## 1. Headline and Structural Fiscal Balances of the General Government, 1998–2010

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### Introduction and context
- Moldova began transition to a market economy after independence in the early 1990s; fiscal and structural reforms were implemented across sectors to maintain fiscal sustainability while supporting efficiency and equity.
- Main policy goals: establish a tax system and administration capable of generating targeted revenue with minimal distortions; provide quality public infrastructure and services; expand social safety nets.
- IMF support since 1993 with a three-year program under the Extended Credit Facility (ECF) and the Extended Fund Facility (EFF) approved on January 29, 2010.
- Key macro outcomes cited:
  - Growth averaged 6 percent during 2000–2008.
  - Inflation remained in double digits during most of 2000–2008.
  - Current account deficit reached 17–18 percent of GDP in the mid-2000s.
  - Remittances and foreign investment boosted domestic demand prior to the crisis.

### Fiscal policy — structural and cyclical developments
- Post-1998 adjustment:
  - Fiscal deficit reduced from 6.3 percent of GDP in 1999 to 0.3 percent of GDP in 2001.
  - Expenditure fell from 42.6 percent of GDP in 1998 to 29.4 percent of GDP in 2001.
  - Primary surpluses of 2-2½ percent of GDP maintained until 2005.
- End-1999 debt position:
  - Stock of public and publicly guaranteed external debt almost US$1 billion, equivalent to 70 percent of GDP.
  - Adding arrears on energy imports puts the debt stock at over 100 percent of GDP.
- Debt reduction and later pressures:
  - Paris Club debt restructuring (May 2006) and fiscal efforts reduced public debt to 34.5 percent of GDP in 2006 and 21.6 percent of GDP in 2008.
  - Pension and public-sector wage increases in 2004 undermined tightening; boom in domestic demand masked structural balance deterioration.
- Crisis impact (2009):
  - Real GDP fell by 6 percent in 2009.
  - Budget revenue dropped by nearly 2 percent of GDP compared to 2008.
  - Fiscal expenditure increased by about 3¾ percent of GDP in 2009.
  - Fiscal deficit increased from 1 percent of GDP in 2008 to 6¼ percent of GDP in 2009.
  - Structural deficit (excluding grants) reached 7½ percent in 2009.
- Policy response and 2010 outcomes:
  - Authorities rationalized expenditure and enhanced revenue beginning in 2010.
  - Restraint in current spending (government wage bill, goods and services) while expanding public investment and priority social spending.
  - Reforms in social insurance and structural reforms to simplify customs, licensing, and business procedures.
  - Energy regulator ANRE raised energy tariffs to cost-recovery levels.
  - GDP growth reached almost 7 percent in 2010 and fiscal deficit reduced to 2.5 percent of GDP in 2010.
  - Social assistance expenditure increased by over 30 percent and was better targeted in 2010.
  - Structural balance began to improve but remained below levels consistent with fiscal sustainability.

### Revenue and tax policy developments
- General observation: major tax initiatives since 1998 reduced taxation (lower rates and narrower bases) without sufficient base broadening.
- Revenue series (selected, percent of GDP):
  - Headline revenue and grants: 37.6, 30.4, 30.1, 28.3, 29.0, 30.2, 31.7, 34.1, 35.8, 37.1, 35.9, 33.7, 33.3.
  - Domestic revenue: 37.6, 29.5, 30.1, 28.3, 29.0, 33.7, 35.0, 37.3, 39.2, 39.9, 38.9, 36.8, 35.5.
  - Tax revenue: 32.1, 24.8, 25.0, 24.4, 25.8, 27.5, 29.8, 31.6, 33.3, 34.0, 33.4, 32.0, 31.0.
  - Non-tax revenue: 5.4, 5.6, 5.0, 3.9, 3.1, 6.2, 5.2, 5.8, 5.9, 5.9, 5.4, 4.8, 4.6.
  - Grants: 0.0, 0.0, 0.9, 0.9, 0.6, 0.3, 0.4, 1.2, 0.7, 1.8, 1.7, 2.1, 2.8.
  - Structural revenue (percent of potential output): 37.7, 32.7, 30.3, 28.5, 28.7, 29.1, 30.3, 30.2, 32.6, 33.3, 32.1, 32.2, 30.3.
  - Automatic stabilizers (percent of potential output): -0.1, -2.3, -1.1, -1.1, -0.3, 0.7, 1.0, 2.6, 2.6, 2.0, 2.1, -0.7, 0.3.
- Output gap (percent of potential output): -5.5, -10.6, -10.6, -7.5, -3.1, -0.2, 3.3, 6.5, 6.5, 3.9, 6.2, -3.6, -0.5.
- Tax policy details:
  - Corporate income tax (CIT) rate reduced from 32 percent in 1992 to zero (for undistributed profit) by 2008; zero rate well below regional averages.
  - Personal income tax (PIT) restructured to two brackets with maximum rate reduced to 18 percent by 2008; effective PIT rate over average yearly wages is 7.8 percent with 71.5 percent of taxpayers subject to the 7 percent bracket.
  - Social security contributions (SSCs) levied at 29 percent on the wage bill in 2009, accounting for about 9.2 percent of GDP; employer 23 percent, employee 6 percent; health insurance contributions total 7 percent of the wage bill and 2.3 percent of GDP.
- Indirect taxes:
  - VAT: largest single source—12.7 percent of GDP and 41 percent of total tax revenues in 2010; standard rate 20 percent; reduced rates 8 percent and 6 percent; zero rate for exports and selected goods.
  - Excises: low overall level; excise tax revenue 2.9 percent of GDP in 2010; major excise contributors: cars, alcoholic beverages, tobacco products, petroleum products (petroleum products ~half of excise revenue in 2008–2010).
- Comparative tax structure (2009, percent of GDP):
  - Moldova: Total Taxes 32.2; PIT 2.4; CIT 0.7; VAT 12.7; Excises 2.6; Social Security 9.3.
  - Selected averages: Total Taxes 29.6; PIT 4.7; CIT 2.5; VAT 7.9; Excises 3.7; Social Security 8.0.

### Fiscal balances and selected indicators
- Expenditure and net lending (percent of GDP): 42.6, 36.7, 34.5, 29.4, 30.4, 33.3, 34.6, 37.0, 39.8, 42.0, 41.6, 45.2, 40.8.
  - Current expenditure (percent of GDP): 40.0, 34.4, 29.7, 26.0, 25.8, 28.9, 29.8, 30.9, 32.2, 34.6, 34.5, 40.3, 36.2.
  - Capital expenditure (percent of GDP): 2.6, 2.3, 5.0, 3.5, 5.0, 4.6, 5.0, 6.2, 7.8, 7.5, 7.0, 5.0, 4.8.
- Headline fiscal balance (including grants) (percent of GDP): -5.0, -6.3, -3.5, -0.3, -0.8, 0.7, 0.7, 1.5, 0.0, -0.2, -1.0, -6.3, -2.5.
- Structural fiscal balance (including grants) (percent of potential output): -4.6, -3.6, -2.1, 0.8, -0.5, -0.1, -0.3, -1.1, -2.7, -2.3, -3.3, -5.5, -2.8.
- Structural fiscal balance (excluding grants) (percent of potential output): -4.6, -3.6, -3.0, 0.0, -1.1, -0.4, -0.7, -2.4, -3.4, -4.2, -5.1, -7.5, -5.5.

### Expenditure developments and fiscal pressures
- Current expenditure rose from about 26 percent of GDP in 2001-02 to over 36 percent of GDP in 2010; crisis peak over 40 percent of GDP in 2009.
- Within current expenditure:
  - Transfers to households almost doubled relative to GDP driven by pension increases in 2004 and 2009.
  - Spending on goods and services doubled and exceeds peers.
  - Wage bill expanded by about a quarter relative to GDP; public sector wage bill 2010: 10.2 percent of GDP.
- Capital spending:
  - Averaged about 16 percent of total government spending in 2000–08 or 6 percent of GDP, falling to 11–12 percent of total spending and 5 percent of GDP in 2009–10.
  - Current capital spending close to CEEC averages but judged insufficient given development needs, especially roads.

