Malta-2008 Article IV Consultation Concluding Statement of the Mission
IMF News, June 5, 2008
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Bibliographic details
- Published: June 5, 2008
Mission context and main findings
- Document contains preliminary conclusions of the IMF mission that visited Malta during May 20-May 30, 2008.
- Euro adoption: successful adoption of the euro on January 1, 2008, described as a "crucial landmark" in a growth-oriented reform agenda aiming at closer integration in European and global economies.
- Recent macro performance:
- Growth accelerated to 3.8 percent in 2007.
- Budget deficit was reduced in 2007 to 1.8 percent of GDP.
- Public debt fell to 62½ percent of GDP (from 72½ percent in 2004).
- External current account deficit declined to 5½ percent of GDP.
- Drivers of recent expansion: foreign direct investment (FDI), export diversification (pharmaceuticals, on-line gaming, financial and business services), arrival of low-cost airlines, and price moderation reviving tourism.
- Cost pressures and competitiveness: labor costs rose ahead of productivity in 2007 contributing to inflation; euro appreciation and higher unit labor costs caused competitiveness losses relative to trading partners.
Growth projection and risks
- Central scenario projection:
- Growth will decelerate to 2-2½ percent in 2008-09, reflecting unfavorable external developments.
- Inflation: high through most of 2008 due to high international prices of oil, commodities, and food; expected to ease in 2009.
- Domestic demand: rising prices and tighter credit conditions will curb domestic demand growth.
- Investment: ongoing and planned FDI projects expected to continue supporting activity.
- External sector: growth contribution of net exports forecast to moderate due to weak trading partners' demand and declining traditional exports; high import prices will worsen the current account.
- Medium term: pace of activity expected to recover swiftly toward trend, sustained by FDI, emerging export activities, and terms-of-trade gains.
- Primary risk:
- Onset of complacency over reforms; risk that EMU entry could give rise to complacency and loss of reform momentum, potentially leading to protracted economic stagnation as seen in some euro area countries.
A. Cementing fiscal consolidation — findings and recommendations
- Fiscal position and vulnerabilities:
- Expenditure-based budget retrenchment continued in 2007, but public finances remain fragile.
- First recorded current surplus in recent years in 2007 (current expenditure covered by current revenue).
- Underlying deficit (excluding one-off measures such as land sales) remained little changed from 2006.
- Public enterprise-related guaranteed debt and other contingent liabilities remain high.
- Authorities' objective: structural budget balance for 2010; IMF recommends targeting a surplus in subsequent years.
- Three key areas of endemic budgetary strain to tackle:
- Subsidies and state aid:
- Subsidies: about twice the EU average.
- State aid: four times the EU average.
- Authorities decided to phase out subsidies on bread and review other subsidies.
- Recommendation: consider restructuring or privatization of loss-making Enemalta, Air Malta, shipyards, and other public enterprises; public sector rationalization to free resources for infrastructure, education, and capacity in public service agencies.
- Public wage bill:
- Public wage bill is 13 percent of GDP.
- Public employment edged up in 2007; public wage increases projected to be relatively high in 2008-10.
- Recommendation: use attrition complemented by proactive reallocation of employees and appropriate incentives to increase performance and efficiency.
- Aging-related and other social spending:
- Social spending is over 13 percent of GDP.
- Recent pension reform savings will not be felt until some years from now.
- Recommendation: consider market-based measures to rationalize demand and increase efficiency of supply of public services, particularly in health care, if administrative cost control proves ineffective.
- Short-term actions and measures:
- Support for authorities' intention to consider additional measures to meet 2008 budget targets.
- Given outturn through April and oil prices, allocations for subsidies, wages, and social benefits would be substantially overrun if prevailing policy parameters were maintained.
- Urgent recommendation: revise subsidized administered prices of electricity to drastically increase cost recovery.
- Intensify tight spending control and efforts to identify potential savings across all expenditure categories.
- Reinforce fiscal framework:
- Initiate comprehensive spending reviews in main ministries (education suggested as a useful pilot).
- Prior parliamentary agreement on aggregate expenditure limits before the budget process.
B. Strengthening the growing financial system — findings and recommendations
- Resilience and structure:
- Malta's banking system is well-placed to weather global turmoil: healthy liquidity, funding rooted in domestic retail deposits, and no direct exposure to U.S. subprime mortgage-based assets.
