IMF staff report on Mauritius, june 2021 – salient points : Growth outlook

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Tourism, which accounts directly and indirectly for over a fifth of the economy, is expected to resume slowly in H2 2021, with arrivals reaching 15% of 2019 levels and 60% in 2022. Real GDP growth is forecast at 5% in 2021, and year-on-year inflation at 3.5% by end 2021. Slow growth in demand would keep inflation modest.

 The economic outlook is subject to downside risks. In an optimistic scenario, pent-up demand for tourism would materialize fast, and GDP would approach the 2019 level by 2022. However, since tourism flows are uncertain, GDP would more likely reach the 2019 level after much later. IMF concludes that “The severity of the (Covid) crisis could have lasting effects, and the weakened fiscal position could lead to financial market anxieties, as could the AML/ CFT listings, the Moody’s downgrade, or a sharp rise in global risk premia”.

The challenge for Mauritius is to restore growth despite a subdued tourism sector, at least through 2022. Accommodative fiscal policies should be continued as the economy reopens, but Mauritius should prioritize policy measures for long term structural transformation.

Fiscal Policy during the Pandemic

IMF approves of the accommodative fiscal policy stance to support households and firms, but advises to focus on alleviating constraints linked to the pandemic, such as higher air shipping costs, rather than providing blanket support to firms. Support should be targeted to allow viable and innovative firms to flourish. Wage assistance to the tourism sector should be wound down gradually. Incentives should be created for reskilling workers for sectors of higher growth potential. Temporary public works could help absorb workers, including the enhancement of + green projects, such as the National Clean Up campaign. To create fiscal space for such projects, other low priority investment projects should be postponed or cancelled, and PPPs could be considered, “based on a robust assessment of fiscal implications and ensuring good governance”.

The IMF Staff Report provides updated fiscal deficit and debt data following the 2021/22 budget presentation. While IMF has revised its projections for 2021/22 in line with the higher budget spending estimates, however, IMF considers the 2021/22 budget revenue estimates as too optimistic, and prefer to maintain their projections in consistency with their macro-economic analysis and historical trends.

As shown by the IMF’s revised calculations, the consolidated budget deficit, including special funds, is estimated at 19.2% of GDP in 2020/21, and at 10.6% of GDP in 2021/22, or double the official deficit figure of 5.2%. The public sector debt is projected at 100% of GDP at end June 2022, higher than officially estimated.

Fiscal Policy Post Pandemic

Once the economy has emerged from the pandemic, fiscal consolidation will be necessary to stabilize debt in the medium term – “The fiscal stance should be tightened in the medium term to ensure debt sustainability, given the substantial increase in debt.” The public debt level appears sustainable, though subject to notable vulnerabilities. Public debt is forecast to increase to 100% of GDP at end June 2022, and will remain at elevated levels in the medium term.

The IMF’s debt sustainability exercise assumes that the authorities will undertake revenue mobilization as the economy recovers from the pandemic. The planned major increase in pension spending in 2023/24 will be compensated for by higher revenue mobilization. IMF recommends substantive measures to strengthen revenue and contain spending to stabilize public debt at over 100% of GDP by2024/25, when real GDP is expected to return to its 2019 level.

Debt sustainability could still be jeopardized by a range of shocks, such as risks due to the GBC sector, competitive challenges to exports and tourism, weak public investment management, and medium term risks due to ageing problems combined with policies on pension generosity.

It is therefore critically important to put public sector debt on a downward path. The IMF notes that “Pensions will be at the forefront of medium term fiscal issues”. Any medium term fiscal consolidation plan would have to address the expected deficit between pension revenue and spending following the planned 50% increase in BRP in 2023/24. Total pension spending is forecast at 8.5% of GDP in 2023/24, greatly in excess of pension revenue estimated at only around 1% of GDP.

In reply to the IMF’s comments, the Mauritian authorities agreed that fiscal consolidation will be necessary to reduce public debt levels in the medium term, and also pointed out that reform of the pension system is under way with the introduction of the CSG.

Monetary Policy

IMF considers that BoM’s accommodative monetary policy, with a low short term interest rate, is appropriate, until rising economic recovery and rising inflation expectations call for policy normalization. However, BoM transfers to Govt and to MIC have led to a substantial deterioration of BoM’s balance sheet, and also contributed to a sharp rise in reserve money. This excess liquidity situation will limit BoM’s ability to raise interest rates later and control inflation. The mechanism for an active and independent monetary policy needs to be strengthened. The BoM should start mopping up excess liquidity in the financial system to enhance the effectiveness of the interest rate, i.e., the Key Repo Rate, as a monetary policy instrument.

The BoM should be recapitalized, and IMF is offering technical assistance for this recapitalization exercise. BoM legislation should be amended to prohibit further any transfers to Govt, direct financing of the non-banking sector, and other quasi-fiscal activities. Govt should finance its spending needs by issuing debt in the domestic markets, given the ample liquidity available.

BoM should also withdraw from MIC, and financing for MIC should be provided through the budgetary process. IMF proposes that Govt raise money from the market to fund MIC, and considers it preferable that credit resources be channeled to viable firms through banks, with Govt providing targeted credit guarantees. This would also mop up excess liquidity.

The IMF considers that BoM’s policy of foreign exchange interventions of more than USD1 bn in 2020, at a stable rate of around Rs40, has limited exchange rate flexibility. Going forward, greater exchange rate flexibility is required, as the exchange rate is an important macro-economic adjustment mechanism.

In response to the IMF’s observations, BoM noted that it has embarked on a review of its monetary policy framework as announced in Sep 2020. BoM viewed the transfer to Govt as appropriate under the exceptional Covid circumstances. In the BoM’s view, MIC is an independent institution that contributed to financial stability. BoM agreed that exchange rate policy should focus on reducing undue volatility, and this role is being clearly defined within the new monetary policy framework.

External Competitiveness and Economic Restructuring

In IMF’s assessment, the external position at end 2020 was substantially weaker than is consistent with medium term economic fundamentals and desirable policies. The current account deficit widened to 15.6% of GDP in 2020, and is expected to widen to 15.6% in 2021. The rupee appears overvalued by about 30-40 percent. IMF points out that the current account gap may indicate more of a need to engage in reforms to improve competitiveness rather than a depreciation of the nominal exchange rate.

Net external capital and financial flows declined by 5.5 points in 2020, driven by net outflows from the domestic economy, partially offset by net inflows to the GBC sector. International reserves, as per the IMF’s reserves adequacy metric, were close to the lower bound of the adequacy range. This metric is adjusted for the financial risks stemming from disruptions in foreign currency funding of the GBC sector.

Addressing external imbalances requires implementing measures to accelerate structural transformation of the economy, through value upgrading to spur productivity, and building innovation capacity through education and technology. On tourism, Mauritius should move to a higher value-added business model, such as health-oriented, low density eco-tourism with significant demand by high-income foreigners from advanced economies who are likely to get vaccinated early and resume travel.

The authorities view the level of foreign reserves as ample, representing more than 13 months of imports, and anticipate a reduction in the external deficit as tourism recovers, and as the new trade agreements with China and India provide new export opportunities.

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