On April 23, 2014, the Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation1 with San Marino.
The global crisis and difficult relations with Italy have led to the demise of the off-shore banking model, and resulted in a 30 percent GDP contraction since 2008. The banking sector has undergone deep restructuring, with several banks intervened and sizeable public support for the largest bank. The country’s recent exit from Italy’s tax black list should facilitate the recovery and the transition to a new growth model.
Bank deposits have now stabilized and liquidity buffers are comfortable. While liquidity risks have abated, capitalization concerns remain against the background of thin capital buffers, high non-performing loans, and relatively low provisioning.
The economic downturn and bank recapitalization needs have put pressure on public finances, with public debt increasing significantly over the last five years. The 2014 budget contains savings of about 1 percent of GDP, and is an important first step towards putting debt on a sustainable path and rebuilding buffers. The upcoming reform of indirect taxation, together with the ongoing expenditure review, will help improve efficiency and identify further savings.
In addition to the recent exit from Italy’s black list, important steps have been taken to normalize international relations and rebuild the economy on new foundations. These include the monetary agreement with the EU signed in 2012, the recent inclusion of San Marino in the Single Euro Payments Area, good progress in strengthening the Anti-Money Laundering/Combating the Financing of Terrorism (AML/CFT) framework as noted by MONEYVAL, and important projects jointly with Italy.
Executive Board Assessment
The Executive Directors noted that while the economy is pointing to a modest recovery, San Marino is facing significant challenges in transitioning to a new growth model. To lay the foundations for sustainable growth, Directors encouraged the authorities to persist with the restructuring of the banking system and to continue to implement fiscal and structural reforms. The recent exit from Italy’s tax black list should facilitate the process of recovery. Directors emphasized that continued commitment to openness and transparency will be essential to fully normalize relations with the international community.
Directors were encouraged by stable deposits in the banking system and related improvements in banks’ liquidity position. They urged the authorities to promptly address Cassa di Risparmio della Repubblica di San Marino’s (CRSM) financial situation in line with international best practice through an upfront and unconditional dilution of shareholders equity by converting injected public funds to equity capital. The authorities should also take control of the bank’s management and board so as to execute a credible restructuring plan.
Directors underscored the need to monitor the banking system closely in light of high nonperforming loans and relatively low provisioning ratios. In general, they considered that intensified on-site supervisions in all banks should help in this regard. Directors pointed out that an external review of banks’ asset quality could sharpen clarity about the true state of the system. They recommended that any capital shortfalls uncovered by the review should be filled first by shareholders and other private investors, and that the authorities should also have backstop plans ready. Amending the bank resolution framework to give the central bank better tools for speedy and least-costly resolution will also be important.
Directors commended the authorities for the savings contained in the current budget, and noted that the recent tax reform would improve the efficiency of the tax system and help strengthen revenues. However, to put public debt on a sustainable path and rebuild buffers, Directors saw need for further fiscal consolidation. They agreed that the upcoming reform of indirect taxation, and the ongoing expenditure review focusing on wages, pensions, and social benefits, would provide opportunities to move in this direction. Directors underscored that cuts should be well targeted and equitable.
Directors noted that San Marino had made tangible progress in normalizing international relations. They encouraged the authorities to press ahead with structural reforms to facilitate opportunities for private investment, diversifying the economy beyond banking, and integrating it more deeply with Europe and the rest of the world. Continued commitment to openness and transparency, including further progress in strengthening the AML/CFT framework, will be key to achieving durable growth.