### Policy measures implemented or recommended
- Revenue-side reforms since late 2009:
  - Restore sustainable revenue level and structure; significantly improve tax administration.
- Expenditure-side reforms:
  - Rationalize current expenditure (government wage bill, goods and services).
  - Increase allocations to social assistance and investment; social assistance expenditure increased by over 30 percent in 2010.
  - Reforms to social insurance (sick leave benefits, early retirement).
- Structural reforms:
  - Scrapping export/import restrictions; simplifying customs controls, licensing, business registration/liquidation.
  - Energy tariff adjustments to cost recovery.
- Policy priorities:
  - Review and rationalize tax exemptions and reduced rates to broaden tax base and reduce difficult-to-refund VAT credits.
  - Reconsider zero CIT and reintroduce sustainable corporate taxation (authorities signaled intention to reintroduce CIT in 2012 at 12 percent).
  - Strengthen tax and customs administration to combat smuggling and evasion.
  - Contain growth of current expenditures (wages, transfers, goods and services).
  - Increase and better manage capital spending; address procurement and partner conditionality constraints.
- Complement short-term fiscal measures with targeted structural reforms for durable solutions.

### Impact of the 1998 Russia financial crisis on revenues
- Estimated revenue loss in VAT, excises, and customs about 2 percent of GDP in 1998.
- Share of VAT revenues in GDP fell from 12.3 percent in 1998 to 7.6 percent in 1999.
- Excises share fell from 4.1 percent in 1998 to 3.6 percent in 1999.
- Profit and personal income tax yield and non-tax revenue also fell in 1999 relative to 1998.

### Box 4 — Pension System Reforms: key facts and pressures
- Reform history:
  - 1998 Law on State Social Insurance Pension Benefits; 1999 hybrid pension system introduced.
  - 2008 strategy aimed to strengthen link between benefits and contributions, unify contribution rates, reduce privileges, tighten disability rules; no concrete measures or fiscal/social impact estimates provided.
  - Government considered supplementing PAYG with a mandatory fully funded second pillar and encouraging voluntary funds.
- Retirement and 2011 legislation:
  - Statutory retirement ages: Women 57 years; Men 62 years; insurance period required 15 years.
  - 2011 legislation (effective July 1, 2011) raises statutory retirement age of civil servants, judges, prosecutors by six months every year until reaching regular retirement age; extends contribution requirement to all employed persons per bilateral treaties; increases years of contribution for full pension eligibility from 30 to 35 years (20 to 25 for military/police) by 6 months every year starting July 1, 2011.
- Pension system costs and indicators:
  - Pension costs: 4.4 percent of GDP in 1999; 7.2 percent of GDP in 2007; 9.1 percent of GDP in 2009.
  - Coverage: just over 40 percent of the working-age population.
  - Contributors declining due to emigration, unemployment, and informal economy expansion.
  - Dependency ratio: 59 pensioners per 100 contributors in 2008; projected 86 by 2050 under current policies.
  - Average old-age pension 35.1 percent of the average net wage (below ILO recommendation of 40 percent).
- Drivers of fiscal deterioration: recession effects, discretionary pension increases (including April 2009 increases and indexation rules), emergence of special privileged schemes (average civil servant pension about twice average old-age pension).
- Indexation rule: based on last calendar year averages of wages and inflation to estimate entitlements for April–March period.

### Public sector wages, education, and efficiency concerns
- Public sector wage developments:
  - Public sector wages rose in 2009 by 8.6 percent in real terms.
  - Public sector wage bill: 2004: 7.8 percent of GDP; 2010: 10.2 percent of GDP; CEEC average 7.3 percent of GDP.
  - Wages and salaries constitute 26 percent of total government expenditures (selected CEEC average 21 percent).
  - Public employment is 23 percent of overall employment.
  - Average public sector wage grew by 3½ times in real terms in 2000–2010.
- Education spending and inefficiencies:
  - Education spending 2010: 9.5 percent of GDP (CEEC average ~5 percent).
  - Education accounts for over 60 percent of public employment and almost a quarter of expenditure.
  - Student numbers declined by 43 percent in 2008/2009 compared to 1990/91; projected further decline of 15 percent by 2020.
  - Number of schools unchanged since 1994; class sizes smaller; cost per child increased; World Bank notes much spending wasted on maintaining empty schools and small classes.
- Implication: need to rationalize education and public employment to improve efficiency and free fiscal space.

### International assistance, donor coordination, and macro vulnerabilities
- External assistance 2010:
  - Total external assistance US$352 million; Grants US$140 million; Credits US$212 million.
  - Over 2006–2009: US$192 million in loans (excluding IMF) and US$288 million in grants.
- IMF support and commitments:
  - One-time SDR allocation SDR 117.71 million in 2009.
  - Total Fund credit and loans outstanding end-March 2011: SDR 210.8 million (about US$334 million).
  - January 2010 ECF/EFF arrangements total SDR 369.6 million (about US$574.4 million); SDR 60 million (about US$93.2 million) made immediately available.
  - International partners pledged equivalent of US$2.6 billion over 2010–2014.
- Donor coordination milestones:
  - Paris Declaration signatory 2005; Development Partnership Framework May 2006; Brussels Consultative Group December 2006 pledged US$1.2 billion; Consultative Group March 2010 pledged US$2.6 billion.
  - Recommended centralized database to consolidate dispersed aid information.
- Macroeconomic vulnerabilities (as of Box 6):
  - GDP growth: 6.9 percent in 2010 and 7.5 percent year-on-year in H1 2011.
  - Vulnerabilities: large dependence on remittances and external demand; exceptionally large international assistance to the budget; current account deficit expected to widen to over 11 percent of GDP in 2011–12; private external debt projected to reach almost 50 percent of GDP in 2012–13; public debt end-2010 moderate at 30 percent of GDP.
- Fiscal strategy and consolidation goals:
  - Structural budget deficit excluding grants in 2012 would be almost 4 percent of GDP without adjustment; sustainable only with large international grants (over 2½ percent of GDP).
  - Objective: bring structural deficit excluding grants down to 2 percent of GDP by 2016 via tax administration reforms and expenditure rationalization.
  - Headline budget deficit projected to narrow to below 1 percent of GDP in 2012–13 and stabilize.
  - Public external borrowing projected around 2 percent of GDP over long term (1.6 percent in 2010); shift toward non-concessional borrowing expected to raise debt service ratios.
- Guiding tax policy principles: neutrality, equity, simplicity.
- Envisaged tax measures:
  - Reintroduce CIT at 12 percent and cancel most incentives; accelerate amortization of selected productive assets.
  - Replace entrepreneurial patent with single-rate 4 percent presumptive tax for non-VAT small businesses.
  - Extend option to receive VAT refunds for investment goods to Chişinău and Bălți.
  - Remove VAT exemptions that limit revenue potential; unify reduced VAT rates at 8 percent; gradually harmonize excise rates with EU minimums while strengthening administration.
- Expenditure-side recommendations:
  - Rationalize wage bill to 9–9½ percent of GDP by reducing employment and introducing performance pay.
  - Improve targeting of social assistance; close unemployment insurance gaps; consider public works for employment.
  - Education reforms to reduce excess capacity and achieve permanent savings of about ½ percent of GDP per year over the medium term.
  - Complete pension reforms to maintain social and financial sustainability.

