IMF Staff Completes 2016 Article IV Mission to the Republic of Marshall Islands
“Growth in the Marshallese economy returned to positive territory in FY2015 (ending September 30), as the fishery sector strengthened. Output grew by about 0.5 percent, while headline inflation dropped to -2.2 percent, amid falling oil and utility prices. The fiscal balance is estimated to have recorded a surplus of about 2.5 percent of GDP, due to record-high fishing license fees.
“Going forward, growth is expected to rise to about 1.5 percent and inflation to 0.5 percent in FY2016, as the effects of the drought earlier this year is offset by the resumption of Compact-funded infrastructure spending. The fiscal balance is projected to decline to a smaller surplus in FY2016 but, without reforms, will deteriorate to a sizable deficit over the medium term owing to the steady decline in Compact grants until FY2023. Potential GDP growth is projected to be 1-1.5 percent over the medium term, absent structural reforms.
“Important risks cloud the outlook. In the short-term, further delays in the implementation of infrastructure projects and potential loss of a correspondent banking relationship (in the context of global de-risking) could lower growth. Over the medium term, extreme weather-related events (in the context of climate change), inadequate fiscal consolidation, and delays with social security reform could pose threats. On the upside, a decisive push for structural reforms could boost long-term growth.
“Against this background, the key policy challenge is to strengthen the economic policy framework to enhance resilience and lift potential growth. The mission’s recommendations focus on four main areas: (i) securing fiscal sustainability; (ii) adapting to climate change; (iii) facilitating private sector growth; and (iv) ensuring financial stability.
“The mission supports the implementation of the Decrement Management Plan (DMP) prepared for the scheduled decline in U.S. Compact grants until FY2023. Fully implemented, this plan should generate a gradual fiscal adjustment of 4 percentage points of GDP over the remaining seven years of the amended Compact agreement. Along with complementary measures that can generate additional fiscal savings, this could generate a fiscal surplus of 3 percent of GDP by FY2023 and onwards. In turn, this would help preserve the inflation-adjusted value of Compact Trust Fund beyond FY2023, which is needed both to safeguard an important resource for future generations and to cope with the market volatility in investment returns.
“To ensure successful fiscal adjustments over the medium-term, the social security system needs to be put on a sustainable path. Under the current structure, the social security fund’s reserves could be depleted by early FY2022. The mission welcomes the formation of a taskforce for social security reform and urges action to eliminate the risk of a potentially large drain on the government budget without further delay. The mission also welcomes renewed efforts by the authorities to strengthen the public financial management which will help successful fiscal adjustment.
“The Republic of Marshall Islands is one of the most vulnerable countries to climate change and rising sea levels, and should plan for both structural and cyclical fiscal costs stemming from climate change. The mission supports the authorities’ intensified efforts to mitigate natural disaster risk and build resilience, including through the Joint National Action Plan (JNAP) that contains climate-change adaptation and disaster risk-management strategies. Explicit budgeting of adaptation costs would also improve the efficiency on both spending and funding fronts.
“To facilitate private sector growth, SOE reform is key. In that context, important progress has been made by restructuring Marshall Energy Company (MEC), and by enacting the State-Owned Enterprise Act in October 2015. The mission commends the authorities for these measures and proposes additional steps: clarifying the justification of subsidies based on the community service obligations of SOEs, and introducing a centralized monitoring unit for SOE performance.
“To ensure financial stability, the mission recommends strengthening the Banking Commission’s authority and autonomy in carrying out effective supervision, and broadening its oversight to include the Marshall Island Development Bank (MIDB). The mission welcomes the MIDB’s plan to refocus on its core mandate of providing commercial lending, rather than consumer loans. To deal with potential de-risking challenges, the authorities should continue to address regulatory gaps, including by bringing the anti-money laundering (AML) legislation in line with international standards, and maintain a close dialogue with the U.S. regulators.
“The mission is grateful to the authorities for their generous hospitality and representatives of the government and the private sector for the open and constructive dialogue. The IMF’s Executive Board is tentatively scheduled to discuss the Staff Report in September.”