201201 libya - imf concluding statement of the 2012 staff visit

7/29/2019 201201 Libya - IMF Concluding Statement of the 2012 Staff Visit

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Describes the preliminary findings of IMF staff at the conclusion of certainmissions (official staff visits, in most cases to member countries). Missions areundertaken as part of regular (usually annual) consultations underArticle IV ofthe 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 monitoredprograms, and as part of other staff reviews of economic developments.

LibyaConcluding Statement of the 2012Staff VisitJanuary 26, 2012

I. Overview

1. The mission is grateful to the Libyan authorities fortheir hospitality, collaboration and valuable input

during technical and policy discussions. It benefitedgreatly from interactions with government and central bankofficials.

2. While the challenges are daunting, economicactivity could recover quickly when the security

situation normalizes. Restoration of hydrocarbonproduction is well-advanced at over half of pre-revolutionlevels and remains critical to economic recovery; andreconstruction will boost non-hydrocarbon economicactivity. In the short term, the key challenges for the

authorities are to exercise budget discipline and resuscitatethe banking system while maintaining macroeconomicstability. Most of the UN sanctions that froze Libyas foreignassets (a total of 200 percent of 2010 GDP) were lifted onDecember 16, 2011, which will allow the Central Bank ofLibya (CBL) to support the exchange rate. Medium-termissues include rebuilding infrastructure, reorienting theeconomy away from hydrocarbon dependence, and settingup a governance framework that promotes private sectordevelopment, job creation and inclusive growth.

II. Recent Economic Developments

3. GDP is estimated to have contracted by 60 percentin 2011 while consumer prices increased by 14

percent. During the conflict, crude oil production fell froman average of 1.77 million barrels per day in 2010 (2percent of global output) to 22,000 barrels per day in July2011. Non-hydrocarbon economic activity was also affectedby the destruction of infrastructure and productionfacilities, the departure of expatriate workers, disruptionsto banking activity, and limited access to foreign exchange.

Accordingly, hydrocarbon GDP is estimated to havecontracted by 71 percent in 2011, while non-hydrocarbonoutput declined by 50 percent. Inflation picked upsignificantly in 2011, reflecting constraints on imports,

domestic supply limitations, and monetary expansion.1

4. The loss of hydrocarbon income has reduced thecurrent account balance. Ex orts declined from 48.9
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billion in 2010 to $19.2 billion in 2011, while importsdeclined from $24.6 billion to $14.2 billion in the sameperiod due to the lack of access to foreign exchange.Accordingly, the current account balance decreased from asurplus of 21 percent of GDP in 2010 to 4 percent of GDPin 2011.

5. As of end-2011, the Libyan dinar (LYD) wastrading at a 20 percent discount on the parallel

market.2 The value of the LYD fell on the parallel marketin 2011 due to the inability of the CBL to sell foreignexchange because of the lack of access to its foreignassets. As of January 15, 2012, the spread between theofficial and parallel market exchange rates had narrowed to

below 10 percent.3

6. Budget revenue declined sharply due to the fall inhydrocarbon revenues while current expenditure

increased in 2011. Revenue is estimated to have declinedby 69 percent from 57 percent of GDP in 2010 to 39percent of GDP in 2011. In 2010, expenditures on wages,subsidies, and transfers were equivalent to 21 percent of

GDP. The budget for 2011 was reallocated toaccommodate: (i) first-quarter policy changes includingincreased salaries; (ii) the drop in oil revenues; (iii)humanitarian needs; and, (iv) a disruption of most capitalexpenditure. Spending on wages rose by approximately60 percent, driven by a March 2011 public sector wageincrease. The 2011 budget was financed by domesticborrowing of LYD 13.5 billion, revenues from hydrocarbonexports LYD 15.8 billion, as well as estimated arrears ofLYD 6 billion.

7. Despite the removal of UN sanctions on the CBLthe public sectors financial situation remainsprecarious. The bulk of foreign assets was unfrozen onDecember 16, 2011, and the authorities have mostly

regained access.4 As of end-November 2011 around$3 billion had been made available to Libya and furtheramounts were made available toward the end of last year.The government is financing itself by borrowing from the

CBL and drawing down its deposits.5 The counterpart tothis on the CBL balance sheet is money creation, primarilythrough an increase in currency in circulation as well as in

commercial bank balances at the CBL.

8. The money supply increased significantly in 2011due to monetization of the budget deficit. Currency incirculation doubled from LYD 7.5 billion at end-2010 to LYD

15.4 billion at end-2011.6 In response to a shortage ofbanknotesvault cash held by the CBL and commercialbanks is largely exhaustedthe CBL imposed a limit oncash withdrawals by individuals. Demand depositsincreased by 13 percent, linked to forced savings caused bythe limits on cash withdrawals.