### Appendix II — Public Sector Debt Sustainability Framework (Baseline Scenario, 2004–2010)
- Public sector debt (percent of GDP): 2004: 47.6; 2005: 38.5; 2006: 34.5; 2007: 27.5; 2008: 21.6; 2009: 31.7; 2010: 29.9.
- Foreign-currency denominated share (percent): 2004: 36; 2005: 28.4; 2006: 26.1; 2007: 20.5; 2008: 16; 2009: 23.3; 2010: 22.5.
- Change in public sector debt: 2005: -9.1; 2006: -4; 2007: -7; 2008: -5.9; 2009: 10.1; 2010: -1.8.
- Identified debt-creating flows: 2005: -7.8; 2006: -6.4; 2007: -8.4; 2008: -6.5; 2009: 10; 2010: -3.3.
- Primary deficit (percent of GDP, selected entries): 2005: -3.3; 2006: -3.1; 2007: -1.3; 2008: -1; 2009: -0.2; 2010: 4.9 (note: table alignment indicates a final column value of 1.7).
- Revenue and grants (percent of GDP): 2004: 35.4; 2005: 38.6; 2006: 39.9; 2007: 41.7; 2008: 40.6; 2009: 38.9; 2010: 38.3.
- Grants (percent of GDP): 2004: 0.4; 2005: 1.2; 2006: 0.7; 2007: 1.8; 2008: 1.7; 2009: 2.1; 2010: 2.8.
- Primary (noninterest) expenditure (percent of GDP): 2004: 32.1; 2005: 35.4; 2006: 38.6; 2007: 40.8; 2008: 40.4; 2009: 43.8; 2010: 40.
- Automatic debt dynamics: 2005: -4.6; 2006: -4.7; 2007: -7.1; 2008: -4.4; 2009: 5.4; 2010: -4.5.
- Contributions to automatic dynamics:
  - Interest rate/growth differential: 2005: -4.8; 2006: -3.8; 2007: -6.1; 2008: -5.5; 2009: 3.5; 2010: -2.
  - Average real interest rate contribution (domestic): 2005: -1.5; 2006: -2; 2007: -5.1; 2008: -3.5; 2009: 2.1; 2010: 0.1.
  - Real GDP growth contribution: 2005: -3.3; 2006: -1.8; 2007: -1; 2008: -2; 2009: 1.4; 2010: -2.
  - Real exchange rate depreciation contribution: 2004: 2.8; 2005: 0.2; 2006: -0.9; 2007: -1.1; 2008: 1.1; 2009: 2; 2010: -2.5.
- Other identified debt-creating flows and residuals:
  - Other identified flows: 2004: 0; 2005: -0.1; 2006: -0.4; 2007: -0.4; 2008: -1.9; 2009: -0.4; 2010: -0.5.
  - Privatization receipts: 2005: -0.1; 2006: -0.4; 2007: -0.3; 2008: -1.9; 2009: -0.4; 2010: -0.5.
  - Residual, including asset changes: 2005: -1.3; 2006: 2.4; 2007: 1.4; 2008: 0.6; 2009: 0.1; 2010: 1.5.
- Other indicators:
  - PV of public sector debt: 27.8.
  - Gross financing need (selected): 2004: 9.6; 2005: 78.2; 2006: 6.7; 2007: 10.2; 2008: 9.8.
  - Public sector debt-to-revenue-and-grants ratio (percent): 2004: 134.5; 2005: 99.8; 2006: 86.6; 2007: 65.9; 2008: 53.2; 2009: 81.4; 2010: 77.9.
- Key macro/fiscal assumptions (selected):
  - Real GDP growth: 2004: 7.4; 2005: 7.5; 2006: 4.8; 2007: 3.7; 2008: 8; 2009: -6.6; 2010: 6.9.
  - Average nominal interest rate on forex debt: 2004: 3.2; 2005: 3.6; 2006: 3.3; 2007: 1.8; 2008: 1.8; 2009: 2.1; 2010: 1.5.
  - Average nominal interest rate on domestic debt: 2005: 5.2; 2006: 5.9; 2007: 11.5; 2008: 15.2; 2009: 18.2; 2010: 7.2.
  - Average real interest rate on domestic debt: 2005: -3.8; 2006: -6.6; 2007: -3.8; 2008: 5.4; 2009: 15.7; 2010: -3.6.
  - Average real interest rate on foreign-currency debt: 2004: -15.5; 2005: -3.2; 2006: -5.1; 2007: -18.8; 2008: -20.3; 2009: 6.9; 2010: 1.6.
  - Real exchange rate depreciation ( + indicates depreciation): 2004: 6.6; 2005: 0.8; 2006: -3.5; 2007: -5.1; 2008: 7.3; 2009: 10.8; 2010: -11.3.
  - Inflation rate (GDP deflator): 2004: 8.9; 2005: 14.4; 2006: 13.4; 2007: 15.9; 2008: 9.2; 2009: 2.2; 2010: 11.2.
  - Growth of real primary spending (percent change): 14; 18.6; 14.1; 8.9; 6.8; 2; -2.4.

*Source: IMF staff estimates and IMF staff calculations as presented in the chapter "1. Headline and Structural Fiscal Balances of the General Government, 1998–2010" from the provided PDF content.*

### 1. Headline and Structural Fiscal Balances of the General Government, 1998–2010 ...............6

### 1. Headline and Structural Fiscal Balances of the General Government, 1998–2010

### Introduction and context
- Moldova began transition to a market economy after independence in the early 1990s; fiscal and structural reforms were implemented across sectors to maintain fiscal sustainability while supporting efficiency and equity.
- Main policy goals discussed: establish a tax system and administration capable of generating targeted revenue with minimal distortions; provide quality public infrastructure and services; expand social safety nets—prerequisites for inclusive growth and macroeconomic stability.
- IMF support: technical assistance, policy advice, and program arrangements since 1993; a three-year program under the Extended Credit Facility (ECF) and the Extended Fund Facility (EFF) arrangements was approved on January 29, 2010.

### Key macroeconomic outcomes cited
- Growth averaged 6 percent during 2000–2008.
- Inflation remained in double digits during most of 2000–2008.
- Current account deficit reached 17–18 percent of GDP in the mid-2000s.
- Remittances and foreign investment helped boost domestic demand prior to the crisis.

### Role of international partners (summary from text)
- World Bank: lead in policy dialogue on private sector development, infrastructure, health, education, social protection, agricultural reforms.
- European Commission: institutional capacity building and sector support (agriculture, education, road construction, energy, trade) via loans and technical assistance.
- EBRD and EIB: active in banking, winemaking, and infrastructure.

### Paper structure (as presented)
- Section II: fiscal adjustment 1998–2010.
- Section III: tax system and administration.
- Section IV: expenditure developments and expenditure composition.
- Section V: international assistance and donor coordination.
- Section VI: short-term revenue and expenditure measures and structural reforms.
- Section VII: conclusions.

