Public Information Notice No. 00/8

Public Information Notice: IMF Concludes Article IV Consultation with Dominica

February 16, 2000

On January 10, 2000, the Executive Board concluded the Article IV consultation with Dominica.¹

Background

Economic growth averaged about 2½ percent a year in the 1990s, and the structure of the economy continued to move away from agriculture as the key banana sector contracted further. As in other countries in the region, the factors behind the contraction of the banana sector have included plant disease, export price declines, and strong export dependence on uncertain preferential access to the European Union (EU) market. Unemployment remains high.

Economic activity strengthened in 1998, and inflation remained low. Despite a decline in agriculture and construction, real GDP grew by 3½ percent, largely as a result of a recovery in manufacturing production along with the continued expansion of services. The 12-month increase in consumer prices was 0.6 percent in September 1999.

The nonfinancial public sector deficit was broadly unchanged at 2½ percent of GDP in 1998/99 (fiscal year starts July 1), but public saving declined. The central government deficit fell in relation to GDP due partly to higher grant receipts, while government saving was virtually unchanged.

The gross debt of the nonfinancial public sector rose slightly, to 59 percent of GDP at end-June 1999, but the gross external debt fell somewhat to 33 percent of GDP. The stock of external arrears was virtually eliminated, and external debt-service obligations declined to 5 percent of exports of goods and nonfactor services, the lowest level in recent years.

The external current account deficit narrowed to 7 percent of GDP in 1998. Although banana exports and net travel receipts fell, there was a strong recovery in exports of manufactures. Visitor arrivals grew by 4 percent in 1998, but the share of arrivals staying in hotels declined. Net current and capital transfers from emigrants, workers abroad and foreign donors remained substantial, helping to cover the large trade deficit, with capital transfers to the government amounting to almost half the total. Net capital inflows have been sufficient in recent years to cover the current account deficits and permit surpluses in the overall balance of payments.

Broad money has continued to grow at a slightly higher rate than nominal GDP. At the same time, commercial banks expanded credit to the private sector at a fast pace during 1998 and 1999, while maintaining a net external creditor position. Interest rates have declined somewhat since end-1997, with lending rates at around 11½ percent per annum and deposit rates 4 percent per annum in 1998/99.

Dominica is a member of the Eastern Caribbean Currency Union, which maintains the Eastern Caribbean dollar as a common currency. The Eastern Caribbean dollar has been pegged to the U.S. dollar since 1976.

In the structural area, the maximum external tariff rate was reduced from 30 percent to 25 percent in January 1999, in line with Phase III of the scheduled reductions in the CARICOM common external tariff.

Looking ahead, the government is planning large-scale investments for the period through 2003, including the building of an international airport and supporting infrastructure, as well as a stadium, as part of a strategy to promote tourism development. Execution of this investment program is expected to result in a sharp widening of the public sector deficit, an increase in the external current account deficit, and substantially higher debt-service obligations in the next few years.

Executive Board Assessment

Directors noted that, despite the contraction in agriculture and construction, the shift in the structure of the economy away from banana production to a higher level of activity in the services and small manufacturing sectors had helped strengthen the economic recovery. However, Directors observed that moderate growth of real GDP in recent years has been insufficient to bring about a reduction in unemployment, and expressed support for the authorities' medium-term objective of achieving sustained growth of output and employment through further economic diversification and financial stability. Directors noted that achieving these objectives would require raising public saving to help fund needed investments and promoting private sector activity through structural reforms.

To support the saving effort, Directors underscored the need for expenditure restraint, particularly of the wage bill. They welcomed the authorities' plan to broaden the tax base by replacing a number of indirect taxes with a value-added tax, and by streamlining tax exemptions.

Directors noted that the authorities have an ambitious public investment program, including the construction of a new airport and stadium, that would entail a near doubling of Dominica's public external debt in the near term. They observed that a large portion of the borrowing is being contracted on commercial terms and that this would contribute to a sharp increase in debt service obligations, greatly complicating fiscal management. Directors urged the authorities to scale down the public investment program to a more manageable level, and welcomed their intention to conduct a comprehensive review of the public investment program and the financing plan for the airport with the assistance of the World Bank. Directors encouraged the authorities to minimize borrowing on commercial terms by securing greater participation of multilateral lending institutions, the private sector, and donors.

Directors stressed the need for accelerating structural reforms, so as to increase economic efficiency, support growth, and buttress the public finances. They called for action in the areas of price decontrol, trade liberalization, civil service reform, and privatization. In particular, a timetable for privatizing the National Commercial Bank should be established, with proceeds allocated to help finance the authorities' investment program. At the same time, Directors encouraged the authorities to maintain close surveillance over the financial system, and particularly urged strengthening of the supervision of nonbank and offshore financial institutions and measures to prevent money laundering.

Directors urged the authorities to improve the coverage and quality of economic statistics, which do not currently provide an adequate basis for policy formulation or Fund surveillance. In particular, efforts should be made to improve data on national accounts, government finances, and labor markets.