9. In 2011, credit to the private sector declined byabout 6 percent, compared to an increase of 14.3

percent in 2010. The change in the stock of credit during

2011 was affected by loan repayments, primarily throughsalary deductions, and limitations on trade financing due toconstraints on access to foreign exchange. Linkagesbetween the financial s stem and the real econom are
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weak, with the ratio of credit to GDP in 2010 less than 20percent. Nevertheless, reduced bank lending to the privatesector is likely to have had an adverse impact on non-hydrocarbon economic activity.

10. Commercial banks had adequate capital buffersbefore the conflict, but the quality of their assets has

deteriorated. Non-performing loans (NPLs) in the bankingsystem were 17.2 percent of total loans at end-2010oneof the highest in the MENA region. Nevertheless, risk-weighted capital adequacy was 17.3 percentwell in

excess of statutory requirementsand provisioning was85 percent. Given the depth and length of the conflict, NPLswill have increased sharply due to economic disruption(which will delay some repayments) and because of adeterioration in asset quality (including physicaldestruction). Some loans may have been made to elementsof the former regime and may be irrecoverable. Moreover,the threat of legal challenges to property seized by theformer regime creates potential risks for the bankingsector, particularly if these properties had been used as

collateral.7 The magnitude of these losses has not been

estimated.

III. Economic Outlook

11. Economic activity is projected to recover in 2012,concurrent with an improvement in the security

situation. The mission prepared a preliminarymacroeconomic framework, which is set out in Table 1.Crude oil production increased from 22,000 barrels per dayin July to an average of 980,000 barrels in December 2011.

Hydrocarbon output, including natural gas, is expected toincrease by over 100 percent in 2012 and reach the pre-conflict level during 2014. Non-hydrocarbon GDP isexpected to recover by 2014, driven mainly byreconstruction. Although consumer prices increasedsignificantly during 2011, consumer price inflation isexpected to ease significantly once imports have resumedand the CBL withdraws money from the system by selling

foreign exchange.8 The external current account surplus in2012 will increase with the restoration of hydrocarbon andnon-hydrocarbon exports.

12. Risks to the outlook include delays in normalizingthe security situation and lower international prices

for oil and gas. Uncertainties in the security environmentwould constrain private sector economic recovery and couldimpede the return of expatriate workers that are needed toalleviate workforce bottlenecks. Intensifying strains in theeuro area and fragilities elsewhere have resulted indeteriorating financial conditions and escalated downsiderisks to global growth. Although hydrocarbon prices remainhigh, the risk of a widespread economic slowdown couldlower petroleum prices and present additional challenges to

Libyas hydrocarbon-dependent economy.

IV. Policy Issues

13. The discussions focused on issues related to shortand medium-term priorities as well as fiscal
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. -addressed as part of the continuing dialogue between theFund staff and the authorities. A key issue will be theestablishment of governance and policy frameworks thatpromote sustainable growth and job creation whilemaintaining macroeconomic stability.

14. The mission encouraged the authorities toestablish a policy framework to set out fiscal and

monetary objectives. These objectives should includemacroeconomic stability and private sector led and

inclusive growth. This framework should integrate theactivities of the Libyan Investment Authority (LIA), whichshould receive and transfer revenues to the budget, andnot undertake public spending on behalf of thegovernment.

15. The mission encouraged the government and theCBL to coordinate fiscal with monetary policy. TheMinistry of Finance should start preparing projections of thein-year profile of cash flows through its accounts at CBL, incoordination with line ministries and the tax and customsdepartments. These projections should be updated during

the year and discussed with the CBLs liquiditymanagement operations.

Exchange Rate and Monetary Policy

16. The mission welcomed the announcement thatthe exchange rate peg to the SDR will be maintained

by the CBL to maintain confidence in the currency and itwill be important to ensure that adequate foreign exchange

is made available to the market.9 The peg has beenassociated with generally low consumer price inflation,

providing a policy anchor and a low degree of exposure toforeign currency risks. Moreover, the peg has helpedunderpin confidence in the currency during the conflict.Looking forward, maintaining the exchange rate peg willhelp ensure rapid macro-financial normalization. This policymust be accompanied by fiscal restraint to prevent fuellinginflation and a damaging appreciation of the real exchangerate.

