MALAWI'S BUDGET APPROVED

UNCLAS SECTION 01 OF 02 LILONGWE 000968

SIPDIS

SENSITIVE

STATE FOR AF/S
STATE FOR EB/IFD/ODF
STATE FOR EB/IFD/OMA FRANCES CHISHOLM
TREASURY FOR INTERNATIONAL AFFAIRS AFRICA LUKAS KOHLER

E.O. 12958: N/A
TAGS: ECON EFIN EAID ETRD PREL MI BUD FIN
SUBJECT: MALAWI'S BUDGET APPROVED


This message is sensitive but unclassified--not for Internet
distribution.

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SUMMARY
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1. (U) Malawi's Parliament approved the FY 2004/05 budget on
September 24. During the course of deliberations, Parliament
added MK4.2 billion ($39 million) of additional spending,
principally for HIV/AIDS programs. The deficit would remain
at about MK8.5 billion ($79 million),or 4.3 percent of GDP,
on a budget of MK89.9 billion ($840 million). A number of
likely expenditures are not included in the budget, though
these may be balanced by expected but as yet unbudgeted donor
revenues. If the budget holds as written, Malawi will stay
within the IMF's deficit ceiling, enabling a new IMF program
and linked bilateral aid. The GOM will need both both
discipline and luck to get through the November-March
planting season. End summary.


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MAIN OBJECTIVE: TRANSITION TO STABILITY
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2. (U) In his address to Parliament at the beginning of the
budget session, Finance Minister Goodal Gondwe described the
2004/05 budget as "transitional," on account of the huge debt
inherited from the profligate spending of former president
Bakili Muluzi. This recurrent expenditure will keep the
government from investing enough to drive economic growth.
Government's main ambition for this year, Gondwe said, is to
establish the practices and mindset necessary to effective
fiscal discipline and good economic governance. The goal of
this budget, then, is to achieve a track record. That will
lay the groundwork both for macroeconomic stability (helped
by renewed aid flows) and for the fiscal soundness needed for
development investment in future years.


3. (U) As presented to Parliament, Gondwe's budget would
spend MK85.7 billion ($801 million),or about 40 percent of
GDP, against revenues of MK77.2 billion ($721 million). On
the revenue side, MK52 billion is domestic revenue and MK25
billion is foreign aid/grants. The deficit of MK8.5 billion
($79 million) would stay just at the International Monetary
Fund's (IMF) deficit ceiling of 4.3 percent of GDP.


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PARLIAMENT EXTENDS DEBATE, ADDS SPENDING FOR AIDS
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4. (U) Parliament was reportedly far more engaged in debating
this budget than in any previous year, adding an extra week
to the normal two-week debate period. This is thanks in part
to a budget seminar for members of Parliament just prior to
the session, and in part to the central place the Mutharika
administration has given to fiscal matters. The largest bone
of contention appeared to be whether the GOM should assume
donor revenues, which have been withheld for nonperformance
in previous years. At the end of the session, though, the
budget stands substantially as drafted. The largest
allocations go to the ministries of education (MK10.6
billion),health (MK9.1 billion),and agriculture (MK7
billion). Parliament added MK4.1 billion to the National
AIDS Commission budget, which will be offset by a Global Fund
grant.


5. (SBU) Though the donor community is not enthusiastic about
the size of the deficit, it is mostly satisfied with the
reality of the budget. Gondwe's budget includes all but a
few predictable expenditures--a distinct improvement on the
previous administration's notoriously unrealistic budgeting.
The budget includes allocations for fertilizer subsidies and
grain buys, which have traditionally been treated as
off-budget emergency expenditures. But the GOM is likely to
make a few off-budget expenditures, including an MK800
million rural microfinance facility, expenses for
consolidating the government in Lilongwe, refurbishment of
the chief of state's residence, and a civil service wage
reform package. On the other hand, the budget makes
conservative assumptions on interest rates (and thus on debt
service expenditures) and deliberately leaves off several
likely revenue sources which are politically contentious,
such as higher effective tax rates on reformed government
wages.


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COMMENT: LUCK STILL HAS A PART IN THIS
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6. (SBU) While the final document has not been published, it
appears that the budget is in line with the draft, which was
vetted through the IMF's staff monitoring program. The big
challenge for the Mutharika administration is to stay within
the budgetary limits. We have a couple of reasons to think
Mutharika may succeed at this.


7. (SBU) First, the budget does not appear to be designed to
please donors. There are some hard-to-swallow expenditures,
but we view them as a crucial concession to reality. The
budget avoids most revenue risk and thus has some implicit
upside. For instance, the possibility of new IMF aid
represents a substantial windfall that would allow
accelerated domestic debt retirement and a corresponding cut
in debt service. Second, Mutharika has positioned fiscal
responsibility and economic growth firmly at the front of his
administration's ambitions. He has emphasized this issue
almost to the exclusion of all others, making it virtually
impossible for him to push the issue aside in case of failure
to perform, as his predecessor did time after time.


8. (SBU) But there is still risk in the coming months. The
GOM has to survive the November-March planting season, when
inflation will rise because of food shortages, and foreign
exchange pressure will increase. With slim forex reserves
and excess liquidity in the system, a currency devaluation
and an inflationary spiral are still very real possibilities.
To survive the next six months, the government will have to
be competent, disciplined, and lucky.

GILMOUR