Public Information Notice No. 03/61

Public Information Notice: IMF Concludes 2002 Article IV Consultation with St. Lucia

May 9, 2003

On January 27, 2003, the Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation with St. Lucia.¹

Background

St. Lucia's economy is very small and highly dependent on tourism and banana production. Since the mid-1990s, banana output has fallen by more than half as the banana industry has been undergoing a retrenchment in the face of competition from lower-cost producers. However, the tourism industry has grown rapidly making St. Lucia the number one tourist destination among Eastern Caribbean Currency Union members, and the export of other services has expanded.

After growing by an average 3 percent a year in 1998-99, output stagnated in 2000, and fell by an estimated 5¼ percent in 2001. This reflected a severe drought in 2001, as well as lower tourism activity owing to the global economic slowdown and the terrorist attacks of September 2001. The unemployment rate increased to about 19 percent in 2001, from 16½ percent in 2000. In 2002, no growth is expected as tourism was weak and tropical storm damage prevented a stronger recovery in banana production. Inflation has remained in the low single digits, and the price level remained broadly unchanged in August 2002 relative to August 2001.

After improving in 1998−99, public finances have weakened since. The public sector's overall balance shifted from a surplus of 2 percent of GDP in FY 1999/00 to a deficit of 3½ percent of GDP in FY 2001/02. The dominant influence is the central government's deficit with the rest of the public sector running a small surplus. Central government current revenue fell by 2 percent of GDP in FY 2001/02, largely owing to the steep recession; and spending increased mostly because of higher interest payments and a small increase in the wage bill. Preliminary information on the central government finances in the period April-October 2002 indicates a further increase in the deficit, notwithstanding new measures implemented during the fiscal year. As of end-September 2002, the total public sector debt reached 56 percent of GDP.

The growth of credit to the private sector slowed in 2001, while the public sector continued to build up deposits with the banking system, and commercial banks reduced their net foreign assets by about US$10 million. During the 12 months ending in September 2002, these trends reversed—broad money and credit to the private sector grew moderately, while the public sector (including the National Insurance Corporation—NIC) reduced its net creditor position with the banking system by 16½ percent.

The external current account deficit, which had declined in 2001 to 5¾ percent of GDP as imports fell sharply, is estimated to have increased to 8½ percent in 2002 mainly owing to a decline in receipts from services. These deficits have been more than covered by capital inflows including public sector borrowing and private capital. Reflecting the government borrowing, public and publicly guaranteed external debt rose rapidly in recent years (from an average of 23½ percent of GDP in 1998-99 to about 31 percent at end-2001), and is estimated to have increased to 38½ percent of GDP at end-2002. Owing largely to the depreciation of the U.S. dollar vis-à-vis other major currencies, the external value of the Eastern Caribbean dollar as measured for St. Lucia depreciated in real effective terms by about 5½ percent during the first nine months of 2002. The real exchange rate is currently 13 percent above its most depreciated level in the mid-1990s.

Executive Board Assessment

Directors noted that the St. Lucian economy suffered adverse exogenous shocks during 2001-02: tourism was affected by the global economic slowdown and the terrorist attacks of September 2001, and agriculture suffered from a severe drought and a tropical storm. The result was a fall in economic activity, a rise in unemployment, and sharp increases in the public sector budget deficit and public debt.

Directors commended St. Lucia's long record of prudent macroeconomic policies. They expressed concern, however, about the large fiscal deterioration in the last three years, and urged strong adjustment measures to curtail the growth of public debt. In this context, Directors welcomed the authorities' commitment to implement measures in the 2003/04 budget that would significantly reduce the central government deficit and reverse the fiscal deterioration. They emphasized the importance of expenditure restraint, in particular through limiting wage bill increases. They welcomed the authorities' collaboration with the World Bank and the Caribbean Development Bank to enhance the efficiency of public expenditure and to focus public investment on projects aiming at private sector-led growth and poverty reduction.

Directors stressed the need to reverse the steady decline in government revenues. They were encouraged by the authorities' commitment to tax reform and support for the adoption of a value-added-type tax. They noted the substantial technical assistance that the Caribbean Technical Assistance Center and the Fund's Fiscal Affairs Department are providing in the area of tax reform. Directors recommended other steps to boost revenues and broaden the tax base, such as a further reduction in tax concessions, and early introduction of a market-value-based property tax. The authorities were also encouraged to fully implement the domestic fuel price adjustment mechanism.

Executive Directors supported the authorities' efforts to further diversify St. Lucia's economy and to enhance competitiveness. They encouraged the authorities to continue their efforts to raise standards across the tourism industry and promote agricultural diversification. There was support for the banana sector recovery program, which aims to improve competitiveness ahead of the loss of preferential tariffs scheduled for end-2005. Directors advised the authorities to strengthen the link between wages and productivity, reform the labor code to enhance the flexibility and efficiency of the labor market, and continue the restructuring of public enterprises to improve their efficiency.

Directors expressed concern about the increase in nonperforming loans and potential quasi-fiscal liabilities of the financial sector. They supported ongoing efforts to strengthen financial sector regulation and supervision, and encouraged prompt enactment of amendments to the Uniform Banking Act as well as steps to strengthen the supervision of nonbank financial institutions. They welcomed the completion of the Fund-supported self-assessment of the regulatory and supervisory regime of the offshore financial sector, as well as efforts to strengthen the anti-money laundering regime, including by establishment of a financial intelligence unit. Directors also welcomed St. Lucia's agreement to participate in the ECCU area-wide Financial Sector Assessment Program scheduled for the second half of 2003.

Directors encouraged further efforts to improve the quality and timeliness of data in line with the plans for statistical development under the General Data Dissemination System.