- Some recent profitability softening due to marked-down international securities portfolios and euro conversion effects; these appear temporary.
- Supervisory framework modernized with EU membership; internationally controlled banks subject to uniform regulatory requirements.
- Concentration and credit risk:
- Narrow economic base warrants vigilance, particularly regarding slowing housing and construction sectors.
- Nonperforming loans in domestically controlled banks: 7.6 percent of total loans at end-2007.
- Provision coverage ratio (before counting collateral) for domestic banks: below 30 percent at end-2007; described as low by international standards and unevenly distributed.
- Resident loans exposure: mortgages and corporate lending constitute 57 percent of resident loans.
- Banks reducing exposure to construction sector; increasing caution on mortgages with high loan-to-value ratios.
- Recommendation: MFSA to discuss means to increase provision coverage; encourage upgrading of risk management systems in nonsystemically important banks.
- Regulatory and transparency improvements:
- Progress in introducing Basel II standards.
- Recommendation: encourage more frequent (quarterly) public issuance of accounts by main domestic banks.
- Recommendation: uniformity at the highest standards in definition of nonperforming loans that are publicly reported to increase transparency.
- Note: most major European jurisdictions allow tax deductibility of specific provisions; adoption of this practice in Malta would remove disincentives to provision and level playing field for Malta-based banks.
- Crisis management and cross-border cooperation:
- Domestic Standing Group established within the tripartite Framework for Financial Crisis Management; memoranda of understanding among key domestic agencies and with supervisors in other jurisdictions established.
- Malta participates in EC and ECB fora, conducts simulation exercises and stress tests.
- Recommendation: review legal and institutional frameworks to ensure legal authority to act expeditiously and "fast track" parliamentary approval for systemic solvency support where necessary.
C. Fostering the efficient use of resources — findings and recommendations
- Product and labor market reforms:
- Improving product market competition and labor market flexibility essential to realize growth potential.
- Female labor force participation is particularly low in Malta relative to comparable countries; authorities' attention warranted.
- Recommendation: labor market and benefit system reforms to boost participation, especially female participation.
- Recommendation: consider eventual removal of across-the-board mandatory inflation adjustment of wages (COLA) as it hinders productivity-based wage increases and contributes to entrench inflation.
- Recommendation: institutional independence of the competition authority and adoption of a more pro-active stance to enhance market efficiency and contain inflation.
- Recommendation: determined implementation of the EU services directive to increase competition in services.
- Recommendation: accelerate upgrading of economic statistics to Eurostat and international standards; priority to fill management vacancies at the NSO and allocate appropriate resources.
- Public enterprise reform and price-setting:
- Privatization or outsourcing continued in 2007; unbundling of Enemalta's gas and petroleum divisions underway.
- Large subsidies remain; restructuring of loss-making shipyards has stalled; periodic price adjustments for electricity and water result in losses at public utility companies.
- Recommendation: replace current administered price system by a rules-based adjustment mechanism to avoid discretionary government decisions.
- Recommendation: consider full privatization of Bank of Valletta to a suitable strategic investor to crowd-in FDI and produce positive spillovers within the financial system.
Key numeric facts and indicators (as reported)
- Visit dates: May 20-May 30, 2008.
- Euro adoption date: January 1, 2008.
- Growth in 2007: 3.8 percent.
- Projected growth for 2008-09: 2-2½ percent.
- Budget deficit in 2007: 1.8 percent of GDP.
- Public debt: 62½ percent of GDP (from 72½ percent in 2004).
- External current account deficit: 5½ percent of GDP.
- Public wage bill: 13 percent of GDP.
- Social spending: over 13 percent of GDP.
- Subsidies: about twice the EU average.
- State aid: four times the EU average.
- Nonperforming loans (domestic banks) at end-2007: 7.6 percent of total loans.
- Provision coverage ratio (domestic banks, before collateral) at end-2007: below 30 percent.
- Share of mortgages and corporate lending in resident loans: 57 percent.
- Expected timing of Executive Board discussion of the staff report: August 2008.
Malta-2008 Article IV Consultation Concluding Statement of the Mission — May 30, 2008.