Mission Concluding Statement 

Washington, DC: 

Following the double shock of the COVID-19 pandemic and the Hunga Tonga–Hunga Ha‘apai volcanic eruption and tsunami, the Tongan economy has recovered steadily and continues to strengthen driven by reconstruction, robust remittances, and a rebound in tourism. Fiscal and external positions have improved—supported by significant grant inflows—while signs of demand-driven inflationary pressures are emerging. With the recovery now well entrenched, the policy mix should shift to rebuilding fiscal buffers, containing emerging risks, and strengthening resilience. This recalibration is essential, as Tonga remains highly vulnerable to external shocks—including natural disasters, global trade policy uncertainty, and the risk of reduced concessional financing—making financial stability, stronger governance, improving fiscal sustainability, and reforms critical to foster economic resilience and inclusive growth.

 

I. Recent Developments, Outlook, and Risks
Tonga’s economy is growing at a solid pace. GDP growth in FY2025 was revised upward to 2.7 percent on account of stronger-than-expected grant inflows, elevated remittances, a rebound in tourism, and fiscal support for reconstruction. The near-term outlook remains favorable, with growth projected to moderate to 2.3 percent in FY2026, supported by robust domestic demand from major infrastructure projects. Over the medium term, however, growth prospects are weak, with potential growth estimated at 1.2 percent, reflecting Tonga’s high vulnerability to natural disasters, persistent outward migration, and limited economies of scale due to geographical barriers.

II. Policies to Rebuild Buffers and Enhance Economic Resilience

6. The expansionary fiscal stance in FY2025 has appropriately supported the recovery, but with the economy on stronger footing, it will be important to continue building buffers to hedge against downside risks. The overall surplus of 5.6 percent of GDP was largely driven by grants. Using only firmly committed grants, while reconstruction spending remains elevated, the fiscal balance is projected to shift to a deficit of 7.7 percent of GDP in FY2026. Nonetheless, on an underlying basis, excluding grants, the fiscal stance is expected to turn contractionary in FY2026, consistent with staff’s recommendations and the authorities’ intentions to continue rebuilding buffers.
7. Over the medium term, gradual and credible fiscal consolidation and additional grant financing are essential to put debt on a firm downward path. Tonga is assessed as being at high risk of debt distress, with long-term debt ratios projected to rise above key thresholds under baseline assumptions, reflecting significant development and climate-related spending needs. To mitigate these risks, the government should refrain from contracting new non-concessional borrowing. The consolidation should be underpinned by boosting domestic revenue mobilization—including removing tax-inefficient exemptions without increasing statutory rates—improving tax administration, enhancing spending efficiency, and securing additional grants, particularly through strengthened regional collaboration to counter elevated global uncertainty. 

B. Monetary and Financial Sector Policies— Strengthen Monetary Stability and Foster a Stable and Inclusive Financial System 

8. The accommodative monetary policy stance has so far been appropriate in supporting the recovery, but with the economy on a stronger footing and price pressures emerging, it is appropriate to shift toward a neutral stance.Annual inflation for FY2025 is estimated at 2.9 percent, well below the 5 percent NRBT reference rate, with the policy rate—defined as the floor interest rate paid on reserves—still at zero. However, as demand-driven inflationary pressures resurface and given the ample liquidity in the banking system, the NRBT should be ready to tighten policy in a data-dependent manner. 
9. The NRBT’s plan to issue short-term securities will absorb excess liquidity and help stimulate the development of an interbank market. Given the sizeable excess reserves in the system, issuing reserve bank notes is not expected to significantly affect bank lending rates and credit supply. Moreover, transitioning to a corridor-type framework, in line with recent IMF technical assistance (TA), will further strengthen liquidity management and create space to adjust the policy rate from its current zero level. Finally, the introduction of notes with positive yields should be seen as establishing market infrastructure and moving toward a neutral stance, rather than signaling a contractionary shift. 
10. With ongoing efforts to amend the NRBT Act, there is an additional opportunity to strengthen the monetary policy framework in several key areas. The NRBT could redefine its preferred inflation measure by focusing on a core measure that excludes volatile energy and food prices. A more proactive use of the policy rate should be supported by enhancing the NRBT’s communication strategy, such as publishing regular board meeting dates to improve transparency and market expectations. Furthermore, the NRBT and the government could consider further clarifying the operational guidelines for transfer of profits, coverage of losses, and recapitalization, consistent with the 2021 IMF safeguards assessment and TA recommendations on Tonga’s monetary policy framework.
11. The financial system remains well capitalized and liquid, with systemic risks contained despite rising non-performing loans (NPLs). The earlier, sharper increase in NPLs reflected large exposures of a single institution to sizeable loans, while the more recent rise has been more moderate, and stemmed from pressures in the transport sector. The mission commends the timely steps taken to strengthen governance at the Tonga Development Bank (TDB), including the replenishment of the Government Development Loan (GDL) fund managed by TDB. Major banks remain sound, supported by strong capital and sizeable foreign parent institutions.
12. Continued reforms are needed to promote financial deepening and stability. Priorities include stronger supervision of Non-Bank Financial Institutions (NBFIs), expansion of the credit registry, and finalization of regulatory frameworks for credit unions and pension funds. Enhanced AML/CFT enforcement will help safeguard correspondent banking ties, while participation in regional initiatives such as the World Bank correspondent banking relationships project and the Fund’s Safe Payment Corridor offers further support. Over time, broader prudential standards and data collection will underpin sustainable financial deepening and effective risk-based supervision.

C. Structural Reforms — Lift Up Potential Growth and Enhance Economic Resilience

13. Fostering private sector development and financial deepening is critical to lifting Tonga’s long-term growth. Limited credit access and shallow financial markets remain key constraints. Priorities include channeling remittances into investment, strengthening financial institutions, and promoting growth sectors such as tourism. Digitalization can expand opportunities and reduce geographic barriers— the authorities’ initiative to launch a national digital ID system is a welcome step. At the same time, better education, training, and immigration policies are needed to offset emigration’s toll on labor and skills. Easing regulatory hurdles and attracting FDI would further boost investment and job creation, helping retain Tonga’s growing workforce.
14. Enhancing resilience to natural disasters is a top reform priority. In addition to the Disaster Risk Management (DRM) bill, the Tongan authorities have taken leadership in the Pacific region by supporting the establishment of the Pacific Resilience Facility (PRF) through a Treaty-based agreement endorsed by Pacific Island Forum Members. By consolidating financing through a Pacific-owned mechanism, the PRF ensures predictable, regionally governed access to funding that reaches vulnerable communities directly. 
15. Addressing governance and corruption vulnerabilities is critical for Tonga’s sustainable development. Systemic weaknesses in governance frameworks, regulatory capacity, and the AML/CFT regime highlight the need for continued reform. Building institutional capacity will be essential to strengthen transparency, safeguard public resources, and mitigate vulnerabilities to corruption. The 2024 establishment of Tonga’s first Anti-Corruption Commission Office marks an important step in this direction.  

The IMF mission team would like to thank the Ministry of Finance, the National Reserve Bank of Tonga, other ministries and government agencies, and private sector interlocutors for their warm hospitality and constructive discussions. The team looks forward to maintaining this constructive engagement and policy dialogue.