ### Appendix I. Letter of Intent ### Background and purpose - Letter dated December 26, 2013 from Malawi to Madam Christine Lagarde, Managing Director, IMF, reporting on recent developments, performance under the Extended Credit Facility (ECF) program, and policies for FY2013/14 and the medium term. - The ECF arrangement approved in July 2012 is in the amount of SDR104.1 million (150 percent of quota) and covers Malawi’s fiscal years 2012/13 through 2014/15. - The memorandum supplements the March 28, 2013 MEFP and focuses on recent developments since the second review, including measures to address weaknesses in IFMIS that enabled fraudulent transactions. ### Fraud via IFMIS and immediate responses - Discovery and scope: - Fraudulent transactions were discovered during a Ministry of Finance–Reserve Bank of Malawi reconciliation in September 2013. - Based on recovered data, it is estimated that nearly MK9 billion was misappropriated between July and September 2013 (equivalent to about US$25 million). - Operational response: - Use of IFMIS for government transactions was suspended between late-September and early November 2013 to allow the vendor to strengthen security features and for the government to strengthen management of the system. - Government transactions were processed manually while IFMIS was suspended; all Ministries are now processing transactions through IFMIS after reactivation. - Action Plan components (formulated with input from development partners, including the IMF): - (i) investigations and prosecutions; - (ii) auditing, including a forensic audit undertaken by an internationally reputable firm; - (iii) accounting; - (iv) administrative measures; and - (v) legal and institutional reforms. - Donor reaction: - Several development partners suspended disbursement of financial assistance to the government budget, creating a substantial financing gap in the FY2013/14 budget. ### Recent economic developments and macroeconomic indicators - Growth and sectoral performance: - Real GDP growth is estimated to have increased from less than 2 percent in 2012 to about 5 percent in 2013. - Strongest improvements: agriculture, manufacturing, construction, wholesale and retail trade. - Inflation (year-on-year): - Headline consumer inflation fell from a peak of 37.9 percent in February 2013 to 22.2 percent in October. - Food inflation fell from 38.2 percent to 19.4 percent over the same period. - Non-food inflation fell from 42.5 percent to 23.9 percent over the same period. - Exchange rate and reserves: - Kwacha depreciated persistently after liberalization until tobacco-season inflows; appreciated sharply in May 2013. - RBM international reserves reached USD472.9 million, equivalent to 2.5 months of import cover in July 2013—the highest since December 2007. - Monetary and liquidity developments: - Monetary conditions were tightened following exchange rate liberalization; liquidity was weakened in Q1 FY2013/14 due to higher-than-anticipated government expenditures financed largely by domestic borrowing. - To maintain reserves amid uncertainty, RBM refrained from intervening to support the currency and accepted a slower pace of disinflation. ### Performance under the ECF program and program targets - FY2012/13 fiscal outturn: - Domestic revenue exceeded programmed level by MK15 billion. - Grants fell short of program by about MK3 billion. - Total expenditures and net lending exceeded program by about MK13 billion (higher foreign-financed development expenditure). - Actual net domestic repayment of MK2 billion fell short of programmed MK19 billion due to issuance of a promissory note of MK28.5 billion to RBM in June to cover 2012 devaluation losses. - Third review (end-March 2013 test date): - Nearly all quantitative targets met (adjusting for aid shortfalls): performance criteria on net international reserves, government net domestic borrowing, and net domestic assets of RBM were met. - Continuous performance criterion on new nonconcessional external debt was not met due to a loan from the Export and Import Bank of China whose grant element was below the 35 percent threshold when it became effective. - Corrective measures: government will seek input from IMF staff on terms of new loans before requesting cabinet/parliament approval and will include grant element information in loan submissions; a waiver is requested for the nonobservance. - End-June 2013 (fourth review preparatory results): - Net international reserves exceeded the target by more than US$200 million (RBM purchases to build reserves). - Reserve money target missed (primarily due to rapid reserves buildup). - Social spending fell short due to savings on fertilizer purchases and low absorption on the maize seed subsidy component of FISP. - Net domestic financing target missed due to the promissory note issued to RBM. - End-September 2013 (fourth review test date): - Net international reserves exceeded the target by US$136 million. - Ceilings on net domestic assets of RBM and net domestic borrowing by government were exceeded by large amounts. - Government net domestic borrowing amounted to MK56 billion versus an adjusted program target of a net repayment of MK2 billion. - Main causes of overborrowing in Q1 FY2013/14: - (i) significantly larger interest bill; - (ii) unplanned spending on peace keeping operations; - (iii) spending on social services in advance of receipt of dedicated grants; - (iv) bringing forward payment of arrears to the private sector; - (v) payments associated with the fraudulent IFMIS transactions. - Structural benchmarks and reforms: - Progress noted; three previously delayed/partially met benchmarks have now been met: - (i) verification of existing stock of government arrears and conversion into promissory notes; - (ii) configuration of the IFMIS purchase order module to support commitment control; - (iii) approval of the Financial Sector Development Strategy. - IFMIS purchase order module extended to cover all procurements (goods and services under recurrent budget and capital expenditures under development budget). - Financial sector diagnostic assessments to cover all banks (structural benchmark for end-June 2013); World Bank funding secured and RBM finalized terms of reference in October 2013 with IMF and World Bank staff cooperation. ### Remedial measures, requests to the IMF, and commitments - Corrective and monitoring measures taken or committed: - Reactivation of IFMIS for all Ministries after strengthening management and security. - Auditing of manual transactions processed while IFMIS was suspended. - Cabinet approval of revised FY2013/14 budget in line with IMF understandings. - Provision of interim report of the forensic audit to IMF staff. - Observance of mid-December 2013 quantitative targets on government net domestic borrowing, net domestic assets of RBM, and net international reserves. - Implementation status: items (i)–(iv) already implemented; remaining action to be implemented before end-December. - Waiver and review requests: - Request waiver for nonobservance of the continuous performance criterion on new nonconcessional external debt (due to outdated discount rate use) and waivers for nonobservance of end-September PCs on net domestic borrowing by government and net domestic assets of RBM, based on corrective measures and commitments. - Request completion of third and fourth ECF reviews by the IMF Executive Board and release of the fourth and fifth tranches totaling SDR 13.01 million. - Request to rephase test dates and extend arrangement: - Proposal to shift test dates from March and September to June (year-end) and December (mid-year). - Request extension of the arrangement by four months to November 22, 2015 to accommodate the change. - Resulting test dates for reviews: end-December 2013, end-June 2014, end-December 2014, end-June 2015. - Request that end-March 2014 PCs be converted to indicative targets. - Policy stance and consultations: - Government affirms that policies in the MEFP are adequate to achieve program objectives but will take further measures if appropriate. - Government will consult with IMF staff in advance of revisions to MEFP policies and provide requested information on progress. - Publication authorization: - Government authorizes IMF to make the letter, attached MEFP, and TMU available to the public, including via the IMF internet website. _Appendix I. Letter of Intent and Attachment I. Memorandum of Economic and Financial Policies (December 26, 2013)._ ### 15. An amendment to the RBM Act was submitted to parliament in June 2013 but has not yet ### _cr1437 - 15. An amendment to the RBM Act was submitted to parliament in June 2013 but has not yet ### RBM Act amendment and immediate operational change - An amendment to the RBM Act was submitted to parliament in June 2013 but has not yet been considered. - The amendment lowers the limit on RBM advances to government from 25 percent to 10 percent of estimated government revenue for the year. - The benchmark foresaw placing a limit on all forms of RBM lending to government to contain automatic conversion of advances to other forms of lending (e.g., treasury bill) when the limit on advances is reached. - Legal advice indicated a potential tension between provisions of the RBM Act and the Public Finance Management Act (which sets limits on the issuance of treasury bills). - Pending resolution, the government has instructed the RBM to stop the automatic conversion of advances to government securities when the limit on advances is reached to allow closer monitoring of government borrowing from the RBM and facilitate more timely action to meet program targets. ### Fiscal policy, budget outcomes, and financing - Parliament approved the FY2013/14 budget on June 21, 2013. - The approved budget provided for net domestic repayment amounting to MK7 billion, equivalent to 0.5 percent of GDP. - Approved budget provisions included clearance of domestic arrears, the new wage settlement and deferred wage payments agreed in February 2013, and funding for tripartite elections scheduled for May 2014. - Aid inflows—grants and concessional external loans—were programmed to cover about 44 percent of total government expenditure in FY2013/14. - Suspension of aid disbursements created a significant financing gap, especially in the second fiscal quarter when a large share of aid was programmed to support FISP. - Two other developments with broadly offsetting impacts on the budget: - Large upward revision in the projected interest bill reflecting high interest rates and an updated (higher) estimate of the stock of interest-bearing domestic debt, including large borrowing in the first fiscal quarter and a promissory note issued to RBM to make up for 2012 devaluation losses. - Very strong performance of domestic revenues: in the first five months of the fiscal year, total tax revenue exceeded the projected level for the first half of the year by about 5 percent; mission expects this performance to continue. - Revised budget framework agreed with development partners and the IMF mission: - Premised on aggressive implementation of the Action Plan responding to the fiscal scandal and policy adjustments to close the updated financing gap. - Allows a moderate amount of domestic borrowing in the second quarter, followed by net repayments in the third and fourth quarters when some donor disbursements resume. - Cabinet-endorsed expenditure measures estimated to save about MK31 billion, mainly from: - Postponement of domestically-financed development projects not yet started: MK16 billion. - Cuts in travel budget across government: MK11 billion. - Savings from efficiency gains in the operation of FISP: MK4 billion. - Additional November 2013 expenditure control measures announced: - Limit domestic travel to only essential travel and drastically reduce allocations for travel-related activities. - Suspend external travel except critical and/or fully-funded travel. - Freeze procurement of capital goods, including motor vehicles, office furniture and equipment. - Suspend hiring and creation of non-established positions. - Improve fleet management and limit pool vehicles of Ministries and Departments. - Government commitments on fiscal discipline: - Monitor closely government borrowing, including overdrafts at RBM. - Strengthen commitment control system to ensure compliance with expenditure ceilings set by MoF. - Refrain from contracting new liabilities outside the government securities market and the RBM. - Issuance of promissory notes in October 2013 for procurement of maize described as a one-off operation to replenish strategic grain reserves. - Emergency food response: - Estimated about 1.9 million people (13 percent of the population) will face food shortages this year. - Government, with donor support, is replenishing the strategic grain reserve for humanitarian assistance during the lean season. ### Governance and Public Financial Management (PFM) reforms - Government Action Plan in response to the fraud covers five areas: (i) investigations and prosecutions; (ii) auditing; (iii) accounting; (iv) administration measures; and (v) legal and institutional reform. - Multi-agency investigation team has been set up; dozens of arrests made and asset profiling of public officers connected with suspicious transactions initiated. - Two-stage forensic audit initiated with UK government support: - First phase covers April-September 2013 (last quarter of FY2012/13 and first quarter of FY2013/14). - Second phase covers July 1, 2009 to March 31, 2013. - Preliminary report of the audit will be prepared in December and a final report on the first phase is expected by end-January 2014. - Work on the second phase will commence in January and is expected to be completed in the second half of 2014. - IFMIS reactivation and remedial measures (reactivated in early November 2013) undertaken before reactivation included: - Installation of a stronger firewall. - Revocation of all old user rights. - More limited assignment of new user rights to staff of Ministries and Departments. - Enhanced access control by limiting access to each user’s area of responsibility only. - Disabling capacity of remote access users to delete transactions from the database. - Government entered into a short-term service-level agreement with the software provider for functional and technical support; process initiated to recruit an ICT security officer and IFMIS manager. - Transactions conducted manually during IFMIS suspension are being audited (to be completed by end-December 2013) and will be uploaded to IFMIS by end-January 2014. - Ministry of Finance (Accountant General’s Department) will institute daily bank reconciliation; backlog expected to be cleared by end-February 2014 so that daily reconciliations can start from March 1, 2014. - Additional PFM controls to be implemented: - Use of electronic funds transfer through IFMIS. - Registration of commitments in IFMIS or equivalent commitment register. - Controlling officers to check commitments against limits at the item level to reduce risk of excessive virements. - Sensitization of IFMIS users to refrain from sharing passwords. - MoF to notify Ministries, Departments and Agencies of monthly commitment and cash funding limits; all purchases must be accompanied by a commitment reference number and an IFMIS generated Local Purchase Order. - Fiscal risk reporting: - Recent events highlight the need for comprehensive and regular fiscal risk analysis (macro and governance shocks, guarantees/contingent liabilities, build-up of arrears). - Public Finance Management Act requires fiscal risk reporting, but capacity constraints have limited regular practice. - Government intends to develop a fiscal risks statement in line with IMF technical assistance advice to be part of main budget documents. ### Domestic revenue mobilization - Sustained strong revenue performance is a key element of the strategy to reduce fiscal imbalance. - Malawi Revenue Authority (MRA) modernization efforts continuing through automation and IT upgrades. - MRA nationwide pilot project to roll out electronic fiscal devices (EFDs) to strengthen VAT enforcement; EFDs electronically record sales transactions to permanent memory. - Customs measures include installation of cargo scanners and introduction of joint border patrols and information sharing with neighboring countries. - Voluntary Compliance Window (VCW): - Opened on November 1, 2013 and will close on January 31, 2014. - Allows taxpayers to disclose and pay outstanding tax liabilities without payment of penalties and interests for late payment (does not exempt principal amount). - Expected to increase number of registered taxpayers and generate one-off revenues in the second and third quarters of the current fiscal year. ### Exchange rate and monetary policy - Commitment to a flexible exchange rate regime; kwacha to be market determined with RBM intervention limited to managing liquidity and excessive volatility from seasonal private inflows and lumpy aid disbursements. - Exchange rate developments: - From October 2012 to March 2013, the kwacha depreciated by approximately 25 percent against the US dollar and then appreciated by about the same amounts over a period of about three months. - Since September 2013, another sharp and unexpected depreciation occurred, possibly linked to fiscal overruns up to end-September and market concerns about fiscal fraud. - Monetary policy objective: achieve low (single-digit) inflation. - Inflation remains high at around 20 percent year-on-year. - Money market and policy rates: - Around mid-2013, money market liquidity increased substantially due to RBM foreign exchange intervention to build reserves and increased government borrowing. - Interbank market rate declined from 37 percent in March 2013 to about 16.5 percent in August 2013. - Monetary Policy Committee maintained the Bank rate at 25.0 percent throughout 2013 to sustain tight monetary stance. - RBM liquidity management and reserves: - RBM will monitor monetary aggregates using a liquidity forecasting framework and stands ready to deploy instruments including open market operations and changes in the bank rate to tighten policy if inflation pressures persist. - Official foreign exchange reserves nearly doubled in the year to end July 2013. - A modest decline in reserves is expected during the lean season that ends around April 2014. - Due to suspension of some aid flows, foreign exchange receipts will be particularly tight until the onset of the tobacco season. - Fiscal measures to address the fiscal gap will moderate foreign exchange demand. - RBM aims to accumulate reserves equivalent to at least three months of imports over the medium term. ### Financial stability issues and banking-sector measures - Pre-May 2012 context: - Prior to devaluation and adoption of a floating exchange rate regime in May 2012, banks were highly liquid in domestic currency due to high government spending and failure to meet foreign obligations because of scarcity of foreign exchange. - Banks had extended long-term loans and expanded representation, locking up capital in illiquid assets. - Following exchange rate adjustment, foreign exchange became available; deposit withdrawals to clear external payment obligations caused banks difficulty unwinding long positions and a liquidity crunch. - Current vulnerabilities: - Overall liquidity situation improved, but some banks continue to face weak liquidity positions, deteriorating loan quality, and fragile capital positions. - RBM response to vulnerabilities: - Commission third-party diagnostic assessments of all banks, starting with the weakest. - Strengthen legal framework for early intervention and bank resolution. - Enhance supervisory and regulatory framework to enable appropriate resolution strategies. - Diagnostic assessment timeline and scope: - Audit firms invited to submit expressions of interest in early November; given until November 19, 2013 to submit proposals. - Contracts awarded in December 2013 for diagnostic assessments of four banks; assessments for these banks expected to be completed by end-February 2014. - Contracts for the remaining eight banks to be awarded by end-February 2014 with expectation that all assessments will be completed by end-June 2014. - Results will be shared with IMF staff and used, in consultation, to design appropriate interventions within the legal framework. - Legislative reforms: - RBM consulted stakeholders in formulating proposed amendments to the Banking Act of 2010 and Financial Services Act of 2010. - Proposed reforms (informed by IMF technical assistance) aim to align bank resolution framework with good practices and provide options for dealing with problem banks, including two-tiered depositor preference that favors smaller depositors. - RBM submitted proposed amendments to the government in August 2013. - Government to formally submit proposed amendments to parliament by end-December 2013 for consideration at the next sitting of parliament scheduled for January/February 2014. *Source: IMF staff report content provided in the supplied PDF excerpt.* ### 40. The RBM is preparing to adopt a prompt corrective action (PCA) framework to strengthen ### The RBM is preparing to adopt a prompt corrective action (PCA) framework to strengthen ### Prompt Corrective Action (PCA) framework - The Directive establishing the PCA has been formulated and is awaiting publication in the Government Gazette to become effective. - Purpose: - Establishes a hierarchy of corrective actions the Registrar should take or impose on banks while the bank is still under the control of its owners. - Describes circumstances under which the Registrar and/or his agent may exercise powers under the existing legal framework to resolve banks while suspending the rights of the owners and management before a bank reaches actual insolvency. - Design features: - Introduces a sliding scale intervention framework where the form of intervention is proportionate to the severity of the problems encountered by a bank. - Leaves little supervisory flexibility or discretional judgment. - Discourages regulatory forbearance such as waiver of prudential norms. - Waivers will be used rarely; for example, for the sake of protecting depositors’ interests or the overall stability of the banking/financial system. - Decision-making and approval processes for issuing waivers will be well documented and approved at the highest appropriate RBM executive management level. ### Restructuring and valuation of Malawi Savings Bank (MSB) - Government actions: - Through the Public-Private Partnership Commission, and with support from the World Bank, the government has engaged a Transaction Specialist to advise on options for restructuring MSB. - The Registrar has contracted Ernst & Young to do a valuation of MSB as part of advance planning in case the Registrar decides to sell the bank himself. - Purpose of valuation: - The valuation report will provide a starting point for evaluating potential bids for MSB. ### Strengthening supervisory and prudential framework - Implementation actions: - Introduction of Basel II and raising capital requirements, to become effective January 1, 2014. - Improvements to prudential norms in asset classification, provisioning and liquidity. - Ensure prudent loan quality assessments, including for restructured, refinanced and renegotiated loans. - Implement prudentially sound loan provisioning standards. - Revised directive on Asset Classification: - Finalized and submitted to Government in September, 2013; will become effective once gazetted by Government. - Provisions informed by IMF Technical Assistance recommendations. - The revised directive will: - (a) improve the quantitative and qualitative criteria for loan classification; - (b) incorporate clear requirements for re-classification of assets; - (c) incorporate clear requirements for the classification of restructured, refinanced and renegotiated loans; and - (d) extend the coverage of prudential reporting for bank provisioning. ### Business climate and international competitiveness - Government objective: - Move Malawi into the top 100 countries in the World Bank’s annual “Doing Business Survey” by 2016. - Note: Malawi fell by 10 places in the 2014 survey. - Legal and institutional reforms: - Review of 9 economic laws by parliament in 2013, including Business Registration Act; Companies (Amendment) Act; Business Licensing Act; Investment and Export Promotion Act; Malawi Bureau of Standards Act; Companies Bill; Personal Property Security Bill; Insolvency Bill; Export Processing Zones (Amendment) Bill. - The Personal Property Security Bill will introduce a secured transactions framework enabling movable property to be used as collateral. - High-level Doing Business fora and a Doing Business Tracker in the Ministry of Industry and Trade to fast-track administrative and regulatory reforms. - Malawi Investment and Trade Centre designated as a one stop shop for investor facilitation services. - Merging of parastatals to create the Small and Medium Enterprise Development Institute (SMEDI). - Digitization at the Registrar General expected to reduce processing time to no more than 48 hours once applications have been lodged. - Support from development partners: World Bank, European Union, and DFID. - National Export Strategy (NES) targets: - Strategic objective: long-term export trend to match the long-term import trend. - Export share targets: increase exports as a share of imports from about half in 2010 to three-quarters by 2018 and to about 90 percent by 2023. - Initiatives: export diversification (non-traditional products); reforms to make it easier, cheaper and faster to do business; improvement in infrastructure quality. - Trade facilitation: implementation of the National Single Window and One Stop Border posts. - Current implementation through the