IMF Executive Board Concludes 2013 Article IV Consultation with Zambia

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Press Release No. 13/535
December 19, 2013

On December 11, 2013, the Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation with Zambia. 1

Zambia has achieved strong and sustained economic growth over the past decade due to improved macroeconomic management and increased copper production; however, risks have over the past year increased with rising fiscal imbalances and lower reserve coverage. Robust output growth continued in 2012 at slightly above 7 percent, driven by agriculture and services, but is slowing in 2013 due to a weaker harvest. Expansionary fiscal policies, mainly from spending on subsidies and wages, have raised the projected 2013 deficit to about 8½ percent of GDP. Rising imports together with weakened copper prices are expected to move the current account into deficit, and international reserve coverage has fallen to 2.3 months of next year’s imports.

Inflation has remained contained as monetary policy has been gradually tightened. With the Central Bank having raised its policy rate in two steps of 25 basis points each, consumer price inflation is projected to stay broadly unchanged at 7½ percent in 2013 despite the withdrawal of fuel and agricultural subsidies earlier this year, as well as the more recent increase in civil service wages. The nominal exchange rate has depreciated recently, but has remained broadly in line with inflation differentials to trading partners.

The banking sector has grown steadily and remains profitable and well-capitalized. Private sector credit growth has started slowing down in 2013 from a rapid increase in the second half of 2012. Nonperforming loans declined to 8.2 percent of total loans in mid-2013 from 15 percent in 2010.

Over the medium term, economic growth is expected to stay strong, averaging about 7½ percent a year. However, this is premised on significant policy adjustment to restore fiscal sustainability and preservation of the investment climate. The authorities are targeting a 3 percent of GDP deficit over the medium term with no more than 1½ percent of GDP net domestic financing. In order to help achieve this, the government is planning a wage and net recruitment freeze for 2014 and is aiming to limit the cost of agricultural subsidies. The central bank aims to build up reserves gradually with the aim to reach 4 months of imports over the medium term.

Executive Board Assessment2

Executive Directors welcomed Zambia’s strong economic performance over the past decade, which was underpinned by prudent macroeconomic management over much of this period. Nevertheless, they noted that the outlook is subject to significant risks from the recent widening of fiscal imbalances, reduced external buffers, and volatile copper prices. Directors therefore recommended containing the fiscal deficit, accelerating public financial management reforms, strengthening external buffers, and improving the business environment to help diversify the economy away from mining and accelerate poverty reduction.

Directors called for comprehensive policy actions to address the unsustainable fiscal position following the spike in wage and subsidy spending last year. Noting the rapidly rising public debt and substantial downside risks to the budget, they recommended fiscal consolidation through increased revenue mobilization and a reorientation away from recurrent spending, to create fiscal space for infrastructure investment and control of the public debt. Directors welcomed the authorities’ plans to freeze wage spending in 2014 and limit the cost of agricultural subsidies. They advised that raising the tax-free threshold on personal income taxes runs counter to fiscal consolidation efforts and recommended accelerating revenue mobilization through changes in tax policy, enhanced mining tax administration, and broadening the tax base.

Directors called for strengthening public financial management through improvements in budget planning, fiscal reporting, expenditure controls and debt management combined with stricter oversight and accountability. Strengthening debt management and project assessment capacity is critical, given the planned rise in infrastructure spending and recourse to non-concessional borrowing. Noting the inherent risks, Directors advised against issuance of the proposed sub-national Eurobonds in favor of sovereign bonds, and stressed that all external borrowing should be subject to project appraisal and screened for consistency with macroeconomic stability, debt sustainability and the overall debt management strategy.

Directors agreed that rising inflationary pressures warrant a tighter monetary stance. They welcomed progress in transitioning the monetary framework toward utilizing the policy rate and recommended improving liquidity forecasting and management. Directors advised rebuilding external buffers through enhanced exchange rate flexibility and further reserve accumulation.

Directors welcomed recent improvements in Zambia’s ranking in the World Bank’s Doing Business Index, but called for improved policy consistency. They cautioned that the imposition of lending rate ceilings, restrictions on the use of foreign exchange, and rapid increases in minimum wages could undermine external competitiveness and erode investor confidence. Directors advised that financial intermediation could be better strengthened through enhanced competition and improved efficiency. Directors also recommended that the remaining exchange restrictions on current account transactions be removed expeditiously.

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