Ghana: 2007 Budget Highlights

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SIPDIS

SIPDIS
SENSITIVE

Treasury for A. Severins; Dan Peters

E.O. 12958: N/A
TAGS: ECON EFIN GH
SUBJECT: Ghana: 2007 Budget Highlights



1. (U) Summary. The Government of Ghana (GoG) released its 2007
budget on November 16, 2006. The 2007 Budget outlines a target
growth rate of at least 6.5 percent, single digit inflation,
accumulation of internatioal reserves of at least 3 months import
cover, ad an overall budget deficit of 3.2 percent. Themacroeconomic policies, strategies, and targets for2007 are in line
with the framework outined in the Growth and Poverty Reduction
Strategy II (GPRS II). Headline initiatives include the creation of
a Fair Wages Commission to facilitate public sector reform, planned
investment of USD 470 million in energy generating capacity coupled
with a campaign to promote energy efficiency, abolishment of the
National Reconstruction Levy on corporate bodies. The data and
forecasts presented are, unless otherwise indicated, those of the
GoG and may or may not reflect views of outside analysts or Post.
Parliament approved the appropriation for the budget on December 15.
The budget states some figures in cedis and some in dollars. For
ease of reading, cedi figures have been converted to dollars at a
rate of 9200 cedis to the dollar. End Summary

Comment and Analysis
--------------

2. (SBU) The GoG 2007 budget is reasonable, but reaching the
targets outlined could well be undermined by the ongoing energy
crisis and public sector wage increases. The energy crisis is
likely to negatively affect growth as power outages associated with
the load shedding are slated to continue through 2007. In addition,
some of the government's plans for addressing the crisis over the
medium term, in particular the Bui dam, are questionable. The Bui
dam idea has been around for many years and reflects an old design
(the design dates from 1928). The dam raises substantial
environmental, social and feasibility issues, including questions
about its lifespan and ability to deliver the desired power given
that it will draw from the same river as the Akosombo Dam, which is
currently at record low levels.


3. (SBU) While the receipts target is generally achievable, the
expenditure target may be over-run if government is not able to
convince public sector workers to accept the proposed 20 percent
wage increase, which is lower than most are calling for. Government
is in the difficult position of trying to shift wage negotiations
from a simplistic entitlement focus to one based on productivity.
Even with a 20 percent increase, the projected wage/GDP ratio of 9.6
percent is very high and wage increases could result in inflationary
pressure. The projected fiscal deficit is 3.2 percent of GDP.
However, the expected 2006 year-end deficit of 4.9 percent (above
the target for the year and more than double the 2 - 3 percent at
the end of 2005),is worrisome and may be indicative of a loosening
of fiscal constraint not predicted in the budget.


4. (SBU) Government borrowing and Ghana's re-entry into capital
markets bear close watching. The government has already borrowed
USD 20 million for 50th anniversary of Independence celebrations and
another USD 11 million is earmarked in the 2007 budget. The GoG is
sensitive to the need to maintain external debt sustainability but
with the conclusion of the IMF Poverty Reduction and Growth Facility
program, there are no formal constraints currently in place and
there is considerable pressure and temptation to borrow for high
profile infrastructure projects. The recent passage of the Foreign
Exchange Bill by Parliament will allow foreign investors to buy
domestic government securities. It is hoped that this will help
Government's domestic debt management objectives by extending the
yield curve and driving medium term interest rates down against a
backdrop of moderating inflation. In its inaugural five year
domestic bond on December 21, 2006, Ghana borrowed 756.6 billion
cedis (about USD 82 million) at a rate of 14.47%. The majority of
these funds are to be used for domestic debt restructuring including
retiring older more expensive one year notes.


5. (SBU) Ghana's main opposition party, the NDC, has specifically
criticized high government borrowing, which they believe is fueling
corruption and debt and crowding out private investment. The IMF
resrep suggested that the budget was short on "second generation"
reforms in areas of finance, privatization and deregulation that
would lead to a true institutionalization of a market economy. End
comment and analysis.