Trade, Industry and Private Sector SWAp framework. - Infrastructure actions: - Development of a long-term energy plan to enable access to reliable and affordable power. ### Information sharing and program monitoring - Strengthening information-sharing to enhance economic management: - (i) Reconciliation of fiscal and monetary accounts involving the Malawi Revenue Authority, MOF and RBM to reduce statistical discrepancies between above-the-line fiscal data and below-the-line financing data from the RBM. - (ii) Provision of information on government operations by MOF to feed into the RBM’s liquidity forecasting framework that guides monetary operations. - (iii) Provision of data on projected aid inflows by MOF to inform the RBM’s foreign exchange cash flow projections. - (iv) Provision of complete information on the outstanding stock of domestic debt, including promissory notes issued for arrears’ clearance and all other newly issued promissory notes. - Program monitoring schedule and instruments: - Program implementation monitored with quantitative financial targets and structural benchmarks (TMU Tables 1a, 1b, 2a and 2b). - PCs established for December 2013 and June 2014 (TMU Table 1b) to align review cycle with Malawi’s budget cycle. - Fifth review expected to be completed by mid-March 2014 based on the end-December 2013 test date. - Sixth review expected to be completed by mid-September 2014 based on the end-June 2014 test date. - New prior actions and structural benchmarks proposed (TMU Table 2b), covering financial sector and public financial management reforms and monitoring remedial measures to address governance issues from recent fraud. - Budget execution to be monitored through IFMIS-generated monthly reports tracking funding authorizations and actual payments by vote. ### Technical Memorandum of Understanding — definitions and adjusters (selected) - Coverage: - Central government includes all units of government that exercise authority over the entire economic territory, excluding nonprofit institutions controlled and financed by the central government for purposes of this memorandum. - Monetary aggregates under the program are based on the twelve-bank monetary survey. - Floor on Net International Reserves (NIR) of the RBM: - Definition: NIR = gross reserve assets minus gross reserve liabilities (IMF, other short-term liabilities, including all foreign currency liabilities to residents (for instance, deposits of domestic banks with the RBM)). - Conversion: Values of foreign assets and liabilities converted into U.S. dollars at each test date using the program cross exchange rates and then into kwacha using the program exchange rate set at MK320 = US$1. - Concept of gross reserve assets includes: (1) monetary gold holdings of the RBM; (2) holdings of SDRs; (3) the reserve position in the IMF; (4) foreign convertible currency holdings; (5) deposits held in foreign central banks, the Bank for International Settlements, and other banks; (6) loans to foreign banks redeemable upon demand; (7) foreign securities; and (8) other unpledged convertible liquid claims on nonresidents. - Exclusions from gross reserve assets include: (1) any foreign currency claims on residents; (2) capital subscriptions in international institutions; (3) foreign assets in nonconvertible currencies; (4) transfers of foreign currency claims to RBM by other institutional units in Malawi just prior to reporting dates with accompanying reversals soon after those dates; (5) assets obtained through currency swaps of less than three months duration; (6) gross reserves encumbered or pledged, including blocked assets used as collateral for third party loans or pledged to investors, assets lent by RBM to third parties not available before maturity, and foreign reserves blocked for letters of credit. - Gross reserve liabilities defined as the sum of: (1) SDR allocations; (2) outstanding medium and short-term liabilities of the RBM to the IMF; (3) all short-term foreign currency liabilities of the RBM to nonresidents with original maturity up to, and including, one year; and (4) all foreign currency liabilities to residents. - Adjustment clauses on NIR: - Budget support: - Floor on NIR adjusted upward by the full amount by which cumulative receipts from budget support are greater than US$10 million above the program baseline. - Floor on NIR adjusted downward by the full amount up to a maximum of US$ 5 million by which cumulative receipts from budget support are less than the program baseline. - Budget support measured as cumulative flow from the beginning of the fiscal year. - Donor accounts for the social sector (SWAps and NAC): - Floor on NIR adjusted downward by the amount by which donor inflows (in kwacha) from the U.S. dollar–denominated donor accounts held in the RBM are smaller than the donor inflow (in kwacha) to those accounts in the program baseline. - Downward adjustment capped at US$ 5 million. - Debt service payments: - Floor on NIR adjusted upward (downward) by the full cumulative amount by which debt service payments to the World Bank and the African Development Bank (ADB) fall short of (exceed) the program baseline. - Aggregation and caps: - Total downward adjustment to NIR from a shortfall of (i) budget support and (ii) donor inflows to donor accounts for the social sector relative to program assumptions, and (iii) an excess of debt service payments to the World Bank and the ADB relative to program assumptions will be capped at US$10 million. - Floor on NIR adjusted upward by the full amount by which cumulative receipts from budget support are greater than US$10 million above the program baseline and by the full cumulative amount by which debt service payments to the World Bank and ADB fall short of the program baseline. - Valuation for this target and those for external debt and arrears will be in U.S. dollars using the program exchange rates. - Reporting: Data on NIR, including its components, will be reported by the RBM on a weekly and end-month basis. - Ceiling on Net Domestic Assets (NDA) and Reserve Money: - Definition of NDA: NDA of the RBM are defined in kwacha terms as end-quarter reserve money less NFA of the RBM at the program exchange rate. Reserve money consists of currency issued by the RBM and balances of commercial banks’ accounts with the RBM, including required reserves held for Malawi kwacha deposits and any other domestic currency reservable liabilities and other demand and time deposits held with the RBM. - Definition of NFA: NFA of the RBM are defined as the above-defined NIR plus other foreign assets of the RBM—including: (1) capital subscriptions in international institutions; (2) foreign assets in nonconvertible currencies; and (3) gross reserves that are in any way encumbered or pledged, less any medium- and long-term foreign liabilities of the RBM. - Adjustment clauses on NDA: - Budget support: - Ceiling on NDA adjusted downward by the full amount by which cumulative receipts from budget support are greater than US$10 million above the program baseline. - Ceiling on NDA adjusted upward by the amount by which cumulative receipts from budget support are less than the program baseline, up to a maximum of US$5 million. - The kwacha value of the cumulative shortfall (excess) calculated at the program exchange rate. - Donor pool accounts for the social sector (SWAps and NAC): - Ceiling on NDA adjusted upward by the amount by which donor inflows to the budget (in kwacha) from the U.S. dollar–denominated donor accounts held in the RBM fall short of the donor inflow (in kwacha) to those accounts in the program baseline. - Upward adjustment capped at US$5 million. - Debt service payments: - Ceiling on NDA adjusted downward (upward) by the full cumulative amount by which debt service payments to the World Bank and the ADB fall short of (exceed) the program baseline. - Aggregation and caps: - Total upward adjustment to NDA from a shortfall of (i) budget support, (ii) donor inflows to donor accounts for the social sector relative to program assumptions, and (iii) an excess of debt service payments to the World Bank and ADB relative to program assumptions will be capped at US$15 million. - Downward adjustment to NDA will reflect the full amount by which cumulative receipts from budget support are greater than US$10 million above the program baseline and by the full cumulative amount by which debt service payments to World Bank and ADB fall short of the program baseline. - Liquidity reserve requirement: - Ceiling on NDA adjusted downward for a decrease in the reserve requirement ratio on domestic deposits, and adjusted upward for an increase in the ratio. - Adjustment spread equally over two quarters starting in the quarter in which the reserve requirement ratio is reduced. - Adjuster calculated as: (one minus the existing required fraction of reserve assets) multiplied by (the program baseline required reserve ratio minus the new required reserve ratio) multiplied by (the amount of average reservable deposit liabilities in commercial banks during the last month before the change in regulation). *Source: Excerpt from IMF staff report (Technical Memorandum of Understanding and associated sections).* ### 21. Definition of CGDB: CGDB is computed as the sum of (1) net borrowing from the RBM ### _cr1437 - 21. Definition of CGDB: CGDB is computed as the sum of (1) net borrowing from the RBM ### Definition of CGDB - CGDB is computed as the sum of: - (1) net borrowing from the RBM (including ways and means advances, loans, holdings of local registered stocks, government bonds, and holdings of treasury bills minus deposits); - (2) net borrowing from commercial banks (including advances, holdings of local registered stocks, and holdings of treasury bills minus deposits); - (3) net borrowing from nonbanks (including, but not limited to, holdings of local registered stocks and holdings of treasury bills); and - (4) holdings of promissory notes. - Treasury bills and locally registered stocks are valued at cost rather than face value. - The ceiling is measured as the change in the stock of CGDB cumulative from the beginning of the fiscal year, including promissory notes and securities transferred to the RBM from the treasury since the beginning of the fiscal year. - Transfers from extra-budgetary funds: - Will not be considered revenues for this performance criterion. - Will be treated the same as borrowing from the private sector (accounts outside the definition of government) and therefore as domestic borrowing. - Asset sales or privatization revenues: - Will be accounted for under financing as a separate category, separate from domestic or foreign financing in calculating CGDB. ### Definition of domestic arrears - Domestic arrears are overdue payment obligations of the central government other than external payment arrears, including on: - wages and salaries, pensions, transfers, domestic interest, goods and services, obligations arising from court cases, legally established compensation claims, and tax refunds. - Arrears timing rules: - Payments on wages and salaries, pensions, transfers, court-established obligations, and compensations are in arrears when they remain unpaid for more than 30 days beyond their due date. - Domestic interest payments are in arrears when the payment is not made on the due date. - Payments for goods and services are in arrears if they have not been made within 90 days of the date of invoice, or—if a grace period has been agreed—within the contractually agreed grace period. ### Adjustment clauses on CGDB - Budget support (paragraph 23): - The ceiling of CGDB will be adjusted downward (upward) by the full amount by which cumulative kwacha receipts from budget support are greater (less than) the program baseline. - The upward adjustment will be capped at US$5 million. - In the event of excess budget support, the ceiling on CGDB will be adjusted by the full amount less US$10 million. - The kwacha value of the cumulative shortfall (excess) will be calculated at the program exchange rate. - Budget support is measured as the cumulative flow from the beginning of the fiscal year. - Donor accounts for the social sector (paragraph 24): - The ceiling on CGDB will be adjusted upward by the full amount by which the donor inflows to the budget (in kwacha) from the U.S. dollar–denominated donor accounts for health, education, and other SWAps, and NAC held in RBM are smaller than the donor inflows (in kwacha) to those accounts in the program baseline. - The upward adjustment will be capped at US$5 million. - Donor inflows are measured from the beginning of the fiscal year. - Debt service payments (paragraph 25): - The ceiling (floor) on CGDB will be adjusted downward (upward) by the full cumulative amount by which debt service payments to the World Bank and the ADB fall short of (exceed) the program baseline. - The cumulative amount will be measured from the beginning of the fiscal year. - Aggregate cap on upward