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### Fiscal policy — structural and cyclical developments
- After the Russian crisis of 1998, a fiscal adjustment based largely on expenditure cuts reduced the fiscal deficit from 6.3 percent of GDP in 1999 to 0.3 percent of GDP in 2001.
- Expenditure fell from 42.6 percent of GDP in 1998 to 29.4 percent of GDP in 2001, driven by near-elimination of quasi-fiscal subsidies and massive reduction in net lending to enterprises.
- Primary surpluses were maintained until 2005; primary surpluses of 2-2½ percent of GDP helped reduce debt pressures.
- At end-1999:
  - Stock of public and publicly guaranteed external debt amounted to almost US$1 billion, equivalent to 70 percent of GDP.
  - Adding arrears on energy imports puts the debt stock at over 100 percent of GDP.
- Paris Club debt restructuring (May 2006) and fiscal efforts reduced public debt to 34.5 percent of GDP in 2006 and 21.6 percent of GDP in 2008 (Appendix II).
- Pension and public-sector wage increases in 2004 undermined tightening, while boom in domestic demand (remittances, capital inflows) increased revenues but masked deteriorating structural balances.
- Crisis effects:
  - Real GDP fell by 6 percent in 2009.
  - Budget revenue dropped by nearly 2 percent of GDP compared to 2008 (due to drops in VAT receipts, nontax revenue, and foreign trade taxes).
  - Fiscal expenditure increased by about 3¾ percent of GDP in 2009 (driven by politically-motivated increases in wages and pensions).
  - Fiscal deficit increased from 1 percent of GDP in 2008 to 6¼ percent of GDP in 2009.
  - Structural deficit (excluding grants) reached 7½ percent in 2009.
- Policy response in 2010 and outcomes:
  - Authorities implemented reforms to rationalize expenditure and enhance revenue beginning in 2010.
  - Chosen restraint in current spending, in particular government wage bill and goods and services, while expanding public investment and priority social spending.
  - Reforms in social insurance (sick leave benefits and early retirement) and structural reforms (scrapping export/import restrictions, simplifying customs, licensing, business registration/liquidation).
  - Energy regulator ANRE raised energy tariffs to cost-recovery levels.
  - Rebound in tax revenue as GDP growth reached almost 7 percent in 2010.
  - Deficit reduced to 2.5 percent of GDP in 2010.
  - Social assistance expenditure increased by over 30 percent and was better targeted to the poor.
  - Structural balance began to improve but remained below levels consistent with fiscal sustainability.

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### Revenue and tax policy developments
- All major tax initiatives since 1998 resulted in reduced taxation—both lower tax rates and narrowing tax bases.
- Decline in rates was not accompanied by sufficient broadening of the tax base (abolishing preferences and exemptions).
- By 2008 the process of rate reduction had gone "overboard," harming structural revenues (see Table 1).
- Policy guidance emphasized enlarging the tax base by gradually eliminating exemptions and incentives; international practices favor base broadening for transparency and stability.
- Box 1 (summary) — "The Ten Most Common Arguments Against Tax Incentives":
  - Lists ten arguments including: revenue loss; revenue leakage through avoidance/evasion; adverse impact on tax administration; economic cost of fiscal adjustment; economic distortions; negative impacts on equity; lack of transparency and rent seeking; governance problems and corruption; existence of fiscally more sustainable alternatives; incentives often too costly and attract footloose investment without lasting employment effect.

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### Selected quantitative fiscal indicators (from Table 1 and text)
- Headline revenue and grants (selected years shown in Table 1): 37.6, 30.4, 30.1, 28.3, 29.0, 30.2, 31.7, 34.1, 35.8, 37.1, 35.9, 33.7, 33.3 (percent of GDP) — table shows series across 1998–2010.
- Domestic revenue (percent of GDP) series (as shown in Table 1): 37.6, 29.5, 30.1, 28.3, 29.0, 33.7, 35.0, 37.3, 39.2, 39.9, 38.9, 36.8, 35.5.
- Tax revenue (percent of GDP) series (as shown in Table 1): 32.1, 24.8, 25.0, 24.4, 25.8, 27.5, 29.8, 31.6, 33.3, 34.0, 33.4, 32.0, 31.0.
- Non-tax revenue (percent of GDP): 5.4, 5.6, 5.0, 3.9, 3.1, 6.2, 5.2, 5.8, 5.9, 5.9, 5.4, 4.8, 4.6.
- Grants (percent of GDP): 0.0, 0.0, 0.9, 0.9, 0.6, 0.3, 0.4, 1.2, 0.7, 1.8, 1.7, 2.1, 2.8.
- Structural revenue (percent of potential output) series (as shown in Table 1): 37.7, 32.7, 30.3, 28.5, 28.7, 29.1, 30.3, 30.2, 32.6, 33.3, 32.1, 32.2, 30.3.
- Automatic stabilizers (percent of potential output): -0.1, -2.3, -1.1, -1.1, -0.3, 0.7, 1.0, 2.6, 2.6, 2.0, 2.1, -0.7, 0.3.
- Expenditure and net lending (percent of GDP) series: 42.6, 36.7, 34.5, 29.4, 30.4, 33.3, 34.6, 37.0, 39.8, 42.0, 41.6, 45.2, 40.8.
  - Current expenditure (percent of GDP): 40.0, 34.4, 29.7, 26.0, 25.8, 28.9, 29.8, 30.9, 32.2, 34.6, 34.5, 40.3, 36.2.
  - Capital expenditure (percent of GDP): 2.6, 2.3, 5.0, 3.5, 5.0, 4.6, 5.0, 6.2, 7.8, 7.5, 7.0, 5.0, 4.8.
- Headline fiscal balance (including grants) (percent of GDP): -5.0, -6.3, -3.5, -0.3, -0.8, 0.7, 0.7, 1.5, 0.0, -0.2, -1.0, -6.3, -2.5.
- Structural fiscal balance (including grants) (percent of potential output): -4.6, -3.6, -2.1, 0.8, -0.5, -0.1, -0.3, -1.1, -2.7, -2.3, -3.3, -5.5, -2.8.
- Structural fiscal balance (excluding grants) (percent of potential output): -4.6, -3.6, -3.0, 0.0, -1.1, -0.4, -0.7, -2.4, -3.4, -4.2, -5.1, -7.5, -5.5.
- Output gap (percent of potential output) series (as shown in Table 1): -5.5, -10.6, -10.6, -7.5, -3.1, -0.2, 3.3, 6.5, 6.5, 3.9, 6.2, -3.6, -0.5.

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### Policy measures implemented or recommended (as described)
- Revenue-side reforms since late 2009 aimed to:
  - Restore a sustainable revenue level and structure.
  - Significantly improve tax administration.
- Expenditure-side reforms focused on:
  - Rationalization of current expenditure (government wage bill, spending on goods and services).
  - Increasing allocations to social assistance and investment (social assistance expenditure increased by over 30 percent and better targeted in 2010).
  - Reforms to social insurance (sick leave benefits, early retirement).
- Structural reforms include:
  - Scrapping a number of export and import restrictions.
  - Simplifying customs controls, licensing requirements, and business registration and liquidation procedures.
  - Energy tariff adjustments by ANRE to cost-recovery levels.
- The paper emphasizes that short-term expenditure-rationalization and revenue-enhancing measures must be complemented by targeted structural reforms for durable solutions.

---

*Source: IMF staff estimates and IMF staff calculations as presented in the chapter "1. Headline and Structural Fiscal Balances of the General Government, 1998–2010" from the provided PDF content.*

### 8.1 percent of GDP relative to 1998. The financial crisis in Russia had an adverse impact on

### _wp1282 - 8.1 percent of GDP relative to 1998. The financial crisis in Russia had an adverse impact on

### Impact of the 1998 Russia financial crisis on Moldova's revenues
- The financial crisis in Russia had an adverse impact on economic activity and foreign trade and the revenue loss in VAT, excises, and customs was estimated to be in the neighborhood of 2 percent of GDP in 1998.
- The share of VAT revenues in GDP fell from 12.3 percent in 1998 to 7.6 percent in 1999 (Appendix I).
- Despite the increase in excises rates, their share in GDP fell from 4.1 percent in 1998 to 3.6 percent in 1999 due in part to falling exports to Russia and weak customs administration.
- Profit and personal income tax yield also fell and non-tax revenue was lower as a share of GDP in 1999 relative to 1998.