Banking System

17. The mission noted that the current shortage of

dinar cash in the banking system is linked to the slownormalization of the foreign exchange market. Thelack of access to foreign exchange constrained theoperation of commercial banks, undermined publicconfidence in banks, and prompted the private sector tohold dinar cash outside the banking system. The unfreezingof CBLs foreign assets will allow it to provide foreignexchange liquidity to banks, which should normalize thedemand for dinar banknotes and commercial bankingoperations. The restoration of the non-cash paymentsystem should also help to reduce the demand for cash.

The mission suggested that the authorities considerintroducing an explicit guarantee of deposits, albeit withadequate safeguards to avoid the moral hazard of anindefinite blanket guarantee.

18. The development of Islamic banking needsappropriate institutions and regulatory framework. Inthe short term Islamic bankin activities could be limited
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to Islamic facilities at licensed commercial banks. A draftamendment to the banking law is expected to be preparedby end-January on Islamic banking. The mission offered toassist the authorities with drafting legislation, drawing oninternational experience. It also urged the authorities toproceed cautiously, ensuring that appropriate legislativeand accounting principles are in place, supervisory staff istrained, and Islamic banking products are presented to thepublic in a transparent manner.

19. The mission urged the authorities to develop a

framework for addressing NPLs. For 2012, net credit tothe private sector is expected to be broadly unchanged,with write offs of NPLs offset by a pickup in new credit. ByFebruary, the central bank expects to have information onNPLs as of end-2011. It will be important for the CBL, asbanking supervisor, to verify that the commercial banksobtain as clear a picture as possible of the impact on theirbalance sheets of the recent conflict, and to ensure thatthey have sufficient capital to cover losses and to supportcredit creation during the reconstruction period.

Fiscal Policies and Framework

20. The mission underscored the need to balanceshort-term spending pressures against fiscal

sustainability and prospects for private sector

development. The mission recognized the need to addressurgent needs resulting from the conflict. Wage increasesimplemented by the previous regime will raise the wage billfrom 9 percent of GDP in 2010 to 18.7 percent of GDP in2012. A high level of public sector wages will reduce theincentive for individuals to seek employment in the privatesector and undermine efforts to advance economic

diversification. The envisaged increase in subsidies willraise their cost from 11.7 percent of GDP in 2010 to 15.9percent of GDP in 2012.

21. The mission discussed with the authorities the2012 budget. Revenues are expected to be LYD 55.9billion (57.9 percent of GDP), expenditures to be LYD 62.4billion (64.7 percent of GDP), and the deficit of LYD 6.6billion (6.8 percent of GDP) financed through the issuanceof government bonds and a drawdown in government

deposits at the CBL.10 Although the government can afford

to finance elevated current spending in the short-term, themission cautioned that the level of recurrent spending islikely to be inconsistent with appropriate budgetaryprioritization and fiscal sustainability, and put upwardpressure on the real exchange rate.

22. The mission discussed with the authorities theneed to develop a medium-term budget framework

linked to sustainable fiscal policies. The large increase

in current spending will require medium-term consolidationto provide the needed space for capital and reconstruction

spending while preserving long-term fiscal sustainability.Capital spending, constrained in the short-term by capacityconstraints, will have to be reassessed given urgentreconstruction needs, efficiency considerations and theneed to assess absorptive capacity of the economy.

23. Reforms will be needed to contain the wage billand increase the efficienc of the ublic sector.


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Medium-term measures that have been implementedsuccessfully in other countries include retrenchment ofgovernment employees, decompressing the wage structure,aligning civil service remuneration with the market,monetizing allowances to make compensation moretransparent, introducing performance-based incentives,computerizing payroll and personnel systems, and,strengthening the recruitment system to depoliticizegovernment hiring and professionalize the civil service.

24. The mission noted that subsidy reform over the

medium term should aim to reduce the economicinefficiencies while better protecting low-incomehouseholds. Universal subsidies, particularly fuelsubsidies, are not targeted and disproportionately benefithigher income households. Subsidies affect consumptionand production patterns as well as the allocation ofresources, with negative implications for the budget,expenditure composition, and private sector development.Subsidy reform is usually difficult to implement due to theabsence of a social safety net to shield low-incomehouseholds. If the implementation of a sophisticated social

safety net is not feasible, the government could consider:(i) limiting the speed at which prices of goods primarilyconsumed by low-income are raised; (ii) identifying apackage of short-term measures to mitigate the adverseimpact of price increases on the low-income households;(iii) utilizing some of the savings from subsidy reform toincrease public spending to benefit low-income households;and, (iv) using a range of methods to improve targeting oflow-income households, such as categorical or geographicalapplication or linking benefits to a self-targeting workprogram or schooling requirement. Although such

measures are imperfect, they are more cost-effective inprotecting low-income households than universal subsidies.

