IMF Staff Completes 2021 Article IV Mission to the Republic of Palau

IMF News, October 8, 2021

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Real GDP contracted by 9.7 percent in FY2020.
Real GDP is projected to further contract by 17.1 percent in FY2021 before rebounding by 9.4 percent in FY2022 alongside a gradual recovery in tourist arrivals.
Inflation edged up slightly, driven by a rise in food prices; inflation is expected to pick up on the back of elevated international fuel prices before subsiding over the medium-term.
The large current account deficit is projected to narrow in the medium term as tourism activities gradually recover.

The authorities have implemented a comprehensive policy response aimed at strengthening healthcare and mitigating economic and social hardship; employment support prevented a notable deterioration of overall labor market conditions.
Considering the challenging near-term outlook and substantial uncertainty, pandemic relief measures should be extended until the recovery is firmly entrenched.
Accelerating the execution of the CROSS Act to extend targeted support to still affected households and firms, as envisaged in the FY2022 budget, is appropriate.
Should downside risks materialize, targeted spending measures that can best reach affected entities should be the first line of defense, with due consideration to debt sustainability.

Palau entered the pandemic with a moderate public debt at about 39 percent of GDP in FY2019.
The negative effect of the pandemic and the cost of the fiscal response have opened a large fiscal financing need, covered by disbursed and planned concessional financing from the Asian Development Bank and leading to a surge in public debt.
While risks to debt sustainability have increased substantially, Palau’s public debt remains sustainable, helped by the favorable conditions due to the large share of concessional financing.
Swift public sector reform is critical to contain fiscal risks, including reform of:
- the Civil Service Pension Fund,
- the Palau Public Utilities Corporation, and
- the Social Security Fund.

The IMF team welcomes the approval of the comprehensive tax reform in September 2021.
The approved tax reform is expected to:
- improve the efficiency of the tax system,
- support growth, and
- contribute to the needed fiscal consolidation in the medium term to lower public debt ratios, reduce fiscal risks, and accommodate higher spending to address climate change and other infrastructure needs.
The fiscal adjustment associated with the reform would also help improve Palau’s external position.

Main downside risks:
- a protracted COVID-19 pandemic and a domestic outbreak, which could derail the recovery;
- a shortfall of non-Compact capital grants considering Palau’s graduation to high-income status;
- more frequent and severe natural disasters.
Upside factors:
- with most of Palau’s population fully vaccinated, a faster-than anticipated global vaccine rollout and pandemic containment could expedite the resumption of tourism;
- ratification of a new Compact Agreement with the U.S., currently under negotiation, could boost grant revenues in the medium term, though uncertainty remains regarding the timing and terms.

An IMF team led by Tidiane Kinda conducted virtual discussions for the 2021 Article IV Consultation with the Republic of Palau during September 22-October 7, 2021.
End-of-Mission press releases convey preliminary findings; the views expressed are those of IMF staff and do not necessarily represent the views of the IMF’s Executive Board. Based on preliminary findings, staff will prepare a report that, subject to management approval, will be presented to the IMF's Executive Board for discussion and decision.

IMF Staff Completes 2021 Article IV Mission to the Republic of Palau (Press Release No. 21/292, October 8, 2021).