### Main changes in tax policy and direct tax outcomes
- After a series of reductions, the CIT rate was reduced from 32 percent to zero (for undistributed profit) over a period of 10 years.
- The authorities did not implement base broadening measures to make this reduction more affordable. Instead, numerous tax exemptions were granted: to agricultural entities and cooperatives; residents of scientific and innovation parks; banking; companies making investments; residents of free economic zones and free ports; and software companies.
- A difficult-to-refund VAT burden of 20 percent on investment in two main cities was maintained to secure revenue, which effectively defeated the purpose of CIT reductions (Box 2).
- Timeline excerpts (as presented):
  - 1992: Law on CIT adopted with tax rate 32 percent
  - 1994–2008: series of CIT rate adjustments including reductions to 25 percent, 22 percent, 20 percent, 18 percent, 15 percent, and in 2008 set to zero except for a few categories of entrepreneurs and reinvested profit (15 percent)
  - Personal income tax reforms: Income brackets reduced to two, max rate reduced to 18 percent, min rate at 7 percent.
- Personal income tax (PIT) characteristics and changes:
  - PIT experienced several revisions of allowances and rate structure to offset fiscal drag from double-digit inflation and to reduce burden and progressivity.
  - Maximum PIT rate reduced from 22 percent in 2004 to 20 percent in 2005 and 18 percent in 2008; taxable income brackets reduced from three to two.
  - PIT low tax productivity may be a direct result of a number of tax exemptions.
- Comparative performance:
  - While both PIT and CIT perform below average relative to other countries (Table 3), the VAT is the largest source of tax revenue.
- Box 2 highlights:
  - Between 1998 and 2008, the CIT rate was reduced from 32 percent to 15 percent; in 2008 reduced from 15 percent to zero.
  - The zero rate was well below the averages cited: 19.5 percent for the CIS, 15.6 percent for CEE countries, and 22.2 percent for European Union member states.
  - Authorities signaled intention to reintroduce the CIT in 2012 at a rate of 12 percent together with cancellation of most investment incentives except those grandfathered by law.
- PIT components and metrics (Box 2):
  - Four components: (1) progressive tax with two positive rates of 7 percent (on taxable income up to MDL 25,200) and 18 percent (on taxable income above MDL 25,200), with wage income subject to withholding tax that is final if it is the only source of income; (2) final withholding tax on certain non-wage income at 15 percent; (3) rental income taxed at 10 percent; and (4) capital gains taxed at half the normal rate.
  - The current effective PIT rate calculated over the average yearly wages is 7.8 percent––the lowest among the CIS and CEE countries––with 71.5 percent of taxpayers subject to the lower bracket of 7 percent (IMF 2011).
  - Over the medium term (2012 – 2014), the government intends to keep the progressive PIT, while further increasing the annual personal exemption (allowance), subject to maintaining PIT revenue at 2¼ percent of GDP.
- Social contributions (Box 2):
  - SSCs levied at 29 percent on the wage bill, accounted for about 9.2 percent of GDP in 2009.
  - Employer pays 23 percent of the wage bill, employee 6 percent. SSCs are capped at a value equal to five times the average monthly wage.
  - Both employer and employee contribute 3.5 percent separately to the health insurance fund totaling 7 percent of the total wage bill. Health insurance contributions at 2.3 percent of GDP are generally as high as the PIT.
  - Over the medium term, 2012 – 2014, the government intends to keep the rates of social security contributions at 29 percent and medical insurance at 7 percent.

### Indirect taxes: VAT and excises
- VAT:
  - The VAT is the largest single source of tax revenue accounting for 12.7 percent of GDP and 41 percent of total tax revenues in 2010.
  - High VAT receipts are collected on imports, most financed by remittance flows from Moldovans living and working abroad.
  - VAT standard rate of 20 percent for most goods and services with lower rates of 8 percent (for supplies of bread, bakery, milk and dairy products, sugar, and the supply of pharmaceutical drugs) and 6 percent (for natural gas). Zero rate for exports and selected goods for investment purposes and utility inputs.
  - Some exemptions (medical equipment, pharmaceutical products, books and school fees) are for social policy; others (agricultural inputs) to assist sectors. Excessive use of exemptions and reduced rates can lead to build-up of difficult-to-refund excess input credits, blocking working capital—extension of VAT refunds on purchases of investment goods to the two largest cities in 2012 seeks to resolve (section VI).
  - Since Moldova is preparing to start associate membership negotiations with the European Union (EU), the list of exempt goods and services should be adjusted to comply with the EU Directive on VAT; exemptions on some non-standard goods and services (such as electricity and motor vehicles) limit the VAT base and should be removed.
- Excise duties:
  - Overall level of excise revenue is low. Excise tax revenue was 2.9 percent of GDP in 2010.
  - Low excise revenues from tobacco products and petroleum fuels, particularly diesel, mainly explain weak performance.
  - Total excise on cigarettes in Moldova in 2010 represented 5 percent of the average total excise in Central and Eastern Europe and only 3 percent of the average total excise in the EU.
  - For petrol, diesel, and ethyl alcohol and spirits, total excise in Moldova represent between 15 and 31 percent of total excise in the EU and CEE.
  - Between 2008 and 2010, more than 99 percent of excise revenues were collected from excises on cars, alcoholic beverages, tobacco products, and petroleum products, with petroleum products representing almost half of total excise revenue.
  - Taxation of motor vehicles brought significant excise revenue: motor vehicles designed for people transportation represented 18 percent of total excise revenue in 2010, down from 37 percent in 2008.
  - Medium- and long-term intention: gradual harmonization of excise tax rates with the EU minimums, accompanied by strengthening tax and customs administration to prevent smuggling, illegal production and sales, and other forms of tax evasion.

### Tax revenue structure and comparative statistics (selected figures)
- Table 3: Moldova and Selected Countries: Tax Revenue Breakdown, 2009 (General Government, Percent of GDP)
  - Moldova: Total Taxes 32.2; PIT 2.4; CIT 0.7; VAT 12.7; Excises 2.6; Social Security 9.3
  - Selected country averages: Average Total Taxes 29.6; PIT 4.7; CIT 2.5; VAT 7.9; Excises 3.7; Social Security 8.0
  - Other selected country entries (as presented): Estonia 35.0 total; Latvia 26.5; Lithuania 30.2; Slovakia 29.0; Romania 27.8; Macedonia 26.3; Ukraine 35.6; Russia 31.2; Georgia 24.5.
- VAT accounted for 41 percent of total tax revenues in 2010 and 12.7 percent of GDP.

### General government expenditure developments and fiscal pressures
- Since the early 2000s public expenditure in Moldova rose sharply, especially current expenditure which rose from about 26 percent of GDP in 2001-02 to over 36 percent of GDP in 2010, even after a decline from a crisis-related peak of over 40 percent of GDP in 2009 (Appendix I).
- Within current expenditure:
  - Transfers to households almost doubled relative to GDP, driven by large pension increases in 2004 and 2009.
  - Spending on goods and services doubled and now significantly exceeds that in other countries in the region (Table 4).
  - The wage bill expanded by about a quarter relative to GDP, mainly due to increases in real wages that far exceeded the economy’s productivity rate and the budget’s ability to bear the public wage bill.
- Positive fiscal development:
  - Large amounts of concessional financing after 2006 allowed the budget’s interest bill to shrink to about 1/8 of its size in 2000.
- Capital spending:
  - Capital spending in relation to GDP rose since 2001, declined in 2009 and has yet to recover.
  - Capital spending had averaged about 16 percent of total government spending in 2000–08 or 6 percent of GDP before falling to 11-12 percent and 5 percent respectively in 2009-10 (close to CEEC averages of 12.4/5.1 percent in 2009).
  - This level is insufficient given Moldova’s development needs, in particular road construction and maintenance (World Bank, 2010).
  - Given ample official external financing for investment projects, authorities should review and rectify reasons for decline, including compliance with international partners’ conditionality and procurement procedures.
- Table 4: Moldova and Selected Countries: General Government Expenditures, 2009 (Percent of GDP)
  - Moldova: Total spending 45.5; Wages 11.7; Goods and services 10.1; Subsidies and transfers 16.9; Capital spending 5.0; Social assistance benefits 2.1
  - Selected country averages: Average Total spending 42.6; Wages 8.9; Goods and services 7.3; Subsidies and transfers 18.9; Capital spending 5.1; Social assistance benefits 1.8
  - Other country entries included: Belarus 34.6 total; Bulgaria 39.9; Estonia 49.5; Georgia 38.6; Hungary 50.1; Latvia 44.8; Lithuania 46.1; Poland 46.8; Romania 38.1; Slovakia 40.7; Ukraine 47.6.

