preliminary findings of IMF staff at the conclusion of
certain missions (official staff visits, in most cases to
member countries). Missions are undertaken as part of
regular (usually annual) consultations under
Article IV of the IMF's Articles of Agreement, in the
context of a request to use IMF resources (borrow from the
IMF), as part of discussions of staff monitored programs,
and as part of other staff reviews of economic developments.
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2007 Article IV
Statement of the IMF Mission
21 December, 2007
With the second wave of European Union accession over,
many eyes are now turning to Moldova. Growth potential is high, with a
motivated workforce and low costs.
Macroeconomic policies are sound. A prudent 2008
budget is in place, and the National Bank has moved quickly to re-establish
disinflation following the impact of the drought. Growth has been remarkably
resilient in the face of shocks, and investment is picking up, supported by
foreign direct investment (FDI) and strong remittances.
Performance under the PRGF
arrangement with the IMF has been good and the third review is on track for a
IMF Executive Board discussion early next year.
The resolution of
the wine embargo, and the approval of the trade agreement with the European
Union, provide an opportunity to step up the pace of reforms and boost growth.
Key structural reforms aimed at improving the financial infrastructure and
fiscal framework agreed earlier under the PRGF program are now in place. The
focus going forward should be on growth and, more importantly, growth that comes
from strong private sector development, backed by a modern public
This will not be an
easy task. Key challenges for the government are to ensure that growth is
supported by appropriate public sector restructuring to met the needs of a
rapidly evolving economy, better physical and service infrastructure, energy
sector restructuring, a friendly business environment, and better education and
social services that make certain the benefits of economic transformation are
felt by all.
The economy has
picked up strongly.
The economy is doing well despite consecutive shocks.
Moldova was hit hard by the Russia’s ban on imports of Moldovan wine, and a
doubling of natural gas prices by Russia’s Gazprom. Growth in the first half of
2007 at 8 percent was therefore impressive, although a weaker harvest due to the
drought may imply some slowdown in the second half of the year. Export
performance has been encouraging, and investments have picked up.
The pattern of growth is also changing, with
developments in Moldova increasingly mirroring those in other transition
economies. There are encouraging signs that the earlier model of
consumption-driven growth underpinned by remittances is shifting. While large
inflows of remittances continue to support growth, they are increasingly flowing
into investments rather than consumption. FDI has also picked up and is
projected to reach 12 percent of GDP in 2007, compared with 7 percent in 2006.
There also signs of a shift of production and employment into manufacturing,
particularly textiles, where Moldova’s low labor costs continue to provide a
High inflation remains the main concern. Good
progress by the National Bank of Moldova (NBM) in reducing inflation since late
2006 was set back by the drought, causing a spike in food prices, in line with
regional trends. A renewed effort will be needed to ensure inflation is brought
down to single digits in 2008. Also, fiscal policy will need to continue to
withdraw fiscal stimulus and support disinflation efforts in early 2008.
The current account is improving. Despite last
year’s shocks, the current account deficit is projected to narrow to 9 percent
of GDP, compared with 12 percent in 2006. While exports have grown, imports grew
faster than expected, fuelled by robust remittances and stronger FDI. The
deterioration in the merchandise trade balance has been offset by improvements
in net income and transfers.
Strong growth performance has presented new challenges.
The current environment is favorable but fragile.
Being late to transition, Moldova can benefit from the experience of other
countries in the region. This has shown that smooth convergence will depend on a
strong fiscal and monetary stance to bring inflation down quickly, and provide
more policy flexibility when Moldova faces inevitably mounting capital inflows
and appreciation pressures.
While recent trends are similar to those faced by
neighboring CEE countries, Moldova has fewer effective policy levers to address
these pressures. The role of fiscal policy is limited due to Moldova’s low
income and high development needs. At the same time, the ability of monetary
policy to offset the impact of strong capital inflows and ensure disinflation is
constrained by weak transmission channels and underdeveloped financial markets.
Fiscal policy has been sound, but more needs to be done to improve
Government finances are healthy. The general
government reported a surplus in the last four years owing to robust revenue
from VAT and excises on imports, while expenditures were kept in line with
budget commitments. Fiscal performance is also strong this year, with revenues
driven by higher VAT on imports, and the fiscal targets under the program will
be easily met.
Fiscal policy will need to remain prudent to support the
disinflation effort. The 2008 budget deficit target of 0.5 percent of GDP is
appropriate, even though the budget has been squeezed by the reduction in
corporate and personal income taxes. The focus of spending should be shifted
from current spending to investment. The public sector wage bill is one of the
highest in the region, despite low salaries, and some restructuring will be
inevitable if the public sector is to be able to attract and retain high quality
Strong revenue prospects provide an opening for decisive
reform of the public sector. This should focus—in line with recommendations
of the World Bank’s 2006 Public Expenditure Review—on reducing the size of the
public sector, especially in education, to allow for improved quality of
service, higher education standards, and a pay structure that more closely
aligns pay with skills. The ongoing World Bank Public Expenditure Review has
identified the implementation of a transparent and uniform remuneration scheme
and consolidation of school and health care networks as key reform areas to
improve service quality.
