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2000 witnesses significant widening of the current account
deficit
The Central Bank of Malta last week published its Annual
Report for the year 2000. The following is an analysis of economic
and financial developments in Malta and abroad, and a review
of the bank’s policies, operations and activities.
In its review of domestic economic developments, the Report
estimates that the economy grew by around four per cent during
2000. Export-oriented manufacturing, particularly in the electronics
sub-sector, contributed strongly to GDP growth, compensating
for a modest performance in the tourist industry and in the
locally oriented manufacturing and services sectors.
After having remained subdued during the previous four years,
investment grew strongly in 2000. The rate of job creation also
accelerated, particularly in the directly productive sectors.
As a result, unemployment fell to 4.5 per cent, but underlying
inflation continued to decline; however, at around one per cent,
it remained somewhat higher than imported inflation.
The Report then focuses on developments in the balance of payments,
pointing out that the year 2000 witnessed a significant widening
of the current account deficit. This was, however, largely attributable
to a number of exogenous factors, including the hike in international
oil prices, a substantial rise in imports of capital goods,
and a surge in investment income outflows as foreign firms located
in Malta recorded a large increase in profits.
Meanwhile, the surplus on the capital and financial account
contracted in spite of these earnings having been reinvested
in Malta. The main contributing factors were higher portfolio
reinvested outflows and a lower level of inward direct investment
compared to 1999 when inflows were boosted by the sale of Mid-Med
Bank to HSBC Group.
Commenting on the movements of the Maltese lira, the Report
observes that the currency generally appreciated against the
euro and weakened against the US dollar through most of the
year, reflecting the persistent depreciation of the euro against
the US currency. Against sterling, meanwhile, the Maltese lira
was relatively stable.
Turning to fiscal developments the Report notes that the improvement
in public finances during 2000 was greater than anticipated,
with the fiscal deficit being provisionally estimated at Lm95
million, or six per cent of GDP. Furthermore, projections for
2001 show that fiscal consolidation should continue, and that
the government’s objective of bringing the deficit down
to 3-4 per cent of GDP by 2004 is within reach. This, the Report
observes, should dampen pressures on prices and on the balance
of payments.
With regard to monetary and financial developments the Report
says that the annual growth rate of broad money was halved to
around four per cent during 2000. This partly reflected a slower
expansion in domestic credit and in the net foreign assets of
the banking system. However, the slowdown in the growth of deposits
also reflected the growing popularity of collective investment
schemes and foreign portfolio investment, as well as a greater
recourse to the capital market by the private sector to raise
long-term finance.
Synthesising these developments, the Governor observes in his
statement that the year 2000 was characterised by divergent
trends in Malta’s internal and external accounts. On the
one hand, the government’s macroeconomic stabilisation
programme produced positive results and, in spite of the fiscal
tightening and higher oil prices, a steady pace of economic
activity was maintained. On the other hand, developments in
the balance of payments deserved close attention as they clouded
the economy’s medium term prospects, particularly as capital
is increasingly mobile and sensitive to domestic economic conditions.
Concerns regarding the balance of payments invariably lead to
questions about the exchange rate which is a key issue for the
Central Bank as the main operational objective of its monetary
policy is to maintain the exchange rate peg in order to achieve
its ultimate goal of price stability.
In this regard, the Governor rules out both the adoption of
a flexible exchange rate regime, because the associated fluctuations
and uncertainty would be detrimental to a small and open economy
such as Malta’s, and devaluation, because this presupposes
that sufficient slack exists in the economy to meet an eventual
increase in export demand, and that costs – particularly
wages – would not rise in response to higher inflation.
Experience has shown that in a local context the competitive
advantage gained by devaluation tends to be short lived. It
would, moreover, undermine the country’s reputation for
exchange rate stability with existing and potential investors.
A more lasting solution to the balance of payments imbalance,
the Governor concludes, does not therefore lie exclusively in
macroeconomic adjustment, but also in microeconomic reforms
aimed at maximising efficiency in the use of resources. For
this to happen, it is essential that a more investment-friendly
business climate be fostered and that prices be allowed to fully
reflect the production costs of goods and services, and that
the resources employed be rewarded accordingly
In this regard the Governor identifies a number of areas susceptible
to the achievement of efficiency gains. These include: the labour
market, where wages should reflect productivity more closely
and a culture of safeguarding jobs through efficient work practices
should be promoted; the educational system, which should increasingly
provide the skills most in demand in a modern economy; the public
sector, where the excessive absorption of human resources imposes
a tax burden on other sectors; the financial markets, where
uncertainty about Malta’s commitment to EU membership is
adversely affecting inflows of foreign direct investment the
real estate market, where rent controls have contributed to
artificially inflate prices; the provision of public goods and
services by the State free of charge; subsidies to public enterprises;
the payment of contributions from the receipt of benefits; and
monopolistic practices in the markets for goods and services.
The Governor stresses that with the economy’s competitiveness
increasingly under threat, the restructuring process currently
underway needs to be extended across a broader front. For this
purpose he calls for a common effort by all interested parties
to devise ways: to relate the provision of welfare payments
and free medical, social and tertiary education services more
closely to needs, to create a smaller, but more professional
and accountable public service, and to introduce greater competition
into monopoly situations, particularly in key economic sectors.
Turning to the short-term prospects for the Maltese economy,
the Governor quotes Central Bank forecasts which suggest that
the growth rate should rise to four-4.5 per cent in 2001, while
inflation should moderate to 1.5-2 per cent. Growth in domestic
demand should be contained, as the fiscal deficit is to be reined
in further.
On the other hand, the deficit in the external account is expected
to persist, although should narrow as the exceptional factors
observed in 2000 are unlikely to be repeated, while the export
sector should record an improved performance.
The bank’s operations
and activities
In the light of the need to adapt to the rapidly changing environment,
the bank reviewed its core functions and objectives during 2000.
Thus, its revised Mission Statement, which is reproduced in
the Report, emphasises price stability as the primary objective
of monetary policy.
The Bank’s Monetary Policy Council left interest rates
unchanged throughout the year. Consequently the central intervention
rate and the discount rate remained at 4.75 per cent. Meanwhile
the interest rate liberalisation process was completed in April
when the bank removed the last restriction on bank lending rates.
The bank’s net profits during 2000 amounted to Lm26 million,
compared with Lm23 million in 1999.
The Annual Report will be available on the website of the Central
Bank of Malta at www.centralbankmalta.com.
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