### Key fiscal policy implications and priorities (implicit in text)
- Review and rationalize tax exemptions and reduced rates to broaden the base, reduce difficult-to-refund VAT credits, and improve VAT and excise revenue performance.
- Reconsider zero CIT policy and implement sustainable corporate taxation, consistent with intent to reintroduce CIT at 12 percent in 2012 while cancelling most investment incentives.
- Strengthen tax and customs administration to address weak customs administration, smuggling, illegal production and sales, and other tax evasion.
- Contain growth of current expenditures—notably wages, transfers to households, and goods and services—to release fiscal space for priority spending.
- Increase and better manage capital spending to meet development needs, including addressing compliance with external financing conditionality and procurement procedures.

*Source: IMF staff estimates and Moldovan authorities as presented in the provided content.*

### Box 4. Moldova: Pension System Reforms

### Box 4. Moldova: Pension System Reforms

### Reform history and objectives
- Reform started in 1998 with enactment of the Law on State Social Insurance Pension Benefits.
- In 1999, Moldova introduced a new hybrid pension system (in collaboration with the World Bank) linking future pensions to:
  - the period of employment (number of years of payments of social security contributions), and
  - the size of contributions (with gross wage base capped at the level of an average three-month salary in the economy).
- 2008 government drafted strategy documents aiming to:
  - complete the unfinished 1998 pension reform agenda by strengthening the link between benefits and contributions paid,
  - unify contribution rates,
  - reduce privileges,
  - strengthen the benefit formula, and
  - tighten disability pension rules.
- Strategy documents did not present specific concrete policy measures nor estimate their fiscal and social impact.
- Government intended to explore other reform options, including supplementing the PAYG pillar with a mandatory fully funded second-pillar pension scheme and encouraging voluntary pension funds.

### Retirement ages, special regimes, and 2011 legislation
- Statutory retirement ages (as reported):
  - Women: 57 years
  - Men: 62 years
  - Insurance period required: 15 years (payment of contributions)
- 1998 Law initially introduced increases in retirement age in 6-month increments for both men and women to reach 60/65 by 2008; increases were suspended after the retirement age reached 62/57 in 2002.
- Civil servants retire at 52/57 years for women/men.
- Judges and prosecutors retire at 50 years.
- Categories that can earn old-age pension at a younger age include mothers with 5 or more children and employees working in hazardous occupations; some professional groups can earn old-age pension before the standard age if they meet special conditions and receive more favorable pension benefit calculations.
- 2011 legislation (adopted) provisions (effective starting July 1, 2011):
  - Raise the statutory retirement age of civil servants, judges, and prosecutors by six months every year until it reaches the regular retirement age.
  - Extend requirement to pay social contributions to all persons employed in Moldova in line with bilateral treaties.
  - Increase years of contribution required for full pension eligibility from 30 to 35 years (and from 20 to 25 years for military and police personnel), by 6 months every year, starting July 1, 2011.

### Fiscal and demographic pressures on the pension system
- Pension system costs:
  - 1999: 4.4 percent of GDP
  - 2007: 7.2 percent of GDP
  - 2009: 9.1 percent of GDP
  - 2009 level is above the 2008 CEEC median of 7.3 percent of GDP.
- Coverage and contributors:
  - System covers just over 40 percent of the working-age population.
  - Number of insured persons (contributors) has been decreasing over the past five years due to emigration, unemployment, and expansion of the informal economy.
- Pension system dependency ratio (pensioners per 100 contributors):
  - 2008: 59 pensioners per 100 contributors
  - Projected to rise to 86 by 2050 (on current policies and trends).
- Replacement rates:
  - Average old-age pension is 35.1 percent of the average net wage, below the ILO recommendation of 40 percent.
- Drivers of fiscal deterioration:
  - Recession-related: increase in unemployment and expansion of informal economy reduced contribution revenue.
  - Policy-induced: discretionary expenditure policies widened the revenue-expenditure gap; pensions were raised before the elections in April 2009 on top of large increase allowed by the indexation rule (a Swiss formula).
  - Structural factors: minimum pension rates, pension benefit rates, treatment of past valorization, emergence of numerous special and privileged pension schemes (example: average civil servant pension is currently twice higher than the average old-age pension).

### Indexation rule
- The indexation formula is based on last calendar year averages of wages and inflation to estimate pension entitlements for the period running from April to March of the subsequent year.

### Public sector wage system (relevant fiscal context)
- Public sector wage developments and shares:
  - Public sector wages rose in 2009 by 8.6 percent in real terms.
  - Public sector wage bill:
    - 2004: 7.8 percent of GDP
    - 2010: 10.2 percent of GDP
    - CEEC average: 7.3 percent of GDP
  - Education sector wage bill: 3.9 percent of GDP
  - Health sector wage bill: 1.9 percent of GDP
  - Central Civil Service: 1 percent of GDP
  - Local government administration: 0.5 percent of GDP
  - Wages and salaries constitute 26 percent of total government expenditures (compared to an average of 21 percent in selected CEEC).
- Public employment:
  - Proportion of public employment in overall employment: 23 percent.
  - Education employment: 3.9 percent of population.
  - Health employment: 1.7 percent of population.
  - Central government institutions: about 1 percent of population.
- Nominal and real wage growth:
  - General government wage bill more than doubled in six years (nominal).
  - Average public sector wage grew by 3½ times in real terms in 2000-2010, much faster than the economy-wide average wage and GNP per employee.
- Concerns arising from wage dynamics:
  - Wage bill seems already high relative to other countries with similar per capita income.
  - Across-the-board increases risk ratcheting up economy-wide wage structure and undermining external competitiveness.
  - Across-the-board increases will crowd out other priority expenditures.

### Education spending and efficiency issues (fiscal and social relevance)
- Education expenditures:
  - 2010 spending in education: 9.5 percent of GDP (almost double CEEC average of just over 5 percent).
  - Education accounts for over 60 percent of public employment and almost a quarter of expenditure.
- Student and school trends:
  - Student numbers declined by 43 percent in 2008/2009 compared to 1990/91.
  - School-age population projected to decline by a further 15 percent by 2020.
  - Number of schools has remained effectively unchanged since 1994.
  - Average class sizes have become smaller; decline in teachers has been much less pronounced than decline in student numbers, increasing cost per child.
- World Bank (2009a, 2010) findings referenced:
  - Much of education spending is wasted on maintaining empty schools and small classes.

