Public Information Notice No. 01/81

Public Information Notice: IMF Concludes 2001 Article IV Consultation with Belize

August 2, 2001

On July 9, 2001, the Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation with Belize.¹

Background

The authorities' economic policy seeks to sustain strong economic growth mainly through low taxes, large public investment, and the provision of credit to the private sector through the state-owned Development Finance Corporation (DFC). The authorities expect the resulting high rate of economic growth to generate sufficient fiscal resources to reduce the public sector deficit and service the rapidly accumulating external public debt. At the same time, they remain firmly committed to maintaining the present exchange rate peg.

Real GDP growth is estimated to have increased sharply to 10.4 percent in 2000, while consumer prices rose by 1 percent in the absence of pressure from wages or imported prices. As a result of rapid growth in public sector investment, in part due to reconstruction efforts after hurricane Keith hit Belize in September 2000, the nonfinancial public sector deficit widened to 9.7 percent of GDP in FY 2000/01 from 8.2 percent in FY 1999/2000 (fiscal year begins April 1). The deficit was financed through privatization receipts and substantial external borrowing, mostly on commercial terms. At the same time, the DFC expanded its lending operations by 10 percent of GDP, financed also through external borrowing. As a result, the public and publicly guaranteed external debt increased from 48 percent of GDP at end-1999 to 67 percent at end-2000. The expansionary fiscal stance, combined with the liquidity injection through the DFC operations, increased the liquidity overhang in the economy and created pressures in the foreign exchange market. With the rapid increase in imports resulting from public investment demand and reconstruction efforts, the current account deficit increased to 16.1 percent of GDP, which was more than financed through large capital inflows from public sector borrowing. As a result, net international reserves increased to 2.5 months of imports of goods and services.

To contain the rapid increase in external debt obligations and safeguard the exchange rate regime, Fund staff and authorities agreed on the urgent need to correct the fiscal imbalances. The government will seek to reduce the nonfinancial public sector deficit to 1 percent of GDP over a three-year period, mainly through a reduction in investment expenditure. The deficits can be financed from government deposits at the central bank and multilateral project financing with government refraining from further commercial external financing. The government also intends to review DFC operations in light of its deteriorating loan portfolio and subject it to banking sector supervision.

Executive Board Assessment

Directors noted that the Belizean economy grew rapidly in 2000, while inflationary pressures remained low and net international reserves increased. However, they expressed concern at the continued widening of the fiscal and external current account deficits to clearly unsustainable levels, resulting in rapid increases in external public debt and debt service payments. Monetization of external loans has increased the excess liquidity in the system (as evidenced by the need to intensify rationing of foreign exchange) and created pressures in the foreign exchange markets. Directors recognized that the reconstruction efforts following hurricane Keith contributed to these developments, and that public spending was intended to develop infrastructure, diversify the economy, and meet important social objectives. Nevertheless, Directors agreed that the heightened vulnerability of the Belizean economy requires decisive corrective action.

Against this backdrop, Directors welcomed the authorities' intention to reduce the fiscal deficit to 1 percent of GDP over the next three years. This adjustment was seen as key to re-establishing sustainable fiscal and external positions, including a manageable external debt burden. During the three-year adjustment period, it would be possible for the fiscal deficits, if declining as planned, to be financed entirely through funds deposited at the central bank from a recently disbursed external commercial loan. Directors welcomed the authorities' commitment to refrain from further external bond financing, and emphasized that any further external financing on commercial terms should be avoided.

Noting past spending pressures, Directors stressed that a substantial effort will be necessary to enforce expenditure cuts of the magnitude necessary to achieve a sustainable fiscal position. They welcomed the efforts to reduce budget allocations and improve expenditure monitoring, but urged the authorities to mobilize political support for the required substantial fiscal tightening. They were of the view that the expenditure savings should be concentrated on scaling back domestically financed projects with relatively low rates of return, and that public sector financing for private housing construction should be limited to a well-targeted low-income housing program. A substantial tax revenue effort, reversing the trend of recent years, was also seen as important to achieve timely and sustained progress toward fiscal sustainability. Directors welcomed recent tax measures as a first step in this process.

Directors noted that the substantial increase in lending by the state-owned Development Finance Corporation (DFC), much of it foreign financed, has exacerbated the domestic liquidity overhang and added to the public debt burden. Loan delinquency rates are high, undermining the DFC's financial position. Directors urged the authorities to restrict DFC credit expansion and refrain from further external financing. They also cautioned that the DFC should step back from lending operations that would normally be channeled through the banking system. At the same time, they recognized the need to enhance the role of the commercial banks in providing credit. Directors welcomed the authorities' request for Fund technical assistance to review and improve management practices at the DFC, as well as their decisions to refrain from further central bank lending to the DFC and to subject the DFC to banking supervision in the course of this year.

Directors welcomed the authorities' intention to reduce excess liquidity to help secure the sustainability of the exchange rate peg. They agreed that this reduction could best be achieved through a continuous decline in net central bank credit to the public sector.

Directors noted that the central bank's capacity to supervise commercial banks needs strengthening and welcomed the authorities' interest in receiving further technical assistance from the Fund in this respect. They recommended that legislation be enacted to give the central bank supervisory authority over credit unions, other nonbank financial intermediaries, and the offshore financial sector.

Directors welcomed the reduction in the maximum external tariff rate from 25 percent to 20 percent, and recommended that remaining quantitative import restrictions be converted into tariffs. They also advised the authorities to consider the elimination of ad hoc duty exemptions, which would improve transparency and resource allocation.

Directors regretted that there is no clear timetable for phasing out the ad hoc rationing of foreign currency sales by the central bank, which constitutes an exchange restriction subject to Fund approval under Article VIII.

Directors were concerned about the quality of Belize's statistical information and welcomed ongoing technical assistance to improve the quality of economic statistics, particularly in the areas of balance of payments and national accounts.