2006 Economic Performance
--------------

Growth
--------------

6. (U) Real GDP is expected to increase to 6.2 percent, exceeding
projections of 6.0 percent. The largest contribution to growth came
from crops and livestock, accounting for 1.4 percentage points, up
from 0.8 percentage points in 2005. Cocoa contributed 0.4
percentage points. Comment: The data set out in the budget indicate
that water and electricity's contribution to growth more than
doubled in 2006 from 0.3 to 0.7 percentage points. However, experts
have questioned whether the data are accurate. Demand for

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electricity has grown considerably but it is not clear whether
supply actually increased or simply shifted around to meet the most
urgent needs. End comment.

Inflation
--------------

7. (U) At end-November 2006, the 12-month consumer price index
(CPI) inflation was 11.3 percent, and expected to be 11.2
end-December 2006. This is above the target but below the 14.9
percent of 2005. The cedi remained relatively stable, depreciating
by 0.9 percent against the dollar as of the end of September. The
benchmark 91-day Treasury bill rate at the end of September fell
from 14.0 percent at the end of 2005 to about 10.4 percent. Banks'
average lending rate, however, remained high at 27.75 percent, the
same level as September 2005. Note: On December 18, the Bank of
Ghana recently lowered its prime rate by 2% to 12.5%. The effect on
lending rates remains to be seen. End note.

Balance of Payments
--------------


8. (U) The GoG expects to end 2006 with a balance of payments
surplus of USD 178.8 million, compared to the 2005 surplus of USD
84.34 million. Foreign reserves were USD 1,782.7 million, or 3.3
months of imports by the end of September 2006. Note: The Bank of
Ghana reported December 18 that Ghana's foreign reserves surpassed
the USD 2 billion dollar mark for the first time in October 2006
(3.5 months of imports). End note. Debt service savings, through
HIPC and MDRI, is expected to result in USD 500.6 million of debt
relief for the year.


9. (U) According to projections based on data available as of
September 2006, the GoG expects to record a total budget deficit of
around USD 608 million, about USD 394 million higher than the
deficit recorded in 2005. As a share of GDP, the 2006 deficit is
4.9 percent, above the 4.5 percent target and up from an estimated
2.0 percent at the end of 2005 (according to the most recent version
of Ghana's Medium Term Expenditure Framework, 2005-2009). The
fiscal gap was financed with domestic borrowing (20 percent),
foreign loans (49 percent),and debt relief (31 percent). Net
domestic financing of the budget is expected to be about 1.0 percent
of GDP, against the net domestic financing target of 0.2 percent of
GDP. Total revenue and grants rose to about USD 3.5 billion, an
increase of about 15 percent from 2005. Total revenue and grants as
a share of GDP fell slightly to 28.4 percent, from 29.1 percent in

2005. Out of the total revenue and grants, domestic revenue
contributed 78 percent, while grants contributed 22 percent. Total
government expenditure also rose in 2006 by about USD 796 million
(or 24.5 percent) over its 2005 level. As a share of GDP, total
expenditure is 32.4 percent, up from about 31 percent in 2005.
About 29.5 percent of total expenditure was spent on wages and
salaries and 30.5 percent on capital investment.


Forecast for 2007 Economic Performance
--------------

Growth
--------------

10. (U) The GoG is forecasting 6.5 percent real GDP growth in 2007,
again led by agriculture, and a single digit end-of-year CPI
inflation of between 7 and 9 percent. GOG hopes to keep
international reserves at 3 months of import cover.

Budget Deficit
--------------

11. (U) The GoG expects to narrow the budget deficit to 3.2 percent
of GDP, about USD 478 million. The GoG has scheduled 0.4 percent of
GDP net repayment of domestic debt, and will finance the deficit
with foreign loans and HIPC debt relief. The budget forecasts about
USD 408 million in debt relief for the year.

Revenue and Grants
--------------

12. (U) Total revenue and grants is expected to increase
significantly to about USD 5 billion. As a share of GDP, total
revenue and grants is expected to rise about 5 percentage points to
nearly 34 percent. VAT, import duties and funds generated from
government investments and services are expected to grow strongly to
boost domestic revenue. Grants are expected to increase nearly 24
percent to USD 972 million.

