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Describes the 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.
Jordan—Concluding Statement for the 2006 Article IV Consultation and Fourth Post-Program Monitoring Discussions
November 28, 2006
At the outset, the mission would like to thank the authorities for their kind hospitality and excellent policy discussions. These discussions have improved our understanding of the Jordanian economy and shaped our policy recommendations. We look forward to continued close and fruitful dialogue in the future.
1. Reflecting its strong economic policies, Jordan has achieved major economic progress over the past decade. Economic growth almost doubled, to 6 percent a year, during 2000-05 compared with the previous five-year period; total factor productivity increased by 3 percent annually during 2000-04, triple the historical norm (reflecting strong labor productivity increases in manufacturing, especially textiles); inflation fell to low single-digit levels; and the public debt ratio was reduced substantially—from more than 210 percent of GDP in 1990 to 83 percent by end-2005—an extraordinary achievement. This performance was accompanied by increased trade openness and an unprecedented surge in foreign direct investment.
II. Recent Developments and Outlook For 2006
2. Economic performance should remain strong. Real GDP growth was broad based and is likely to end the year at 6 percent or more. Core inflation appears well contained, although headline inflation may temporarily increase to 6 percent due to higher domestic fuel and imported food prices. Unemployment has also declined but remains high at more than 14 percent. After a large correction at the beginning of the year, the Amman Stock Exchange index has exhibited more stability than most markets in the region.
3. The current account deficit has recently begun to narrow and is being financed mainly by long-term capital inflows. Import growth for the year is projected at 12 percent (half of last year's level), while exports should rise by some 18 percent. Despite the high deficit, given ample capital inflows, the overall balance of payments surplus is estimated at US$1.4 billion and the gross usable reserves of the Central Bank of Jordan (CBJ) will reach a record high of US$5.7 billion (an increase of US$0.8 billion over 2005), equivalent to five months of prospective imports. This reflects an unprecedented level of private capital flows, especially foreign direct investment (in banking, mining, real estate, and telecommunications) that could reach US$2.8 billion this year.
4. The fiscal position has improved relative to 2005. Domestic revenues and grants now are projected to be 4.0 percentage points of GDP higher than in the original budget—due to larger income tax and GST receipts reflecting improved tax administration and strong economic activity, as well as higher grants from Saudi Arabia and the Gulf—enabling the government to compensate for the large increase in domestic fuel prices. The fiscal deficit excluding grants for the year is projected to improve by 2½ percentage point of GDP—equivalent to an adjustment of ½ percentage point of GDP in the overall deficit including grants. The deficit has been financed easily without adding to macroeconomic pressures, and the public debt ratio is projected to decline to 74 percent of GDP by end-2006.
5. Monetary policy was geared towards keeping interest rates in line with global rates. And, by withdrawing much of the banks' excess liquidity, the CBJ contributed to developing further the interbank market. Broad money is likely to increase in line with nominal GDP mainly due to net foreign asset growth. Strong private sector credit growth (25 percent year-on-year) would be partly offset by declining other items net (bank capital increases). The dollarization ratio remains stable at around 27 percent, based on continued confidence in the Jordanian dinar (JD).
6. Bank regulation and supervision have been strengthened and the health of the banking system has improved. Banks are well capitalized, nonperforming loans have declined and profits of the sector as a whole remain comfortable. The 2003 Financial Sector Assessment Program (FSAP) found that Jordan's regulatory and supervisory framework was generally strong, but that further reforms were needed to bring the framework into line with international standards. In the meantime, the authorities have implemented many FSAP recommendations, including introducing a prompt corrective action framework and corporate governance/risk management guidelines, and improved off-site surveillance. Parliament is expected to ratify the Anti-Money Laundering/Combating the Financing of Terrorism (AML/CFT) legislation, prepared with World Bank advice.
7. Finally, structural reforms are also progressing well, particularly privatization. Through November 2006, five companies were sold, yielding receipts of US$0.6 billion (4.3 percent of GDP). The most important transaction, Jordan Telecom, yielded US$0.4 billion (more than 3 percent of GDP) with additional receipts expected in 2007. The government has also embarked on a program to improve education, health, and public administration with support from the World Bank and other agencies. Jordan became eligible recently for the Millennium Challenge Corporation's Compact Assistance.
