RIA OREANDA, Russia
Economic News
November 26, 2008 Wednesday
IMF Board Concludes 2008 Article IV Consultation with Armenia
LENGTH: 1452 words
Yerevan. OREANDA-NEWS On 26 November was announced, that the Executive
Board of the International Monetary Fund (IMF) concluded the Article
IV consultation with the Republic of Armenia.
Background
Armenia’s recent economic performance has remained strong, and the
economy is poised for another year of double-digit growth. But
macroeconomic imbalances have widened. Rising inflation, a widening
current account deficit, and rapid credit growth have raised concerns
about overheating. While the impact of the current international
financial turmoil is expected to remain limited, the threat of a
severe global economic downturn could undermine growth prospects.
The Armenian economy continues to register strong growth underpinned
by sound macroeconomic policies and ongoing structural reforms. Real
GDP increased by 13.8 percent in 2007, the sixth consecutive year of
double-digit growth, and remained strong through September 2008 (10.4
percent), on the back of continued buoyant activity in construction
and services. Inflationary pressures have increased on account of
surging food and energy import prices. The end-year inflation rate, at
6.6 percent, exceeded the target band for 2007 (4 1.5 percent), and
inflation reached 8.6 percent in October 2008. However, inflation is
still lower than in neighboring countries, thanks to a gradual
tightening of monetary policy, exchange rate flexibility, and a
moderate fiscal stance. Inflationary pressures will remain strong in
the period ahead, given significant demand pressures and an announced
hike in gas import prices.
Despite strong growth in private transfers, the external current
account has continued to deteriorate. Imports have surged on the back
of high international food and energy prices and buoyant
demand. Export performance has been disappointing, reflecting
declining competitiveness in diamond-processing and temporary
shortfalls in base metals output, but also the high cost of doing
business in Armenia. With appreciation pressures dampened by rising
import demand, the dram/dollar exchange rate has been broadly stable
since December 2007.
Fiscal policy has remained prudent. Tax collection has been well above
expectations, driven by a surge in value added tax (VAT) revenue
partly associated with high import growth. Together with expenditure
underexecution, this resulted in a lower-than budgeted overall deficit
in 2007 and an overall budget close to balance through July
2008. However, the underlying fiscal balance (including the gas
subsidy, but excluding grants and external interest payments) has been
deteriorating.
Monetary policy has been tightened to address inflationary pressures
and limit second-round effects of higher food and energy prices. In
2007-08, the Central Bank of Armenia (CBA) gradually increased the
repo rate to currently 7.75 percent.
Armenia’s financial sector infrastructure, regulation, and supervision
have improved significantly, and financial soundness indicators do not
yet indicate significant vulnerabilities. Banks continue to be
profitable, well-capitalized, and nonperforming loans are still
low. Exposure to the international financial turmoil is limited due to
low external commercial borrowing. Yet, the sharp pickup in credit
growth since mid-2007while a welcome boost to financial
intermediationcould potentially impact negatively on financial sector
stability.
The government’s program emphasizes the authorities’ commitment to
policy continuity and accelerated implementation of reforms along the
lines of Fund advice, with a particular focus on improving tax policy
and administration, and the business environment. The authorities have
requested a low-access Poverty Reduction and Growth Facility (PRGF)
arrangement to support their ambitious reform agenda. A new Fund
program is seen as crucial to safeguard macroeconomic stability and as
a signal of the authorities’ continued reform drive.
The authorities intend to continue publishing all documents related to
the Article IV consultation.
Executive Board Assessment
Executive Directors commended the authorities for the successful
implementation of macroeconomic policies under the PRGF-supported
program that expired in May 2008. These policies, supported by
large-scale foreign exchange flows, have contributed to a period of
strong economic growth, low inflation, rising real incomes, and
declining poverty rates.
Directors were encouraged by the authorities’ commitment to continued
prudent monetary and fiscal policies and far-reaching structural
reforms. These actions are necessary to consolidate past gains and to
strengthen the economy’s resilience against external shocks. Vigorous
implementation of structural reforms will be key to address Armenia’s
weak business environment, limited export potential, and undiversified
production base.
While Armenia’s short-term outlook remains favorable, inflationary
pressures, a widening external current account deficit, and rapid
credit growth have raised concerns about overheating. However, the
current global financial turmoil and the unfolding economic downturnas
well as regional instabilitycould affect foreign direct investment
(FDI) and remittance inflows and undermine growth prospects, while at
the same time also dampening risks of overheating.
Directors welcomed the authorities’ intention to withdraw fiscal
stimulus during 2008-09 in order to address current imbalances. Going
forward, fiscal policy should balance the need for a countercyclical
stance with the spending requirements for poverty-reducing and
infrastructure spending. Directors therefore welcomed the authorities’
strong efforts to strengthen revenues by addressing weaknesses in tax
policy and administration. The envisaged tax reform will also bring
important benefits in terms of containing the shadow economy and
discouraging tax evasion; reducing significantly the cost of doing
business, particularly in the export sector; contributing to leveling
the playing field; and, ultimately, promoting private sector
development. Directors commended the plans to strengthen the
medium-term expenditure framework and debt management policy.
Directors welcomed the commitment of the Central Bank of Armenia (CBA)
to tighten monetary policy further if signs of overheating
persist. The CBA also intends to continue the preparation for a
full-fledged inflation targeting regime. Some Directors thought that a
more gradual transition might be preferable as the monetary policy
transmission mechanism remains weak.
Directors considered that exchange rate flexibility will continue to
be the best option for Armenia, and that it should facilitate
adjustment of the external balance. The authorities should refrain
from extensive unsterilized foreign exchange intervention to lend
credibility to the inflation targeting regime. Several Directors
underscored the importance of allowing two-way exchange rate
flexibility to avoid one-way bets. Directors noted the staff
assessment that, despite the notable appreciation of the exchange rate
in previous years, there is no evidence of a significant exchange rate
misalignment. This highlights the importance of accelerating key
structural reforms aimed at improving external competitiveness through
a more favorable business environment. Directors noted that Armenia’s
financial sector infrastructure, regulation, and supervision have
improved significantly. Relevant indicators do not point to
significant vulnerabilities nor are there signs that the global
financial crisis has affected financial institutions in Armenia.
Nevertheless, in view of the continuing areas of weakness as well as
the rapid credit growth, the authorities should further strengthen the
financial system-in particular, the supervisory framework and risk
management-and prepare contingency plans in case of financial system
stress.
Directors endorsed the authorities’ request for a low-access PRGF
arrangement, given Armenia’s good track record and strong policy and
structural program for 2009. They acknowledged that the program’s
focus on further strengthening the fiscal and monetary policy
frameworks and their coordination, while deepening productivity-
enhancing structural reforms, is appropriate to address the
significant challenges ahead. Some Directors recognized, however, that
Armenia’s financing needs might increase with rising global risks, and
supported an early review of the situation if needed. Directors also
welcomed the authorities’ readiness to take additional policy measures
as needed.
From: Emil Lazarian | Ararat NewsPress