Growth Strategy

25. Institutional reforms are necessary to reorientthe economy away from hydrocarbon dependence

and to promote job creation and inclusive growth. Inthe decade prior to the conflict, average non-hydrocarbongrowth was 8 percent. Nevertheless, the economyremained dependent on the hydrocarbons, socialdevelopment and governance indicators remained poor, job

creation for nationals was lackluster, and dependence onexpatriate workers increased. According to the Ministry ofLabor, the unemployment rate was estimated at 26 percentand the conflict is likely to have had an adverse effect onthe labor market. Redressing unemployment will require asubstantial increase in the rate of economic growth. Sinceunemployment is a structural problem, particularly among

youth, it is critical to identify policy measures andstructural reforms that would raise employment elasticityand create jobs. In this connection, diversification fromhydrocarbons is key to promote job creation and inclusivegrowth. Accordingly, it will be important for to enactinstitutional reforms to improve the business environment,deepen the domestic financial system, and clear the pathfor the development of a competitive private sector.

V. Other Issues


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26. The mission discussed the technical assistancestrategy for the CBL and explored options to

implement PFM technical assistance

recommendations. At the CBL, technical assistance couldfocus, inter alia, on rebuilding and continuing

modernization of the CBL.11 Similarly, the Fund offered toprovide assistance to implement PFM recommendationswith resident advisors and experts, funded through adedicated subaccount at the Fund.

27. The mission urged the authorities to unify thecompilation of national statistics under the umbrella

of an independent agency. The mission emphasized theimportance of improving the coverage, quality andtimeliness of statistics and offered to provide technicalassistance in this area.

Table 1. Libya: Selected Economic and Financial Indicators, 200814(Quota = SDR 1,123.7 million)

(Population: 6.42 million, 2009 estimate)

(Per Capita GDP: US$9,100, 2009 estimate)(Main Export: Crude Oil)

est. Projection

2008 2009 2010 2011 2012 2013 2014

(Annual percentage change, unless otherwise indicated)

National income and prices

Real GDP 5.6 0.5 2.9 -60.0 69.7 20.5 6.6

Nonhydrocarbon 7.9 6.0 7.0 -50.0 20.0 15.0 10.0

Hydrocarbon 3.6 -4.6 -1.2 -70.9 163.3 25.2 4.0

Nominal GDP in billions of Libyan dinars 119.8 79.3 102.4 45.7 96.5 116.3 120.1

Nominal GDP in billions of U.S. dollars 98.0 63.3 80.9 37.4 77.7 93.4 96.2

Per capita GDP in thousands of U.S. dollars 15.6 9.9 12.3 5.8 11.8 13.9 14.0

CPI inflation

Period Average 10.4 2.0 2.5 14.1 1.9 -2.3 5.0

End of period 9.8 5.1 3.3 19.2 -10.4 5.0 5.0

(In percent of GDP)

Investment and saving

Gross capital formation 26.5 32.3 33.7 19.0 26.7 26.9 29.7

Public 20.9 24.3 25.8 12.8 20.1 18.2 19.5

Private 5.6 8.0 7.9 6.1 6.6 8.7 10.2

Gross national savings 64.3 47.1 54.5 23.4 37.9 48.3 49.3

Public 52.0 38.1 33.0 -28.8 15.0 23.5 23.5

Private

12.3 9.0 21.5 52.2 22.8 24.8 25.7

Saving-investment balance 37.8 14.8 20.8 4.4 11.2 21.5 19.6

(In percent of GDP)

Central government finances

Revenues, of which: 66.7 61.3 56.9 39.0 57.9 59.8 61.4

Hydrocarbon 60.4 55.6 51.8 34.7 52.4 54.2 55.7

Expenditure and net lending, of which: 37.4 49.7 52.0 81.7 64.7 56.0 59.1

Capital expenditures 22.7 26.4 28.1 13.9 21.8 19.7 21.2

Overall balance 29.3 11.7 4.9 -42.8 -6.8 3.8 2.3

Non-hydrocarbon balance -31.1 -44.0 -46.9 -77.4 -59.2 -50.4 -53.5

Non-hydrocarbon balance in percent of non-

hydrocarbon GDP

-171.6 -146.3 -181.8 -233.0 -304.7 -275.6 -258.7


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(Changes as a percent of beginning of the year money stock)

