Review of the national economy for 2009 |31 December 2009

The authorities’ vigorous efforts to implement the economic reform – which was initiated in November 2008 with support from the International Monetary Fund (IMF) through a Stand-By Arrangement – paid off as the economy quickly stabilised, with the impact of structural reforms being felt sooner than anticipated.

A key element of the programme was the liberalisation of the foreign exchange regime, which was accompanied by the complete elimination of exchange controls, and strong fiscal and monetary policy reforms.

The authorities’ success in obtaining Paris Club debt restructuring, along with progress to restructure commercial debt, also helped greatly to realise macro-economic stability.

On the fiscal front, the policies were aimed at improving efficiency in the public service and preparing for a major revamp of the tax system. Structural reforms also focused on improving the efficiency of public institutions.

Overall, the results of the reforms have been positive with inflation and interest rates, as well as exchange rates, coming down sharply after initial overshooting, while on the fiscal front the primary fiscal surplus was higher than expected, which allowed government to repay part of its domestic debt.

While the level of external debt remains high, successful negotiations with external creditors during 2009 have improved the outlook on this front. This includes an agreement reached with Paris Club members in April 2009 to forgo 45% of Seychelles’ debt due to them.

Negotiations on comparable terms with other creditors are on the way, including with private bondholders through a proposed bond exchange offer that was launched in December. An easing in the debt burden will help the country’s external position and solidify the measures being introduced to set the economy on a strong and sustainable growth path.

In the liberalised foreign and money markets, the focus of monetary policy remained price stability. There was a complete revamp of the Central Bank’s monetary policy framework, with liquidity management being done using reserve money targeting as an operational framework and introduction of new market instruments throughout the year.

Indirect, market-based monetary instruments became the main form of open market operations (credit/deposit auctions and repo & reverse repo) as well as new lending facilities (standing credit facility, emergency lending facility).

Moreover, the bank abolished the local asset ratio in August, which was a direct instrument and also gradually reduced the minimum reserve requirement, which stood at 13% at the beginning of the reforms, to 10% in October. These changes have contributed to reductions in lending rates of commercial banks and this is expected to continue in 2010, which would in turn stimulate economic activity.

As mentioned above, at the beginning of the reforms financial prices both for exchange rates and interest rates rose sharply. However, inflation has since come down sharply with most of 2009 recording month-on-month negative inflation. On a year-on-year basis, inflation felt to 0.5% in November compared to 63% in November 2008.

At a more general level, the stabilised external value of the Seychelles rupee in the latter part of the year has helped to stimulate the demand for imports, especially for investment activity.

However, overall demand for imported goods is estimated to have fallen relative to the previous year. This development has improved the country’s current account position from a deficit of 46% in 2008 to 22% of GDP forecast for 2009.

Better than expected tourism outcome

Another contributing factor for the much-improved current account was the outcome under the services account which mirrored a better than expected performance of the tourism sector, the mainstay of Seychelles’ economy.

At the start of the year, visitor arrivals were expected to decline by about 15% on an annual basis amidst the global economic slowdown. However, owing to the collective efforts of all the major players in the industry and partly helped by some improvement in global economic conditions in the second half of the year, this sector’s performance steadily improved as the year unfolded.

By the third week of December, visitor arrivals were down by only 1%. The corresponding total earnings from the sector are projected to amount to US $238 million compared to US $270 million in the previous year. The better than anticipated tourism outcome also contributed to the improvement in total output in the economy, which as a result has led to a scaling down of the expected fall in real GDP, from 11% to 7.5%. 

In terms of inward foreign direct investment, despite the afore-mentioned signs of amelioration in the international environment, it is estimated at US $201 million in 2009, which is a contraction compared to US $366 million in the previous year.

This was due to the fact that a number of approved projects were delayed in view of the impact of the international financial crisis, especially in the early part of the year.  However, from a domestic perspective, confidence appears to have improved relative to 2008 due to the faster than expected macroeconomic stabilisation.

An early boost in economic activity, particularly spearheaded by the private sector, should help with the ongoing transition to increase the role of the private sector and simultaneously reduce the role of the government.

Due to a combination of factors, notably overseas grants, budget support loans, and the Central Bank’s intervention in the foreign exchange market, Seychelles’ holdings of international reserves have grown strongly during 2009.

Gross external reserves should surpass US $190 million by end-2009, while net reserves should end the year at around US $153 million, compared to only US $51 million at end-2008. This would be equivalent to more than 1.5 months of import coverage from a mere 0.6 months at the same time last year.

Going forward, the government has committed itself to a medium-term economic programme, with particular focus on tax and public expenditure reforms, now that macro-economic stability has been restored.

This new three-year programme is also being supported by the IMF through an extended fund facility, which was approved by the IMF’s board of directors in mid-December.

The objective of this programme is to preserve macro-economic stability, achieve external sustainability, improve economic efficiency and durably raise growth by carrying out a second generation of structural reforms.

The programme is also being supported by various other development partners including the World Bank, African Development Bank, European Union and other friendly countries.