OREANDA-NEWS. August 03, 2015. Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation1 with Kiribati, and considered and endorsed the staff appraisal without a meeting2.

Recent economic performance has been strong. Donor-financed large infrastructure projects and a pick-up in credit to households have boosted real GDP growth to close to 4 percent in 2014 and to about 3 percent in 2015. Inflation remains low, underpinned by lower food and commodity prices. The current account turned into a strong surplus in 2013–14 on account of the high fishing license fees.

The fiscal outlook has improved markedly in recent years. The recurrent balance was in large surplus in 2014 and is expected to remain positive in 2015, reflecting high revenue from license fees and notwithstanding a large increase in development expenditures. On structural reforms, significant progress has been achieved with the introduction of VAT in 2014 and implementation of the State-Owned Enterprise (SOE) Reform Act, including privatization of key assets.

The medium-term outlook is relatively favorable although growth is expected to weaken in the next few years with the completion of large donor financed infrastructure projects. A major risk to the outlook is the revenue from fishing license fees, which has been very high in the last few years but could decline sharply in future given its volatility. The recent damages caused by Cyclone Pam and high tidal waves underscore the risks and the economic and social costs related to climate change and natural disasters.

Executive Board Assessment

In concluding the 2015 Article IV consultation with Kiribati, Executive Directors endorsed staff’s appraisal, as follows:

Economic performance has been strong, buoyed by large donor-financed infrastructure projects. Staff projects real GDP growth will remain above 3 percent in 2015, while inflation should stay low.

The fiscal position has improved markedly, but further efforts are needed to ensure sustainability. We commend the authorities for achieving substantial fiscal surpluses in recent years, although the improvement was mainly driven by record-high fishing license fees which can be volatile. Recent increases in recurrent expenditures are partly explained by a more transparent support to SOEs. Nevertheless, the historical pace of increase in spending is unsustainable over the long term.

Nominal expenditure growth should be limited to 1? per year over the next years. In order to enhance fiscal discipline, budget contingencies should be built in for unexpected expenditures, consistent with this expenditure path. Public sector wages and SOEs’ subsidies should be contained to create room for pro-growth and climate change-related expenditures. Expenditure growth path may be increased over time when the fiscal position has strengthened and become more sustainable, depending on the fishing license fees outturn.

The introduction of the VAT has overall been successful and revenues are in line with expectations. Consideration should be given to phase out existing exemptions and replace them with targeted support of low income households. If exemptions are to be maintained, the list should be short and narrowly defined.

Strengthening the RERF (Revenue Equalization Reserve Fund—sovereign wealth fund) should remain a key policy goal. Important progress has been made in reforming RERF financial management. Transfers and withdrawals should be more transparent and symmetric around the proposed expenditure path: subject to maintaining a cash buffer equivalent to around two months of budget expenditures, a substantial part of the current above-average surpluses should be saved to allow for sustainable drawdowns when they fall below the average. Accordingly, the major part of the 2014 surplus should be transferred to the RERF.

Progress has been made in creating conditions for private sector growth. Going forward, further lowering telecommunication and transportation costs, streamlining business registration processes, and facilitating the private usage of land will be critical to improve the investment climate and lift growth prospects.

There has also been progress on implementing the reform of SOEs to improve their efficiency and contain the drain on public finances. Going forward, the authorities are encouraged to further reduce the copra subsidy and speed up the restructuring of the energy sector through further increasing the efficiency of the two energy companies and rationalizing the structure of both fuel and electricity prices.

Given fiscal constraints, Kiribati will need continued support from donors and IFIs. Future donor-supported projects should focus on climate change mitigation measures, and improving the provision of basic services such as water, electricity, housing, education, and health.