Press Release No. 18/28

IMF Executive Board Concludes 2017 Article IV Consultation with Malta

January 29, 2018

On January 26, 2018, the Executive Board of the International Monetary Fund (IMF) concluded the 2017 Article IV consultation [1] with Malta, and considered and endorsed the staff appraisal without a meeting on a lapse-of-time basis. [2]

Malta’s economic growth remains one of the strongest in Europe, owing to favorable economic conditions and sound policies, which advanced structural reforms and supported the strengthening of private and public balance sheets. Output is estimated to have expanded by 6.8 percent in 2017, accompanied by dynamic job creation, which brought unemployment to a record-low. Strong inflows of foreign workers and rising labor force participation kept wage pressures contained in most sectors, thus contributing to low inflation despite a positive output gap. At the same time, the rapid economic expansion and the growing population have put pressure on physical infrastructure and resulted in a continued housing market appreciation. The fiscal balance is estimated to have registered a surplus for the second consecutive year in 2017, thanks to buoyant revenues—including from Individual Investor Program proceeds—and contained capital expenditure growth. The 2017 current account is estimated to have remained in surplus, driven largely by a sizable balance of services.

Domestic banks remain profitable and well-capitalized. High legacy corporate non-performing loans represent a persistent challenge for the banking sector, despite the continued improvement in banks’ asset quality. As bank lending remains focused on mortgages, the concentration of property-related loans continued to grow while the non-financial corporate sector has increased its reliance on nonbank financing, particularly on intercompany lending.

The outlook is favorable, with growth decelerating gradually and converging to about 3 percent over the medium term. Growth is expected to be driven largely by domestic demand, backed by rising incomes and historically-low unemployment while buoyant services exports will continue to sustain current account surpluses. Inflation is set to pick up gradually, reflecting an increase in import prices and tighter labor market conditions. Headline fiscal surpluses are forecast to continue and contribute to a further moderation of public debt.

Executive Board Assessment [3]

In concluding the 2017 Article IV consultation with Malta, Executive Directors endorsed the staff’s appraisal, as follows:

The Maltese economy remains on a strong growth trajectory. Rapid expansion of export-oriented services, improved balance sheets, and solid job creation contributed to a robust growth in 2017 and kept unemployment at historically-low levels, despite continued inflows of foreign workers. The favorable economic performance is expected to persist in the coming years, albeit at a more moderate pace, with domestic demand as the main driver. Inflation is expected to pick up gradually, reflecting an increase in import prices and tighter labor market conditions, while buoyant services exports are projected to sustain current account surpluses. Risks to the outlook are broadly balanced, and the external position is assessed to be broadly in line with fundamentals.

Reducing the remaining fiscal risks and building larger fiscal buffers would add strength to Malta’s fiscal position. As the economy keeps operating above potential, efforts are needed to ensure that fiscal policy is geared towards addressing the infrastructure challenges while avoiding unwarranted stimulus. The government’s strategy to continue complying with the MTO and building larger fiscal buffers is therefore welcome, though identifying further structural measures to attain the MTO, net of IIP proceeds, would put the fiscal position on a stronger footing. With fiscal risks still elevated, it is important to continue to broaden the tax base and strengthen revenue collection, advance the restructuring of financially-weak SOEs, and address age-related spending pressures. A budget-neutral public investment push would help narrow Malta’s infrastructure gap, thus supporting the population’s well-being and buttressing competitiveness.

Steps to advance balance sheet repair and strengthen the oversight of nonbank lending would enhance financial sector resilience. Continued resolution of legacy corporate NPLs, accompanied with enhanced supervisory oversight, would promote investment and improve the economy’s resilience to shocks. The expected increase in the provision coverage ratio and further improvements of the insolvency process would support these efforts. While the diversification of funding sources has served firms well, efforts are needed to address data gaps and enhance the oversight of nonbank lending. Robust governance and well-designed origination rules of the MDB’s operations will help contain contingent liability risks to public finances. Ensuring that the MFSA has adequate resources is critical to preserve its operational independence and maintain effective supervision.

Sustained efforts are needed to safeguard the financial system’s integrity. Robust implementation and effective enforcement of the Anti-Money Laundering framework is critical given the size of Malta’s financial sector, the fast-growing remote gaming activity, and the high demand for the IIP. Continuing strengthening the collaboration between the competent supervisors and regulators, and finalizing the related National Risk Assessment would support these efforts.

The strong momentum in the housing market calls for policy measures. Targeted macroprudential limits for mortgages would strengthen the resilience of bank and household balance sheets to possible housing price corrections and higher interest rates. Closing data gaps on borrower characteristics would help to calibrate these measures effectively. Aligning the tax rate on rental income with tax rates on other sources of income, and introducing periodic reviews of the scope and parameters of the IIP, including the minimum real estate investment or leasing values, could curb housing demand pressure. Accelerating corporate balance sheet repair in the construction sector would help to improve the response of housing supply to price signals.

Safeguarding the reform momentum is critical to sustain high growth and promote inclusiveness. Policies should focus on reducing the severe congestion by improving road quality and increasing the utilization of alternative means of transport, upskilling and reskilling the labor force to better align education with business needs, and increasing female labor force participation further, particularly among older cohorts. Strengthening innovation by developing research infrastructure, increasing the financial support for research and innovation, and improving links between academia and the private sector would enhance productivity and boost growth prospects.

Staff proposes that the next Article IV consultation with Malta follow the standard 12-month cycle.