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IMF: Jordan facing difficult fiscal position and deterioration in external grants

Global Arab Network - - George Haddad

Wednesday, 21 July 2010 22:10

IMF: Jordan facing difficult fiscal position and deterioration in external grants

An International Monetary Fund mission visited Amman between July 6–18, 2010 to hold discussions for the 2010 Article IV consultation. The mission met with the Prime Minister, the Minister of Finance, the Governor of the Central Bank of Jordan (CBJ), the Ministers of Planning, Tourism, and Public Sector Development, senior government officials, as well as representatives of the financial sector, non-financial private sector, and donors.

Global Arab Network has received the International Monetary Fund mission’s statement on Jordan. According to this statement, the global economic downturn adversely affected economic activity. Real GDP growth fell from 7⅓ percent in 2008 to 2⅓ percent in 2009. Headline inflation declined steadily through 2009 to near zero, in line with lower world commodity prices, although core inflation remained stable at around 3 percent year-on-year (y-o-y). Lower world commodity prices also helped reduce the current account deficit to about 5 percent of GDP in 2009 (from 9⅔ percent in 2008). Official foreign reserves continued to increase, reaching a record high of $11 billion (equivalent to 8¼ months of imports) at end-2009.

Despite an expected modest rebound in economic growth in 2010 to about 3½ percent, output growth remains well below potential, reflecting slowly-recovering global and regional conditions. Inflation picked up to 5⅓ percent y-o-y in June 2010, driven mostly by higher international fuel and food prices. The current account deficit is expected to rise in 2010 (reaching almost 7 percent of GDP), as higher expenditure on imported commodities is partially offset by healthy tourism receipts and a rebound in exports.

Near-term risks to the economic outlook remain tilted to the downside, given uncertainties regarding world commodity-price developments, as well as fragile regional and global economic conditions. If the economic recovery in Gulf Cooperation Council (GCC) countries—to which the Jordanian business cycle is closely linked—proves to be slower than anticipated, this may adversely affect external flows. Developments in Southern Europe will likely have little impact on Jordan—any direct spillover through financial channels would be limited since Jordan’s financial sector has no substantial links to European assets. Similarly, the European share of total Jordanian exports, remittances and tourism receipts is relatively small. Indeed, further appreciation of the U.S. dollar vis-à-vis the euro may have a positive impact on the Jordanian external position, since imports from European Union countries account for almost one quarter of total Jordanian imports.

In common with many emerging market countries adversely affected by the global growth downturn, Jordan’s already-difficult 2009 fiscal position was made worse by a significant deterioration in external grants. While an increase in capital spending—to support domestic activity—was largely offset by lower commodity subsidies, a cyclical weakening in domestic revenues and a dramatic downturn in external grants induced a widening of the overall deficit by more than 3 percentage points of GDP, reaching 8½ percent of GDP in 2009. As a result, the debt-to-GDP ratio rose to about 56 percent at end-2009.

The mission supports the authorities’ fiscal stance for 2010, which envisages substantial consolidation. Based on the latest developments and macroeconomic assumptions, the 2010 overall deficit is expected to narrow by more than 2 percent of GDP relative to the 2009 outturn, reaching about 6 percent of GDP. With lower projected grant receipts and the continued cyclical decline in tax revenues, the consolidation will come mainly from the spending side—involving greater prioritization of capital spending and savings in current expenditures, including from containment of the public sector wage bill. Supplementary revenue measures—raising indirect taxes on petroleum and other commodities, and reversing the GST exemption for coffee—will partially offset commitments not sufficiently accounted for in the budget, including expenditures on the National Aid Fund, commodity (LPG and bread) subsidies, and teachers’ remuneration. Policy actions for 2010 which demonstrate the Government’s commitment to fiscal consolidation include: reducing operational costs of Ministries; cessation of construction of new government buildings, excepting schools and hospitals; and cutting Ministerial salaries by 20 percent. Implementation of these fiscal plans would result in a modest uptick in the public debt-to-GDP ratio, which would nonetheless remain below the 60 percent legislated debt ceiling.

As output growth recovers and comes closer to potential in 2011–13, macroeconomic stability will continue to hinge upon a prudent fiscal policy. Without substantial consolidation, the fiscal deficit would remain sizable and the public debt-to-GDP ratio would continue to edge up. Fiscal consolidation will also help contain the external current account deficit and free up domestic resources to support private sector-led growth—this can be achieved only by further fiscal adjustment in 2011 and beyond. The mission supports the authorities’ policy proposals which (beginning in 2011) would reduce the overall balance by between one-half and one percent of GDP per year (depending on the level of economic activity), and help achieve an overall deficit of about 3 percent over the medium term. Priorities underpinning this adjustment are policies aimed at removing remaining tax exemptions on commodities, continuing moderation of growth in the wage bill, improving the efficiency of current spending, and ongoing prioritization of capital spending. The authorities’ proposed set of policies would reduce the debt-to-GDP ratio to about 53 percent by 2015. Such adjustment will be crucial to maintain investor confidence, preserve macroeconomic stability, and create scope for potential future countercyclical fiscal policy.

Progress in structural reforms is a major policy goal to reduce fiscal and external vulnerabilities, while achieving higher economic growth and employment over the medium term. Further improving the business environment for the private sector should help raise productivity and reinforce Jordan’s competitiveness. In this connection, in early 2010 the Jordanian Cabinet passed legislation that lowers the average tax burden and enhances the investment climate. The mission noted that these are steps in the right direction and need to be supported by additional structural reforms to maintain future competitiveness. In May 2010, the authorities made commendable strides by undertaking reforms of the social security system that improve the sustainability and actuarial soundness of their pension scheme. In addition, the revised social security law introduces unemployment insurance to social security recipients, which should enhance labor market flexibility (commencing July 2011). Other structural reform priorities should include further liberalization of the water and energy sectors, and completion of civil service reforms (which the authorities are embarking upon with technical assistance from the World Bank and USAID).

With a sound institutional framework in place to control for fiscal risks, public-private partnerships (PPPs) can provide a useful vehicle to address infrastructure bottlenecks in a tight fiscal environment. The authorities’ ambitious program of large-scale infrastructure development, particularly in the provision of power, water, and rail transportation infrastructure, is to be financed by PPPs. While PPPs can offer better value for money in the provision of public infrastructure, international experience has demonstrated that they can also generate potential fiscal liabilities. Before committing to potential public liabilities, the mission recommends that a number of preconditions be put in place, including improving existing PPP regulations to approve a legal framework that ensures adequate risk transfer to the private sector and prescribes a clear process for the evaluation and approval of PPPs. Other elements of a sound PPP framework would include competitive bidding procedures, capacity-building at the government level, and proper accounting and reporting of fiscal implications. The authorities are currently in the process of strengthening an earlier framework law for PPPs, which will be submitted to Cabinet later in 2010.

Fiscal institutions should continue to be strengthened. Progress in public sector structural reforms is critical to enhance the business environment for private sector-led growth. The mission recommends that accelerated steps be taken to improve public sector financial management through: further strengthening the medium-term framework for budget formation and implementation; introducing the Government Financial Management Information System across government ministries; and improving cash management through full implementation of the Treasury Single Account. In addition, as the number of autonomous public agencies increased to 61 by end-2009, structural reform of overall public expenditure policies will be needed to reduce the burden of government entities on the budget. (IMF)

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