July 18, 2001
We would like to thank staff for a comprehensive report on economic developments in Cambodia under the Poverty Reduction and Growth Facility (PRGF) arrangement. Staff has provided a well-balanced assessment of the challenges facing the Cambodian authorities. The authorities would like to express their gratitude to the Fund staff and management, and the Executive Board for their continuous support and policy advice.
The Cambodian authorities have expressed their strong commitment to alleviate poverty as outlined in the Interim Poverty Reduction Strategy Paper (I-PRSP) of October 2000. With the restoration of peace and political stability over the past two years coupled with strong support from donors, the authorities have made significant progress towards sound macroeconomic management to promote sustainable economic growth and development. Cambodia’s economy continued to perform well in 2000 and the first half of 2001 under the PRGF-supported arrangement with the resumption of economic growth, low inflation, relatively stable exchange rate, and improvement in public finances. All quantitative performance criteria for March 2001, and the structural performance criterion for end-June 2001 were observed, with notable progress in banking reforms, fiscal management, and the adoption of a comprehensive Governance Action Plan (GAP). In addition, the National Bank of Cambodia (NBC) has complied with the requirements of the Fund’s Safeguards Assessment.
Recent economic developments
In 2000, real GDP grew by 5 percent, well above the earlier target of 4 percent, despite the adverse impact of severe flooding in the second-half of 2000. Growth was largely supported by continued buoyant activity in the garment manufacturing and tourism sectors, and is expected to reach the target of 6 percent for the whole of 2001. While there was some recent decline in export orders of garment, this would be offset by the increase in tourist arrivals and construction activities. With the financial assistance from external donors, food prices have stabilized and agriculture production is expected to rebound in the second-half of 2001. Inflation in 2000 was minus 0.8 percent; it remains flat by May 2001, and will be well below the program target of 1.8 percent. The current account deficit, excluding official transfers, increased only marginally to 10 percent of GDP in 2000, well below the earlier projection. Strong garment exports and buoyant tourism earnings along with the inflows of concessional assistance helped to moderate the impact of higher oil prices and a small decline in foreign direct investment on the external balance. Gross official reserves rose to $512.5 million by May 2001, with the exchange rate remaining broadly stable throughout 2000 and depreciating only slightly during the first half of 2001.
In 2000, despite the burden of flood relief outlays, fiscal targets were largely met owing to enhanced budget performance with increased revenue collections, improved public expenditure management and the avoidance of financing from the banking sector. The overall deficit, excluding grants, was contained at 5½ percent of GDP, well below the program target, despite marked increase in public investment for flood damage rehabilitation. The current fiscal surplus reached 1½ percent of GDP in 2000, slightly better than the target of 1.3 percent, as revenues were improved and current expenditures contained. For the 2001 program, the government is committed to maintaining the current fiscal surplus at 1½ percent of GDP, but with greater efforts being made to increase expenditures for the social sectors by raising revenues by a half percentage point to 12 percent of GDP and diverting more resources from defense and security outlays.
Structural policies for 2001
The authorities made noticeable progress in its banking reforms to support the country’s socio-economic development. In 2000, after a careful evaluation of their viability, the National Bank of Cambodia (NBC) closed 12 inactive, insolvent and nonviable banks, of which 8 banks declared voluntary liquidation. Their liquidation is being carried out smoothly. Of the remaining 17 banks, only five banks have been re-licensed with no conditions, and 12 potentially viable banks are subject to corrective actions as agreed in Memoranda of Understanding (MOUs). These actions include the injection of more capital and the reduction in large exposures to a single customer or related parties. NBC will make its decision whether to re-license these banks based on their performance at the end of 2001. The progress report for the first quarter of 2001 showed that their performances were broadly on track, except that four of the banks did not meet the requirements for capital injection according to the schedule in their MOUs. The NBC has imposed sanctions against these banks, and is considering the possibility of allowing the stronger banks to merge with or acquire these non-complying banks to avoid jeopardizing public confidence in the banking system.
Marked progress has also been made towards privatizing the Foreign Trade Bank of Cambodia (FTB). To upgrade FTB’s management, an outside director with commercial banking experience was appointed to the Board of Directors. In addition, the NBC is also looking for a qualified manager for FTB to help in its restructuring process. The full re-capitalization of FTB was achieved by end-June 2001 with the issuance of NBC promissory notes amounting to CR 40 billion, raising FTB’s capital to CR 50 billion.
The authorities are cognizant of the need to strengthen Cambodia’s fiscal position to ensure the success of the poverty reduction strategy. During the first quarter of 2001, the budget performance was below the program targets, owing to the delay in implementation of a number of revenue measures that were outlined in the 2001 budget.
To address these issues, the government has stepped up its efforts to focus on the reform of custom and tax administration in line with the recent FAD recommendations. In custom administration, the Steering Committee for pre-shipment inspection (PSI) has been set up to improve the collection of import duties. The anti-smuggling task forces will also help curb pervasive cross-border smuggling activities. With assistance from FAD, the draft of the custom code is expected to be revised and submitted to the government for consideration by the end of 2001. In revenue policy and administration, several additional tax measures have been put in place, including treating diesel sales as final sales for VAT purposes, improving visa fee collection through the introduction of the visa sticker, making additional adjustments to selected excise rates such as on cigarettes, and implementing a 10 percent tax on entertainment services. VAT collections also continue to improve while revenues from Angkor Temple, forestry concessions, and garment quota auctions will be deposited into the treasury account on a regular basis. The collections of arrears from the lease of state assets and telecommunication lines will be strongly enforced. The Large Taxpayers Unit will be created within the Tax Department by end-October 2001 to help improve tax collection.