### International assistance and macro-fiscal support (context)
- External assistance (2000–2010): trend of increasing number of development partners (now exceed twenty).
- Major development partners by amount of assistance until end-2010: IMF, World Bank (WB), European Commission (EC), European Investment Bank (EIB), Council of Europe Development Bank (CEB), European Bank for Reconstruction and Development (EBRD), IFAD.
- 2010 external assistance totals:
  - Total external assistance: US$352 million
  - Grants: US$140 million
  - Credits (loans): US$212 million
- Over the period 2006-2009, Moldova received:
  - US$192 million in loans (excluding IMF)
  - US$288 million in grants
- IMF arrangements and assistance (summary):
  - Moldova benefited from a one-time SDR allocation amounting to SDR 117.71 million in 2009.
  - Total Fund credit and loans outstanding at the end of March 2011: SDR 210.8 million (about US$334 million).
  - In January 2010 the IMF approved three-year arrangements under the ECF/EFF totaling SDR 369.6 million (about US$574.4 million); SDR 60 million (about US$93.2 million) made immediately available.
  - International partners pledged the equivalent of US$2.6 billion over 2010-2014 (most provided as budget support, EUR 873.28 million cited).
- Aid coordination challenges:
  - Irregularity of disbursements and integration in the national budget process remain areas of concern.
  - Increasing number of donors limits the government's capacity to coordinate donor activities, given weak capacity.

*Source: _wp1282 - Box 4. Moldova: Pension System Reforms*

### Box 6. Moldova: Milestones for Donor Coordination

### Box 6. Moldova: Milestones for Donor Coordination

### Milestones in donor coordination and pledges
- Moldova signatory to Paris Declaration on Aid Harmonization in 2005.
- Development Partnership Framework between government and major donors signed in May 2006.
- Brussels Consultative Group meeting hosted by the EC and World Bank in December 2006, with US$1.2 billion pledged.
- National Development Strategy fully aligned with European Neighborhood Policy Action Plan.
- Consultative Group Meeting on March 2010 in Brussels pledge on US$2.6 billion to support Moldova over five years.

### Coordination mechanisms and objectives
- International partners and government developing new coordination mechanisms, including a division of labor and mapping exercise for a joint NDS response, to:
  - provide a useful, high-level overview of ODA support to the new NDS;
  - map and align projects/programs with the results of the NDS to better ensure coordination;
  - avoid duplication; and
  - make development assistance more efficient and effective.
- Recommended first step: create a centralized database to cover the full information on international assistance, given that such data is currently dispersed and difficult to access.

### Recent macroeconomic performance and vulnerabilities
- GDP growth: 6.9 percent in 2010 and 7.5 percent year-on-year in H1 2011.
- Growth drivers: private domestic demand, recovering inflows of capital and remittances, exports aided by improved external environment, good harvests, and favorable agricultural prices.
- Vulnerabilities:
  - Large dependence on remittances and external demand.
  - Exceptionally large international assistance to the budget.
  - Current account deficit expected to widen to over 11 percent of GDP in 2011-12, partly reflecting higher costs of energy imports; significant efforts required to bring it down to the estimated sustainable level of 8 percent of GDP.
  - Rising energy and food prices push inflation up.
  - Persistent political instability.
  - Private external debt projected to reach almost 50 percent of GDP in 2012-13, increasing vulnerability to deterioration in external financing terms.
- Public debt: public debt at end-2010 was moderate at 30 percent of GDP and is projected to decline further; public external debt largely consists of low-interest debt extended by Moldova’s international development partners.

### Fiscal balances and medium-term fiscal strategy
- Structural budget deficit excluding grants in 2012 would be almost 4 percent of GDP; this level can be sustained only with the help of large international grants (over 2½ percent of GDP).
- Policy objective: bring the structural deficit excluding grants down to 2 percent of GDP by 2016 through tax administration reforms and expenditure rationalization as external support declines.
- Headline budget deficit projected to narrow to below 1 percent of GDP in 2012-13, stabilizing at that level over the medium term.
- Consolidation to be supported by tax and tax administration reforms and rationalization of primary current expenditures.
- Public external borrowing over the long term would probably stay around 2 percent of GDP, compared with 1.6 percent in 2010.
- Shift toward non-concessional external borrowing and domestic debt would lead to a pick-up in debt service ratios in the long term; decline in the grant element of new external borrowing makes domestic borrowing relatively more attractive given exchange rate risks and likely increase in foreign interest rates.
- Authorities’ effort to develop domestic capital markets expected to increase investor range and lower the cost of domestic debt.

### Tax policy recommendations (preserve principles and envisaged measures)
- Guiding principles for tax policy:
  - Neutrality (or efficiency): minimize distortions in investment, consumption, saving, and production decisions (except excises addressing negative externalities).
  - Equity (and perceived fairness): horizontal and vertical equity—treat taxpayers in identical economic situations equally and impose higher burden on those with higher ability-to-pay.
  - Simplicity: keep the tax system as simple as possible.
- As of 2010, tax revenue insufficient to finance public sector needs and maintain sustainable fiscal position; over the medium term the tax system should generate more revenue via tax policy reform and improvements in tax administration.
- Envisaged tax policy measures:
  - Reintroduction of the corporate income tax (CIT) at 12 percent, and the cancellation of most general and individual tax incentives; accelerate amortization of selected productive assets.
  - Small business taxation: replace the entrepreneurial patent with a single-rate (4 percent) presumptive tax on turnover for businesses not registered as VAT taxpayers.
  - To promote investment, extend option to receive VAT refunds for purchases of investment goods to Chişinău and Bălți.
  - Remove VAT exemptions on some non-standard goods and services (such as electricity and motor vehicles) that limit VAT revenue potential.
  - Unify the two reduced VAT rates (6 percent and 8 percent) at 8 percent; adjust the list of exempt goods and services over time to comply with the EU Directive on VAT.
  - Increase excise tax rates within the framework of the EU Association Agreement to comply with EU minimum requirements at a pace that minimizes the risk of loss of tax base.

### Expenditure-side reforms and social protection
- Further rationalization of public spending to promote more efficient and pro-poor use of resources; improve social assistance through better targeting.
- Unemployment insurance system gaps: does not cover agricultural, urban informal sector, and returning migrant workers; public works programs could serve to employ skilled workers on priority infrastructure.
- Wage bill:
  - Wage bill increased during 1998-2010, reaching 10.2 percent of GDP in 2010.
  - Medium-term objective: bring the wage bill back to 9–9½ percent of GDP by gradually reducing public sector employees and introducing performance-based pay.
  - Policy tools: refrain from unaffordable wage increases; rationalize budgetary sector employment through attrition, reorganization, elimination of permanent vacancies; administrative reform of local government to help rationalize public employment.
- Education and health spending: need rationalization and better targeting; technical assistance from the World Bank and the IMF since 1998 with recommendations to enhance efficiency that could be offset by cutting nonproductive expenditures or poorly targeted subsidies.
- Education sector reform goals: provide education meeting modern economy demands, create a leaner and better-equipped system with adequately trained and paid staff, and generate savings by eliminating excess capacity through class, school, and employment consolidation.
  - Expected effect: reforms should help permanently reduce expenditure by about ½ percent of GDP per year over the medium term.
  - A large part of eventual budget savings and World Bank financial assistance will be used to improve school quality, secure transportation for students, and repair school bus routes.
- Pension reforms: long delayed reforms need completion to maintain social and financial sustainability; reforms should address retirement age, valorization of wage history, improving compliance and collection, and minimizing redistributive features to strengthen contribution incentives.

### Public capital spending and infrastructure
- Public capital spending below 5 percent of GDP is insufficient given large development needs.
- Perception of unmet critical infrastructure needs and massive physical deterioration of state assets, especially roads.
- Government has mobilized sizable external and domestic resources to rehabilitate and maintain the road network.

### Donor roles and creditor mix (Box 7 summary)
- Multilateral creditors: Projected loan disbursements near to medium term relatively high due to March 2010 Consultative Group commitments, in particular for infrastructure development. From mid-2011, terms on new IDA loans were changed to 1.25 percent interest change, 5-year grace period and a 25-year maturity.
- Bilateral creditors: Over the medium and long term, borrowing from bilateral sources projected to decline due to likely opening of market access.
- Commercial creditors: Over the long term, commercial borrowing projected to increase; terms assumed in line with recent borrowings of sub-investment grade sovereigns.
- Implication: decline in grant element of new external borrowing and shift to non-concessional external borrowing and domestic debt will increase debt service ratios over the long term.