III. Policy Discussions
8. Discussions focused on policies for 2007 and the medium term to address remaining challenges, while maintaining strong growth and macroeconomic stability. In particular, the discussions covered (i) the medium-term external outlook; (ii) the macroeconomic policy mix needed to reduce the current account deficit and further lower the public debt-to-GDP ratio; and (iii) structural policies to support medium-term growth.
A. Medium-Term Outlook and Macroeconomic Policies for 2007
9. The medium-term balance of payments is likely to be sustainable as long as supportive economic policies are in place. Import growth has seen a slowdown, while export growth remains strong. As long as these trends continue, and private capital inflows and grants decline only modestly from peak 2006 levels, the situation will remain manageable. With strong growth and prudent borrowing policies, external debt could be halved in five years from its present level of 52 percent of GDP. In terms of policies, sustained fiscal adjustment, cautious monetary policy, and structural measures should narrow the current account deficit. By 2011, the deficit could fall below 10 percent of GDP, with reserves covering four months of prospective imports.
10. Moving beyond the external sector, the macroeconomic outlook for 2007 and the medium term also appears positive. Inflation should fall to 5 percent next year and then decline gradually to levels closer to those of trading partners. Growth is expected to remain at 6 percent over the medium term, under favorable regional conditions and supportive domestic policies. For next year, growth may be marginally lower on account of slowing housing and equity markets, declining corporate profits, the delayed effects of higher interest rates, continued fiscal adjustment, and labor market constraints.
11. The mission recommends a public debt-to-GDP ratio target of 60 percent in 2011 as a key fiscal anchor. The public debt law's target of 80 percent for 2006 was instrumental in achieving much needed adjustment in the past, and it would be useful to update the law with a new target. Moreover, the authorities should lay out a medium-term path for the primary balance excluding grants in line with reaching this debt target, including as part of the annual budget law. Rationalizing current expenditure and improving public financial management should account for the bulk of fiscal adjustment.
12. Fiscal policy in 2007 should aim to support medium-term debt reduction targets and to help rein in the current account deficit. Although the authorities have indicated that spending needs are high (infrastructure and social spending), there nevertheless appears to be room for improving the primary deficit excluding grants relative to 2006. This could be achieved by containing non-priority current and capital spending growth and raising fuel prices. At the same time, well-targeted cash payments to the poor, through a unified public assistance program, should continue, and a fully automatic and symmetric formula-based fuel price adjustment mechanism should be introduced to insulate pricing decisions from political considerations.
13. In the medium term, keeping primary current spending constant in real terms should be the mainstay of fiscal adjustment. The mission believes that the Jordanian economy is relatively well taxed and that higher tax revenue should come mainly from further strengthening tax administration and broadening the tax base. In the future, consideration could be given to narrowing the list of items subject to the lower GST rate and to limiting GST exemptions. The planned elimination of fuel subsidies should be supplemented by an inflation-indexed specific excise on gasoline, and by applying the full GST to fuel products to generate about 1½-2 percent of GDP in fuel-related revenues. Also, on income tax policy, under discussion by parliament, it will be important to prevent any weakening of the tax regime. The authorities should also ensure that the existing tax base is not undermined by the expansion of free-trade zones. At the same time, tax incentives, including for foreign direct investment should be limited.
14. Reforming the pension system and monitoring municipal finances should also be priorities. In this context, the Social Security Corporation, which currently achieves surpluses in the order of 1½ percent of GDP, needs attention to put its finances on a sustainable footing. Any reform should ensure that early retirement is actuarially fair, benefits are linked to lifetime contributions, and pensions indexed to inflation to prevent an erosion of their real value over time, particularly for poor retirees. Finally, the government should carefully monitor the deficits of the municipalities to ensure that they do not require government bailouts or conflict with overall macroeconomic management.
Monetary policy, budget financing, and financial sector deepening
15. The CBJ continues to conduct prudent monetary policy. The existing interest rate spread with respect to international (U.S.) interest rates has been consistent with a stable dollarization ratio and the increase in international reserves suggests that there are no pressures in the foreign exchange market. As for inflation, the mission believes that most of the increase in recent years has been due to supply shocks (fuel and imported food prices). However, the CBJ should stand ready to tighten monetary policy should inflationary pressures become entrenched.
16. The CBJ should continue to remove excess liquidity through the issuance of CDs. This should help slow domestic credit growth over time, and thus should rein in consumption and imports. It should also help to further strengthen the interbank market by encouraging the banks to lend to each other rather than using the CBJ's overnight deposit window. Increasing the frequency of CD auctions will also help facilitate liquidity management by banks.