The government continues to improve public expenditure management in order to support the poverty reduction strategy. More resources will continue to be diverted towards social sectors. Unfortunately, the disbursement of social expenditures as designed in the Priority Action Plan (PAP) has experienced some delay due to limited administrative capacity. However, the government has taken firm actions to redress the deficiencies with the establishment of the Cash Management Unit (CMU). The CMU will be responsible for monitoring the PAP allocation, which will be released at the beginning of each quarter. Meanwhile, the Post Audit team has been made operational to ensure the proper utilization of the PAP allocated funds by the line ministries and local authorities.
Civil service reform and military demobilization
Civil service reforms have been undertaken with a view to strengthening Cambodia’s fiscal position. Over 8,000 irregular cases have been identified and ordered to remove from the payroll following the validation of the census results and completion of the computerization of the civil service payroll. The formulation of a credible civil service reform strategy in consultation with the World Bank and other development partners is in progress, and the strategy is targeted for implementation in the 2002 budget.
Along with the civil service reform, the military demobilization program is also necessary to ensure longer-term sustainability of the fiscal position. Careful steps will be taken to minimize the potentially negative social impact given the current fragile political situation in Cambodia. However, due to a lack of financial resources, the program was delayed. Nevertheless, the authorities remain strongly committed to the implementation of the program and would like to appeal to bilateral donors to ensure the prompt release of their financial assistance. In this regard, the authorities are grateful that at the recent Consultative Group meeting in Tokyo, several donors have pledged their support for the program. The authorities look forward to the approval by the Word Bank’s Executive Board to extend its financial assistance to the program. This, together with the other pledges received will help expedite the implementation of the annual program of demobilizing 15,000 soldiers in 2001 and the remaining 15,000 in 2002.
In the forestry reform program, the government continued to strengthen the Forestry Crime Monitoring Unit (FCMU) and complete the restructuring of forestry concessions. While several small-scale logging crime cases have been identified, they were promptly cracked down by the FCMU. The government has signed a protocol with the independent logging crime-monitoring partner to strengthen the cooperation in their efforts to prevent logging crimes. The draft Forestry Law, which was prepared with broad participation from related government agencies, NGOs and donors, will be soon submitted to the National Assembly after final consideration by the Council of Ministers.
Trade liberalization will be intensified in the context of Cambodia’s application for WTO membership, ASEAN requirements and as part of the development of its trade strategy to support poverty reduction. In April 2001, Cambodia reduced the number of tariff bands from 12 to 4 and lowered the maximum tariff rate from 120 to 35 percent in accordance with the requirements of the ASEAN Free-Trade Agreement (AFTA). With regard to the application for WTO membership, the first meeting of the Working Party was held in May 2001 and the second meeting is expected to take place in January 2002.
Governance and capacity building
The Governance Action Plan (GAP) includes measures to reform the judicial and legal services and the civil administration as well as anti-corruption measures. The adoption of the GAP is a firm step towards improving transparency, stimulating broad participation with all stakeholders, improving public service delivery, facilitating private sector development, and fighting against corruption. In this regard, the openness of the government has progressed rapidly in recent years towards favoring greater public participation in policymaking as reflected in the design of the rural development projects and in the recent policy initiatives such as the PRSP and the GAP itself. To further improve governance, a candidate for the Auditor General of the National Audit Authority has been selected and his name has been submitted to the National Assembly for approval.
Poverty Reduction Strategy Paper
A workshop for the preparation of the full PRSP was conducted in April 2001 with broad participation from domestic stakeholders and donors. The government’s Socio-Economic Development Plan II (SEDP II), the Interim PRSP, and the suggestions of workshop participants will form the basis for the preparation of the full PRSP. The full PRSP was scheduled to be completed by end-2001, but more time may be needed to bring together the participation of all stakeholders and the donor community, and to provide a full costed road map for sustainable socio-economic development.
At the last program review, we informed the Board about the authorities’ moves to resolve outstanding debt issues with the Russian Federation. We are pleased to report that substantial progress has been made. The technical mission of the Russian Federation has discussed with the Cambodian authorities in Phnom Penh in April 2001 and the leaders of the two countries will meet in Moscow, by the end of the year, to agree on a solution. With regard to other debt issues, Cambodia remains committed to discuss with its external creditors under the Paris Club or bilaterally.
While there have been some slippages or delays in Cambodia’s reform program, these are mainly due to resource constraints. The availability of technical assistance in a comprehensive Technical Cooperation Action Plan (TCAP) will help bridge this gap. The Cambodian authorities are committed to use this valuable assistance to develop their human capital in order to make further progress in the implementation of the program.
Cambodia is still in its early stages of economic transformation and it still faces significant challenges ahead. In order to succeed, it will need the continued support of the donor community to help it build a sustainable socio-economic base to fight the deep-rooted poverty that was the result of three decades of internal conflict. In this regard, the authorities would like to reiterate their gratitude to donor countries and institutions that have provided both technical and financial support to Cambodia. While progress so far has been encouraging, the Cambodian authorities recognize that there are still greater challenges ahead. They are therefore fully committed to ensure the successful implementation of the PRGF-supported program with the continued support of the IMF and the World Bank.