Information about Asia and the Pacific Asia y el Pacífico
Journal Issue
Share
Article

IMF Executive Board Concludes Article IV Consultation with The Lao People’s Democratic Republic

Author(s):
International Monetary Fund
Published Date:
August 2011
Share
  • ShareShare
Information about Asia and the Pacific Asia y el Pacífico
Show Summary Details

On July 8, 2011, the Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation with the Lao People’s Democratic Republic.1

Background

The Lao P.D.R. economy performed well in 2010. Growth, estimated at 7.9 percent, was buoyed by ongoing projects in the mining and hydropower sectors, as well as a rebound in garment exports, nonregional tourism, and FDI inflows following the recovery from the global economic crisis. Domestic demand, boosted by still sizable stimulus from fiscal and monetary policy, also supported construction and other sectors.

Inflation, which had been relatively subdued in recent years, rose to 9 percent in April 2011, as the impact of higher international food and fuel prices fed through the economy. Significant capital inflows, associated with the two successful IPOs that inaugurated the new stock exchange and capital brought in by foreign banks, helped gross reserves recover to US$727 million (2.5 months of prospective nonresource imports) at end-2010. However, the core balance of payments—defined as the current account balance net of FDI and ODA—remained in deficit by over 5 percent of GDP.

Fiscal and monetary policy were tightened, but both remained accommodative. The overall fiscal deficit narrowed from 6.9 to 4.8 percent of GDP in FY10 (October 2009 to September 2010). While this represents an impressive fiscal consolidation, the deficit remains substantially larger than the 2¾ percent of GDP annual average recorded during 2006–08. Revenue rose 1.5 percentage points, to 18.6 percent of GDP. The introduction of the VAT in January 2010, along with higher royalties and dividends from the hydropower and mining sectors, more than compensated for the slump in corporate income tax/profit tax related to the low international copper prices in 2009. Spending was reduced by 0.7 percentage points, to 23.4 percent of GDP, driven mostly by a reduction in off-budget capital spending.

The growth of credit to the private sector slowed from 88 percent in 2009 to 44 percent in 2010, as the stock of unmet credit demand from 2005–07, when the state-owned commercial banks were undergoing reorganizations diminished, and the rising system-wide loan-to-deposit ratio became a constraining factor. The Bank of Lao P.D.R. (BoL) also raised its overdraft lending rate by 100 basis points to 5 percent in September 2010. However, net domestic assets of the BoL continued to expand rapidly, as a result of its direct lending activities to local government, net injections of liquidity into the banking system, and an expansion of other assets. This resulted in a significant build up of excess reserves in the banking system.

The outlook for GDP growth in 2011 is favorable but inflation is projected to rise further. Growth is projected to rise to 8.3 percent, supported by a continued expansion in the mining and hydropower sectors, growth of nonresource exports and tourism, and continued strong domestic demand. Construction for the massive Hongsa Lignite thermal power plant project started in the third quarter of 2010 and commercial operations of the Nam Theun II hydropower project started in March 2010. The full-year effect of both projects will add to growth in 2011. Inflation could rise to 10 percent by June. Even with favorable base effects related to last year’s spike in prices of sticky rice, inflation is expected to average almost 9 percent for 2011 as a whole. International oil prices have stabilized in recent weeks and the outlook for the rice harvest is good. However, shocks to food and fuel prices could quickly translate into higher inflation. The external position is projected to strengthen further in 2011.

Lao P.D.R.’s medium-term prospects are promising. A pipeline of large hydropower and mining projects, underpinned by record-high copper and gold prices and rapidly-rising demand for electricity in neighboring countries, is projected to keep growth broadly in line with the annual average growth target of 8 percent in the 7th five-year plan (2011–15). Activity outside of the mining and hydropower sectors is also projected to remain buoyant, although this would need to be supported by continued reforms to strengthen the foundation of the economy and the business climate.

However, the implementation of the 7th five-year plan will need to address a number of challenges. Firstly, ongoing uncertainties in the global economic outlook continue to pose risks. While the outlook for Asia is promising, high oil prices, weak sovereign balance sheets, and continued imbalances in real estate markets could slow the global recovery and have negative spillover effects, both with respect to potential volatility in key commodity prices (copper and gold) and the strength of FDI inflows. Secondly, steps will need to be taken to guard against potential internal risks, notably to macroeconomic and financial stability. Thirdly, achievement of the plan’s economic goals will require an improvement in the efficiency of public investment. Lastly, ongoing reforms to the public financial management will need to be strengthened further—on both the tax and spending side.

Executive Board Assessment

Executive Directors commended the authorities for sound policies that have underpinned remarkable progress on economic development and poverty reduction. Directors emphasized that, in the near term, further fiscal and monetary tightening will be important to curb inflation and support the external position. They also agreed that medium-term economic prospects for Lao P.D.R. hinge on stronger frameworks for macroeconomic and financial policies as well as accelerated structural reforms to diversify the economy, improve the business climate, and foster trade.

Directors underscored the need to keep the non-mining fiscal balance on a consolidation path aimed at reducing the budget’s exposure to volatile mining revenues. This would require sustained efforts to raise non-resource revenue beyond the targets implied by the authorities’ development plan, alongside improvements to public financial management to create space for pro-poor spending. Noting the country’s high risk of debt distress, Directors highlighted the importance of preserving prudent borrowing policies and improving the management of external debt.

