Press Release No. 01/36

Press Release: IMF Approves US$111 Million Stand-By Arrangement for Lithuania

August 30, 2001

The Executive Board of the International Monetary Fund (IMF) today approved a 19-month Stand-by Arrangement of SDR 86.5 million (about US$111 million) for the Republic of Lithuania to support the government's economic program. The decision will enable Lithuania to draw SDR 12.4 million (about US$16 million) from the IMF immediately. The authorities have indicated that they intend to treat the arrangement as precautionary.

The last arrangement with Lithuania, a 15-month stand-by credit of SDR 61.8 million (about US$79 million), expired on June 7, 2001.

Following the Executive Board discussion on Lithuania, Shigemitsu Sugisaki, Deputy Managing Director and Acting Chairman, said:

"The Lithuanian authorities made remarkable progress in achieving their objectives under the program supported by the previous Stand-By Arrangement. Policies of fiscal tightening and structural reforms led to a resumption in growth, a sharp external current account adjustment, and renewed confidence in the currency board arrangement. However, unemployment remained high, and weakness in municipal finances persisted.

"Building on the considerable achievements so far, the new program aims to maintain macroeconomic stability, promote private sector activity, and strengthen external viability in order to attain sustainable growth and create employment opportunities. The authorities plan to achieve these objectives by maintaining the currency board arrangement—which has anchored macroeconomic adjustment—while continuing fiscal consolidation, and advancing remaining structural reforms.

"The cornerstone of the authorities' strategy continues to be fiscal restraint. The 2002 budget target strikes a balance between the need to maintain a prudent fiscal stance while leaving room for financing new expenditure priorities. Moreover, the authorities intend to simplify the tax structure and strengthen expenditure control and budget management, as well as reform municipal finances.

"The authorities are following an appropriate approach of preparing a medium-term fiscal framework, determining priorities, and seeking ways to achieve the medium-term goal of a balanced budget. In this context, the authorities' strategy to rationalize the tax structure while accommodating expenditure priorities, including the potential expenditures relating to EU and NATO accessions and pension reform, would bolster confidence in the path of economic policies.

"The authorities have announced their plan to switch the peg of the litas from the U.S. dollar to the euro in early 2002, while maintaining the currency board arrangement. The switch is consistent with the progressive orientation of trade towards the euro area and greater economic integration with the region. In this regard, the authorities are committed to a transparent and carefully laid out repegging process.

"Progress in structural reforms including the completion of banking privatization and in the areas of energy and agriculture remain crucial. The authorities' efforts to make the labor markets more flexible and efforts to create a more business-friendly environment will make Lithuania attractive for investment, which would lead to higher growth and employment," Mr. Sugisaki said.

ANNEX

Program Summary

Under the previous program supported by a stand-by credit, Lithuania achieved significant progress in macroeconomic stabilization and structural reforms, and greatly improved its prospects for EU membership in the first wave of expansion. All macroeconomic objectives under the previous program were attained. In 2000, GDP grew by 3.3 percent, mainly underpinned by export growth. In the first quarter of 2001, real GDP grew by 4.4 percent year-on-year, led by continued strong export growth and a pick up of domestic demand. Prices and wages increased modestly in the first months of 2001, and the unemployment rate started to fall in April for the first time in the last two years—declining for three consecutive months to 12.1 percent in June. The external current account deficit shrank sharply to 6 percent of GDP in 2000 from 11.2 percent in 1999, mainly reflecting strong export growth and the demand-containing effects of the fiscal deficit adjustment. The current account deficit was about 6.5 percent of GDP in the first quarter of 2001. On the fiscal front, after remarkable consolidation achieved in 2000, when the general government deficit was reduced to 2.8 percent of GDP from 8.5 percent of GDP in 1999, public finances continued to improve in the first quarter of 2001. The deficit for the first quarter of 2001 amounted to 0.9 percent of annual GDP (0.3 percent less than programmed). There continued to be improved confidence in the banking sector, with credit to the private sector starting to pick up in the first half of 2001, after having fallen in 2000.

The new program aims at maintaining macroeconomic stability, strengthening external viability, and facilitating private activity. Real GDP is expected to grow by 3.6 percent in 2001 and 4.7 percent in 2002, reflecting a recovery of domestic demand and continued good export performance. The pickup of domestic demand would lead to an increase in imports and a slight widening of the external account deficit in 2001 to 6.7 percent of GDP from 6 percent in 2000. Subsequently, the current account deficit would start to decline slightly again in 2002, due to sustained export growth, a more business-oriented regulatory environment, and a deepening in structural reforms.

The fiscal deficit for 2001 of 1.4 percent of GDP remains appropriate. The fiscal deficit target for 2002 is 1.3 percent of GDP. General government revenue is likely to decline in 2002, while expenditure will remain constant in real terms. In light of the lower revenue to GDP ratio, spending cuts and reallocation would be necessary. Financing needs in 2002 should be met comfortably, given a substantial lengthening of maturities and deepening of the domestic market for government securities, and access to international capital markets on favorable terms.

The program is based on a strategy of maintaining the currency board arrangement (CBA), and continuing fiscal consolidation effort, together with advancing the remaining key structural reforms. The currency board—the currency of the peg will be switched from the dollar to the euro on February 2, 2002—will continue to anchor macroeconomic policies, providing a stable monetary framework, helping to keep inflation low, and bolstering confidence. Continued monetization is expected during the program period, given the strong confidence in the CBA.

The government's medium-term objective of achieving a structural balanced budget by the time of EU accession, excluding the cost to the pension reform, will help boost the credibility of the CBA, contribute to a reduction in interest rate spreads, and underpin the projected current account deficit adjustment. The government sees the need for a comprehensive tax reform in the lead-up to EU accession and is working on a detailed plan.

Under the program, the government plans to continue structural reforms. In the fiscal sector measures will include addressing the structural causes of municipal expenditure arrears and implementing those that would eliminate these arrears, preparing legislation for the upcoming pension reform, and strengthening tax administration and improving administrative capacity and fiscal transparency. In the financial sector, the government will take additional steps to strengthen the banking system, and reduce government involvement further by privatizing the remaining state bank. Furthermore, the government will continue to improve the business climate ensuring an environment conducive to private activity and attracting foreign direct investment. The government will also continue to foster greater labor market flexibility.

The Republic of Lithuania joined the IMF on April 29, 1992. Its quota¹ is SDR 144.2 million (about US$185 million). Its outstanding use of IMF credits totals SDR 131 million (about US$168 million).