adjustments (paragraph 26): - The total upward adjustment to CGDB from a shortfall of (i) budget support (ii) donor inflows to the donor accounts for the social sector relative to the program assumptions and (iii) an excess of debt service payments to the World Bank and the African Development Bank (ADB) relative to the program assumptions will be capped at US$10 million. - The downward adjustment to CGDB will reflect: - the full amount by which the cumulative receipts from the budget support are greater than US$10 million above the program baseline; and - the full cumulative amount by which debt service payments to the World Bank and the African Development Bank (ADB) fall short of the program baseline. ### Ceiling on External Payment Arrears - Definition (paragraph 27): - External payment arrears consist of debt-service obligations (principal and interest) of the central government or the RBM to nonresidents that have not been paid at the time they are due, as specified in contractual agreements, except on external debt subject to rescheduling or restructuring. - This performance criterion will be monitored on a continuous basis. ### Ceiling on Nonconcessional External Debt - Definition (paragraph 28): - The definition of debt for the limit follows Executive Board Decisions No. 6230-(79/140) August 3, 1979, and as amended by Decisions No. 11096-(95/100), October 25, 1995; 12274–(00/85) August 24, 2000; and 14416-(09/91), August 31, 2009. - For program purposes, short-, medium- and long-term debt is nonconcessional if it includes a grant element of less than 35 percent, as indicated in Decision No. 11248-(96/38), April 15, 1996. - The grant element is calculated using a discount rate of 5 percent. - The ceiling on nonconcessional debt applies to contracting and guaranteeing of debt with nonresidents by the central government, the RBM, public enterprises, and other official sector entities, unless an explicit selective exclusion is made. - This performance criterion is monitored on a continuous basis. - The ceiling applies to debt and commitments contracted or guaranteed for which value has not been received. - The ceiling is measured cumulatively from the beginning of the fiscal year. ### Maturity classifications and exclusions - Short-term debt (paragraph 29): - Outstanding stock of debt with an original maturity of one year or less. - Medium- and long-term debt (paragraph 30): - Outstanding stock of debt with a maturity of more than one year. - Exclusions from the limit (paragraph 31): - Use of IMF resources, and any kwacha-denominated treasury bill and local registered stock holdings by nonresidents. - Debts classified as international reserve liabilities of the RBM. - New debt issued to restructure, refinance, or repay existing debt up to the amount actually used for the above-mentioned purposes. - Normal import financing (a financing arrangement for imports is “normal” when the credit is self-liquidating). - Arrangements to pay overtime obligations arising from judicial awards to external creditors. ### Quantitative indicative targets and structural benchmarks - Definition of reserve money (paragraph 32): - Reserve money is defined as the sum of currency issued by the RBM, including the vault cash of commercial banks, and balances of commercial bank accounts with the RBM. - It includes required reserves held for kwacha deposits, other domestic currency liabilities, and other demand deposits held with the RBM. - Definition of social spending (paragraph 33): - Using functional classification of expenditure, social spending is computed as the sum of central government spending on health, education, the farm input subsidy program, and government social protection (comprising the government expenditures by the ministry of gender, children and social welfare, the ministry of disability and elderly affairs, and the local development fund). - Social spending allocations in the government budget will not be adjusted downward to meet fiscal targets of the program (Table 4). - Structural benchmarks are contained in Tables 2a and 2b (paragraph 34). ### Selected quantitative targets and memorandum items (as stated) - Table 1a / Table 1b: Selected reported figures (preserved verbatim as presented) - Monetary targets (millions of kwacha): examples include ceilings and stock targets such as 118,408; 125,803; 129,003; 120,412; 108,487; 110,839; 72,920; 87,854; 59,365; 81,224; 126,570; 110,017; 134,756; 99,351; 98,488; 89,678; 106,902; 110,017; 134,756; 126,570; 118,977; 135,223; 116,146; 134,392; 145,225; 151,232. - Fiscal targets (millions of kwacha): examples include central government net domestic borrowing values such as -18,201; -3,396; -196; -232; -18,605; -16,253; -2,492; -5,218; -2,018; 58,685; 25,205; 72,042; 21,277; 52,018; 6,622; -20,023. - Floor on social spending (cumulative): 87,295; 144,922; 144,172; 185,511; 181,764; 200,841; 15,330; 48,952; 181,764; 15,330; 65,540; 106,617; 170,424; 214,832. - External sector targets (US$ millions): floor on net international reserves examples: 34; -27; -37; 6; 53; 46; 270; 127; 117; 254; 270; 127; 134; 188; 124; 169; 260; 269. - Ceilings on new nonconcessional external debt maturing in more than one year: 0; 77; 142. - Memorandum items: - Net foreign assets of the RBM (US$ millions): -60; -85; -103; -5; 151; 69; 167. - Budget support (US$ millions): 180; 186; 245; 244; 50; 9. - Budget support (millions of kwacha): 57,531; 59,498; 59,478; 78,355; 78,219; 15,978; 2,846. - Debt service payments to the World Bank and AfDB (US$ millions): 3; 4; 6; 1. - Debt service payments to the World Bank and AfDB (millions of kwacha): 835; 1,218; 1,920; 1,936; 465. - Health SWAp receipts (millions of kwacha): 8,612; 11,290; 15,040; 3,194; 4,815. - Education SWAp receipts (millions of kwacha): 6,434; 16,765; 23,245; 1,764; 4,800; 3,548. - NAC receipts (millions of kwacha): 1,538; 7,993; 12,281; 441; 4,288; 999. - Program exchange rate (kwacha per US$): 320 (repeated across reporting columns). *Source: Excerpt from the IMF technical memorandum of understanding and associated Tables in the referenced Malawi program document.* ### 10. Prohibition on the imposition or intensification of restrictions on the making ### 10. Prohibition on the imposition or intensification of restrictions on the making of payments and transfers for current transactions ### Memorandum items: key balances and program parameters - Net foreign assets of the RBM (US$ millions): 151, 69, 76, 86, 66, 67, 158, 167 - Budget support (US$ millions): 244, 50, 100, 27, 150, 111, 167, 209 - Budget support (millions of kwacha): 78,219; 15,978; 31,945; 8,645; 47,903; 35,445; 53,509; 66,878 - Debt service payments to the World Bank and AfDB (US$ millions): 6, 1, 4, 5, 4, 6, 7, 2 - Debt service payments to the World Bank and AfDB (millions of kwacha): 1,936; 465; 1,310; 1,475; 1,777; 2,306; 529 - Health SWAp receipts (millions of kwacha): 15,040; 3,194; 6,531; 6,971; 9,721; 7,234; 8,834; 2,433 - Education SWAp receipts (millions of kwacha): 1,764; 4,800; 9,600; 9,191; 14,400; 13,600; 15,567; 2,829 - NAC receipts (millions of kwacha): 441; 4,288; 8,576; 3,070; 12,864; 3,070; 4,030; 971 - Program exchange rate (kwacha per US$): 320 (repeated for all program periods) Sources: Reserve Bank of Malawi; Malawi Ministry of Finance; and IMF staff estimates. Notes appearing in the program documents (verbatim references): - Targets are defined in the technical memorandum of understanding (TMU). Presentation uses stocks for all PCs except for the ceiling on the government's net domestic borrowing. - "PC" means Performance Criterion, and "IT" means Indicative Target. - Defined as stocks. All stocks of NDA adjusted for consistency with the program definition (specified in the TMU). - Target is subject to an adjuster for liquidity reserve requirement. - Targets are subject to an adjuster for budget support and debt service payments. - Targets are subject to an adjuster for donor-funded social sector expenditures consistent with the TMU. - Defined as a cumulative flow. - Priority social spending as defined and quantified in the TMU. - Evaluated on a continuous basis. - Other standard PCs include introducing or modifying MCPs, concluding bilateral payments agreements that are inconsistent with Article VIII, and imposing or intensifying import restrictions for balance of payment reasons. ### Prior actions and structural benchmarks (selected outcomes and status) - Prior Action: Parliamentary passage of a budget for FY 2012/13 in line with program objectives. Macro rationale: Toward fiscal sustainability. Status: Met. - Prior Action (First review): Shut down RBM's uncollateralized lending to banks. Macro rationale: Maintain a tight monetary policy stance to contain inflation. Status: Met. - Prior Action (Second review): Sign and begin implementation of memorandum of understanding between the Reserve Bank of Malawi and the Ministry of Finance indicating MoF is responsible for meeting interest costs of treasury bills used for monetary operations. Macro rationale: Enhance effectiveness of RBM monetary operations. Status: Met. - Structural benchmark (Fiscal transparency): Publish monthly revenue collections of the Malawi Revenue Authority in newspapers within two weeks of the end of the month. Target date: 31-Jul-12. Rationale: Build credibility after recent incidents of inflation of revenue data by the Ministry of Finance. Status: Met. - Structural benchmark (Public financial management): Provide Ministries, Departments and Agencies with quarterly spending ceilings consistent with quarterly fiscal targets; Begin in September 2012 for FY2012/13 Q2 and quarterly thereafter. Rationale: Keep spending within available resource envelope. Status: Met. - Verify existing stock of government domestic arrears and convert verified claims into promissory notes redeemable over several years, beginning in FY2013/14. Target date: 31-Dec-12. Rationale: Ascertain magnitude of government obligations and begin payment. Status: Met (with delay). - Configure the IFMIS Purchase Order (PO) module to support commitment control. Target date: 31-Dec-12. Rationale: To restrain creation of arrears. Status: Met (with delay). - Expand the IFMIS PO module to cover all procurements and roll it out to all Ministries and Departments. Target date: 30-Jun-13. Rationale: To further restrain creation of arrears. Status: Met. - Progressively extend processes for capturing donor funded project transactions in IFMIS to all projects where bank accounts are controlled by the government. Target date: 31-Mar-13. Rationale: Fuller accounting for impact of aid flows on the budget. Status: Met. - Submit to parliament an amendment of the RBM Act to limit the outstanding amount of RBM's total lending to government. Target date: 30-Jun-13. Rationale: Reduce fiscal dominance to enhance effectiveness of monetary policy. Status: Not met. - Require vulnerable banks to undergo third-party diagnostic assessments by reputable audit firms. Target date: 30-Jun-13. Rationale: Establish true financial conditions of affected banks and ensure effective monitoring. Status: Not met; postponed to end-February 2014. - RBM to publish a financial stability report on a semi-annual basis, with a lag of no more than four months, starting with quarter ending March 2012. Frequency: Semi-annual, starting in July 2012. Rationale: Promote financial stability. Status: Met; reports published in July 2012, January 2013 and June 2013. - Obtain approval and begin implementation of the Financial Sector Development Strategy. Target date: 31-Dec-12. Rationale: Financial deepening. Status: Met (with delay). Selected Dec 2013–Sept 2014 milestones and status (excerpt): - Reactivate IFMIS in all Ministries after strengthening security and access control. Target: End-Dec. 2013. Rationale: Enable better spending control. Status: Met. - Audit the manual transactions completed while IFMIS was suspended. Target: End-Dec. 2013. Rationale: Enable better spending control. Status: Met. - Submit to Fund staff preliminary forensic audit report. Target: End-Dec. 2013. Rationale: Build trust; resolve fraud case. Status: (implied in text: interim report received; final assessment pending). - Observe three quantitative targets (government net domestic borrowing, NDA and NIR of the RBM) set at same level as respective targets for end-December 2013. Date: 13-Dec-13. Rationale: Indicate prospect that PCs will be met. ### Social spending: FY2013/14 projections (selected line items; numbers in kwacha) - Health Expenditure (total health): Q1 Act.: 16,101; Q2 Proj.: 12,646; Q3 Proj.: 12,646; Q4 Proj.: 12,646; FY2013/14 Proj.: 54,039 - Wages: 8,412; 7,320; 7,320; 7,320; 30,372 - Ministry of Health ORT: 3,855; 2,457; 2,457; 2,457; 11,225 - Local Assemblies ORT: 1,853; 2,267; 2,267; 2,267; 8,654 - Development Part 2: 1,961; 584; 584; 584; 3,713 - Subvented Organisations: 20; 18; 18; 18; 75 - Education Expenditure (total education): Q1 Act.: 28,383; Q2 Proj.: 