IMF advises Cape Verde to reign in spending

atlanticoCabo Verde’s economy has continued to face significant headwinds, and the economy is estimated to have stagnated in 2013, the IMF reported. An International Monetary Fund (IMF) mission visited Cabo Verde from January 15-28, 2014. The mission met with the Minister of Finance and Planning Cristina Duarte, Central Bank Governor Carlos de Burgo, other government officials, parliamentarians and representatives of civil society, development partners, and the private sector. At the conclusion of the mission, the IMF issued the following statement:

Domestic demand remains weak, as reflected in depressed indicators of consumer and business confidence, a sharp drop in imports, sluggish credit growth, and high unemployment. On the external front, tourism—which accounts for about a fifth of Gross Domestic Product—has continued to do well. However, remittances fell, and foreign direct investment (FDI) has remained weak. As a result of these developments, the current account deficit is estimated to have declined in 2013. International reserves at end-2013 amounted to about 4.3 months of prospective imports. On the policy front, the fiscal stance was adjusted in light of the slowing economy, such that the government’s overall financing needs declined in 2013. An initial loosening of monetary conditions got underway in mid-2013 and liquidity in the banking system has improved, though this has not yet been reflected in higher lending. In 2014, a slight pick-up in growth is anticipated, reflecting improved conditions in key partner countries and an incipient recovery in domestic demand. Inflation is expected to remain modest. The overall balance of payments is projected to remain positive, with the international reserves cover of prospective imports holding steady. The exchange rate peg remains an appropriate monetary policy anchor.

The 2014 budget is expansionary. Given high levels of public debt and downside risks to growth, the mission advises the authorities to rein in spending this year, and to adopt a more ambitious fiscal consolidation program over the medium term. At the same time, social spending for the most vulnerable should be protected. The mission sees scope for slowing the growth of current spending, and for adopting a somewhat less ambitious public investment program. As new capital spending is considered, it will be important that projects undergo careful review to ensure that they will deliver sufficiently higher returns. Improving the quality and efficiency of ongoing public investment will also be important.

Cabo Verde is undertaking wide-ranging tax reforms, which are broadening the tax base and improving tax administration. The mission welcomes the harmonization of the Value Added Tax (VAT) rate, the rationalization of the incentives regime, the passage of three major tax codes, and the preparation of a new Income Tax Code. At the same time, it cautioned that a new scheme for micro and small enterprises should be reviewed carefully to ensure that incentives set out in the scheme are in line with best practices for supporting micro and small enterprises.

Given the improvement in the international reserves coverage of imports and the weak outlook for growth, the mission sees scope for easing monetary conditions further in order to encourage bank lending and support growth. The mission commends the Banco de Cabo Verde’s (BCV) ongoing efforts to improve financial supervision in light of the increase in non-performing loans. The recent passage of the long-awaited Basic Banking Law and Financial Institutions Law, which enhance the BCV’s powers to strengthen oversight (including of the offshore financial sector) and implement regulatory reforms, provides the BCV with critical tools to enhance financial stability.

The mission welcomes continued efforts to improve the performance of state-owned enterprises (SOEs), which deliver essential infrastructure services to the economy. Improving their operational performance remains critical to restoring their financial health and reducing contingent fiscal liabilities. This includes introducing management contracts with SOEs, drawing lessons from the initial experience with such contracts at the national electricity and water provider (ELECTRA).

As Cabo Verde seeks to diversify its economy and sustain long-term growth, investments that increase productivity will be essential. The public investment program has laid an important foundation for growth. Increasingly, reforms of the business climate and investment in human capital will be needed to boost growth, create jobs, and further reduce poverty. Export diversification both within and outside the tourism sector should be encouraged, with a focus on improving linkages to the domestic economy and pursuing opportunities for increasing employment and more inclusive growth (IMF).

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