Directors welcomed the authorities’ intentions to tighten monetary policy, including by phasing out direct lending by the central bank, and to mop up excess liquidity through additional sales of central bank securities. In this context, consideration could also be given to raising reserve requirements. Directors encouraged the central bank to take additional steps to strengthen the monetary policy framework, including by specifying a numerical inflation objective that would not risk policy pro-cyclicality. They also advised further development of the interbank and treasury bill markets to reinforce the monetary transmission mechanism.

Directors agreed that the stabilized exchange rate regime remains the appropriate monetary anchor. They stressed that a monetary policy tightening is critical to sustain the current level of the exchange rate.

Directors noted that the rapid expansion of the banking sector calls for a strengthening of banking supervision and prudential regulations, building on technical assistance provided by the Asian Development Bank. They considered it a priority to complete the recapitalization of the state-owned commercial banks and improve governance. Directors also saw a need to strengthen the AML/CFT framework based on the recommendations of the Asia Pacific Group.

Directors welcomed the adoption of the Statistics Law and the commitment to improve the quality and availability of macroeconomic data. They encouraged the authorities to avail themselves of the Fund’s technical assistance to address remaining shortcomings in this area.

Public Information Notices (PINs) form part of the IMF’s efforts to promote transparency of the IMF’s views and analysis of economic developments and policies. With the consent of the country (or countries) concerned, PINs are issued after Executive Board discussions of Article IV consultations with member countries, of its surveillance of developments at the regional level, of post-program monitoring, and of ex post assessments of member countries with longer-term program engagements. PINs are also issued after Executive Board discussions of general policy matters, unless otherwise decided by the Executive Board in a particular case.

Lao P.D.R.: Selected Economic and Financial Indicators, 2006–11
20062007200820092010

Est.
2011

Proj.
GDP and prices (percentage change)
Real GDP growth8.67.87.87.67.98.3
CPI (annual average)6.84.57.60.06.08.7
CPI (end year)4.75.63.23.95.89.7
Public finances (in percent of GDP) 1/
Revenue14.515.615.917.118.618.4
Of which: Mining0.91.92.62.11.82.9
Of which: Hydropower1.10.80.70.80.80.8
Of which: Grants2.01.71.62.32.41.9
Expenditure17.418.318.524.123.421.0
Overall balance (including grants) 2/−2.9−2.7−2.6−6.9−4.8−2.6
Nonmining balance−3.7−4.6−5.1−9.0−6.6−5.5
Money and credit (annual percent change) 3/
Reserve money37.258.820.234.748.616.5
Broad money30.138.718.331.239.125.2
Bank credit to the economy 3/−9.121.084.690.746.026.8
Interest rates (end-of-period) 4/
On three-month kip deposits5.55.56.06.05.55.4
On short-term kip loans (1 year)14.011.511.510.014.214.0
Balance of payments
Exports (in millions of U.S. dollars)1,1781,3241,6091,5212,2172,801
In percent change69.212.421.5−5.545.826.3
Imports (in millions of U.S. dollars)1,6022,1582,8372,8933,5824,649
In percent change26.134.731.52.023.829.8
Current account balance (in millions of U.S. dollars)−352−663−982−1,174−1,173−1,530
In percent of GDP−9.9−15.7−18.5−21.0−18.2−19.4
Gross official reserves (in millions of U.S. dollars)336536636633727813
In months of prospective goods and services imports 5/3.03.33.72.62.52.5
External public debt and debt service
External public debt
In millions of U.S. dollars2,3512,5212,9493,1093,4913,682
In percent of GDP63.158.254.055.451.846.7
External public debt service
In percent of exports3.54.04.34.94.54.6
Exchange rate
Official exchange rate (kip per U.S. dollar; end-of-period) 4/9,6559,3418,5148,4838,0428,020
Real effective exchange rate (2000=100) 4/102.8102.8111.5118.1122.3124.5
Memorandum items:
GDP at current market prices
In billions of kip35,98140,46746,21547,56754,19563,446
In millions of U.S. dollars3,5644,2265,3135,5986,4617,891
Sources: Data provided by the Lao P.D.R. authorities; and IMF staff estimates and projections.

Fiscal year basis (October to September).

Includes off-budget investment expenditures.

Excludes debt write-offs. Includes Bank of Lao P.D.R. lending to state-owned enterprises and subnational levels of government.

The figures for 2011 are as of June 2011.

Excludes imports associated with large resource projects.

Sources: Data provided by the Lao P.D.R. authorities; and IMF staff estimates and projections.

Fiscal year basis (October to September).

Includes off-budget investment expenditures.

Excludes debt write-offs. Includes Bank of Lao P.D.R. lending to state-owned enterprises and subnational levels of government.

The figures for 2011 are as of June 2011.

Excludes imports associated with large resource projects.

Under Article IV of the IMF’s Articles of Agreement, the IMF holds bilateral discussions with members, usually every year. A staff team visits the country, collects economic and financial information, and discusses with officials the country’s economic developments and policies. On return to headquarters, the staff prepares a report, which forms the basis for discussion by the Executive Board. At the conclusion of the discussion, the Managing Director, as Chairman of the Board, summarizes the views of Executive Directors, and this summary is transmitted to the country’s authorities. An explanation of any qualifiers used in summings up can be found here: http://www.imf.org/external/np/sec/misc/qualifiers.htm.

Other Resources Citing This Publication