Public Information Notice No. 02/101

Public Information Notice: IMF Concludes 2002 Article IV Consultation with Fiji

September 12, 2002

On August 9, 2002, the Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation with Fiji.¹

Background

In May 2000, political instability led to the overthrow of the elected government. In response, several governments and international donor agencies suspended their development programs in Fiji. Australian and New Zealand trade unions also adopted measures interfering with the importation of Fijian goods. Elections were held in September 2001, and led to a full resumption of development programs and to the normalization of Fiji's international relations. The domestic political situation has also become more settled, although court challenges have continued against the government.

Following the political crisis, Fiji experienced sharp declines in tourism earnings, while external sanctions adversely affected investment and textile exports. As a result, GDP fell 2¾ percent in 2000, and the current account deficit widened to 6½ percent of GDP. Financial stability and the basket peg of the Fiji dollar were maintained through tightening of domestic monetary policy and exchange controls, together with government spending cuts to offset the impact of weaker growth on the fiscal deficit. As the political and security situation began to normalize, and financial market pressures dissipated, monetary and fiscal policies were eased.

Economic recovery began in 2001, with real GDP rising by 3¾ percent, largely owing to a pick up in the tourism and garment sectors and the impact of fiscal stimulus measures boosting the fiscal deficit to over 6 percent of GDP. Inflation remained low, reflecting weak domestic demand pressures and stability in the exchange rate, and the current account deficit narrowed to 3½ percent of GDP in 2001 as tourism earnings recovered.

Growth is projected to rise to the 4 to 6 percent range in 2002-2003, partly reflecting further strengthening of the tourism sector and the resumption of development assistance projects. Despite the pickup in growth, fiscal policy has remained expansionary, and the underlying fiscal deficit could reach 8 percent of GDP in 2002. The Government has announced its intention to pursue fiscal consolidation over the medium term. Inflation pressures remain modest and the current account deficit is expected to narrow further. Despite the recovery, some important areas of economic weakness remain; in particular, the sugar industry has continued to contract as land tenure problems remain unresolved. Private investment-including foreign direct investment (FDI)-also remains very weak, reflecting uncertainties of borrowers and lenders regarding the longer-term political and economic outlook. Foreign reserves remain comfortable, at 3.7 months of goods and non-factor services, and the exchange rate remains stable.

Executive Board Assessment

Executive Directors commended the Fiji authorities for their success in containing the macroeconomic consequences of the political events of May 2000. Building on these prompt policy actions, Fiji is now experiencing an increasingly broad-based economic expansion, accompanied by low inflation.

The key economic challenge ahead will be to raise the sustainable rate of growth, supported by a durable expansion of private sector investment, while preserving macroeconomic stability in a climate of political stability. With economic recovery well under way, Directors advised the authorities to shift the focus of policy from boosting economic activity to laying the foundations for a sustained improvement in economic performance. At the heart of this strengthened policy framework should be an early and sustained fiscal consolidation effort to correct the large public sector deficit, together with an intensification of structural reforms, including a well-sequenced withdrawal of widespread administrative controls.

In light of this, Directors supported the authorities' medium-term fiscal strategy of reducing the government debt-to-GDP ratio to 40 percent, while raising substantially the share of public spending on investment. They recommended that the authorities take early action to reduce the fiscal deficit significantly, working toward a sufficient primary surplus to achieve the consolidation target, and using privatization proceeds to reduce the debt. This will require expenditure restraint, including on wage costs, as well as improved tax collection, while an increase in the value-added tax rate should be considered to help finance the desired increase in public investment spending.

Directors considered that, with inflation pressures weak, very slow money and credit growth, and an adequate level of official reserves, monetary policy should remain supportive of economic activity. The peg of the Fiji dollar to a basket of trading partner currencies continues to play its well-established role in underpinning Fiji's price performance and financial stability, and Directors supported its continuation. At the same time, somewhat greater exchange rate flexibility, supported by appropriate fiscal and monetary policies, will facilitate the removal of exchange controls and help provide a buffer against external shocks, and the authorities' intention to move carefully in that direction is welcome.

Fiji maintains a wide range of exchange controls, including restrictions on current account transactions, which are unhelpful to Fiji's efforts to attract increased foreign investment. Directors recommended that the authorities set a clear timetable for eliminating the restrictions on current payments, while embarking on a wider effort to liberalize exchange controls.

Fiji's banking system appears to be sound, and is supported by adequate regulations and supervision. Directors welcomed the authorities' plans for expanding the central bank's supervisory power to nonbank financial institutions, as well as their intention to participate in the Financial Sector Assessment Program. They encouraged the authorities to continue and strengthen their efforts to combat money laundering and the financing of terrorism.

Directors noted that an acceleration of structural reforms will be key for raising Fiji's sustainable growth rate, while helping to achieve fiscal consolidation. They looked forward to the early implementation of the public sector management and financial management reforms, which will strengthen transparency and accountability as well as improve prioritization and efficiency. Other priorities are the reduction of administrative obstacles to investment, the dismantling of price controls, and the elimination of distortionary import licenses and quotas. The authorities are encouraged to proceed with further privatizations in the period ahead. Directors also stressed the need for comprehensive restructuring of the sugar industry, noting, in this connection, the challenge facing the authorities to achieve a resolution of the sensitive land lease issue.