25,371; Q3 Proj.: 25,371; Q4 Proj.: 25,371; FY2013/14 Proj.: 104,496 - Wages: 14,089; 12,905; 12,905; 12,905; 52,805 - Ministry of Education ORT: 3,472; 3,549; 3,549; 3,549; 14,119 - Local Assemblies ORT: 1,658; 1,850; 1,850; 1,850; 7,209 - Subvented Organisations: 8,228; 5,831; 5,831; 5,831; 25,720 - Development Part 2: 936; 1,236; 1,236; 1,236; 4,643 - Farm Input Subsidy Program: 1,061; 18,629; 24,735; 6,000; FY2013/14 Proj.: 50,425 - Gender, Children and Social Welfare (total): Q1 Act.: 452; Q2 Proj.: 309; Q3 Proj.: 309; Q4 Proj.: 309; FY2013/14 Proj.: 1,380 - Wages: 212; 189; 189; 189; 778 - Other Recurrent: 60; 45; 45; 45; 195 - Development Part 2: 180; 76; 76; 76; 407 - Disability and Elderly Affairs (total): Q1 Act.: 99; Q2 Proj.: 63; Q3 Proj.: 63; Q4 Proj.: 63; FY2013/14 Proj.: 289 - Wages: 22; 17; 17; 17; 74 - Other Recurrent: 66; 34; 34; 34; 169 - Development Part 2: 11; 11; 11; 11; 45 - Local Development Fund: Q1 Act.: 2,840; Q2 Proj.: 628; Q3 Proj.: 665; Q4 Proj.: -; FY2013/14 Proj.: 4,132 - Poverty and Disaster Management Cost Centre under the Office of the President and Cabinet: Q1 Act.: 16; Q2 Proj.: 19; Q3 Proj.: 19; Q4 Proj.: 19; FY2013/14 Proj.: 72 - Total Social Expenditure: Q1 Act.: 48,952; Q2 Proj.: 57,665; Q3 Proj.: 63,808; Q4 Proj.: 44,408; FY2013/14 Proj.: 214,832 ### Reporting requirements (selected items, frequencies and delivery modes) - Gross international reserves, exchange rate, and foreign exchange purchases and sales: D RBM W2 FE - Reserve money and its components (NDA and NFA), OMO transactions, and RBM conversion of treasury bills; RBM balance sheet: W RBM M30 30 E - Daily exchange rate: D RBM W1 FE - Treasury bill auction results: W RBM W2 FE - Spread between bureau midrate and the official exchange midrate: WRB MM3030E - Spread between commercial bank midrate and the official exchange midrate: WRB MM3030E - International Reserve and Foreign Currency Liquidity Data Template: MRB MM3030E - NIR and its components: WRB MW7 FE - Central government domestic borrowing: MRB MM3030E - Interest rates: MRB MM3030E - Holdings of local registered stocks and treasury bills: MRB MM3030E - Full banking survey (on monthly basis): MRB MM4515E - Financial soundness indicators by banks: QRB MQ45T15E - NAC consolidated statement of sources and uses of funds (cashflow statement): MM OFM3030E - Health SWAp statement of sources and uses of funds: MM OFM3030E - Fiscal table (GFS) including revenue, expenditure, and financing: MM OFM3030E - Revenue data (from MRA): MM OFM3030E - Data on expenditure for domestically financed capital projects: MM OFM3030E - New external loans contracted or guaranteed by the central government: Q MOF Q30T30 E - External debt services (actual and projections): Q MOF Q30T30E - Borrowing of all major parastatals: Q MOF Q45 T15E - Annual Financial reports of the eight (8) major parastatals and MSB: AM OFQ9030H - Report on IMF program performance: QM OFQ45T15E - Statement on new arrears: QA uGQ45T15E - Consumer price index and monthly statistical bulletin: M NSOM3030E - Import and export data: M NSOM45T15E - Balance of payments, and quarterly statistical bulletin: Q NSO Q45T15E - National accounts, balance of payments, and quarterly statistical bulletin: ANSOBA45T15E Legend (verbatim): D- Daily, W-Weekly, M-Monthly, Q-Quarterly, BA-Bi-annual, F-Friday, 30-Every 30th, T30-Every third 30th, E-Electronic, H-Hard Copy ### Forensic audit, interim report findings, and recent developments (Jan 2014) - Recent administrative and governance steps reported at Inter-Ministerial Committee meeting on January 9, 2014: - An IFMIS General Manager is now in place, and an IFMIS Advisor is due to assume office before the end of January 2014. - Government has extended the contract of the IFMIS software vendor (Softech) to supply IFMIS security services through June 2014. - The Asset Declaration Law has come into effect. - Draft amendment to the Money Laundering Act has been completed with assistance from the World Bank; authorities requested a desk review by IMF staff before finalization and submission to parliament. - The Director of Public Prosecutions has finalized investigation of eight court cases involving multiple defendants, with trials due to start in the week of January 13–17, 2014. - Donor coordination and budget support: Multilateral donors have indicated to staff that their plans for resuming budget support this fiscal year remain on track. Implementation of the Extraordinary Performance Assessment Framework is advancing at a satisfactory pace, with several actions already completed. Most remaining main actions expected to be completed by end-February. - Forensic audit scope and timing: - The forensic audit commissioned by the government—covering budget transactions between April and September 2013—is scheduled to be submitted to the government by end-January 2014 (although it could slip into early February). - At Fund staff request, an interim report was prepared by end-December 2013 covering audit status, substantive aggregate findings including quantification of confirmed fraud or misappropriated amounts, and substantive system findings (control systems and IFMIS robustness). - Interim report main points: - An estimate of misappropriated funds is not yet available. Some checks associated with deleted transactions in the first fiscal quarter of FY2013/14 (July-September 2013) recovered by Softech have not been cashed. Auditors are also examining non-deleted transactions during this period, some of which may involve fraudulent payments; auditors want to complete investigations before providing a full estimate. - On testing the robustness of the reactivated IFMIS, auditors have undertaken an initial assessment based on high-level analysis and have extracted data for further interrogation and profiling; thus far they have not identified any serious issues but will cover this more fully in the final report. - Staff sought authorities’ responses to several specific findings on governance and control weaknesses, including shortcomings in the operations of the Accountant-General’s Department, the National Audit Office and the RBM. Authorities’ responses indicate that nearly all identified weaknesses are being addressed, but monitoring results of the measures will be necessary over a long period before assessing effectiveness. - Interim report noted lack of budgetary control and management, evidenced by ministries spending significantly in excess of Ministry of Finance approved funding limits. Weaknesses in budget control are being addressed in the government’s Action Plan and the ECF-supported program. Government authorized the RBM to enforce funding limits of ministries and adopted IFMIS templates (prepared with Fund staff assistance) for closer monitoring of monthly budget execution and enforcement of expenditure ceilings. Government committed to begin publication of monthly expenditure reports for each ministry containing data on budget allocations, approved funding limits, and payments. Approved by: David Owen (AFR) and Mark Flanagan (SPR), January 13, 2014 *Source: _cr1437 - 10. Prohibition on the imposition or intensification of restrictions on the making (IMF PDF supplementary material)._ ### 6. Quantitative targets were set for December 13, 2013 (at the same level as end-December ### _cr1437 - 6. Quantitative targets were set for December 13, 2013 (at the same level as end-December ### Quantitative targets and December 2013 outcomes - Targets were set for December 13, 2013 (at the same level as end-December targets) to indicate prospects for meeting end-December 2013 targets. - Focus indicators: (i) government net domestic borrowing; (ii) net domestic assets (NDA) of the RBM; and (iii) net international reserves (NIR) of the RBM. - Reported outcomes (Malawi: Quantitative Targets, December 2013): - Net international reserves (US dollars millions) — 1: 217.5 188.0 - Government net domestic credit (kwacha billions) — 2: 54.1 72.0 - Net domestic assets of RBM (kwacha billions) — 1: 112.1 107.7 - Notes: 1 Defined as stocks. 2 Defined as a cumulative flow from beginning of fiscal year (July 1). - Performance against targets: - The net domestic borrowing and NIR targets were met with ample margins. - The NDA target was missed by a small margin (about MK4 billion). - The RBM undertook monetary operations that withdrew about MK10 billion worth of liquidity from the banking system in the second half of December. - A full assessment awaited more comprehensive data (including on adjustors) at end-January 2014; preliminary indications and subdued government borrowing suggested the end-December NDA target may have been met and the macroeconomic program remained on track. ### Staff appraisal and policy implications - Staff views and recommendations: - Staff welcomed continued progress in implementing remedial actions addressing the recent fraud and actions toward meeting the end-December 2013 quantitative targets. - Staff welcomed the interim forensic audit report; while incomplete, it provided enough information to assure staff that remedial measures target the right areas. - Key risks and cautions: - Important to implement the fiscal spending program cautiously to preserve buffers in case the final audit reveals slightly larger fund misappropriation. - Authorities should complete the forensic audit and adopt all key recommendations in a timely manner. ### Forensic audit: Terms of reference and interim status (Table 1 summary) - Principal TOR items and interim status: - Follow the money through various bank accounts: Initial preparatory step taken; achieved full understanding of government bank account structure; extracted data from selected RBM accounts. - Identify all entities that may have received such funds: Initial preparatory step taken; database created to map inter-account transfers and fund flows. - Identify forged or fraudulent supporting documents and accounting entries: Ongoing. - Identify, quantify and evidence alleged misappropriated funds: Preliminary work completed; conducted preliminary review of deleted transactions recovered by Softech and matched against payments; additional sample assessment initiated. - Provide factual information for possible litigation/recovery and prosecution: Ongoing; started work with relevant law enforcement agencies. - Identify failures and weaknesses in internal controls and procurement and provide recommendations: Ongoing; identified several control weaknesses including absence of monthly bank reconciliations and instances of ministries overdrawing funding limits. - Carry out security audit of IFMIS to identify security gaps and recommend improvements: Initial security assessment undertaken based on high level analysis; data extracted for further interrogation and profiling; so far, no issues identified. - Provide suggested actions to strengthen other procedures as agreed: Ongoing. ### Main findings of the interim forensic audit and authorities’ response (Table 2 summary) - Accountant General’s Department (AGD) — main findings and responses: 1. Lack of basic understanding of IFMIS by senior management team of the AGD. - Response: Core training modules delivered; counterpart officers to be attached to foreign consultants (IFMIS security officer, IFMIS adviser) for skills transfer. 2. No monthly bank reconciliations completed for about two years. - Response: Backlog cleared through November 2013; committed under ECF-supported program to clear all backlog by end-February 2014 and begin daily reconciliations from beginning of March 2014. 3. Preparation of checks in publicly accessible areas rather than secured offices. - Response: Check writing centralized in the AGD in a secure location. 4. Inadequate review and authorization of checks by Accountant-General. - Response: Three Deputy Directors recruited to scrutinize all checks and review submissions from MDAs; necessary IT equipment provided. 5. Inadequate record keeping and filing of documents. - Response: IFMIS Advisor tasked to improve record keeping, provide training, and develop plan to digitalize documents. 6. Location of IFMIS server in unsuitable environment with inadequate cooling and electricity back-up. - Response: Back-up generators being repaired; UPS systems and sufficient air conditioners to be purchased; server access to be limited. 7. Discrepancies between expenditures reported by ministries and AGD records. - Response: Government committed to begin publication of monthly expenditure reports for each ministry with data on budget allocations, approved funding limits, and payments to improve transparency and consistency. 8. Lack of budgetary control and management and excess spending by ministries beyond funding levels. - Response: RBM authorized to enforce funding limits for each ministry; government adopted templates in IFMIS for closer monitoring of monthly budget execution and enforcement of ceilings. - Reserve Bank of Malawi — main findings and responses: 9. Inadequate secondary checks to verify legitimacy of transactions before payment. - Response: All banks cashing government checks must ensure check appears on IFMIS-generated check list reconciled against MDA payment orders; new rules mandate checks over K500,000 need to be deposited, not cashed. 