National Workshop on Capacity-building for External Debt Management

1. National Workshop on Capacity-building for External Debt Management Conclusion and RecommendationsCambodia February 2006

2. Summary Status • Sustainable level of external debt (at present favourable external debt ratio, low share of short term debt and high share of concessional debt) given appropriate macro and financial policies are in place • Down side risks remain-low revenue/GDP ratio and thus pressure on the budget • Lack of a proper mechanism to monitor and manage debt is a concern

3. Particular focus on three areas • Macroeconomic performance • Institutional development • External debt management

4. Macroeconomic performance • Area of concern • Growth performance is not steady. GDP growth declined from 5.7 per cent in 2001 to 4.3 per cent in 2004 although it is expected to increase to 6 per cent in 2005. • The difficulty in achieving broad based growth. • Policy recommendation • Improve investment climate, • Diversify the economy, • reduce cost of doing business and increase productivity for private sector development, • increase access to land, human capital development, • Physical infrastructure development, • develop good governance

5. Macroeconomic performance cont: • Area of concern • Poor public finance. Budget deficit declined from 6.6 per cent in 2002 to 5.5 per cent in 2005 but still remained high. • Revenue/GDP ratio is low at 12 per cent in 2005. • Policy recommendation • Achieving sound fiscal and monetary policy should be recognized as a necessary condition for realizing sound public debt management. • The fiscal policy needs to be strengthened to absorb foreign aid • Tax reforms-tax policy reforms should be linked to fiscal objectives, • Improve tax administration (broadening the tax base) • The government may consider a pooling system so that funds are utilized gradually and efficiently by taking into account the absorptive capacity of the country • The fiscal policy could be performed more flexibly in accordance with the types of aid (i.e. temporary versus permanent) • Introduce VAT, rationalize public expenditure, improve public expenditure management • Improve budgetary management, including through improved accountability and transparency of financial management

6. Macroeconomic performance cont: • Area of concern • High dependency on • Exports of garments and wood products and the vulnerabilities to external shocks and the slow response to policy changes • Policy recommendation • Diversify the exports sector • Continue reforms to enable the private sector to thrive

7. Macroeconomic performance cont: • Area of concern • Trade balance is deteriorating and the current account deficit is rising (from 1.5 per cent of GDP in 2002 to 4.9 per cent in 2005). • Policy recommendation • The trade balance should be improved to a significant degree in order to reduce external vulnerability. • The efforts toward an open trade regime should be pursued together with a consideration of an appropriate exchange rate regime. • The impact of foreign aid on the export sector should be closely monitored. • Trade facilitation and rationalizing all agencies involved to reduce high costs

8. Macroeconomic performance cont: • Area of concern • Current account balance in 2005 was high at -10.3 per cent of GDP • Nearly the entire current account deficit was attributable to the increased trade deficit • Policy recommendation • The deteriorating current account balance, mainly caused by poor macroeconomic performance needs to be arrested. Broadening the base of economic growth driven by private investment and trade. • Remove impediments to the private sector development through human resource development; • Improve the quality of governance, • Reduce regulatory burden

9. Macroeconomic performance cont: • Area of concern • Given a flexible exchange rate regime, exchange rate volatility is one area of concerns • Policy recommendation • The flexible exchange rate regime helps cushion the external and domestic shocks, but need to manage properly • Foreign reserves could be increased to more comfortable levels over the medium term. • The indicators of foreign reserve adequacy should be used regularly and actively.

10. Institutional Development • Area of concern • Government apparatus is weak and overloaded reflecting the negative effects of the war. Institutional mechanism is yet to be in full gear to facilitate growth and development • Policy recommendation • Institutional reforms to make the public sector more efficient and the private entrepreneurship emerges and thrive • legislative and regulatory mechanisms. • court system and legal environment for market competition

11. Institutional Development • Area of concern • A dollarized economic system has both advantages and disadvantages • It deprives the country to make use of domestic monetary and fiscal policies for the country’s development • Policy recommendation • Need to have a long term mechanism to give the local currency a larger role in the economy • For this steps are needed to build the public confidence on the local currency as a store of value and a medium of exchange (could start by making all public transactions in local currency)

12. Institutional Development Cont: • Area of concern • Slow financial sector development despite reform efforts. Legal and institutional reforms are inadequate. • Policy recommendation • Achieving a sound banking and financial system • Further progress made in the regulation and supervision • NPL of banks should be reduced further • The active use of global standards for capital adequacy requirements, accounting, auditing, disclosure, along with the strengthening of prudential supervision and regulations • Legal frameworks to enforce financial contracts

13. Institutional Development Cont: • Area of concern • Weak bond market • Policy recommendation • Domestic bond market development • Developing domestic bond markets should be regarded as a medium- to long-term goal, and thus, improving the soundness of the financial sector should be given the highest priority • Private firms should be able to regularly issue corporate bonds at relatively low costs • There is limited demand for long-term bonds, since (mostly risk-averse) individual investors tend to hold their assets in the form of liquid, safe bank deposits. There are few institutional investors in the country in the presence of low financial asset accumulation and low per capita income level.

14. Institutional Development Cont: • Area of concern • The absence of a proper mechanism to monitor and manage debt could have implications on governance and debt sustainability • Policy recommendation • Establish urgently • an institutional framework (DMFAS or similar arrangement) to record and manage debt • Debt management strategy • Risk management framework

15. Institutional Development Cont: • Area of concern • In the absence of a proper framework, monitoring appears to be weak • Policy recommendation • Put in place • well articulated clearly defined role of responsibilities for staff • Clear monitoring and control policies • Reporting arrangements • Assess debt sustainability regularly and take corrective measures I terms of macroeconomic policies and changes to the borrowing policy

16. External Debt Management • Area of concern • Debt rescheduling may reduce amortization payments, but it could increase interest obligations. • As a result budgetary pressures could be high, particularly in view of the low revenue/GDP ratio. • Policy recommendation • Negotiations are taking place for rescheduling the country’s pre-1993 debt obligations with Russia and the United States. • If debt rescheduling goes ahead as intended, Cambodia’s medium term debt stock is sustainable, particularly in view of the high concessionality of the debt stock. • Therefore, Cambodia needs to pursue a strong debt management strategy and avoid non-concessional borrowing

17. External Debt Management Cont: • Area of concern • Even after rescheduling NPV of public debt would be still high at 230 per cent of total revenue as revenue ratios are low. • Debt servicing could be under strain and could have negative implications on the country’s investor perception and the development process • Policy recommendation • Anticorruption rules and regulation and increase transparency in both public and private sector • Take measures to increase revenue thereby reducing the pressure on the budget

18. External Debt Management Cont: • Area of concern • Increasing debt/GNI from 75% in 1999 to 77% in 2003 • Policy recommendation • Improve public expenditure management, in particular lending to SOEs and government guarantees, thereby contain the growth in debt

19. External Debt Management cont: • Area of concern • Debt mostly in dollars and rubles • Policy recommendation • The importance of • public debt composition in terms of currency (both domestic and foreign debt) and • interest rates (domestic debt), as well as • the amount of unfunded contingent liabilities • Management of foreign assets taking into account currency composition of debt

20. External Debt Management cont: • Area of concern • Coordination between institutions involved is lacking • Policy recommendation • Need to have a good coordination between the fiscal and monetary policy advisers and the debt management function

21. Thank you