Money and credit

Money and quasi-money 48.8 22.6 -4.9 25.4 -20.5

Net credit to the government -44.9 9.4 2.7 37.5 10.9

Credit to the economy 5.0 0.5 3.8 -2.8 0.0

(In billions of U.S. dollars; unless otherwise indicated)

Balance of payments

Exports, of which 62.1 37.1 48.9 19.2 46.1 58.2 60.2

Hydrocarbon 60.7 35.7 47.5 18.7 44.6 56.2 58.1

Imports 20.9 22.0 24.6 11.2 29.9 30.6 33.4

Net factor income 0.7 0.6 0.0 -1.3 1.9 2.6 3.3

Net current transfers -1.0 -1.6 -1.8 -0.6 -2.0 -2.5 -3.0

Current account balance 37.1 9.4 16.8 1.7 8.7 20.0 18.8

(As percent of GDP) 37.8 14.8 20.8 4.4 11.2 21.5 19.6

Overall balance 15.7 5.2 4.5 3.0 -24.3 3.5 2.2

(As percent of GDP) 16.0 8.2 5.6 8.1 -31.3 3.8 2.3

Reserves

Total foreign assets (incl. LIA investments) 126.1 138.3 171.7 174.5 174.1 190.7 205.9

Of which: gross official reserves 91.9 100.3 102.5 106.4 82.1 85.6 87.8

In months of next year's imports 40.7 39.2 77.8 33.8 25.5 24.4 23.1

Exchange rate

Official exchange rate (LD/US$, period average) 1.22 1.25 1.27 1.22 1.24 1.25 1.25

Real effective exchange rate (change in percent) 4.6 4.0 -0.6 ... ... ... ...

Crude oil production (millions of barrels per day -

mbd), 1/ of which:

1.88 1.79 1.77 0.51 1.35 1.69 1.76

Exports 1.51 1.40 1.35 0.41 0.94 1.28 1.35

Crude oil price (US$/bbl) 97.0 61.8 79.0 104.2 99.1 95.5 92.1

Sources: Libyan authorities; and Fund staff estimates and projections.

1/ The quarterly profile of crude oil production in 2011 is 1.18 mbd, 0.17 mbd, 0.05 mbd, and 0.79 mbd. Projections for

2012 are 1.11 mbd, 1.13 mbd, 1.14 mbd, and 1.60 mbd, and for 2013 they are 1.66 mbd, 1.69 mbd, 1.71 mbd, and 1.72

mbd in 2013.

1 The collection of data on consumer prices during the conflict was l imited and may underestimate inflation.End-2011 inflation is estimated at 19.2 percent.

2

Since June 14, 2003 the official current exchange rate has been pegged to the SDR.

3 The CBL suggested that the remaining discount on the parallel market rate is partially attributable to theselling of dinar holdings by individuals with close links to the former regime.

4 Foreign assets consist of approximately $140 billion in liquid assets (almost 200 percent of pre-conflict GDP)and roughly $3040 billion in other assets.

5 The government increased its borrowing from the CBL in the first 10 months of 2011 by LYD 9 billion.

6 Currency in circulation was equivalent to approximately $12 billion at end-2011. The CBL issued the equivalentof $2 billion in LYD in newly-printed notes and reissued banknotes that had been withdrawn from circulation, theequivalent of $4 billion. The CBL plans to replace the entire stock of currency in circulation in the coming monthsbeginning with the denomination of the LYD 50 note by mid-March. The CBL expects that some currency held byelements of the former regime will be identified during this process.

7 Starting in the late 1970s, tens of thousands of residential and commercial premises were confiscated by theformer regimeunder Law No 4and were given, sold or rented at below market rates to new occupants.

8 Significant private capital outflows are expected once access to foreign assets is restored.

9 Temporary controls on conversion of large amounts of LYD cash into foreign exchange may be necessary tomitigate the extent to which assets that were obtained illegally, fraudulently, or on the basis of unscrupulousactivity are transferred abroad. These controls should not prevent the authorities from meeting bona fide
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.

10 The mission also highlighted the importance of clarifying current banking arrangements for government cashflows and balances, including the roles and responsibilities of different stakeholders (the Ministry of Finance, theCBL, and the LIA).

11 The mission could provide additional advice, including: (i) supervision issues related to the appropriatebalance between write offs and forbearance on non-performing loans; (ii) AML/CFT issues, including verifyingownership of accounts and the source of deposits; and, (iii) in due course, a possible exchange of banknotes.

IMF EXTERNAL RELATIONS DEPARTMENT

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Fax: 202-623-6220 Phone: 202-623-7100
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201201 libya - imf concluding statement of the 2012 staff visit

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