10. Multiple payments with same check numbers and amounts. - Response: Alerts being designed to pick up duplicate check numbers; manual check writing discontinued; daily bank reconciliations to be carried out. - Auditor-General (National Audit Office) — main findings and responses: 11. Auditor-General does not complete annual financial audits of ministries. - Response: Auditing of individual ministries has begun; an audit opinion for each ministry will be issued. 12. Auditor-General lacks unrestricted access to IFMIS. - Response: Unrestricted access will be given. - Financial Intelligence Unit and other findings: 13. Financial Intelligence Unit has no direct access to financial information. - Response: Anti-Money Laundering Act, currently under review, contains provisions for the FIU to have direct access to financial information. 14. Absence of policies on conflict of interest and related party transactions. - Response: New draft Public Procurement Act contains provisions introducing stiffer penalties on non-compliance with conflict of interest stipulations. ### Other institutional and program context - Safeguards assessment (Reserve Bank of Malawi): - Updated safeguards assessment with respect to the 2012 ECF completed on December 27, 2012. - Reiterated key safeguards concern: lack of operational autonomy. - Recommended amendments to the RBM Act to limit lending to government be expanded to strengthen RBM autonomy more broadly. - Recommended enhanced oversight of foreign reserves management and measures to strengthen transparency of financial reporting. - Exchange regime and Article IV: - May 2012: government liberalized foreign exchange regime, devalued the kwacha by about 33 percent, and adopted a floating exchange rate regime. - Malawi maintains restrictions on the capital account. - De jure arrangement: floating; de facto arrangement: “other managed” (staff’s latest assessment). - Malawi is on a 24-month Article IV consultation cycle; last Article IV Consultation mission was May/June 2012; Executive Board concluded last Article IV consultation on July 23, 2012. - Technical assistance (selected entries and chronology): - Multiple IMF technical assistance missions and reports across STA, FAD, MCM, LEG from 01/10 through 11/13 covering topics including Balance of Payments Statistics, Price Statistics, Public Financial Management, IFMIS control environment, monetary statistics, liquidity management, revenue administration, stress testing, and others (dates and departments listed in the technical assistance table). *Source: Malawi authorities; content as provided in the PDF chapter.* ### 1. Public Expenditure Review ### 1. Public Expenditure Review ### Relations with the African Development Bank Group - AfDB operations in Malawi date back to 1969; the Malawi Field Office was opened in 2007 and officially launched in July 2008. - As at December 19, 2013, the Bank had provided cumulative commitments worth UA 829.8 million (about US$ 1.3 billion) to finance 99 operations including 12 studies and 2 lines of credit. - The AfDB Board of Directors on 30th January 2013 approved a new Country Strategy Paper (CSP) covering 2013–17, aligned to MGDS II (2011–16), the Bank’s Long Term Strategy (LTS, 2013–22), and the Regional Integration Strategy Paper for Southern Africa (Southern African RISP, 2011–15). - The new CSP focuses on two pillars: - (i) addressing infrastructure bottlenecks to competitiveness and growth; - (ii) supporting actions to expand private sector investment and trade. - More than 50 percent of the indicative lending operations are regional and will be financed with ADF XII, XIII and XIV resources. - Following Government reengagement with the IMF and the approval of a new US$ 157 million Extended Credit Facility (ECF) arrangement in July 2012, the Bank approved an ADF Grant for the Crisis Response Budget Support operation in July 2012 of UA 26 million (US$ 40 million). - The Bank designed a Restoration of Fiscal Stability and Social Protection (RFSSP) program with two components: - (i) strengthened PFM transparency and accountability; - (ii) strengthened social protection system. - The Bank disbursed UA 4 million (US$ 6 million) as additional budgetary support in June 2013. Box. AfDB Ongoing Operations (summary of activities and approvals) - Agriculture sector projects: Agriculture Infrastructure Support Project (AISP); Small-holder Crop Production and Marketing Project (SCPMP); Climate Adaptation for Rural Livelihoods and Agriculture Project (grant from Global Environment Facility). - Water sector: National Water Development Programme (NWDP) in collaboration with AusAID; African Water Facility (AWF) grants financing Strengthening Water Sector Monitoring & Evaluation Project and Water and Sanitation Access project for the Urban Poor in the City of Blantyre. - Social sector projects: Health SWAp Programme constructing/rehabilitating 57 health facilities; Local Economic Development project in rural growth centres (Jenda, Malomo, Monkey Bay, Chitekesa); Competitiveness and Job Creation Project in Private sector; Support to Higher Education Science & Technology Project (focus on TEVET and ICT). - Transport sector: Trunk Roads Rehabilitation Project including Blantyre-Zomba road rehabilitation project (60 km) and Lilongwe Bypass construction Project (13km) as part of the Multinational Nacala Road Corridor. - Portfolio status as at end-November 2013: overall portfolio rated satisfactory with a cumulative disbursement rate of 49%. - New approvals in line with CSP indicative program: - Mzuzu-Nkhata Bay Road Rehabilitation Project (US$ 33.20m) — approved March 2013. - Smallholder Irrigation and Value Addition Project (US$39.98m) — funded by Global Agriculture and Food Security Project and the African Development Fund — approved March 2013. - Multinational Nacala Road Corridor Development Project Phase IV (US$65.9m) — approved December 2013. - In October 2013, the Board approved a UA2.98 million (about US$ 4.5 million) Public Finance Management Institutional Support Project to support implementation of the five-year Public Finance and Economic Management Reform Program (PFEMRP). - Non-lending activities: feasibility studies and analytic work, including a Private Sector Profile for Malawi and joint financing of a Public Expenditure Review; support for the Private Public Partnership Commission (PPPC) and a Domestic Resource Mobilization Study; TA to the Reserve Bank of Malawi to strengthen macro-economic forecasting. *Source: IMF staff report (excerpts as presented in the supplied content).* ### Statistical issues — diagnostic findings and priority actions Findings on data adequacy and institutional arrangements - Although economic data provision has some shortcomings, it is broadly adequate for surveillance. - The data ROSC (published February 17, 2005) found the institutional framework broadly adequate but identified shortcomings in scope, accuracy, and reliability; weakest areas: national accounts, balance of payments statistics, government finances statistics, and monetary and financial statistics. - STA recommended formally assigning responsibility for compilation of government finance statistics to the Ministry of Finance and compilation of monetary statistics to the RBM. - Malawi is participating in the Fund’s GDDS, the GDDS Project for Anglophone African Countries, GDDS/PRSP, and the monetary and financial statistics modules; GDDS metadata have been posted on the DSBB since February 2007. National accounts - Accuracy and reliability of real sector data (national accounts, prices, and trade) are affected by inadequate source data and timeliness. - STA recommended remedial actions including additional resources for the National Statistics Office (NSO). - A long-term TA program in national accounts is being provided under a Norwegian-funded project. - The NSO revised national accounts methodology to implement SNA93 and to better account for informal sector activities; new estimates for Real and Nominal GDP based on base year 2007 are submitted. Consumer prices - A CPI is available on a timely basis. The CPI base is 2000, drawing on the 1997/98 household survey; data are collected monthly by regional price collectors. - CPI weights have been revised based on the 2010 planned Integrated Household Survey (IHS); the new series will be available in March 2013. Government finance statistics (GFS) — weaknesses and implications - Accuracy and reliability are affected by inadequate source data and inadequate system of recording source data. Serious quality problems and inconsistencies complicate program monitoring: - Tax revenue data are received in a timely fashion, but reconciliation with deposits in the Malawi Government (MG) Account is not always possible. - Nontax revenue, including capital revenues collected by line ministries, are not properly accounted for in fiscal reports prepared by the Ministry of Finance. - Recurrent expenditure data suffer from shortcomings related to insufficient bank reconciliation between line ministry expense records and Ministry of Finance financing information; line ministries report based on recorded expenses, while the Ministry of Finance estimates expenses based on funding data (from the Credit Ceiling Authority), leading to sizable discrepancies for wages and other recurrent transactions. - Domestically financed development expenditure estimates are based on funding released to line ministries; externally funded expenditure estimates are based on reported project grants and loans. Timing and modality differences (e.g., donor prefinancing) create substantial differences between expense flows and financing data. Many donor projects are not incorporated in the budget, so corresponding expenditure is not captured in government finance statistics. Some externally funded development expenditures are likely recurrent, causing capital expenditure to be overstated. - Data on expenditure arrears are likely incomplete; reporting from the Commitment Control System appears partial and ministry-level data are inconsistent across reports. - Malawi’s current budget classification includes economic and program classification and program, but does not include an effective administrative/organizational classification. Expenditure data is loosely mapped to functional classification based on CoFoG. - The output-oriented activities-based budget classification (ABB) is used for budget presentation, but pro-poor expenditures protected under the PRSP are only identified in the ABB classification. No bridge table exists to map ABB into the program classification used for expenditure reporting and accounting, so pro-poor expenditures cannot be monitored. Under the ECF program the government is expected to develop a mechanism for properly monitoring social expenditures. - The government nomenclature program/subprogram used for the functional classification mixes functions, programs, and administrative levels; the government should review the budget structure and functional classification based on CoFoG (GFSM2001) to verify alignment. - Absence of a financial administrative structure with vertical hierarchy of responsibilities inhibits use of GFS. Budget funds are directed to organizations defined as cost centers (e.g., ministry headquarters down to secondary school principals). Sub-votes have been introduced in some ministries but a system of warrants and sub-warrants has not been introduced. - Financing estimates are based on monetary and debt data rather than government records of financing. Reporting on treasury bills directly issued to the RBM at times has been slow. - The authorities have received significant TA from the Fund and other donors to strengthen expenditure monitoring and reporting, accounting, and statistical reporting, but results have lagged. The government has pledged to strengthen public financial management and fiscal reporting and is establishing a work plan to utilize donor TA more effectively. - The authorities are working with East AFRITAC to modify the chart of accounts and output-based structures for realignment to the national strategy. GFS dissemination and IFMIS - Government finance data are not reported for publication in the Government Finance Statistics Yearbook (GFSY) or the International Financial Statistics (IFS). - STA missions (August 2005, August 2007) reiterated importance of continued efforts to implement the Integrated Financial Management Information System (IFMIS); encouraged improved coverage and sectorization of government financial operations and correct classification according to international guidelines; proposed a migration plan and timetable to adopt GFSM 2001 methodology. - A