IMF ON MADAGASCAR: ECONOMIC OUTLOOK BLEAK, BUT

UNCLAS SECTION 01 OF 03 ANTANANARIVO 000653

SIPDIS

STATE FOR AF/EPS AND AF/E - MBEYZEROV
TREASURY FOR FBOYE
COMMERCE FOR RTELCHIN
PARIS FOR WBAIN
LONDON FOR PLORD

E.O. 12958: N/A
TAGS: ECON MA
SUBJECT: IMF ON MADAGASCAR: ECONOMIC OUTLOOK BLEAK, BUT
GOVERNMENT CAN SUSTAIN ITSELF


1. (SBU) Summary: According to the IMF resident
representative in Madagascar, GDP growth for 2009 is likely
to fall between negative 0.5 and negative 1 percent. Because
of the transition government's prudent fiscal policy and
declining world prices, inflation remains under control. The
exchange rate also has remained fairly stable during the past
six months, and the banking sector remains sound. For the
first eight months of 2009, total fiscal revenues reached 74
percent of target levels. The government has continued to
pay wages and debt service, but has drastically cut
investment spending. As a result of this fiscal austerity,
the overall deficit is low. Although pressure will mount on
public finances due to the global recession and the need to
increase social spending, the government can continue to
sustain its basic operations for the foreseeable future.
However, the compounded effects of poor agricultural
policies, a negative investment climate, the potential loss
of AGOA trade benefits, and limited public investment paint a
far bleaker economic picture for 2010. End summary.

GDP Growth Projections Slightly Negative
--------------

2. (SBU) The American Chamber of Commerce in Madagascar
(Amcham) featured guest speaker Pierre van den Boogaerde, the
resident representative of the International Monetary Fund
(IMF),at its monthly member breakfast Sept 10. He explained
that Madagascar's poverty reduction and growth facility
(PRGF) with the IMF had expired in July 2007, without being
completed. Although the IMF has ceased all formal engagement
with the transition authorities, it continues to provide
advice at the working level to contacts at the central bank
and finance ministry. According to van den Boogaerde, GDP
growth for 2009 is likely to range from negative 0.5 to
negative 1 percent. Although the industrial sector has been
hard hit by the combined international financial and local
political crises, it makes up a fairly small portion of the
overall Malagasy economy, approximately 12 percent. Large
negatives in the secondary sector have been offset by strong
growth in the primary sector (especially mining),which makes
up 30 percent of GDP. The agricultural sector performed well
this year due to benign weather conditions and incentives
provided by the former government last year in the form of
price guarantees, fertilizer, and seeds to plant
counter-season rice. Furthermore, although the secondary
sector overall has performed poorly this year, certain
segments, particularly telecommunications, pharmaceuticals,
and the brewery, have done well. The services sector has
been impacted mainly by a move of workers from the formal to
the informal sector, evinced by a growth in second hand
clothing imports and street vendors. Before the political
crisis, Madagascar was poised to be among the eight
fastest-growing economies of the world in 2009, with 7
percent growth. Van den Boogaerde suggested that substantial
growth was possible in the rice, cotton, cacao, vanilla, and
lima beans (pois du cap) sectors if the proper policies were
applied.

Low Inflation
--------------

3. (SBU) Because of the transition government's prudent
fiscal policy and declining world prices, inflation has been
contained. Year on year, inflation was 8.2 percent in July
and could be lower in August. Since March, prices have
fallen month to month, but are expected to rise toward the
end of 2009. This trend is partially due to tight fiscal
policy, but also to a worldwide trend of lower fuel and food
prices this year, compared with the same period in 2008.

Exchange Rate Stabilized, but Overvalued
--------------

4. (SBU) The exchange rate has remained fairly stable during
the past six months, despite the crisis, although according
to van den Boogaerde, it remains overvalued by around 30
percent, reducing the competitiveness of Malagasy exports.
He asserted that a competitive rate was in place from 2004 -
2005, which was driven up by a huge shock of foreign direct
investment in mining in 2006 - 2008. Although the value of
the real exchange rate has fallen somewhat since the last
quarter of 2008, it has not reached its 2005 level.

