Mozambique: Macro-economic Stability and

UNCLAS SECTION 01 OF 02 MAPUTO 001112 SIPDIS SIPDIS E.O. 12958: N/A TAGS: ECON EFIN EAID EINV MZ SUBJECT: Mozambique: Macro-economic Stability and Strong Growth MAPUTO 00001112 001.2 OF 002 ¶1. This report on MozambiqueQs macro-economic situation draws largely from a recent presentation by the IMFQs Resrep in Mozambique. As of September, Mozambique continued on track with core inflation in line with expectations although headline inflation spiked temporarily. Overall annual inflation is now anticipated to be slightly more than 8 percent, which is above expectations, but down from 9.4 percent at the end of 2006. The Bank of Mozambique (BM) reduced both its standing lending facility and the standing deposit rates. Real interest rates for treasury bills dropped nearly five percent between April and the end of August 2007. The foreign exchange market remains stable and calm after the BM fully restored exchange rate flexibility in June 2007. While positive, these indicators belie weaknesses in sustainability, as growth has come largely from mega projects as opposed to being based on growth in small and medium enterprises. Interest Rates Drop -------------- ¶2. The Bank of Mozambique (BM) reduced its standing lending facility (FPC) by 200 basis points to 15.5 percent and the standing deposit facility (FPD) by 250 basis points to 10.5 percent in early June. This came in reaction to a downward adjustment in treasury bill yields and softening inflation. These actions, in conjunction with a recent increase in the twelve-month headline inflation rate, reduced the real interest rate for treasury bills by nearly 5 percent between April and August 2007--from 10.8 percent at the end of April to 5.9 percent at the end of August. Headline Inflation Spikes, Core Inflation Stable, Overall Reduction Expected -------------- --- ¶3. Headline inflation increased and is now expected to remain slightly above eight percent in 2007. If expectations are correct this will be a decrease from 9.4 percent at the end of 2006. Inflation this year reflects a more than twenty percent rise in domestic fuel prices and is tempered by a containment of core (nonfood and other energy) inflation in the five to six percent range. Inflation in June, July and August rose by 0.61 bringing the accumulated inflation (January-August) to 4.5 percent. Bread (0.14 percent),rice and onions (0.08 percent) and live chicken (0.07 percent) were main contributors to AugustQs inflation increase. Foreign Exchange Stable; Transparency and Credibility Enhanced -------------- -------------- ¶4. The Central BankQs auction rate on August 29, 2007 was 26.10 Metical (Mt) per US dollar against 26.15 at the start of the year. In November 2005, the Central Bank introduced bands in both the auction and the foreign exchange interbank (MCI) markets; the Central Bank removed these bands in June, completely restoring exchange rate flexibility. Reaction was minimal and the market remained calm. The real effective exchange rate appreciated, reflecting the depreciating U.S. dollar and increasing foreign inflows. Approval and electronic dissemination of a long-term monetary policy strategy document enhanced transparency and credibility. The creation of a new Monetary Policy Committee has the potential to do the same. Comment: Positive Indicators, yet Sustainability an Issue -------------- -------------- ¶5. While these numbers suggest continued economic growth for Mozambique, there is much discussion within the private sector regarding sustainability. Large scale, mega-projects have brought impressive numbers on paper. However, for Mozambique to continue this growth, and for the growth to bring actual change to the lives of the majority of Mozambicans, there must be a sustainable growth of small to medium size enterprises (SMEs). Private sector representatives argue that a clear economic development strategy and support for the business environment and SMEs are MAPUTO 00001112 002.2 OF 002 absolutely necessary as Mozambique moves forward with SADC integration. To date, this vision has not been forthcoming. Chapman