Expenditure
--------------

13. (U) Total expenditure is expected to increase in 2007, up 19.4
percent over its 2006 level. All the increase in expenditure is
expected to be spent on salary and wages and transfer payments. The
wage and salary bill is expected to rise 20 percent to USD 1.4
billion, a lower increase than the 33 percent increase in 2006.

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Transfer payments are expected to rise by USD 574 million to about
USD 1.1 billion, mainly due to two accounting factors. First,
exemption from import duties for certain manufacturing inputs
amounting to USD 369 million is being reported for the first time in
the budget as a transfer payment. Second, retention of internally
generated funds by public institutions such as universities is
expected to generate about USD 243 million, hence the high level of
transfer payment.


14. (U) Capital expenditure is expected to fall 21.8 percent
compared to 2006 to just over USD 1 billion. About 92 percent of
the capital expenditure is expected to come from foreign sources
(the budget does not specify whether these will be loans or grants).



15. (U) The education sector will have the highest expenditure
allocation, receiving about 25.5 percent of total expenditure, out
of which about 64 percent will be used for wages and salaries. The
health sector has the second largest budget allocation, receiving
12.7 percent, out of which 38.6 percent will be used on wages and
salaries. On average, about 23 percent of the budgets of government
ministries, agencies, and departments is expected to come from donor
funds. Note: Some ministries are much more heavily reliant on donor
financing than others. For example, the Ministry of Water, Works
and Housing depends on donors for 80 percent of its budget. End
note.

2007 Tax Changes
--------------

16. (U) The National Reconstruction Levy, which was reduced in 2006
from a range of 2.5 to 10 percent to a range of 1.5 to 7.5 percent,
will cease to exist as of January 1, 2007. The National
Reconstruction Levy was introduced in 2001 as a temporary measure to
address the government's critical fiscal position at the time. To
encourage land title registration, fees on land registration will no
longer be based on land value but will be based on flat rates,
irrespective of land value. By March 2007, the government will put
forward a proposal to rationalize the excise tax regime by moving
away from the current ad valorem regime to a specific tax regime.
Final withholding taxes on dividends, management and technical
services, and rent have been reduced. The following reduced rates
will be applicable from 2007: dividends - 8 percent (previously 10
percent); management and technical services - 15 percent (previously
20 percent); and rent - 8 percent (previously 10 percent). The
capital gains tax is being reduced from 10 percent to 5 percent.
VAT Clearance Certificate (VCCs) will now be required by businesses
in activities such as competitive tendering and the clearing of
goods at the port. To encourage domestic industry, GoG intends to
remove VAT and import duties on raw materials and packaging
materials used in manufacturing drugs for treatment of HIV/AIDS,
Tuberculosis and Malaria. The GoG also proposed that all locally
produced pharmaceutical products be zero-rated for VAT to ensure
that locally produced pharmaceuticals compete on the same basis with
their imported substitutes.


17. (U) To compensate for the loss in tax revenue, the GOG will
intensify collection of existing taxes. For example, to encourage
compliance of small and informal businesses, the VAT Service will
implement a flat rate scheme at 3.0 percent of sales value for firms
earning between about USD 21,000 and USD 130,000.

2007 Policy Initiatives & Priority Areas
--------------


18. (U) IMF: The GoG indicates it plans to maintain its
relationship with the IMF through a Policy Support Instrument (PSI).
It believes this will provide confidence to the investor community
and its Development Partners that the GoG will prudently manage its
debt sustainability profile to ensure macro stability while pursuing
needed infrastructure investments, including through borrowing from
international capital markets.


19. (U) ECOWAS: To meet the deadline for reaching agreement on an
ECOWAS Common External Tariff by end-2007, Ghana and the ECOWAS
countries will need to negotiate acceptable tariff levels for the
600 tariff lines for which individual countries have registered
proposed exceptions. Completion of negotiation by the end of the
year will require Ghana to make changes in the current tariff levels
of some imports to conform to the new levels that will be adopted by
the sub-region.


