IMF urges government to cut current expenditure

The International Monetary Fund said yesterday that Malta's efforts to achieve robust growth hinged on further improvements in public finances and on sustained efforts to reform the economy.

Fiscal consolidation plans should be anchored in cutting current expenditures, which would require establishing spending priorities. This may also necessitate persistent efforts to curb public sector employment, rationalise the welfare system to enhance its effectiveness and curtail abuse and to increase the efficiency of the parastatal sector.

The report, published in Washington, gives a generally positive assessment of the recent performance of the Maltese economy but notes that fiscal consolidation and structural reforms have lost momentum over the past year.

The report notes the gradual liberalisation of the economy, pointing at the opening of markets to international competition, the almost total liberalisation of the capital account, the deregulation of interest rates and the strengthening of the independence of the Central Bank, the revision of the weights of the Maltese lira basket to reflect the relative importance of euro area trade, progress on privatisation and the restructuring of the public sector and public sector firms and progress in fiscal consolidation, though, the report says, more remains to be done, particularly by reducing expenditure.

Looking to the medium-and long-term challenges, the report stresses that EU accession marks a turning point in Malta's economic history and will require a strengthening of the policy environment. In this regard, there would be a need to align fiscal and monetary policies with those of the EU, thereby providing a solid foundation for Malta to adopt the euro, deal with the problem of an aging population and to continue with structural reforms that should aim mainly at reducing public sector involvement in the economy.

The report highlights economic progress achieved but also draws attention to imbalances and weaknesses in the macro-economics framework.

It says that Malta is well placed to reap the benefits from EU accession and embark on a path of rapid growth. Its human capital and geographic location place it in a favourable position in this regard. Achieving robust growth, however, hinges on further improvements in public finances and on sustained efforts to reform the economy.

Fiscal consolidation plans should be anchored in cutting current expenditures, which will require establishing spending priorities. This may also necessitate persistent efforts to curb public sector employment, rationalise the welfare system to enhance its effectiveness and curtail abuse and to increase the efficiency of the parastatal sector.

The IMF said the three-year planning horizon in the annual budget presentation was a welcome step forward in establishing a medium-term framework. Instilling fiscal discipline, however, required introducing strict expenditure ceilings. As experience was gained with the three-year rolling horizon, it might be feasible to move to five-year projections, which would help the authorities capture the impact of an aging population early on.

As for the need to address the latter problem, the National Welfare Commission's forthcoming report should provide the technical analysis required to guide the details of the reforms. A public debate on the reforms will be important to foster a spirit of co-responsibility for Malta's future.

The IMF said Malta's exchange rate peg provided a suitable framework for Malta to join ERM II and eventually adopt the euro. The favourable experience with a peg to a basket of currencies suggested that the economy was able to cope with the discipline of a fixed exchange rate. The timing of entry to ERM II would depend on Malta's ability to strengthen its fiscal position and achieve the durable consolidation needed to buffer against the associated economic disciplines.

In an appendix on economic and monetary union, the report states that the characteristics of Malta's economy suggest that it is well placed to join the euro area and lists the benefits that should accrue to Malta.

The fund said the consolidation of supervisory responsibilities at the Malta Financial Services Authority (MFSA) was an important step in strengthening financial supervision in Malta, which would play a critical role in maintaining the health and ensuring the viability of the financial system, particularly as competition intensified with EU accession.

Reforms in the parastatal sector and the privatisation programme should continue. This would lead to a significant reduction in the public sector's involvement in the economy, attracting foreign direct investment and contributing to a more efficient deployment of resources.

The release of excessive public sector employment to the private sector would be a key to boosting economic efficiency and contributing to lasting growth.

The report was compiled after a visit by an IMF team to Malta in May.

The IMF yesterday also issued a Financial System Stability Assessment which found Malta's financial system to be healthy and well supervised but very concentrated and exposed to the country's narrow economic base.

The IMF mission which drew up the report made a number of recommendations to improve the supervisory framework and the resilience of the financial sector. The recommendations are carried in today's Business Section.

The section also features the most important chapters of a final draft of "An agenda for Maltese Financial Services in Europe" issued by the Malta Financial Services Authority.

The document maps out important policy and strategic areas where European integration of the sector could be turned into a tangible opportunity for the country. It includes an action plan for the Maltese financial services industry and analyses of the challenges and opportunities facing the MFSA and the Maltese financial services industry.

MFSA chairman Joseph V. Bannister said the MFSA will receive feedback on the draft agenda for 30 days and proposals will then be discussed by the authority which will set a timetable for the implementation of the agenda by year's end.