17. The CBJ and the ministry of finance (MOF) continue to coordinate closely where needed. In this respect, coordination on debt issuance by both institutions could be further strengthened. The intention to find a lasting solution to CBJ balance sheet weaknesses (on account of past interest-free government loans and bank bailout operations) will further underpin progress. To this end, the government is considering options to retire gradually its debt to the CBJ, including through the issuance of marketable government securities, which the mission supports.
18. Given projected medium-term budget financing needs, fostering domestic debt markets will become increasingly important. Jordan already has a well-functioning primary government debt market. The MOF's intention to extend maturities to 15-20 years would also promote the development of the nonbank financial sector, which is important for mobilizing longer-term savings. The authorities may also wish to explore, using the services of an investment bank, the possibility of issuing long-term JD-denominated bonds on the regional market as an additional means of financing. The authorities are considering issuing Islamic financial instruments for shorter-term budget financing needs, which could also help reduce excess liquidity in Islamic banks.
19. While banking sector indicators are sound, given the rapid expansion of private sector credit, strict monitoring of prudential regulations is a priority. In particular, margin loans and non-collateralized loans to households should continue to be monitored closely, as banks are expanding into unfamiliar markets, and nonperforming loans are recorded typically only with a lag.
20. An FSAP update during the second half of 2007 would be desirable. Since the authorities have implemented many recommendations of the previous FSAP, an objective assessment of their efforts might be helpful at this stage. The update could concentrate on (i) assessing conformity with Basel Core Principles and progress towards the implementation of Basel II; (ii) stress testing the banking system; (iii) assessing payment system improvements; and (iv) discussing Social Security Corporation (SSC) reforms and pension system development.
Exchange rate policy
21. Staff analysis suggests that the value of the Jordanian dinar is appropriate and that the fixed exchange rate regime has served Jordan well. While declining grants and the worsening of the terms-of-trade would have depreciated the equilibrium real exchange rate, higher capital inflows, mainly FDI, has had an offsetting impact on the equilibrium rate. Other indicators, including export volumes and market shares, productivity trends, foreign exchange market conditions, and the growth in international reserves do not, at this time, point to any concerns with the exchange rate. That said, with a fixed exchange rate regime, the authorities are determined to maintain inflation in line with Jordan's trade partners and improve productivity to preserve competitiveness.
B. Other issues
22. Maintaining competitiveness in a broader sense depends crucially on a healthy private sector. There is a need to improve the business environment to promote this sector (the World Bank's latest Doing Business Survey shows slippages in most areas except trade). In this respect, Jordan could simplify the procedures for starting and closing a business, and for registering property; work to improve investor protection; and enhance access to credit information through a Credit Bureau Law. It should also increase labor market flexibility, restrain wage increases in the public sector, and strengthen basic infrastructure.
23. Privatization should continue given its importance in the development of an environment conducive to private sector-led growth. Privatization has increased the efficiency of the economy, supported growth, and has contributed significantly to the large reduction in the net debt ratio.
24. Structural fiscal reforms are critical to supporting medium-term fiscal adjustments. A government financial management information system (GFMIS) is being implemented with the help of outside consultants and should receive priority, as should strengthening budget management. In this context, adopting budget classifications based on the Government Finance Statistics Manual, 2001 (GFSM2001) would help improve the accuracy and analytical value of government statistics. Integrating the autonomous budget agencies into the central government budget would also make the budget a more comprehensive tool for macroeconomic management. Spending out of privatization proceeds, if any, should be shown in the budget to improve its analytical value. Finally, the costs of the planned civil service reform should be factored into the medium-term fiscal framework. The recently updated recommendations of the 2004 World Bank Public Expenditure Review should also be implemented, including (i) providing adequate provisions for recurrent costs, notably the maintenance of the existing road network; and (ii) designing a suitable legal and accounting framework to promote private sector participation (PPP).
25. The ongoing efforts to improve statistics are welcome. The authorities intend to subscribe to the Special Data Dissemination Standard (SDDS) by mid-2007, which could help improve Jordan's credit rating. Efforts are under way to improve CPI, labor market, and national accounts statistics.
26. The Fund stands ready to provide continued technical support where needed, including on tax administration and macro-fiscal management. This should help underpin the ambitious structural reform agenda.
27. The staff welcomes the authorities' intention to continue with Post-Program Monitoring (PPM) and to publish IMF staff reports.
IMF EXTERNAL RELATIONS DEPARTMENT