20. (U) Public Sector Reform: The GoG will continue its program of
public sector wage reform by beginning to rationalize public sector
wages and salaries. The public service of Ghana is currently made
up of 650,000 employees of which 350,000 are employed by 110
agencies, department and state-owned enterprises. The public sector
wage bill is currently equal to about 9.5 percent of GDP (i.e.,
about 1 billion). To demonstrate the continued commitment to the
pay reform agenda, government will establish a Fair Wages Commission

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with full time responsibility to administer the new Comprehensive
Pay Structure, maintain its integrity and ensure equity on an
ongoing basis. Measures will also be put in place to improve the
monitoring of payroll expenditures and eliminate the incidence of
ghost workers. To enhance productivity, all public institutions
will be required to install biometric clock-in systems, a measure
being piloted at the Controllers Office.


21. (U) Energy: To address the shortage in power supply and reduce
the load shedding that started at the end of August 2006, the GoG
plans to acquire a 126 MW thermal plant at Tema, relocate the 125 MW
Osagyefo Barge (which has never operated) to Tema in order to access
the nearly-completed West Africa Gas Pipeline and, in collaboration
with other entities, procure an 80 MW power plant to meet emergency
needs. The Osagyefo barge and the 126 MW power plant are expected
to be operational by August 2007. To address long-term supply, a
300 MW thermal power plant will be installed in Tema by 2009 and
financing arrangements for the expansion of the Takoradi
International Company power plant by 110 MW is to be completed to
enable construction to begin in 2007. The GoG is also in
discussions with the Chinese Government regarding funding for the
400MW Bui Dam, currently estimated at US$600.0 million. MDRI
resources are also slated to be used to support the Volta River
Authority (Ghana's energy supplier).


22. (U) Utility Pricing: The GoG will introduce full cost recovery
pricing at all levels for consumption of water and electricity.


23. (U) ICT: The GoG will begin work to extend Voltacom's Fibre
Optic assets of the Volta River Authority into an open access
national communication backbone. It will be financed with a USD 30
million concessionary loan from the Government of China through
China Exim Bank.


24. (U) Privatization: The privatization of Ghana Telecom and
Westel will be completed in 2007 to promote competitiveness in the
telecommunication sector. The GoG also intends to reduce its
interest in GOIL, SIC, and three banks, namely Ghana Commercial
Bank, Agricultural Development Bank, and National Investment Bank by
selling shares on the Stock Exchange.


25. (U) Child labor: The implementation of the Program of Action
on the Elimination of Worst Forms of Child Labor in the Cocoa
Industry will begin in 2007. The program is aimed at preventing the
worst forms of child labor in cocoa production processes in Ghana by

2011. A Human Trafficking Board and a fund for awareness creation
for the Human Trafficking Law will be established.


26. (U) National ID Card: The National Identification Authority
(NIA),established in 2006 will in March 2007 begin mass enrolment
of Ghanaians (resident or living abroad) and all permanent legal
residents. The NIA is required to create a national database,
generate unique identifiers for each individual and subsequently
issue secure national identity cards.


27. (U) New National Passport: The GoG will introduce new national
passports with enhanced security features to meet the required
international standards.


28. (U) MCA: The first phase of the Millennium Challenge Account
project is slated to take off in 2007 with USD 74.8 million for
project-related funding


29. (U) Debt Relief: Ghana estimates it will benefit from about
USD 240 million in HIPC debt relief in 2007. Twenty percent will be
used for domestic debt payments and the rest will be used on poverty
related expenditure. The Multilateral Debt Relief Initiative total
of about USD 174 million will be used to support the funding of the
proposed short-term solution to the energy crisis. The Volta River
Authority will use the MDRI fund to procure gas turbines and a
barge.


30. (U) Trade: The draft Domestic Content Bill which will
encourage companies operating in Ghana to source a greater
percentage of their inputs from Ghana is currently being worked on
so that it will not contradict WTO regulations.


BROWN