Timely implementation of the new targeted social
assistance system in 2008 will be key to reduce poverty. The current system
of social assistance based on social categories is poorly targeted. The new,
means-testing system, whose methodology was adopted in early October (a slight
delay relative to the end-September structural benchmark), promises to
considerably improve targeting and should go a long way to mitigate higher
energy costs for the poor.
The burden for consolidating macroeconomic stability falls on monetary
Monetary policy bears the brunt of the disinflation
effort. Strong appreciation pressures, and a weak transmission process
complicate the task of the National Bank. Upside risks to inflation
remain, despite the welcome recent monetary tightening, with possible second
round effects from the drought. The year-end ceiling on reserve money under the
PRGF is likely to be breached. Real interest rates on sterilization operations
will need to remain substantially positive until monetary pressures are eased
and further tightening may be needed to ensure disinflation is fully entrenched.
The movement of the accounts of the Social Fund, the Health Fund, and
territorial budgets from commercial banks to the treasury single account at the
NBM by end-2007 should ease part of the liquidity pressures.
Given growing inflows of foreign exchange, appreciation
pressures are unavoidable. Fighting inflation should continue to be the
central focus of monetary policy. While the strengthening of the real effective
exchange rate may raise concerns about price competitiveness, it should be
realized that the exchange rate is moving broadly in line with fundamentals.
Appreciation pressures are the result of capital inflows reflecting high rates
of return, and are a normal result of the convergence process, whereby incomes
in Moldova will catch-up with those of its neighbors.
Moldova’s financial sector has strengthened but remains
underdeveloped. The joint October 2007 Financial Sector mission of the IMF
and World bank found that while the banking sector has proved to be remarkably
resilient to the series of external shocks, it lags behind some of its peers in
intermediating savings. Total assets and credit to the private sector have
doubled since 2001, but at 54 percent and 31 percent of GDP respectively, the
share of the financial sector in the economy is still small compared with more
advanced countries of the region. Although high capital adequacy and liquidity
serve as reliable cushions in cases of possible distress, they also indicate
weaknesses in operating and risk management capacity. Only some 10 percent of
rural households have access to bank accounts.
We are pleased that
concerns about the AML regime are being addressed. Revisions to associated
laws to bring them in conformity are being prepared with the help of technical
assistance from the IMF and others.
The structural reform agenda remains long
Despite recent structural reform efforts, more needs to
be done. EBRD transition and World Bank “Doing Business” indicators, as well
as World Economic Forum competitiveness point to a weak business environment.
Key reform areas include streamlining of regulatory procedures, judicial reform,
strengthened bankruptcy procedures, improved business legislation,
simplification of licensing requirements, and modernization of the tax
Developments in the heating sector are worrying.
Utility tariff reform for gas and electricity has progressed well, with
strengthened independence and effectiveness of the energy regulator, ANRE.
However, the recent cut in heating tariffs in Chisinau is damaging. The
effective heat tariff is well below the cost-recovery level, and growing arrears
to energy producers undermine the financial viability of the sector, which will
help no-one. Our position remains that tariffs should continue to be raised to
cost recovery, with appropriate social assistance for those that cannot afford
the higher costs. Across-the-board subsidies for both rich and poor alike are
not affordable or equitable.
And distract from other structural reform priorities.
The list is daunting, including reduced energy dependence, private
sector-led transformation of agriculture, civil service reform, tax
administration, business environment, and the social safety net. Changes in the
guillotine and business licensing laws are important initiatives for
strengthening the business climate, but reducing impediments to business will
depend on more than legislative action. The imprint of the state remains high,
with extensive involvement of public sector entities in the economy. Policy
actions should be carefully assessed to ensure that measures, no matter how well
intentioned, do not add to distortions and stunt private sector growth.
A well-planned privatization effort would help.
The recently published privatization list is a strong statement that the
government is committed to private sector development. Moldova is a small
economy, and its needs are great. But a vast amount of state resources, which
could be better spent elsewhere, are tied up in entities which could be much
better run by the private sector. A transparent privatization effort that
targets strategic investors would ease distortions, increase financing for
investment, and provide a powerful signal of business-friendly policies. We have
encouraged the government to focus its efforts on sectors that will provide a
catalyst for growth, particularly in financial and service infrastructure. We
strongly support the authorities intention to boost the sale of strategic state
enterprises where private involvement can bring new investment and know-how.