ANTANANARI 00000653 002 OF 003



Banking Sector Stable
--------------

5. (SBU) Van den Boogaerde lauded the performance of the
central bank during the political crisis, noting that the
interbank currency market did not break down even one day and
the normal flow of currency circulation (60 billion ariary,
equivalent to USD 31 million) was never interrupted.
Although the central bank did intervene slightly during the
second and third quarters by selling foreign currency and
buying ariary to maintain its value, overall, the bank has
applied a prudent monetary policy (and is now purchasing
foreign currency) he said. The level of official foreign
reserves remains adequate, according to van den Boogaerde.
The main problem with the banking sector now is that
commercial banks are reluctant to lend and thus have excess
liquidity. The rate of credit expansion, particularly for
trade credits, is low. Some banks that lent heavily to the
ousted president's company, Tiko group, have been impacted by
non-performing loans, as the company has been looted,
including of the rice and oil that guaranteed those loans.

Low Government Deficit
--------------

6. (SBU) For the first eight months of 2009, total fiscal
revenues reached 74 percent of target levels, with tax
revenues at 84 percent and customs revenues at 62 percent of
target levels. Customs revenues are down because imports
have declined by around 30 percent compared with the previous
year. Although exports are also down by 18 percent, the
current account balance is improving due to the larger
reduction in imports. The government has continued to pay
wages, debt service, and some value added tax reimbursements,
but has drastically cut investment spending. Public
expenditures had reached only 30 percent of the original
budgeted amount as of September 4, with 56 percent spent on
administrative costs (including buying 4-by-4 vehicles for
mutinous military officers, joked van den Boogaerde),26
percent on infrastructure, and only 17 percent on social
costs, leaving hospitals without proper support such as
access to HIV drugs. As a result of this fiscal austerity,
the overall deficit is low. The government has not increased
borrowing; as a result treasury bill rates had declined to an
average of 5.05 percent as of September 4.

The Government Can Sustain Itself
--------------

7. (SBU) Van den Boogaerde explained that, although pressure
will mount on the public finances due to the recession and
the need to increase social spending, including to support
the reopening of schools in late September int he face of
reduced donor funding, the government can continue to sustain
its basic operations indefinitely. Average monthly fiscal
revenue reached 143 billion ariary (USD 74.4 million) during
the first eight months of 2009. According to van den
Boogaerde, the government needs approximately 40 billion
ariary (USD 20.8 million) to cover wages and 20 billion
ariary (USD 10.4 million) to pay foreign debt per month.
Even accounting for the fact that the government typically
takes in two-thirds of its revenue during the first half of
the year and only one-third during the latter half, it should
still be able to sustain basic operations for the foreseeable
future.

Negative Outlook
--------------

8. (SBU) Although the government can continue limping along,
the compounded effects of poor agricultural policies under
the new government, a negative investment climate, the
potential loss of AGOA trade benefits, and limited public
investment are likely to make 2010 a much more difficult year
than 2009. The low price of rice set by the government to
benefit urban consumers, equivalent to the price in 1984,
along with the lack of incentives such as improved seeds and
fertilizer, have deterred farmers from planting for the next
harvest. Many will produce for their families but not much
more. This phenomenon could cause rice shortages by
September 2010. The government's intervention in the vanilla
market also threatens to harm one of the country's main

ANTANANARI 00000653 003 OF 003


export sectors. The political crisis, combined with an
increase in lawlessness, corruption, and a stifling of
competition by wealthy private interests, have tarnished the
investment climate. The potential loss of AGOA benefits
threatens the livelihood of some 100,000 people employed in
the garment sector (whose wages feed at least 500,000 urban
Malagasy). Although contributing only marginally to GDP,
this activity adds significantly to social stability and is
of high political import. Fiscal revenues are likely to be
about one-third lower in 2010 than in 2009, due to the freeze
of donor funding and the lack of new investment projects in
the pipeline; thus, the government will be forced to maintain
fiscal austerity (or follow the Zimbabwe hyperinflation
model).
MARQUARDT