The International Monetary Fund is satisfied with the cooperation with the Moldovan government, as well as with the strides the republic has made in addressing the economic challenges of externalities. Real growth exceeded the original projections; the decline in industry is being overcome. If the trends persist, the republic’s outlook for further cooperation with the IMF to continue reform under the signed Memorandum is good.

	IMF’s Resident Representative in Moldova Johan Mathisen is concerned about the inflationary developments and unbalanced budget indicators

This was the statement the IMF’s Resident Representative in Moldova Johan Mathisen made to the journalists, when he introduced the regular report on Moldova late last week. According to the expert, recent years were specific for the republic; that is why growth should be supported by further diversification of economy and structural reforms. Visit of the IMF’s review mission, which is to take place in November, will bring clarity to many issues that built up, concerning both the macroeconomic indicators and budget planning. Labor market and public administration reform will become separate topics for discussion. There is no need to remind that disbursement of next tranche of the IMF loan will hinge on the “manageability” of the executive authorities.

The Fund revised its projections following the Russian embargo and energy prices increase last year. Johan Mathisen did not rule out such a development this year as well. Natural calamities might make the IMF concede this time. According to the statistics, in the first half of 2007 the GDP amounted to Mdl 23.8 bn, having increased by 8 percent (in comparable prices) versus the same period of the previous year. The GDP pattern is still described by a decrease in the share of agriculture and industry and a major increase in the specific weight of the service sector (65 percent), as well as net taxes on products and imports, the contribution of which to the GDP growth was one of the most significant ones (budget receipts went up by 17 percent) and amounted to 2.7 percent.

The pressure of imports and increase in final consumption (by 7 percent) generated by the inflow of foreign exchange from abroad still play a negative role in the stabilization of the macroeconomic indicators. The Fund specialists focus first and foremost on the inflation and budget indicators. High inflation rate in Moldova is still a concern for the IMF, due to which “major impetus is necessary so that the Moldovan government could maintain inflation within the declared 10-percent rate this year.” Especially because, in Mathisen’s opinion, there are some discrepancies in the calculations for increase in inflation made by the Government and the Fund. According to the IMF, the inflation rate that stabilized at year-beginning exceeded the limit today and reached 13.5 percent in August (versus August 2006). It is higher than in the neighboring countries of the region. According to Mathisen, a serious discussion with the government is coming, in order to understand to what extent the inflationary processes depend on tariff increases and to what extent, on the pressure of imports: “Moldova will not become a country one can invest in confidently until it ensures low inflation rate and economic stability.” The IMF expert sees two sides of the same coin -- on the one hand, vulnerable groups of the population are affected by inflation; on the other, growing consumer prices allow producers covering production costs, serving as a peculiar incentive for economic development. The Fund is just as concerned about the government policy aimed to contain prices for socially-sensitive goods and lower the inflationary pressure – “we will try to persuade the government not to use administrative methods and will suggest other compensatory measures.” If necessary, the IMF mission will recommend its ways of containing the inflation within the 10-percent limit,” promised Mathisen.

Western experts have always reacted painfully to the compensatory policies of the government – be they social protection measures, wage increases, or increase in other budget expenditure. But the actions of the NBM to level off the negative impact of the foreign exchange overhang on the economy do not cause any concern yet. The Fund takes a favorable view of the NBM’s efforts to maintain the leu. The situation whereby the domestic currency and the exchange rate appreciate is typical not just for Moldova. Dollar depreciated by a total of 8 percent on the world market. And by 3 percent against the European currency. So it would be rather difficult to predict the future exchange rate, believes Johan Mathisen. Although he acknowledges that low exchange rate of foreign exchange lowers the competitiveness of the domestic economy.

Economists doubt more often that only the leu appreciation can help oppose the growth of prices. Thus, the government policy becomes increasingly contradictory. On the one hand, it fights against inflation by pumping money out of the economy and reducing money supply. But, at the same time, it intends to immediately inject money via growing social expenditure and pubic investment. As a result, inflation projections look rather ephemeral both for this and subsequent years. Local experts point out that the situation could improve if the government fought against the inflation not by the monetary means alone. For example, the cabinet could start improving the investment climate and encourage output growth, it could deal with market monopolies, as well as pay attention to the natural monopolies’ pricing.

In the opinion of the Fund representative, tax amnesty, capital legalization, as well as public sector wage increase initiatives pose a certain risk to meeting the requirements of the memorandum. Especially in 2008, when zero-rate tax on reinvested profit will join them. The 2007 budget outlook is not bad, the IMF has pointed out a steady increase in the fiscal revenue, despite the natural calamities. But compensatory measures should be taken, which, in the opinion of the experts, should reaffirm the government’s objective to guarantee growth and social focus of the 2008 budget.

Such measures, the report says, should become: drastic downsizing of the public employment and improvement of the tax administration by delegating some functions of the Center for Combating Economic Crimes and Corruption to the Main State Tax Inspectorate. With a view to ensuring efficient operation of the megaregulator, more powers should be granted to it – in particular, the IMF insists on complete delegation of the right to issue and revoke licenses to the National Commission for Financial Market.

The western experts are also concerned about the budget indicators being balanced. Complaints can be heard that the IMF sets vary stringent conditionality for Moldova regarding the fiscal reform, fiscal balance, structural adjustment, claiming the role of an arbiter in the management of financial security worldwide and countering financial crises in specific regions. Answering the question about his view about the economic liberalization campaign, Johan Mathisen did not conceal the fact that the Fund is especially concerned about the capital legalization launched in Moldova. Jointly with the government, urgent measures were taken to amend the law on prevention and combating of money laundering and financing of terrorism, as well as the law on capital legalization. As regards the domestic effect, in the opinion of the expert, one cannot expect much from capital legalization. And application of the zero-rate income tax is a matter of budget capacities. Losing a portion of revenue presumes that either it will be covered from a different source or that expenditure would be cut. Eventually, it is up to the policy-makers rather than the Fund. In any event, the mission will demand clear answers to its questions.

The government seems confident in its force. Although a number of economists find the projected macroeconomic indicators used to draw up the 2008 budget not reliable enough. And this might require another budget adjustment during its execution. Experts prefer assessing just the most short-term plans of the government – they point out that long-term projections tend to change rapidly and drastically. Last year it was discussed that the public expenditure as share of GDP should decrease. However, this year the concept might change somewhat, given the changes introduced to the 2008 fiscal policy, as well as the government’s strategic objective to implement the National Development Plan and increase in the budgetary social expenditure announced by the Minister of Finance.

According to department head Yuri Torkunov of the Ministry of Economy and Trade, despite the course for reducing the tax burden, the role of the tax component in budgeting will be increasing. Fiscal-revenue-to-net-taxes ratio is about one third. National public budget revenue as share of GDP has also been increasing. Over seven month, over-execution of the fiscal revenue plan amounted to Mdl 500 mln. According to current data, from 1 January until 31 August this year, 26.4 percent more revenue, compared to the same period of previous year, was transferred to the state budget for all the components. Understating projected revenue and expenditure of the budget is usual practice when the government seeks to be on the safe side.

Updated estimate of the country’s medium-term development for this and subsequent years relies on 5-percent GDP growth and matches the Fund’s projections. However, the Ministry of Economy has both better-case and worse-case growth scenarios. Projection is not a rule set in stone, experts believe. Even the Fund does not know which of them will come true.

Irina Kovalenko

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