### Key policy priorities and consolidation pillars
- Maintain fiscal policy on a consolidation path to reduce dependence on exceptional external assistance and improve resilience to macroeconomic shocks.
- Fiscal strategy based on four pillars:
  1. Essentially eliminate the large structural fiscal deficit over several years, at a pace matching the economy’s speed of recovery.
  2. Achieve fiscal adjustment initially through restraints on unaffordable public sector wage bill and low-priority current spending, and later through deep-reaching pension and administrative reforms.
  3. Strengthen revenue primarily through improved tax administration to broaden the tax base and a growth-friendly tax policy reform.
  4. Use created fiscal space to increase infrastructure investment and provide well-targeted social assistance to the most vulnerable.
- Consolidation plan should initially focus on expenditure rationalization in government wages, goods and services, and transfers, while including revenue-enhancing measures in tax base broadening, exemptions reduction, and tax administration improvements.
- Complement short-term measures with targeted structural reforms in public sector wages and employment, education, pension and health care, and revenue administration; protect vital public investment and well-targeted social benefits.

*Source: IMF staff analysis as presented in the content unit "Box 6. Moldova: Milestones for Donor Coordination".*

### Appendix II. Moldova: Public Sector Debt Sustainability Framework, Baseline Scenario, 2004–2010

### Appendix II. Moldova: Public Sector Debt Sustainability Framework, Baseline Scenario, 2004–2010

### Public sector debt (In percent of GDP, unless otherwise indicated)
- Public sector debt:
  - 2004: 47.6
  - 2005: 38.5
  - 2006: 34.5
  - 2007: 27.5
  - 2008: 21.6
  - 2009: 31.7
  - 2010: 29.9
- Of which: foreign-currency denominated:
  - 2004: 36
  - 2005: 28.4
  - 2006: 26.1
  - 2007: 20.5
  - 2008: 16
  - 2009: 23.3
  - 2010: 22.5

### Change in public sector debt and identified debt-creating flows
- Change in public sector debt:
  - 2005: -9.1
  - 2006: -4
  - 2007: -7
  - 2008: -5.9
  - 2009: 10.1
  - 2010: -1.8
- Identified debt-creating flows:
  - 2005: -7.8
  - 2006: -6.4
  - 2007: -8.4
  - 2008: -6.5
  - 2009: 10
  - 2010: -3.3
- Primary deficit (percent of GDP):
  - 2005: -3.3
  - 2006: -3.1
  - 2007: -1.3
  - 2008: -1
  - 2009: -0.2
  - 2010: 4.9
  - (Note: final column shows 1.7 but original table alignment indicates primary deficit series ends at 2010: 1.7)
- Revenue and grants (percent of GDP):
  - 2004: 35.4
  - 2005: 38.6
  - 2006: 39.9
  - 2007: 41.7
  - 2008: 40.6
  - 2009: 38.9
  - 2010: 38.3
- Of which: grants (percent of GDP):
  - 2004: 0.4
  - 2005: 1.2
  - 2006: 0.7
  - 2007: 1.8
  - 2008: 1.7
  - 2009: 2.1
  - 2010: 2.8
- Primary (noninterest) expenditure (percent of GDP):
  - 2004: 32.1
  - 2005: 35.4
  - 2006: 38.6
  - 2007: 40.8
  - 2008: 40.4
  - 2009: 43.8
  - 2010: 40

### Automatic debt dynamics and contributions
- Automatic debt dynamics:
  - 2005: -4.6
  - 2006: -4.7
  - 2007: -7.1
  - 2008: -4.4
  - 2009: 5.4
  - 2010: -4.5
- Contribution from interest rate/growth differential:
  - 2005: -4.8
  - 2006: -3.8
  - 2007: -6.1
  - 2008: -5.5
  - 2009: 3.5
  - 2010: -2
- Contribution from average real interest rate:
  - 2005: -1.5
  - 2006: -2
  - 2007: -5.1
  - 2008: -3.5
  - 2009: 2.1
  - 2010: 0.1
- Contribution from real GDP growth:
  - 2005: -3.3
  - 2006: -1.8
  - 2007: -1
  - 2008: -2
  - 2009: 1.4
  - 2010: -2
- Contribution from real exchange rate depreciation:
  - 2004: 2.8
  - 2005: 0.2
  - 2006: -0.9
  - 2007: -1.1
  - 2008: 1.1
  - 2009: 2
  - 2010: -2.5

### Other identified debt-creating flows and residuals
- Other identified debt-creating flows:
  - 2004: 0
  - 2005: -0.1
  - 2006: -0.4
  - 2007: -0.4
  - 2008: -1.9
  - 2009: -0.4
  - 2010: -0.5
- Privatization receipts (negative):
  - 2004: 0
  - 2005: -0.1
  - 2006: -0.4
  - 2007: -0.3
  - 2008: -1.9
  - 2009: -0.4
  - 2010: -0.5
- Recognition of implicit or contingent liabilities: 0 0 0 0 0 (no values reported in period)
- Debt relief (HIPC and other): 0 0 0 0 0 0 0
- Other (specify, e.g. bank recapitalization): 0 0 0 0
- Residual, including asset changes:
  - 2005: -1.3
  - 2006: 2.4
  - 2007: 1.4
  - 2008: 0.6
  - 2009: 0.1
  - 2010: 1.5

### Other sustainability indicators
- PV of public sector debt: 27.8
- Gross financing need:
  - 2004: 9.6
  - 2005: 78.2
  - 2006: 6.7
  - 2007: 10.2
  - 2008: 9.8
- Public sector debt-to-revenue-and-grants ratio (percent):
  - 2004: 134.5
  - 2005: 99.8
  - 2006: 86.6
  - 2007: 65.9
  - 2008: 53.2
  - 2009: 81.4
  - 2010: 77.9

### Key macroeconomic and fiscal assumptions
- Real GDP growth:
  - 2004: 7.4
  - 2005: 7.5
  - 2006: 4.8
  - 2007: 3.7
  - 2008: 8
  - 2009: -6.6
  - 2010: 6.9
- Average nominal interest rate on forex debt:
  - 2004: 3.2
  - 2005: 3.6
  - 2006: 3.3
  - 2007: 1.8
  - 2008: 1.8
  - 2009: 2.1
  - 2010: 1.5
- Average nominal interest rate on domestic debt:
  - 2005: 5.2
  - 2006: 5.9
  - 2007: 11.5
  - 2008: 15.2
  - 2009: 18.2
  - 2010: 7.2
- Average real interest rate on domestic debt:
  - 2005: -3.8
  - 2006: -6.6
  - 2007: -3.8
  - 2008: 5.4
  - 2009: 15.7
  - 2010: -3.6
- Average real interest rate on foreign-currency debt:
  - 2004: -15.5
  - 2005: -3.2
  - 2006: -5.1
  - 2007: -18.8
  - 2008: -20.3
  - 2009: 6.9
  - 2010: 1.6
- Real exchange rate depreciation ( + indicates depreciation):
  - 2004: 6.6
  - 2005: 0.8
  - 2006: -3.5
  - 2007: -5.1
  - 2008: 7.3
  - 2009: 10.8
  - 2010: -11.3
- Inflation rate (GDP deflator):
  - 2004: 8.9
  - 2005: 14.4
  - 2006: 13.4
  - 2007: 15.9
  - 2008: 9.2
  - 2009: 2.2
  - 2010: 11.2
- Growth of real primary spending (deflated by GDP deflator) (Percent change): 14 18.6 14.1 8.9 6.8 2 -2.4

*Sources: Moldovan authorities; and IMF staff estimates.*

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_Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/wp/2012/_wp1282.pdf_