GFS TA mission visited Lilongwe in June 2011 under the Enhanced Data Dissemination Initiative funded by DFID; it found annual and sub-annual data for budgetary central government compiled in GFSM 1986 format but not disseminated. - A new chart of accounts aligned with GFSM 2001 was introduced in the 2011–12 budget cycle and applies to all general government units. Bridge tables linking national classifications and GFSM 2001 classifications were prepared and should be revised and used to compile GFS in GFSM 2001 format. A follow-up mission is included in the RAP for FY 2013. Monetary and financial statistics (MFS) - Despite recent improvements, MFS continue to have shortcomings: irregular reporting to STA; lack of proper legislation to grant RBM authority to require reporting from other institutions; issues in sectorization of the domestic economy; and classification of financial instruments to adhere fully to the Monetary and Financial Statistics Manual. - STA missions in 2004, 2008, 2009, and 2010 made recommendations to address shortcomings and assisted RBM staff in developing standardized report forms (SRFs) for central bank accounts (1SR), other depository corporations (2SR), and monetary aggregates (5SR). External sector statistics (balance of payments) - External sector statistics exhibit serious deficiencies. Concepts and definitions broadly conform to BPM4; some progress towards BPM5; NSO should adopt BPM6 methodology and update balance of payments metadata accordingly. - Balance of payments data remain weak in key areas. NSO BOP section has been critically understaffed since March 2008. - Important data sources ceased to be available during 2006–07 (e.g., exchange control forms), reducing information on imports of goods, services, and current transfers. - Procedures for assessing accuracy of trade data need improvement. - The NSO compiled new BOP data and validated results from two key surveys (BOP Survey and NPISH survey) based on BPM5 methodology, and used inputs from the 2009 Foreign Private Capital and Investor Perception Survey, RBM monetary statistics, and other MoF financial data. - Much remains to be done to improve quality, coverage, and timeliness of BOP statistics. NSO is a recipient of substantial TA from the Fund and other organizations; external support should be underpinned by adequate staffing and budget resources to the NSO. *Source: IMF staff report (excerpts as presented in the supplied content).* ### 13. Data on remittances are non-existent, despite anecdotal evidence that there are high ### _cr1437 - 13. Data on remittances are non-existent, despite anecdotal evidence that there are high ### Data gaps and statistical weaknesses - Remittances - Data on remittances are non-existent, despite anecdotal evidence of high remittances. - Recommendation: Money transfer services should be required to report monthly data to the RBM. - Other balance of payments items - Data on foreign direct investment and portfolio flows are weak. - Project aid is classified as current transfers rather than in the capital account. - Several large in-kind projects are not properly captured in balance of payments data. - International Investment Position (IIP) - The IIP is not being compiled due to capacity constraints and weak source data. - Capacity building programs, including Fund-provided training and technical assistance, seek to enable future compilation of the IIP. - Debt and monetary reporting - The RBM and Ministry of Finance’s Debt and Aid Department need to improve reporting of monetary and external debt data respectively. ### Debt sustainability analysis (DSA) — overview and key findings - Document context - Prepared by IMF and World Bank staff in collaboration with the Malawian authorities. - DSA updates the previous Joint DSA update from September 2013. - Date on document: December 27, 2013. - Main conclusion - Malawi’s debt situation remains at a moderate risk of distress, but new risks have emerged since the last DSA. - Uncertainty increased after a scandal involving theft of public funds that revealed weaknesses in national fiscal systems and led donors to suspend budget support disbursements. - Financing and remedial response - Authorities are implementing an Action Plan of remedial measures with development partner support. - Authorities tightened the fiscal program in consultation with the Fund to reverse policy loosening in the first quarter of FY2013/14 and to close a substantial funding gap from reduced external financing. - Assuming timely implementation of remedial measures, medium term borrowing and the overall outlook are expected to be broadly unchanged relative to the previous DSA update. - Discount rate methodology change - The DSA uses a constant discount factor of 5 percent to evaluate debt service flows (previous analyses used market-related rates; the September update used an average discount rate of about 3 percent). - Using 5 percent lowered the present value of debt for Malawi and improved the debt sustainability outlook. ### Key numeric and fiscal indicators - External and public debt levels and projections - Malawi’s medium- and long-term public and publicly guaranteed (PPG) external debt is expected to reach US$1.57 billion at end-2013. - Domestic borrowing for 2013 is estimated to push total public and publicly guaranteed debt about 7 percentage points of GDP higher than envisaged in the previous DSA update. - Total public and publicly guaranteed debt to GDP is expected to decline faster during 2014 than in the previous DSA update (by 4 percentage points) as the government unwinds most over-borrowing from the third quarter of 2013. - Growth, inflation, and other macro assumptions (Box 1 / Baseline) - Growth: 5 percent in 2013 and 6.1 percent in 2014 (paragraph 4). - Longer-term growth: Real GDP projected to grow at an annual rate of about 6 percent over the longer term; projected to reach 6.5 percent by 2015; growth beyond 2017 projected to gradually approach 6 percent. - Inflation: projected to decline from 35 percent in 2012 to 20 percent by December 2013 and to reach single digits by 2014. - Exchange rate: projected to remain constant in real terms after 2014. - External debt contracting: expected mainly from multilateral creditors on concessional terms; borrowing from bilateral sources also on broadly similar terms. - Budget support and project loans: expected to fall during FY2013/14 and increase significantly in FY2014/15. - Current account: expected to remain at a sustainable level through export diversification and reliance on grants and concessional financing. - Debt indicator behavior and stress tests - Debt indicators remain well below established thresholds and follow a long-term downward trajectory. - Standard stress tests: present value of debt to GDP ratio reaches its indicative threshold in 2023 under historical-variable continuation (staff regards this as unlikely given removal of prior foreign exchange market distortions). - Bound tests: indicators remain below thresholds; the strongest impact requires a combination of shocks to growth, exports, and non-debt creating flows (Table 3a, case B5). - Public debt: baseline projects a relatively slow decrease in the ratio of public debt to GDP starting in 2014; domestic debt as a share of GDP is set to decline until 2018 with fiscal consolidation and a positive primary balance up to 2019. - The strongest impacts in stress tests arise from a one-time depreciation shock (compressing nominal GDP in U.S. dollars) and an export shock. ### Risks and vulnerabilities - Governance and donor confidence - Fraudulent transactions revealed significant loss of public funds, led to suspension of donor support, and raised governance, safeguards, and financing assurance concerns. - The suspension of aid generated substantial financing needs for FY2013/14; government response included spending cuts and higher domestic borrowing. - Resumption of donor aid is fundamental to Malawi’s budget and contingent on remedial measures and restored donor confidence. - Economic structure and external shocks - Main risks: deterioration in the terms of trade, adverse weather conditions, and loosening of policies in response to the aid shortfall or in the run up to the May 2014 general elections. - Economy is relatively undiversified and dependent on rain-fed agricultural exports as a source of foreign exchange. - Stress tests indicate vulnerability to export-related shocks and to exchange rate depreciation transmitted via nominal GDP in U.S. dollars. - Fiscal financing risks - External financing risks are programmed to be addressed by additional fiscal restraint. - Budget financing needs required an expansion of domestic debt for 2013. - Additional domestic borrowing would pressure the exchange rate, erode perceptions of commitment to reforms, damage macroeconomic performance, and should be avoided. - Authorities plan to cut domestically financed development expenditure and goods and services to meet shortfalls in external financing. ### Policy recommendations and program actions (implicit in text) - Improve statistics and reporting - Require monthly reporting of remittance flows from money transfer services to the RBM. - Strengthen reporting and compilation efforts for FDI, portfolio flows, project aid classification, and in-kind projects in balance of payments data. - Build capacity and provide technical assistance to compile the IIP. - Improve monetary and external debt reporting by the RBM and the Ministry of Finance’s Debt and Aid Department. - Fiscal and macro policy - Implement remedial measures to restore donor confidence and resume donor support. - Maintain fiscal tightening and fiscal consolidation to close the funding gap and reduce reliance on domestic borrowing. - Keep monetary policy tight to lower inflation and maintain confidence in the kwacha. - Avoid further domestic borrowing-dependent financing; prioritize cuts in domestically financed development expenditure and goods and services if external financing falls short. *Prepared by the staffs of the International Monetary Fund and the International Development Association (excerpted from the source document dated December 27, 2013).* ### 13. Malawi remains at a moderate risk of debt distress. The debt situation under the baseline ### _cr1437 - 13. Malawi remains at a moderate risk of debt distress. The debt situation under the baseline ### Overview and risk assessment - Malawi remains at a moderate risk of debt distress. - The debt situation under the baseline scenario remains close to that reported in the previous DSA update. - Risk of export related shocks remains, given Malawi’s limited sources of foreign exchange and reliance on rain-fed agriculture. - Additional risks include the loosening of policies as a response to the suspension of donor support, which could further erode donor confidence and jeopardize the resumption of aid. - Risks of negative financing shocks in the form of delayed or lower donor support, or lower than expected tax revenue may require additional fiscal restraint, but should not compromise the medium term debt sustainability of the country. - Recent events point to the need for taking steps to arrest declines in the quality of institutions (as reflected in the CPIA score), to ensure capacity to manage the debt load of the country. ### Key DSA indicators and medium-term projections (selected figures) - Public sector debt: - 2010: 29.7 - 2011: 36.1 - 2012: 54.8 - 2013: 59.8 - 2014: 52.0 - 2015: 47.9 - 2016: 43.7 - 2017: 41.2 - 2018: 37.8 - 2019: 33.3 - 2023: 24.6 - Of which: foreign-currency denominated: - 2010: 16.1 - 2011: 16.9 - 2012: 37.4 - 2013: 40.8 - 2014: 36.3 - 2015: 35.3 - 2016: 32.5 - 2017: 31.5 - 2018: 30.5 - 2019: 26.7 - 2023: 18.2 - Change in public sector debt (annual): - 2010: -8.6 - 2011: 6.4 - 2012: 19.4 - 2013: 5.1 - 2014: -7.9 - 2015: -4.1 - 2016: -4.2 - 2017: -2.5 - 2018: -3.3 - 2019: -0.5 - 2023: -0.8 - Identified debt-creating flows (annual): - 2010: -6.2 - 2011: 3.6 - 2012: 12.5 - 2013: -1.2 - 2014: -8.2 - 2015: -2.3 - 2016: -3.5 - 2017: -1.7 - 2018: -2.2 - 2019: 0.5 - 2023: -0.7 - Primary deficit (annual): - 2010: -4.2 - 2011: 2.2 - 2012: 2.0 - 2013: -0.8 - 2014: 3.2 - 2015: 1.2 - 2016: -1.3 - 2017: -0.4 - 2018: -0.9 - 2019: 0.1 - 2023: 0.1 - Revenue and grants (percent of GDP): - 2010: 36.7 - 2011: 28.3 - 2012: 34.7 - 2013: 35.1 - 2014: 35.7 - 2015: 36.1 - 2016: 36.8 - 2017: 35.5 - 2018: 33.6 - 2019: 31.1 - 2023: 30.5 - Of which: grants (percent of GDP): - 2010: 11.9 - 2011: 4.7 - 2012: 11.6 - 2013: 8.8 - 2014: 10.4 - 2015: 10.6 - 2016: 10.3 - 2017: 9.0 - 2018: 8.3 - 2019: 5.6 - 2023: 3.2 - Primary (noninterest) expenditure (percent of GDP): - 2010: 32.5 - 2011: 30.6 - 2012: 36.6 - 2013: 36.3 - 2014: 34.4 - 2015: 35.8 - 2016: 35.9 - 2017: 35.5 - 2018: 33.7 - 2019: 32.7 - 2023: 32.0 - Automatic debt dynamics: - 2010: -2.0 - 2011: 1.4 - 2012: 10.6 - 2013: -2.4 - 2014: -7.0 - 2015: -1.9 - 2016: -2.6 - 2017: -1.8 - 2018: -2.3 - 2019: -1.1 - 2023: -2.3 - Contribution from interest rate/growth differential: - 2010: -1.6 - 2011: 0.4 - 2012: -1.9 - 2013: -1.6 - 2014: -2.6 - 2015: -1.6 - 2016: -1.0 - 2017: -1.7 - 2018: -2.2 - 2019: -1.3 - 2023: -1.6 - Contribution from average real interest rate: - 2010: 0.7 - 2011: 1.6 - 2012: -1.2 - 2013: 1.0 - 2014: 0.8 - 2015: 1.6 - 2016: 1.9 - 2017: 0.9 - 2018: 0.2 - 2019: 0.6 - 2023: -0.1 - Contribution from real GDP growth: - 2010: -2.4 - 2011: -1.2 - 2012: -0.7 - 2013: -2.6 - 2014: -3.4 - 2015: -3.2 - 2016: -2.9 - 2017: -2.6 - 2018: -2.4 - 2019: -1.9 - 2023: -1.5 - Residual, including asset changes: - 2010: -2.4 - 2011: 2.8 - 2012: 6.1 - 2013: 6.2 - 2014: 0.4 - 2015: -1.8 - 2016: -0.7 - 2017: -0.8 - 2018: -1.1 - 2019: -0.9 - 2023: -0.3 - PV of public sector debt (selected years): - 2013: 40.4 - 2014: 42.5 - 2015: 36.5 - 2016: 32.7 - 2017: 29.3 - 2018: 26.9 - 2019: 23.6 - 2023: 19.1 - 2033: 15.0 - PV of public sector debt-to-revenue and grants ratio (in percent): - 2013: 116.5 - 2014: 121.1 - 2015: 102.2 - 2016: 90.4 - 2017: 79.7 - 2018: 75.8 - 2019: 70.1 - 2023: 61.3 - 2033: 49.1 - PV of public sector debt-to-revenue ratio (in percent): - 2013: 174.9 - 2014: 161.9 - 2015: 144.1 - 2016: 127.8 - 2017: 110.6 - 2018: 101.7 - 2019: 93.1 - 2023: 74.7 - 2033: 54.8 - Gross financing need (selected figures): - 2013: 16.8 - 2014: 18.9 - 2015: 20.9 - 2016: 20.9 - 2017: 23.2 - 2018: 18.2 - 2019: 15.0 - 2023: 13.4 - 2033: 11.0 - Debt service-to-revenue and grants ratio (in percent): - 2010: 8.0 - 2011: 12.3 - 2012: 8.1 - 2013: 19.0 - 2014: 17.1 - 2015: 12.5 - 2016: 12.2 - 2017: 8.7 - 2018: 6.2 - 2019: 5.7 - 2023: 2.6 - Debt service-to-revenue ratio (in percent): - 2010: 11.8 - 2011: 14.7 - 2012: 12.2 - 2013: 25.4 - 2014: 24.2 - 2015: 17.6 - 2016: 16.9 - 2017: 11.7 - 2018: 8.3 - 2019: 6.9 - 2023: 2.9 - Primary deficit that stabilizes the debt-to-GDP ratio: - 2010: 4.4 - 2011: -4.2 - 2012: -17.4 - 2013: -3.9 - 2014: 6.6 - 2015: 3.7 - 2016: 3.3 - 2017: 2.6 - 2018: 3.4 - 2019: 2.1 - 2023: 2.3 ### Key macroeconomic and fiscal assumptions (selected) - Real GDP growth (in percent): 6.5; 4.3; 1.9; 5.5; 2.8; 5.0; 6.1; 6.5; 6.5; 6.2; 6.3; 6.1; 5.9; 6.0; 5.9 (series as presented). - Average nominal interest rate on forex debt (in percent): 0.4; 0.7; 1.6; 0.9; 0.3; 1.6; 1.6; 1.7; 1.7; 0.7; 0.9; 1.4; 1.6; 1.7; 1.6. - Growth of real primary spending (deflated by GDP deflator, in percent): 0.1; 0.0; 0.2; 0.1; 0.1; 0.0; 0.0; 0.1; 0.1; 0.1; 0.0; 0.0; 0.0; 0.1; 0.1. - Grant element of new external borrowing (in percent): 41.9; 43.2; 45.4; 48.4; 47.5; 47.5; 45.6; 47.0; 44.1 (series as presented). ### Sensitivity analysis and stress tests (high-level) - Table 2 & Table 3a/3b show alternative scenarios and bound tests for PV of debt-to-GDP, PV of debt-to-exports, PV of debt-to-revenue, and debt service ratios under: - Alternative scenarios: A1. Real GDP growth and primary balance at historical averages; A2. Primary balance unchanged from 2013; A3. Permanently lower GDP growth. - Bound tests: B1. Real GDP growth at historical average minus one standard deviation; B2. Primary balance at historical average minus one standard deviation; B3. Combination of B1-B2 using one half standard deviation shocks; B4. One-time 30 percent real depreciation in 2014; B5. 10 percent of GDP increase in other debt-creating flows in 2014. - Selected sensitivity results (examples from tables): - PV of Debt-to-GDP Ratio (baseline and alternatives, selected years): - Baseline: 43 (2013), 37 (2014), 33 (2015), 29 (2016), 27 (2017), 24 (2018), 19 (2023), 15 (2033) - A1: 43, 38, 35, 32, 29, 25, 15, 4 (series as presented) - PV of Debt-to-Revenue Ratio (baseline and alternatives, selected years): - Baseline: 121, 102, 90, 80, 76, 70, 61, 49 (selected) - Debt Service-to-Revenue Ratio (baseline and alternatives, selected years): - Baseline: 19, 17, 12, 12, 9, 6, 5, 3 (selected) - The most extreme stress tests are identified as the tests yielding the highest ratio in 2023; for several indicators the most extreme shock is a Combination shock, while for some indicators an Exports shock is most extreme. ### Policy recommendations, actions, and recent program decisions - Authorities and staff note need to: - Investigate the public financial management fraud thoroughly and implement the Action Plan to address weaknesses exposed by the fraud. - Closely monitor expenditure execution and financing to prevent recurrence of fiscal slippage and rapid increases in domestic borrowing. - Be ready to act swiftly with more stringent expenditure restraint and expenditure reprioritization to protect social spending if downside risks materialize. - Maintain continued tight monetary policy and fiscal restraint to stabilize the exchange rate and reach the target of single digit inflation by end-2014. - The Reserve Bank of Malawi to improve oversight of the financial sector to safeguard financial stability. - Strengthen monitoring of concessionality of new external loans and enhance sharing of information on external loans with IMF staff. - IMF Executive Board actions (Press Release No. 14/15, January 17, 2014): - Completed the third and fourth reviews under the Extended Credit Facility (ECF) arrangement for Malawi and approved disbursement equivalent to SDR 13.01 million (about US$ 20million), bringing total disbursements under the arrangement to SDR 52.06 million (about US$79.8 million). - Granted waivers for nonobservance of the continuous performance criterion on new nonconcessional external debt with maturity of more than one year, and for nonobservance of end-September, 2013 performance criteria on government net domestic borrowing and on net domestic assets of the Reserve Bank of Malawi. - Approved an extension of the arrangement by four months (to November 2015) and a rephasing of disbursements. - Noted the authorities’ commitment to corrective actions and to strengthen monitoring and information-sharing on external loans. ### Recent governance and fiduciary developments (selected) - Fraud and misappropriation of public funds through IFMIS was uncovered in late September 2013; use of IFMIS was resumed in November after security fixes and access controls were strengthened. - An Action Plan to address public financial management weaknesses was endorsed and is being implemented; a Ministerial Committee chaired by the Minister of Finance meets weekly to monitor implementation. - A forensic audit by an internationally reputable firm, supported by the Government of the United Kingdom, has commenced and was on track to provide initial findings by end-January 2014. - Legal and prosecutorial actions under way: - Dozens of arrests linked to the fraud. - 81 companies identified; 60 profiled. - More than 35 individuals and 12 cases committed to the high court; 8 cases ready for trial and disclosures served to defendants. _Source: IMF staff report and associated tables and press release contained in the chapter "Malawi remains at a moderate risk of debt distress" (PDF _cr1437)._ ### 37.9 percent in February 2013, due to the implementation of foreign exchange market ### _cr1437 - 37.9 percent in February 2013, due to the implementation of foreign exchange market ### Inflation, food prices, and reserves - Inflation peaked at 37.9 percent in February 2013, attributed to foreign exchange market liberalization measures, the Automatic Pricing Mechanism for fuel and utilities, and high maize prices. - Improved food availability after the harvest, a tight monetary policy stance, and a rise in foreign exchange reserves contributed to disinflation from the peak. - Foreign exchange reserves: - 2.1 months of imports in mid-December 2013. - 0.7 months of imports in June 2012. - Disinflation was partially reversed during October and November 2013 due to: - Depreciation of the Kwacha. - A weak fiscal balance. - An increase in food prices. - Inflation increased to 22.9 percent in November 2013, linked to a sharp Kwacha depreciation largely due to loss of significant donor support following a fiscal scandal, despite official reserves being at their highest in recent years. ### Monetary policy stance and instruments - The Bank Rate remained at 25 percent since January 2013. - Liquidity reserve ratio (LRR) was maintained at 15.5 percent during 2013. - Measures decided in the December 2013 Monetary Policy Committee meeting, effective January 1, 2014: - Change in LRR composition: exclusion of vault cash from the LRR. - Eligible financial institutions prohibited from drawing down balances at the central bank to below 12 percent at all times — effectively increased the LRR without changing the headline rate. - Introduction of a Lombard Facility with a rate set at a spread of 2 percentage points above the Bank Rate to assist banks in liquidity management. - Policy objective: continue a tight monetary policy until overall inflation is brought down to single digits, using open market operations, the Bank Rate, and foreign exchange operations. ### Growth outlook and sector performance - Real GDP growth for 2013 is estimated at 5 percent. - Downside risks to growth stem from agriculture and mining. - All sectors expected to register positive growth in 2013, with a significant rebound expected in manufacturing. ### Program performance under the ECF arrangement - Authorities adhered to most ECF quantitative targets for end-March and end-June 2013. - Missed continuous performance criterion on new nonconcessional external debt due to use of an out-of-date discount rate. - Net international reserves target for end-September 2013 was met by a wide margin. - Targets related to fiscal and net domestic assets of the RBM were missed because of: - The fraud referenced in the text. - Higher interest payments than programmed. - Peace keeping operations. - Spending on social services in advance of grant receipts. - Remedial measures have been implemented in consultation with staff; December 13, 2013 outturn in staff’s supplement cited as evidence of commitment. - Authorities request: - Executive Board support to complete the third and fourth reviews under the ECF arrangement and a waiver for the nonobservance of the performance criterion. - Approval for re-phasing of test dates and associated disbursements to better align the ECF review cycle with Malawi's budget calendar. ### Fiscal policy measures and revenue administration - Authorities committed to sound fiscal management to maintain medium to long-term fiscal sustainability. - In response to the large fiscal gap from first-quarter overspending and suspension of donor budget support, authorities are implementing policy adjustments to: - Avert resurgence of inflation. - Preserve international reserve levels. - Domestic revenue performance better than expected, but expenditure compression required to close the fiscal gap. - Expenditure measures include: - Reductions in the travel budget and other lower priority items. - Postponement of domestically financed development projects. - Preservation of social spending. - Measures to strengthen domestic revenue collection: - Malawi Revenue Authority (MRA) modernization efforts to strengthen VAT enforcement and improve taxpayer compliance. - A three-month window for taxpayers to disclose and pay outstanding tax liabilities without interest and penalty. - Public financial management: - Continued collaboration with the IMF and the World Bank to address weaknesses in expenditure control that led to excessive domestic borrowing and payment arrears. - Implementation of the Financial Reporting and Oversight Improvement Project through a Multi-Donor Trust Fund. - Plan, with German government financial support, to commission a forensic audit going back to 2005 when the IFMIS system was introduced. ### Exchange rate policy and reserve objective - Authorities consider the flexible exchange rate regime appropriate. - Central bank intervention limited to smoothing market volatility and building international reserves. - Reserve target: accumulate and maintain reserves at about 3 months of import cover while endeavoring to minimize large swings in the Kwacha exchange rate. ### Financial sector oversight - Malawi’s financial system remains broadly sound. - RBM intends to upscale oversight and supervision of financial institutions. - Continued efforts to improve the functioning and efficiency of financial markets and to foster development of financial markets. ### Conclusion and policy stance - Economic policy reforms since May 2012 are showing positive results and authorities are determined to continue. - Swift corrective measures following fiscal slippages underscore commitment to the ECF program. - Authorities view the Fund’s and development partners’ policy advice and financial assistance as critical to promote sustained growth and poverty reduction. *Source: _cr1437 - 37.9 percent in February 2013, due to the implementation of foreign exchange market* --- _Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2014/_cr1437.pdf_